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Financial Performance Assessment
Businesses seek to enhance shareholders’ value as well as firm value. Investors and creditors among other stakeholders are interested in the evaluation of firms to ensure that the firm is healthy for business. Assessment of a firm’s financial performance is one of the major ways of assessing a firm’s ability to do business, which is carried out through ratio analysis. The various financial ratios define a firm’s liquidity, efficiency, ability to pay debts and history of investments value (Megginson & Smart, 2008).
Profitability ratios include operating profit margin, gross profit margin, net profit margin, return on assets (ROA), return on net assets (RONA) and return on capital employed (ROCE), etc. Liquidity ratios include operation cash flow ratio and Acid-test/Quick ratio while efficiency ratios include asset turnover and the business efficiency ratio among others. Debt/leveraging ratios include long-term debt to equity and debt ratio while market ratios include payout ratio, P/E ratio and cash flow ratio or price/cash flow ratio among others. This paper assesses the financial performance of Peppermint Ridge for the financial year ending 31st December through ratio analysis while utilizing a comparison with two major competitors.
Peppermint Ridge: Financial Performance Assessment
Gross profit margin
This ratio assesses the financial health of a firm by exposing the money proportion left from the income after strict accounting for the price of sold goods (Megginson & Smart, 2008). Gross profit margin is the source for future savings as well as paying supplementary expenses while guiding promotion and pricing decisions. It is calculated as follows.
Gross Profit/Net Sales or (Net Sales – COGS)\Net Sales
22,637,026/24,221,262 Angel View = 0.935
8,331,430/12,563,816 New Horizons = 0.663
1,899,194/6,253,679 Peppermint Ridge = 0.304
This means that for every dollar that Angel View earns from its services, it really has only $0.935 at the end of the day, while New Horizons earning $0.663 and Peppermint Ridge scores at $0.304. As highlighted in the graph, Peppermint Ridge is identified as being least profitable compared to other companies which are led by Angel View, followed by New Horizons as they have higher profit margins. This means that Peppermint Ridge has to adopt aggressive marketing practices in order to improve their profitability.
Return on assets (ROA ratio)
The ROA ratio highlights how profitable a firm's assets are in generating revenue. It is widely used by investors as well as by companies in internally assessing a firm’s ability to generate profits by utilizing its assets even though if this applies to only one industry and not across different industries (Megginson & Smart, 2008). The ratio presents how effective and efficient a firm’s management is in utilizing its assets in the generation of earnings and profits. The higher the ROA number is the better the return on investment of the company is as it is earning more money on a lesser investment. It is calculated by the following formula.
Net Income/Total Assets
2,417,691/23,957,507 Angel View = 0.101
181,751/10,582,752 New Horizons = 0.017
9,018/3,699,525 Peppermint Ridge = 0.002
The figures as highlighted on the graph shows that Peppermint Ridge has a ROA ratio of 0.002, New Horizons with 0.017 while Angel View has 0.101. This indicates that Peppermint Ridge is less efficient in generating revenue and profits by effectively utilizing its assets unlike its competitors. Therefore, Angel View is better at converting its investment into profit than Peppermint Ridge and New Horizons which implies that Peppermint Ridge’s and New Horizons’ management has to effectively enhance their ability to make appropriate choices in the allocation of vital resources for the generation of revenues and earnings.
Return on net assets (RONA)
RONA represents a firm’s measure of financial performance which considers the utilization of assets into account where the higher a firm’s RONA is, the higher its level of profitability. This primarily implies that the organization is effectively and efficiently utilizing its assets and working capital. The incorporation of fixed assets, which forms the largest component of an investment, enables potential investors to determine a firm’s ability to generate substantial revenues from its assets. It is calculated by the following formula.
Net Income/Fixed Assets + Working Capital
2,417,691/22,637,026 Angel View = 0.11 (11%)
181,751/9,299,505 New Horizons = 0.002 (0.2%)
9,018/2,208,636 Peppermint Ridge = 0.004 (0.4%)
Analysis reveals that Peppermint Ridge generated a 0.4% return on its working capital combined with its fixed assets, whereas New Horizons recording a 0.2% and Angel View recorded an 11% return on its working capital combined with its fixed assets. With Peppermint Ridge recording the lowest RONA percentage, it shows that the company is not effectively and efficiently utilizing its working capital and assets in generating revenues. Conversely, Angel View shows a higher capability in utilizing its assets and working capital in improving its profitability and overall financial performance. This leads to the conclusion that Peppermint Ridge management must effectively and efficiently utilize their assets and working capital in generating revenues and profits.
Operating profit margin/Return on sales (ROS)
The ratio shows how much profit a company makes after paying for variable costs of production such as wages, labor and raw materials among others. It is primarily expressed as a percentage of sales while showing the efficiency of a company controlling the costs and expenses associated with business operations (Megginson & Smart, 2008). Operating Income/EBIT/operating profit (operating revenues - operating expenses) / Net Sales (total revenue). It is calculated as following.
Operating Income/Net Sales
499,805 / 24,221,262 Angel View = 0.021 (2.1%)
184,895 / 12,563,816 New Horizons = 0.015 (1.5%)
176,621 / 6,253,679 Peppermint Ridge = 0.028 (2.8%)
According to the information depicted in the graph, Peppermint Ridge makes $0.028 (before interest and taxes) for every dollar of sales, with Angel View making $0.021 while New Horizons earns $0.015 for every dollar of sales. This also means that Peppermint Ridge has good cost control and also indicates increase in sales at a higher speed than costs incurred in the process, as compared to the competitors, which is a plus for Peppermint Ridge. This also implies that with time the company is expected to grow in terms of increase in sales revenue and a marked decrease in fixed and overhead costs cuing into a small percentage of overall costs.
Return on capital employed (ROCE)
Being expressed as a percentage, ROCE is essentially a measure of returns that a firm achieves from its capital employed and primarily highlights the effectiveness and efficiency of a firm’s capital investments. Basically, if a ROCE is greater than the rate at which the company borrows, is ideal, since a lower rate would highlight a marked increase in borrowing, which would result in the reduction of shareholders’ earnings, which is basically unacceptable. It is calculated as following.
EBIT / capital employed
499,805 / (23,957,507-1,260,511) Angel View = 0.022
184,895 / (10,582,752-1,283,247) New Horizons = 0.02
176,621 / (3,699,525-397,672) Peppermint Ridge= 0.054
Analysis reveals that Peppermint Ridge shows a good return in relation to its gains for its assets as well as the amount expended for its liabilities at 5.4% while Angel View holds at 2.2% and New Horizons at 2%. The amounts shown for each company in the graph indicate that they are borrow less, which implies that the companies are at risk of significantly reducing their shareholder earnings even though Peppermint Ridge is at a better situation where it can be able to enhance its operations in a bid to record gains for its assets while reducing amounts expended for its liabilities. Therefore, Peppermint Ridge must institute ways to effectively and efficiently utilize its assets and reduce amounts expended for liabilities.
Acid-test ratio (Quick ratio)
This ratio measures a firm’s ability to pay its short term liabilities without selling its inventory which is crucial in the firm’s daily operations and which is more specific than current ratio which can overestimate a firm’s ability to meet its short term obligations.
Current Assets-(Inventories + Prepayments)/Current Liabilities
18,044,027-(30,331+775,069)/1,260,511 Angel View = 13.68
3,846,582-(47,999)/1,283,247 New Horizons = 2.96
969,031-(10,152)/397,672 Peppermint Ridge = 2.411
If the ratio exceeds 1 (that is considered to be an ideal) the situation is considered to be more favorable than if the ratio was smaller than unit. Peppermint Ridge’s ratio is equal to 2.411 as highlighted in the graph. Its shows its ability to meet its current liabilities even though its competitors, including New Horizons at 2.96 and Angel View at 13.68 show a higher ability of meeting current liabilities. However, Angel View’s 13.68 may indicate excess of the cash reserves or poor receivables. Therefore, Peppermint Ridge should work towards enhancing its ability to meet its current liabilities by reducing expenses used for current liabilities. In case if cash reserves become excessive, then they can seek other short term debt instruments.
Operation cash flow ratio
This ratio is expressed as a percentage and in terms of cash from operating activities as a percentage of a firm’s current liabilities in a given financial period and primarily compares a company’s operating cash flows with its sales revenues (Megginson & Smart, 2008). The formula is following.
Operating Cash Flow/Total Debts
2,601,686/1,320,481 Angel View = 1.97
1,153,922/ 2,251,322 New Horizons = 0.512
585,142/1,800,331 Peppermint Ridge = 0.33
Since higher ratios are considered to be ideal for substantial amounts of operating cash flows and enhance a firm’s operational efficiency, the graph shows that Peppermint Ridge’s score is 0.33 implying a reduced ability in translating its sales into cash while its competitors, Angel View scored at 1.97 and New Horizons at 0.512. Therefore, the company does not show good debt management and potential for good investment opportunities unlike its competitors which means that it should reduce its current liabilities significantly while acquiring more sales revenues.
This ratio assesses how well a company utilizes its assets in the generation of revenue considering firms invest in various assets such as machinery in generating revenue for the business. Favoring a higher ratio than a lower one, which reflects fewer sales for the company as generated by the firm’s assets, the ratio is calculated by the formula.
Net Sales/Total Assets
24,221,262/23,957,507 Angel View = 1.011
12,563,816/10,582,752 New Horizons = 1.19
6,253,679/3,699,525 Peppermint Ridge = 1.69
The graph shows Peppermint Ridge records at 169%, New Horizons at 119% and Angel View at 101% which highlights Peppermint Ridge as being able to generate more revenue through more sales as compared to its competitors. The company should enhance its ability to utilize its assets in generating more income as the competitors are bound to be stronger in this aspect.
Business Efficiency ratio
Being calculated as expenses expressed in the percentage of revenue (expenses / revenue), the efficiency ratio analyzes how well a company utilizes its liabilities and assets internally. A lower percentage is considered to be better as this implies that earnings overall revenues are high accompanied by expenses being significantly reduced. The formula used for the calculation is following.
Non-Interest expense/Revenue or operating expenses/revenues
24,221,262/21,803,571 Angel View = 1.11
12,563,816/12,403,065 New Horizons = 1.013
6,253,679/6,262,697 Peppermint Ridge = 1.0
Assessment of the above amounts as shown in the graph highlight Peppermint Ridge with an efficiency percentage of 100%, New Horizons with 101.3% while Angel View has 111% which basically highlights that Peppermint Ridge spends a dollar for every dollar they earn in revenue while New Horizons uses 1.013 dollars and Angel View 1.11 dollars. The percentages are quite high, which drastically lowers the efficiency of the companies. This also indicates that too many expenses are being utilized to generate revenues and, therefore they should be reduced.
This ratio shows the percentage of a firm's assets that are provided through debt as well as providing insights about the risk that firm’s faces, in relation to its overall debt load (Megginson & Smart, 2008). Principally, if a debt ratio is greater than 1 then the firm has more debt than assets, whereas a ratio of less than 1 shows that the firm is having more assets than debt. The formula used is following.
Total Liabilities/Total Assets
1,320,481/23,957,507 Angel View = 0.05
2,251,322/10,582,752 New Horizons = 0.213
1,800,331/3,699,525 Peppermint Ridge = 0.49
The data as highlighted in the graph shows that for every dollar that Peppermint Ridge assets has, it has a $0.49 debt, New Horizons has $0.213 while Angel View has $0.05 of debt which primarily indicates that these companies have more assets than debts. Peppermint Ridge highlights less leverage as compared with its competitors and, therefore, a big burden of risk with the potential of draining short term financial resources as well as a reduced chance for major growth. The company should work towards reducing its debts and enhancing its assets portfolio as well as utilizing the assets to further generate more revenues.
Long-term Debt to equity (LT Debt to Equity)
Unlike the debt to equity ratio, the long-term debt to equity separates the firm’s long-term debt from its overall debt, giving investors and management an accurate picture of the firm’s ability to pay its debts in the long-term. The formula used is following.
Long-term Debt/Total Assets
59,970/23,957,507 Angel View = 0.003
968,075/10,582,752 New Horizons = 0.092
1,402,659/3,699,525 Peppermint Ridge = 0.38
With Peppermint Ridge having a ratio of 0.38, it implies that the company has good management as it means that the company has a low debt exposure. However, New Horizons as highlighted in the graph, with a ratio of 0.092 and Angel View with a ratio of 0.003 highlights lower debt exposure and, hence,, well leveraged. The company has an ability to pay its long term debts even though the figure should be reduced by reducing its long term debts and enhancing its assets as well as utilizing them in generating more revenues.
Conclusions and Recommendations
Recommendations for Peppermint Ridge can be summarized in terms of overall organizational change, especially in the reduction of expenses. The management of the company should seek to enhance its profit and revenue base through adoption of aggressive marketing practices as well as reduction of expenses utilized in provision of services especially all fixed and overhead costs involved. The aforementioned recommendations in every analysis of financial ratios will ultimately help Peppermint Ridge to enhance its performance and productivity, especially since the market is dominated by two major competitors, Angel View and New Horizons. Moreover, management should effectively enhance their ability to make effective choices in the allocation of vital resources for the generation of revenues and earnings taking into consideration the available resources. Peppermint Ridge should work towards enhancing its ability to meet its current liabilities by reducing expenses used for current liabilities and if cash reserves become excess, they can seek other short term debt instruments.
The profit and loss budget performance for Peppermint Ridge shows earned revenue figure of 480,872 and a total income of 543,000 which highlights a favorable trend for the company considering the figures are for the month of January. However, with a gross profit of 543,000 and total expenses amounting to 527,590 leaving a net ordinary income of 15,409 shows that the company is generating a poor level of revenue and steps need to be taken to enhance the firm’s productivity and competitiveness especially in terms of revenue generation. This implies that there is a need for a reduction of expenses and effective utilization of the firm’s assets. Essentially, the graphs highlight that Peppermint Ridge needs to take positive steps in addressing its perceived decline as exemplified by higher capabilities, such as the ability to pay long term debts recorded by its close competitors. Incorporating the above recommendations into an effective action plan, Peppermint Ridge would be able to restore its competitive edge and record positive results in terms of organizational productivity and performance.
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