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Financial Ratio Analysis

Presented By:Sushil PanigrahiNishu NavneetShashank ShivhareManoj Jhawar

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Financial Ratios

• Financial Ratio Analysis is a study of relationship among various factors in a business

• It can be used as a preliminary screening tool for the assessment of a stock or future financial condition and hence result for a company

• Most importantly these ratios are used from the perspectives of credit rating agency(debt instruments) , equity research firm(equity growth) and shareholders or investors(financial health) and Managers

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Types of Financial Ratios

• Liquidity Ratio• Profitability Ratio• Efficiency Ratio• Capital Structure Ratio• Cash Flow Ratio• Activity Ratio

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Liquidity Ratio

• A financial ratio indicating a companies ability to meet it’s short term financial obligations

• It’s a ratio between Liquid Assets (that can be converted to cash) to short term liabilities

• Greater the coverage the more likely is that a business will able to pay its debt and vice-versa

• Commonly used liquidity ratios are– Current Ratio– Quick Ratio

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Quick Ratio• It measures the ability of a company to use its near cash or

quick assets to extinguish or retire its current liabilities immediately

• Include those current assets that presumably can be quickly converted to cash

• Quick Ratio = (Cash Equivalents + Short term investments + Accounts receivable )/ current liabilities

Mar'08 Mar'09 Mar'10 Mar'11 Mar'120

2

4

6

8

10

12

14

16

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HDFCICICI

Investors

Manager

Creditors

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Interpretation of Quick Ratio• A company with quick ratio < 1 cannot currently payback its current

liabilities• Higher the quick ratio, more likely the company be able to pay its

short term bills• Creditors are most concerned about the quick ratio and a lesser

quick ratio leads to higher creditors concern• The quick ratio for HDFC is 6.2 for Mar 12 which indicates the bank’s

robustness and financial soundness in paying off short term obligation though the figure has dipped as compared to the last year

• But ICICI bank has far better liquidity ratio implying ICICI bank highly robust and hence its ability to extinguish short term liabilities is better than HDFC

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Efficiency Ratio

• Analyzes how effectively the business is managing its assets to produce sales.

• If too much has been invested, the operating capital is high

• If invested too low, it may affect sales hurting the profitability

• There are various efficiency ratios– Inventory Turnover ratio– Revenue per employee– Receivables Turnover– Assets Turnover

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Asset Turnover Ratio• The amount of sales generated for every

dollar's worth of assets• It indicates the effectiveness of the firm’s use

of its total assets to create revenue• Asset turnover = Sales/Assets

Mar'08 Mar'09 Mar'10 Mar'11 Mar'120

1

2

3

4

5

6

HDFCICICI

Investors

Creditors

Manager

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Interpretation of Asset Turnover Ratio• Low asset turnover might mean that the company has too much

capital tied up in its asset base• High turnover ratio may imply that the firm has too few assets for

potential sales• Owners/Managers use these ratio to gauge the business

performance• There was a fall in assets turnover ratio to 0.12 from 4.65 in

current period. This is due to the lesser rise in Net Revenue when compared to the rise in assets over the period

• We see that the ratio for ICICI bank too has fallen during the period and is lower than that of HDFC bank indicating lower efficiency.

• The management has to consider this seriously and take steps to improve the operating efficiency of the HDFC bank

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Profitability Ratio

• Gross profit margin• Operating profit margin• Net profit margin

Margins

• Return on assets• Return on equity

Returns

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Profitability Ratios

Net Profit margin

2008 2009 2010 2011 201202468

1012141618

Net Profit Margin

Net Profit Margin

15.9316.09

14.76

11.3512.82

Investors

Manager

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Profitability Ratio Cont..

Return on net worthReturn on net worth=Net Income/Share holders equity

2008 2009 2010 2011 201202468

101214161820

HDFCICICI

13.83

15.74

13.7

15.47

17.27

RONW(%)

Investors

Creditors

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Profitability Ratio Cont..

Interest spread

2008 2009 2010 2011 20120

1

2

3

4

5

6

7

8

HDFCICICI

Investors

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EPS(Earning Per Share)• The amount of earnings per each outstanding

share of a company's stock• Earning Per Share EPS=PAT/No. of outstanding

shares

2008 2009 2010 2011 20120

10

20

30

40

50

60

HDFCICICI

Investors

Manager

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Interpretation of EPS• It decides how much of a company's profit is

allotted to the Companies outstanding stocks.• It can be used as one of the comparison tools

for picking up the stock for investment.• The EPS has increased in 2012, this is due to

increase in net profit Rs 113,413,323 for FY 2011-12 as compared to Rs 84,591,957 in FY2010-11

• From investor point ICICI seems to better than HDFC as its EPS is considerably high

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Price-to-Earnings ratio

• It is a valuation ratio of a company's current share price compared to its per share earnings

• P/E ratio = Average stock price/Earning per share• The P/E ratio for HDFC : 23.51• The P/E ratio for ICICI : 17.70• Here we can see that HDFC bank has higher P/E ratio

as compared to ICICI bank• A high P/E value suggests that investors are expecting

higher earnings growth in the future compared to companies with lower P/E

Investors

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Capital Structure Ratio

• A financial ratio highlighting the capital structure of a company

• There are various capital structure ratios– Assets-to-Equity ratio– Degree of Financial Leverage– Debt-to-Equity ratio– Interest Coverage ratio– Degree of Operating Leverage– Degree of Total Leverage

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Asset-to-Equity Ratio• It shows the relationship of the total assets of the firm to the

portion owned by shareholders• It indicates a company's leverage, the amount of debt used to

finance the firm• Asset-to-Equity Ratio = Total Assets/Total Shareholders' Equity

Investors

Creditors

2007-08 2008-09 2009-10 2010-11 2011-120

2

4

6

8

10

12

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HDFCICICI

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Interpretation of Asset-to-Equity Ratio

• A relatively high asset/equity ratio may indicate the company has taken on substantial debt merely to remain in business

• There is a high asset/equity ratio because the return on borrowed capital exceeds the cost of that capital.

• A low asset/equity ratio can indicate a strong firm that needs no debt, or an overly conservative company, foolishly foregoing business opportunities.

• As we see from the graph the Asset/Equity ratio has increased as compared to last year due to increase in total assets of the company indicating high borrowing as compared to previous year

• The ratio is more in case of HDFC than ICICI implying majority of the asset are financed through debt

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Debt-to-Equity Ratio• A financial ratio indicating the relative proportion of

shareholders' equity and debt used to finance a company's assets

• The two components are often taken from the firm's balance sheet or statement of financial position (book value)

• Debt-to-Equity Ratio = Long Term Debt/Equity

2008 2009 2010 2011 20120

2

4

6

8

10

12

HDFCICICI

Investors

Creditors

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Interpretation of Debt-to-Equity Ratio• It indicates the what proportion of equity and debt HDFC is

using to finance its assets• Increase in this ratio suggests greater reliance on debt as a

source of financing and vice versa• Investing in a company with a higher debt/equity ratio may be

riskier, especially in times of rising interest rates, due to the additional interest that has to be paid out for the debt

• if the ratio is greater than 1, the majority of assets are financed through debt and for less than assets are primarily financed through equity

• As we see the ratio for HDFC bank is higher than that of ICICI bank and as compared to last year it has been increased a little bit more indicating majority of assets are financed through debt.

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Interest Coverage Ratio

• A risk ratio that help determining the firm's ability to repay its debt obligations

• Interest coverage ratio = Profit Before Interest and Taxes/ Interest Expenses

2011-12 2010-11 2009-10 2008-09 2007-080.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

1.60

1.80

HDFCICICI

Investors

Creditors

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Interpretation of Interest Coverage Ratio

• The lower the ratio, the more the company is burdened by debt expense and the firm will have difficulties in meeting its debt payments

• When a company's interest coverage ratio is 1.5 or lower, its ability to meet interest expenses may be questionable.

• An interest coverage ratio below 1 indicates the company is not generating sufficient revenues to satisfy interest expenses

• Here we see the ratio for HDFC bank is on the lower side indicating HDFC bank’s interest expenses are very high as compared to previous years. This is due to high borrowings the company has made in FY 2011-12

• As compared to ICICI bank,HDFC is better placed indicating HDFC has less interest expenses as compared to ICICI bank

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Cash Flow Ratio

• A company’s ability to generate cash flow is one of the most important indicators of its health

• Cash flow ratios examine the flow of money into a company, it can help to identify struggling companies and in turn, struggling stocks

• A company can demonstrate earnings, but if more money is pouring out of a company than pouring in, there will be fiscal problems in the future

• There are 2 cash flow ratios– Price-to-Cash Flow Ratio– Free Cash Flow Ratio

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Free Cash Flow Ratio• It represents the cash that a company is able to generate

after laying out the money required to maintain or expand its asset base

• It allows a company to pursue opportunities that enhance shareholder value. Without cash, it's tough to develop new products, make acquisitions, pay dividends and reduce debt

• Free cash flow taking operating cash flow and subtracting capital expenditures

2009-10 2010-11 2011-12

-0.03

-0.02

-0.01

0

0.01

0.02

0.03

0.04

0.05

0.06

0.07

HDFC Bank

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SummaryRatio Investors Creditors Manager(Internal)

Liquidity ratio

Profitability ratio

Efficiency ratio

Capital ratio

Cash flow

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References

• Accounting for Management, Text & Cases – By S.K.Bhattacharya and John Dearden

• http://www.moneycontrol.com• http://www.hdfcbank.com/htdocs/common/p

df/corporate/Annual_Report11_12.pdf• http://www.icicibank.com/aboutus/annual.ht

ml• http://www.investopedia.com• http://en.wikipedia.org/wiki• http://money.rediff.com/companies/HDFC-Ba

nk-Ltd

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Thank You…