Fortescue Metal Group Ltd Financial Analysis - Case Study Example

FORTESCUE METAL GROUP LIMITED FINANCIAL ANALYSIS NAME: LECTURER: COURSE NAME: COURSE CODE: DATE: Executive Summary Financial analysis refer to pragmatic assessment of the company’s financial performance, and stability in determining the appropriateness of investment. The financial ratio analysis technique is sensibly use which in examining the company’s firm’s financial performances and evaluating the firm’s relationship between financial data depicted in financial statement[Alt08]. The financial ratios are professionally used by users of financial statements to analyze the firm’s financial condition and position in meeting its outstanding financial obligation. The following are the Fortescue Metal Group Ltd (FMG) financial ratios for the year 2010 to 2013 financial statements. Table of contents FORTESCUE METAL GROUP LIMITED FINANCIAL ANALYSIS 0 Executive Summary 1 Table of contents 2 Introduction 4 Profitability Ratios 4 Net profit margin ratio 4 Return on Equity 6 Return on Assets (ROA) 7 Efficiency Ratios 8 Asset turnover 9 b.) Days Inventory 10 Liquidity Ratios 11 Current ratio 12 b.) Cash flow ratio 13 Capital Structure ratio 14 Equity ratio 14 Market Performance Analysis 16 Earnings per share 16 Dividend per share 16 Conclusion 17 Works Cited 19 Appendixes 20 Introduction Fortescue Metal Group Ltd (FMG) is a western Australian based company which was founded in 2003 and operates in iron production and exploration. The company’s headquarter is located in East Perth, Australia. Fortescue Metals Group Limited extensively produces and sells iron ore to China and South East Asia. The company holds various tenements reserves of over 2.34Bt of hematite covering the Chichester and Solomon hubs situated throughout the Pilbara region of Western Australia. The company primarily vested in joint venture with Hunam Valin Iron and steel group to increase the extension for its Glacial valley magnetite deposits. Profitability Ratios Profitability ratios are financial ratios used in determining the firm’s effectiveness in generating earnings from the major investments over the financial periods[Pen07]. When higher value are reported by the company, this indicates that the business advancing well in its operations over the last financial years. The profitability ratios are critically discussed under net profit margin, gross profit margin, return on equity and return on assets. Net profit margin ratio Net profit margin is profitability ratio that describes the company’s efficacy in generating earnings in relation to sales. Profit margin ratio shows the company’s financial strength in meeting operational expenses and generating surplus from sales of both goods and services[Cho08]. It is computed by dividing company’s net profits after tax by sales revenue reported in a financial year. When the company’s net profit margin is higher, it indicate that the company is capably converting its sales into actual earnings. Net profit margin = Fortescue Metal Group Ltd profit margin ratio depicts increasing profitability from 17.99% in financial 2010, 24.53% in 2011, 33.70% in financial year 2012 and slight decrease to 30.37% in 2013 financial year. FMG Company reveals a positive contribution in the four financial years ending 2013 thus indicating that the company revenue gathered the operating expenses[Pen07]. According to the company’s sensibility of profitability index depicted by a sequential increase the company’s sales revenue in the four financial years, the company reported a slight decrease depicts that the company operating expenses was more that it lessens the generated profits. However, the pragmatic net profit margin accentuates that the Fortescue Metal Group Company is profitable enough in meeting operating expenses and generates earning s generated attributable to investors at the end of financial years. Return on Equity Return on Equity is a profitability measures that depicts the amount of returns as a percentage of the shareholders equity contribution to the company. Return on Equity ratio assist the company shareholders to determine their returns on the equity invested in the company[Bal06]. The company return on equity ratio is the most valuable profitability and financial matrix that describes the viability of shareholders’ investment. When the company’s return on equity is higher this reveals the company’s good financial performance. As depicted from the table, Fortescue Metal Group shows an impressive increasing percentage ratio for every dollar of equity invested. In financial year 2010 the company’s return on equity was 39.22% where it increases in the subsequent year 2011 to 54.84% in and 60.15% in 2012. In the year 2013 Fortescue Metal Group Ltd return on shareholders reflects a decrease to 46.63% which describes that the company’s management has relaxed in enhancing greater earnings on the equity invested[Cho08]. The company show’s a sensible trend of respective increase in earnings contributed by increase in equity invested. From the table 2010, 2011 and 2012 income reveals a corresponding increase as the investment increases but in the year 2013, the company’s equity increase from $3,762,000 to $5,289,000 and unnerving $2,263,000 to $2,466,000. This therefore, shows that the company’s return equity invested fetches optimistic income thus viable for investment. Return on Assets (ROA) Return on assets is a profitability ratio that expresses the company’s efficacy in effectively utilizing assets to generate earnings. Return on assets is a major financial profitability index describing the amount of earnings a company makes per each dollar of the total assets invested[Alt08]. Return on assets takes in to consideration the company’s total assets comprising shareholders contribution and liabilities from company’s creditors. When company’s return on assets ratio is higher, it describes highly valuable and management efficiently utilizing company resources to generate earnings. 2. Return on assets (ROA) Year Return on assets 2013 2012 2011 2010 Fortescue Metal Group Ltd depicts an avarage contribution of each dollar on an asset invested. In financial year 2010, the company’s return on assets was 11.04% and it positively improve to 15.48% and 15.02% in 2011 and 2012 financial years respectively. In the subsequent year 2013, Fortescue Metal Group reveals a decrease in return on dollar of assets invested to 11.82%. From the pragmatic overview of Fortescue Metal Group assets invested between 2010 and 2013 financial years reveals an increasing trend from $5,247,065 to $20,867,000. However, the company’s return on the assets shows and increasing trend but unreflective to the increase in company’s assets. Efficiency Ratios The company’s efficiency ratios are financial ratios used to measure the company adeptness and effectiveness in proficiently utilizing the internal assets and liabilities to increase its financial health[Cho08]. The efficiency ratios depicts the company’s managerial initiatives in enhancing their competence in adopting predetermine measures that enhances the company’s operational activities in financial period. The efficiency ratios includes asset turn over, day’s inventory, and day’s debtors. Asset turnover The total asset turnover is an efficiency ratio that describes how efficient the company is in utilizing its assets to increase its product sales[Dep]. The company’s asset turnover ratio measures the management efficiency in utilizing its assets to embolden sales of the company in relation to its competitors. Asset turnover ratio provides analytical behaviors of the company’s assets productivity to the interested parties such as potential investors and the company’s stakeholders. Assets Turnover ratio = Year Asset Turnover Ratio 2013 2012 2011 2010 Fortescue Metal Group Ltd asset turnover ratio describes an average decreasing efficiency in utilizing the assets in making revenue. The company assets are not productive enough in generating revenue since the ratios are below 1 for the four financial years. The company reveals a fluctuating trend of its assets productivity since in financial year 2010 heading to 2013, the assets turnover ratio shows a slight increase from 0.61 in 2010 to 0.63 in 2011 and decreases slightly to 0.45 and 0.39 in 2012 and 2013 respectively. This signifies that the company is not consistent in its efficiency in utilizing the assets to generate revenue therefore it is not ciable for investing. b.) Days Inventory Day’s inventory ratio measures the number of times a business's inventory flows from selling to replacement of the entire batch of inventory. Day’s inventory turnover ratio is used to determine the company’s efficiency of inventory management. When day’s inventory turnover ratio is higher i.e. (shorter number of days) it indicates that the company is in better financial performance since it takes shorter time to convert its inventory to sales revenue. It is computed by dividing the sum total cost of goods sold by the company’s average inventory. Days inventory turnover ratio = average inventory / cost of goods sold x 365 Year Days inventory turnover ratio 2013 2012 2011 2010 From the table above, Fortescue Metal Group limited reveals increasing inefficiency in company’s turnover. From the financial year 2010, Fortescue Metal Group inventory ratio 32 days shows that company is efficient in converting its inventory to cash as compared to the subsequent years where the company show inefficiency the rate of converting its inventory from 55 days, 56 days and 68 days in 2011, 2012 and 2013 respectively. However, the essence of Fortescue Metal Group Ltd increasing inefficiency in tuning its inventory into sales signifies inefficiency in management control initiatives that aids in promoting company turnover[Ben081]. Liquidity Ratios Liquidity ratios are used to evaluate the company’s ability to meet its outstanding short term financial liabilities. The higher values of liquidity ratio describes that the company has a better edge of protection in meeting its short term financial liabilities when the fall due. The company’s liquidity is examine using current ratio, quick ratio, and cash ratio. Current ratio Current ratio is a liquidity ratio which reveals the company’s efficiency cycle of operation in turning its products to cash to increase the company’s liquidity in meeting current obligations. Current ratio indicates the company financial ability in meeting its short term financial obligations over the financial period by using its internal resources. The desirable current ratio is heighten to be 2, however the higher the current ratio the more liquid the company in meeting the outstanding short term financial obligations. Current ratio is calculated by dividing the current assets by the current liabilities Current Ratio = current assets / current liabilities Year Current Ratio 2013 2012 2011 2010 Fortescue Metal Group Ltd current ratio reveals a fluctuating trend in the company’s liquidity in meeting the current outstanding financial obligation when the fall due. In financial year 2010 towards 2011 the company reveals it increasing financial liquidity in settling the company’s current obligation from 2.35 to 3.13. This depicts that the company have measures that vest on the managerial initiative to increase the company’s solvency[Pen07]. Subsequently, in 2012 the company’s current ratio is reveals a decrease liquidity to 1.72 and in 2013 the company depict to improve it capability in meeting the current outstanding obligation as they fall due. Although current ratio is fluctuating it still signifies that the company is in a position to meet its current liabilities when they become due hence viable for investment. b.) Cash flow ratio Cash flow ratio is a liquidity index ratio that indicates the entity’s ability to cover its outstanding current obligations in utilizing the cash flows from operating activity. Cash flow ratio insinuates the scope of company’s capability in meeting the current liabilities using the cash from operating activities. Cash flow ratio = net cash flows from operating activities / current liabilities Year Cash flow Ratio 2013 2012 2011 2010 Cash flow ratio in the table above articulates fluctuating nature of the Fortescue Metal Group Ltd financial ability in meeting its short term financial obligation when they fall due in utilizing its cash from operating activities. Fortescue Metal Group cash flow ratio increases from 1.85 to 2.49 in financial years 2010 to 2011 respectively, this show that the company has increase it liquidity in meeting current obligation by using its cash flow from operating activities[Ben081]. Subsequently, in 2012, the company ability to meet current obligation decreases to 1.33 and increase in 2013 to 2.12. However this describes that the company’s management is triggered by poor financial liquidity that they take enough measures to increase their capability in suing operating cash flow to meet current obligation. Capital Structure ratio The capital structure ratio of a company measures the percentage of debt financing in relation to equity financing. The company’s capital structure ratio evaluates the companies’ long term financial strength which is described by the coverage and structural ratios[Bal06]. Capital structure ratio reflect the financing decision of a business where higher capital structure ratio describes an preeminent debt to equity proportion while low gearing ratio describes a low proportion of debt to equity that is favorable for the business. Equity ratio Equity ratio is a structural financial ratio that indicate the company’s relative proportion of equity applied to its finance the assets. Equity ratio describes the shareholder’s funds to the total assets in thus heightens the company’s prospective solvency position. The equity ratio describes the company’s overall financial strength since it provide sound test in the entity’s capital structure. When company’s equity ratio is higher i.e. more than 50% or greater contribution of shareholders’ funds to the capital describes that the company’s has healthier long-term financial solvency position. The formula for equity ratio = total equity / total assets x 100 From the table above, Fortescue Metal Group relied on equity financing more than debt financing within the four financial years. The company’s assets shows an exceptional increase from $5,247,065 in 2010 to $20,867,000 in 2013 with a less than proportionate increase in company’s equity. This describes that the company relied more the internal equity than debts to finance its asset in the four financial years[Cho08]. Equity ratio show an average but decreasing towards 2013. This reveals that the company is more solvent enough in financing of its assets in the four financial years. The company equity ratio in 2010 and 2011 shows average of 28% and in subsequent 2012 and 2013 financial years the company equity ratio shows average decreases trend of 25%. This reveals that increase it reliability in equity as compared to debt hence solvent enough to finance its assets using equity. Market Performance Analysis Market performance analysis is a pragmatic technique of evaluating the company’s marketable intrinsic value by examining the statistics generated by market activity including historical prices and volume. Earnings per share Earnings per share (EPS) refer to the entity’s net profit expressed comparative to the number of ordinary shares available on issue. Company’s interest to improve its growth in earnings per share since it defines earning ability of the company[Dep]. The basic earnings per share is calculated by dividing the earnings after tax by the weighted average if shared issued in a financial year. Fortescue Metal Group outlines a consistent increasing trend of EPS of from 18.85 cents per share in 2010, 32.86 cents, and 50.07 cents per share to 56.07 in 2011, 2012 and 2013 financial years. However, the increasing value of the earning per share shows that the company has a consistent worth hence viable for investment. Dividend per share The Dividend per share (DPS) indicates the distribution of the company’s profits in the financial period using dividends expressed relative to the number of ordinary shares available for issue[Alt08]. From the Fortescue Metal Group financial statements, the company shows an increasing trend throughout the four consecutive years ending 2013. The company’s dividend per shares increases from $0.03 in 2011 to $0.08 in 2012 and $0.10 in 2013 financial years, thus signifying better earning distributed to shareholders hence viable for investment. Conclusion The pragmatic overview of the Fortescue Metal Group Ltd financial ratios depict impressive performance with the four years ending 2013 financial year. According to the profitability ratios describes by the company’s return equity and net profit margin divulges a sequential increase in the company’s profitability. Although the company profitability ratios decrease in 2013, the historical overview describes that the company profitability is worth hence viable for investment. The efficiency trend describe by the company’s days inventory shows inefficiency the rate of converting its inventory from 32days, 55 days, 56 days and 68 days in 2010, 2012 and 2013 respectively. This however, denotes that management has to enhance efficiency in converting its inventory to sales to reduce the cost associated with holding the inventory and increase Company’s financial liquidity. Liquidity trend expressed by the company’s current ratio shows that the current ratio is above 2 hence the company is liquid enough in meeting the outstanding current financial obligations. The capital structure ratios depict an increasing reliability in equity as compared to debt hence solvent enough to finance its assets using equity. Market performance ratios depict the company’s increase in the cost of dividend per shares and earnings per share from 18.85 cents per share in 2010, 32.86 cents, and 50.07 cents per share to 56.07 in 2011, 2012 and 2013 financial year. However, the company sensibly shows that it’s financially viable for investment over the four years thus potential investors will be in line to invest in the company. Works Cited Alt08: , (Altman), Pen07: , (Penman), Cho08: , (Chordia), Bal06: , (Ball), Dep: , (Depree Jr), Ben081: , (Benston), Appendixes Read More