Essay on First Investments Inc

1133 Words5 Pages
Facts:
· First Investments Inc. owned stock of Basic Industries (BI), a diversified multinational corporation with major shares in various electrical related markets
· The BI annual report of 1994 shows a decline in the return on owners’ equity (ROE)
· Fred Aldrich, a trainee in First Investment, was asked to conduct a financial analysis on BI
· Three years financial statements (1994, 1993 and 1985) and reported 10 year financial highlights (1985 to 1994) were available for the analysis assignment
· The focus was on the 1993-1994 period and comparison of the quality of the returns on equity of 1985 and 1994, along with the other key financial ratios
· The analysis should not focus on the financial information
…show more content…
This indicates a high proportion of company’s funds are through equity.
The biggest difference is in long-term debt to equity ratio, which almost doubled from 0.17(in 1985) to 0.27(in 1993) and increased to 0.32(in 1994).
Times Interest earned 5.56 (in 1994) is almost ⅕th of its counterpart 25.19 (in 1985), a dramatic decrease. The interest expense in 1985 was only $27.4M compared to $180.1M in 1994.
When the financial leverage is increased, the company uses more debt financing instead of equity financing which initially leads to a higher return on equity. However, an increase in debt will only increase return on equity if the return on assets is higher than the interest rate.

Liquidity Ratios
Current Ratio is– 1.34 in 1994, 1.28 in 1993 –and 1.81 in 1985. The major decrease in assets shows that marketable securities turned into long-term investments.
The Quick Ratio and Working Capital Ratio have decreased from 1985. This clearly tells us that the net current liabilities of the company have increased.

Profitability Ratios - Operating Performance
Net Profit Margin has reduced from 5.05% in 1993 to 4.53% in 1994 (a net decrease of 0.52% ). The main culprit in the decrease of profit margin seems to be the rising interest expense shown by the interest expense to revenue ratio rising from 0.44% to 1.34%.
The proportionate increase in Sales (15.87%) is more than Net Income increase (3.78%).
Relatively less increase
Get Access