THE FINANCIAL DETECTIVE

PRESENTED BY:

ISHITA(22039)

PREETI(22048)

RADHIKA BHATNAGAR(22051)

MOUSUMI MAZUMDAR(22068)

ELECTRONICSIn the following case study ,

• There are two electronics companies are shown as companies “I” and “J”.

• Both produced semiconductors, but one specialized in their manufacture and also produced small desktop and hand held computing equipment.

• About half its electronic components were sold to the defense industry.

• The other firm was financially conservative .

• It specialized in radio and television equipment and made semiconductors as a secondary, but increasingly important, line of business (over 30 % of revenues).

RETURN ON ASSETS RATIO

RETURN ON ASSETS RATIO= NET PROFIT AFTER TAX

AVERAGE TOTAL ASSETS

X 100

I J

RETURN ON ASSETS RATIO

6 7

• The higher values of return on assets shows that the business is more profitable .

• As an increased trend of Return On Assets indicates that the profitability of company is improving , conversely, the decreasing trend of Return on Assets indicates that the profitability of company is deteriorating.

• The company “J” has more return on assets ratio as compare to Company “I” . Thus , it shows that company “J” is returning higher profit than company “I”.

• The management of company “J” is more efficient in utilizing its assets base than company “I”.

RETURN ON EQUITY RATIO

RETURN ON EQUITY RATIO = PAT – PREFERANCE DIVIDEND

EQUITY SHAREHOLDERS FUNDS

X 100

I J

RETURN ON EQUITY 10 18

• A steadily increasing return on Equity is hint that the management is giving shareholders more further money which is represented by shareholder equity.

• Return On Equity ratio indicates how well management is employing the investor capital invested in company. A company cannot grow earning faster than its current return on equity ratio without raising additional cash.

• So, return on equity is speed limit on company’s growth rate. In fact many specify 15% as minimum acceptable return on equity ratio

That means

In our Scenario, Company “J” with 18% return on equity ratio is growing faster and at acceptable rate. However, Company “I” which has lower return on equity ratio that is 10% is lagging behind.

QUICK RATIO QUICK RATIO = CASH & EQUIVALENTS+RECEIVABLES+ MARKETABLE SECURITIES

TOTAL CURRENT LIABILITIES

FOR COMPANY “I”, FOR COMPANY “J”

QUICK RATIO= 5.8 +20.7/31.3 =0.84 QUICK RATIO= 15.6 + 19.9/29.3=1.21

CASH &EQUIVALENT

S

RECEIVABLES TOTAL CURRENT

LIABLITIES

QUICK RATIO

I 5.8 20.7 31.3 0.84

J 15.6 19.9 29.3 1.21

• QUICK RATIO specifies whether the assets can be quickly converted into cash are sufficient cover current liabilities. Company aims to maintain a quick ratio that provides sufficient leverage against liquidity risk given the level of predictability volatility in specific business sector.

• Electronic industry is comparatively stable and predictable in cash flows and companies likes to keep quick ratio at low level.

• As we see, company “I” is keeping its quick ratio is comparatively low at 0.84 unlike company “J” whose quick ratio is above at 1.21.Company “I” and “J” must achieve the right balance between liquidity (from low quick ratio) and risk of loss ( resulting from high quick ratio).

• Company “J” with high quick ratio at 1.21 which is greater than 1 which is normal industry average suggest that company “J” is investing too many resources in working capital of business which may be profitable else where.

CURRENT RATIOCURRENT RATIO = TOTAL CURRENT ASSETS

TOTAL CURRENT LIABILITIES

IDEAL CURRENT RATIO IS 2.

• If the current ratio is more than 2,then the company is not using their current assets efficiently & they are more dependent on long term sources of funds such as bonds, debentures, Public deposits.

• If the current ratio is less than 2 then the company may

have short-term obligations. If the current ratio is 2,then the company have good short term financial strength

RECEIVABLE TURNOVER RATIO

RECEIVABLE TURNOVER RATIO = ANNUAL NET CREDIT SALES

AVERAGE DEBTORS OR AVERAGE RECEIVABLES

AVERAGE DEBTORS = OPENING DEBTORS+ CLOSING DEBTORS

2

NET CREDIT SALES = TOTAL SALES – CASH SALES – SALES RETURN

“I” “J”

6.09 times 6.60 times

AVERAGE COLLECTION PERIOD = 365

DTR

“I” “J”

Avg collection period 60days 55days

• If the credit policy of the firm is 60-65 days, then the average collection period is of 60 days, then the collection period is acceptable.

• If the collection period is less then 60 days then it indicates that the collection department is not operating efficiently. In case of company “I "the firm has collected its debtors in 60 days & in case of “J” they have collected their debtors in 55 days.

STOCK TURNOVER RATIOSTOCK TURNOVER RATIO = COST OF GOOD SOLD UPON AVERAGE STOCK

AVERAGE STOCK

COST OF GOOD SOLD = OPENING STOCK PURCHASES – CLOSING STOCK

AVERAGE STOCK = OPENING STOCK + CLOSING STOCK

2

DAYS OF INVENTORY HOLDING = 365 DAYS

IT RATIO

• A low IT Ratio reflects over investment in stock.

• A high IT ratio reflects under investment in stock & thus the company sell their goods quickly.

“I” “J”

7.38 7.57

DIVIDEND PAYOUT RATIO

• The DP ratio is the relation between the DPS and EPS of the firm, i.e., it refers to the proportion of the EPS which has been distributed by the company as dividends.

=(Dividend Per Share/Earnings Per Share)*100

From Exhibit 1

Company I=27%

Company J=24%

• This ratio is an indicator of the amount of earnings that have been ploughed back in the business.

• The lower the DP ratio, the higher will be the amount of earnings ploughed back in the business and vice versa.

• Comparing I & J, we can say that J is comparatively profitable as only 24% of its earnings are being paid as dividend and rest are further used in diversification of business.

DEBT- EQUITY RATIOThe measures of identifying the degree of indebtedness attempt to establish the

relationship of the total liabilities with the shareholders funds or total assets of the firm

=Total Long Term Debts/ Shareholders Funds

Company I

=6.5 /56.5

=0.115

= 0.11 * 100 = 11%

INTREPRETATION

Company J

=11.4/52.8

=0.215

= 0.22 * 100 = 22%

• Here the ratios of the company I &J are less than 1.

• Hence from creditors perspective, both companies are favourable as they provide better security of money. Also companies can raise funds from financial institutions very easily.

DIVIDEND PAYOUT RATIO

•Thisratioisanindicatoroftheamountofearningsthathavebeenploughedbackinthebusiness.

•ThelowertheDPratio,thehigherwillbetheamountofearningsploughedbackinthebusinessandviceversa.

=DPS/EPS*100

•FOR COMPANY E =0%

•FOR COMPANY F = 0%

Price/Earning Ratio

• This ratio is defined as ‘A valuation ratio of a company's current share price compared to its per-share earnings.’

• It indicates the expectations of the equity investors about the earnings of the firm.

• = Market Price Per Share

Earnings Per Share

Price/Earning Ratio

• From Exhibit 1 ,Price/Earning ration for

Company I = 22.7

Company J = 19.6

• Company I has a high growth prospects as it has a higher PE ratio as compared to Company J whose growth prospects is slower than company J.

• A high PE ratio may indicate that the share has a low risk and therefore the investors are content with low prospective return.

Market/Book Value Ratio

• This ratio compares the market value of the share with its book value.

• It is used to determine if a stock is undervalued or overvalued. 

• If a stock is undervalued, the price is expected to rise. If it is overvalued, the price is expected to fall.

• = Market Price Per Share

Book Value Per Share

Market/Book Value Ratio

• From Exhibit 1, market/book value ratio for

Company I = 2.15

Company J = 2.43

This indicates that, Company I has a less value of market/book ratio which means that Company I is not successful in creating shareholders’ value compared to Company J.

Market Price per share of company J is greater than that of Company I.

Book value per share of Company J is less than that of Company I.