In this analysis, various financial ratios have been explored. This has been done using relevant calculations to facilitate understanding and interpretation of financial data. In this regard, British Airways Company’s 2010 and 2011 financial reports have been used.
Ratio Analysis and Interpretation
Gross Profit Ratio
This is calculated by the following formula.
Gross Profit ratio = [(Gross profit / Net sales) × 100]
A significant increase in sales was realised that is, from 4.59% in 2010 to 5.94% in 2011. This can be attributed to better sales strategies and reduction in the cost of goods sold.
Mark up = (Sale price / Cost) - 1
The markup increased slightly from 5.40% in 2010 to 5.47% in 2011. This can be contributed to high sales turnover, coupled with a reduction in the costs of sales.
Net Profit Ratio
This is given by: Net Profit Ratio = (Net profit / Net sales) × 100
The overall profitability of the firm increased because the net profit ratio improved from 2.54% in 2010 to 6.73% in 2011.
Return on Capital Employed
ROCE = EBIT/ (total assets – current liabilities)
Where: ROCE = return on capital
EBIT = earnings before interest and taxes
Significant increase on ROCE was realised when it rose from 1.48% in 2010 to 8.83% in 2011 (“British Airways” 2012, p.18). However, it is necessary to note that the rate of capital employed should always be higher than the company’s rate of borrowing, otherwise proportionate increase in the borrowings would result into proportionate reductions in earnings of the company’s shareholders.
This is a ratio between the current Assets and Current Liabilities, and ‘current’ means the assets and liabilities that need to be paid within one year’s time. This ratio shows how well the assets can repay the amount of liabilities on the company, and it also assesses the liquidity of the company’s assets. In British Airway' case, the current ratio appears lower than it should be. Even, though, the assets are not even enough to pay the liabilities, the company is doing pretty well (Dobbs, Huyett & Koller 2009, p.54).
Acid Test (Quick) Ratio
Acid test (Quick) ratio = (Current assets – inventories)/ current liabilities
British Airways’ quick ratio is 0.715:1 and 0.763:1 in the years 2011 and 2010 respectively. Given that a quick ratio of 1:1 is considered as a satisfactory financial condition; British Airways is, thus, sufficiently liquid (“British Airways” 2012, p.16). The ratio of 0.715:1 shows that even if the company’s inventories are sold, British Airways will still be able to meet its current liabilities if they need to be paid immediately. Furthermore, the ratio indicates some significant improvement from the results of the previous year, and this indicates operational excellence within the company in the current year.
Stock (inventory) turn over = Cost of goods sold / Average inventory
In the year 2011, an average of one pound that is invested in inventory (stock) turns into 6.27 times in the sales. There was a significant increase in the stock turn over since 4.80 times sales turn over was realised in 2010.
Debtors Collection Period
This is given by: (average debtors / credit sales) * 365
Debtor collection period indicates how well the receivables are being collected from the credit customers. The rate of 0.11 or 39.7 days in the year 2011 indicates that the company is capable of converting about two times the value of the receivables into cash, within one year (Libby & Short 2005, p.63). This shows that British Airways has not put into place proper policies, so as to help in the collection of the receivables. The lower rate of slightly below two implies that the management of the company is not sufficient vigilant in collecting receivables, and this works to corroborates the high amount of outstanding receivables.
Creditors Collection Period
In order to calculate creditors’ collection period, the following formula is used.
Creditors collection = (average creditors / credit purchases) * 365
The creditors’ collection period of the British Airways for the year 2011 records a decrease, as compared to the previous years. The value 39.7 days indicates that British Airways Company does not have sufficient liquid assets that could finance its operations for 39.7 days without receiving any cash from the outside sources (“British Airways” 2012, p.18). The lack of improvement in the creditors’ collection period could be attributed to the efforts of the company to cut its cost bases. The company is currently implementing strategic policies that are cost driven. They focused on strategies that would ensure efficiency improvement and these have proven beneficial.
Gearing Debt Equity Ratio
As it can be understood from its name, it is simply a ratio between the total liabilities of the company compared to the stockholders equity. In other words, it shows how much the company owes compared to what it owns. In this regard, in every company the aim will be to reach a level of 1:1 where they can repay all what they owe with what they already have. In this case, they are way far from this figure where they are 5.13: 1 which is an extremely high figure and acceptable (Brealey & Myers 2008, p.47).
Interest Cover Ratio
Similar to its name, it can be simply calculated by dividing the EBITDA over the interest, which is done to give reasonable results, in this case, as follows. Interest Coverage Ratio measures the extent to which EBITDA covers interest payments, and since most companies borrows money from banks with interests, it is truly essential in order to know whether it can be paid back or not.
In summary, interest coverage ratio for the British Airways company was established to be 547.58 % and 218.06% in the years 2011 and 2010 respectively (“British Airways” 2012, p.17). This ratio shows the number of times the charged interest is covered with the ordinarily available cash that could be used for their payment. Thus, the positive 547.58% indicates that the company is sufficiently capable of paying the interest since it has much of comparable ordinarily available cash. Moreover, the ability of the company to cover its interest charges should be associated with the increasing values in the revenues of the company and the resultant increase in cash and cash equivalent components of British Airways Company. The increase in revenue should also be attributed to the improved efficiency and effectively with which the company operates to serve its clients (Pandey 2008, p.56).