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Strengths and weaknesses of financial ratio analysis
Theoritical financial ratios
Strengths and weaknesses of financial ratio analysis
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Any successful business owner or investor is constantly evaluating the performance of the companies they are involved with, comparing historical figures with its industry competitors, and even with successful businesses from other industries. To complete a thorough examination of any company's effectiveness, however, more needs to be looked at than the easily attainable numbers like sales, profits, and total assets. Luckily, there are many well-tested ratios out there that make the task a bit less daunting. Financial ratio analysis helps identify and quantify a company's strengths and weaknesses, evaluate its financial position, and shows potential risks. As with any other form of analysis, financial ratios aren't definitive and their results shouldn't be viewed as the only possibilities. However, when used in conjuncture with various other business evaluation processes, financial ratios are invaluable. By examining Ford Motor Company's financial ratios, along with a few other company factors, this report will give a clear picture of how the company is doing now and should do in the future. This is a trend table of Ford's financial ratio for the previous five years: Ford Motor Co. (DE) Ratios 12/31/2004 12/31/2003 12/31/2002 12/31/2001 12/31/2000 Return on Equity (%) 22.65 7.9 5.08 -70.04 29.07 Return on Assets (%) 1.19 0.29 0.1 -1.97 1.9 Return on Investment 8.13 5.62 5.87 2.23 11.24 Gross Margin 0.021 0.021 0.023 0.02 0.026 Operating Margin (%) 6.22 4.94 5.56 2.07 10.42 Net Profit Margin (%) 2.03 0.3 -0.6 -3.36 2.04 Quick Ratio 0.29 0.35 0.35 0.22 0.2 Current Ratio 0.47 0.52 0.51 0.37 0.33 Working Capital/Total Assets -0.22 -0.18 -0.16 -0.23 -0.28 Total Debt to Equity 8.61 13 25.67 18.3 6.05 Long Term Debt to Assets 0.35 0.38 0.41 0.44 0.35 Interest Coverage 1.69 1.18 1.11 0.3 1.76 This is a trend table of industrial average financial ratio for the previous five years in comparison: Industry Averages Ratios 12/31/2004 12/31/2003 12/31/2002 12/31/2001 12/31/2000 Return on Equity (%) 17.22 4.20 -90.92 -0.37 16.89 Return on Assets (%) 3.56 0.71 -2.08 4.18 4.62 Return on Investment 9.42 4.31 5.42 2.16 13.39 Gross Margin .018 .018 .019 .019 .020 Operating Margin (%) 5.42 4.09 -3.02 7.05 8.11 Net Profit Margin (%) 2.89 1.43 -0.67 3.79 3.88 Quick Ratio 0.86 0.91 0.71 0.71 0.80 Current Ratio 1.36 1.46 1.13 1.57 1.26 Working Capital/Total Assets 0.10 0.10 0.01 0.04 .06 Total Debt to Equity 7.26 11.67 19.23 14.82 8.05 Long Term Debt to Assets 0.35 0.49 0.95 0.45 0.21 Interest Coverage 8.85 3.00 0.13 -1.63 6.48 The analysis of these ratios shows how Ford stands as a company for the past five years. Return on equity (ROE) reveals how much profit a company earned in comparison to the total amount of shareholder equity on the balance sheet. For long-term investing with great rewards, companies that have high return on equity ratios can provide the biggest payoffs. This ratio also tells investors how effectively their capital is being reinvested, so it is a good gauge of management's money handling skills. Ford is showing a considerable turn around in this area this past year, which could easily be due to changes in management. They are also reasonably following the industry in this area. Return on assets (ROA) tells how much profit a company generates for each dollar in assets. It measures the asset intensity of a business.
Financial ratios are "just a convenient way to summarize large quantities of financial data and to compare firms' performance" (Brealey & Myer & Marcus, 2003, p. 450). Financial ratios are very useful tools in order to determine the health of a company, help managers to make decision, and help to compare companies that belong to the same industry in order to know about their performance.
Return on sales is decreasing and is below the industry average, but the goods news is that sales and profits have been increasing each year. However, costs of goods are increasing and more inventory is left over each year causing the return on sales to decrease. For 1995, it was 1.7% which is less than the average of 2.44% but is a lot higher than the bottom 25% of companies as seen in exhibit 3, which actually have negative sales return of 0.7%. Return on equity is increasing each year and at a higher rate than industry average. In 1995, it was 20.7%, greater than the average of 18.25% and close to the highest companies in exhibit 3, of 22.1% showing that the return in investment in the company is increasing, which is good for the owner.
In order to make inferences about a company’s financial condition, its operations, and its attractiveness as an investment we have analyzed financial ratios and compare ratios derived from SVU’s financial statements (see chart 1).
The first method we will review is the accounting method. Through this accounting approach we will analyze specific ratios and their possible impact on the company's performance. The specific ratios we will review include the return on total assets, return on equity, gross profit margin, earnings per share, price earnings ratio, debt to assets, debt to equity, accounts receivable turnover, total asset turnover, fixed asset turnover, and average collection period. I will explain each ratio in greater detail, and why I have included it in this analysis, when I give the results of each specific ratio calculation.
The Ford Motor Company (usually known as Ford) is an American multinational automaker located in Dearborn, Michigan. The company was founded by Henry Ford and incorporated in 1903. The company sells automobiles and commercial vehicles under the Ford brand, and most luxury cars under the Lincoln brand. Ford introduced methods for large-scale manufacturing of cars and large-scale management of an industrial workforce using elaborately engineered manufacturing sequences typified by moving assembly lines; by 1914 these methods were known around the world as Fordism.
Description: Return on Equity (ROE) indicates what each owner’s dollar is producing in terms of net income that is the rate of return on stockholder dollars. ROE is a common metric for assessing the value of a firm and most investors look to ROE first when deciding where to allocate their capital. As such, it is also an important measure for a CEO to monitor.
This financial ratio analysis will help to identify Rolls-Royce’s strength and weaknesses during three years period from 2011 until the end of 2013. While it is a helpful tool for investors to make investment decisions base on profitability of the company, managers can make strategic decisions of the company. However, there are some limitations in using financial ratio analysis alone when make decisions. Comparing ratios with the industry norm and with the company’s rivals, the user of the financial ratio analysis will be able to anticipate future prospects. Rolls-Royce’s nearest rivals are General Electric (GE) and Pratt & Whitney, owned by United Technologies Corporation (UTC). These world 's top three companies are investing massively in R&D to satisfy demand of a booming global market for environmentally cleaner, energy efficient power engines that result in a huge number of orders of commercial airliners. All top
Return on assets is a pointer of how beneficial an organization is with respect to its total assets. ROA gives a thought with reference to how proficient management is at utilizing its resources to generate earnings. Figured by dividing an organization's yearly profit by its total assets, ROA is shown as a percentage. Now and then this is alluded to as "return on investment" (Investopedia, 2014). Net income divided by Average total assets. The calculated asset for Johnson & Johnson would be 10,853,000 / 112,127,500 = 9.7%.
Ratio analysis are useful tools when judging the performance of a company by weighing and evaluating the operating performance (Block-Hirt). There are 13 significant ratios that can separate by four main categories, profitability, asset utilization, liquidity and debt utilization ratios. The ratio analysis covered here consists of eight various ratios with at least one from each of these main categories. These ratios were used to compare and contrast the performance of Verizon versus AT& T over the years 2005 and 2006.
I have leant that ratio analysis offers better insight of a company’s financial position on the short-term and long-term basis. However, I would recommend that investor advice should be based on ratio analysis that considers ratios from several years. This will ensure that the investor is making an informed decision based on the company’s financial ratio performance trend.
Upon examining P&G’s financial ability to meet short-term obligations, it is apparent that not only have their current liabilities exceeded current assets over the last three years, but close to half of their current assets have been tied up in inventories and other illiquid assets. For example, assessing both the quick and current ratio respectively shows that less than 70% of the firm’s current assets could be converted immediately to pay current commitments, but a little more than 90% of the firm’s liabilities would ultimately be covered. Though, based on industry average similar findings occur; therefore, it must not be uncommon for industries similar to P&G to
...health of a company. For example, gross profit and net profit ratios tell how well the company is managing its expenses (Berman and Knight, 2008). Return on equity (ROE) explains how well the company is using its own assets/equity to generate returns (Berman and Knight, 2008). Additionally, return on investment tells whether the company is generating enough profits for its shareholders (Berman and Knight, 2008). Again, a higher ratio or value is desirable. A higher value means that the company is doing well and it is good at generating profits, revenues, and cash flows.
Ford Motor Company has been and till the date is known as the king of innovations in the automobile industry. Their research & development department and innovation of interchangeable parts in moving assembly lines resulted in extraordinary global extension for them. They are an old heritage who ruled and still doing impressive jobs in the global automobile market. Some prestigious motor brands are also owned by Ford.
Return on assets (ROA) ratio: Net profit after taxes/Total assets. This ratio is calculated as net profit after tax divided by the total assets. This ratio measure for the operating efficiency for the company based on the firm’s generated profits from its total assets.
Before beginning an analysis of a company it is necessary to have a complete set of financial statements, preferably for the pas few years so that historical trends can be obtained. Ratios are a way for anyone to get an idea of the financial performance of a company by using the information contained in the financial statements. Ratios are grouped into four basic categories, liquidity, activity, profitability, and financial leverage. This document will use a variety of these ratios to analyze the firm, Sample Company, as of December 31,2000.