Financial Analysis of Marvel Toys Pvt Ltd - Research Paper Example

? Financial Analysis of Marvel Toys Pvt. Ltd. In APA Format By Executive summary, Introduction, Discussion, Complete Financial Analysis of the Firm covering Cash Flow Analysis, Ratio Analysis, Analysis from a Long Term Creditor’s point of view, Examining the Collateral Security offered by the Firm, Recommendation to the Loan Granting Bank, Other Factors to be Considered, Conclusion, Decisions, References, Presentation. Contents Particulars Pg. No. Executive Summary 4 Introduction 6 Discussion 6 Conclusion 13 References 16 Presentation 17 Executive Summary: Marvel toys private ltd deals in the import and export business from China to throughout UAE. It operates through a warehouse in Dubai Jabel Ali Free Trade Area. It intends to expand business to other EU countries. For this purpose, it is planning to build a larger and modern warehouse and distribution facility which would cost around $10 million and would be completed by June, 2013. This cost includes machinery worth $2 million. It also plans to renovate its existing warehouse for $200000. The projects, to be completed by January, 2013 could increase 25% revenue. For this new project, capital is planned to be acquired through a local UAE bank. The current document dwells into the complete financial analysis of the organization. The financial analysis includes: 1) Cash Flow analysis 2) Ratio analysis and 3) Analysis by a long term creditor 4) Examining the collateral security to be offered by the firm in case loan is granted for the firm. 5) Conclusion The cash flow analysis details about the cash generated through various activities of the firm like operating, investing and financing. Operating cash flows elucidate the increase and decrease in cash pertaining to income statement. Investing cash flows depict increase and decrease in assets while financing activities revolve around dividend and other payments to stock holders. If the cash flows are positive and growing year on year, they are considered to be favorable for any creditor. The ratio analysis is extensively studied through a variety of ratios. The meanings of those ratios are explained for comprehensive understanding of their purpose. They are then compared to previous year and industry average to ascertain their degree of favorability and non-favorability of ratios. Recommendations are made to improvise the ratios in the long run. The only area of concern identified was that of interest expense servicing which could be easily done by increasing sales through upgraded warehouse. Once the analysis is completed, as a banker, we can analyze the outcomes. For analysis, we need to arrive at the requirements of criteria for firm’s suitability to be bestowed with a long term loan. The requirements are the positive cash flows, favorability of crucial ratios, a discussion of property which would be available as security, credit history of the loan taking firm and perfect documentation giving all relevant details. Positive cash flows are examined by the cash flow analysis. The crucial ratios namely debt-equity ratio, return on capital employed and proprietor ratio are calculated to know whether a long-term creditor would be interested to extend finance for Marvel toys. It is understood that these ratios are favorable and the firm is qualified for further finance. Land and buildings which were valued conservatively at $50 million could be offered as collateral security for further finance and overdraft. The credit history is always positive as the firm has never exceeded its overdraft limits. The only requirement which the firm would need to perform is to file documentation giving details of expected revenue from such investment so that the bank authorities would be convinced to extend the required loan and overdraft for the firm. Introduction Marvel Toys Pvt. Ltd which imports and exports toys from China to UAE are now planning to build new warehouse of larger capacity and also renovate its existing warehouse. It plans to expand its business to cater to total EU customers. It wishes to raise a loan and overdraft from its bank. The bank manager needs to decide whether the firm qualifies to avail the loan and extended overdraft facility. For this purpose, a complete financial analysis of the firm is carried out. A cash flow analysis, very crucial ratios are arrived upon which establish the financial ability of the firm. In this journey, telephonic enquiries and e-journals were extensively studied to ensure that no hitch is left behind to arrive at proper conclusion. After all such exercise, it is arrived that the firm has many favorable points and good credit history because of which it can be extended with the required loan and overdraft facility. The only hitch about interest payments could be solved by increasing sales. There is an estimate of higher revenue by the next year which suggests that the loan could be paid back early by the organization. As such, the firm can avail the loan. Discussion: Part – A Complete Financial Analysis of the firm. (Gregory. A. (2012)). Cash Flow analysis of Marvel Toys Pvt. Ltd is presented in presentations section, figure 1. Here we can see that the cash flows were and are positive for the firm. (Statement of Cash Flows, (2012)). Ratio Analysis: The table is given in the presentation section – figure 2. Current Ratio: Total Current assets / Total Current liabilities Meaning: It depicts the ability of the firm pertaining to its current liability coverage through its current assets. (Current Ratio, 2012). Ratio changes if current liabilities (C.L.) or current assets (C.A) change. Increase in C.A. is favorable while increase in C.L. is not favorable. In comparison to previous year (PY): Unfavorable. The total current assets have decreased by $400 while, total current liabilities have increased by $550 (11530-10980). In comparison to industry average (IA): Unfavorable. The company is having slightly unfavorable current ratio. Recommendation: Stress should be laid on increasing current assets and decreasing current liabilities. Acid– Test Ratio: Liquid Assets (Total Current Assets – Inventory)/ Current Liabilities. Meaning: It depicts the ability of the firm to meet its current liabilities through its most liquid assets like cash and marketable securities, accounts receivable and accounts payable as current liabilities. 1:1 is the ideal ratio. (Acid Test Ratio, 2009). Ratio changes if liquid assets (L.A.) or current liabilities (C.L.) change. Increase in L.A. is favorable to the company while increase in C.L. is not favorable. Ratio is favorable for PY and IA. Collection Period: (Accounts receivable net X 365)/Net Credit Sales Meaning: This ratio is an indication of the period within which credit sales are collected by the concern. When credit sales are not given, sales figure is considered. A lower period indicates higher quality of creditors and vice-versa. (Tatum. M, (2012)). Ratio changes if Accounts Receivable (A.R.) or Net Credit Sales (C.S.) changes. Higher period indicates higher A.R. and lower quality of creditors to the company and is bad. (PY): Unfavorable. The Accounts receivable have been increased by $600 while net sales have increased by only $400. (IA): Favorable. Recommendation: It is enough if the firm continues to maintain its goodwill with its customers and try to return back to 35 day cycle. Inventory Turnover Ratio: Cost of Goods sold / Average inventories in the period Average inventory is calculated by the following formula: (Opening stock + Closing stock)/2 Meaning: This ratio tries to explain the period within which stock is transformed to cash through sales. A higher ratio is favorable as it depicts the rate at which stock is cashed for firm’s cash needs. (Inventory Turnover Ratio, (2012)). Ratio changes with change in goods cost and stock figures. Increase in cost of goods sold is good while increase in stock is bad for the company. (PY): Unfavorable. The firm has achieved lower rate this year implying that the stock turnover cycle has to be improved by improving the sales. (IA): Unfavorable. The industry performance is better than that of the firm. Recommendation: The firm should target higher stock turnover ratio by mobilizing higher sales. Debt to total assets ratio: (Total Long term debt /Total assets)*100 Meaning: This ratio is to check as to how many, the total assets could be useful in terms of servicing for the debts. A lower ratio is favorable. (Debt to Total Asset Ratio, (2012)). Ratio changes with change in debt and total assets. Increase in long term debt is bad while total assets increase is good for the company. PY and IA are favorable. Times interest earned: (Interest + Net Income) / Interest Meaning: It indicates the availability of earnings to service the interest expenses. A lower ratio will imply that lesser amounts are available for interest servicing and vice versa. Thus, it is always important to have a consistently high ratio in this matter. (Calgary, (2012)). Ratio would change if interest payments and net income figures increase. Higher net income is good for the company while interest expense should be avoided. (PY): Unfavorable. There is a decrease in the ratio because the interest expense has increased more than the rate of increase of net income. (IA): Unfavorable. The net income earned is quite less because of which the coverage for interest expense is quite low. Recommendation: The firm should look into the ways of improving its net income to service interest payments through improved warehousing. Return on assets: (Net income after tax *100)/Total assets Meaning: This ratio examines about the utility of assets to earn the net profit. A higher ratio will imply that the firm is operating efficiently while making use of its assets. (Graham & Whiteside, (2012)). Ratio changes if net income after tax or total assets gets changed. Increase in Net income is more desirable in this case. Ratio is favorable for PY and IA. Return on Equity: Net income after tax, Preference Dividend and interest / Equity Meaning: This ratio measures the profit percentage with respect to shareholder’s equity. Higher ratio is favorable. (Kennon. J., (2012)). Change in ratio occurs when payments to equity and debt holders increase. Higher payments indicate higher profitability and are good for the company. Ratio is favorable for PY and IA. Fixed Asset Turnover Ratio: Sales / Fixed Assets net (Fixed Assets net) Meaning: It is also alternatively known as sales to net fixed assets ratio. Lower ratio will mean lower utilization of assets and higher overhead charges per unit. (Fixed Asset Turnover Ratio., (2012)). Ratio can change with a change in sales or fixed assets. Lower sales or higher fixed assets in comparison to sales gives lower ratio and is bad for the company. (PY): Unfavorable. The sales have not seen any commensurate growth with respect to fixed assets net within the two years. (IA): Unfavorable because the utilization of newly acquired fixed assets net is not to the optimum level. Recommendation: As already mentioned, the asset efficiency is not depicted in the net income. Higher sales can achieve the expected efficiency. Total Assets Turnover Ratio: Sales / Total Assets Meaning: This ratio is to analyze the tradability of total assets towards sales achievements. If the assets are optimally utilized, the ratio would be higher. As such, a higher ratio would be desirable. (Asset Turnover Ratio, (2012)). Ratio can change if sales volume or total assets changes. Higher sales is good while higher total assets is bad for the company. (PY): Unfavorable. The sales figures have not grown commensurately to the asset acquisition this year. (IA): Unfavorable because of non-utilization of assets to the optimum extent. Recommendation: The Company should target to optimum utilization of its total assets. Gross Profit Margin: (Gross Margin / Sales) * 100 Meaning: This ratio examines the relationship between Gross Margin and Sales. Higher ratio is favorable. Ratio change occurs if gross margin or sales figures change. Higher gross margin is good for the company in comparison to sales. Ratio is favorable in PY and IA. Net Profit Margin: (Net Profit / Sales) * 100 Meaning: A higher positive ratio implies that your firm is on a positive track and making profits over and above your competitors. Analysis should be done with caution with regards to sales mobilization periods (like discount advertisements etc.) to arrive at logical solutions. (Modu. E. & Walker. A., (2012)). Ratio change occurs with a change in net profit or sales. Higher net profit in comparison to sales is good for the company. Ratio change is favorable for PY and IA. Part – B: Analysis By a Long Term Creditor As a long term creditor, the ratios which would be of most concern to me are: a. Debt-equity ratio b. Return on capital employed c. Proprietor ratio Analysis of abovementioned ratios: a. Debt – equity ratio: Long Term Debt / Shareholder’s funds Meaning: This ratio calculates the relative measure of shareholder’s funds and outsider’s funds that are invested in the company. It ascertains the long term financial soundness of the firm. The ratio is favorable. b. Return on Capital Employed: (Net Operating Income / Capital Employed) * 100 Meaning: This ratio indicates the capacity of earning by the employed capital in the firm. This ratio should be compared with the existing interest rate. The capital employed carries a cost in the form of interest rate. The ROCE should be more than the interest rate to ensure that the business has done a decent return. The average cost of capital employed is (6%+4%)/2 = 5% on long term debt. Similarly, the cost of equity is also 5%. Thus, the cost of capital employed is 5%. If the ROCE is more than 5%, then it is favorable and vice versa. The ratio is favorable. c. Proprietor Ratio: Total Stockholder’s equity / Total Assets Meaning: This is a variant of debt-equity ratio and depicts the relationship of stockholder’s equity and total tangible assets. Ideal ratio should be 1:3 or .33 and more. Thus, a long-term creditor would be pleased with the firm’s performance. (Chauhan V.P.S., (2010)). Examining the collateral security to be offered by the firm in case loan is granted for the firm. 1. Recommendation to the loan facility: Any bank will have to check for the following attributes before extending loan: a. History of credit of the firm b. Cash flow analysis and future projects for the firm c. Collateral security available for securing the loan The company intends to raise a loan worth $10.2 million for renovating existing warehouse and procuring new machinery. It also plans to increase its overdraft limit from $5 million to $7 million. For raising this loan and overdraft, the bank needs to examine: The credit history which is already established as the company has never exceeded its overdraft limits. The cash flow analysis shows positive cash flows so also the future projections are very encouraging as depicted in figure – 4 of the presentation. The collateral security could be the Land and Building which was valued at $50 million recently. A 75% value (usual credit extending value) amounts to $37.5 million. This value covers all the loan and overdraft requirements. Hence, the bank can extend loan and overdraft facility to the firm. 2. Once security is considered to be sufficient, the other factors which need to be considered are: a. Goodwill of the firm b. Perfect documentation containing the financial statements, returns of income tax and a business blue print which convinces about the business profitability in the long run for the loan to be extended by the bank. (Gordon. C., Suelzer. M.R. & Butts. J. (2012)). Conclusion: It is observed that Marvel toys intend to take up long term debt for its new warehouse project and renovation of its existing one. As credit manager of local UAE bank, I was assigned with its file to assess its credibility. The company has personal investments and long-term deposits worth more than $10 million. It also avails $5 million overdraft facility from the bank. The current requirement of the firm amounts to $10.2 long term debt and $2 million increased overdraft facility. Our current assessment is to check whether the company is qualified for these grants or not. In this direction, the following analysis has been undertaken: Cash flow analysis Ratio analysis Future cash projections in case the project takes place Requirements a company has to be fulfilled, to be eligible to take up the loan from the bank. The cash flow analysis suggests that the firm enjoys positive cash flows. The ratio analysis is almost favorable with only one space in the interest payments coverage. It could be properly set if the revenue could be enhanced. The same could be possible if the proposed new warehouse would be operational. In that way, the issue could be solved easily. The future cash projections of the new project are estimated to be profitable. As a long term creditor, the bank is now required to assess the following qualifications of the firm: Credit history, Collateral security offered and its aptness for availing the loan, Goodwill of the firm and Submission of required forms giving the details of business blueprint which the firm intends to build by the loan availed. The credit history is established that the firm has not exceeded its overdraft limits till date. The land and building is estimated at $50 million on a conservative approach. The same could be presented as a collateral security to the bank. As 75% or less could be granted as loan, 75% on $50 million would be more than enough and the company could take up long term debt according to its requirements. The goodwill of the firm is already established as it enjoys higher net contribution than other firms in the market. There is an estimate of 25% increase in revenue by mid-June, 2013. Thus interest servicing hiccups which the company now faces could be wiped off. As all the requirements are satisfactorily fulfilled, it could be considered for granting the required loan by the bank. Now, the firm only now needs to submit its business report which gives details about the proposed project in detail. It should explain the various methodologies which are to be implemented by the firm. A careful analysis of all the procedures and project charts should be presented before the bank takes any positive note on the firm’s requirements. Once, the firm produces all these documents and a detailed plan about the project which discusses about the various possibilities, project period, the finances required, the measures taken by the company to make the project successful, then only, the long term debt could be granted. Thus, the bank should assist the firm in its further development and profitability in the long run. References: Gregory. A. (2012). How to Write The Financial Analysis. About.com Small Business Information. Retrieved 2012-10-22 from http://sbinformation.about.com/od/businessplans/a/How-To-Write-The-Financial-Analysis.htm Statement of Cash Flows. (2012). Accounting Explained. Retrieved 2012-10—22 from http://accountingexplained.com/financial/statements/cash-flow-statement Current Ratio. (2012). InvestorWords.com. Retrieved 2012-10-22 from: http://www.investorwords.com/1258/current_ratio.html Acid Test Ratio. (2009). Investing Answers. Retrieved 2012-10-22 from http://www.investinganswers.com/financial-dictionary/ratio-analysis/acid-test-ratio-1225 Tatum. M. (2012). What is a Debtor Collection Period. Wisegeek. Retrieved 2012-10-22 from http://www.wisegeek.com/what-is-a-debtor-collection-period.htm Inventory Turnover Ratio. (2012). Accounting Explained. Retrieved 2012-10-22 from http://accountingexplained.com/financial/ratios/inventory-turnover Debt to Total Asset Ratio. (2012). Accounting Coach. Retrieved 2012-10-22 from http://www.accountingcoach.com/terms/D/debt-to-total-asset-ratio.html Calgary. (2012). Times Interest Earned Ratio. Bizwiz Consulting. Retrieved 2012-10=-22 from http://www.bizwiz.ca/times_interest_earned_ratio.html Graham & Whiteside. (2012). Financial Ratio Analysis – Return on Total Assets Ratio. Bized. Retrieved 2012-10-22 from http://www.bized.co.uk/compfact/ratios/ror5.htm Kennon. J. (2012). Return on Equity. Investing for Beginners. Retrieved 2012-10-22 from http://beginnersinvest.about.com/od/incomestatementanalysis/a/understanding-return-on-equity.htm Fixed Asset Turnover Ratio. (2012). Accounting Tools. Retrieved 2012-10-22 from http://www.accountingtools.com/fixed-asset-turnover-ratio Asset Turnover Ratio. (2012). Finance Formulas. Retrieved 2012-10-22 from http://www.financeformulas.net/Asset_Turnover_Ratio.html Modu. E. & Walker. A. (2012). Profit Measures. Teenvestor.com. Retrieved 2012-10-22 from http://www.teenvestor.com/investors/stocks/profit_measures.htm Chauhan V.P.S. (2010). Ratios for Long term Investors (Pg. 21). Financial Analysis of Reliance Industries Ltd. Retrieved 2012-10-22 from http://www.scribd.com/doc/51540672/41/Ratios-for-long-term-creditors Gordon. C., Suelzer. M.R. & Butts. J. (2012). What Banks Look for When Reviewing a Loan Application. Business Owner’s Toolkit. Retrieved 2012-10-22 from http://www.bizfilings.com/toolkit/sbg/finance/getting-financing/what-banks-look-for-reviewing-loan-applications.aspx Presentation: Figure – 1: Cash Flow from operating activities:   2011 2010       Operating Income 4500 4000 Depreciation Expense 2000 1900 Increase in accounts payable 400 180 Increase in accounts receivable -600 -500 Net cash flow from operating activities:   6300 5580       Cash Flow from investing activities:           Decrease in current assets 400   Increase in current liabilities 570 300 Increase in equity 2550 2100 Increase in fixed assets -3500 -100 Increase in current assets   -2300 Net cash flow from investing activities:   20 0       Cash Flow from financing activities:           Payment of dividends 1760 1000 Net cash flow from financing activities:   1760 1000       Net Change in cash 8080 6580 Beginning cash balance 4400 4300       Ending cash balance       12480 10880 Figure – 2: Ratio analysis Part - A 2011 2010 Industry Average Comparison to previous year Comparison to industry average Current ratio: 1.67 1.79 1.9 Unfavorable Unfavorable         Acid Test ratio: 1.64 1.68 1.1 Favorable Favorable         Collection Period: in days 38.51 35.38 45 Unfavorable Favorable         Inventory Turnover Ratio 6.07 6.52 8 Unfavorable Unfavorable         Debt to Total Asset Ratio 38.99 41.49 40 Favorable Favorable         Times Interest Earned Ratio 2.93 3.1 6.6 Unfavorable Unfavorable         Return on Total Assets 4.50 4.36 3.2 Favorable Favorable         Return on Equity 11.684 12.2 5.7 Favorable Favorable         Fixed assets Turnover Ratio 2.04 2.27 2.2 Unfavorable Unfavorable         Total Assets Turnover Ratio 1.27 1.35 1.4 Unfavorable Unfavorable         Gross Profit Margin 20.183 19.23   Favorable Not given         Net Profit Margin 3.53 3.23 2.3 Favorable Favorable Figure – 3: Ratios of concern for a long-term creditor Debt - equity ratio 1.01 1.161 2         Return on Capital Employed 11.32 10.75 5         Proprietor ratio 0.39 0.36 0.33 Figure – 4: Future cash projections for the firm: 2012 2013 In millions In millions New Project Capital investment $10 Renovation Capital investment $0.2 Estimated increase in revenue 16.35 The return of 25% increases in revenue justifies the investment. 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