Project - Financial Statement Analysis

FINANCIAL STATEMENT ANALYSIS FINAL PROJECT

TOPIC:

FINANCIALRATIO ANALYSIS OF

SUBMITTED

TO:

SUBMITTED

BY:

MR. DENIM (PVT.)

LTD.

MR. UMAR SAFDAR KAYANI

WAQAS SHABBIR SP08-MBA-

098

ZOHAIB AFTAB SP08-MBA100

SUBMISSION DATE:

MAY29, 2009

SECTION

“B” 1

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

RATIO ANALYSIS Financial ratios are useful indicators of a firm's performance and financial situation. Most ratios can be calculated from information provided by the financial statements. Financial ratios can be used to analyze trends and to compare the firm's financials to those of other firms. In some cases, ratio analysis can predict future bankruptcy. Financial ratios can be classified according to the information they provide. The following types of ratios frequently are used: LIQUIDITY RATIOS Current Ratio

Current Assets/Current Liabilities

Quick Ratio

Quick Assets/Current Liabilities

Absolute Quick Ratio

Cash/Current Liabilities

Net Working Capital Ratio

Current Assets-Current Liabilities

Defensive Interval

Cash/One Year Projected Expenditure

ACTIVITY RATIOS Inventory Turn Over

Cost of Good Sold/Inventory

Inventory Turn Over In

360*Inventory/Cost of Good Sold 2

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Days Debtor Turnover

Sales/Trade Debtor

Collection Period

360*Receivable/Sale

Working Capital Turnover

Sales/Working Capital

Fixed Asset Turnover

Sales/Fixed Assets

Total Asset Turnover

Sales/Total Assets

Payment Period

360*Creditor/Purchase

Operating Cycle

Inventory Turn Over in Days + Receivable Turn Over in Days

SOLVENCY RATIOS Times Interest Earned

EBIT/Interest

Debt Ratio

Total Debts/Total Assets

Equity Ratio

Equity/Total Assets

Debt to Equity

Long term debts/Equity

Debt To tangible net worth

Total Debts/(Equity-Intangible Assets)

PROFITABILITY RATIOS Net Profit Ratio

Net Profit/Sale

Operating Profit Ratio

Operating Profit/Sales 3

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Gross Profit Ratio

Gross Profit/Sale

Operating Ratio

Operating Expense/Sale

Return on Total Assets

Net Profit/Total Assets

Return on Equity

Net Profit/Equity

Return on Fixed Assets

Net Profit/Fixed Assets

Return on Investment

Net Profit/Total Assets-Investments-Deferred Cost

MARKET ANALYSIS Degree of Financial Leverage

EBIT/EBT

Price Earning Ratio

Market Price per share/Earning Per share

Earning Per Share

Net Profit/Number of Share issued

Book Value Per Share

Total Equity/Number of Share issued

Dividend Yield Ratio

Dividend Per Share/Market Value Per Share

Dividend Payout Ratio

Dividend Per Share/Earning Per Share

Diluted Earning Per Share

Stock Dividend Per Share/Diluted Earning Per Share

Percentage of Retained Earnings

(Total Income-Dividend)/Total Income

4

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

LIQUIDITY RATIOS Liquidity ratios provide information about a firm's ability to meet its short-term financial obligations. They are of particular interest to those extending short-term credit to the firm. Two frequently used liquidity ratios are the current ratio (or working capital ratio) and the quick ratio. Items Required in Liquidity Ratio:  Current Assets  Current Liabilities  Inventory  Cash  Marketable Securities

CURRENT RATIO

Current Ratio =

Current Assets Current Liabilities

QUICK RATIO

Quick Ratio =

Current Assets - Inventory Current Liabilities

CASH RATIO/ ABSOLUTE LIQUID RATIO

5

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Cash Ratio =

Cash + Marketable Securities Current Liabilities

WORKING CAPITAL RATIO

Net Working capital Ratio=Working Capital/Total Assets

LIQUDITY ANALYSIS RATIOS

YEARS

CURRENT RATIO

2007 1.12

RESULTS REASON OF CHANGE 2006 1.03

Favorable

Increase in Book Debts, A/R and

QUICK RATIO

0.86

0.68

Favorable

Cash. Increase in Book Debts, A/R and

ABSOLUTE RATIO WORKING CAPITAL NEW WORKING

0.05 76,852,450 0.067

0.012 Favorable 12,523,260 Favorable

Cash. Increase in Cash Increase in

0.01367

current assets Increase in

Favorable

CAPITAL RATIO

working capital by 513.67 %.

INTERPRETATION OF LIQUIDITY RATIOS

6

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

After the Liquidity Ratio Analysis of MR. Denim I considered the liquidity of Denim is improved as compare to its previous year and it gives favorable results. Short-term creditors prefer a high current ratio since it reduces their risk because less the current liabilities and higher the current ratio which means less the accounts payables and short term liabilities hence short term creditors will be paid soon. Liquidity analysis of MR. Denim shows positive results. The contribution of highly liquid assets is very much encouraging because increase in cash is 422.5%. Increase in cash will also helpful for the company to maintain the business operations effectively by paying the supplier in time and get benefits of discounts. It will also enhance the credibility of the company, which further helpful for the suppliers and customer’s attraction Inventories are decreased by 2.05%. Decrease in inventory means there are less produced goods for satisfying the customers, which ultimately cause of decrease in sales of company. Account Receivables and Book Debts are increased by 48% and 78 %, which means the net sales of the company this year is increased because of that cash in hand, is increased 422.5 % compared to last year. One drawback of the current ratio is that it includes inventory is difficult to liquidate quickly and that have uncertain liquidation values. The quick ratio is an alternative measure of liquidity that does not include inventory in the current assets. Finally, the cash/Absolute Liquid ratio is the most conservative liquidity ratio and the cash ratio of MR. Denim is improved very much as compared to base year. The reason is sufficient increase in cash in 7

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

hand. This healthy increase in ratio result will assure that MR. Denim can be paid its suppliers any time if needed urgently. Working Capital of MR. Denim is also increased by 513.67 % as compare to base year, which is also a good sign, and show that company has enough capital to maintain its business operations. This will also produce the credibility among suppliers and customers of the company. Overall Company has a good strong current asset ratio and also maintained quick ratio along with the healthy working capital so liquidity of MR. Denim (PVT) Limited is in better position.

ACTIVITY RATIOS Activity ratios indicate of how efficiently the firm utilizes its assets. They sometimes are referred to as efficiency ratios, asset utilization ratios, or asset management ratios.

Items Required in Activity Ratios:  Annual Sales  Purchases  Accounts Receivable  Accounts Payable  Net Fixed Assets  Total Assets

ACCOUNT RECEIVABLES TURNOVER 8

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Receivables Turnover

=

Annual Credit Sales Accounts Receivable

AVERAGE COLLECTION PERIOD

Average Collection Period =

360 Accounts Receivable Turnover

ACCOUNT PAYABLE TURNOVER

Account Payables Turnover

=

Purchases Accounts Payables

AVERAGE PAYMENT PERIOD

Average Payment Period =

360 Accounts Payable Turnover

FIXED ASSET TURNOVER

Fixed Asset Turnover =

Sale Net Fixed Asset

TOTAL ASSET TURNOVER 9

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Total Asset Turnover

=

Sale Total Assets

ACTIVITY ANALYSIS RATIOS

YEARS

RESULTS

REASON

OF

CHANGE

2007

2006

INVENTORY

6.20

4.68

TURNOVER

Times

Times

Inventory more as compare to CGS Decrease

Favorable

in

INVENTORY

58

77

TURNOVER IN DAYS

Days

Days

Inventory more as

6.03

compare to CGS Increase in sales by

DOBTORS

4.32

TURNOVER COLLECTION

84

58

PERIOD CREDITORS

Days 32

Days 20.03

TURNOVER PAYMENT PERIOD FIXED

11

Days ASSETS 2.58

TURNOVER TOTAL ASSETS 0.90

Unfavorable

27.10% Unfavorable Increase in sales by Favorable

18

Favorable

by 20.82. Creditors decreased

Days 2.18

Favorable

by 20.82. Increase in

Favorable

Assets by 4.02% Increase in Total

Unfavorable

Assets by 24.41%. Working capital

TURNOVER WORKING CAPITAL 13.43

65

TURNOVER RATIO

Times

Fixed

increased

by

513.67% 10

COMSATS INSTITUTE

OF

in

27.10% Creditors decreased

0.88

Times

Favorable

Decrease

INFORMATION

TECHNOLOGY

OPERATING CYCLE

142

135

Days

Days

Unfavorable

High

average

collection period.

INTERPRETATION OF ACTIVITY RATIOS

Activity ratios are also known as efficiency or turnover ratios, measure how effectively and efficiently the firm is utilizing its assets. Activity ratios are also known as management ratios. Some of the aspects of activity analysis are closely related to liquidity analysis.

In this

session we will primarily focus on how effectively the firm is managing two specific groups receivables and inventories and its total assets in general. Management of MR. Denim Limited is very efficient to operate its fixed assets and overall efficiency of management has gone better as compared with base year. Total assets, current assets, fixed assets; working capital and cash all are increased with decent percentage, which gives the proof of efficient management. Overall management has been very successful in deploying its resources for the best of company, which will definitely contribute to higher profits for company. Also management is very much efficient to pay its payables because average collection period is higher than average payment periods which mean management can use idle funds. Higher collection period shows too liberal and inefficient credit collection performance and a lower payment period shows in time payments to various stakeholders and 11

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

built repute about the company among its stakeholders. Less inventory period will also helpful for the company to increase its sales volume.

SOLVENCY RATIOS The solvency ratios measure business risk, which shows the ability if the business to pay its long term debts. Investors are very interested in these ratios because they indicate the amount of debt your company can handle. They also indicate the amount of investment you have in your company Items Required in Solvency Ratio:  EBIT  Interest Expense  Total Debts  Total Assets  Net Profit  Equity

TIMES INTEREST EARNED

Times Interest Earned =

EBIT Interest Expense

DEBT RATIO

12

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Debt Ratio =

Total Debts Total Assets

EQUITY RATIO

Equity Ratio =

Equity Total Assets

DEBT TO EQUITY RATIO

Debt to Equity Ratio =

Total Debt Equity

SOLVENCY ANALYSIS RATIOS

YEARS

RESULTS

REASON

OF

CHANGE 2007 INTEREST 1.61

TIME

EARNED DEBT RATIO

0.626

PROPERITY/EQUITY

2006 1.01

Favorable

Increase

in

profit

0.636

Favorable

margin Increase

in

total

37.35% 36.1% Favorable

assets by 24.41 % Increase in equity

RATIO

by 28.7% & Total

DEBT

Assets by 24.41% Increase in Equity

TO

EQUITY 1.678

1.76

Favorable

RATIO

by 28.7%

INTERPRETATION ON SOLVENCY RATIOS 13

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Solvency Analysis of MR. Denim (PVT) Limited is favorable because all the ratios provided the favorable result which is a good strong and positive indication towards firm’s ability to fulfill its long-term debts. Time interest earned ratio shows that although financial cost is increased but Earning before interest and tax increased by 28.58% which means management has utilized the debt funds efficiently which produced high profits and hence percentage of earnings through debts are more than percentage of financial cost (interest payable) which is 14.8%. Debt ratio is also decreased which is favorable for the company because it means less contribution of external debts in business and ultimately less interest will be paid and hence more profits will be achieved. Result also shows that total equity of the company has increased with 28.7% and total debts reduced by 4.3% which is also a good sign for the company and it means that most of the working of the company is done by equity rather than to use of external debts which also reduced the fixed cost and financial burden on company. It also indicates that more percentage of the assets is being financed by owner’s equity. Company’s current liabilities also increased by 32.7 % but long term liabilities (loans) has decreased by 28.7% which is a major contribution and because of this financial cost of business is decreased. Company should try to reduce its current liabilities. Although current year debt ratio result is favorable but this is because of increase in current liabilities. Company’s Long Term debts paying worth/ability is also improved. 14

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

PROFITABILITY RATIOS Profitability ratios offer several different measures of the success of the firm at generating profits.

Items Required In Profitability Ratios:  Sales  Cost of Goods Sold  Net Profit  Total Assets  Shareholder’s Equity

GROSS PROFIT MARGIN

Gross Profit Margin =

Sales - Cost of Goods Sold Sales

OPERATING PROFIT MARGIN

Operating Profit Margin =

Operating Profit Sales

NET PROFIT MARGIN

15

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Net Profit Margin =

Net Profit After Tax Sales

OPERATING RATIO

Operating Ratio =

Operating Expenses Sales

RETURN ON ASSETS

Return on Assets =

Net Income Total Assets

RETURN ON EQUITY

Return on Equity =

Net Income Shareholder Equity

RETURN ON INVESTMENT

Return on Investment =

Net Income Investment

RETURN ON FIXED ASSET

Return on Fixed Asset =

Net Income Fixed Assets 16

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

PRIFITABILITY ANALYSIS RATIOS

YEARS

NET PROFIT RATIO

2007 9.18%

RESULTS

REASON

OF

CHANGE 2006 9.4%

Unfavorable N.P

increased

with less % as GROSSPROFIT RATIO

22.12% 22.8%

compare to sales Unfavorable G.P increased with less % as

OPERATING

PROFIT 9.23%

9.77%

compare to sales Unfavorable O.P increased

RATIO

with less % as

OPERATING RATIO

compare to sales Increase in sales

RETURN

12.88% 13.02% Favorable ON 8.32%

8.33%

by 27.10%. Unfavorable N.P increased

TOTALASSETS

with less % as compare to Total

RETURN ON EQUITY

22.3%

23%

Assets Unfavorable N.P increased with less % as compare

RETURN

ON

FIXED 23.76% 19.88

Favorable

ASSETS

to

Equity Increase in fixed assets by 4.02%

17

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

INTERPRETATION ON PROFITABILITY RATIOS After calculating all the ratios of Profitability of MR. Denim I considered that

profitability

of

the

company

is

in

unfavorable

condition.

Profitability is a tool to check the final outcome of the firm. As ratios include in Profitability are calculated by use of Sales and profits also it includes ROA, ROI and ROE ratios that’s why potential customers, investors, creditors, Govt., owner and even all of the stakeholders of the company have shown their deep interest in Profitability analysis. The company’s profitability analysis shows the Unfavorable result. The main reason of favorable condition is Increase in GP, NP, and OP with less percentage as compare to sales in the comparative years. Company also earns profit but comparing to its base year this profit is decreased. This decrease in ratios is also because of increase in admin and selling expenses. Inefficient utilization of resources is also one reason of unfavorable results. Return on equity and total asset is also decreased which may damage the credibility of the company.

Trend Analysis 18

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

“The analysis of the changes in a given item of information over a period of time or a comparative analysis of a company's financial ratios over time”

Trend analysis is basically used to determine the trend of the firm. It provides trend of items involved in Income statement and Balance Sheet. E.g. how much percentage of sales is increased this year comparing to base year. Considering these trends in mind management takes the future decisions. Trend analysis is not only useful for management but also for potential investors of the company who can evaluate the performance of the company by comparing with previous years performance. Basically there are two types of Trend analysis, which are:

1. Horizontal Analysis (Common

2. Vertical Analysis Statement)

size

Financial

Horizontal Analysis COMSATS INSTITUTE

OF

INFORMATION

19

TECHNOLOGY

Horizontal analysis is basically compares horizontally the items of income statement and balance sheet with previous years keeping one base year as 100%. At least four years data is required for conducting Horizontal

Trend

Analysis.

When

an

analyst

compares

financial

information more than three years for a single company, the process is referred to as HORIZONTAL ANALYSIS.

In Horizontal Trend Analysis the analyst computes percentage changes from year to year for all financial statement items, such as cash and inventory. Trend analysis involves calculating each year's financial statement balances as percentages of the first year, also known as the Base year. When expressed as percentages, the base year figures are always 100 percent, and percentage changes from the base year can be determined.

As we know that minimum four years data is required to conduct the Horizontal Trend Analysis of a company, so here this analysis could not be performed due to unavailability of financial data.

Vertical Analysis 20

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Vertical Analysis is basically vertically analyze or compare the items include in Income Statement and Balance Sheet. Mainly one of the item is consider as base and keep that item equal to 100 all the remaining items are divided by that base and evaluating the answers.

In VERTICAL ANALYSIS analyst uses base of income statement is net sales revenue, while in balance sheet it is total assets. This approach to financial statement analysis, also known as component percentages,

produces

common-size

financial

statements.

Common-size balance sheets and income statements can be more easily compared, whether across the years for a single company or across different companies. Vertical Analysis requires minimum two years data.

21

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Vertical Analysis of MR. Denim’s INCOME STATEMENT FACTOR

2006

2007

SPEED

DIRECTION

Sales

100

100

C.G.S

77.2

Gross Profit

77.88

(0.68)

Upward

22.8

22.12

(0.67)

Downward

Selling Expense

3.98

4.04

0.066

Upward

Admin Expense

3.18

2.77

(0.40)

Downward

Operating Profit

9.78

9.23

(0.54)

Downward

0.41

0.86

0.45

Upward

Favorable

15.63

15.3

(0.33)

Downward

Unfavorable

Financial Cost

5.85

6.07

0.22

Upward

Unfavorable

Profit Before Tax

10.2

10.1

(0.1)

Downward

Unfavorable

Tax

0.8

0.91

0.11

Upward

Unfavorable

Net Income

9.4

9.12

(0.21)

Downward

Unfavorable

Other Operating Income Profit Before Interest & Tax

RESULT

Unfavorable Unfavorable Unfavorable Favorable Unfavorable

22

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Vertical Analysis of MR. Denim’s BALANCE SHEET

23

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

ITEMS

2006

2007

SPEED DIRECTION

RESULT

CURRENT ASSETS Cash

0.65

2.73

2.08

Upward

Favorable

20.8

24.81

4.01

Upward

Favorable

Book Debts

14.71

21

6.28

Upward

Favorable

Stock in Trade

14.61

11.50

(14.05)

Downward

Unfavorable

3.63

3.3

(0.33)

Downward

Unfavorable

54.41

63.33

8.92

Upward

Favorable

Prepayments, Advances and Deposits

Stores and Spares Total Current Assets

FIXED ASSETS Property, Plant and 41.11 32.81 Equipment Fixed Assets Subject To Finance 0.76 2.21 Lease Capital Work in 2.45 1.46 Progress Total Fixed 44.33 36.49 Assets Long Term 1.24 0.17 Deposits TOTAL ASSETS

100

100

Unfavorable (0.83)

Downward Favorable

1.45

Upward

(0.98)

Downward

Unfavorable

(7.84)

Downward

Unfavorable

(1.07)

Downward

Unfavorable

-

-

-

EQUITY Share Capital Un-appropriated Profit

1.91

1.54

(0.37)

Downward

Unfavorable

34.18

35.8

1.62

Upward

Favorable

24

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY

Total Equity

36.1

37.34

1.24

Upward

Favorable

NON CURRENT LIABILITIES Long term Loans

10.58

6.08

(4.52)

Downward

Favorable

CURRENT LIABILITIES Short term Borrowings Long term financing Trade & Other payables Current Liabilities

46.61

55.05

8.44

Upward

Unfavorable

4.01

0

(4.01)

Downward

Favorable

2.41

1.53

(0.87)

Downward

Favorable

53.04

56.6

3.55

Upward

Unfavorable

25

COMSATS INSTITUTE

OF

INFORMATION

TECHNOLOGY