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Financial ratios are pointers of a firm’s performance and business situation. The ratios evaluate a firm’s performance and they compare the financial position of two firms.
The aim of this paper is to analyse Coca Cola Company’s profitability by evaluating and analysing the company’s financial statements for the year ended December 31 2009 and 2010. Additionally, the paper has evaluated the role of Net Present Value and Return on Investment in decision making.
Profitability ratios reveal a business’s success or profitability.
The gross profit margin shows the level of an organisation’s profit that is obtained from sales. It is calculated as follows:
Gross profit margin= [(Sales- Cost of Goods sold)/ Sales] * 100
Coca Cola’s cost of goods sold for the year ended December 31, 2009 = $[(30,990m- 11,088m)/ 30,990m] * 100= 64%
In year ended December 31, 2010 Coca Cola’s gross profit margin was $(35,119m-12,693m)/ 35,119m= 64%
This shows that there was no change in Coca Cola’s profit from sales between the two years; the company’s ability to pay its overhead expenses was static.
Return on assets ratio calculates the best way a company utilizes its assets to boost profit or income. The ratio is calculated as follows:
Return on Assets (ROA)= (Net Income/ Total Assets) * 100
Coca Cola’s net income in 2009 was $6,906m while the total assets for the same period were $48,671m. Therefore, the company’s Return on Assets in 2009 was ($6,906m/ $48,671m) *100= 14%. On the other hand, Coca Cola’s net income and total assets for the period ended December 31 2010 was $11,859m and $72, 921m respectively. The company’s ROA for 2010 was ($11,859m/$72,921m) *100= 16%.
This shows that the Coca Cola utilized its assets better in 2010 than in 2009. Therefore, income obtained from efficient asset utilization increased over the two years.
Net Present Value (NPV) is a measure of an investment’s profitability. It measures the level by which an investment should increase based on the current value. It is way of determining if a project is worth undertaking.
Therefore, an investment with a positive NPV is more desirable than one with a negative NPV. The first assumption is that to buy a Chevrolet Impala would cost $5,000.00 while leasing it would cost $ 500.00 per year for the next 3 years.
The formula for Net Present Value is as follows: Rt / (1+i)t where, Rt is calculated by subtracting cash outflow from cash inflow, i is an investment’s rate of return and t is the period of a given investment. NPV enables investors to determine the financial viability of a given investment. It is also a measure of the level of an investment’s increase.
By observing an investment’s NPV, an investor can determine if it will be profitable to undertake It or not. Every cash inflow or outflow is discounted to the present value. All the values are then summed. For example, it can be assumed that to buy a Chevrolet Impala would cost $12,000.00 and the operating and maintenance costs would be $500 per annum.
The inflows are expected to be $200 per annum and the income from selling the vehicle after 3 years is $9,000.00. The rate of return is 10%. Some of the assumptions are that the vehicle will be mostly for personal use. However, it will be used for car hire on occasional basis.
Due to its classic nature it will also be used in special show ground displays. The cash inflow expected from these personal activities is $1,000 per annum. Therefore, the net cash flow is ($200+ $3,000 + $3,000) – ($4,000+$500) = $(1,700.00).
NPV for 3 years= 1,700/ (1+0.10)3= $1,277.24
On the other hand, leasing the same vehicle for the next 3 years would cost $200 per annum with an annual income of $500. The income would be proceeds from leasing and renting the vehicle. However, there would be neither initial buying cost nor final selling price. Therefore, NPV for 3 years would be as follows: $300/ (1+0.10)3 = 225.39.
Therefore, NPV for buying a new vehicle and then selling it afterwards is higher than for leasing. This is because the proceeds from selling the vehicle exceed the benefits that a lessee obtains at the end of the lease contract. It is advisable that anyone who would want to own the vehicle should buy rather than to lease.
That is because buying is more economically viable than leasing. Some of the benefits of buying a vehicle are convenience and comfort. However it is expensive and one may opt for leasing. Leasing is beneficial because one is able to change the change the brand and make of the vehicle at his or her own convenience.
Return on Investment (ROI) is a measure of a business’s profitability or viability. It is calculated as follows:
ROI= (Gain from Investment- Cost of Investment)/ Cost of Investment
If the cash inflow for leasing a house for the next 5 years is $5,000.00 and the net outflow is $4,000.00; the net gain from the investment would be $1,000.00. Therefore, ROI for leasing a house would be ($1,000.00-$5,000.00)/ $5,000.00= -0.8. The assumption is that there are no maintenance and renovation costs. The other assumption is that the lessee would gain from renting the house to someone else.
However, if a person wants to buy a house, he would incur construction and renovation costs. The cost of buying or constructing a house is expected to be $10,000.00. The main operating expenses are the maintenance costs and land rates. These add up to $3,000.00 for the next three years. Additionally, after 3 years, the home owner can decide to sell the house at $12,000.00.
Therefore, after 3 years, the cash inflow would be $12,000.00 and the cash outflow would be “$10,000.00+ $3,000.00”= $13,000.00. Therefore, the gain from buying or constructing a house would be “$12,000.00- $13,000.00”= $(1,000). The ROI from buying and selling a house would be $(-1,000- $10,000)/ $10,000= -1.1. Therefore, the return on investment from buying a house and then selling it is higher than leasing.
The assumptions used in this analysis are that the leaser can allow the lessee to make modifications on the house. Therefore, the lessee incurs maintenance and renovation costs. There are various benefits of buying a house as compared to leasing. For example, there is the there is home security as opposed to leasing whereby one does not own the house.
Additionally, from the analyses, buying a house would be more economically viable than leasing. From the analysis, buying and leasing offer varied benefits. The two processes are commonly used by property owners and the car hire businesses.
Although the cost of buying or building a property is high, it is more convenient to own. Leasing enables people to own items that are too expensive to buy at a go. However, the lessee does not have the rights to sell the property or to change the structuring. This leaves ‘buying’ as the most financially viable option.
Conclusion
Coca Cola Company has been analysed on the basis of the profitability ratios. The company is an international producer and distributor of soft drinks and non-alcoholic beverages. The ratios used in the company analysis were measured upon the company’s financial statements for the year ended December 31 2009 and 2010. From the analysis, the company’s profitability increased between the two years under study.
For example, the profit margin increased from 22% to 34% while Return on Assets increased from 28% to 38%. However, the gross profit margin remained the same. The Net Present value analysis reveals that it is cheaper to lease a Chevrolet Impala rather than to buy a new one.
That is because the economic viability is higher when one leases. The return on investment measures viability of a given business venture. It is similar to NPV only that it does not take in to account the discounted rate. From the analysis, it is more economically to buy a vehicle than to lease.
It is also more economically viable to buy a house than to lease. These are the factors that analysts and investors should look out for before publishing property worth. Consumers should also be guided by NPV and ROI in order to make viable and informative decisions regarding property property ownership.
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