Compound Annual Growth refers to growth over the years and is calculated by adding each year growth to the original amount. As for the sales of the company, the compounded growth rate for sales over 5 years time horizon is 11.05%. In other words, starting with the year 2000, when the sales of the company were $600000, by the end of 5 years, the sales of the company following 11.05% growth rate had increased to $1013376.
However, the net income of the company grew with annual compound rate of -136.10%. In other words, there was no growth in the net income rather it had turned negative following negative compound growth rate.
Thus, although, over the span of 5 years, the sales revenue of the company improved by 11.05%, the net income of the company had declined by -136.10% .
Juan should refer to both income statement and balance sheet of the company, however, in order to have a better and fair understanding of the company’s operations, he must construct the cash flow statement of the company.
The reason as why he is being suggested to construct a cash flow statement because many a times companies manipulate earnings and expenses so as the outcome of the financial statements should be as per their needs. As for Quickfix also, the sales of the company have consistently grown but the bottom line profits have turned negative.
Hence, creating cash flow statements would tell the actual scenario of the company relating to operating activities, investing activities and financing activities as it is very difficult to manipulate the cash transactions.
Juan should immediately calculate efficiency ratios of the company so as to understand how efficiently the company is using its assets to generate revenues. This would also help to understand the efficiency of management of the company. He may also calculate the solvency ratios of the company, where the former would notify him about the company’s ability to pay off its short term obligations, the latter will help him in understanding the current capital structure of the company, and if the company has the ability to pay off its interest obligations, in case, it opts for the bank loan in the future.
His final calculations should be related to profitability of the company as although he understands that the net profit margins of the company has sharply declined over the years but through operating profit margins he will be able to analyze as if Mr. Andrew is spending a lot on non-operating expenses and if these expenses are resulting in negative earnings of the company.
Juan should compare the results of Quick fix with the industrial averages. At first he should determine the industry to which Quick fix belongs and post that, he may refer to any financial journal or website and select the industry and then the relevant ratios to compare with the ratios of the company.
Besides comparing the financial data with the benchmark, Juan should conduct the financial analysis using the financial ratios:
Also known as Pure Balance-Sheet Ratios, these ratios judge short term payment ability of the entity. Generally two measures of Liquidity Ratios are used by analyst to adjudge the liquidity position of the company: (Robinson, 2008)
- Current Ratio= Current Asset/ Current Liabilities
- Quick Ratio/Acid Test Ratio= Current Assets- Inventory/ Current Liabilities
ii) Quick Ratio:
One of the important ratios, which indicate the profitability margins of the entity and can said to be a true indicator to adjudge whether the company is able to earn profits from its operations and what amount of return it can achieve for its investors.
i)Net Profit Margin:
ii) Operating Profit Margin:
c)Long term Solvency:
These ratios indicate as if the company can committ on its long term obligations.
i) Interest Coverage Ratio:
d) Asset Utilization Ratios:
Also known as efficiency ratios, these ratios indicate as if the company can use its assets efficiently to generate revenues for the company.
i)Inventory Turnover Ratio= COGS/ Average Inventory
Referring to the above analysis, we find that there is a significant difference between the current ratio and quick ratio of the company, which implies that the inventories account for major portion of current assets. Also, over the years, the company has lost its liquidity, although a very small improvement has been recorded during 2004. Overall, Quickfix does not seem to be liquid.
b) Profitability Analysis:
Profitability has been a major concern for the company, and our analysis indicates that, over the years the profitability of the company has declined over the years. However, both the operating and net profit margins of the company has shown signs of improvement during 2002.
Since the Interest Coverage Ratio of the company has been significantly low over the years, it can be easily inferred that the company is not solvent. However, the ratio seems to pick up during 2012, which is a good sign for the company.
d) Asset Utilization Ratios:
Although the inventory turnover ratio of the company has been decreasing, but recent improvement in the ratio indicates that the company is improving on its asset utilization.
Rationale as why bank should grant loan:
Since the ratio analysis indicates that the company has shown improvement in every section i.e liquidity, profitability, efficiency and solvency, it is requested for the bank to issue a loan to the company.
Although the liquidity position of the company has shown sign of improvement, but still the ratios are significantly low which restrains me from issuing short term loan to the company.
I would recommend Juan to ensure that the company improve its sales revenue and should refrain from taking loan for the time being as a major portion of operating income is already being spent on interest payments . Hence, it is advisable that the company should improve its operation to the extent that it should be able to bear the interest burden of additional debt.
Although Juan is working for Quickfix but he may face following difficulties to provide a rationale solution post conducting the financial analysis:
- Financial analysis is always prone to manipulative reporting. This includes accounting mismanagement and window dressing by the management
- Financial Analysis does not consider qualitative aspects of a company that has equal contribution in the success of the company. These factors include human resource management, brand etc.