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Financial Analysis of ERM Electricity Limited

   

Added on  2020-03-23

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Financial AnalysisERM Electricity Limited vs. Mercury NZLimited[Type the abstract of the document here. The abstract is typically a short summary of the contentsof the document. Type the abstract of the document here. The abstract is typically a short summary of the contents of the document.]

Question 1Cash conversion cycle (CCC) is the time taken to convert the investment tied up in inventory into cash. The cash conversion cycle for both the companies is as below:20152016EPW-7.8 days-5.02 daysMCY-10.2 days-5.43 days [ CITATION Mor17 \l 16393 ]We see that EPW has a negative cash conversion cycle for the years 2015 and 2016. This shows working capital efficiency as a negative cycle is desirable. The company has more days of payables outstanding than the combined days of inventory and receivables outstanding. This means ERM is taking more time to pay its suppliers and it is giving a creditof lesser period and also its inventory is fast converting into sales. However, the cycle has increased from 2015 to 2016. This has been majorly on accounting of an increase in the receivables as the days outstanding receivables increased from 33 days to 43 days. The receivables have increased due to an increase in loan in both Australia and US.Mercury NZ Limited’s CCC is also negative for both the years because the day’s payables outstanding are more than the day’s inventory and receivables outstanding. However, the CCC has reduced in 2016 due to a higher increased inventory and receivables costs as compared to payables cost. There was an increase in inventory of Consumables stores to $31 million (2015:$22 million) and Meter stock to $14 million (2015: $22 million). The receivables were high due to a decrease in cash flow from sale of electricity and metering services by $20 million as compared to 2015.Question 2 Capital Structure is the mix of debt and equity in the company’s invested capital. The ratios used to measure the same are debt to equity ratio and debt ratio.2015201620152016EPWMCYDebt to Equity ratio76%47%35%36%Debt ratio65%62%46%46%[ CITATION Mor171 \l 16393 ]ERM has more of debt as compared to equity in 2015 and more equity than debt in 2016. Theequity has increased in 2016 as a result of the cash flow hedge reserve recognised as part of

equity. The company uses cash flow hedges to hedge price exposures in electricity industry inAustralia [ CITATION ERM16 \l 16393 ] Also there has been a reduction in debt by 8% as the company has repaid part of its long term debt. The debt ratio has remained more or less stablein both the years. A debt ratio of 65% means that the company has more liabilities than assetsand hence can be considered as risky. The ratio is high as compared to industry average of 45% which means the company has more liabilities than assets. Mercury has a lower debt ratio and equity to debt ratio. With regards to the equity to debt ratio, the company has higher equity than debt and the ratio has remained more or less the same in both the years. The debt ratio has also remained stable at 45% in both years and is as per the industry average. The company has more assets as compared to liabilities and the assets have further increased in 2016 by $27 million due to revaluation of the generation assets a capital expenditure of $72 million. This shows the company is less risky as comparedto ERM.Question 3DuPont analysis is an analysis of the profitability of a company focusing on the return available to shareholders. The ratio for both companies is as follow:20152016EPW29%11%MCY4%5%ERM has a high return on equity in both the years but the return has decreased in 2016. This is as a result of the fall in profit margins. The net income has decreased by 54% due to fall in the revenue, increased operating costs in the form of depreciation and finance costs resulting from the operations in the US. Also there was a reduction in the interest income. The total asset turnover increased marginally as the increase in revenue was higher than the increase in total assets. For every dollar invested in assets, the company is able to generate $2 revenue. The company is well leveraged with capital structure comprising more debt than equity.Mercury has lower return on equity; however, the return has increased by 1% in 2016. This isbecause of an increase in the profit margin. The profit margin is higher than ERM. The company’s profits increased as a result of very high geothermal generation at 2830 Wh. And benefit of replacement of Turbine at Nga Awa Purua. Also there were high impairment costs in 2015 resulting in lower profits. The total assets turnover is below 1 for both years and the

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