Financial Analysis of Reflect Corporation and Tranquility Inc. Reflect Corporation (R. Corp. ) and Tranquility Inc. (T. Inc. ) are two companies that applied for a loan from us recently. In order to assess the risk of granting the loans, I analyzed both companies’ financial situations. This paper attempts to analyze the financial ratios of the two companies based on their financial statements, and thus we can determine which company is better able to pay the loan in time so that the risk of our losing money would be minimized. I will evaluate their financial situations hrough some crucial parameters, as follows: Liquidity Ratios Parameters R. orp. T. INC. Current Ratio 0. 86M Receivable Turnover 8. 82 (times) 115 (times) Average Collection Period 42 (days) 3 (days) Inventory Turnover 6. 87 (times) 8. 26 (times) Days In Inventory 53 (days) 44 (days) Liquidity ratios indicate the short-term ability of a company to pay its obligations. As we computed above, the current ratio of R. Corp. is 1. 62:1 in 2012. That means for every dollar of current liabilities, R. Corp. has $1. 62 of current assets. So, it has enough current assets relative to its currents debt. Comparatively, T. Inc. only has $0. 6 of current assets for every dollar of current liabilities, so it is not healthy financially. Specifically, this company would not be able to pay its short-term debt even if all of its current assets have been converted to cash The numbers of receivable turnover ratios are pretty different between the two companies: one is 8. 82 times, the other one is 115 times. To illustrate by a popular variant of receivable turnover ratio, R. Corp collects its receivables in about every 42 days, but T. Inc. collects its receivables in only 3 days. That means T. Inc. ould convert sales to cash ery quickly, and this is very g for the liquidity of its business. The Inventory turnover ratios of the two companies are relatively close, 6. 87 vs. 8. 26. It indicates that R. Corp. could sell out their inventory in 53 days, and T. Inc. could do that in 44 days. T. Inc has a higher value of inventory turnover ratio which indicates it do better performances to control inventory levels, and that means it has the less cash ties up in inventory and the less chance of inventory obsolescence. After comparing liquidity ratios of 2012, we can see that T. Inc. is much better than R. Corp. n the liquidity of eceivables and inventory, but this company have a lower value of current ratio. However, a relatively lower current ratio sometimes is not a serious issue if a company has no problem of cash flow and makes solid earnings. From the financial statements of T. Inc, we can see that the company made $13,295 net income in 2012. And, the gap between its current assets and current liabilities is not too large (about $10,000). Overall, I believe that T. Inc. has no problem on paying short-term debt and it has better liquidity than R. Corp. Profitability Ratios Profit Margin 4. 2% 3. 3% Assets Turnover 1. 55(times) 2. 8(ttmes) Return On Assets 6. 4% 7. 7% Profitability ratios give us the information regarding a company’s ability to make profits. R. Corp. has a higher profit margin (4. 2%) than T. Inc. (3. 3%), but not much. However, their profit margin ratios are both low relatively, compared with common profit margin of companies in the market. For the two companies, each dollar of sales only makes 3 or 4 cents of profits; this is not a good number. But we can’t make a conclusion from this data that they are failed in their business, because profit margin ratios are relatively low in some fields like discount stores or grocery stores.
The ssets turnover ratio is a parameter that measures how efficiently a company uses its assets to make sales. In 2012, T. Inc. generated sales of $2. 38 for each dollar it had invested in assets, and R. Corp. made $1. 55 sales for each dollar of assets. 1. 55 or 2. 38 of assets turnover ratio is not a bad number for a company, no matter what industry the company . T. Inc is better on this factor. Return on assets ratio explains the percentage of each dollar of assets that results in net income, or how much income a company makes for each dollar of assets. Based on the financial statements, every one dollar of R. Corp. assets generates 6. 4 cents of net income, and every one dollar of T. Inc. ‘s assets makes 7. 7 cents net income. These data show us that T. Inc. had a relatively better ability to make profits, using its assets. Although it has a lower profit margin ratio, it has the advantage in generating profits by using assets. T. Inc has total assets of $176,203, about 3 times more than R. Corp, and t at means it would make more profits. Solvency Ratios R. Corp. Total Debt to Total Assets 65% Times Interest Earned 7. 8(times) 1 1. 6(Ttmes) Analyzing solvency ratios can find out whether a company could survive well in a long eriod of time.
As a creditor, we are interested in the company’s ability to pay interest and the face value of a long-term debt. R. Corp. ‘s total debt to total assets ratio is 65%, and T. Inc. ‘s is 60%. That means the creditors have provided 65% of R. Corp. ‘s total assets, and 60% of T. Inc. ‘s total assets. In other words, more than half of both companies’ total assets is provided by their creditors; this is not a desirable percentage for creditors. In this area, R. Corp. is worse than T. Inc. But, a relatively higher total debt to total assets ratio might be reasonable depending on what ndustry they belong.
Let’s take a look on another significant ratio which is the time interest earned ratio. T. Inc. makes income of 1 1. 6 times compared with interest expense; this means they have no problem in paying interest as it comes due. R. Corp. ‘s number is 7. 8, which is not bad but worse than that of T. Inc. Comparing solvency ratios, we know that T. Inc. has a better ability to pay long-term debt than R. Corp. It has lower total debt to total assets ratio and it has better ability to pay long- term interest. Through analyzing financial ratios of the two companies, we find out that T. Inc. better in performing its business than R. Corp. The company has a better ability to pay short-term debt and long-term debt they owed to creditors. Especially, it can convert its receivables to cash very quickly, which guarantees they can get cash soon when it is necessary. Furthermore, it uses its assets more efficiently to make sales and profits as we analyzed above on profitability ratios. And, we cant doubt on its ability to pay long-term debt when we analyze its solvency ratios. Although the profit margin ratio of T. Inc is not so high, it would not matter when it could make profits stably.
However, this company’s current liability is a little higher than current assets. I would make a number of suggestions to resolve this issue. For example, the company could borrow money using a short-term note; or the owners could invest cash temporarily to resolve the short-term issue. To conclude, T. Inc. seems to be a better customer for us to reward a loan, after comparing the financial ratios of the two companies. Regarding R. Corp. , it has a problem in collecting receivables. This is harmful to its liquidity especially since it doesn’t make a large amount of sales and incomes. The managers of R. Corp. ould do more work in communicating with their customer’s in order to collect cash faster. Also, R. Corps’ profit margin is too low. It should reduce the expense such as supplies to save money so that there would be more net income left. On the other hand, the Total Debt to Total Assets ratio is too high for R. Corp. This will decrease the company’s credibility for creditor. I don’t believe the company should borrow more money before it resolves the issue of improving its performance. The values of financial ratios are not the only significant factors of a company to consider when deciding which company hould receive the loan.
For example, the average profit margin ratio of companies in the market depends on which industry they belong, and it is same when we talk about liquidities. In other words, we need more background information of the two companies if we want to analyze their performance more precisely. Similarly, it would be better if we have more financial statements of previous periods of the companies. Thus, we could make a horizontal analysis of the financial accounts and have a better sense of a company’s ability to make profits over a long-period of time.