Financial Performance Comparison - AT & T and Exxon Mobil - Case Study Example

Financial performance comparison of the Table of Contents Introduction 3 Importance and objectives of the study 3 Financial comparison 3 Profitability ratios 3 Net profit margin 3 Return on capital employed (ROCE) 4 Liquidity ratios 5 Current ratio 5 Quick ratio 6 Efficiency ratio 7 Asset turnover ratio 7 Receivables turnover ratio 8 Solvency ratios 9 Debt to equity ratio 9 Debt to capital ratio 10 Investment ratios 11 Interest coverage ratios 11 Earnings per share (EPS) 12 Investment decision 13 Conclusion 14 References 15 Introduction The purpose of the current paper is to facilitate understanding how financial performances of companies are carried out. The performance assessment has been conducted on the basis of ratio analysis for selected companies. Based on the results acquired, recommendations for suitable investment decisions have been made. AT & T and Exxon Mobil are the two companies which have been selected in the current paper. Exxon Mobil is a global oil and gas firm with an operating income of almost $420.836 billion in the year 2013. The company holds an important share in the overall development of the oil and gas sector of the U.S. AT & T is also one of the most famous telecommunications company with revenue of almost $128.752 billion (AT & T, 2013). Financially both the firms have remained attractive for investors, contributing adequately to their respective industries Importance and objectives of the study The prime objective of the study is to gain information regarding the manner in which investment decisions are made. Such financial decisions are based upon the results obtained from financial statement analysis using tools such as ratio analysis. The study also aims to provide adequate understanding regarding the manner in which ratio analysis is conducted for companies. Ratio analyses facilitate understanding the strengths and weaknesses of a firm and accordingly take investment decisions. Managers utilize ratios for making financial plans for the forthcoming years and to study the firm’s performance in comparison with others in the same industry. Financial comparison Profitability ratios Net profit margin The ratio shows the net profits earned by an organization in comparison with sales. A high net profit margin indicates that the company is able to suitably meet its interests and tax obligations and thereby retain higher revenues for paying dividends to shareholders and for making investments. Investors use the net profit margin to gauge profitability and accordingly make investments. Increase in operational costs and other administrative and selling expenses directly impacts the ratios (Palepu, & Healy, 2007). The ratio is calculated as: Net profit ratio= Net profit / sales revenue The net profit position of AT & T more than Exxon. In case of Exxon, the net revenues had declined from the year 2012 by a margin of almost 1.88 %. The net profits of the company were although rising continuously showing a rising trend, had fallen in the year 2013. The reason behind the decline is stated to the companies increased operating and administrative expenses due to expansion of business activities (Exxon Mobil, 2013). The company had started six major projects in 2013. In case of AT & T the revenues of the company had grow massively from the year 2012 to 2013. The net profit had almost doubled. The company’s net profits had fallen in the years 2011 and 2012 but the position was revived in the year 2013 (AT & T, 2013). Return on capital employed (ROCE) The ROCE ratio helps in the identification of the manner in which a firm is able to convert its investments into profits. The ratio compares net revenues with the capital invested. It provides investors with the information regarding whether the investments made by them will be utilized properly by the firm to develop profits (Palepu, & Healy, 2007). The formula for calculating ROCE is as follows: ROCE= Net operating profit / capital employed The return on capital employed for Exxon is more positive and acceptable than AT & T. The company in the recent times has been successful at raising its ROCE by almost 17%. A number of projects of the company had reaped positive returns providing the company with high profits on investments (Exxon Mobil, 2013). In case of AT & T the returns on capital employed have remained low. This is due to weaker position of cash flows and operating profit cycle (AT & T, 2013). Liquidity ratios Current ratio The current ratio measures short term liquidity position. Liquidity essentially means the manner in which an organization is able to meet its short term expenses and pay off operational debts. A positive current ratio ensures that liquid cash availability in the organization is positive and operations can be carried on with stoppages (Palepu, & Healy, 2007). The ratio is calculated as follows. Current ratio= Current assets / current liabilities The current ratio position of Exxon is seen to be more suitable than AT & T. This is due to the aspect that the company’s increased investments in the recent past had generated positive profits. However due to the recent investment activities the company’s current ratios have declined by almost 0.18% in the year 2013. The decline in current ratio for AT & T was however only 0.05% (AT & T, 2013). Quick ratio Quick ratio depicts firm’s generation of immediate liquid cash so that day to day cash requirements can be effectively be met without any stoppages (Lewellen, 2004). The quick ratio is calculated as follows: Quick ratio= Current assets- inventories- prepaid assets / current liabilities The quick ratio position of Exxon is seen to be more favorable due to the firm’s efficient management of inventory management cycles. It also depicts that the company is able to convert its finished products into revenue at a much faster rate. However, compared to the previous year’s quick ratio position, the company’s position in the year 2013 had fallen (Exxon Mobil, 2013). Efficiency ratio Asset turnover ratio The asset turnover ratio depicts how effectively a firm can generate revenue through proper utilization of assets. A high asset turnover ratio signifies that the firm’s investment in assets has been successful at providing it with high returns (Lewellen, 2004). The ratio is calculated as follows: Asset turnover ratio= sales revenue / total assets Exxon had recently invested in a number of projects that has raised its capital expenditure. Accordingly the company’s asset turnover ratios had also increased. The company had increased its expenditure upon assets by $1.8 billion. This had raised the firm’s revenue earning capability. The company’s revenue for the year 2013 was almost $3.8 billion (Exxon Mobil, 2013). Receivables turnover ratio An efficient receivables turnover is essential for a firm in order to maintain adequate levels of free cash flows. The receivables turnover ratio is a suitable indicator of a firm’s ability to sell products in the market and convert finished products into revenues (Lewellen, 2004). The ratio is calculated as follows: Receivables turnover ratio= Cost of goods sold / average receivables Receivables turnover position of Exxon is seen to be more favorable than AT & T. The company has been successful at increasing its overall level of receivables turnover by almost 1.73%. On the other hand, AT & T’s receivables ratios are also seen to increase but at a lower rate than Exxon. AT & T has remained successful at increasing its revenues by 1.9% (AT & T, 2013). Solvency ratios Debt to equity ratio This ratio indicates the level of debt risks which exists in an organization. When the ratio is high, a firm is required to pay a higher amount of fixed revenue as interests on debts, thereby lowering the revenues available for shareholders (Lewellen, 2004). The ratio is calculated as follows: Debt equity ratio= Long term liabilities / stockholders equity The debt to equity ratio of position of Exxon is more favorable since it is lower in comparison with AT & T. A high debt equity ratio indicates high risk. Potential investors in shares prefer that the debt equity ratio remains low. AT & T has financed more than 40% of its capital expenditure incurred for the new project by way of debt capital while Exxon finances its new projects through debts by only 15.56% (AT & T, 2013: Exxon Mobil, 2013). Debt to capital ratio This ratio indicates the proportion of debts in the overall capital structure of the firm. The lower the ratio, the better is the risk position of the firm. This ratio is considered as a more reliable technique of measuring risk position than debt equity ratio (Brigham & Ehrhardt, 2013). The debt capital ratio is calculated as follows: Debt to capital ratio= Interest bearing capital / Interest bearing and equity share capital The debt to capital position of Exxon is seen to be more favorable than AT & T as they are lower. This is due to the aspect that the company has higher levels of equity than AT & T (AT & T, 2013: Exxon Mobil, 2013). Investment ratios Interest coverage ratios Interest coverage ratio compares the earnings of a firm in respect of the interest paid by the same. In order to maximize profits for the shareholders, it is essential to maintain a low interest coverage ratio (Brigham & Ehrhardt, 2013). The ratio is calculated as follows: Interest coverage ratio= Earnings before interest and tax / Interest expenses Exxon has not accounted for any interests payments in the last five years on its debt. The interest payments on debt were relatively low as compared to the company’s net earnings. Earnings per share (EPS) EPS indicates a company’s potency to pay dividends to its shareholders. The higher the EPS level, the better is a firm’s image (Brigham & Ehrhardt, 2013). EPS ratio is calculated as follows: EPS= Earnings available to shareholders / weighted average outstanding shares AT & T has incurred negative earnings while Exxon’s EPS positions are not so negative. This makes Exxon a relatively better firm to invest in contrast with AT & T. However in terms of the last financial year, the EPS position of AT & T is seen to be more favorable. The company has been able to bring about an increase of 23% in its dividends. This has resulted out of rise in the earnings available to shareholders (AT & T, 2013: Exxon Mobil, 2013). Investment decision On the basis of the ratio analysis conducted, the performance of each company analyzed in the paper has been converted into rankings. Ranking 1= 20 2=10 AT & T Exxon Mobil Ranking points Ranking points Net profit margin % 1 20 2 10 Return on capital employed 2 10 1 20 Current ratio 2 10 1 20 Quick ratio 2 10 1 20 Asset turnover ratio 2 10 1 20 Receivables turnover ratio 2 10 1 20 Debt to equity ratio 2 10 1 20 Debt to capital ratio 2 10 1 20 Interest coverage 2 10 1 20 EPS 1 20 2 10 Total 120 180 The above analysis reveals that Exxon is in a better financial position for making investments than AT & T. The company has an average rate of return on all its projects at the rate of 18.5% (Exxon Mobil, 2013). It has achieved significant growth and has been able to maintain steady profits throughout. Although the overall performance of the company had deteriorated in the year 2013 as evaluate against the year 2012. It is expected that in future the company will be able raise existing levels of revenue, through expansion, so as to continue providing increased returns to shareholders. Conclusion Investment decisions require careful analysis of a firm’s financial performance. Ratios are therefore considered to be an effective technique for analyzing and comparing the performances of different types of companies. On the basis of the ratio analysis conducted, Exxon Mobil is seen to be a better firm for making investments. Additionally, due to saturation of the telecommunications market of the U.S and increased competition, many firms such as AT & T have not been able to achieve high growth. This has resulted in a fall in the overall level of the firm’s income levels. Comparatively, Exxon is a more profitable firm. References Palepu, K. & Healy, P. (2007). Business analysis and valuation: Using financial statements. Connecticut: Cengage Learning. Lewellen, J. (2004). Predicting returns with financial ratios. Journal of Financial Economics, 74(2), 209-235. Brigham, E. & Ehrhardt, M. (2013). Financial management: theory & practice. Connecticut: Cengage Learning. Exxon Mobil. (2013). Summary Annual Report. Retrieved from http://cdn.exxonmobil.com/~/media/Reports/Summary%20Annual%20Report/2013_ExxonMobil_Summary_Annual_Report.pdf AT & T. (2013). Mobilizing Our World: Annual Report. Retrieved from http://www.att.com/Investor/ATT_Annual/2013/downloads/ar2013_annual_report.pdf Read More