Financial Ratio Analysis Samples for Students †MyAssignmenthelp.com

Question: Discuss about the Financial Performance and Ratio Analysis. Answer: Introduction Financial analysis is critical in the context of evaluating the financial performance. One of the key tools that is deployed to carry this analysis is known as ratio analysis. This tends to compute the underlying ratios that tend to highlight the various aspects of the working of the company so that the respective strengths and weaknesses of the given entity can be identified. In this background, the objective of this report is to carry out an analysis of a company named Gelato Industries based on the respective financial statements provided for 2014 and 2015. Additionally, to facilitate performance benchmarking, the respective industry averages have also been provided. The report presents the observations in this regards. Further, the report also highlights certain key aspects about Warren Buffet as an investor. Analysis The financial ratios for the company in 2015 and 2014 are highlighted below. Ratios 2015 2014 Current ratio 0.90 1.84 Quick ratio 0.24 0.78 Average collection period 18.98 30.42 Inventory turnover 4.06 3.10 Debt ratio 61.30% 50.00% Interest coverage ratio 4.62 3.15 Operating profit margin 10.50% 9.60% Total asset turnover 2.05 1.33 Fixed asset turnover 3.50 2.42 Return on asset 11.74% 6.11% Return on equity 30.32% 12.23% The evaluation of the performance of the firm on various parameters in comparison with the industry is carried out below. Liquidity It is apparent that in terms of liquidity, the performance of the company is far inferior to the peers. This is because the current ratio in both the years is lesser than the industry average of 2 which is especially true for 2015. A similar trend is noticed in the context of the quick ratio. As a result, it would be fair to conclude that the company needs to take measures to improve the liquidity or it could face potential cash crunch especially in the short term (Arnold, 2005). Capital Structure The debt ratio is indicative of the capital structure of the company. While in 2014, the debt level seems to be fine, but in 2015, the leveraging of the balance sheet seems to have increased due to which the use of debt is higher than the industry average. Also, a key risk is with related to the interest payment default and hence interpretation of interest coverage ratio becomes essential. The interest coverage ratio has undergone improvement in 2015 when compared to corresponding value in 2014. The value in 2015 is clearly superior than the industry average which augers well for the company with regards to availing debt funding (Berk et. al., 2013). Asset Management These ratios essentially capture the extent to which the assets are used efficiently for sales generation. The asset management ratios i.e. fixed asset turnover and total asset turnover both are superior to the industry average in both the years. Further, this reflects the superior ability of the company to generate sales from the available assets which provides this a competitive edge over the peer group companies (Damodaran, 2010). Efficiency The efficiency ratios tend to reflect the operational efficiency particularly in relation to the management of the cash cycle. It is apparent that the efficiency ratios of the company are superior in comparison to the industry average. This is true for both average collection period and also inventory turnover. Hence, the company is able to covert inventory into sales in a quicker manner as compared to peers. A similar conclusion can also be drawn in relation to the ability of converting sales into cash as the collection period for company is lower than the industry average. Both these aspects tend to contribute to a lower cash cycle for the company which limits the working capital requirements (Lasher, 2007). Profitability The profitability ratios of the company tend to suggest that the performance of the company in this regards in 2015 is superior to the industry. This is true for return on asset, return on equity along with operating profit margin. However, certain profitability ratios such as operating profit margin and return on asset were lower for the company than the industry average in 2014. However, the company seems to have improved the business operations and underlying strategy which has led to better margins and higher profits on account of top line growth (Beck et. al., 2013). Price of each share at the end of 2015 = $ 15 Number of outstanding shares = 5000 Earnings per share = (Net profit /Number of outstanding shares) = (22884/5000) = $ 4.58 Price-earnings ratio = Price per share/ Earnings per share = 15/4.58 = 3.28 Market to Book Value = (Market Value/Book Value) = (5000*15)/ (195000-119535) = 0.99 On the basis of the above, it can be concluded that while the balance sheet of the company seems a little higher in leverage and also the liquidity ratios pose some concern, the performance of the company in other aspects is superior to the industry average. Also, it is noteworthy that in the year 2015, the profitability, asset management, efficiency ratios have seen significant improvement which is very positive for the shareholders. However, considering the improvement seen by the company (Damodaran, 2010). in 2015, the share prices of the company seems grossly undervalued especially seen the low P/E. Also, the book value of the company is slightly higher than the market value which indicates that the market believes that the management is not generating any value which is not supported by the 2015 financial statements. It seems that in the near future, the stock price of the company would improve especially if the management could replicate the performance level at 2015 standards (Arnold, 2005). Some of the interesting facts in relation to Warren Buffet are highlighted below (Kirkham, 2014) More than 99% of his current wealth has been turned after the age of 50 as the value of the holdings along with Berkshire Hathway shares has shown immense growth in the last two decades. Rather than giving his wealth in inheritance, Warren Buffet has made a pledge to donate 99% of his wealth for charity work. He made his first stock investment at the age of 11 in the year 1941. Buffet is an avid reader and more than 60% of his time is devoted to this activity. Buffet does not have a computer in his office or desk and prefers to analyse the financial statements without the same (Alkins, 2015). By the age of 16, Buffet has warned a wealth of about $ 53,000. His first job was with the Washington Post. (ii) The key points which Warren Buffet makes in relation with investments are summarised below. Investment must always be made in a business which the investor can understand. This is the reason why Buffet never invested in new age businesses driven by internet including Microsoft (YouTube , 2009) Once a stock is bought, a person should usually have a very long investment horizon as wealth is typically built over a large time period (YouTube , 2014) The management quality and ethics are absolutely critical for Buffer and no matter how good the business is, but if the management is bad or unethical, then a person must not invest in the business (YouTube , 2009) Warren Buffet does not believe in diversification and instead focuses on a concentrated portfolio with few stocks but only those ones which can be understood (YouTube , 2014) Further, it is essential to take investment advice only from trustworthy sources. Conclusion On the basis of the above discussion, it would be appropriate to conclude that Gelato Industries has significantly improved performance in 2015. This is especially visible in the context of profitability, efficiency and asset management. Even though the liquidity ratios and debt ratio are a little inferior to the industry, but it does not pose any significant issue. Also, the current market value seems less for the company considering the growth it has shown in 2015. It may be expected that the price of the stock would increase going forward. Further, the various key investment advices by Warren Buffet can also be useful for creating wealth in the long term for investors and should be adhered to. References Arnold,G. (2005). Corporate Financial Management (3rd ed.). Sydney: Finaicial Times Management. Berk, J., DeMarzo, P., Harford, J., Ford, G., Mollica, V., Finch, N. (2013).Fundamentals of corporate finance. London: Pearson Higher Education AU. Damodaran, A. (2010).Applied corporate finance: A users manual(3rd ed.). New York: Wiley, John Sons Elkins, K. (2015, September), 22 mind-blowing facts about Warren Buffett and his wealth, Business Insider, Retrieved on September 22, 2017 from https://www.businessinsider.in/22-mind-blowing-facts-about-Warren-Buffett-and-his-wealth/articleshow/49082296.cms Kirkham, E. (2014, November), 21 Surprising Facts You Never Knew About Warren Buffett, Go Banking Rates Website, Retrieved on September 22, 2017 from https://www.gobankingrates.com/net-worth/21-fun-never-knew-warren-buffett/ Lasher, W. R., (2007) Practical Financial Management (5th ed.). London: South- Western College Publisher YouTube (2009), Warren Buffett's Financial Rules to Live By, You Tube, Retrieved on September 22, 2017 from https://www.youtube.com/watch?v=gUAtVyWS_4Y YouTube (2014), Warren Buffett's Best Advice on Successful Investing, You Tube, Retrieved on September 22, 2017 from https://www.youtube.com/watch?v=_5VQPIeZhMc