Analysis and Interpretation of Financial Statements: Intec Telecom Plc - Case Study Example

Contents Contents Introduction 2 A Brief Overview of Firm and its Business 3 Financial Analysis of the Firm 4 Liquidity Ratios 4 Current Ratio 4 Quick Ratio 5 Efficiency Ratios 5 Profitability & Return Ratios 6 Debt Ratios 8 Recommendations 9 References 11 Introduction Financial Analysis provides a critical insight into the manner in which an organization is managed. It offers an opportunity to assess as to how the managers of the organization are basically utilizing its assets and liabilities to generate and maintain value for the share holders of the firm. Not only the shareholders of the firm get a better of view of how managers are performing but external investors can also get a critical look into the overall historical performance of the firm and how it will perform in future.( Fridson, & Álvarez, 2002). Thus financial ratio analysis involves as to how the analyst actually carefully select the different pieces of data from the financial statements and use this data to get understanding of how the firm will actually perform in future based on the historical performance of the firm. Effectively financial analysis is the exploration of firm’s past financial performance and based on this analysis, it requires formulation of an effective forecast for estimating the future performance of the firm. Intec Telecom Plc (firm) is one of the leading organizations providing billing and mediation services to some of the best telecom carriers in the world. Some of its clients include AT&T, China Mobile, O2, T-Mobile etc. thus it offers a wide range of services to some of the top ranking telecom companies of the world.1 This paper will therefore provide financial analysis of the firm during the year 2008-2009 and based on this analysis recommendations will be formulated as to whether the investors should buy the stock of this firm or not? A Brief Overview of Firm and its Business As described above that the firm is one of the leading organizations in the world offering billing and mediation services to leading telecom services providers in the world. It’s proud of providing its services to 60 of the top 100 telecom firms in the world and list of customers include clients such as China Mobile, O2, AT&T, Vodafone etc. It is also important to note that the firm has been highly efficient in terms of retaining its top customers and most of its customers are with it since the inception of the firm. This indicates that the firm has been able to consolidate its position in the market. Some of the services provided by the firm include retail billing and management of customers, multi-service meditation and activation services, inter-carrier billing settlement as well as the wholesale services. These services are offered through a range of products and with a total workforce of over 1600 employees. What is also important to note that the company offers services at the global level too through a well trained staff of over 900 employees taking care of the global requirements of the customers of the firm.2 The next section will provide a detailed analysis of the financial performance of the firm during 2008- 2009. This analysis will therefore provide a critical insight into the performance of the firm during this period and will help making recommendations as to whether the stocks of the firm should be bought or not. Financial Analysis of the Firm There are various categories of financial ratios which can provide critical insight into the overall performance of the firm. Firm’s performance based on different ratios is discussed in following section. Liquidity Ratios Liquidity ratios provide a critical insight into the ability of the firm to pay off its immediate liabilities falling due within a period of 1 year. There are two basic ratios which critical identify the overall liquidity position of the firm i.e. current ratio and quick ratio. Current Ratio Current Ratio 2.12 2.46 Current ratio is calculated by dividing total current assets with total current liabilities of the firm.(Walton, 2000)3 The above table indicates that the firm’s current ratio has improved in 2009 as compared to 2008 i.e. in 2008 it was 2.12 and subsequently improved to 2.46. It is critical to note that a current ratio of 1:1 is considered as ideal because at that level, firm exactly matches its current assets with current liabilities. However, a higher current ratio also indicates that the firm may have tied up most of its resources in current assets. Current assets are mostly considered as non-productive assets thus it is critical that the current ratio is managed within an acceptable range i.e. not higher, not lower. Quick Ratio Quick ratio is more conservative measure of the liquidity of the firm and is calculated by subtracting the inventories from total current assets of the firm and dividing the resulting figure with total current liabilities. Since firm is a service oriented organization and does not carry any inventories therefore its current and quick ratios are same. Efficiency Ratios Efficiency ratios provide critical insight into the overall efficiency with which the firm’s total assets are managed. Some of the different ratios under this category for the firm are: Inventory Turnover 0 0 Average Collection Period 170.19 131.24 Fixed Asset Turnover 1.23 1.29 Total Asset Turnover 0.67 0.63 Inventory turnover indicates as to how many times the firm has been able to sell its inventory and replace the same. This is calculated by dividing the total sales of the firm with the average inventory. Since firm is a service oriented firm therefore it does not hold any inventory therefore its inventory turnover is zero. Average collection period indicates the number of days it takes the firm to recover its sales made on credit to its customers. Firm has been able to reduce its average collection period by almost 40 days indicating a marked improvement in the overall collection of accounts receivables of the firm. It is also critical to note these figures need to be compared with the industry averages in order to identify as to whether the overall collection strategy of the firm is in-line with the industry or firm is performing better in terms of collections. Further, low collection period may indicate that the firm’s credit extension policy may be tough and this may result into the lost sales for the firm in future. Total asset turnover of over firm indicates the efficiency with which the total assets of the firm have been managed. This ratio is calculated by dividing the total sales with the average total assets of the firm. This ratio for the firm is less than 1 in both the years and it has declined during the period indicating the management may not have been successful in managing the total assets of the firm in most efficient manner. Similarly, fixed asset turnover ratio indicates the efficiency with which the total fixed assets of the firm are utilized. This ratio for the firm has improved during the period indicating that the firm’s management was able to better utilize its fixed assets. It is however, critical to note that the firm is a services oriented organization therefore its reliance on fixed assets should be less. A better fixed asset turnover ratio may therefore indicate that firm is focusing its strategies on better utilizing assets which may not be entirely useful for managing its business. The overall assessment of the efficiency ratios of the firm therefore indicates that the firm has been able to improve some of the ratios whereas some of the key indicators such as total asset turnover are indicating the firm may not be utilizing the assets of the firm in most optimal manner. Profitability & Return Ratios Gross Profit Margin 50.48% 53.67% Operating Profit Margin 8.81% 13.98% Net Profit Margin 7.70% 22.85% Return on Total Assets (ROA) 5.15% 14.44% Return on Equity (ROE) 6.84% 18.75% Profitability ratios provide critical insight into the overall profitability of the firm during the period. Almost all profit indicators show considerable improvements in terms of achieving higher profitability levels. Gross profit margin which is calculated by dividing the gross profit of the firm with total sales indicates as to how much the company has been able to earn before deducting its indirect expenses from cost of sales. This ratio has improved by 3% from 2008 to 2009 indicating the firm has been able to reduce its cost of sales with respect to total sales. Operating margin is the most critical measure of assessing the profitability of the firm’s operations and measuring as to how profitable firm’s operations are. This is critical because net profit margin may provide misleading figures because of the inclusion of extra ordinary or one-off items in income statement which can inflate the figures. Operating profit margin for the firm has improved 5% during the two years indicating the firm’s operations were able to generate more profit for the firm during the period. A higher operating profit margin therefore may be of quite interest for the investors in building their overall future expectations about the firm and its ability to remain profitable in foreseeable future. Net profit margin of the firm has increased also by more than 15% however; this is mostly due to the tax credit which firm obtained during year 2009. This increase in profitability may therefore be not considered as an improvement in the overall profitability of the firm. Conservative approach therefore suggests that the firm should be able to achieve its profitability through its core activities and other sources of profits such as other income, tax rebates etc shall not be considered as the permanent sources of profitability for the firm. However, based on the operating margins of the firm, it can be concluded that the firm has been able to improve its profitability during 2009. Similarly, return on assets as well as the return on equity has increased too during the period indicating that the firm has been able to improve its ROE and ROA. However, this improvement specially in ROE may be the direct result of the tax credit obtained by the firm during 2009. Debt Ratios Debt Ratio 0.25 0.23 Times Interest Earned 37.29 286.21 Debt ratios indicate the extent of debt undertaken by the firm to finance its assets i.e. how much percentage of assets is financed by the debt. As the data suggests that the firm has very low debt ratio indicating that most of the assets are financed through internally generated equity of the firm. Further, the debt ratio during 2009 has declined by 2% indicating that the firm, in these difficult economic situations, adapted the strategy of reducing its debt in order to efficiently operate. Times Interest earned indicate as to how many times, firm was able to earn its interest expenses from its operations. Times interest earned ratio has increased manifolds during one year indicating that the firm’s operations were able to earn the interest. This abnormal increase may be a result of decrease in debt of the firm which ultimately has reduced the borrowing cost for the firm also and resultantly improving this ratio. Recommendations The above graph shows the movement of prices of the stock of firm from Jan 2010 to September 2010 indicating that the firm’s prices have remained volatile during the period. However, during the later part, the prices started to pick up owing to favorable results shown by the firm. This movement in the share prices also indicate that the overall sentiments of the investors are beginning to be favorable for the firm owing to its recent performance. Based on the analysis of the financial performance of the firm and the share price movement during the period, it is recommended that that stocks of the firm should not be purchased. This recommendation is based on the conservative analysis of the financial performance of the firm which indicates that the firm has been able to remain profitable owing to the transcations which were exceptional in nature. Though the firm has been able to rationalize its debt and improve its profitability, however, still there is lot to be done in terms of improving the net profitability of the firm and its improved risk profile. Investors are therefore advised to hold their investments rather than investing new money into the stock. References 1. Fridson, M & Alvarez, F (2002). Financial statement analysis: a practitioners guide. 3rd. ed. New York: John Wiley and Sons. 2. Walton, P (2000). Financial statement analysis: an international perspective. Illustrated. ed. London: Cengage Learning EMEA. Read More