Ratio Analysis for Apple Company - Essay Example

? RATIO ANALYSIS FOR APPLE INC. Ratio analysis is a technique in finance analysis and it is very important. This isbecause it involves a conversion of financial statement quantities or figures to aid comparison in a meaningful manner (Dess 2012). The comparison would be within a firm between two financial periods like in our case where we want to analyze Apple Incorporation’s financial statements for two financial periods. Secondly, the comparison could be between firms operating within the same industry. The former is used to compare the performance of the firm within itself in terms of aspects such as improvement in management skills and finance handling. The latter is used to compare the performance of the firm within its industry of operation. Such comparisons will consider fundamental aspects of operations like profitability. In profitability, an increase or decrease is established and the causes of each including what can be done to stabilize profitability and grow it further. The liquidity of the firm is also quite fundamental as this would enable management know how to plan operations and sources of financing. Therefore, ratio analysis is used in the determination of trends as it strives to expose the strengths and weaknesses of the company. Ratios can be either favorable or unfavorable depending on whether the increase or decrease is in the desired direction (Dess 2012). For our analysis of Apple Incorporation’s financial statement of the year 2012 compared to that of the year 2011, we will categorize ratios into the following - Profitability Ratios; Liquidity ratios; Efficiency Ratios and Capital structure ratios. Profitability Ratios They measure the ability of the company to generate profits from their asset investments. Such ratios include- Gross Profit margin, which is the profit before expenses generated by sales as a percentage. There is the Net Profit margin which are the earnings before depreciation and tax generated by sales; Then there is the Return on Equity(ROE)/Net Worth/ Shareholders funds/ Investments(ROI), this is the ratio of the earnings after tax plus preference dividends contributed by share capital and reserves. The fourth ration in this category is the Return on total assets (ROTA) which indicates how much the Fixed and Current Assets of a company contributes to the Earnings before Interest and Tax (EBIT). Return on Capital Employed is the next, it indicates how equity and Fixed interest capital contributes to the EBIT, and finally we have the Operating Expenses Ratio indicating the percentage of sales consumed by the operating expenses. An increase in these ratios from the previous period is considered favorable while a decrease in the last ratio is considered favorable. The ratios as shown by the financial data by Apple incorporation between the years 2011 and 2012 financial statements are as shown in the table below. RATIO FORMULA YEAR 2012($ in Millions) YEAR 2011($ in Millions) 1. Gross Profit Margin = (Gross Profit/Sales)*100 (66,662/156,508)*100 = 43.87% (43,818/108,249)*100 = 40.48% 2. Net Profit Margin =(EBIT/Sales)*100 (55,241/156,508)*100 = 35.30% (34,790/108,249)*100 = 32.14% 3. ROE/ROI =(EAT+ Pref. dividends/Owner’s Equity)*100 (41,733/118,210)*100 = 35.30% (25,922/76,615)*100 = 33.83% 4. ROTA =(EBIT/Total Assets)*100 (55,241/176,064)*100 = 31.38% (34,790/116,371)*100 = 29.90% 5. ROCE =(EBIT/Total Capital Employed)*100 (55,241/118,210)*100 = 46.73% (34,790/76,615)*100 = 45.41% 6. Operating Expenses Ratio =(Operating Expenses/Sales)*100 (13,421/156,508)*100 = 80.58% (10,028/108,249)*100 = 9.26% As indicated by the profitability ratios, there was a general increase in profitability of Apple Inc between the year 2011 and 2012. The gross profit margin shows a rise from 40.48% in 2011 to 43.87% in 2012. Such an increase was because of the increase in; sales from 108,249 in 2011 to 156,508 in 2012. An increase of the net profit margin from 32.14% to 35.3% is because of the increase in turnover. The Return on capital-employed ration was also favorable between the two periods showing an increase from 45.41% to 46.73%. This shows that the permanent capital of Apple incorporation is used quite well to generate income for the company and by an extent shows good financial management. The ration of total assets to income also lies within the favorable margin showing an increase from a paltry 29% in the previous year to over 31% in the year 2012. The rate at which the operating income consumes the sales has also declined indicating that operating expenses are within the control of the management. The percentages of the operating expenses ratio are below 10% with 9.26% in 2011 and 8.58% in the year 2012. Liquidity Ratios This is the second category of ratios we will discus concerning the operations of Apple Incorporation. Liquidity ratios are the ratios that measure the ability of a company to meet its short-term debt obligations. These ratios measure the ability of a company to pay off its short-term liabilities when they fall due. Under this category, we will look at two ratios that is; the Current/Working Capital Ratio- this ratio indicates if the firm will be in the position of meeting its current liabilities through the liquidation of its current assets. Furthermore, the ratio will indicate whether the company would remain working capital to operate on a day-to-day basis if the above scenario takes place. This ratio is calculated by dividing Current Assets using the Current Liabilities and the ideal current ratio is 2:1. Secondly, we will look at the quick/acid test ratio, which indicates whether Apple would meet its current obligations by liquidating its quick assets. In this case, stock is excluded from the current assets since it is considered less quick asset as it would take quite some time to convert it to sales. It is calculated by the dividing the value of current Assets less stock using the value of current liabilities. It is favorable when it is at ratio 1:1. Concerning Apple Incorporation, the ratios are as follows- RATIO FORMULA YEAR 2012 ($ IN MILLIONS) YEAR 2011 ($ IN MILLIONS) Current/ Working capital Ratio (Current Assets/Current Liabilities) (57,653/38,542) = 1.5:1 (44,988/27,970) = 1.6:1 Quick/ Acid Test Ratio (Current Assets-Stock)/Current Liabilities (57,653-791)/38,542 = 1.48:1 (44,988-776)/27,970 = 1.58:1 The liquidity position of Apple incorporation is not so strong as indicated by the Liquidity ratios hence the it is quite hard for the company to easily convert its current assets into cash to take care of its short term obligation. This scenario is created largely because of the industry in which the company operates which does not allow it to hold many current assets. Most of its current assets are in the form of short-term marketable securities and receivables. The conversion of marketable securities will largely depend on the demand of the firms securities. The favorability of the Current ratio has therefore declined from 1.6:1 in the year 2011 to 1.5:1 in the year 2012. This is way below the recommended standard of 2:1 indicating that it would be much harder for the firm to be in the position of taking care of its short-term obligations in time. Though the quick ratio has improved from 1.58:1 in 2011 to 1.48:1 1 in 2012, it is still far from the recommended which is ratio 1:1 worsening the liquidity standing of Apple Inc. In order to solve this problem so that the operations of the company are taken back to normal, the management should find a way in which the business invests more in current assets. This will be in contrary to the present situation where most of the investments by Apple are on Long term and intangible assets. The changes should strive to take the current ration towards the normal 2:1 while taking the quick ratio to a ratio 1:1. Efficiency or Activity ratios This is the third category of ratios we want to discuss with concerning Apple Incorporation. These ratios are also called asset turnover ratios or assets management ratios. Such ratios include the inventory turnover ratio, the total assets turnover ratio, and the fixed assets turnover ratio. These ratios have the role of measuring how effectively a company or a business utilizes its assets as well as how well it is able to mange its liabilities. The ratio therefore comfortably calculates the turnover of receivables as well as the general use of inventory and machinery. Efficiency ratios can calculate the turnover of receivables, the repayment of liabilities, the quantity of usage of equity including the general use of inventory and machinery. These ratios have more meaning when compared to their peers in the same industry or when compared between two financial periods as they have the impact of clearly showing businesses that are managed better than the others are or show if management has improved between one financial year and the next. For Apple Incorporation we will look at Rate of stock turnover, which is a ratio between the Cost Of sales and average stock. It shows the frequency of converting stock into sales and the higher the frequency the better for the firm. We will thereafter look at the fixed assets turnover, which depicts the extent to which fixed assets, contributes to turnover. Finally, we look at the Total Assets turnover and indication of the number of times total assets will contribute towards sales made during a given period. The ratios are as shown below- RATIO FORMULA YEAR 2012 ($ IN MILLIONS) YEAR 2011($ IN MILLIONS) Rate of Stock Turnover (Cost Of Sales/Average Stock) (87,846/791) = 111.06 times (64,431/776) = 83.03 times Fixed Assets Turnover (Sales/Fixed Assets) (156,508/118,411) = 1.32 times (108,249/71383) = 1.52 times Total Assets Turnover (Sales/Total Assets) (156,508/176,064) = 0.89 times (108,249/116,371) = 0.93 times The rate of stock turnover is so high and it has improved from the year 2011 where it was 83.03 times to a higher 111.06 times in the year 2012. This indicates that the rate of conversion of stock experiences an efficiency that is above normal. The rate at which Fixed assets are converted into sales is also favorable at above value one. However, the ratio decreased in the current year as opposed to the original year it still stands at 1.32 times, which is still above the average one. The fixed assets of Apple incorporation are therefore quite efficient in contributing to its sales turnover. Given constant sales and a higher value of the fixed assets, the value of the total assets turnover is slightly below one standing at 0.89 times in the current year. Capital structure ratios The capital structure of any firm is the mixture of long-term debt, specific short-term debt, and common equity together with preferred equity. A capital structure is therefore the mode in which a firm finances its broad operations and opportunities of growth given the sources of funds. Debt exists in the forms of bond issues or long-term notes payable while equity exists in the form of common stock, preferred stock or retained earnings. As part of capital structure, working capital requirements would be considered as well (Dess 2012 pg. 189). These ratios are therefore ratios that are concerned with the financed by part of the financial statements. Among these ratios, we have the debt ratio, which shows the total assets and how they are financed by the total liability. It is therefore the ratio of the total liabilities and the total assets. Alongside this, we have the equity ratio. It is the ratio of equity capital to that of the total capital employed showing the proportion occupied by equity capital within a given capital structure. These two ratios as shown by Apple Incorporation balance sheet will be as follows- RATIO FORMULA YEAR 2012 YEAR 2011 Debt Ratio (Total Liabilities/Total Assets)*100 (57,854/176,064)*100 =32.86% (39,756/116,371)*100 = 34.16% Equity ratio (Equity capital/Total capital Employed)*100 (16,422/118,210)*100 = 13.89% 13,331/76,615)8100 = 17.4% From the ratios, we are able to see that the ratio of liabilities to assets within the company is averagely at 32% within the current year. This brings confidence in the firm because the situation cannot go a long way in making the firms liquidity worsens. The equity proportion to that of the capital employed is also not so much. Actually, it stands at 13% in the current year meaning that equity holders do not have total control of the firm through equity ownership. However, the firm does not also employ debt capital but instead plough back the profits they get from their operations. Apple is a firm whose management fears control that would emerge due to ownership by debt holders. The company should therefore, continue attracting more equity shareholding a scenario that would go along way in minimal control. Management would therefore be easier hence prospects of growth of the company. Role and Significance of Ratio Analysis The accounting statements as they are of very little importance to the users as they only give the financial figures in summary. Ratios analysis is therefore quite significant to the users as they aid the users in unearthing the truths in terms of results and financial position as shown by the financial statements. Ratios derived from ration analysis therefore have the roles of providing information to the users and such information helps the users in making important business decisions (Dess 2012). Ratio analysis can therefore, be used to find out whether a company is efficient in the use of its resources to achieve the desired outcomes or not. A company on the other hand may be indicating good financial performance while there ore weaknesses which if eliminated may make the company perform better. Ratio analysis can be used to detect such weaknesses and make suggestions on how to rectify them. Ratio analysis is also used in planning, using a company’s limited resources it may be possible for the company to lay down a road map of its future performance by way of setting targets based on ratios. Ratios and their analysis are therefore important apart from having a few limitations such as not being able to give reasons for changes in ratios at times, and the inaccuracies of some ratios at times (Dess 2012). Therefore ratios and ratio analysis is very important when one wants to know all the aspects of a company’s operations and in planning. Whether such operations are worthwhile and whether they add any form of value to the corporation. A company like Apple is vastly affected by both foreign exchange risk as well as interest rate risk due to its worldwide operations. The management of such risks to a required level is therefore key to the success of the company. References Dess, GG, 2012, Strategic management: text and cases (6th ed.), McGraw-Hill/Irwin: New York. SEC FILLING, n.d., FROM 10-K ANNUAL REPORT. Retrieved December 17, 2013, from http://investor.apple.com/secfiling.cfm?filingID=1193125-12-444068Find a website by URL or keyword. Read More