Financial Ratio Analysis

The most widely discussed cross-sectional technique is a comparison of

ratios across 5rns. Numerous individual ratios have been proposed in the
literature. The seven categories are (1) cash position, (2) liquidity, (3)
working capital/cash flow, (4) capital stricture, (5) debt service coverage,
(6) profitability, (7) turnover.

5.1.1 Cash Position

Cash and marketable securities from an important reservoir that the firm
can use to meet 15 operating expenditure and other cash obligation when
as they fall due. The ratios that save been used when comparing the
relative cash positions of different firms include:

Cash + marketable securities

❖
Current liabilities
Cash + marketable securities
❖
Sales
Cash + marketable securities
❖
Total Assets

The higher each of these ratios, the higher the cash resources available to
the firm.
Table 5.1: Cash Position of Beximco pharmaceuticals Ltd.
Particular Yea
2004-05 2005-06 2006-07 2007-08 2008-09
Cash + marketable 0.21 0.15 0.06 0.06 0.12
securities/Current liabilities
Cash + marketable 0.05 0.04 0.02 0.08 0.02
securities/ Sales
Cash + marketable 0.08 0.06 0.02 0.03 0.03
securities/ Total assets

0.08
0.08
0.25 0.21
0.07
0.2 0.15 0.06 0.05
0.12 0.05 0.04
0.15
0.04
0.1 0.06 0.06 0.03 0.02 0.02
0.02
0.05
0.01
0 0
2004-05 2005-06 2006-07 2007-08 2008-09 2004-05 2005-06 2006-07 2007-08 2008-09

Cash + marketable securities/Current liabilities Cash + marketable securities/ Sales

0.08 0.08
0.07 0.06
0.06
0.05
0.04 0.03 0.03
0.03 0.02
0.02
0.01
0
2004-05 2005-06 2006-07 2007-08 2008-09

Cash + marketable securities/ Total assets

Table 4.1 represents the three ratios of the Beximco Pharmaceuticals Ltd.
(BPL) in 5 years. Across all these ratios there is a consistent ranking of
the companies. In the table, the higher cash of BPL was 2004-05, then
2005-06, 2007-08 and then 2008-09. But lowest cash position in BPL was
in 2006-07. An important additional item in interpreting the ratios is
resolving credit agreements with lenders. In the calculation of cash
position, one important element is marketable securities which consist of
treasury notes and bonds, municipal bonds, corporate bonds, mortgages
and equity securities. But in these BPL, financial statements, those
instruments are not mentioned. So here we consider the investment in
marketable securities (at cost), because as we know, marketable securities
states that, the securities which will easily be converted into cash are
treated as marketable securities. One important notification here is that,
the BPL is able to make a quick cash position without any delays due to
the arranging the finance.

5.1.2 Liquidity
Liquidity refers to the ability of a firm to meet its short-term financial
obligations when and as they fall due. The cash position ratios discussed
capture one dimension of liquidity. Two additional liquidity ratios that
are frequently used are
❖ Quick Ratio =
Cash + short - term marketable securities + accounts receivable
Current liabilities
Current assets
❖ Current Ratio =
Current liabilities

Both ratios extend the assets in the numerator of the cash position ratios
include items that potentially can be converted into cash. The quick ratios
include accounts receivable. (Cash + short-term marketable securities+
 accounts receivables are often called the “quick assets.”) The current ratio
also includes in the numerator items such as inventories and prepaid
expenses. The higher both the ratios, the higher the liquidity position of
the firm.

Table 5.2: Liquidity Ratios of Beximco pharmaceuticals Ltd.

Year
Particular
2004-05 2005-06 2006-07 2007-08 2008-09
Quick Ratio 0.34 0.28 0.19 0.17 0.30
Current Ratio 0.17 0.18 0.14 0.13 0.14

0.35 0.18

0.3 0.16
0.14
0.25
0.12
0.2 0.1
0.15 0.08
0.06
0.1
0.04
0.05 0.02
0 0
2004-05 2005-06 2006-07 2007-08 2008-09 2004-05 2005-06 2006-07 2007-08 2008-09

Quick Ratio Current Ratio

In the liquidity ratios table, there are two additional liquidity ratios that
are-
❖ Quick Ratio
❖ Current Ratio

The higher both the ratios, the higher the liquidity position of the firm. In
BPL financial statement the quick ratio in 2004-05 was 0.34. But in the
subsequent year, the ratios were declined consistently to 0.28, 0.19, and
0.17. This position was caused to an end in 2008-09 and back to the
previous liquidity position again. Current ratio in 2005-06 was also
satisfactory but in the later period this ratio was declined in the 2006-07,
2007-08 and 2008-09. But the overall liquidity position in 2008-09 was
quite commencing able. It shows that the companies' quick asset is quite
enough to meet its current obligation.

5.1.3 Working capital/Cash flow

Increasing attention is being paid to the cash generating ability of firms.
While most firms do not directly report cash flow information in their
annual reports, inferences about cash flow can be gained by adjusting the
reported net income figure for the non-cash items in its computation.

Working capital from operations

❖
Sales
Working capital from operations
❖
Total assets (average)
Cash flow from operations
❖
Sales
Cash flow from operations
❖
Total assets (average)

The average total assets figure in the ratios typically is calculated as the
equally weighted average of the opening and closing total assets figure
for the fiscal period. The higher each of the ratios, the larger the working
capital or cash flow generated by the firm in its operations. The ratios
could be extended to include changes in working capital or cash flow
from non-operations activities, for example, the use of cash to repurchase
the shares of the firm.

Table 5.3: Working Capital from Operation and Cash Flow from
Operation Ratios of Beximco Pharmaceuticals Ltd.
 Particular Year
2004-05 2005-06 2006-07 2007-08 2008-09
Working capital 0.82 0.80 0.81 0.89 0.78
from operations/ Sales
Working capital 0.65 0.57 0.62 0.64 0.59
from operations/
Total assets (average)
Cash flow from 0.17 0.20 0.19 0.16 0.25
operations/ Sales
Cash flow from 0.14 0.14 0.15 0.11 0.19
operations/ Total assets
(average)

0.9 0.66
0.88 0.64
0.86
0.62
0.84
0.82 0.6
0.8 0.58
0.78
0.56
0.76
0.74 0.54

0.72 0.52
2004-05 2005-06 2006-07 2007-08 2008-09 2004-05 2005-06 2006-07 2007-08 2008-09

Working capital from operations/Sales Working capital from operations/Total assets (average)

0.25
0.2

0.2
0.15
0.15
0.1
0.1

0.05
0.05

0 0
2004-05 2005-06 2006-07 2007-08 2008-09 2004-05 2005-06 2006-07 2007-08 2008-09

Cash flow from operations/ Sales Cash flow from operations/ Total assets (average)
The working capital and cash flow table presents the foregoing ratios for
each year of BPL. For each of these ratios, year 2005-06was the lowest
position and 2004-05 and 2006-07 was in average position. But in 2007-
08 and 2008-09 working capital were much higher than the previous year.
One important benefits of a higher cash flow per taka. Of sales or total
assets is the greater flexibility it permits a firm in its financing,
investment, or operating decision.

Alternatively we can interpret that, working capital focuses on the

differences between current assets and current liabilities; these can help to
make projections of the amounts and timing of future cash inflows and
outflows of BPL.

5.1.4 Capital Structure

Capital structure ratios provide insight into the extent to which non-equity
capital is used to finance the assets of the firm. Some representative ratios
are
Long - term liabilities
❖
Shareholde rs equity

Current liabilities + long - term liabilities

❖
Shareholders equity

The higher each of these ratios, the higher the proportion of assets
financed by non-shareholder parties. Which components to include in the
numerator or denominator of the ratios depend on how one defines
liabilities and shareholders' equity. Unfortunately, there is not general
agreement in the accounting literature or in published financial reports on
the precise distinction between liabilities and equity.

Table 5.4: Capital Structure Ratios of Beximco Pharmaceuticals Ltd.

 Particular Year
2004-05 2005-0 2006-07 2007-08 2008-09
Long-term 0.07 0.10 0.08 0.09 0.07
liabilities/ Shareholders'
equity
Current liabilities + long- 0.42 0.45 0.43 0.43 0.33
term liabilities/
Shareholders' equity

0.1 0.45
0.09 0.4
0.08 0.35
0.07 0.3
0.06 0.25
0.05
0.2
0.04
0.15
0.03
0.1
0.02
0.01 0.05
0 0
2004-05 2005-06 2006-07 2007-08 2008-09 2004-05 2005-06 2006-07 2007-08 2008-09

Long-term liabilities/ Shareholders' equity Current liabilities + long-term liabilities/ Shareholders' equity

The two capital structure ratios for the five years of BPL are reported in
the table. Deferred taxes are treated as part of shareholders equity when
computing these ratios. Both in 2005-06 and 2006-07 have capital
structures that are between the extremes of 2004-05 and 2008-09. In
2005-06 and 2006-08, the BPL was relies very heavily on debt financing
and in 2008-09 BPL was relies on outside financing for current liabilities.
As the ratios requirement, the higher the each of these ratios, the higher
the proportion of assets financed by parties, the BPL has to consider
when computing the capital structure ratios is the treatment of obligation
under leasing contracts.