IB9BBO Business Analysis and Valuation

Financial Statement Analysis Case Study- Solution notes

(a)Horizontal Analysis

Duncan plc – Income Statement for the year ended 31 December

2016 2015 %

£m £m
Revenue 2,695 2,610 +3.26
Cost of sales (1,295) (1,495) -13.38
Gross profit 1,400 1,115 +9.42
Selling and distribution costs (190) (215) -11.63
Administrative expenses (150) (145) +3.45
______
Profit from operations 1,060 755 +40.40
Finance costs (75) (80) -6.25
Profit before taxation 985 675 +45.93
Tax (395) (230) +71.74
Profit for the year 590 445 +32.58

Duncan plc – Statements of Financial Position

2016 2015 % change

£m £m £m £m
ASSETS
Non-current assets
Property, plant and equipment 2,500 1,530 +63.4
Intangibles 4,615 5390 -14.4

7,115 6,920
Current assets
Inventories 15 95 -84.2
Trade receivables 460 450 -22.2
Cash and cash equivalents 620 190 +226.3
1,095 735
Total assets 8,210 7,655 +7.3
EQUITY & LIABILITIES
Equity
Issued capital – 50p ordinary 1,335 1,330
shares 2,600 2,590
Share premium 270 235
Other reserves 1,015 790
Retained earnings
Equity 5,220 4,945 +5.6
Non-current liabilities
Borrowings 2,080 2,050 +1.5

Current liabilities
Trade payables 565 350
Taxation and other liabilities 345 310
910 660 +37.9
Total equity and liabilities 8,210 7,655 +7.3

(b)Vertical Analysis
Duncan plc – Income Statement for the year ended 31 December

2016 2015

Revenue 100 100

Cost of sales (48) (57)
Gross profit 52 43
Selling and distribution costs (7) (8)
Administrative expenses (6) (6)

Profit from operations 39 29

Finance costs (3) (3)
Profit before taxation 36 26
Tax (15) (9)
Profit for the year 21 17
Duncan plc – Common size Statements of Financial Position

2016 2015

ASSETS
Non-current assets
Property, plant and equipment 48 31
Intangibles 88 109
136 140

Current assets
Inventories - 2
Trade receivables 9 9
Cash and cash equivalents 12 3

___ ___
Total assets 157 154
Non-current liabilities
Borrowings (40) (41)

Current liabilities (17) (13)

EQUITY 100 100

(c) 2015 2016

Return on Capital Employed 10.8%
(755 ÷ (4945 + 2050)) x 100 14.5%
(1060 ÷ (5220 + 2080)) x 100

Net Profit margin

(755 ÷ 2610) x 100 28.9%
(1060 ÷ 2695) x 100 39.3%

0.37 x
Asset Turnover 0.37 x
2610 ÷ 6995
2695 ÷ 7300

42.7%
 Gross Profit margin 51.9%
(1115 ÷ 2610) x 100
(1400 ÷ 2695) x 100

Current Ratio
(735 : 660) 1.1 : 1
(1095 : 910) 1.2 : 1

Quick Ratio
((735 – 95) : 660) 1.0 : 1
((1095 – 15) : 910) 1.2 : 1

Gearing
(2050 ÷ 6995) x 100 29.3% 28.5%
(2080 ÷ 7300) x 100

EPS
(445 ÷ 2660) x 100 16.7p
(590 ÷ 2670) x 100 22.1p

PE No.
200 ÷ 16.7 12
309 ÷ 22.1 14

(d)Commentary on the quantitative analysis

A. Horizontal analysis
Income Statement
 Revenues have increased by 3%. Revenue per customer has fallen by 5.7% but
registered customer numbers are up by 7%. The Company has managed to increase
revenues despite adverse regulatory and competitive conditions. Some of this may be
down to a marketing initiative and increased brand awareness. Overall management
have performed well.
 Cost of sales decrease of 13% is probably due to the reduction of staffing costs which
seem to have been facilitated by investment in capital assets. More information would
help to understand this.
 Selling and distribution casts are down this is even better if we consider that £10m is
due to the marketing costs.
 Finance costs have fallen but as NCL are about the same this is possibly due to lower
interest rates.
 A significant increase in tax charge. The effective tax rate for 2014 is 40% (2013=
34%)
Statement of Financial Position
 A large investment in PPE , again linked to cost savings. The impact on depreciation
charges in future years may be an issue. Details of the investment could be found in
the notes and CFO review.
 Decrease in Intangibles is probably amortization of licences etc.
 Significant decrease of inventories and receivables (however the figures are not large
in the overall context, see below) and an increase in payables. All of these result in a
significant cash inflow and high cash and CE balances. What do the management
 expect to do with these, is there a strategy of using these for expansion or is it a
defensive strategy?
B. Vertical Analysis (Common Size Statements)
Income Statement
 Cost of sales and thus GP% are improved due to cost savings
 Selling and Distribution and Finance costs are similar in common size terms to last
year but the analysis above discusses actual change.
 As above the tax charge is proportionately higher.
Statement of Financial Position
 Significant increase in NCA investment
 Working capital assets are down, payables are up – as discussed above these result in
large cash balances.
 NCL levels are comparable over the years; no significant change in gearing and
financing strategy.

C Commentary on ratios(Summary of key points)

 ROCE - Improved return on capital employed
Increase due to improved margins with stable asset
Turnover
Management strategy and cost control have resulted in an
impressive result
 Net Profit margin
- Significant increase
- Staffing cost savings
- Even better if take out increased marketing costs
- Selling and distribution costs reduced
- Admin costs are similar
Management strategy and cost control have resulted in an
impressive result
 Asset Turnover
- Remained constant
- Increase in volume of customers but fall in revenue per
customer due to competitive pricing and regulatory pressures.
- Net asset increases but note PPE investment and fall in
intangibles.
Management have done well in adverse conditions
 Gross margin
- Significant increase
- See net margin for analysis
Management strategy and cost control have resulted in an
impressive result
 Current ratio
- Constant at reasonable level
- Inventory is much lower as are receivables with an increase in
payables
- Cash balances are now significant
Overall management have sound control of working capital even if
this is a business with relatively low WCap requirements. The
question is what is the plan for the use of short term funds ?
 Quick ratio
- Improvement in solvency/liquidity
- Large cash balance
- But higher payables
Overall management have sound control of working capital even if
this is a business with relatively low WCap requirements. The
question is what is the plan for the use of short term funds ?
 EPS
- Significant improvement for reasons explained above.
Investors will be impressed with an increased EPS
 PE No.
- Market price indicates that investors are happy with the
strategies adopted by the company and believe that
management are well set to provide future growth.(If the PE
had remained at 12 price would now be £2.65 rather than
£3.09).