Financial Ratios of Elmbank Ltd - Assignment Example

Financial ratios: Elmbank Ltd Name Institution Financial ratios: Elmbank Ltd Introduction Financial ratios are important to any business organization because they help in analyzing the financial position of the organization. This information is important to especially to investors who normally need to know if a business is profitable before they can invest in. it is also important to the management because it helps it to know the performance of the organization which helps it to come up with strategies to improve the performance incase it is declining. Financial ratios in 2012 1. Current ratio Current ratio=current assets/current liabilities =4470/2407 =1.857 A current ratio of 1.85:1 means the business has enough liquidity to settle all its current liabilities. The company had enough current assets to pay off its debts. The value of the current ratio indicates a good financial strength of the company and the company was unlikely to run into financial problems (Gibson & Charles, 2012). 2. Acid ratio Acid test ratio=current assets-inventory/current liabilities =4470-2470/2407 =0.831 In 2012, the company had too much of its current assets tied up in inventories and it was not in a position to pay off its short-term debts (Lee, Lee & Lee, 2000). The company was cash poor. It means that it had to sell its inventories for it to settle its short-term debts. 3. Cash ratio Cash ratio=cash+ marketable securities/current liabilities =0/2407 =0 The company had no cash in 2012. This means that it did not have enough assets in cash form to settle its debts. It had to depend on other assets. The company was therefore not financially sound. 4. Debt ratio Debt ratio=total debt/total assets =15407/28278 =0.545 54.5% A debt ratio of 54.5% means that the company had more assets than liabilities and therefore depended less on leverage, that is, money borrowed from others. The company had a stronger equity position meaning that there was less risk of it becoming bankrupt should all the creditors demand their money back (Babihuga, 2007). 5. Debt-to-equity ratio Debt-to-equity ratio=total debt/total equity =15407/12871 =1.20 =120% The debt-to-equity of 120% implies that in 2012, the company had more investment from creditors than shareholders did. For every one dollar invested in the company by shareholders, there was a 1.2 dollars investment from creditors. The company had a weaker equity position, and based on this, it was not financially sound (Babihuga, 2007). This is because it did not have enough investment from shareholders that could pay off creditors. It means that for the company to settle all its debts, it had to sell some of its assets. 6. Gross profit margin Gross profit margin=sales-cost of goods sold/sales =25000-13000/25000 =12000/25000 =0.48 48% A profit margin of 48% means that the company registered a profit of 48% on every dollar invested. This is a good indication because the company generated higher profits from the invested assets. 7. Return on assets Return on assets=net income/total assets =1788/28278 =0.063 =6.3% The return on assets of 6.3% is low. It means that that the effectiveness of the company in investing is relatively poor. The profit earned from invested capital is low in the company. Return on sales=net income/sales =1788/25000 0.072 7.2% The operating efficiency of the company was low in 2012. A return on sales value of 7.2% shows that the company is still not efficient enough in terms of how much profit is earned per dollar of sales (Lee, Lee & Lee, 2000). However, a profit of 7.2% per dollar of sales is good enough to propel the company to financial growth. 8. Return on equity Return on equity=net income/shareholder’s equity =1788/12871 =0.14 =14% The profit on the shareholders’ investment was considerably high. This was a good indication especially to shareholders because it meant that they would get higher dividends from their investment. 9. Operating efficiency Operating sufficiency=business revenue/total expenses =25000/23212 =1.08 In 2012, the company was self-sufficient. It did not depend on grants or any other funding for its operation. It could afford to offset all its expenses using the money earned through sales. 10. SGA to sales SGA to sales=indirect costs/sales 9410/25000 =0.38 The low SGA to sales indicates that the company could control its overhead costs. The overhead costs were not beyond the company’s capability to handle. 11. Operating expense ratio Operating expense ratio=operating expenses/total revenue 22410/25000 0.9 The company is efficient in its operations. This is because the operating expenses do not exceed the total revenue collected by the company. However, a value of 0.9 shows that the company spends much of its revenue on operating expenses. Financial ratios in 2013 1. Current ratio Current ratio=current assets/current liabilities =7752/3213 =2.41 The current ratio of 2.41:1 means that the company had enough current assets in 2013 to offset the company current liabilities. This is a good indication because it shows that the company was in a good financial position. It was also an improvement on the current ratio in 2012, which was 1.857. This means that the current assets of the company increased between 2012 and 2013. 2. Acid test ratio Acid test ratio=current assets-inventory/current liabilities =7752-2772/3213 =4980/3213 =1.55 In 2013, the company had most of its assets converted to cash. There was an improvement on the quick ratio attained in 2013 as compared to the one attained. In 2013, the company was in a position to settle the quick debts because it had enough assets in that could easily be converted to cash. 3. Cash ratio Cash ratio=cash+ marketable securities/current liabilities =360/3213 =0.11 In 12013, the company had some cash that could be used to settle its debts. However, it was enough because for every one dollar of debts, there was only 0.11 of a dollar to settle it. This means that the company had to look to other sources for cash to be able to settle its debts in cash (Lee, Lee & Lee, 2000). The company did not have enough cash float. However, there was an improvement on the cash ratio in the company in 2013 as compared to 2012, which did not have assets in form of cash. 4. Debt ratio Debt ratio=total debt/total assets =11213/33170 =0.338 The debt ratio of 0.33:1 means that the company had more assets than liabilities in 2013. The debt ratio is less in 2013 as compared to 2012. This means that the company’s assets had considerably increased between 2012 and 2013 as compared to liabilities. Therefore, the company had a stronger equity position in 2013 as it depended less on borrowed assets (Gibson & Charles, 2012). Debt-to-equity ratio=total debt/total equity =11213/21957 =0.51 =51% The debt-to-equity ratio of 51% means that the company had more investment from shareholders than from creditors. The company had a stronger equity position as compared to 2012. The debt-to-equity ratio value in 2013 is less than the one in 2012 showing that shareholders’ investment in the company had considerably increased (Gibson & Charles, 2012). The company was no longer in a financial risk because of the reduced creditors’ investment. 5. Gross profit margin Gross profit margin=sales-cost of goods sold/sales =18900/42000 =0.45 =45% A profit margin of 45% shows that the company made good profit from its investment. However, compared to 2012, the profit margin in 2013 had reduced. 6. Return on assets Return on assets=net income/total assets =2086/33170 =0.063 =6.3% The return on assets of 6.3% is low. This shows that company was less effectiveness in terms of generating profits from its assets (Babihuga, 2007). The return on assets value of 2013 is the same as that of 2012 showing that the company had not registered any improvement in terms of generating profits on its assets. 7. Return on sales Return on sales=net income/sales =2086/42000 =0.05 =5% The profitability of the company in 2013 was low. The company was not very profitable on its sales. There was a reduction in the profitability of the company in 2013 as compared to 2012. However, a profit of 5% per every dollar of sales was still enough to make the company financially sound (Lee, Lee & Lee, 2000). 8. Return on equity Return on equity=net income/shareholder’s equity =2086/21957 =0.095 =9.5% The profit on shareholders’ investment was high in 2013. A profit of 9.5% per dollar of shareholders’ investment indicates that the company is efficient in generating profits (Khan & Jain, 2004). However, return on equity in 2013 was low as compared to the one attained in 2012. 9. Operating efficiency Operating sufficiency=business revenue/total expenses =42000/39914 =1.05 In 2013, the company was also self-sufficient. The revenue generated by the company was enough to offset the expenses incurred. This means that the company did not depend on any external funding for its operations (Lee, Lee & Lee, 2000). However, the company witnessed a slight reduction in its self-sufficiency in 2013 as compared to 2012. 10. SGA to sales SGA to sales=indirect costs/sales =15680/42000 =0.37 The low value of SGA to sales implies that the company was in control of its overhead costs in 2013. The revenue generated in this year was enough to pay off all the company’s expenses. The company therefore did not depend on external source of revenue for its overhead operations. 11. Operating expense ratio Operating expense ratio=operating expenses/total revenue =38780/42000 0.92 The company was efficient in its operations. This is seen in the low operating expense ratio. The company was able to offset all its expenses from the revenue generated. The total expenses did not exceed the company’s revenue showing that the company was efficient in its use of resources to take care of its various operations (Babihuga, 2007). However, there was a slight reduction in the operating efficiency of the company due to a slight increase in the operating expense ratio value. In addition, the operating expense ratio of 0.92 shows that a big part of the company’s revenue is used on expenses reducing its overall efficiency. 12. Sales growth Sales growth=current period-previous period sales/previous period sales =42000-25000/25000 0.68 68% The company registered a sales growth of 68% between 2012 and 2013. This shows that the company has been experiencing a growth. The increase in sales also implies that the company’s profits have been increasing between the two periods. A sales growth of 68% also shows that the company has been keeping up with increase in costs and inflation. The other information that would have been useful in determining how the company is performing was interest coverage. The company should have provided information on the interest charges so that it can be determined whether it is earning enough profits to cover the interest charges (Gibson & Charles, 2012). This information is crucial especially to investors who would want to know whether the company is making enough money to pay off all the expenses. Other information that is required to show the potential of the company to grow in future include dividend yield and payout ratio. These dividend policy ratios provide an insight into the prospects for the company to grow in future and the dividend policy of the company. Such information is of interest especially to shareholders and other investors who would want to know how much they are likely to earn from their investments in terms of dividends. Elmbank Ltd is the right company to invest in because of a number of reasons. The company has been experiencing a steady growth from 2012 to 2013 and shows the potential to grow further. A number of factors show this. One of them is that the company has experienced an increase in the assets and this means that it can settle its liabilities with ease. This is shown in the increase of the current ratio from 1.85:1 to 2.4:1 in 2013. The company has also shown growth of shareholders’ investment (Khan & Jain, 2004). The company has also a strong equity position. This is shown by the increased investment from shareholders and reduced investment from creditors. For instance, in 2013, the company registered a debt-to-equity ratio of 51% implying that creditors’ investment in the company was 51% only of the shareholders’ investment. This means that the company is not at a risk of becoming bankrupt should the creditors demand to be paid their debts in full. The company is also profitable. This is shown in the large gross profit margin values of 48% and 45% in 2012 and 2013 respectively. These values indicate the company is focused on generating profits. This means that one’s investments are likely to earn huge dividends in this company. The company has also been registering good returns on assets and sales showing efficiency in the company’s mode of investment. Profits on shareholders’ investments are also high in this company. This shown by the high return on equity values in the two years. The company is also efficient in its operation implying that it does not spend more than it earns. The company is also in control of its overhead expenses (Lee, Lee & Lee, 2000). The revenue generated by the company are enough to offset the expenses meaning that it is not at a risk of running into debts. The company is also self-sufficient. It has the capability to run its operations without external funding. This means that the company is not at risk of running into financial problems due to withdrawal of grant revenue or external funding. The company has also enough assets that can easily be used to settle quick debts (Babihuga, 2007). This is shown in the large quick ratios in the two years. The company also experienced growth in terms of cash in 2013, which could be used to settle debts and although it was still low, the improvement from the previous year 2012 shows the company has potential of increasing its cash float. Lastly, the company has potential to grow further. This is shown by the increased sales between 2012 and 2013. This means that an investment in the company is likely to earn huge dividends with time because of the increased profits due to the increased sales. Generally, Elmbank Ltd is a financially stable and a profitable organization, which makes it eligible for investment. Bibliography Babihuga, R. (2007). Macroeconomic and Financial Soundness Indicators. Washington, International Monetary Fund Gibson, Charles H. (2012). Financial Reporting and Analysis + Thomsonone Printed Access Card. South-Western Pub. Khan, M. Y., & Jain, P. K. (2004). Financial management ; Text, problems and cases. New Delhi, Tata McGraw-Hill. Lee, C. F., Lee, A. C., & Lee, J. C. (2000). Statistics for business and financial economics. Singapore, World Scientific Publ. Co. Peterson Drake, P., & Fabozzi, F. J. (2012). Analysis of financial statements. Hoboken: John Wiley & Sons Read More