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TiEcon Delhi Oct 2011 - Deloitte Financial Ratios
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TiEcon Delhi Oct 2011 - Deloitte Financial Ratios

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  • 1. TiEconFinancial Statements and Ratio Analysis30 September 2011
  • 2. Agenda• Overview• Ratio Analysis of ABC Limited2 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 3. Overview of financialstatements and ratioanalysis3
  • 4. What are Financial Statements Sources of funds Applications of funds• Formal records of the financial position (health) of a business Share Capital Fixed assets Equity Net fixed assets Reserves• Three main types:  Balance Sheet (B/S) - reports a Investments company’s assets, liabilities, and Debt ownership equity at a given point Secured loans Current assets in time Unsecured loans Current liabilities Total liabilities Total assets  Profit and Loss (P/L) Statement reports on a company’s income, Income expenses, and profits over a Operating expenditure period of time EBIDTA Depreciation  Cash Flow Statement. Reports EBIT changes in B/S and P/L Interest Profit Before Tax Tax Profit After Tax4 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 5. Why financial ratios• Financial numbers/statements arent always enough to:  Provide indications of performance of business  Convince an investor that the business is a viable proposition• Financial ratios are tools for financial analysis used by entrepreneurs and investors• Entrepreneurs need to track their business in terms of:  Short term business viability/liquidity  Financial leverage  Profitability and return from their investment5 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 6. Ratios – interpreting financial data Liabilities Assets Revenue Shareholders funds Fixed Assets Asset utilisation (Operating costs) Gross profit Equity Gross Block - dep (Selling and Admin) Reserves & surpluses Net Fixed Assets Operating Margin EBIDTA Borrowings Net Current Assets (Depreciation) Long term Current Assets PBIT Short term -Current Liabilities (Interest) Liquidity Total Funds Total Assets PBT (Tax) PAT Profitability Financial Leverage6 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 7. Ratio analysis of ABCLimited7
  • 8. ABC LimitedABC Limited (ABC or the Company) is an engineering consultancy company providingengineering design and supervision services.Featured of business operations:• Promoted by a team of three engineers with wide ranging industry experience in 2003• Service oriented business with revenue coming from engineering services, supervision and project management• Supervision contracts with uniform/regular revenue cycle• Largely private customers – customers are large companies with good financial background• Being service oriented, skilled staff constitutes main operating resources as well as cost• Sector witnessing growth but competition increasing at fast pace8 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 9. ABC’s financial statementsThe Company’s Balance Sheet and Profit & Loss Account are presented below:Particulars 2008 2009 2010Equity 100 100 100 Particulars 2007-08 2008-09 2009-10Retained earnings 275 350 400 Sales 4,000 4,800 5,800 Total equity 375 450 500 Cost of sales 3,040 3,820 4,760 Gross profit 960 980 1,040 Selling expenses 320 370 430Long-term debt 500 500 500 General and admin expenses 270 300 340 EBIDTA 370 310 270Total liabilities and equity 875 950 1,000 Depreciation 50 70 90 EBIT 320 240 180Gross fixed assets 1,000 1,125 1,260 Interest expense 40 40 40Accumulated depreciation 180 250 340 Profit before tax 280 200 140Net fixed assets 820 875 920 Income taxes (33%) 92 66 46 Net profit 188 134 94Cash 30 40 50Accounts receivable 275 335 400 Total current assets 305 375 450Accounts payable 250 300 370 Total current liabilities 250 300 370Net current assets 55 75 80Total assets 875 950 1,000 9 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 10. ABC’s commonsize and trend analysisABC’s commonsize and growth analysis of P/L account:Commonsize Growth (y-o-y)Particulars 2007-08 2008-09 2009-10 Particulars 2008-09 2009-10Sales 100% 100% 100% Sales 20% 21%Cost of sales 76% 80% 82% Cost of sales 26% 25% Gross profit 2% 6%Gross profit 24% 20% 18% Selling expenses 16% 16%Selling expenses 8% 8% 7% General and admin expenses 11% 13%General and admin expenses 7% 6% 6% EBIDTA -16% -13%EBIDTA 9% 6% 5% Depreciation 40% 29%Depreciation 1% 1% 2% EBIT -25% -25% Interest expense 0% 0%EBIT 8% 5% 3% Profit before tax -29% -30%Interest expense 1% 1% 1% Income taxes (33%) -29% -30%Profit before tax 7% 4% 2% Net profit -29% -30%Income taxes (33%) 2% 1% 1%Net profit 5% 3% 2%10 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 11. Analysing ABC using ratiosShort term liquidity/viability• Current Ratio (CR) - Measures a companys ability to pay short-term obligations for its operations 2008 2009 2010 Current Assets CR = = 1.22 1.25 1.22 Current Liabilities  Current ratio of ABC indicates that the Company is reasonably well positioned to meet its short term obligations.11 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 12. Analysing ABC using ratiosOperating efficiency• Measured by the efficiency with which credit sales are collected and payment is made• Lower collection period and higher payment days considered favourable• Average Collection period (ACP) 2008 2009 2010 Accounts receivable ACP = = 25.09 25.47 25.17 Annual sales/365  ACP depends on industry and customer specific factors. In general, 30 days and below signify favourable position. However, lower ACP may indicate potential to increase revenue through higher credit period to customers• Average payment period (APP) 2008 2009 2010 Accounts payable APP = = Annual purchase/365 25.14 25.39 24.42  APP not very favourable as it is almost same to ACP – generally it should be higher than ACP12 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 13. Analysing ABC using ratiosFinancial leverage• Provides indication of loan against equity (owner’s capital) and the Company’s capability to pay back interest on loan• Long term debt to equity 2008 2009 2010 Long term debt DER = = Total equity 1.33 1.11 1.00  Reducing DER shows improving financial leverage• Times Interest Earned Ratio (Interest Coverage Ratio) - Indicates the extent of which earnings are available to meet interest payments. 2008 2009 2010 Earnings before interest & tax TIE = = Interest 8.00 6.00 4.00  Significant reduction shows worsening financial position even though DER seems reasonable/to be improving13 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 14. Analysing ABC using ratiosProfitability and return on investmentAssesses a businesss ability to generate earnings as compared to its expenses and otherrelevant costs incurred during a specific period of time.• Gross profit margin (GPM) – shows the proportion of money left after direct cost of sales. Gross profit serves as source for paying for overheads and other costs. Gross profit 2008 2009 2010 GPM = = Sales 24.00% 20.42% 17.93%• EBIDTA margin – shows money left after paying for sales cost and overheads 2008 2009 2010 EBIDTA EBIDTA % = = 9.25% 6.46% 4.66% Sales  Declining GPM and EBIDTA may be due to: • Relatively higher growth in people cost (ABC being a service company) • Pressure on pricing due to competition, market environment • Ineffective management of overhead costs such as marketing and administration costs14 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 15. Analysing ABC using ratios• Net profit margin (NPM) – shows money left after paying for all costs Net Profit 2008 2009 2010 NPM = = Sales 4.69% 2.79% 1.62%  Mainly on account of lower EBIDTA margin since no significant change in depreciation, interest and tax expense• Return on Total Assets (ROA) Total assets 2008 2009 2010 ROA = = Net Profit 26.01% 19.07% 13.72% before interest after tax• Return on Equity (ROE) 2008 2009 2010 Total equity ROE = = Net Profit 50.03% 29.78% 18.76%15 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 16. Some comments• Initial analysis of ABC Limited suggests reasonable sales management 2008 2009 2010 (growing revenue, reasonable sales Current 1.22 1.25 1.22 credit cycle) and leverage ratio ACP 25.09 25.47 25.17• However, declining profitability margins APP 25.14 25.39 24.42 may indicate:  Pricing pressure (competition, economic Debt to 1.33 1.11 1.00 factors) Equity  High fixed cost Interest 8.00 6.00 4.00 coverage  Inefficient management of overheads GPM 24.00% 20.42% 17.93%Thus: EBIDTAM 9.25% 6.46% 4.66%• Financial ratio analysis comes handy NPM 4.69% 2.79% 1.62% in identifying ‘pain’ points ROA 26.01% 19.07% 13.72% ROE 50.03% 29.78% 18.76%• Deeper analysis of operations and industry may be required to identity real issues16 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 17. Some more ratios• Apart from those discussed, there are ratios and financial metrics to gain insight into a business• Feasibility ratios and metric generally used to assess greenfield/brownfield project:  Net Present Value – captures timing of cashflow to financers  Internal Rate of Return – intrinsic rate of return at which NPV is zero  Debt service coverage ratio – indicates fund available to pay interest and principal  Payback – time period within which investments are recovered17 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 18. Some more ratios• Industry specifics  Employee driven sectors • Revenue/employee or seat; Revenue/faculty hours; Revenue/billable hours  Manufacturing • Margin (USD/bbl, USD/Kg, USD over raw material, % of raw material cost)  Banks • Spread • NPA ratio  Hotels • ARR: Average Room Rate • Occupancy rate • RevPAR: Average Revenue per Available Room  Telecom • ARPU: Average Revenue per User  Airlines • RPK: Revenue Per Kilometer • Yield (Passenger Revenue/ RPKs) • RASK: Revenue per Available Seat Kilometre, CASK: Cost per Available Seat Kilometre18 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 19. Important Tips• A single ratio rarely tells enough to make a sound judgment• Comparable firms  Product  Locations  Size  Brand (s)• Consistency in time and method of computation• Duration Generally latest 5 years….but remember  Changes in regulation  Changes in performance/external scenario  Mergers and acquisition/divestments19 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 20. ContactKalpana JainSenior DirectorTel: +91 (0) 124 679 2266Email : kajain@deloitte.comDeloitte Touche Tohmatsu India Private LimitedBuilding 10, Tower B, 7th Floor,DLF Cyber City, Gurgaon 122 022Tel : +91 (0124) 679 2000Fax : + 91 (0124) 679 201220 ©2011 Deloitte Touche Tohmatsu India Private Limited.
  • 21. Deloitte refers to one or more of Deloitte Touche Tohmatsu Limited, a UK private company limited by guarantee, and its network of member firms,each of which is a legally separate and independent entity. Please see www.deloitte.com/about for a detailed description of the legal structure ofDeloitte Touche Tohmatsu Limited and its member firms.This material and the information contained herein prepared by Deloitte Touche Tohmatsu India Private Limited (DTTIPL) is intended to providegeneral information on a particular subject or subjects and is not an exhaustive treatment of such subject(s). None of DTTIPL, Deloitte ToucheTohmatsu Limited, its member firms, or their related entities (collectively, the “Deloitte Network”) is, by means of this material, renderingprofessional advice or services. The information is not intended to be relied upon as the sole basis for any decision which may affect you or yourbusiness. Before making any decision or taking any action that might affect your personal finances or business, you should consult a qualifiedprofessional adviser.No entity in the Deloitte Network shall be responsible for any loss whatsoever sustained by any person who relies on this material.©2011 Deloitte Touche Tohmatsu India Private Limited ©2011 Deloitte Touche Tohmatsu India Private Limited