Profit Loss Statement Ratios

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					                              MG647
                                                                                                               Profit and Loss Statement
                  Innovation and Entrepreneurship
                                                                                                          • Computed for a duration, usually 3
                                                                                                            months or an year (quarterly or annual)
                   Analysis of Financial Statements - 9
                                                                                                          • Duration linked to the basic business
                            Prof . Rajendra K Lagu                                                          cycle
                            School of Management
                                   IIT Bombay                                                             • For businesses with large inventory turn
                                                                                                            times, it is no use computing short
                                                                                                            period P&L

Prof . R.K.Lagu                Analysis of Financial Statements                        9.1   Prof . R.K.Lagu           Analysis of Financial Statements                      9.2




                  A Representative P&L Statement
                                                                                                          Main Heads in a P&L Statement
Sales Revenues
                                                4,00,000
Other Revenues
                                                1,00,000                                             • Operating income
                       Total Revenues
                                                5,00,000                    100 %                    • Other income
Cost of Goods Sold                                                                                   • Cost of materials
                                                2,00,000                    40 %
                          Gross Profit
                                                                                                     • Payments and provision to employees
                                                3,00,000                    60 %
                                                                                                     • Manufacturing and other expenses
Operating Expenses
                                                1,50,000                    30 %                     • Sales and marketing expenses
                                PBITD
                                                1,50,000                    30 %                     • PBIDT (Profit before interest, depreciation and tax)
          Interest + Tax + Depreciation
                                                   25,000                   5%                       • Interest, Depreciation, Tax
                             Net Profit
                                                1,25,000                    25 %                     • PAT -- Profit After Tax
Prof . R.K.Lagu                Analysis of Financial Statements                        9.3   Prof . R.K.Lagu           Analysis of Financial Statements                      9.4




                                                                                               Profit and Loss Statement of Three IT Companies for 12
     Balance Sheet of Three IT Companies on 31.03.2005
                                                                                                         Months Ending 31.03.2005 (in Rs Cr)
                         (in Rs Cr)
         Company                    Infosys                 Wipro             Satyam                 Company                  Infosys                     Wipro        Satyam
                                                                                             Sales                                       6859                 8160        3462
Equity                                         135                  141                64
                                                                                             Other income                                 127                    94          82
Share premium                                  899                  -----           ------
                                                                                             Total income                                6986                 8254        3544
Retained earnings                            4387                 5141              3153
                                                                                             Cost of material                              ----                 ----       -----
Net Worth                                    5421                 5282              3217
                                                                                             S&M, G&A Exp                                 879                   ----       576
Debt                                              0                  88                 9
                                                                                             Employee cost                               3782                   ----      1997
Capital employed                             5421                 5370              3226
                                                                                             Total cost of sales                         4661                 6360        2573
Fixed Assets                                 1732                 1970               317     PBIDT                                       2325                 1894         971
Account receivable                             904                  479              468     PAT                                         1904                 1628         750
Cash & bank balance                          2785                 2921              2441
Prof . R.K.Lagu                Analysis of Financial Statements                        9.5   Prof . R.K.Lagu           Analysis of Financial Statements                      9.6




                                                                                                                                                                                   1
      Income Statement: Microsoft Corp (MSFT)                            Income Statement: Intel Corp (INTC)




Prof . R.K.Lagu    Analysis of Financial Statements    9.7   Prof . R.K.Lagu          Analysis of Financial Statements     9.8




        Income Statement: Oracle Corp (ORCL)
                                                                                     Ratio Analysis
                                                              • Compare the performance of the company for three
                                                                successive years

                                                              • The absolute numbers change so compare ratios

                                                              • Compare two companies of differing size but from the
                                                                same industry, e.g, Infosys and Mastek

                                                              • Calculate industry-wide numbers (net profit margins for
                                                                automobile companies)

Prof . R.K.Lagu    Analysis of Financial Statements    9.9   Prof . R.K.Lagu          Analysis of Financial Statements    9.10




                  Gearing Ratios                                                Asset Utilization Ratios
 • Leverage of a firm: Proportion of its long term           • Return on Total Investment: management’s skill in
   liabilities that are debts (Gears, Leverage are             exploiting the funds made available
   Mechanical Engg terms)
                                                                  ROI =        PBT / (Shareholders’ funds + Long term loans)

 • Long term liabilities = Debts + Equity
                                                             • Return on Shareholders’ Equity
 • Debt/Equity ratio = Loan Capital / Share holder’s
   funds                                                        ROE =      PBT / (Shareholders’ funds)
 • Gearing ratios change drastically across industries
   because of the variations in their asset structures           Sales / Total Capital Employed

Prof . R.K.Lagu    Analysis of Financial Statements   9.11   Prof . R.K.Lagu          Analysis of Financial Statements    9.12




                                                                                                                                 2
                       Profitability Ratios                                                                Market Value Related Ratios

 • Net Profit Margin (NPM) = Net Profits / Sales                                          • P/E : Market Price / Earning Per Share
 • Gross Profit Margin (GPM)= Gross Profits / Sales                                       • EPS (Earning Per Share) :
 • These ratios vary across industries                                                                 Net Profit / Total outstanding shares

 • Companies in a particular industry are
   benchmarked on their NPM                                                               • Revenue Multiple: Revenues / Assets
 • NPM is in a way linked to ROI                                                          • Market to Book: Market Value / Book Value

Prof . R.K.Lagu          Analysis of Financial Statements                         9.13   Prof . R.K.Lagu            Analysis of Financial Statements          9.14




                         Liquidity Ratios                                                              Financial Health of a Company
 • Measure a firm’s ability to meet its short term obligations                            • Operationally Efficient: High NPM
 • Show trends early and so corrective actions can be taken
   in the working capital management
                                                                                          • Profitable or Economically Viable: High ROI
 • Current Ratio: Current Assets / Current Liabilities
                                                                                          • Solvent: Assets are greater than outside liabilities
 • Acid Test Ratio or Quick Ratio:
       (Current Assets – Inventory) / Current Liability                                   • Liquid: Current assets are greater than its current
       (Cash or cash equivalent) / Current Liability                                        liabilities
Prof . R.K.Lagu          Analysis of Financial Statements                         9.15   Prof . R.K.Lagu            Analysis of Financial Statements          9.16




Comparison of the Three Leading IT Companies                                                          Limitations of Financial Statements
                                                             All figures in Rs Crores
                                                                                          • They are backward looking: Accrued results of the past
                                     Infosys                Wipro         Satyam            year / quarter
Sales                                        6986              8254              3544
                                                                                          • Is it good to drive a car looking in the rear view mirror ?
Employee Cost                                3782                                1997
                                                                                          • Company’s value depends on its future profitability which
PAT                                          1904              1628               750
                                                                                            depends on many factors that are not reflected in the
Capital Employed                             5421              5370              3226       balance sheet because they are non-monetary
Cash and Cash Equivalents                    2785              2921              2441
Employee Cost/Sales                           0.54              0.00             0.56
                                                                                                    Nature and innovativeness of it products
Net Profit Margin                             0.27              0.20             0.21
                                                                                                    Technology landscape (product obsolescence)
Sales/Capital                                 1.29              1.54             1.10
                                                                                                    Competitors
Cash/Capital                                  0.51              0.54             0.76
                                                                                                    Economic conditions (recession / boom), government policies
Return on Investment                          0.35              0.30             0.23               Staff and management morale
EVA                                      1036.64              768.80           233.84
Prof . R.K.Lagu          Analysis of Financial Statements                         9.17   Prof . R.K.Lagu            Analysis of Financial Statements          9.18




                                                                                                                                                                     3
Scope for Manipulation of Financial Statements
  • Undervaluation / overvaluation of assets
  • Capitalizing of expenses – salary vs ESOP
  • Manipulations of accounts receivables
  • Interpretation of intangible assets
  • Consolidation of subsidiaries


 Prof . R.K.Lagu    Analysis of Financial Statements   9.19




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