Ratio Analysis - Case Study - ITC LTD

Ratio Analysis - quantitative analysis on the company ITC LTD was conducted in order to determine it's operational and financial performance.

1. ITC LTD – Ratio Analysis by: Isham , sai rohit , Rahul and deepesh

2. introduction It is a multi-industry company headquartered in Kolkata, West Bengal. Established in 1910 as Imperial Tobacco Company LTD. Later changed to Indian Tobacco Company LTD generally known as ITC LTD. Its diversified business includes five segments: Fast-Moving Consumer Goods, Hotels, Paperboards & Packaging, Agriculture Business & Information Technology. In 2012-13, had an annual turnover of US$8.31 billion and a market capitalization of US$45 billion. Employs over 25,000 people at more than 60 locations across India.

3. Objectives To analyse liquidity of ITC LTD. To analyse profitability of ITC LTD To analyse solvency. To analyse efficiency. To study growth of ITC LTD.

4. Financial Summary of Last 5 years

5. Shareholding Pattern in %

6. Ratio analysis Financial tool used by top management to conduct a quantitative analysis of information in a company's financial statements. Ratios that are to be analysed will be in form of %, times and proportion. They are classified into: Liquidity Profitability Activity or Efficiency Solvency Not only useful to businessmen but also to the investors, suppliers, bankers and customers to analyse performance of a company.

7. Liquidity Ratios Indicates short term solvency of the business. In other words: company’s ability to meet current obligations. It includes: Current Ratio Quick Ratio Cash Ratio Working Capital

8. Current Ratio It is the proportion of current assets to current liabilities. Expressed by the formula: Current assets: cash in hand, bank balance, debtors, bills receivable, stock, prepaid expenses, accrued income, and short-term investments (marketable securities). Current liabilities: creditors, bills payable, outstanding expenses, provision for taxation net of advance tax, bank overdraft, short-term loans, income received in advance, etc. Ideal value of current ratio is 2:1.  

9. Current Ratios of 2015, 2016 and 2017 Analysis: In 2015, ITC LTD approximately is having ideal current ratio value. Hence at this stage, it properly makes use of available resources as well as not in danger of not paying short-term debt on time. In 2016, there is drop in the value of current ratio. It is lower than the standard value. This indicates that ITC is in danger of not being able to pay short-term debt on time. In 2017, there has been rise in the value of current ratio. It is higher than the standard value which indicates that the usage of resources is not proper and effects the profit. Year 2015 2016 2017 Current Ratio 2.103 1.727 3.689

10. Quick Ratio Ratio of quick (or liquid) asset to current liabilities. It is expressed as: Quick assets – assets quickly can be converted into cash. It is obtained by excluding inventories/stock and prepaid expenses. It is more better indicator to measure liquidity position of business as non-liquid current asset is excluded. Ideal value is 1:1.  

11. Quick Ratios of 2015, 2016 and 2017 Analysis: Since prepaid expense wasn’t in the balance sheet, only inventories was excluded. In 2015, it had slightly higher than ideal value. This indicates that little extra resources are used. In 2016, the ratio is approximately equals ideal value. Hence ITC can pay off its short-term dues without any flaw. In 2017, the ratio is very high in contrast to ideal value. This suggests that excess of resources are used and hence will result in less profit. Year 2015 2016 2017 Liquid Ratio 1.397 1.114 2.471

12. Cash ratio Ratio of cash and cash equivalents of a company to its current liabilities. It is expressed as: Extreme liquidity ratio since only cash and cash equivalents are compared with the current liabilities. Measures the ability of a business to repay its current liabilities by only using its cash and cash equivalents. Idea value is 1:1. This indicates that the company will be able to pay all of the short debts using cash equivalents.  

13. Cash Ratios of 2015, 2016 and 2017 Analysis: For all of three years: 2015, 2016 and 2017, the cash ratio is less than 1. This indicates current liabilities are greater than cash and cash equivalents. So ITC LTD will require more cash reserves in future to avoid delay of paying of short-term debts. Year 2015 2016 2017 Cash Ratio 0.6494 0.4692 0.4167

14. Working Capital Financial metric which represents operating liquidity available to a business, organisation or other entity, including governmental entity. It is a measure of both efficiency and its short-term financial health of an organization. It is expressed by: Positive working capital ensures that a firm is able to continue its operations and that it has sufficient funds to satisfy both short-term debt and upcoming operational expenses. If working capital is negative, then company may run into trouble paying back creditors in the short term. The worst-case scenario is bankruptcy.  

15. Working Capital of 2015, 2016 and 2017 Analysis: In all three of the years, ITC LTD had positive working capital. So company is in the safe position. Though in 2016, the company will have slight difficulty in order to pay off short-debts compared to 2015 and 2017 as working capital value is least. In 2017, the company will have least financial difficulties as working capital value is highest. Year 2015 2016 2017 Working Capital in $US 134,145 108,661 191,481

16. Profitability Ratio It is used to measure the overall performance of a company. Profitability ratios to be discussed in relation to sales: Gross Profit Ratio Operating Margin/Operation Profit Ratio Profit Margin/Net Profit Ratio Profitability ratio to be discussed in relation to investment: Return on Investment Ratio

17. Gross Profit Ratio Used to assess a company's financial health and business model by revealing the proportion of money left over from revenues after accounting for the cost of goods sold. It is expressed by: No standard value for comparison. Indicates margin available to cover operating expenses, non-operating expenses, etc. High gross profit ratio indicates that the firm has higher profitability. Also, reflects effective standard of performance of firm’s business. Low gross profit ratio may indicate unfavourable purchasing and mark-up policies.  

18. Gross Profit Ratios of 2015, 2016 and 2017 Analysis: From 2015 to 2016, there has been rise in gross profit ratio by 3.76%. From 2016 to 2017, there has been decline in gross profit ratio by 1.21%. This decline is not by large value so the company is not in an unfavourable position in 2017. In 2016, the company is doing better in terms financial health and performance compared to 2015 and 2017 as revenue is higher without increase in cost of goods. Year 2015 2016 2017 Gross Profit Ratio 61.35 65.11 63.89

19. Operating Margin/Operation Profit Ratio It is used to measure a company's pricing strategy and operating efficiency. It is expressed by: It is very useful for inter-firm as well as intra-firm comparisons. Lower operating margin is a very healthy sign.  

20. Operating Margin of 2015, 2016 and 2017 Analysis: For all of three years – 2015, 2016 and 2017, operating margin is comparatively low in contrast to gross profit ratio. Hence, the data indicates company is healthy financially. Year 2015 2016 2017 Operating Margin 34.68 36.64 35.22

21. profit Margin/Net Profit Ratio It reveals the firm's overall efficiency in operating the business. It is used to measure relationship between net profit(after tax and interest) and sales. It is expressed by: Non-operating incomes(dividend, received, interest on investment, profit on sales of fixed assets, commission received, discount received etc) and profits are included in net profit. Net profit indicates margin available after deduction cost of production, other operating expenses, and income tax from the sales revenue. Higher profit margin implies standard performance of a company.  

22. Net Profit Ratios of 2015, 2016 and 2017 Analysis: The percentage difference in all of these 3 years are very less. Therefore, the performance of company is more or less approximately the same. From 2015 to 2016, there has been increase in net profit ratio as well similar to gross profit and operating profit ratios. Hence at 2016, it indicates that the company is performing little better financially compared to 2015 and 2017. Year 2015 2016 2017 Net Profit Ratio 24.88 25.14 24.04

23. Return on Investment Ratio It measures a return on the owner's or shareholders’ investment. It establishes the relationship between net profit after interest and taxes and the owner's investment. Expressed as percentage and formula is expressed as: It highlights how successful business from the owner’s point of view. Helps to measure income on the shareholder’s investments. Allows to determine efficiently handling of owner’s investment.  

24. Return on Investment Ratios of 2015, 2016 and 2017 Analysis: From the table above, we can observe that Return on Investment Ratio has been on decline. This indicates that there has been decline in the profitability as well. In the year 2015, ROI is highest compared to 2016 and 2017. In 2016, though ROI is slightly less compared to 2015. But in 2017, there has been significant drop in the value of ROI, indicating profitability is least at present compared to past 2 years. Year 2015 2016 2017 Return on Investment Ratio 30.45 29.18 22.17

25. Activity or efficiency Ratio Highlights the different aspect of financial statement to satisfy the requirements of different parties interested in the business. Indicates the effectiveness with which different assets are vitalized in a business. Turnover means the number of times assets are converted or turned over into sales. Higher turnover ratio means better utilisation of assets and signifies improved efficiency and profitability. Activity ratio to be discussed such as: Inventory Turnover Ratio Debt Turnover Ratio Creditor’s Turnover Ratio Fixed Assets Turnover Ratio

26. Inventory Turnover Ratio Determines the number of times stock is turned in sales during the accounting period under consideration. Expresses the relationship between the cost of goods sold and stock of goods using formula: Determines how many times stock is purchased or replaced during a year. Lower ratio may be due to bad buying, obsolete stock, etc. Therefore indicates efficiency management of stock is low. High turnover is good but it must be carefully interpreted as it may be due to buying in small lots or selling quickly at low margin to realise cash. Therefore this indicates efficiency management is high.  

27. Inventory Turnover Ratios of 2015, 2016 and 2017 Analysis: From 2015 to 2016, there is decrease in the value of inventory turnover ratio. This indicates the management of stock was not properly done in 2016 in comparison to 2015. From 2016 to 2017, there has been rise in the value of inventory turnover ratio. This indicates the company was able to improve their efficiency management of stock. Year 2015 2016 2017 Inventory Turnover Ratio 1.789 1.550 1.734

28. Debtors Turnover Ratio/ Debtor's Velocity Indicates the number of times the receivables are turned over in business during a particular period . This ratio establishes the relationship between receivables and sales. It is used to measure the liquidity position of a concern. This ratios can be used to judge a firm's liquidity position on the basis of efficiency of credit collection and credit policy.  

29. Debtor Turnover Ratio of 2015, 2016 and 2017 Year 2015 2016 2017 Debtor Turnover Ratio 17.56 20.20 19.48 From 2015 to 2016 there is an increase and again a fall in 2017. This ratio indicates the efficiency of firm’s credit collection and efficiency of credit policy. From 2016 to 2017 the companies adequacy of liquidity came down. This indicates that liquidity position of this firm came down.

30. Creditor's TURNOVER RATIO Creditor’s turnover ratio is also called as Payable Turnover Ratio or Creditor’s Velocity. This ratio establishes the relationship between the net credit purchases and the average trade creditors. It indicates the number of times with which the payment is made to supplier in respect of credit purchase.  

31. Creditor Turnover Ratio of 2015, 2016 and 2017 Year 2015 2016 2017 Creditor Turnover Ratio 7.434 6.474 5.913 Analysis: At 2015, the creditors turnover ratio is highest in comparison to 2016 and 2017. This indicates that in 2015, the company paid its creditors punctually compared to 2016 and 2017. Punctuality of payment to the company’s creditors declines as years passed by.

32. Fixed assets turnover ratio This ratio indicates the efficiency of assets management. It is used to measure the utilization of fixed assets. This ratio establishes the relationship between cost of goods sold and total fixed assets Higher the ratio highlights a firms has successfully utilized the fixed assets. If the ratio is depressed, it indicates the under utilization of fixed assets.  

33. Fixed assets Turnover Ratio of 2015, 2016 and 2017 Analysis: As per the table, it can be observed that all three years, 2015, 2016 and 2017, fixed assets turnover ratio is approximately constant. Hence the utilization of fixed assets by ITC is approximately constant in all of these three years. In 2017, efficiency of asset utilization by the company is slightly, higher compared to 2015 and 2016. Year 2015 2016 2017 Fixed Assets Turnover Ratio 2.252 2.210 2.259

34. Solvency Ratio The term ‘Solvency’ generally refers to the capacity of the business to meet its short-term and long term obligations. Short term obligations include creditors, bank loans and bills payable etc. Long term obligations consists of debenture, long-term loans, and long-term creditors etc. It indicates the sound financial position of a concern to carry on its business smoothly and meet its all obligations. Some of the important ratios are given below to determine the long-term solvency of the concern : Debt-Equity Ratio Proprietary Ratio Capital Gearing Ratio Debt Service Ratio or Interest Coverage Ratio

35. DEBT- equity ratio This ratio also termed as External-Internal Equity Ratio This ratio is calculated to ascertain the firm’s obligation to creditors to creditors in relation to funds invested by the owners. The ideal Debt Equity Ratio is 1:1. The Long-Term Debt refers to outside debt including debenture and long-term loans raised from banks. This ratio indicates all external liabilities to owner recorded claims.  

36. DEBT- equity ratio of 2015, 2016 and 2017 Analysis: In all of the three years, it can be observed that the debt-equity ratio is very low. This indicates that the company very low in debt. Therefore, in all of the three years, company is in the least state of risk to repay loans to its lenders. Year 2015 2016 2017 Debt- equity Ratio 0.0660 0.0693 0.0519

37. Proprietary ratio Proprietary ratio is also known as Capital Ratio or Net worth to Total Asset Ratio. This is one of the variant of Debt-Equity Ratio. This ratio shows the relationship between shareholders fund and total assets. This ratio is used to determine the financial stability of the concerned firm in general. It indicates the share of owners in the total assets of the company.  

38. Proprietary ratio of 2015, 2016 and 2017 Analysis: Ratio below 0.5 is alarming to the creditors. In all of the three years, proprietary ratio is higher than 0.5. So it can be stated that the company is on the safe side in order to pay to its creditors. Though in 2017, the company has highest proprietary ratio compared to 2015 and 2016. So in this year, company is at least risk to its creditors. Year 2015 2016 2017 Proprietary Ratio 0.690040182 0.662541599 0.829641798

39. Capital Gearing Ratio This ratio also called as Capitalization or Leverage Ratio. This ratio describes the relationship between fixed and/or fixed dividend bearing securities and the equity shareholder’s fund. A high ratio indicates that company is having large funds bearing fixed interest and/or fixed dividend as compared to equity share capital. A low ratio indicates that preference share capital and other fixed interest bearing loans are less than equity share capital.  

40. Capital Gearing Ratio of 2015, 2016 and 2017 Analysis: In 2017, capital gearing ratio is the highest compared to 2015 and 2016. Therefore, at present the company is having highest funds bearing fixed interest or fixed dividend as compared to equity share capital. In 2016, capital gearing ratio is the least compared to 2015 and 2017. So at this stage, company is having least funds. Year 2015 2016 2017 Capital Gearing Ratio 15.15 14.43 19.26

41. Interest coverage ratio Interest Coverage Ratio is also termed as Debt Service Ratio. This ratio establishes the relation between the amount of net profit before deduction of interest and tax and the fixed interest charges. It is used as a yardstick for the lenders to know the business concern will be able to pay its interest periodically. Higher the ratio the more secure the debenture holders and other lenders would be with respect to their periodical interest income. Lower ratio indicates that the company is not in a position to pay the interest but also to repay the principal loan on time.  

42. Interest coverage ratio of 2015, 2016 and 2017 Analysis:- In 2015 the ratio is infinite which means the debenture holders and other lender are secured than in 2016 and 2017. Compared to 2016, 2017 is more secured for debenture holders and lenders. Year 2015 2016 2017 Interest coverage Ratio #DIV/0! 269.5 620.3

43. conclusion Overall, there has been increase in sales, reserves and surplus, net income and net worth continuously for 5 years. As per the analysis of ratios, overall, the company in 2016 is in better position compared to 2017. Even then at present, the company’s financial state is sound. In 2016, the overall liquidity and profitability of the company is doing better compared to 2015 and 2017. In 2015 and 2017, the overall liquidity, profitability, activity and solvency of the company is varying. Since the company is not in danger of any credential risks, the company will again be able to gain back its form like it was in 2016 or better if they are able to maintain the optimal ratios.

44. References ITC >> Shareholding Pattern - March 2017. 2018.  ITC >> Shareholding Pattern - March 2017 . [ONLINE] Available at:  http://www.moneycontrol.com/company-facts/itc/shareholding-pattern/ITC . [Accessed 04 January 2018]. Investopedia. 2018.  UK Home | Investopedia . [ONLINE] Available at:  https://www.investopedia.com . [Accessed 04 January 2018]. Periasamy , P., 2010.  A Textbook of Financial Cost and Management Accounting . revised ed. India: Himalaya Publishing House. Balance Sheet for ITC Ltd (ITC) from Morningstar.com. 2018.  Balance Sheet for ITC Ltd (ITC) from Morningstar.com . [ONLINE] Available at:  http://financials.morningstar.com/balance-sheet/ bs.html?t = ITC®ion = ind&culture = en -US . [Accessed 04 January 2018]. Income Statement for ITC Ltd (ITC) from Morningstar.com. 2018.  Income Statement for ITC Ltd (ITC) from Morningstar.com . [ONLINE] Available at:  http://financials.morningstar.com/income-statement/ is.html?t = ITC®ion = ind&culture = en -US . [Accessed 04 January 2018].