Q.1. Part-A Calculation of financial ratios Liquidity ratios: Current Ratio = Current Assets Current Liabilities Year wise Current ratio of Burberry Plc Burberry Plc 2007 2008 2009
£m
£m
£m
Current Assets
423.7
588.4
742.4
Current Liabilities
330.4
436.2
546,8
Current Ratio
1.28:1
1.34:1
1.34:1
Quick Ratio or Acid test ratio = Quick Assets (current assets - stock) / current liabilities
Year wise Current ratio of Burberry Plc
Burberry Plc
2007
2008
2009
£m
£m
£m
Quick Assets
423.7
588.4
742.4
Current Liabilities
330.4
436.2
546,8
Quick Ratio
1.28:1
1.34:1
1.34:1
Acid Test Ratio For Burberry Plc
2007
£m
Current Assets - Stocks: Current Liabilities
423.7-149.8/ 330.4
273.9: 330.4
2008 £m
Current Assets - Stocks: Current Liabilities
588.4 - 268.6 / 436.2
301.8 : 436.2
2009
£m
Current Assets - Stocks: Current Liabilities
742.4 - 262.4 / 546.8
479.8 : 546.8
Profitability Ratio:
Gross Profit Margin
=
Gross Profit
* 100
Turnover
Remember:
Turnover = Sales
Gross Profit = Turnover - Cost of Sales
Gross profit Ratio For Burberry Plc
2007
£m
Gross Profit Margin
=
521.3
* 100
850.3
61.3%
2008 £m
Gross Profit Margin
=
617.7
* 100
995.4
62%
2009
£m
Gross Profit Margin
=
665.8
* 100
1201.5
55.4%
Net Profit Margin
=
Net Profit
* 100
=
Profit before Interest and Taxation
* 100
Turnover
Turnover
Remember:
Net Profit = Gross Profit - Expenses
Net profit Ratio For Burberry Plc
2007
£m
Net Profit Margin
=
156.3
* 100
850.3
61.3%
2008 £m
Net Profit Margin
=
195.7
* 100
995.4
62%
2009
£m
Net Profit Margin
=
-16.1
* 100
1201.5
-1.33%
Ratios
2007
£m
2008
£m
2009
£m
Operating Profit/Net Assets
157/396.9 =39.5%
201.7/495.3=40%
-19.9/543.9=-1.8%
Return on Capital Employed)
Net Profit/Sales
156,3/850.3=18.38%
195.7/995.4=19.66%
-16.1/1201.5=-1.33
Operating profit margin)
Sales/Net Assets
850.3/396.9=2
995.4/495.3=2
1201.5/543.9=2.2
Net asset turnover)
Gross Profit/Sales
512.3/850.3 =60.24%
617.7/995.4=62%
665.8/1201.5=55.4%
Sales/Fixed Assets
850.3/162.7=5
995.4/177.5=5.6
1201.5/258.6=4.4
Expenses/Sales
Sales/Current Assets
850.3/423.7= 2
995.4/588.4=1.7
1201.5/742.4=1.6
Cost of Sales/Sales
329/850.3=38%
337.7/995.4=33.9%
535.7/1201.5=44.58%
Fixed Assets/Current Assets
162.7/423.7=0.38:1
177.5/588.4=0.30:1
258.6/742.4=0.35:1
Return on Asset ratio: Net profit before Tax
Total Assets
2007£m
156.3/749.7=20%
2008£m
195.7/953.2=20%
2009£m
-16.1/1125.7=-1.4
Rate on Investment return: Net profit before Tax
Net Worth
Total Assets
2007£m
156.3/396.9=39.38%
2008£m
195.7495.3=39.5%
2009£m
-16.1/543.9=-2.96
Q. B. Interpretation of ratios
Comparison
Current
Acid Test
2007
1.28:1
0.82: 1
2008
1.34:1
0.69 : 1
2009
1.34:1
0.88: 1
Acid test ratio is similar to the current ratio as it highlights liquidity of the company. Company may struggle to raise money
Q.2
Q.2.A
Pay back period for project A and project B for Boston Ltd
Payback period and cash flows
The payback method is the simplest way of looking at one or more major project ideas. It tells you how long it will take to earn back the money you'll spend on the project. The formula is:
Payback Period (years) = Investment Outlay
Cash inflows
Project-A
100,000/30,000=3.3= 3 years and four months
Project- B
200,000/28000=7.1 =seven years and 1.7 month (Aprrox:)
WACC
$
Cost
$
Shares
50,000
12%
6,000
Debt
50,000
8%
4000
4% risk premium, then this would need to be added on to the WACC.
4%
2000
100000
42000
0.12
Q. 2. B
Part A BOSTON LTD
WACC %
Investment A
12
End year
Outflow
Inflow
Taxation
Net Cash
Discount
Present
Factor
Value
0
(Now)
-100,000
-100,000
1.0000
-100,000
1
- 20,000
50,000
30,000
0.8929
26,787
2
- 20,000
50,000
60,000
0.7972
47,832
3
- 20,000
50,000
90,000
0.7118
64,062
4
- 20,000
50,000
120,000
0.6355
76,260
5
- 20,000
50,000
150,000
0.5674
85,110
6
- 20,000
50,000
180,000
0.5066
91.188
Net present value
291293
WACC %
Investment B
12
End year
Outflow
Inflow
Taxation
Net Cash
Discount
Present
Factor
Value
0
(Now)
-200,000
-200,000
1.0000
-200,000
1
-12,000
40,000
28,000
0.8929
2,5000
2
-12,000
40,000
56,000
0.7972
44,643
3
-12,000
40,000
-
74,000
0.7118
52,673
4
-12,000
40,000
112,000
0.6355
71,176
5
-12,000
40,000
140,000
0.5674
79,436
6
-12,000
40,000
168,000
0.5066
85,109
7
- 12,000
40,000
196,000
0.4525
88.690
8
-12,000
40,000
224,000
0.4040
90,496
Net present value 337223
On the basis of the above, Investment A would be more marginally more advantageous to Boston Ltd
Q.2.c
Net present value: It is the difference between the present value of cash inflow and present value of cash out flow. NPV is used in capital budgeting to analyze profitability of future cash inflows which an investment or project will yield in the future. Formula:
NPV is the sum of all terms,
\frac{R_t}{(1+i)^{t}},
Internal rate of return: It is the rate of return used in capital budgeting to measure and compare the profitability of investment made. It is also called discounted cash flow rate of return. IRR is the rate quantity and an indicator of efficiency quality or yield of investment. This is in contrast with net present value. NPV, which is an indicator of value or magnitude of investment.
An investment is considered acceptable if its rate of return is greater that a cost of capital. It is profitable).
Accounting rate of return: It is a financial ratio used in capital budgeting. It is the simple way of gauging return on an investment in project or purchase.
ARR calculates the return, generated from net income of the proposed capital investment. The ARR is a percentage return. If the ARR is equal to or greater that the required rate of return, the project is acceptable. If the ARR is less than desired rate then project should be rejected. The Accounting Rate of Return is calculated from the formula;
Average annual operating profit x 100
Average Capital employed.
Q.2.C
ARR for project A: 30,000/100,000= 30%
ARR for project B: 28,000/200,000= 14%
Therefore project should be selected for Boston Ltd
Q.3. Zero-based Budgeting
It is a method of budgeting in which all the expenses must be justified for each new period. Zero- based budgeting starts from a Zero and every function in the organization is analyzed for its needs and costs. A budget is made for the need irrespective if that it is higher or lower.
It is used in high level strategic goals Zero budgeting can lower the cost by avoiding blanket increase or decrease to a prior period of budget.
Zero-based budgeting can lower costs by avoiding blanket increases or decreases to a prior period's budget. However, it is time consuming and may take longer that traditional cost-based budgeting.
Zero based budgeting requires one to justify all planned expenditures for each new business period.
Zero based budgeting is widely used in charitable organization and Government budgets because expenses can easily go out of control.
Unique features:
It requires justification and prioritization of all activities before allocating any resources.
All business forecasts must start from base by justifying all expenses
It requires grouping all relevant activities in decision package.
Advantages:
Efficient allocation of resources on based needs
Managers find cost effective ways to improve functions.
It helps to detect inflated forecast.
Useful for service business
Increase staff motivation by giving responsibility in decision making
Increases communication and co-ordination
It helps in identifying opportunities for outsourcing.
It identifies and eliminates wastage and obsolete operations.
Cost centers identify their mission and relationship to over all goals.
Disadvantages:
Very time consuming and difficulty in defining decisions
It requires justifications of every detail related to expenditure.
Research and development activities are threatened.
Managers needs training for zero budgeting
Difficulty in reading volume of forms in the large company
Honesty of managers must be reliable and uniform
