Performance appraisals using financial indicators demonstrate knowledge and understanding of interpretation of financial performance Indicators. It also facilitates the understanding of motivational problems involved in performance assessment and control. It broadly measures the performance of organisation as a whole at the same time main sub division of business units commonly known as SBU's and also measures the relationship with market supplier and competitor. Financial performance measure highlights the strength and the weaknesses of organisation. Financial ratios are the numerical value used to evaluate or analyse the overall financial condition of the organisation. These values are taken from an enterprise's financial statements like balance sheet, income statement, and statement of cash flows or sometimes from the statement of retained earnings (Tom Coens, Mary Jenkins and Peter Block,2002). These ratios are divided into various categories which are as follows:
PROFITABILITY RATIO: Profitability ratio shows the overall performance and efficiency of the company. These helps in examining the profits made by a firm as well as examine how well the firm is operating by comparing the performance of the company with its past records (Mc Laney and Atrill,2002). To evaluate the profitability of business following ratios are used:
Gross profit margin ratio = Gross profit/sales*100
Net profit margin ratio = Net profit before interest & taxation/sales*100
Return on capital employed (ROCE) = Operating profit/ capital employed*100
Return on equity(ROE) = Profit after tax & preference dividend/ equity*100
LIQUIDITY RATIO: Liquidity Ratios are the ratios taken or derived from the balance sheet, to measure the liquidity position of the business or to analyse or evaluate its ability to pay its debts (Mc Laney and Atrill, 2002). To evaluate the liquidity of business following ratios are used:
Current ratio = Current assets/ Current liabilities
Acid test ratio = Current assets-stock/ current liabilities
Operating cash flows to maturing obligations = operating cash flows/current liabilities
EFFICIENCY RATIOS: These ratios are used to examine or measure the efficiency of the business with which various resources (assets and liabilities) are managed and utilized (Mc Laney and Atrill, 2002). To evaluate this ratio following ratios are used:
Average stock turnover period= Average stock held / cost of sales*365 days
Average settlement period for debtors = Trade debtors / credit sales*365 days
Average settlement period for creditors = Trade creditors/ credit purchases*365 days
Sales to capital employed ratio= Sales/ long term capital employed
Sales per employee ratio= sales/ number of employees
GEARING RATIOS: It refers to the ratios that measure the long term liabilities or contribution of long term lenders to the long term capital structure of the business (Mc Laney and Atrill, 2002). It is calculated as follows:
Gearing ratio = Long term liabilities/ long term capital structure*100%
Interest cover ratio = Profit before interest & tax/ interest payable
INVESTMENT RATIOS: These ratios help the investors to assess the returns on their investment, who are generally the shareholders in the company (Mc Laney and Atrill, 2002). The following ratios are used to evaluate this ratio:
Dividend per share = Dividends announced during the period/ number of shares in
Issue
Dividend pay-out ratio = Dividends announced for the year/ earnings for the year
Available for dividends*100
Dividend yield ratio = Dividend per share/ (1-t)/ market value per share*100
Operating cash flow (OCF) per share = Operating cash flows- Preference dividends/ number of ordinary Shares in issue
Price or Earning (P/E) ratio = Market value per share/ earnings per share
Comparative analysis of the Pearson's Plc. for the year 2009 and 2010.
RATIOS
2009
2010
Profitability Ratios
Gross profit Ratio
Net profit Ratio
ROCE
ROE
53.6
12.04
8.05
2.74
54.3
13.12
8.82
26.79
Liquidity Ratios
Current Ratio
Acid test Ratio
Working capital Ratio
1.85
1.59
31.60
1.86
1.66
34.34
Gearing Ratios
D/E Ratio
Interest cover Ratio
1.34
5.07
1.16
6.82
Comparative analysis of the Pearson Plc. For the year 2009 and 2010 demonstrates vital financial parameters which clearly states organisations performance since last two years. It is clear that company has performed better in terms of gaining the gross profit and net profit which is clearly evident that net profit is increased from 12.04 in 2009 to 13.12 in 2010, which shows that company has performed better and if we analyse return on capital employed it has increased from 8.05 during 2009 to 8.82 during 2010 which shows that there is a good return on capital investment done by the company. If we look at the ROE of the company than we can conclude that the money generated by the company from shareholder is gradually increased. This factor will be responsible for bringing good trust and loyalty among the shareholders and initiate more investment by these shareholders. This will also bring more revenue for company to start new business and investment plans. So far it is evident that profitability ratio of Pearson Plc. is showing clear positive signs of growth and a promising organisation from shareholders point of view.
Analysing the liquidity ratio, where we can measure the ability of company to use its near cash or its quick assets to retire its current liabilities. This test includes current ratio where it explains about company's ability to pay back its debt over next twelve months. It basically compares current asset to current liabilities and reflects the market liquidity and its ability to meet creditors demand. The growth in current ratio of Pearson Plc. that company is improving its ability to meet its current obligations. Also if we take a glance on Acid test ratio it indicates rise in 201 as compared to 2009. Company has also gained rise in its working capital which clearly indicates that company is raising its potential to invest more towards gaining growth in the market. Working capital is required in any organisation to meet its regular financial resource for smooth operation in terms of its operational expenses, maintaining its daily inventories and other current expenses for smooth operation. Also working capital deficiency which is a major concern is not with this company.
When we look at gearing ratio for Pearson Plc. the results are quite promising and brings more confidence in the company. As company's financial leverage is demonstrating good degree to which firms activities are funded by owners fund versus creditor's fund. It is clear that company with high gearing is more vulnerable to downtime in the business cycle as company has to service its debts in spite of bad sale. Interest cover ratio also supports the company's performance and shows its ability to pay back its loan and interest on its liability against the bank.
As economy grows, it enables the GDP rate to rise, due to this which demands for the domestic products get increased accordingly. And the ability of the people to spend on education also get increased due to which Pearson Plc. is getting benefitted day by day.
By analysing the above report the Chairman Mr Glenn Moreno is proud and confident on his whole team and uses clear strategy for growth and aims to give good return on shareholders' equity. Company posted operating profit and earnings growth of 15 to 90%. His confidence on his two important performance measures operating cash flow and return on capital which is better from all the time. Also FTSE100 was up by 9%, and FTSE all share media indexed by 21%.
According to CEO Marjorie Scardino, financial performance of this company is giving all the possible indications for company's future expansion strategies and stability taking into stakeholder's interest.
ANSWER 2
Credit crunch: Credit crunch or credit crisis refers to the lack of availability of loan or credit from the bank. It generally refers to the situation wherein the conditions to obtain the loan from the bank get narrowed down and the relationship between interest rates and credit availability get changed, because of either less credit at any given interest rate or when there is no clear relationship between credit availability and interest rates (Graham Turner, GFC Economics, 2008).
Causes for Credit Crunch: There are many Reasons behind the cause of credit crunch due to which banks suddenly stopped or minimised the credit lending facility. This may be due to the inappropriate lending of loans to the subprime borrowers whose credit history was not at all strong as it should be. It is a situation where bankers have no trust in the borrowers and also due to lack of liquidity by these banks which result in situation like this, makes banks hesitate to provide loan to the customers. It is due to impact of negative pressure in the economy which is initiated by severe financial crisis.
There always exists an uncertainty in the economy and remains a potential threat at every level of operation including profitability, company's other financial performance parameters. Company needs to be very cautious and vigilant enough to plan and develop its strategies to invest, expand and run the business at every level. Economy is globally affected right from developing countries to developed countries and is interlinked for any of the financial consequences. The deep depression during 2006 started from America and spread across the globe and paralysed the whole economy. As a result there was a widespread of uncertainty in the economy and downfall of all the stock market across the globe. This made all companies to critically analyse the situation and remain quite when it comes to invest during such environment. This recession hit the economy resulting into less flow of money within the economy. Reducing the profitability and share price of all the organisations across the globe and affected on almost all the sectors including health, education, entertainment, hospitality, reduction in consumer goods supply and demand. Consumers spending power was reduced to some extent which made gradual reduction in demand of fast moving consumer goods.
Pearson's Plc. is a famous publisher in UK and other parts of the country. It provides a wide range of books of almost every subject to the students and academics. The financial crisis affected the educational sector due to which Pearson Plc. also not left unaffected and faced significant impact on its entire profitability and share price in FTSE all share, FTSE100. Credit crunch has shown its impact on this company and as related to education sector it was worst affected, the company faced less revenue generation in 2006. Current financial Crisis is basically a slow economic growth which is linked to many factors, including cut down of jobs in UK, Government policy to increase fees which is been opposed by many organisations. Hike in fee structure will play significant role in reducing the profitability of Pearson Plc. which is related to education and company needs to follow defensive strategy in terms of future expansion and investment. The increase in fee structure has affected the educational industry as well as the industries related to it because the hike in fees have led to less spending power of students on books, as they are only able to pay their fees. It forces them to use other sources for knowledge and learning like e-books, journals, articles etc. It had a worse effect on profitability of Pearson Plc. as well as the share price of the company also lowered down.
The recent financial crisis started showing its colours during the end of 2008 and started to spoil the growth of world economy. The root cause of financial credit crisis is said to be as the improper lending facilities used by the successive governments that failed to check the schemes offered by the various banks and financial institutions. The major reasons behind this vicious circle of financial crisis could be termed as excessive risk, excessive leverage, excessive lending, excessive liquidity etc. The financial crisis posed a great threat to UK economy. It is estimated that approximately 20,000 people lost their jobs alone in London's Financial Industry (CEBR, 2008). Therefore it is necessary to find out the relevant solutions to strengthen the economy.
ANSWER3
Derivatives are referred as a financial instrument of any Company. The value of these derivatives depends on the values of other, more basic, underlying variables. Derivatives can depend on any variable be it the price, indices, volatilities, interest rates, etc. Derivatives are mainly categorised on the basis of their relationship between the derivative and underlying asset, what type of underlying asset is it, their payoff profile and the market in which they trade. These derivatives are also used for speculating purposes which means to hedge or bet in financial term.
ANSWER 4
After analysing Pearson Plc. Ltd financial report the data on its financial statement reveals that the company is performing better in terms of its profit, gross profit, liquidity and gearing ratio. Company has been showing good result in spite of weak economic situation in UK. Increase in its profit is showing its performance which is clearly reflecting the company's hard work and dedication to achieve its goals. Return on investment is also good and increased gradually from 2009 to 2010. Shareholders are confident enough to invest more in this company but are also advised to take thorough analysis as UK Government has increased fee structure and this might affect the company's profitability and return on equity. The dividend available on the shares when invested in this company might not yield significant profit as the profit ratio won't fluctuate too heavily. Company needs to assess its resources in a way that overhead expenses can be minimised and also the operating charges should be minimised because there is difference in net profit and gross profit. This will allow the company to get raised net profit and minimise the difference between net profit and gross profit. Financial crisis have left its impact on this company and this has led to its weak performance, also the UK economy is not favourable enough to give robust sale which can attract heavy investment required for expansion. Company needs to focus on its budgeting activities and cutting down the unnecessary expenses on resources, inventories and other operations vital for its activities. Company should not indulge in planning strategy to start new business or expand business in the same sector or same product portfolio. Company should move to buy cheaper raw material or identify supplier who provides cheaper raw material. Company should give discount to pump up or increase the sale by this the sales of company can grow and bring positive effects or enhance its performance. The sluggish UK economy is currently not providing a good platform to flourish as Government Policies are affecting the consumers spending Power. Taxation system, job cut down are raising the head of unemployment, making more and more people jobless, company's policy of cutting down the benefits of housing, other benefits. This is creating the downfall in economy and reducing the consumer spending power. Pearson Plc. is an organisation which deals with academics, students and universities are its basic target customers. Any of the policies related to academic will affect this company on a large and stakeholder's needs to evaluate this situation and wisely plan their investment. As economy has not priced up the investors needs to be cautious before investing in the company and also the long term investment may be bit favourable unless or until there are some external factors which can support the company's robust performance.
