03 financial ratio analyses 05

Financial Statements AnalysisRatio Analyses

Dilip Thosar

July2014

Slide no. 1July 21, 2014

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Any student of military strategy would tell you that in order to attack a position, you should have a ratio of approximately 3 to 1 in favor of the attacker ~Norman Schwarzkopf

You can judge whether housing price is in line with its fundamental value by considering the ratio of housing prices to rents ~Janet Yellen

Financial Statements AnalysisRatio Analysis

The Matrix

Has Information…

… Can you do business

with The Matrix ?

`̀̀̀

The Matrix

Makes a Statement …

… Can you analyze this

from The Matrix ?


Dilip Thosar

July2014


Analysis Of FS• Levels

– Business Unit– Company– Industry

• Trends– Forecasting: Needs, Seasonalities and Performance

• Ratios– Ratio of a financial value of a firm to

• Another financial value of the same firm

• Same financial value of another firm

• Same financial value of a previous period of the same firm

– Health. Individual, Over time, In comparison

• Benchmarks– Competitive Advantage

• Concept of “Similar Firms”


Dilip Thosar

July2014


Example PLBS, BW

53Retained Earnings transferred to Balance Sheet

Shares trading on market at Rs.56038Cash Dividends

91PATg

g. Amount earned for shareholders. 60Tax

f. Taxable income.151PBTf

e. Cost of borrowed funds.59Interest Expense

d. Operating income.210PBITd

c. Sales comm., adv., officers’ salaries, etc.SG&A Expensesc

b. Received, or receivable, from customers.612Gross Profit

a. Measures profitability over a time period.1,599COGSb

NOTES:2,211Revenue by Sales

Black And White Pvt Ltd. Profit and Loss Statement for theyear ending 31Mar2014

2,169TOTAL LIABILITIESa2,169TOTAL ASSETSa

1,139SHAREHOLDERS' FUNDS223Other Long Term Assets

210Reserves and Surplush50Long Term Investments

929Subscribed Capital (92.9 lakh shares each at

Rs.10 par)g701Net FIXED ASSETS

530LONG TERM LIABILITIES329Accumulated Depreciationg

530Long Term Debtf1,030Gross Fixed Assets (at cost)f

500CURRENT LIABILITIESe1,195CURRENT ASSETS

10Prepaid Taxes

100Other Accrued Liabilitiesd5Prepaid Expenses

16Accrued Taxesd696Inventory

94Accounts Payablec394Accounts Receivables

290Notes Payable90Cash

LIABILITIESASSETS

All figures in lakh Rupees

Black And White Pvt. Ltd. Balance Sheet at the end of 31Mar2014


Dilip Thosar

July2014


Black And White Ltd.

Liquidity Ratios• Current Ratio

= Current Assets / Current Liabilities

– Firm’s ability to cover (pay for on time) current liabilities with its current assets (liquidated on time)

• Acid Test Ratio= (Current Assets – Inventory) / Current Liabilities

– Firm’s ability to cover current liabilities with assets that are more liquid than inventory

• Cash Ratio= (Cash+Cash Equivalents+Liquid investments)/ Current Liabilities

– Firm’s ability to cover current liabilities with most liquid assets (almost cash)

• Is a “high” liquidity ratio good or bad?• What does it mean if aeach liquidity ratio is

=, <, >, >> 1

=,< 0

<, >, >> Industry average

< values for previous period?


Dilip Thosar

July2014


Leverage Ratios• Debt Equity Ratio

= Total Debt / Shareholders’ Equity

– Extent to which the firm is financed by debt

– What’s the value for BW? 1030/1139 = 0.9

– Is that good or bad?

• Gearing Ratio– Long Term Liabilities / Shareholders’ Equity

– For BW: 530 / 1139 = 0.465

• Debt to Assets Ratio= Total Debts/Total Assets

– Fraction of firm’s assets that are debt-financed

– What’s the value for BW? 1030/2169 = 0.47

• Total Capitalization Ratio= Long-term Debt / Total Capitalization

– Total capitalization = L.T.Debt + Equity

– Fraction of long-term debt in long-term financing of firm

– What’s the value for BW? 530/1669= 0.32


Dilip Thosar

July2014


Coverage Ratios

• Interest Coverage Ratio

– Firm’s ability to pay off interest from profits

– EBIT / Interest Paid

– For BW, 210/59 = 3.56

– Benchmark and trend?


Dilip Thosar

July2014


Activity (Operations) Ratios• Receivable Turnover Ratio

= Credit Sales / Receivables

– Quality of receivables and collection

– Assumes all sales are on credit

– For BW, 2211/394 = 5.61

• Average Collection Period (RT in days)= Days in the Year / Receivable Turnover Ratio

– Average no. of days receivables outstanding

– For BW, 365/5.61 = 65 days

• Payable Turnover Ratio= Annual Credit Purchases / Accounts Payable

– Promptness of payment to suppliers

– For BW, 1551/94 = 16.5– Is a high PT ratio good or bad?

• Average Payment Period (PT in days)– Days in the Year / Payable Turnover

– Average number of days that payables are outstanding– For BA, 365/16.5 = 22.1 days

• Inventory Turnover Ratio= COGS/ Inventory

– Effectiveness of the inventory management practices – For BA, 1599/696 = 2.3

– Trend and Benchmark?

• Inventory in days– 365/Inventory Turnover Ratio– For BW, 365/2.3 = 158.7 (Does that look very high?)


Dilip Thosar

July2014


Activity Ratios … contd.• Asset Turnover Ratio

= Net Sales / Total Assets

– Effective utilization of assets to generate sales

– For BA, 2211/2169 = 1.02

– Is this a very revealing ratio?

• Fixed Asset Turnover Ratio= Net Sales / Fixed Assets

– Utilization of fixed assets to generate sales

• Capital Employed Turnover Ratio– Turnover/ Shareholders’ Equity


Dilip Thosar

July2014


• Gross Profit Margin= Gross Profits / Net Sales

– Efficiency of operations,

pricing policies and financing

– 612/2211 = 0.277 = 27.5%


• Net Profit Margin– Profit after Taxes / Net Sales

– Profitability of firm’s sales • after all expenses and taxes

– For BW, 91/2211=0.041 = 4.1%


Profitability (Operational) Ratios


Dilip Thosar

July2014


Profitability (Investment) Ratios• RoI Return on Investment

= Net Profit after Taxes / Total Assets

– profitability of firm’s assets

– For BW, 91/2160 =0.042=4.2%

• RoE Return on Equity= Net Profit after Taxes/ Shareholders’ Equity

– Profitability on shareholders’ investments

– For BW, 91/1139 =.08=8%

• ROCE Return on Capital Employed– Profit before Interest and Tax / (total assets – short term liabilities

• EPS Earnings per Share (Basic/Diluted)– Net Profit after Taxes / No. of subscribed equity shares– Increase in shareholder’s wealth per unit share

– For BW, 91/0.929 = 97.95 Rs./share

– Diluted: Denominator includes provision like ESOPs granted

• DPS Dividend/Share– Dividend payout / No. of subscribed equity shares

– Immediate cash payback to shareholder per unit share

– For BW, 38/0.929= 40.9 Rs./share

• Dividend Yield– Latest Dividend payout per share / Market Price per share

– For BW, 40.9/560 = 7.3%

• P/E ratio Price Earnings Ratio– Market price per share / Earnings per share– For BW, 560/97.95 = 5.71


Dilip Thosar

July2014


Investment Profitability : Du Pont Analysis• Net Profit Margin = Net Profits / Net Sales

• Asset Turnover Ratio = Net Sales / Total Assets

• Define Equity Multiplier

= Total Assets / Shareholders’ Equity

• Sales profitability X Asset Turnover Ratio * Equity Multiplier = Net Profits / Shareholders’ Equity

= RoE !

• RoI =

Net profit margin (Sales Profitability)

X Total asset turnover (Asset Usage Efficiency)

X Equity Multiplier (Debt Leverage)


Dilip Thosar

July2014


Performance using DuPont Analysis• ROE = (earnings before tax / sales) * (sales / assets) *

(assets / equity) * (1 – tax rate)

• ROE = Earnings after tax / Equity

= [ (EBIT/Sales) Op.efficiency

* (sales / assets) asset efficiency

- interest expense/assets interest rate

]

* (assets / equity) equity multiplier

* (1 – tax rate) effective tax retention rate

• What distinct factors affect the return on equity of a firm?

• Benchmark and trend a firm’s performance on RoE and each of those factors. Comment.


Dilip Thosar

July2014


Performance of BW in summary

• Inventories are too high

• Not controlling creditors (paying them too soon)

• COGS may be too high.

• Selling, general, and administrative costs too high

• Every Profitability ratios has been falling and has below the industry average in every year

• Interest coverage ratio is low


Dilip Thosar

July2014


Common Size Analysis

Analysis of percentage financial statements where

– all balance sheet items are divided by total

assets and

– all income statement items are divided by net

sales

• Helps show relative efficiencies


Dilip Thosar

July2014


Common Size Analysis : ExampleBW

2.32.44505050Cash Dividends Paid out

4.14.99.191103112Earnings After Taxes

6.88.115.1151171186Earnings Before Taxes

2.72.41.6595120Interest Expense

9.510.516.7210222206Earnings Before Interest and Tax

18.218.214.6402383180SGA(Selling, General and Administrative Expenses)

27.728.731.3612605386Gross Profit

72.371.368.71,5991,501849COGS (Cost Of Goods Sold)

1001001002,2112,1061,235Net Sales

Profit/Loss Statement

100100100216920441223Total Liabilities (and Equity)

52.5153.1355.1111391086674Equity and Reserves

24.4422.1612.26530453150Long Term Debt

23.0524.7132.62500505399Total Current Liabilities

4.614.891.2310010015Other Accrued Liabilities

0.740.781.06161613Accrued Tax Liability

4.334.66.62949481Accounts Payable

13.3714.4323.71290295290Notes Payable

1001001002,1692,0441,223Total Assets

10.2810.919.08223223111Other Long Term Assets

2.312.45050500Long Term Investments

32.3230.8728.54701631349Net Fixed Assets

55.0955.7762.391,1951,140763Total Current Assets

0.690.680.82151410Other Current Assets

32.0930.1426.33696616322Inventory

18.1720.0623.14394410283Accounts Receivables

4.154.8912.190100148Cash

200720062005200720062005Balance Sheet Year

Common-Size (%)Regular (lakh Rs.)Black and White Pvt. Ltd.


Dilip Thosar

July2014


Index Analysis

• An analysis of percentage financial statements where all balance sheet or income statement figures for a base year equal 100.0 (percent) and subsequent financial statement items are expressed as percentages of their values in the base year.


Dilip Thosar

July2014


Indexed Analysis for BW

100100100505050Cash Dividends Paid out

81.39210091103112Earnings After Taxes

81.291.9100151171186Earnings Before Taxes

295255100595120Interest Expense

101.9107.8100210222206Earnings Before Interest and Tax

223.3212.8100402383180SGA(Selling, General and Administrative Expenses)

158.5156.7100612605386Gross Profit

188.3176.81001,5991,501849COGS (Cost Of Goods Sold)

179170.51002,2112,1061,235Net Sales

Income Statements

177.4167.11002,1692,0441,223Total Liabilities (and Equity)

169161.11001,1391,086674Equity and Reserves

353.3302100530453150Long Term Debt

125.3126.6100500505399Total Current Liabilities

666.7666.710010010015Other Accrued Liabilities

123.1123.1100161613Accrued Tax Liability

116116100949481Accounts Payable

100101.7100290295290Notes Payable

177.4167.11002,1692,0441,223Total Assets

200.9200.9100223223111Other Long Term Investments

UndefinedUndefined10050500Long Term Investments

200.9180.8100701631349Net Fixed Assets

156.6149.41001,1951,140763Total Current Assets

150140100151410Other Current Assets

216.1191.3100696616322Inventory

139.2144.9100394410283Accounts Receivables

60.867.610090100148Cash

Balance Sheets

200720062005200720062005

Indexed (%)Regular (lakh Rs.)BW Pvt. Ltd.


Dilip Thosar

July2014


Assignment 1• Using HUL Annual Reports over last 10 years,

– Analyze relevant ratios for every year

– Perform index analysis

– Perform common size analysis

– Add qualitative comments based on the relevant

highlights from Directors’ Report, Auditor’s Report and annexures.

• Submission:

– Printed Report (1-5 pages), All supporting documents

(eg. Worksheets) in soft copy.

– Use of figures from the Annual Report should be clearly referenced (eg. PL!A5/B6 )


Dilip Thosar

July2014


Session : Questions?

03 financial ratio analyses 05

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