- 16 Marks
Question
The following financial statements were extracted from the books of Adebayo Trading Company Plc for the relevant years:
Statement of Profit or Loss and Other Comprehensive Income for the year ended March 31:
| Item | 2018 (N’000) | 2017 (N’000) |
|---|---|---|
| Revenue | 250,000 | 400,000 |
| Cost of sales | (137,500) | (225,000) |
| Gross profit | 112,500 | 175,000 |
| Administrative expenses | (36,050) | (44,500) |
| Distribution expenses | (20,200) | (24,250) |
| Finance cost | (3,125) | (3,125) |
| Profit before tax | 53,125 | 103,125 |
| Taxation expense | (20,000) | (40,000) |
| Profit for the year | 33,125 | 63,125 |
Statement of Financial Position as at March 31:
| Item | 2018 (N’000) | 2017 (N’000) |
|---|---|---|
| Non-current assets: | ||
| At cost | 136,500 | 196,000 |
| Accumulated depreciation | (36,500) | (52,250) |
| Net non-current assets | 100,000 | 143,750 |
| Current assets: | ||
| Inventory | 79,250 | 20,750 |
| Trade receivables | 50,000 | 12,500 |
| Bank balance | 12,000 | 91,750 |
| Total current assets | 141,250 | 125,000 |
| Equity and Liabilities: | ||
| Equity | ||
| Ordinary shares of 50 kobo each | 57,500 | 57,500 |
| Retained earnings | 43,000 | 25,000 |
| Total equity | 100,500 | 82,500 |
| Non-current liabilities: | ||
| 10% Loan notes | 31,250 | 31,250 |
| 12% Redeemable preference shares | – | 5,000 |
| Total non-current liabilities | 31,250 | 36,250 |
| Current liabilities: | ||
| Trade payables | 18,750 | 26,875 |
| Taxation | 60,000 | 40,000 |
| Bank overdraft | 30,750 | 83,125 |
| Total current liabilities | 109,500 | 150,000 |
| Total equity and liabilities | 241,250 | 268,750 |
Additional Information:
(i) Dividend paid to Equity holders: N15,125,000 (2018) and N21,375,000 (2017).
(ii) Drop in market price per share: 36 kobo (2017) to 24 kobo (2018).
(iii) Finance cost relates to interest paid on 10% loan notes.
Required:
(a) Calculate in columnar form, for the two relevant years the following financial ratios:
- Return on capital employed (ROCE)
- Net profit margin (use profit after tax)
- Current ratio
- Quick ratio
- Debt ratio
- Fixed interest cover
- Dividend cover
- Dividend yield
(12 Marks)
(b) Comment on the profitability and short-term liquidity of the company based on the ratios calculated.
(4 Marks)
Answer
Adebayo Trading Company Plc
Financial Ratios for the Year Ended March 31, 2018 and 2017
| Ratios | Formula | 2018 | 2017 |
|---|---|---|---|
| Return on Capital Employed (ROCE) | PBIT / Capital Employed x 100 | (53,125 + 3,125) / 131,750 | (103,125 + 3,125) / 118,750 |
| PBIT: Profit before interest and tax | 42.69% | 89.47% | |
| Capital employed: (Total Assets – Current Liabilities) | |||
| Net Profit Margin | Net Profit / Revenue x 100 | 33,125 / 250,000 | 63,125 / 400,000 |
| Net Profit: Profit after tax | 13.25% | 15.78% | |
| Current Ratio | Current Assets / Current Liabilities | 141,250 / 109,500 | 125,000 / 150,000 |
| 1.29:1 | 0.83:1 | ||
| Quick Ratio | (Current Assets – Inventory) / Current Liabilities | (141,250 – 79,250) / 109,500 | (125,000 – 20,750) / 150,000 |
| 0.57:1 | 0.70:1 | ||
| Debt Ratio | Debt / Equity | (5000 + 31250) / 57500 + 43,000 | 31250 / (57500 + 25,000) |
| Total Debt: Non-current liabilities + Current liabilities | 31.09% | 43.94% | |
| Fixed Interest Cover | PBIT / Finance Cost | (53,125 + 3,125) / 3,125 | (103,125 + 3,125) / 3,125 |
| Finance Cost: Interest on loan notes | 18 times | 34 times | |
| Dividend Cover | Profit after tax / Dividend Paid | 33,125 / 15,125 | 63,125 / 21,375 |
| 2.19 times | 2.95 times | ||
| Dividend Yield | DPS / Market Price per Share | 13,000 / 24,000 | 18.6k / 36k |
| DPS: Dividend per share = Dividend Paid / Number of Shares | 54.8% | 51.6% |
Note:
CA – Current asset CL – Current liability
INV – Inventory PBIT – Profit before interest and tax
PAT – Profit after tax DPS – Dividend per share
MPS – Market price per share CE – Capital employed
b)
Profitability:
The profitability of Adebayo Trading Company Plc has declined between 2017 and 2018, as seen in the reduction of both Return on Capital Employed (ROCE) and Net Profit Margin.
- ROCE fell from 89.47% in 2017 to 42.69% in 2018, indicating a sharp decline in the efficiency of the company’s ability to generate profit from its capital employed.
- Net Profit Margin also decreased from 15.78% in 2017 to 13.25% in 2018, signifying a lower profit relative to revenue. This can be attributed to the significant drop in revenue in 2018 compared to 2017 (N250 million in 2018 versus N400 million in 2017).
These figures suggest that the company’s profitability is deteriorating, primarily due to reduced sales and possibly higher expenses or cost of sales.
Short-term Liquidity:
The company’s short-term liquidity position, as shown by the Current Ratio and Quick Ratio, has improved slightly in 2018 but remains below ideal levels:
- The Current Ratio improved from 0.83:1 in 2017 to 1.29:1 in 2018, indicating that the company now has more current assets to cover its short-term liabilities, though it still falls below the ideal benchmark of 2:1.
- However, the Quick Ratio dropped from 0.70:1 in 2017 to 0.57:1 in 2018, suggesting a potential concern regarding liquidity when inventory is excluded. This implies that the company may struggle to cover its short-term obligations using its most liquid assets (cash and receivables).
Overall, while the company shows some improvement in its current ratio, the lower quick ratio highlights concerns about immediate liquidity.
- Tags: Financial Ratios, Liquidity, Profitability, Ratio Analysis
- Level: Level 2
- Topic: Presentation of Financial Statements (IAS 1)
- Series: NOV 2018
- Uploader: Kwame Aikins