Question

Important information from the given data is as under:

• The cost of revenue % has consistently increased over the last 5 years from 37.24% to 40.91% and thus reducing the Gross Profit Margins.
• The above has also resulted in decreasing the Operating Margins from 26.52% to 23.16%.
• Interest expense % has also increased from 2.21% to 3.76% which suggests increased borrowings by the company.
• Subsequently, the PBT margins have reduced from 24.29% to 16.34%
• There is a significant change in Provision for Income taxes in the 5th year with the reverse sign and has increased the Net Income in the 5th year subsequently increasing the Earnings per share in the 5th year.
• There are extraordinary losses in the 1st year to the tune of 10% of Revenue.
• The number of outstanding shares has increased gradually.
• Also the EBITDA has reduced over the 5 year period.

To summarize, the effect from Provision for Income taxes and Extraordinary losses has a huge impact in giving a reverse picture (increased profitability) from what is visible by EBITDA/ Operating/ PBT margins (decreased profitability).

How Liquid is the Company? Is the management generating a substantial profit on the company's assets? If the management of the company would like to improve the company's financial performance, what should the management company do?

Answer 1

1. Cost of revenue of company has increased leading to a decline in gross profit margins, secondly there is also decrease in operating Margin. Further interest expenses has also increased over the year. All these goes to show that liquidity position of the company have somewhat declined as compared to previous year it is because all the expenses above are Cash expenses and over the year all of them has increased. But the positive thing is PBT Margin is around 16.34%, though it has fallen from previous year, but it means since PBT margin is positive thus, the liquidity position of the company is still positive.

2 . Company's PBTargin is around 16.34% which is a decent date of profitability. However l, it has fallen from previous year but still it is somewhat a decent percentage.

3. If management wants to improve company's financial performance then it can co following:-

A. Since cost of revenue of the company is increasing , it means it is incurring more cost on on factors of production . For this to reduce it should first negotiate with the supplier of direct material to either lower their current prices or ask certain volume discount from them, if it is not possible then we can shift certain burden on customer by increasing price of our product by a little percentage, secondly it should negotiate with labor whole hiring new workers so that it can get workers at lower rates.

B . It should be noted that interest expenses of the company has increased from 2.21% to 3.76% , which means that lenders now consider the company more risky to give loan, keeping other things constant. A company is considered more risky if it has past outstanding loans in it's books. Thus, in order to overcome such kind of situation company may repay certain of it's debt adebt as it has decent liquidity position this will help the company to reduce it's interest expense.

C. Another thing is we can see that the company has extraordinary losses in the 1st year which is around 10% of revenue of the company which is a huge Margin. Company should analyze whether such loss could have been compensated by any insurance company, if it would be having certain insurance policy for it , if it is possible then it should take some insurance policy so that it will not suffer such a huge loss in future.

In this company can improve it's financial performance .