- 20 Marks
Question
Potco PLC is a listed Ghanaian company that produces textile prints for both local and African markets. As at the year ended 31 March 2023, the company made a Gross Profit of GH$12,150. Cost of Sales for the year was GH$77,850 and Operating Profit Before Interest and Tax was GH$47,130. Finance Cost for the year was GH$920 and Tax Charged to Profit or Loss was GH$1,400.
The Inventory Turnover was 3.6 times. Dividend Paid Per Share was GH$0. 36 resulting in a Dividend Yield of 6 %. Current Assets consist of Inventory, Cash and Trade Receivables.
Extracts from the Statement of Financial Position as at 31 March 2023 were as follows: GH$
| Non-Current Assets | 63,320 | | Current Asset (excluding Inventory and Cash) | 18,605 | | Current Liabilities | 27,600 | | Shareholder’s Fund | 58,480 | | Cash | 6,000 | | 10% Debenture | 23,500 | | Share Capital (@ GH63) | 18,000 |
The following ratios relate to the industry in which Potco Plc belongs to:
| Profit (after Tax) Margin | 4.1% | | Current Ratio | 1.12 | | Return on Capital Employed (ROCE) | 10.0% | | Inventory Turnover | 3.47 | | Receivables Period | 87 days | | Dividend Yield | 5.8% | | EPS Ratio | 12.0 | | Debt/Equity Ratio | 32.6% |
You are required to: a) As far as the above information permits, compute the following ratios for Potco PLC. i. Profit (after Tax) Margin ii. Current Ratio iii. Return on Capital Employed (ROCE) iv. Receivables Period v. Price/Earnings Ratio vi. Debt/Equity Ratio (12 marks) b) Using the ratios above, write a report to the Board of Potco PLC to assess the Financial Performance and Financial Position of the entity, relative to its industry. (8 marks) [Total: 20 marks]
Answer
Note: There is an inconsistency in the given figures (gross profit 12,150 with operating profit 47,130), suggesting possible other income of 35,000 (47,130 – 12,150) to make operating profit higher. Sales = cost of sales + gross profit = 77,850 + 12,150 = 90,000. Profit before tax = 47,130 – 920 = 46,210. Profit after tax = 46,210 – 1,400 = 44,810.
Inventory = cost of sales / inventory turnover = 77,850 / 3.6 = 21,625.
Current assets = inventory 21,625 + cash 6,000 + receivables 18,605 = 46,230.
Number of shares = share capital / nominal value = 18,000 / 3 = 6,000.
EPS = 44,810 / 6,000 = 7.468.
Market price = dividend per share / dividend yield = 0.36 / 0.06 = 6.
Capital employed = shareholder’s fund + debenture = 58,480 + 23,500 = 81,980.
a) Ratios for Potco PLC:
i. Profit (after Tax) Margin = (44,810 / 90,000) × 100 = 49.79%
ii. Current Ratio = 46,230 / 27,600 = 1.67 : 1
iii. Return on Capital Employed (ROCE) = (47,130 / 81,980) × 100 = 57.5%
iv. Receivables Period = (18,605 / 90,000) × 365 = 75.5 days
v. Price/Earnings Ratio = 6 / 7.468 = 0.8
vi. Debt/Equity Ratio = (23,500 / 58,480) × 100 = 40.2%
b) Report to the Board of Potco PLC
To: Board of Directors, Potco PLC
Subject: Assessment of Financial Performance and Position Relative to Industry for Year Ended 31 March 2023
Introduction:
This report evaluates Potco PLC’s financial performance and position using calculated ratios compared to industry averages.
Performance Assessment:
- Profitability: The profit after tax margin of 49.79% far exceeds the industry 4.1%, indicating superior cost management or pricing power. ROCE at 57.5% vs industry 10.0% shows excellent efficiency in generating returns from capital, possibly from high operating profit driven by other income.
- Liquidity: Current ratio of 1.67 is better than industry 1.12, suggesting stronger ability to meet short-term obligations, reducing liquidity risk.
- Efficiency: Receivables period of 75.5 days is shorter than industry 87 days, reflecting effective credit control and cash flow. Inventory turnover of 3.6 times is slightly better than industry 3.47, indicating good stock management.
- Gearing: Debt/equity ratio of 40.2% is higher than industry 32.6%, implying more leverage, which amplifies returns (high ROCE) but increases financial risk.
- Investor Metrics: P/E ratio of 0.8 is much lower than industry 12.0, suggesting the market undervalues the company or perceives risks in sustaining profits. Dividend yield of 6% is slightly higher than industry 5.8%, attractive for dividend-focused investors.
Conclusion and Recommendations:
Potco PLC outperforms the industry in profitability, liquidity, and efficiency, but the low P/E indicates potential market concerns about future growth or risks in the textile sector (e.g., competition or supply chain issues in Africa). The higher gearing requires monitoring to avoid debt burdens, especially in Ghana’s economic environment post-DDEP. Recommend strategies to boost growth and investor perception, such as expansion or improved disclosures.
Regards,
Expert in Financial Reporting, Planning and Analysis
- Topic: Ratio Analysis
- Series: APR 2024
- Uploader: Samuel Duah