Understanding and Interpreting Financial Statements - Essay Example

RUNNING HEAD: Finance and Accounting Finance and Accounting -- Understanding and interpreting financial ments of Name of Professor Date 1. Introduction Siemens AG (or “Siemens”) as an integrated technology company is into is engaged in electronics and electrical engineering. This can be seen in its various activities in the fields of industry, energy and health care. Its capacity to operate in six segments that include Industry, Energy, Siemens IT Solutions and Services, Healthcare, Equity Investments, and Siemens Financial Services could speak for its implied capacity to manage complexity which interests this researcher to investigate (Reuters, 2011a). This paper seeks to write a brief business report on the financial performance of Siemens, a German high tech company by comparing it with that of Nokia, one of its competitors in the industry. The value and limitations of using ratio analysis would be evaluated and accounting issues that would surface would be discussed. Recommendation to potential investors on the basis of findings from the analysis would be made accordingly, 2. Analysis and Discussion 2.1 Profitability over the past five years and management efficiency To understand the profitability of the company would lead for further understanding the rest of company’s financial report. Every business organization should aim for profitability as a way to recovering is opportunity cost of doing its business. Profitability therefore implies having more a net advantage for every business transaction for the company. Thus generally as expenses are incurred which would represent the cost, there should be corresponding benefit in terms of revenues. Deducting expenses that include cost of goods and service, cost of operation, cost of taxes and other expenses from revenues would therefore mean profit or net income from the for the company. This net income figure could also be divided with the amount of resources that the stockholders put into the business organization, would produce the return on equity (ROE). Comparing the Siemens’ ROE with Nokia and the rest of its average competitors would provide betters results of and analysis. Its five-year average return on equity (ROE) of 14% for Siemens indicates better superiority about its past performance in relation to the industry average of 8%. See Table A below and see Appendix A for more details. Such a 14% return on equity definitely entices investors, as it would mean that for every 100 euros, the investors expect returns of about 14 euros. These rates could be viewed as something scarce for a company like Siemens given the present condition of the economy (Slavin, 1996) in Europe and other parts of the world which still shows very lower GDP growth as compared with the past. See also Appendix C. Table A- Summary of profitability and efficiency ratios. Sources: (Siemens, 2011a, 2011b; Reuters, 2011a). This ROE indicates how much income or earning an investor can get from the amount of stock investment made (Helfert, 2001). Comparing the said ROE to an average rate of 1.5% based Euro base rate (Housepricecrash, 2011) or the equivalent of a risk free rate when investors just put their money in a bank; said investors would generally benefit from obvious advantage of earning at Siemens more than nine times the said rate. The Euro base rate could take the place of a risk-free-rate investment in the Europe that anyone could earn without doing anything except to wait. Together with profitability, management’s efficiency needs to be determined as well. Return on equity (ROA), for five-year average, the rate of 4% for Siemens is lower than the industry average of 5% and that of Nokia at 11%. See Table A above. As ROA measures both profitability and efficiency Siemens’ management efficiency since this would mean relating net income with total resources used in business both from owners and creditors (Higgins, 2007). ROA normally means measurement of asset utilization in business. ROE in comparison assumes a different point of view as only the resources of investors is used as basis to evaluate the level of profitability or how much management whom they elected could compensate investor’s resources invested in Siemens. In using the two ratios, it appears that Siemens is less efficient than but more profitable than average competitors. However compared with Nokia, Siemens is both less efficient and less profitable. This would mean that Nokia was performing exceedingly better than normal. The seeming better profitability and less superior efficiency of Siemens from the positive ROE and ROA results as against the industry may be further examined or confirmed in Siemens’s average net operating margin and net profit margin. The resulting operating profit margins for the last five years averaged at 6% as against the industry average of 8% further sustaining less superior performance than average competitors, hence the issue must go down to net profit margin. See Table A above. The resulting less superior average net profit margin than industry did finally settle Siemens’ lower efficiency than the industry. As to the relevance of this profitability and efficiency information from the point of view of a prospective stock investor must be viewed with caution since there are basically historical which may differ from what may actually happen in the future should one make an investment afterward. Generally however, the profitability ratios although historical can be given predicting power with what will happen in the future than having no basis to know the future. It is less more sober to assume that a company will be profitable in the future if it has its past to tell what can happen in the future. 2.1 Liquidity Investors do not get limited in their information to profitability and efficiency. A company could be profitable in the first half of the year and not profitable in the second half of the year. Another criterion to evaluate as company is in terms of liquidity. Siemens can demonstrate liquidity it can to meet its currently maturing obligations with enough funds or working capital in the short-term period. This resource capability of any company including Siemens can be determined using the current ratio and the quick asset ratio. In the case of Siemens, the following information in Table B below summarizes some of the information. See Appendix A for more details. Table B- Summary of liquidity and financial leverage ratios; Sources: Siemens (2011a); Reuters (2011b, 2010c). Siemens’ current ratio is derived after its dividing it current assets its current liabilities. Current assets take for form of cash and cash equivalents, short term-term investments, receivables, inventories, and other current assets realizable within one year such as deferred income taxes and prepayments. Its current liabilities would account payable, accrued salaries, wages and benefits and other non-current liabilities (Siemens, 2011a, 2011b, 2011c). Quick assets for purpose of quick asset ratio or acid test ration would only be limited to cash and cash equivalents, short term-term investments, receivables from the current assets before relating the same to current liability by division (Helfert, 2001). As applied now to Siemens, its computed average current ratio for the years 2010, 2009 and 2008, 2007 and 2006 is 1.16 as against industry average of 2.12. The said ratio however is lower than that of Nokia which had an average current ratio of 1.54 .Its quick ratio on the other hand registered at 0.70 as five-year average as against industry average of 1.75. Both ratios for Siemens are lower than industry averages and Nokia, indicating less superior liquidity. Generally a current ratio of at least 1.0 can be still considered liquid as current liabilities is still matched by current assets and since Siemens simply had above the 1.0 level current ratio, the company can still be considered liquid. This may therefore indicate a capacity or its adequate working capital. See Table B above in relation to Appendix A. This may be the reason why the company is not restricted not to give dividends yearly (Siemens, 2011a). Investors should therefore not worry about is lower liquidity it can still meet is current obligations on time. In fact having excessive liquidity could mean mismanagement of funds if profitability is not maximized. Since the company was more profitable than the industry, its lower level of liquidity could be justified by having higher profitability, 2.3 Financial Leverage Another way to evaluate financial condition of Siemens is through its gearing ratio which measures its long-term capacity to keep up it stability over the long term. Usually measured by the debt to equity ratio, by dividing total debt of Siemens’ to its total equity, gearing ratio informs investors that Siemens will not just survive in the short term but it must also have a long life to recover its long term investments with the required returns. The debt to equity ratio average for the past five years of Siemens is 2.47 as against industry average of 0.20, which makes it more than ten times less superior than the industry average. This signifies that the value Siemens investments from stockholder are less strong for as against its competitors. This high leverage is still less superior than Nokia with debt to equity ratio of 1.53 as five-year average. See Table B above in relation to Appendix A. Such an evidence of a highly leveraged capital structure shows a high risk. This would mean that Siemens may not be considered securely able to make further growth in capital investment in the future without falling to be further riskier than present competitors were. Otherwise stated, Siemens would be less able to manage its long terms risks so that its profitability may experience pressure to have enough funds to meet its currently obligations as well as to provide good amount of dividends or returns to investors. 2.4. The firm’s stock price in relation to financial ratios The graph in Appendix B indicates the changes in monthly value per share over the five year period for Siemens. The fall in the price is notable in 2009 as a result of the financial crisis but the company was able to bounce back with sustainable strength since then up to this point. Reaching pre-financial crisis level gives confirmation to the company’s capacity to maximized shareholder value in the lights of having high profitability but lower liquidity and less superior financial leverage than the industry. 3. The dividend policy A dividend policy is believed partly to increase the value of a company’s stock (Brigham and Houston, 2002) having such a policy may refer to how the company provides dividend to the shareholders as a matter of influencing the value of the corporation. The company has declared and paid dividend for the last five years and the same can be viewed as a sign of a dividend policy. A dividend policy exists for Siemens where the company regular declares a large part of its income as dividends. The company actually aims to have 30 to 50% of its net income to declared dividends in its targeted new dividend policy (Siemens, 2011a). 6. Conclusion Siemens’ higher profitability than industry average supported by a good stock price level could only speak of meeting the corporate objective of maximized shareholder’s wealth. Such high profitability and still acceptable efficiency of the company may most probably improve its low level liquidity and leverage position of the company. However, given a choice Siemens would rather choose wealth maximization objective (Van Horne, 1992). This might be the result of its dividend policy of giving a large part of income to shareholders yearly. From this researcher’ view, the more important purpose of the company is the maximization of shareholder value compared to competitors which should attract investors more Given also its lower PE ratio than industry average, the company can still further maximized shareholders wealth. Siemens could be inferred to have a good future as stock values could be up still in the future although its beta is slightly higher than the industry average for the last five years (Reuters, 2011b). Prospective investors are therefore advised to share with wealth presently promised to present shareholder. Investing with Siemens is therefore highly recommended. Investment with a Siemens, as a company belonging to a high tech industry was found to be a low-risk investment opportunity (AlixPartners, 2011). Appendices Appendix A -Summary of Financial Ratios; Sources: Siemens (2011a, 2011b, 2011c; Reuters, 2011b, 2011d) Appendix B - Share prices graph- last five years Source (Reuters, 2011c) Appendix C - GDP Growth in Euro Area; Source: (Trading Economics, 2011) References AlixPartners (2011). Press Release: High-Tech Industry Poised for Further Consolidation, Retrieved 28 October 2011 from < http://www.alixpartners.com/en/MediaCenter/PressReleaseArchive/tabid/821/articleType/ArticleView/articleId/151/High-Tech-Industry-Poised-for-Further-Consolidation-According-to-AlixPartners-Study.aspx> Brigham and Houston (2002). Fundamentals of Financial Management, Thomson South-Western, London, UK Helfert, E. (2001). Financial Analysis: Tools and techniques: a guide for managers. McGraw-Hill Professional Higgins (2007). Analysis for Financial Management, Eighth Edition. The McGraw−Hill Companies Housepricecrash.co.uk (2011). Euro Base rat Retrieved 20 October 2011 from Reuters (2011a). Company Overview-Siemens. Retrieved 28 October 2011 from http://www.reuters.com/finance/stocks/companyProfile?symbol=SI.N> Reuters (2011b). Industry Ratios. Retrieved 28 October 2011 from < http://www.reuters.com/finance/stocks/financialHighlights?symbol=NOK.N> Reuters (2011c). Stock price graph of Siemens for five year. Retrieved 28 October 2011 from < http://www.reuters.com/finance/stocks/chart?symbol=SI.N Reuters (2011d). Financial Statements 2006 to 2010 of Nokia. Retrieved 28 October 2011 from < http://www.reuters.com/finance/stocks/incomeStatement/detail?stmtType=CAS&perType=ANN&symbol=NOK.N Siemens (2011a). Annual Report 2010. Retrieved 28 October 2011 from < http://www.siemens.com/investor/pool/en/investor_relations/siemens_ar_2010.pdf > Siemens (2011b) - Annual Report 2008. Retrieved 28 October 2011 from < http://www.siemens.com/investor/pool/en/investor_relations/e08_00_gb2008.pdf > Siemens (2011c) - Annual Report 2006. Retrieved 28 October 2011 from < http://www.siemens.com/investor/pool/en/investor_relations/financial_publications/annual_reports/E06_00_GB2006_1418835.PDF > Slavin, S. (1996) Economics. Fourth Edition. London: IRWIN Trading Economics (2011). GDP growth for Euro Area. Retrieved 28 October 2011 from < http://www.tradingeconomics.com/euro-area/gdp-growth-annual > Van Horne, J. (1992) Financial Management and Policy. Prentice-Hall International. Read More