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HI5002 Finance for Business Assignment - Company Performance Analysis, Holmes Institute, Australia

Purpose - The assignment should examine the main issues, including underlying theories, implement performance measures used and explain the firm financial performance.

Assignment Tasks - This assignment task is a written report and analysis of the financial performance of one selected listed company on the ASX in order to provide financial and investment advice to a wealthy investor. This assignment requires your group to undertake a comprehensive examination of a firm's financial performance based on update financial statements of the selected company.

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Answer - FINANCE FOR BUSINESS, COMPANY PERFORMANCE ANALYSIS

Company - Australian Pharmaceutical Limited

Abstract

The main aim of this assignment is to a case study to demonstrate the performance of financial statement analysis of firm. The firm chosen for the purpose of this assignment is API Limited which is operating on health and beauty sector with a responsibility of manufacturing, distributing and retailing pharmaceutical products to their consumers. They also over marketing programs as well as business adversary services to their consumer clients. The firm trades its products through their own stores, franchises and agencies that have authorized throughout the Australian and internationally. Since financial data is handled, it focus on profitability and efficiency ratios and the methods employ in calculating them. The performance of this firm is strongly stable and results has shown that. This assignment adapted various approaches towards profitability analysis of the firm. It is clear from the results that efficiency and profitability ratios are strong and have a promise for investors who want to prepare an investment portfolios for the firm.

Introduction:

This is an assignment that is designed to conduct the analysis for the investors who want to invest in one of the Australian pharmaceutical firm. I have conducted a review over the firms that are stable with a strong promise of their returns at every end of the financial year. I have decided to choose API Limited of which I will analyze its financial statements and find whether the firm is viable for investment or not. The firm chosen for the purpose of this assignment and is operating on health and beauty sector with a responsibility of manufacturing, distributing and retailing pharmaceutical products to their consumers both locally and internationally. They also over marketing programs as well as business adversary services to their consumer clients.

The structure of the assignment will be: brief description on how and what the firm does and its activities historically i.e. for the past three financial years from 2016 to 2018; Performance analysis to check whether the firm has the capability to pay its short term obligations or not for this financial years periods; Will discuss the working capital management tools and marketable securities that the firm has to establish a sound alternative cash program; Will conduct a sensitivity analysis to determine whether the project has chosen to invest in will be viable one or not; I will also take into account risks that are affecting the performance of the API limited in the current market and how they have dealt with them; Will identify the policies the firm is applying as regard to their dividend payout is concerned to their shareholders for the last three financial years; Will write a recommendation letter the client advising him consider his portfolio in this firm since it may be a viable firm to invest in. Lastly I will conclude the outcome of the assignment as per the results will prevail.

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1. Description of operation and comparative advantages of the selected company.

Description: API Limited is one of the largest health and beauty service firm in the Australian market with a responsibility to manufacture, distribute and retail. It offers its services to their customers on both wholesale and retail. This means that the percentage change in its stock value is higher than the entire market in times of booms and busts. It's a firm with substantial assets which tends to have advanced beta because, related risks of running fixed properties during the recession is very expensive. I will analyze the firm's ratio of permanent resources to total resources it owns to see if the firm is extremely exposed to the risk of restriction. Since the firm's permanent resources to its total resources are 23% only, that tells us that it does not depend deeply on a great level of these rigid and expensive resources to run its business.

Consequently, the firm is less unstable relative to expansive market activities compared to other firms of similar scope but advanced proportion of permanent resources. This is the reverse to what this firm's actual beta value advocate, which is greater standard instability relative to the market. Meaning that investors will face upper risk related with probable gains and losses motivated by market forces. Therefore, during difficult times, investor can reap more of benefit with advanced beta shares as compared to subdued activities of low beta holdings.

The comparative advantage of this firm is that its capital structure and financial performance is good and stronger. We recommend the firm to investors to come and by shares because their returns are guaranteed and their dividend policy is promising.

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2. Identify and conduct a trend analysis with two groups of financial ratios, including profitability, and operating efficiency of the selected company.

Performance Ratio Analysis:

Profitability Ratio

2018  '000'

2017 '000'

2016 '000'

 

Gross Margin Ratio is equal to Gross profit divide by Net sales x 100

 

The ratio was down in 2017, but kept on increasing for 2018 hence the change was impressive for those years.

 

(496,710 / 4,026,302) x 100 = 12.34%

 

(493,627 / 4,061,200) x 100 = 12.15%

 

(477,934 / 3,839,987) x 100 = 12.45%

 

Net Profit Ratio is equal to Net Income divide by Net Sales x 100

 

The percentage in 2016 was low and went higher 2017, dropped drastically in 2018

 

(48,202 / 4,026,302) x 100 = 1.18%

 

(52,371 / 4,061,200) x 100 = 1.89%

 

(51,670 / 3,839,987) x 100 = 1.35%

 Return on Assets is equal to Net Income  divide by Average Total Assets

 

This indicates that the firm is utilizing its assets properly in the generation of the profits. The return has been consistently dropping from 2016 to 2018.

Average assets (1,502,756 + 1,451,076) / 2 = 1,476,916.

 

(48,202 / 1,476,916) x 100 = 3.26%

Average assets

(1,451,076 + 1,449,709) / 2 = 1,450,392.5

 

(52,371 / 1,450,392.5) x 100 = 3.61%

Average assets (1,449,175 + 1,342,548) / 2 = 1,395,861.5

 

(51,670 / 1,395,861.5) x 100 = 3.7%

Return on Equity is equal to Net Income divide by Shareholders' Equity

 

The percentage has been constant in year 2016 and 2017 but dropped in 2018 which reduced their earnings per share.

(48,202 / 566,461) x 100 = 8.5%

(52,371 / 566,461) x 100 = 9.25%

(51,670 / 566,461) x 100 = 9.12%

Proficiency Ratios




Working Capital Ratio is equal Current Assets divided by Current Liabilities

 

The ratio shows that the firm had a capability to pay their current obligations since it's more than 1 : 1 for the three consecutive financial years which is recommended. The firm is in a better position to pay them as soon as they are due. The firm has maintained ratio increased from 2016 to 2018 financial years.

(1,085,828 / 814,591) = 1.33 times

(1,120,740 / 851,033) = 1.32 times

(1,128,966 / 845,632) = 1.34 times

Accounts Receivable Turnover is equal to Net Credit sales divide by Average Accounts Receivables

 

The results proves that the firm's accounts receivable turnover is higher for the three consecutive financial years and therefore its liquidity is strong and stable. It takes a shorter period to sell and collect debts. The rate has been remained constant both 2016, 2017 and 2018 respectively.

Average Accounts Receivable

(654,661 + 681,620) / 2 = 668,140.5

 

4,026,302 / 668,140.5 = 6.0 times

Average Accounts Receivable

(681,620 + 689,695) / 2 = 685,657.5

 

4,061,200 / 685,657.5 = 5.9 times

Average Accounts Receivable

(689,695 + 592,330) / 2 = 641012.5

 

3,839,987 / 641,012.5 = 6.0 times

Inventory Turnover is equal to Cost of sales divide by average inventory

 

The firm proves that its inventory management is very efficient and therefore it takes a shorter time to change these inventories into a sale. The increase has been constantly increasing from 2016 to 2018.

Average Inventory

(395,219 + 399,344) / 2 = 397281.5

 

3,529,592 / 397281.5 = 8.89 times

Average Inventory

(399,344 + 413,782) / 2 = 406,563

 

3,567,817 / 406,563 = 8.78 times

Average Inventory

(413,782 + 364,206) / 2 = 388,994

 

3,362,053 / 388,994 = 8.64 Times

Assets Turnover Ratio is equal to Net Sales divide by Average total Assets

 

This has proved that the firm utilizes its assets efficiently in generating its revenue. The trend has been consistent throughout the three financial years.

(4,026,302 / 1,476,916)  =  2.7 times

(4,062,200 / 1,450,392.5) = 2.8 times

(3,839,987/ 1,395,861.5)  = 2.75 times

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3. Identify the marketable securities that are available in current assets of the company. Discuss using of these securities as an instrument for cash management by the company.

Instruments of cash management: These are short term working capital management tools available to the firm in establishing a sound alternative cash program. They include treasury bills, money market fund, certificates of deposit and mutual funds.

Treasury bills are usually used by government to meet short term cash needs which generally matures between 3 months to one year maximum. They are the fastest way of meeting short term cash needs because they are backed by full faith. Money market are usually liquid and can be obtained through various ways such as wire transfer, mobile money, debit cards or check. These tools are either secured or guaranteed. Although money market fund try to find to preserve the value of the security per share, it is possible to loose money when investing in this fund. Mutual funds also sold through prospectus only and an investor has to consider the security objectives carefully before thinking of investing but,

However, in API they have not disclosed the type of securities they are investing in but, they have mentioned in their financial statements report generally as "trade and other receivables on materials deferred" and they have not specified which one are they. But the real sense or picture is that, they are investing in one or all of them which help to meet their short term cash needs.

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4. Perform a sensitivity analysis with data provided.

Sensitivity Analysis: Units available for selling 300,000

Selling price per unit $20

Cost of equipment purchased $2,000,000

Residue value $200,000

Working capital $600,000

Fixed costs $300,000

Discount rate 10%


Year 0

Year 1

Year 2

Year 3

Year 4

1.      Sales (20 x 300,000)

-

6,000,000

6,000,000

6,000,000

6,000,000

2.      Variable costs (12x300,000)

-

3,600,000

3,600,000

3,600,000

3,600,000

3.      Fixed costs

-

300,000

300,000

300,000

300,000

4.      Depreciation (2,000,000 - 200,000)/4

-

450,000

450,000

450,000

450,000

5.      Profit or Income before tax  (1-2-3-4)

-

1,650,000

1,650,000

1,650,000

1,650,000

6.      Tax 30% of profits

-

495,000

495,000

495,000

495,000

7.      Net Income (5-6)

-

1,155,000

1,155,000

1,155,000

1,155,000

8.      Cash flow from operations

(1-2-3-6)

-

1,605,000

1,605,000

1,605,000

1,605,000

9.      Initial investment

(2,000,000)

-

-

-

-

10.  Changes in net working Capital

( 600,000)

-

-

-

-

11.  Total cash flow

(2,600,000)

1,605,000

1,605,000

1,605,000

1,605,000

 


Year 0

Year 1

Year 2

Year 3

Year 4

Incremental Net income

0

1,155,000

1,155,000

1,155,000

1,155,000

Incremental cash flows

-2,600,000

1,605,000

1,605,000

1,605,000

1,605,000

PV (Year 0) = -2,600,000

PV (Year 1) = 1,605,000 / (1.1) = 1,459091

PV (Year 2) = 1,605,000 / (1.1)2 = 1,326,446

PV (Year 3) = 1,605,000 / (1.1)3 = 1,205,860

PV (Year 4) = 1,605,000 / (1.1)4 = 1,096,237

Net Present Value = 2,487,634

The net present value is positive and recommend the firm to take up the project and will results to huge profits and enhance the firm's performance in the future or coming years as a going concern dictates.

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How to calculate the Net Present Value with the following changes:

Unit sale decreased by 10% = 20 - (10% x 20) = $18

Sales units decreased by 10% = 300,000 - (10% x 300,000) = 270,000 units

Variable cost increased by 10% = (12 x 110%) = $13.2

Fixed costs increased by 10% = (300,000 x 110%) = $330,000

Other costs held constant.


Year 0

Year 1

Year 2

Year 3

Year 4

1. Sales (18 x 270,000)

-

4,860,000

4,860,000

4,860,000

4,860,000

2. Variable costs (13.2 x 270,000)

-

3,564,000

3,564,000

3,564,000

3,564,000

3. Fixed costs

-

330,000

330,000

330,000

330,000

4. Depreciation (2,000,000 - 200,000) / 4

-

450,000

450,000

450,000

450,000

5. Profit or Income before tax  (1-2-3-4)

-

516,000

516,000

516,000

516,000

6. Tax 30% of profits

-

154,800

154,800

154,800

154,800

7. Net Income (5-6)

-

361,200

361,200

361,200

361,200

8. Cash flow from operations (1-2-3-6)

-

811,200

811,200

811,200

811,200

9. Initial investment

(2,000,000)

-

-

-

-

10. Changes in working Capital

( 600,000)

-

-

-

-

11. Total cash flow

(2,600,000)

811,200

811,200

811,200

811,200

 


Year 0

Year 1

Year 2

Year 3

Year 4

Incremental Net income

0

361,200

361,200

361,200

361,200

Incremental cash flows

-2,600,000

811,200

811,200

811,200

811,200

PV (Year 0) = -2,600,000

PV (Year 1) = 811,200 / (1.1) = 737,455

PV (Year 2) = 811,200 / (1.1)2 = 670,413

PV (Year 3) = 811,200 / (1.1)3 = 609,467

PV (Year 4) = 811,200 / (1.1)4 = 554,061

Net Present Value = -28,604

API adapting this changes will fall the firm into losses as compared to earlier decision. This is because the net present value is negative and shows that project will generate losses that profits as expected in any viable project or investment. Therefore, I recommend to the management that they should not adapt this decision if at all they want to make a viable and promising project investment that will generate profits and perform financially.

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5. Identify and discuss the systemic risks and un-systemic risks that may affect performance of the selected company.

Financial Risks: A risk is that possibility of entire financial system of a firm is likely to cause impact or collapse. It is usually caused by instability of their financial system or other inter-dependencies in the entire market. It may be as a result of market forces and strong competition as well political factors. Strategic decisions should be made to curb them

A Systematic risk is that inherent difficulty that is to be mitigated which cannot be controlled by either an individual or a group. Of course there is no well-defined method of handling it but as an investor you need to consider diversification into various securities that could help minimize that risk

Non-systematic risk is a danger which is associated to a specific security. Investors need to create these spread portfolios for assigning dangers over numerous classification of assets. This is to ensure that the firm does not fall to any risk that will hider it from its normal operations.

API Limited is being faced by several risks such as foreign currency, prices of materials, interest rates, and credit and liquidity in their normal course of its business. Their overall danger management seeks to ensure the firm is able to finance its goals and meet their investor's obligations. The firm has various approaches the use in measuring them to which they are exposed to, through cash-flow and sensitivity analysis, aging and credit rating, interest rate and commodity analysis. Their policy that governs the principle management risk approves liquidity management.

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6. Calculate the dividend payout ratio and comment on the dividend policy of the chosen company through 3 years.

Dividend Policy: It is established on a low cost operational ideal aimed to distribute a solid cash flow over. This policy is leveraged in this plan and remains to stabilize capital commitments and proper structure to offer a maintainable return to investors. It keeps on changing from year to year depending on the market conditions and profits the firm makes. It looks to pay ordinary dividends that are maintainable and targets a range of 3.0 to 4.0 cents per share every year subject to performance and cash flow per year and with 100 percent payout compliance to their shareholders. The board of directors also considers additional returns to their investors above ordinary dividend when business condition are favorably good. They consider dividend an obligation until when fully paid. The most important factor that the firm's board (in their discretion) considers most is firm growth, funding and cash-flow requirements, their capital structure as well as their statement of financial position.

However, the API is progressing well since it had maintained good performance in the last three consecutive years. The board therefore recommends to make reserves out of the profits they get to stand in for difficult times when a firm finds its self on losses, dividend will be paid out of them. Reserves will help the firm maintain their dividend policy when marketing conditions will not be favorable and use these funds to reward their shareholders so that they don't feel the pinch of the losses it may experience.


Year 2018

Year 2017

Year 2016

Dividend payout ratio = Dividend paid/Net income

9.8 / 48,202 = 2.03:1

10.7 / 52,371 = 2.04:1

10.6 / 51,670 = 2.05:1

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7. Recommendation Letter

Dear Client,

I am writing to you about the opportunity of investment that you are interested in. As your financial advisor, I look for investment that take a seat contentedly with your long life time and your dislike to some risk. I am also considering your changing aspects of your present investment fortunes to guarantee that we are providing you with self-protective growth portfolio in terms of uncertainty

API is very stable firm operating in healthcare sector. It is established on a low cost operational ideal aimed to distribute a solid cash flow over their oil price. Their dividend policy is leveraged in this plan and remains to stabilize capital commitments and proper structure to offer a maintainable return to investors.

Its profitability and efficiency ratios are very strong and high and look forward to maintaining the same in the near future should the market conditions remain favorable. Investing in this firm typically has risk and return characteristics that are usually uncorrelated to additional shares.

Santos limited is the world's largest firm and at this time believes there is prospects for potential gains off shore to Australian investors. To this end, Santos Ltd are currently offering investment opportunities to invest with outlook for long term capital growth.

 

I take this opportunity to enclose product disclosures and financial statements for your perusal and will contact you shortly to discuss more.

Yours sincerely,

Your Name

Conclusion

The firm has shown its potential to invest in the Australia market and seen being the market leader in the pharmaceutical sector specializing health and beauty products. Its profitability and efficiency ratios are very strong and stable enough to attract potential investors build the investment portfolios in this market. Their dividend policy is good and favorable to all stakeholders of the firm to make attractive. It is standard at a rate of 3.0 to 4.0 subject to market conditions but do pay their shareholders through the reserves when there are losses.

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