Financial Ratios Analysis: BASF SE & Beyond

This assignment delves into the predictive power of financial ratios using BASF SE as a primary case study, drawing insights from relevant academic papers. It encompasses aspects like stock return predictability, debt and liquidity problems in small firms, bankruptcy prediction, peer firm effects on corporate policy, and bank profitability comparisons between Saudi Arabia and Jordan. The task involves meticulous data analysis and interpretation to derive meaningful conclusions.

Portfolio

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................1
Portfolio 1........................................................................................................................................1
A. Computation of 10 financial ratios....................................................................................1
B. Interpretation of ratios of both the companies...................................................................5
C. Recommendations to increase financial performance of companies...............................14
D. Limitations of financial ratios..........................................................................................15
Portfolio 2: Capital Investment Appraisal ....................................................................................16
A. NPV, ARR, Payback period computations......................................................................16
B. Limitations of the investment appraisal:..........................................................................20
CONCLUSION..............................................................................................................................21
REFERENCES..............................................................................................................................22
CONCLUSION..............................................................................................................................24

INTRODUCTION
Financial ratios play an important role in organisation as it guides them and show them
whether they are performing well or not (Atoom, Malkawi and Al Share, 2017). This report deals
with two companies such as Sports direct international plc and JD sports fashion plc. Both firms
are in sports goods retailer in UK. The comparison of financial ratios are included in this report
and how one can improve upon its financial position in the market.
Portfolio 1
A. Computation of 10 financial ratios
For Sports Direct International Plc
1. Current ratio-
Formula- Current Assets/ Current Liabilities
For 2015 = 2.30 %
For 2016 = 2.43 %
2. Quick ratio-
Formula- Current Assets - Stock - Prepaid Expenses / Current Liabilities
For 2015 = 0.94 %
For 2016 = 0.62 %
3. Gross Profit margin-
Formula- Revenue - Cost of goods sold / Revenue
For 2015 = 43 %
For 2016 = 44 %
4. Operating Profit margin-
Formula- Operating income / Net sales * 100
For 2015 = 10.43 %
1

For 2016 = 7.68 %
5. Net Profit margin-
Formula- (Net profits / Net sales) x 100
For 2015 = 8.52 %
For 2016 = 9.60 %
6. Gearing ratios-
Formula- (Long-term debt + Short-term debt + Bank overdrafts) / Shareholders' equity
For 2015 = 0.52 %
For 2016 = 0.70 %
7. Earnings per share-
Formula- (net income – dividends on preferred stock) / average outstanding common
shares
For 2015 = 46.8 %
For 2016 = 40.6 %
8. Return on capital employed-
Formula- Earning Before Interest and Tax (EBIT) / Capital employed
Where capital employed = Total Assets - Current Liabilities
For 2015 = 0.17 %
For 2016 = 0.19 %
9. Average inventories turnover period-
Formula- Cost of Goods Sold or Sales ÷ Average Inventory
Where average inventory = Opening inventory + Closing inventory / 2
2

For 2015 = 2.61 % 139 days
For 2016 = 2.65 % 137 days
10. Dividend payout ratio-
Formula- Dividends / Net income
For 2015 = 0
For 2016 = 0
For JD Sports Fashion Plc
1. Current ratio-
Formula- Current Assets/ Current Liabilities
For 2015 = 1.22 %
For 2016= 1.46 %
2. Quick ratio-
Formula- Current Assets - Stock - Prepaid Expenses / Current Liabilities
For 2015 = 0.53 %
For 2016 = 0.78 %
3. Gross Profit margin-
Formula- Revenue - Cost of goods sold / Revenue
For 2015 = 48 %
For 2016 = 49 %
4. Operating Profit margin-
Formula- Operating income / Net sales * 100
For 2015 = 6.1 %
For 2016 = 7.3 %
5. Net Profit margin-
3

Formula- (Net profits / Net sales) x 100
For 2015 = 11.83 %
For 2016 = 14 %
6. Gearing ratios-
Formula- (Long-term debt + Short-term debt + Bank overdrafts) / Shareholders' equity
For 2015 = 1.9 %
For 2016 = 0.97 %
7. Earnings per share-
Formula- (net income – dividends on preferred stock) / average outstanding common
shares
For 2015 = 35.17 %
For 2016 = 50.61 %
8. Return on capital employed-
Formula- Earning Before Interest and Tax (EBIT) / Capital employed
Where capital employed = Total Assets - Current Liabilities
For 2015 = 0.25 %
For 2016 = 0.29 %
9. Average inventories turnover period-
Formula- Cost of Goods Sold or Sales ÷ Average Inventory
Where average inventory = Opening inventory + Closing inventory / 2
For 2015 = 2.38 % 153 days
4

For 2016 = 2.47 % 147 days
10. Dividend payout ratio-
Formula- Dividends / Net income
For 2015 = 27.6 %
For 2016 = 16.2 %
B. Interpretation of ratios of both the companies
1. Current ratio-
From the above current ratio, it can be interpreted that sports direct international plc has
2.30 and 2.43 ratio in 2015 and 2016 financial years which means that it will be able to pay off
its obligations on time. On the other hand, JD sports fashion plc has current ratio in 2015 and
2016 as 1.22 and 1.46 which shows it inability to pay its liabilities as such it should increase its
current ratio.
5
Sports Direct International Plc JD Sports Fashion Plc
0
0.005
0.01
0.015
0.02
0.025
0.03
2015
2016

2. Quick ratio-
From the above chart, it can be analysed that quick ratio of sports direct international plc
is 0.94 and 0.62 in the year 2015 and 2016 which means that it will be unable to pay meet its
current liabilities with much ease (Delen, Kuzey and Uyar, 2013). However, other company
which is JD sports fashion plc has 0.53 and 0.78 in the financial year 2015 and 2017 which is
also not good as it will not be able to meet its extreme short term obligations.
6
Sports Direct International Plc JD Sports Fashion Plc
0
0.001
0.002
0.003
0.004
0.005
0.006
0.007
0.008
0.009
0.01
2015
2016

3. Gross profit margin-
Hereby it may be interpreted that gross profit margin of sports direct organisation is
43.81 % and 44.23 % in the year 2015 and 2016 which has increase in 2016 year as it will be
able to generate more revenue. However, JD sports organisation has 48 % and 49 % in the year
2015 and 2016 which is remarkable as it will generate more revenue in the future.
4. Operating profit margin-
7
Sports Direct International Plc JD Sports Fashion Plc
0.41
0.42
0.43
0.44
0.45
0.46
0.47
0.48
0.49
0.5
2015
2016

From the above chart, it can be analysed that sports direct firm has operating profit
margin as 10.43 % and 7.68 % which is very poor as investors and creditors will not evaluate as
it is not good and will not invest or lend their money in the company (Buchman, Harris and Liu,
2016). While, JD sports company has 6.1 % and 7.3 % which is very poor in 2015 and 2016 and
investors will not invest in the company because of its poor operating profit. Creditors will not
provide loan to the company as of its poor operating income.
5. Net profit margin-
8
Sports Direct International Plc JD Sports Fashion Plc
0
0.02
0.04
0.06
0.08
0.1
0.12
2015
2016

From the above chart, it may be conveyed that higher the net profit, better for the
company to flourish in its working. The sports direct firm has net profit in 2015 and 2016 as 8.52
% and 9.60 % which is poor according to the market analysts. It should be 25 % or more than
that but is less than the ideal limit of ratio. The other company JD sports has 11.83 % and 14 %
which is also not good but as compared to other company, it is better. The JD sports company
should be able to perform better so that it may cross the mark of 25 % and so applies to Sports
direct organisation.
9
Sports Direct International Plc JD Sports Fashion Plc
0
0.02
0.04
0.06
0.08
0.1
0.12
0.14
0.16
2015
2016

6. Gearing ratio-
From the above chart of gearing ratio, it can be analysed that Sports direct company has
0.52 % and 0.70 % gearing ratio in the financial year 2015 and 2016 which is good as lower
gearing ratio implies good financial position of company as it does not have much debt
(Schönbohm, 2013). While, JD sports company has 1.9 % and 0.90 % in the year 2015 and 2016
which is also good as it will be able to pay its debt with much ease. Lower the gearing ratio,
better for the company.
7. Earnings per share-
10
Sports Direct International Plc JD Sports Fashion Plc
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1.8
2
2015
2016

From the above chart of Earnings per share, it can be interpreted that sports direct
company has 46.8 % and 40.6 % which is good but more earnings per share is considered as
ideal for company as investors come to know about the viability of business and it increases
market price of shares of the company. While, other company JD sports has 35.71 % and 50.61
% in the financial year 2015 and 2016 as its market price of shares is increased as compare to
earlier year.
11
Sports Direct International Plc JD Sports Fashion Plc
0
0.001
0.002
0.003
0.004
0.005
0.006
2015
2016

8. Return on capital employed-
From the chart, return on capital employed of sports direct organisation is 0.73 % and
0.19 % in the year 2015 and 2016 which is good as it is earning good return on capital employed
in the business. While, JD sports company has 0.25 % and 0.29 % which is also better and it is
earning good return on capital invested in the organisation.
9. Average stock turnover ratio-
12
Sports Direct International Plc JD Sports Fashion Plc
0
0.05
0.1
0.15
0.2
0.25
0.3
0.35
2015
2016

From the above chart it may be said that sports direct organisation has 2.61 % i.e. 139
days and 2.65 % i.e. 137 days in the financial year 2015 and 2016 which is good as it is selling
its stock in fast manner and has better inventory management in organisation (Gunawardena and
et.al, 2015). While, JD sports company has 2.28 % i.e. 153 days and 2.47 % i.e. 147 days
respectively in the year 2015 and 2016 which also good for the company as it has good inventory
management.
13
Sports Direct International Plc JD Sports Fashion Plc
0.022
0.0225
0.023
0.0235
0.024
0.0245
0.025
0.0255
0.026
0.0265
0.027
2015
2016

10. Dividend payout ratio-
From the above graph of dividend payout ratio, it can be analysed that ratio of sports
direct organisation is 0 both in the year 2015 and 2016 which implies that organisation is in debt
and is retaining the profit amount and not distributing to the shareholders. While, JD sports has
dividend payout ratio 27.6 % and 16.2 % which shows that it is distributing part of profit to
shareholders according to the shares subscribed by them.
C. Recommendations to increase financial performance of companies
The current ratio of Sports direct company is ideal as it will be able to pay off its current
liabilities with much ease in both year 2015 and 2016 but JD sports company has bad current
ratio position. It is recommended that it should sell its unproductive assets as it gains nothing but
increases the interest cost to the company (Meriç, Kamışlı and Temizel, 2017). The quick ratio of
Sports direct company is better than compared to other company. It is recommended that
companies should pay off its liabilities within stipulated time.
14
Sports Direct International Plc JD Sports Fashion Plc
0
0.05
0.1
0.15
0.2
0.25
0.3
2015
2016

Gross profit margin should be increased by companies by taking cash discounts from the
suppliers. Taking discount will result in improve in gross profit margin and companies will be
able to make more money. Operating profit margin is very poor of both the companies. It should
be increase by reducing cost of goods sold as organisations should review its expenses and then
analyse to reduce cost of sales. It will gradually improve operating profit. The net p[rofit margin
may be improved by analysing the expenses and companies should cut down unwanted expenses
which reduces its net profit (Davidson III and Dutia, 2017). As such, it is recommended that
unwanted expenesen should be eradicated by companies. Gearing ratios should be lower by
companies which is analysed from above finding that both the companies have low gearing ratio.
But debt should also eb taken by company so that it may have enough funds such mix of equity
and debt should be done by them.
Earnings per share are vital part of organisation as it determines market price of shares
and good returns to shareholders. It can be increased by companies by taking buy backs of share.
By share buy backs, it may have better earnings per share (Delen, Kuzey and Uyar, 2013). The
return on capital employed may be increased by maintaining operating profit and reducing value
of capital employed. Stock turnover ratio may be improved by buying less inventory from
suppliers as more inventory than required generally increases cost incurred in maintaining it in
godown. The company should purchase adequate amount of inventory for its production purpose.
Dividend payout ratio as seen in Sports company is 0 in both year as it has retained it and
distributed to shareholders. Company should increase its performance so that part of profits may
be given to shareholders.
D. Limitations of financial ratios
The financial ratios provide effective results but has certain limitations. It is based on
accounting figures which are deficient and also leads to manipulations. As such, financial ratios
are not reliable as it draws out improper conclusions. Financial ratios are not helpful in
comparison as one company charges different methods and other one uses diffrent method for
valuation (Limitations of financial ratios). For example, sports direct company is using FIFO
method for valuation of stock and other company such as JD sports uses LIFO method which is
difficult to compare two different ratios. As such methods relating to depreciation, preliminary
15

expenses and many more which leads it difficult to compare. Ratios are not helpful in
comparison of companies.
Inflation may lead to difference in financial statements. As such, historical cost based
balancer sheets and accounting figures do not identify or reflect correct value figures. This
misconception is observed when different firms purchase assets at different dates. As such, due
to this financial ratios are not reliable to calculate and this leads to limitation of it to the
organisation (Liang and et.al, 2016). When balance sheets and other financial statements are not
adjusted in accordance with the inflation. As a result, financial ratios calculated on without
adjustment gives wrong and false information to the enterprise which is not useful to it.
Portfolio 2: Capital Investment Appraisal
A. NPV, ARR, Payback period computations
Project 1
Payback period
Year net cash flow Cumulative cash inflow
2017 90 90
2018 90 180
2019 90 270
2020 80 350
2021 80 430
2022 70 500
Payback period: 1 + 80 /90
= 1.8 years
Average rate of return
Year Profit
2017 65
2018 65
2019 65
16

2020 55
2021 55
2022 45
average
profit 58.33
Average
initial
investment
(170+20)/2 90
ARR
(average
profit /
average
investment) 64.81%
Calculation of NPV
Year Profit
Depreciatio
n
net cash
flow
PV factor
@ 20%
Discounted cash
inflow
2017 65 25 90 0.833 75
2018 65 25 90 0.694 62.5
2019 65 25 90 0.579 52.08
2020 55 25 80 0.482 38.58
2021 55 25 80 0.402 32.15
2022 45 25 70 0.335 23.44
150000 350
Total
discounted
cash inflow 283.76
17

25
58.3333333
333 II 170
-
56.2433556
241 58.33 NPV 113.76
Project 2
Year Net cash flow Cumulative Cash flow
2017 53.33 53.33
2018 63.33 116.66
2019 73.33 189.99
2020 103.33 293.32
2021 113.33 406.65
2022 93.33 499.98
Payback period: = 170 + 116.66/ 73.33
= 2.73 years
Average rate of return
Year Profit
2017 25
2018 35
2019 45
2020 75
2021 85
18

2022 65
average
profit 55
Average
initial
investment
(170)/2 85
ARR
(average
profit /
average
investment) 87.48%
Calculation of NPV
Year Profit
Depreciati
on
Net cash
flow
PV factor @
20%
Discounted cash
inflow
2017 25 28.33 53.33 0.833 44.4
2018 35 28.33 63.33 0.694 44.0
2019 45 28.33 73.33 0.579 42.4
2020 75 28.33 103.33 0.482 49.8
2021 85 28.33 113.33 0.402 45.5
2022 65 28.33 93.33 0.335 31.3
170000 330 Total
discounted
257.49
19

cash inflow
28.33 32.35% II 170
329.97 32.35% NPV 329.98
20

B. Limitations of the investment appraisal:
ARR:
These are basically known as the average over investments made by concern. Thus, it
helps the professional in estimating that the costs they have incurred in any transaction will have
the profitable return in the coming time (Leary and Roberts, 2014). Therefore, this will be
fruitful in terms of making the adequate assumptions as well as analyse the usage of such
resources. Thus, there will be various benefits of such measurements but there has been various
limitations of such techniques. However, there has been various limitations to such techniques
as:
The concept is practical and helpful but it ignores the time value of money. Thus, an individual
will not being able to make analysis over the period he will have returns for such
investments.
It has been felt to consider the return of capital. Thus, it can be said that the measurement of such
data set will not reflect the adequate outcomes over which the managers will not relay a trust
or develop plans or policies.
It prefers the informations which are listed in the income data apart from the cash flows. Thus, it
will not being fruitful for managers to underestimate the costs of investments.
NPV:
It refers to the total present value or the time series of future cash flow. However, it will
be helpful for the stakeholders in the firm to determine the usage of such techniques in analysing
the present value of the each investments in the period (Almazari, 2014). Hence, there will be
various limitations of such techniques are as follows:
 This method follows the technique that, in the discount factor the risk premium were
included which in turn reflect the unfavourable balances and that will result in higher
costs.
 The amount of risk premium which are included in the discount rate which are also
incorrect or inappropriate. Therefore, it reflects in the lower NPV.
Payback Period:

These denoted as the investments recovered period such as the organisation made initial
investments in the numbers of projects and then analyse the period over which they would have
the proper returns form such investment (Haslem and Longbrake, 2015). Hence, it will be
analysed by the managers that the project which bring returns in the most beneficial time than
that will be selected. Hence, it helps on making the proper decisions regarding preferences of
such techniques. However, there will be several limitations such as:
 The ratios analysed by the measurement which do not facilitate the profitability of such
investments.
 It will not being helpful for the managers in terms of making the adequate decision as
well as do not facilitate the adequate results to them.
CONCLUSION
In accordance with the above study there has been measurement based on the financial
data for the year 2015 and 2016 which are relevant with Sports Direct International Plc and JD
Sports Fashion Plc. However, it can be said that the financial ratios of both the organisations
were measured ant the managers will suggest with the adequate solutions to increase the
productivity, profitability, liquidity and efficiency of business. The report has highlighted various
performance appraisals such as NPV, ARR and payback periods. The limitations of such
techniques will need to be analysed and measured. Further it can be said that with the help of
such measurements the stakeholder will become able to make the adequate improvement in the
operational activities as well as helps in generating the adequate capital investments.

REFERENCES
Atoom, R., Malkawi, E. and Al Share, B., 2017. Utilizing Australian Shareholders' Association
(ASA): Fifteen Top Financial Ratios to Evaluate Jordanian Banks' Performance.Journal of
Applied Finance and Banking. 7(1). p .119.
Delen, D., Kuzey, C. and Uyar, A., 2013. Measuring firm performance using financial ratios: A
decision tree approach.Expert Systems with Applications. 40(10). pp .3970-3983.
Buchman, T. A., Harris, P. and Liu, M., 2016. GAAP vs. IFRS Treatment of Leases and the
Impact on Financial Ratios.
Schönbohm, A., 2013. Performance measurement and management with financial ratios: the
BASF SE case (No. 72). Working Papers of the Institute of Management Berlin at the Berlin
School of Economics and Law (HWR Berlin).
Gunawardena, M.M.D. and et.al, 2015. Predictability of Stock Returns Using Financial Ratios
Empirical Evidence from Colombo Stock Exchange.
Meriç, E., Kamışlı, M. and Temizel, F., 2017. Interactions among Stock Price and Financial
Ratios: The Case of Turkish Banking Sector. Applied Economics and Finance. 4(6). pp .107-
115.
Davidson III, W. N. and Dutia, D., 2017. Debt, liquidity, and profitability problems in small
firms. Entrepreneurship Theory and Practice.
Delen, D., Kuzey, C. and Uyar, A., 2013. Measuring firm performance using financial ratios: A
decision tree approach.Expert Systems with Applications. 40(10). pp .3970-3983.
Liang, D. and et.al, 2016. Financial ratios and corporate governance indicators in bankruptcy
prediction: A comprehensive study. European Journal of Operational Research. 252(2). pp.561-
572.
Leary, M. T. and Roberts, M. R., 2014. Do peer firms affect corporate financial policy?. The
Journal of Finance. 69(1). pp .139-178.
Almazari, A. A., 2014. Impact of internal factors on bank profitability: Comparative study
between Saudi Arabia and Jordan. Journal of Applied finance and banking. 4(1). p.125.

Haslem, J. A. and Longbrake, W., 2015. A discriminant analysis of commercial bank
profitability.
Najjar, N. J., 2013. Can Financial Ratios Reliably Measure the Performance of Banks in
Bahrain?. International Journal of Economics and Finance, 5(3), p.152.
Online
Limitations of financial ratios, 2017 [Online] Available Through:
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ratios/53045>