Financial Analysis of Selected Textile Companies

“FINANCIAL STATEMENT ANALYSIS OF

SELECTED TEXTILE COMPANIES IN

PAKISTAN”

ACKNOWLEDGMENT

Finally by the grace of Al-mighty Allah I did mange to finish my final project. I

have studied “ The Analysis of Financial Statements of Selected Textile

Companies”. It was a healthy learning experience and I ‘m very thankful to my

project supervisor Dr Kashif-ur-Rehman for his sincere gratitude and technical

guidance through out the project. I am also very thankful to my friends specially

Mohsin Rameez Awan, & Ali Abbas Naqvi who supported me through out the

project and gave me the moral encouragement.

“This thesis is dedicated to my parents”

TABLE OF CONTENTS

ACKNOWLEDGMENT......................................................................................................I

TABLE OF CONTENTS.................................................................................................III

TABLE OF FIGURES.....................................................................................................IV

TABLE OF TABLES.........................................................................................................V

EXECUTIVE SUMMARY.................................................................................................1

INTRODUCTION...............................................................................................................3

1.1- TEXTILE INDUSTRY IN PAKISTAN..................................................................51.2- FINANCIAL STATEMENT AND RATIO ANALYSIS........................................71.3- RESEARCH QUESTIONS.....................................................................................91.4- OBJECTIVES........................................................................................................111.5- SIGNIFICANCE OF THE STUDY.....................................................................121.6- SCOPE AND LIMITATIONS..............................................................................131.7- DEFINITION OF THE TERMS..........................................................................14

LITERATURE REVIEW.................................................................................................15

RESEARCH METHODOLOGY AND DESIGN............................................................22

3.1- METHOD OF THE STUDY.................................................................................223.2- DATA.....................................................................................................................223.3- SAMPLING PROCEDURE..................................................................................233.4- RESEARCH INSTRUMENT...............................................................................23

3.5- FINANCIAL TOOLS............................................................................................233.6-TREATMENT OF THE DATA.............................................................................23

ANALYSIS AND INTERPRETATION OF DATA.........................................................24

4.1 COMMON-SIZE INCOME STATEMENT..........................................................244.2 COMMON-SIZE BALANCE SHEET...................................................................304.3 INTERPRETATION OF PROFITABILITY RATIOS.........................................364.4 INTERPRETATION OF LEVERAGE RATIOS..................................................434.5 INTERPRETATION OF LIQUIDITY RATIOS...................................................474.6 INTERPRETATION OF EFFICIENCY RATIOS...............................................504.7 INTERPRETATION OF ASSET UTILIZATION RATIOS................................534.8 CASH FLOW ANALYSIS......................................................................................56

CONCLUSION AND RECOMMENDATION................................................................59

5.1 SHORT-TERM LIQUIDITY..................................................................................595.2 CASH FLOW ANALYSIS......................................................................................605.3 RETURN ON INVESTED CAPITAL...................................................................615.4 ASSET UTILIZATION..........................................................................................615.5 OPERATING PERFORMANCE AND PROFITABILITY..................................62

BIBLIOGRAPHY.............................................................................................................63

TABLE OF FIGURES

FIGURE 4. 1.........................................................................................................................25

FIGURE 4. 2.........................................................................................................................27

FIGURE 4. 3.........................................................................................................................29

FIGURE 4. 4 (a)....................................................................................................................31

FIGURE 4. 4 (b)....................................................................................................................31

FIGURE 4. 5 (a)....................................................................................................................33

FIGURE 4. 5 (b)....................................................................................................................33

FIGURE 4. 6 (a)....................................................................................................................35

FIGURE 4.6 (b)....................................................................................................................35

FIGURE 4. 7.........................................................................................................................37

FIGURE 4. 8.........................................................................................................................39

FIGURE 4. 9.........................................................................................................................41

FIGURE 4. 10.......................................................................................................................42

FIGURE 4. 11.......................................................................................................................46

FIGURE 4.12........................................................................................................................49

TABLE OF TABLES

TABLE 4.01………………………………………………………………………..…………..……..24

TABLE 4.02…………………………………………………………………..…..…………………..26

TABLE 4.03………………………………………………………………………………….………..28

TABLE 4.04………………………………………………………………………………...….……..30

TABLE 4.05…………………………………………………………………………….…………….32

TABLE 4.06……………………………………………………………………………….………….34

TABLE 4.07………………………………………………………………………………….……….36

TABLE 4.08……………………………………………………………………………….………….38

TABLE 4.09………………………………………………………………...………………………..40

TABLE 4. 10…………………………………………………………………………………………42

TABLE 4. 11……………………………………………………………………………………....…43

TABLE 4. 12……………………………………………………………………………………....…44

TABLE 4. 13……..………………………………………………………………………………..…45

TABLE 4. 14…………………………..…………………………………………………………..…46

TABLE 4. 15………………………………………………………………………………….……...47

TABLE 4. 16…………………………………………………………………………………………48

TABLE 4. 17…………………………………………………………………………………………48

TABLE 4. 18…………………………………………………………………………………………49

TABLE 4. 19…………………………………………………………………………………………50

TABLE 4. 20…………………………………………………………………………………………51

TABLE 4. 21…………………………………………………………………………………………52

TABLE 4. 22…………………………………………………………………………………………52

TABLE 4. 23…………………………………………………………………………………………53

TABLE 4. 24…………………………………………………………………………………………54

TABLE 4. 25…………………………………………………………………………………………55

TABLE 4. 26…………………………………………………………………………………………56

TABLE 4. 27…………………………………………………………………………………………57

TABLE 4. 28…………………………………………………………………………………………58

EXECUTIVE SUMMARY

Pakistan's garment and textile are two principal industries contributing more than

60 per cent to total export earnings, accounting for 46 percent of total

manufacturing and employing 38 percent of the manufacturing labor-force.

Exports According to official data, textile manufactures exports increased by

23.31 percent to US$6,417.83 million during the period July-May 2002-03 as

compared to the corresponding period of previous year. Their share in overall

exports stood at 64.88 percent as against 63.70 per cent during July-May 2001-

02, thus further reducing the contribution of other categories to exports. So

looking to the increasing trend researcher is doing financial statement analysis of

selected textile companies in Pakistan. As financial statement analysis provide

deep insight to the financial position of a company, which is favorable for present

and its future of its existence. Financial ratios are widely used to develop insights

into the financial performance of companies’ by both the evaluators’ and

researchers’. The firm involves many interested parties, like the owners,

management, personnel, customers, suppliers, competitors, regulatory agencies,

and academics, each having their views in applying financial statement analysis

in their evaluations.

This study is about the financial statements analysis of the selected companies in

the textile industry in Pakistan. The study is descriptive in nature. The researcher

has utilized the descriptive method in acquiring information for evaluating the

financial performance of the selected textile companies. The research data is

secondary in nature as for this particular research. The data is collected for the

consecutive five years i.e. from 1998 to 2002, in the form of annual reports from

the registrar office, containing; balance sheet, income statement and profit & loss

account. The sample for this particular research is three different companies;

(Colony) Sarhad Textile Mills LTD, D.M. Textile Mills LTD, Al- Qadir Textile Mills

LTD. This research is based on secondary source of data and consists of annual

reports, articles, web sites, and books.

By analyzing financial statements the findings are really interesting that Al-Qadir

Textile Company is performing much better than the industry norms, where it has

faced several problems in 1998 and 1999. Al-Qadir has the highest ROA and

ROE for the year 2000. The results and data show that Al-Qadir is highly

financed through debt and has improved the debt position, but still it is high the

company needs to increase its shareholders equity. D.M have a negative net-

profit margin for 1998 and 1999. D.M shows a good ROA for the year 2001 and

over the years company has reduced its debt burden from 93% to 64%. D.M’s

current ratio is below one, which means on average 0.46 is its current ratio

showing that company has 0.45 paisas in current assets for every Rs.1 in current

liabilities. D.M has continuous negative ratio due to high credit sales. D.M are

enjoying high inventory turnover where (Colony) Sarhad is below the industry

average. (Colony) Sarhad is having negative results for the consecutive five

years; high cost of sales is being the reason for this result. (Colony) Sarhad has

debt of average 72%. (Colony) Sarhad shows variability in its current ratio.

Whereas (Colony) Sarhad has positive ratio of net working capital to total assets,

this is because of more assets. (Colony) Sarhad is in a critical situation where it

should try to increase its sales or reduce its cost of sales.

INTRODUCTION

Financial Statements are useful because they provide information that allows

investors and creditors to make better decisions. However, because of selective

reporting of economic events as well as non-comparable accounting methods

and estimates, financial statements are only an approximation of reality. In

addition, because of the tendency to delay accounting recognition, financial

statements also tend to lag reality.

A primary objective of financial analysis is to determine comparable risk and

return of companies and their securities. Financial statements include the

Balance Sheet

Income Statement

Cash Flow Statement

The financial statements are interrelated and should be used and analyzed

together. Methods of financial statement analysis may be divided into two

general categories, internal analysis and comparative or external analysis.

Internal analysis uses figures from the financial statements of any one date or

period to gain an understanding of the customer. Comparative analysis may be

used to determine trends when two or more successive sets of figures are

reviewed, or may be used to evaluate a given company's financial statement

against industry standards.

These methods may be used separately or in combination. They are part of the

tools that enable experienced credit professionals to reach a credit decision.

Financial statements should be spread and analyzed, with appropriate ratios and

flows calculated as an aid in the customer evaluation. As an important first step

in internal analysis, the financial statement should be examined for validity and

general correctness. After the statement has been accepted as valid and

reasonably accurate, ratios should be calculated and the figures analyzed.

Internal analysis calls for an examination of items within a single financial

statement for the purpose of judging their significance in relation to the capital of

the company, its method of operation and conditions prevailing within the

industry. The major tools for internal analysis are balance sheet ratios and a

working knowledge of the line of business including the method of operation and

seasonal influences.

Ratios are mathematical aids for appraisal and comparison of financial

statements. They are used to supplement currency amount inspection, to

examine inter-item relationships and to compare a specific company's

performance against its industry standard.

The use of ratios reduces the influence of currency size on analysis since these

comparisons are expressed as a percentage, fraction, decimal, or rates of

turnover. Only the combinations that could be made of the items appearing in

both schedules limit the number of ratios that can be developed from the balance

sheet and income statement. The type of operation represented by the account

and the nature of the risk has an important bearing on what ratios are to be

computed and studied. This analysis compares financial information generated

for five periods.

1.1- TEXTILE INDUSTRY IN PAKISTAN

Since its creation in 1947, the Pakistan Textile Industry has grown into the

largest and most significant economic sector in the country. The textile industry

now contributes 65% of the total exports to the national economy, 46% of its total

manufacturing, and 38% of its total employment.

The Textile Industry will continue to play an important role in the economy of

Pakistan as the country is one of the four largest cotton growers in the world and

availability of large quantity (around 10 million bales per annum) of reasonable

quality is the basis of the development and sustenance of the local Textile

Industry. The Pakistan Textile Industry is also very labor intensive with low costs

of manufacturing and raw materials.

Textile products are a basic human requirement next only to food. In spite of the

government’s efforts to diversify export as well as industrial base, the textile

remains the backbone of industrial activity in the country. Its share in the

economy, in terms of GDP, exports, employment, foreign exchange earnings,

investment and contribution to the value added in industry; make it the single

largest determinant of the growth in manufacturing sector with 46 percent share

in overall manufacturing activity. The demand for textiles in the world is around

$18 trillion. Pakistan has emerged as one of the major cotton textile product

supplier in the world market and its share in world yarn trade is about 30 percent

while its share in cotton cloth trade is about 8 percent. However, overall share of

textile exports from Pakistan is around one percent. The share of textile in

Pakistan’s exports earnings is 68 percent at its present worth of exports is

around $ 7 billion. The value addition in the sector account for 9 percent of GDP

and it employ 38 percent of industrial workers. During the last three years,

Pakistan’s textile sector is preparing itself to face the challenges of the post-

quota regime in 2005.

The Government of Pakistan has adopted special steps to boost the country's

cotton industry and market through a series of amendments. A standard

committee has been appointed to look into ways to increase quality cotton

production, to provide better crop knowledge to growers and to upgrade grading,

ginning, and pressing systems to international standards.

Pakistan's cotton production in 2001-02 was 10.6 million bales. Cotton production

in 2002-03, declined to 10 million bales. The industry was not a major player in

the global arena and fiber textile producers from India were large producers. The

Central Board of Revenue (CBR) has extended the compensatory duty drawback

on the export of blended fabrics, garments, and blended yarn from June 30, 2003

to June 30, 2004. Textile industry is now preparing itself to survive the challenges

of new textile market in 2005. The focus is on value addition, quality, and pricing.

A huge investment of US $2 billion has been made on balancing, modernization,

and replacement, which would help the textile sector to position it in order to

survive after 2005. The industry exports one billion dollars worth of bed wear,

knitwear, and readymade garments. In addition, steps are underway to increase

the exports of synthetic textiles.

Pakistan's textile industry will have to face tough competition, both in the

domestic and international markets. China will be the biggest competitor, which

after its accession to the WTO, will corner a very high percentage, which is

estimated to be from 40 per cent to 50 per cent of the global textile market.

Quality, delivery schedules, and price will be the high marks for all textile goods

in the global markets. Increase in productivity will be vital for our textile industry.

Pakistan along with China and India will have advantages, because all these

countries have a plentiful supply of the vital raw material i.e. cotton. (The NEWS,

14th,July 2003)

1.2- FINANCIAL STATEMENT AND RATIO ANALYSIS

Financial ratios are a popular way for users of financial statements to develop

insights into the financial performance of companies. By controlling for the effect

of firm size on the level of performance, ratios enable financial statement users to

examine how a firm has performed relative to its peers and relative to its own

historical performance.

A firm’s ratios can differ from its peers or its own historical performance because

it has selected a different product market strategy, because its management

team has become more effective at implementing its strategy, or because it has

selected a different financial strategy. Sometimes firms can appear to perform

differently because they have selected different accounting methods for reporting

the same underlying economic events. For this reason, a pioneer to effective

financial ratio analysis is the development of a clear understanding of how a

firm’s accounting decisions compare with those of its competitors, or with its own

decisions in prior years.

In assessing the significance of various financial data, managers often engage in

ratio analysis, the process of determining and evaluating financial ratios. A

financial ratio is a relationship that indicates something about a company's

activities, such as the ratio between the company's current assets and current

liabilities or between its accounts receivable and its annual sales. The basic

source for these ratios is the company's financial statements that contain figures

on assets, liabilities, profits, and losses. Ratios are only meaningful when

compared with other information. Since they are often compared with industry

data, ratios help managers understand their company's performance relative to

that of competitors and are often used to trace performance over time.

Ratio analysis can reveal much about a company and its operations. However,

there are several points to keep in mind about ratios. First, a ratio is just one

number divided by another. Financial ratios are only "flags" indicating areas of

strength or weakness. One or even several ratios might be misleading, but when

combined with other knowledge of a company's management and economic

circumstances, ratio analysis can tell much about a corporation. Second, there is

no single correct value for a ratio. The observation that the value of a particular

ratio is too high, too low, or just right depends on the perspective of the analyst

and on the company's competitive strategy. Third, a financial ratio is meaningful

only when it is compared with some standard, such as an industry trend, ratio

trend, a ratio trend for the specific company being analyzed, or a stated

management objective.

Financial ratios can also give mixed signals about a company's financial health,

and can vary significantly among companies, industries, and over time. Other

factors should also be considered such as a company's products, management,

competitors, and vision for the future.

1.3- RESEARCH QUESTIONS

1- What are the profitability ratios of the textile companies with respect to:

a) Return on Assets

b) Return on equity

c) Net profit margin

d) Gross profit margin

e) Operating profit margin

2- What are the leverage ratios of textile companies with respect to:

a) Total debt ratio

b) Debt- equity ratio

c) Long-term debt ratio

d) Times interest earned

3-What are the liquidity ratios of textile companies with respect to:

a) Current ratio

b) Quick ratio

c) Cash ratio

d) Net working capital to assets

4-What are the efficiency ratios of textile companies with respect to:

a) Total asset turnover

b) Fixed asset turnover

c) Inventory turnover

d) Receivable turnover

e) Payable turnover

5-What is the performance of the textile companies in term of:

a) Common-size analysis

6-What are the cash flows generated from different activities

a) Operating activities

b) Investing activities

c) Financing activities

1.4- OBJECTIVES

The following are the objectives of this research:

1. To analyze and interpret the financial reports of selected textile companies.

2. To appraise the financial position using the ratio analysis.

3. To accomplish the common size analysis.

4. Interpret post-retirement obligations and funding implications for future

performance.

5. To determine the level of profit generated.

6. To determine the expense and investments of the company.

1.5- SIGNIFICANCE OF THE STUDY

Financial statement analysis is of interest to shareholders, creditors, and the

firm’s own management. Both present and prospective shareholders are

interested in the firm’s current and future level of risk and return. These two

dimensions directly affect share price. The firm’s creditors are primarily interested

in the short-term liquidity of the company and in its ability to make interest and

principal payments. A secondary concern of creditors is the firm’s profitability;

they want assurance that the business is healthy and will continue to be

successful. Management, like stockholders, must be concerned with all aspects

of the firm’s financial situation. Thus, this study attempts to operate in a manner

that will be favorable to both owners and creditors.

In addition, management uses ratios to monitor the firm’s financial performance

from period to period. It will also help management to make decisions regarding

dividend policies, investments, lending, borrowings etc.

Sofie Vander Meulen in his study in 2003 states that, investors as well as other

stakeholders heavily rely on a company’s financial statements. It is an important

source of information that is readily available to them at a relatively low cost. The

quality of those statements however is highly variable (aggressive reporting or

not, disclosure or not). Therefore, this research would also be obliging for the

company’s investors and stakeholders.

Through this research many of the society members will be benefited and it will

be advantageous for the economy. Like investors, researchers, creditors,

management, employees, lenders, suppliers, customers, auditors, and analysts

will equally be able to take assistance from this research.

1.6- SCOPE AND LIMITATIONS

The sample of this research is basically three textile companies in Pakistan and

five year data has been taken for the analysis. The selected textile companies

are:

1. (Colony) Sarhad Textile Mills LTD.

2. D.M. Textile Mills LTD.

3. Al- Qadir Textile Mills LTD.

LIMITATIONS:

1. There is a limitation related to the analysis of the result, as researcher

doesn’t have modern software available to analyze the findings so the result is

based on manual work.

2. The availability of funds is the one of the limitations while doing this

research as a student it is difficult for the researcher to manage the funds.

3. The time period for the research is very short because it is difficult to

conduct a full time research for a student.

1.7- DEFINITION OF THE TERMS

1. Income Statement: Financial statement that shows the revenues, expenses,

and net income of a firm over a period of time.

2. Balance Sheet: Financial statement that shows the value of the firm’s assets

and liabilities at a particular time.

3. Liquidity: Ability of an asset to be converted to cash Quickly at low cost.

4. Shareholders: Any one with a financial interest in the firm.

5.Cash Flow Statement: Financial statement that shows the firm’s cash receipts

and cash payments over a period of time.

6. Ratio Analysis: Involves the methods of calculating and interpreting financial

ratios to assess the firm’s performance and status.

7. Current assets: The sum of a firm’s cash, account receivable, inventory,

prepaid expenses and marketable securities which can be converted to cash with

in a single operating cycle.

8. Current Liabilities: Measurable debt owned within one year, including

accounts payable, accrued liabilities, taxes due, and notes payable.

LITERATURE REVIEW

Ratios are a valuable analytical tool when used as part of a thorough financial

analysis. They can show the standing of a particular company, within a particular

industry. However, ratios alone can sometimes be misleading. Ratios are just

one piece of the financial jigsaw puzzle that makes up a complete analysis.

(Leslie Rogers, 1997)

Financial ratios are widely used to develop insights into the financial performance

of companies’ by both the evaluators’ and researchers’. The firm involves many

interested parties, like the owners, management, personnel, customers,

suppliers, competitors, regulatory agencies, and academics, each having their

views in applying financial statement analysis in their evaluations. Evaluators’

use financial ratios, for instance, to forecast the future success of companies,

while the researchers' main interest has been to develop models exploiting these

ratios. Many distinct areas of research involving financial ratios can be

differentiated. (Barne, 1986)

Financial ratios can be divided into several, sometimes overlapping categories.

A financial ratio is of the form X/Y, where X and Y are figures derived from the

financial statements or other sources of financial information. One-way of

categorizing the ratio is on the basis where X and Y come from. In traditional

financial ratio analysis both the X and the Y are based on financial statements.

If both or one of them comes from the income statement the ratio can be called

dynamic while if both come from the balance sheet it can be called static. The

concept of financial ratios can be extended by using other than financial

statement information as X or Y in the X/Y ratio. For example, financial

statement items and market-based figures can be combined to constitute the

ratio. (Salmi, Vitanen, and Olli, 1990)

In trend analysis, ratios are compared over time, typically years. Year-to-year

comparisons can highlight trends and point up the need for action. Trend

analysis works best with three to five years of ratios. The second type of ratio

analysis, cross-sectional analysis, compares the ratios of two or more companies

in similar lines of business. One of the most popular forms of cross-sectional

analysis compares a company's ratios to industry averages. These averages are

developed by statistical services and trade associations and are updated

annually. (Ezzamel, Mar-Molinero and Beecher, 1987)

Financial ratios can also give mixed signals about a company's financial health,

and can vary significantly among companies, industries, and over time. Other

factors should also be considered such as a company's products, management,

competitors, and vision for the future. (Fieldsend, Longford and McLeay, 1987)

There are many different ratios and models used today to analyze companies.

The most common is the price earnings (P/E) ratio. It is published daily with the

transactions of the New York Stock Exchange, American Stock Exchange, and

NASDAQ. These quotations show not only the most recent price but also the

highest and lowest price paid for the stock during the previous fifty-two weeks,

the annual dividend, the dividend yield, the price/earnings ratio, the day's trading

volume, high and low prices for the day, the changes from the previous day's

closing price. The price to earnings (P/E) ratio is calculated by dividing the

current market price per share by current earnings per share. It represents a

multiplier applied to current earnings to determine the value of a share of the

stock in the market. The price-earnings ratio is influenced by the earnings and

sales growth of the company, the risk (or volatility in performance), the debt-

equity structure of the company, the dividend policy, the quality of management,

and a number of other factors. A company's P/E ratio should be compared to

those of other companies in the same industry. (Garcia-Ayuso, 1994)

Several accounting and finance textbooks present a subjective classification of

financial ratios based on the practical experience or views of the authors. It is

common that the classifications and the ratios in the different categories differ

between the authors. In very general terms three categories of financial ratios are

more or less common: profitability, long-term solvency (capital structure) and

short-term solvency (liquidity). (Courtis, 1978)

Financial ratios can be divided for convenience into four basic groups or

categories: liquidity ratios, activity ratios, debt ratios, and profitability ratios.

Liquidity, activity, and debt ratios primarily measure risk; profitability ratios

measure return. (Owens and Epstein, 1995)

The following is a listing of some of the ratios to be aware of in analyzing a

company's balance sheet and income statement. These ratios fall into four

categories — liquidity, profitability, asset management (efficiency), and debt

management (leverage). (Perttunen and Martikainen, 1990)

When a firm borrows money, it promises to make a series of interest payments

and then to repay the amount that it has borrowed. If profits rise, the debt holders

continue to receive a fixed interest payment, so that all the gains go to the

shareholders. Of course, the reverse happens if profits fall. In this case

shareholders bear all the pain. If times are sufficiently hard, a firm that has

borrowed heavily may not be able to pay its debts. The firm is then bankrupt and

shareholders lose their entire investment. Because debt increases returns to

shareholders in good times and reduces them in bad times, it is said to create

financial leverage. Leverage ratios measure how much financial leverage the firm

has taken on. (Brealey, Myers, and Marcus, 2001)

If you are extending credit to a customer or making a short-term bank loan, you

are interested in more than the company’s leverage. You want to know whether it

will be able to lay its hands on the cash to repay you. That is why credit analysts

and bankers look at several measures of liquidity. Liquid assets can be converted

into cash quickly and cheaply. (McLeay and Fieldsend, 1987)

Once you have selected and calculated the important ratios, you still need some

way of judging whether they are high or low. A good starting point is to compare

them with the equivalent figures for the same company in earlier years. Also

known as benchmarking or cross-sectional analysis in which the firm’s ratio

values are compared to those of a key competitor or a group of competitors,

primarily to isolate areas of opportunity for improvement. (Gitman, 1997)

Following are the cautions while doing financial analysis. First, a single ratio does

not generally provide sufficient information from which to judge the overall

performance and status of the firm. Only when a group of ratios is used can

reasonable judgments be made. If an analysis is concerned only with certain

specific aspects of a firm’s financial position, one or two ratios may be sufficient.

Second, It is preferable to use audited financial statements for ratio analysis. If

the statements have not been audited, there may be no reason to believe that

the data contained in them reflect the firm’s true financial condition. Third, the

financial data being compared should have been developed in the same way.

The use of differing accounting treatments, especially relative to inventory and

depreciation can distort the results. (Whitis and Keith, 1993)

Time-series analysis is applied when a financial analysts evaluates performance

over time. Comparison of current to past performance, using ratio analysis,

allows the firm to determine whether it is progressing as planned. Using multiyear

comparisons can see developing trends, and knowledge of these trends should

assist the firm in planning future operations. As in cross-sectional analysis, any

significant year-to-year changes can be evaluated to access whether they are

symptomatic of a major problem. Time-series analysis is often helpful in checking

the reasonableness of a firm’s projected financial statements. A comparison of

current and past ratios to those resulting from an analysis of projected

statements may reveal discrepancies. (Gitman, 1997)

It is important to analyze trends in ratios as well as their absolute levels, for

trends give clues as to whether a firm’s financial condition is likely to improve or

to deteriorate. Common size analysis and percent change analysis are two other

techniques that can be used to identify trends in financial statements. Common

size analysis is also useful in comparative analysis. In a common size analysis,

all income statement items are divided by sales, and total assets divide all

balance sheet items. Thus, a common size income statement shows each item

as a percentage of sales, and a common a common size balance sheet shows

each item as a percentage of total assets. (Brigham and Ehrhardt, 2001)

Financial statement analysis applies analytical tools and techniques to general-

purpose financial statements and relates data to derive estimates and inferences

useful in business decisions. It is a screening tool in selecting investment or

merger candidates, and is a forecasting tool of future financial conditions and

consequences. It is a diagnostic tool in assessing financing, investing, and

operating activities, and is an evaluation tool for managerial and other business

decisions. Financial statement analysis reduces our reliance on hunches,

guesses, and intuition, and in turn it diminishes our uncertainty in decision-

making. It does not lessen the need for expert judgment but rather establishes an

effective and systematic basis for making business decisions. (Bernstein and

Wild, 1990)

The accounting equation is the basis of the financial reporting system:

Assets = Liabilities + shareholder’s equity

The left-hand side of this equation relates to the economic resources controlled

by a company, or assets. These resources are valuable in representing potential

sources of future revenues through operating activities. To engage in operating

activities, a company obtains funding to invest in assets. The right-hand side of

this equation identifies funding sources. Liabilities are funding from creditors and

represent obligations of a company or, alternatively, claims of creditors on

assets. Shareholder’s equity is a total of (1) funding invested or contributed by

shareholders (contributed capital) and (2) accumulated earnings since inception

in excess of distributions to shareholders (retained earnings). From the

shareholders point of view, these amounts represent their claim on company

assets.

A balance sheet summarizes the financial position of a company at a given point

in time. Most companies are required under accepted accounting practices to

present a classified balance sheet. In which assets and liabilities are separated

into current and non-current accounts. Currents assets are expected to be

converted to cash and used in operations within one year or the operating cycle,

which ever is longer. Current liabilities are obligations that the company must

settle in the same time period. The difference between current assets and current

liabilities is working capital. (Gitman, 1997)

Income statement measures a company’s financial performance between

balance sheet dates and hence, reflects a period of time. It lists revenues,

expenses, gains, and losses of a company over a time period. Net income,

shows the increase (or decrease) in net worth of a company before considering

distributions to and contributions from shareholders. (Brigham and Ehrhardt,

2001)

Cross-sectional analysis involves the comparison of different firms’ financial

ratios at the sane point in time. The typical business is interested in how well it

has performed in relation to other firms in the industry. Frequently, a firm will

compare its ratio values to those of a key competitor or group of competitors that

it wishes to follow. (Judy Ward, 1995)

Financial statement users are broadly classified into two groups. Internal users,

primarily the managers of a company, are involved in making operating and

strategic decisions for the business. As employees, they typically have complete

access to a company’s information system. Internally generated financial reports

are, therefore, specifically tailored to the unique information needs of an internal

decision maker, such as CEO, CFO, or internal auditor. External users are

individuals not directly involved in the company’s operations. These users must

rely on information provided by management as part of the financial reporting

process.

There are many classes of external users of financial statements. Creditors are

bankers, bondholders, and other individuals who lend money to business

enterprises. Creditors look to financial statements for evidence concerning the

ability of the borrower to pay periodic interests payments and repay the principal

amount when the loan matures.

Equity investors include existing and potential shareholders of a company.

Exiting shareholders need financial information in deciding whether to continue

holding the stock or sell it. Potential shareholders need financial information to

help in choosing among competing alternative investments. Equity investors are

generally interested in assessing the future profitability or riskiness of a company.

Merger and acquisition analysts are interested in determining the economic

value and assessing the financial and operating compatibility of potential merger

candidates.

Auditors use financial analysis techniques in determining areas warranting

special attention during their examination of a client’s financial statements. A

company’s board of directors, in their role as appointees of shareholders,

monitors management’s actions. Regulatory agencies utilize financial

statements in the exercise of their supervisory functions, including the Securities

and Exchange Commission, which watchfully oversees published financial

statements for compliance with federal rites law. Other users include employees,

intermediaries, suppliers, and customers. (Bernstein and Wild, 1990)

RESEARCH METHODOLOGY AND DESIGN

This chapter presents the basic methodology and requirements in research. It

includes the method of research, source of data, treatment of data, and tools,

which were used in the study.

3.1- METHOD OF THE STUDY

This study is about the financial statements analysis of the selected companies in

the textile industry in Pakistan. The study is descriptive in nature. The researcher

has utilized the descriptive method in acquiring information for evaluating the

financial performance of the selected companies.

3.2- DATAThe research data is secondary in nature as for this particular research. The data

is collected for the consecutive five years i.e. from 1998 to 2002, in the form of

annual reports from the registrar office, containing:

Balance sheet

Income statement

Profit & Loss account

3.3- SAMPLING PROCEDURE

The research, which has been done on the financial analysis of the selected

textile companies, the sample procedure for this particular research is three

different companies:

(Colony) Sarhad Textile Mills LTD.

D.M. Textile Mills LTD.

Al- Qadir Textile Mills LTD.

3.4- RESEARCH INSTRUMENT

This research is based on secondary source of data and consists of annual

reports, articles, web sites, and books.

3.5- FINANCIAL TOOLS

To know the desired results and to get the desired information the researcher

has applied many financial tools like trend- analysis, cross-sectional analysis,

common-size analysis, ratio analysis etc.

3.6-TREATMENT OF THE DATA

The data and information that was gathered was interpreted and analyzed by

using different financial tools.

ANALYSIS AND INTERPRETATION OF DATA

4.1 COMMON-SIZE INCOME STATEMENT

In common-size income statement, each item is expressed as a percentage of

sales, thus enabling the relationship between sales and specific revenues and

expenses to be easily evaluated. Three frequently cited ratios of profitability that

can be read directly from the common-size income statement are gross-profit

margin, operating-profit margin, and the net-profit margin.

Al- Qadir Textile Mills LimitedCommon-size Income Statement

For Year 1998 – 2002

TABLE 4. 1

2002 2001 2000 1999 1998

Net Sales 100% 100% 100% 100% 100%Cost of Sales 92.93 86.70 78.89 87.14 88.89Gross Profit 7.07 13.30 21.10 12.86 11.12Operating Expense 3.22 2.63 4.71 4.50 4.49

Operating Profit 3.85 10.75 16.40 8.36 6.62Other Income 0.19 0.11 0.02 0.11 0.10

4.04 10.86 16.42 8.46 6.72Financial Charges (3.38) (4.79) (6.89) (9.30) (8.23)Worker’s Participation Fund (0.01) (0.30) (0.48) ___-__ ___-__Profit/Loss Before Taxation 2.82 5.77 9.06 (0.84) (1.51)Taxation:

Current- year 0.79 0.50 - 0.63 0.23Prior-year 0.08 0.01 1.07 ___-__ 0.74Profit After Tax 1.95 4.21 7.99 (1.46) (0.97)

Starting with the cost of sales the company’s average cost of sales for five years

are 86.91% for five years, moreover which has changed each year as it depends

on many other factors like raw-material consumed, salaries and wages, electricity

used etc. Gross-profit has gradually decreased for the first four years but for the

last year it is maximum with respect to previous years. Similar is the case with

operating expense; the company has reduced its operating expense, in 2001

these expenses are minimum the attractive thing to note here is company’s sales

are highest for this year and that is Rs. 707,050,099.

Company has also concentrated its financial obligations by the end of 2002. For

the year 1998 and 1999 profit before taxation is negative additionally that makes

the company to bear loss and for three years reduction can be seen in the profit

both before and after taxation.

Al- Qadir Textile Mills LimitedCommon-size Income Statement

For Year 1998 – 2002

FIGURE 4. 1

Figure 4.1 shows the common-size analysis of Al-Qadir textile mill, in which sales

are shown as 100 percent and other item as a percentage of sales. When cost of

goods sold is subtracted from the sales we get gross-profit. The company’s cost

of sales is lowest for the year 2000, which is the company’s best performing year;

and year 2002 as highest cost of sales leaving lowest operating profit.

D.M Textile Mills LimitedCommon-size Income Statement

For Year 1998 – 2002

TABLE 4. 2

2002 2001 2000 1999 1998Net Sales 100% 100% 100% 100% 100%

Cost of Sales 86.60 85.70 86.40 92.20 93.13

Gross Profit 13.4 14.3 13.6 7.8 6.87

Operating Expense 3.5 3.6 3.3 3.4 4.7

Operating Profit 9.8 10.72 10.34 4.40 2.17

Other Income 0.2 0.36 0.10 0.12 0.16

10.00 11.08 10.44 4.52 2.33

Financial Charges 6.05 5.87 7.89 8.36 12.13

Loss on sale of fixed assets 0.01 - - - -

Worker’s Participation Fund 0.19 0.26 0.13 ___-__ ___-___

Profit/Loss Before Taxation 3.75 4.95 2.46 (3.84) (9.79)

Taxation:

Current- year 0.50 0.50 0.50 0.50 0.50

Prior-year 0.05 0.03 0.42 0.001 -

Deferred ___-__ ___-__ ___-__ 1.63 __-___

Profit/ Loss After Taxation 3.21 4.42 1.50 (2.71) (10.29)

As it can be seen from the profit & loss account of D.M textile in the appendix

section that its sales has always increased but the company has specialized to

reduce its cost of sales, it shows like they are properly utilizing the economies of

scale, by lowering the cost of production, which is also proved by the gross profit

from 6.87% in 1998 it increased to 14.3% in 2001 and 13.4% in 2002. We can

see that there is a reduction in operating expense of a company, which further

provides high operating profit. Financial charges are reduced but due to short-

term borrowing it has increased for the last year 2002. Company has incurred

loss for two years that is for 1998 and 1999 and for other years is also not

making profit after tax of more than 4.42% in 2001.

D.M Textile Mills LimitedCommon-size Income Statement

For Year 1998 – 2002FIGURE 4. 2

Figure 4.2 shows D.M textile costs of sales that are high for the first two years

and i.e. above 90 % whereas for other three years 2000 to 2002 it is almost

86%. The company’s highest operating profits are for the year 2001.

(Colony) Sarhad Textile Mills LimitedCommon-size Income Statement

For Year 1998 – 2002

TABLE 4. 3

2002 2001 2000 1999 1998

Net Sales 100% 100% 100% 100% 100%

Cost of Sales 102.71 100.53 112.93 115.75 105.75

Gross Profit/ Loss (2.71) (0.53) (12.93) (15.75) (5.75)

Operating Expense 5.54 5.59 10.64 11.43 4.39

Operating Profit/ Loss (8.25) (6.12) (23.57) (27.18) (10.14)

Other Income 2.88 0.49 14.22 0.99 0.16

(5.37) (5.63) (9.35) (26.19) (9.98)

Financial Charges 3.60 2.69 11.19 11.22 3.13

Loss on sale of fixed assets - - - 6.52 -

Other charges 2.65 3.79 17.76 20.81 2.74

Profit/Loss Before Taxation (11.62) (12.11) (37.70) (64.74) (15.85)

Taxation:

Current- year 0.50 0.50 0.50 0.50 0.50

Profit After Tax (12.12) (12.61) (38.20) (65.24) (16.35)

Company’s common-size income statement depicts its poor performance. The

sales of the company are not even the 50% of the sales of other companies

included in the research. Moreover its cost of sales is higher than its sales, which

on the very first step takes the company into loss. As gross profit of the company

shows on average its cost of sales are 7.5% more than its sales. The company is

also incurring high operating expenses that further more adds to the loss incurred

by the company. For the year 1999 it’s loss after taxation is 65.24% of the sales.

(Colony) Sarhad Textile Mills LimitedCommon-size Income Statement


The unusual company performance can be observed by the figure 4.3. Costs of

sales are even higher than its sales. The company is bearing loss for five years.

Supreme gross-loss is for the year 1999 and an operating loss of 27.18%.

4.2 COMMON-SIZE BALANCE SHEET

Common-size analysis of financial statements is expressing each item as a

percentage of its major item. As in common-size balance sheet each component

is expressed as a percentage of current assets and current liabilities. Common-

size analysis is especially useful in comparing the performance for a particular

year with that for current year. Following are the results of the analysis of the

companies’ common-size balance sheet.

Al- Qadir Textile Mills LimitedCommon-size Balance Sheet

For Year 1998 – 2002

TABLE 4. 4

2002 2001 2000 1999 1998Current Assets:Inventory 2.86% 3.14% 4.78% 6.08% 5.67%

Stock in trade 47.67 50.16 58.64 65.28 53.54

Trade Debts 12.05 7.97 1.59 5.47 9.69

Advances, Deposits, prepayments and other receivables

10.43 4.64 9.38 19.89 24.58

Cash & Bank Balances 26.90 34.09 25.60 3.28 6.52

Total current assets 100% 100% 100% 100% 100%

Current Liabilities:

Current portion of Long-term Liabilities

14.42 15.16 25.85 12.27 29.58

Short-term borrowings - - - 57.09 34.30

Creditors, accrued & other liabilities 82.95 79.46 65.68 28.24 35.15

Provision for Tax 2.23 1.76 0.48 2.40 1.11

Proposed Dividends - 1.96 7.99 - -

Unclaimed Dividend 0.40 1.66 __-__ __-__ __-__

Total current liabilities 100% 100% 100% 100% 100%

Al-Qadir textiles current assets have increased over the years as can be seen

from the balance sheet in the appendix. The company has reduced its inventory

from 5.67% in 1998 to 2.86% in 2002, which is good in a sense as inventory is

the most illiquid form of current assets. Stock in trade is almost 50% of the

current assets for all five years. Trade debts are considerably low as compared

with the industry, but have gradually increased in the year 2002. Advances,

deposits, prepayments, and other receivables show a variation in the data. Last

cash and bank balances have increased for the last three years.

Current liabilities were low in the year 2001 and 2000 of Rs.95, 039,484 and

Rs.94, 565,386 respectively and for other years it has been above Rs. 10 million.

Short-term borrowings are only for two years i.e. 1998 and 1999. Creditors,

accrued, and other liabilities constitute the major portion of current liabilities. The

same data is depicted in the figure 4.4 (a) and figure 4.4 (b).

Al- Qadir Textile Mills LimitedCommon-size Balance Sheet

For Year 1998 – 2002FIGURE 4. 4 (a)

FIGURE 4. 4 (b)

D.M Textile Mills LimitedCommon-size Balance Sheet

For Year 1998 – 2002

TABLE 4. 5

2002 2001 2000 1999 1998

Current Assets:

Inventory 3.68% 6.21% 4.43% 6.35% 9.29%

Stock in trade 44.51 36.57 57.25 54.93 30.96

Trade Debts 7.45 10.02 6.21 - -


39.26 41.13 22.70 36.08 55.42





22.12 23.41 23.07 39.75 42.66

Short-term borrowings 19.03 21.09 28.39 20.29 14.79

Creditors, accrued & other liabilities 54.02 48.24 46.50 37.24 38.38

Provision for Tax 4.82 7.26 2.04 2.72 4.17

Proposed Dividends - - - - -

Unclaimed Dividend 0.14 __-__ __-__ __-__ __-__


D.M textile has also increased its current assets for five years. Inventory of the

company shows a decreasing trend as can be seen from the table 4.5, starting

from 9.29% in 1998 it has reduced to 3.68% in 2002, although high in year 2001.

Stock in trade represent the major portion of current assets and show

dissimilarity over the years. There are no trade debtors in 1998 and 1999.

Company has reduced the advances, deposits, prepayments, and other

receivables, which is also the major component of current assets. Average

current liabilities are almost equal to Rs. 80 million for five years and there is less

fluctuation in it.

D.M Textile Mills LimitedCommon-size Balance Sheet

For Year 1998 – 2002

FIGURE 4. 5 (a)

The above figure shows the current assets for D.M textile. Where major portion

of current assets is in stock in trade and in advances, deposits, prepayments and

other receivables. In addition, inventory is almost less than 10% for five years.

FIGURE 4. 5 (b)

The current liabilities are more due to creditors, accrued and other liabilities. The

company is also liable to pay current portion of long term liabilities which has

reduced

(Colony) Sarhad Textile Mills LimitedCommon-size Balance Sheet

For Year 1998 – 2002

TABLE 4. 6

2002 2001 2000 1999 1998

Current Assets:Inventory 49.15% 50.08% 50.01% 48.28% 42.78%

Trade Debts 1.32 0.06 - 2.61 26.83


49.25 49.45 49.69 49.12 30.07





- - - - 1.04

Short-term borrowings 55.35 55.07 59.32 44.74 15.94

Creditors, accrued & other liabilities

41.99 42.44 38.28 52.86 83.02

Provision for Tax 2.66 2.49 2.40 2.40 __-__


Poor performance can be revealed through its common-size balance sheet

analysis, as the company has not made respectable sales to cover its cost of

production so its inventory is almost 50% of its current assets, trade debts are

very low. Advances, deposits, prepayments, and other receivables are 49% of

current assets. Further more the company cash and bank balances remains less

than 1% for all the years.

There are no current portions of long-term liabilities except for the year 1998. The

company have more of the short-term borrowings for all the five years which are

almost of average 46% of current liabilities and 51% of average are creditors,

accrued, and other liabilities.

(Colony) Sarhad Textile Mills LimitedCommon-size Balance Sheet

For Year 1998 – 2002

FIGURE 4. 6 (a)

The company’s current assets can only be seen in two colors in the figure 4.6 (a)

reflecting inventory and advances, deposits, prepayments and other receivables.

Moreover some portion of trade debt can be seen in 1998 and 1999.

FIGURE 4.6 (b)

The same is the case for current liabilities there are more of the short-term

borrowings and creditors, accrued and other liabilities.

4.3 INTERPRETATION OF PROFITABILITY RATIOS

Profitability ratios focus on the firm’s earnings. Each relates the returns of the

firm to its sales, equity, assets, or share value. Owners, creditors, and

management pay close attention to boosting profits due to great importance

placed on earnings in the market place.

Al- Qadir Textile Mills LimitedProfitability Ratios

For Year 1998 – 2002

TABLE 4. 7

2002 2001 2000 1999 1998

Gross Profit Margin 7.07% 13.30% 21.10% 12.86% 11.12%

Operating Profit Margin 3.85 10.75 16.40 8.36 6.62

Net Profit margin 1.95 4.21 7.99 (1.46) (0.97)

Return on Assets 2.24 5.42 10.12 (2.38) (2.18)

Return on equity 16.64 39.38 72.03 (10.18) (16.15)

To know the proportion of revenue that finds its way into profits, we look at profit

margin. Gross-profit, operating-profit and net-profit margin reveals the same

trend. Naturally a firm prefers a high profit margin. A high-price and high-margin

strategy typically results in lower sales, whereas a low-margin but high-volume

strategy can be quite successful.

Al-Qadir’s profit margin is greater than its competitors. Company’s greater

returns are for the year 2000 in which its gross-margin is 21.10%, operating-profit

of 16.40% and the net-profit margin of 7.99%. Additionally, return on assets

(ROA) and return on equity (ROE) are also high fro the year 2000 but decreases

for the next two years.

Al- Qadir Textile Mills LimitedProfitability Ratios


The above figure shows the profitability ratio of the company over the years. It

can be clearly observed that gross-profit, operating-profit and net-profit margin is

on the same trend. Return on equity is at its peak in year 2000.

Managers often measure the performance of a firm by the ratio of net-income to

total assets. However, because net-income measures profit net of interest

expense, this practice makes the apparent profitability of the firm a function of its

capital structure.

D.M Textile Mills LimitedProfitability Ratios

For Year 1998 – 2002

TABLE 4. 8

2002 2001 2000 1999 1998

Gross Profit Margin 13.4% 14.3% 13.6% 7.8% 6.87%

Operating Profit Margin 9.8 10.72 10.34 4.40 2.17

Net Profit margin 3.21 4.42 1.50 (2.71) (10.29)

Return on Assets 3.05 5.35 1.73 (2.92) (10.62)

Return on equity 38.6 50.2 15.74 (24.52) (91.09)

D.M textile gross-profit margin is showing an escalating process and so is

operating-profit margin. However the company’s net-profit margin is negative and

a company bears loss for the first two years. The highest net-profit is received for

the year 2001 of 4.42%.

D.M Textile Mills LimitedProfitability Ratios


The above figure shows the profitability performance of D.M textile mill. The

company did improve its gross-profit over the years. Net-profit margin is going

from negative to positive in the mid of year 1999. Return on equity did also

increased in the same time period giving highest return in the year 2001.

(COLONY) SARHAD Textile Mills LimitedProfitability Ratios

For Year 1998 – 2002

TABLE 4. 9

2002 2001 2000 1999 1998

Gross Profit Margin (2.71%) (0.53%) (12.93%) (15.75%) (5.75%)

Operating Profit Margin

(8.25) (6.12) (23.57) (27.18) (10.14)

Net Profit margin (12.12) (12.61) (38.20) (65.24) (16.35)

Return on Assets (1.63) (2.28) (3.70) (5.58) (4.77)

Return on Equity (25.41) (35.73) (58.24) (89.39) (76.30)

The company starting from negative gross-profit margin continues its impact on

profitability ratios. The company is not at all profitable, thus the return on assets

and return on equity are also negative for this reason.

(COLONY) SARHAD Textile Mills LimitedProfitability Ratios

For Year 1998 – 2002

FIGURE 4. 9

The above figure shows the profitability performance of (Colony) Sarhad mill. The

company remains below the zero percent line, which can be very evidently

observed from the figure the highest loss incurred is in the year 1999.

FIVE-YEAR COMPANY’S AVERAGE (PROFITABILITY RATIOS)

TABLE 4.10

AL-QADIR D.M (COLONY) INDUSTRY

SARHAD AVERAGE

Gross Profit Margin13.09 11.194 -7.534 5.58

Operating Profit Margin 9.196 7.486 -15.052 0.54

Net Profit margin2.344 -0.774 -28.904 -9.11

Return on Assets2.644 -0.682 -3.592 -0.54

Return on Equity 20.344 -2.214 -57.014 -12.96

FIGURE 4. 10

The above given table and figure shows the industry average of profitability ratios

for five years. It clearly depicts Al-Qadir textile above the industry average, D.M

textile on the second position but still enjoying being above the industrial norms,

whereas (Colony) Sarhad is the company below the industry average.

4.4 INTERPRETATION OF LEVERAGE RATIOS

When a firm borrows money, it promises to make a series of interest payments

and than to repay the amount that it has borrowed. If profits rise, the debt holders

continue to receive a fixed interest payment, so that all the gains go to

shareholders, whereas if the reverse happen and profits fall shareholders bear all

the pain.

Al- Qadir Textile Mills LimitedLeverage Ratios

For Year 1998 – 2002

TABLE 4. 11

2002 2001 2000 1999 1998

Total Debt Ratio 0.86 0.86 0.85 0.87 0.87

Long-term Debt Ratio 2.17 2.37 2.66 3.25 2.77

Debt-equity ratio 3.72 3.67 3.94 4.75 4.70

Times Interest ratio 1.73 1.30 2.32 0.91 1.18

The company’s data shows it is highly financed through debt that is of average

86%. Its total debt ratio is almost stable. The highest long-term debt ratio is 3.25

for year 1999. The company’s TIE-ratio has eventually improved in 2000 and

then reduced to 1.73. Banks prefer to lend to those firms whose earnings are far

in excess of interest payments. The regular interest payment is a hurdle that

companies must keep jumping if they are to avoid default. This ratio measures

how much clear air there is between hurdle and hurdler.

D.M Textile Mills LimitedLeverage Ratios

For Year 1998 – 2002

TABLE 4. 12

2002 2001 2000 1999 1998

Total Debt Ratio 0.64 0.89 0.86 0.88 0.93



Times Interest ratio 1.65 1.83 1.31 0.54 0.19

The market value of the company finally determines whether the debt holders get

their money back, so the ratio is calculated of total debt. D.M textile has reduced

its debt burden from 93% to 64%. Long-term Debt includes not just bonds or

other borrowings but also the value of long-term leases. Total long-term capital

also called total capitalization, is the sum of long-term debt and shareholders’

equity. Thus this means in year 2002 there are 0.73 paisas of every rupee of

long-term capital is in the form of long-term debt.

The company’s earnings before interest and taxes are more than 1.00 for three

years that means company is earning far in excess than its interest payments.

The data for five years shows the company has improved its times interest ratio

after facing trouble in 1998 and 1999.

(COLONY) Sarhad Textile Mills LimitedLeverage Ratios

For Year 1998 – 2002

TABLE 4. 13

2002 2001 2000 1999 1998

Total Debt Ratio 0.77 0.75 0.73 0.70 0.67



Times Interest ratio -2.29 -2.27 -2.11 -2.43 -2.80

(Colony) Sarhad is financed on average 72 percent with debt, both long-term and

short-term and 28 percent with equity. The company could be said to have a debt

ratio of 0.83 (the long-term debt ratio) or 0.77 (total debt ratio) for the year 2002.

Since company is incurring losses therefore its times interest ratio is negative the

company is not in a position to pay the interest payments.

FIVE-YEAR COMPANY’S AVERAGE(LEVERAGE RATIOS)

TABLE 4. 14

AL-QADIR D.M

(COLONY)

SARHAD

INDUSTRY

AVERAGE

Total Debt Ratio 0.862 0.84 0.724 0.80

Long-term Debt Ratio 2.644 0.858 0.686 1.39

Debt-equity ratio 4.156 8.182 2.962 5.1

Times Interest ratio 1.488 1.104 -2.38 0.070

Here is the compiled data for five years. Total debt ratio is 86.2 percent for Al-

Qadir, 84 percent for D.M, and 72.4 percent for (Colony) Sarhad whereas the

industry average is 80 percent.

FIGURE 4. 11

Figure 4.11 shows the average leverage ratios of the companies with the industry

average. Al-Qadir and D.M textile being above the industry average and (Colony)

Sarhad below the industrial average.

4.5 INTERPRETATION OF LIQUIDITY RATIOS

Creditors extending credit to its customer or making a short-term bank loan, are

interested in more than a company’s leverage. They want to know whether the

customer will be able to lay its hand on the cash to repay. Liquid assets can be

converted into cash quickly and cheaply.

Al- Qadir Textile Mills LimitedLiquidity Ratios

For Year 1998 – 2002

TABLE 4. 15

2002 2001 2000 1999 1998Current Ratio 1.38 1.29 0.96 0.89 0.64

Quick Ratio 1.34 1.25 0.71 0.86 0.59

Cash Ratio 0.37 0.44 0.24 0.03 0.04

Net Working Capital To Assets

0.38 0.29 -0.05 -0.11 -0.36

Al-Qadir’s current ratio has improved each year showing for the last year Rs.1.38

in current assets for every Rs. 1.00 in current liabilities. As some assets are

closer to cash than others, if there is a trouble inventory may not sell at anything

above fire-sale price, thus quick or Acid-test ratio is useful to calculate. The

company’s quick ratio has also improved, as there is no much difference after

extracting inventory from its current assets.

A company’s most liquid assets are its holdings of cash and marketable

securities, however a low cash ratio may not matter if the firm can borrow on

short notice. Al-Qadir’s cash ratio is low as its position is strong in the industry it

can easily handle emergency situations by borrowing money on short notice.

D.M Textile Mills LimitedLiquidity Ratios

For Year 1998 – 2002

TABLE 4. 16

2002 2001 2000 1999 1998

Current Ratio 0.57 0.52 0.57 0.37 0.30

Quick Ratio 0.53 0.49 0.51 0.36 0.28

Cash Ratio 0.03 0.03 0.05 0.01 0.01


-0.43 -0.48 -0.43 -0.63 -0.69

D.M textile current ratio on average is 0.46, which means the company is

having Rs. 0.46 in current assets for every Rs. 1.00 in current liabilities.

Company’s current ratio and quick ratio are also not varied, as its inventory is

low in current assets. Net working capital to total assets is negative due to

large short-term borrowings.

(COLONY) Sarhad Textile Mills LimitedLiquidity Ratios

For Year 1998 – 2002

TABLE 4. 17

2002 2001 2000 1999 1998Current Ratio 2.12 2.33 2.52 3.04 2.59

Quick Ratio 1.07 1.16 1.26 1.57 1.45

Cash Ratio 0.01 0.01 0.01 0.004 0.03


1.12 1.33 1.52 2.04 1.36

This company’s current ratio illustrate that its currents assets are far more than

its current liabilities. The decrease in current ratio signifies trouble, that

company has drag out its payables by delaying payment of its bill that cause

increase in its current liabilities and decrease in current ratio. Cash ratio is

very poor since company is not having enough money in its current assets.

FIVE-YEAR COMPANY’S AVERAGEFOR LIQUIDITY RATIOS

TABLE 4. 18

AL-QADIR D.M

(COLONY) SARHAD

INDUSTRY AVERAGE

Current Ratio 1.032 0.466 2.52 1.33

Quick Ratio 0.95 0.434 1.302 0.89

Cash Ratio 0.224 0.026 0.0128 0.08

Net Working Capital To Assets 0.03 -0.532 1.474 0.32

The above table is about the industry average and average of the companies’

liquidity ratios for five years.

FIGURE 4.12

The important aspect to note here is that this graph is about liquidity position of

the companies the line above the industry average shows bad performance of

the company and vice versa.

4.6 INTERPRETATION OF EFFICIENCY RATIOS

Efficiency ratios are to judge how efficiently the firm is using its assets or we can

say the speed with which various accounts are converted into sales or cash.

Al- Qadir Textile Mills LimitedEfficiency Ratios

For Year 1998 – 2002

TABLE 4. 19

2002 2001 2000 1999 1998

Total asset turnover 1.15 1.29 1.27 0.95 0.87

Fixed asset turnover 1.59 1.66 1.52 1.15 1.05

Inventory turnover 132.68 158.59 139.29 76.60 83.64

Receivable turnover 39.16 123.88 80.41 89.06 57.64

Payable turnover 2.51 2.21 1.81 1.28 1.23

The asset turnover ratio shows how hard the firm’s assets are being put to use.

Al-Qadir’s asset turnover has increased over time. For Al-Qadir textile each

rupee of assets produce Rs. 1.15 of sales, and each rupee of fixed assets

produce Rs. 1.59 of sales in year 2002.

Efficient firms turn over their inventory rapidly and don’t tie up more capital than

they need in raw materials or finished goods. Thus this company is a better

performer in this aspect too.

D.M Textile Mills LimitedEfficiency Ratios

For Year 1998 – 2002

TABLE 4. 20

2002 2001 2000 1999 1998






D.M textile asset turnover was highest in the year 2001 where each rupee of

assets produce Rs. 1.21 of sales, and each rupee of fixed assets produce Rs.

1.62 of sales. Its inventory turnover is acceptable than the industry norms.

Whereas receivable turnover are much better than any other company.

(COLONY) Sarhad Textile Mills LimitedEfficiency Ratios

For Year 1998 – 2002

TABLE 4. 21

2002 2001 2000 1999 1998






(Colony) Sarhad Textile Company is much below the average efficiency. The

company’s asset turnovers are below 1.00 for all the five years. It shows that

they are unable to produce even Rs. 1.00 of sales for each rupee of assets. The

company’s inventory turn over is very low due to low sales and very high

inventory level.

FIVE-YEAR COMPANY’S AVERAGEFOR EFFICIENCY RATIOS

TABLE 4. 22

AL-QADIR D.M(COLONY) SARHAD

INDUSTRY AVERAGE

Total asset turnover1.106 1.084 0.142 0.77

Fixed asset turnover1.394 1.308 0.218 0.97

Inventory turnover118.16 124.458 0.926 81.18

Receivable turnover78.03 21.672 1.014 33.57

Payable turnover1.808 1.118 0.208 1.04

The above table 4.22 shows the industry average and companies five-year

average efficiency ratios.

4.7 INTERPRETATION OF ASSET UTILIZATION RATIOS

Asset utilization ratio measures asset intensity in generating revenues to reach a

sufficient profitability level.

Al- Qadir Textile Mills LimitedAsset Utilization RatiosFor Year 1998 – 2002

TABLE 4. 23

2002 2001 2000 1999 1998Sales to cash & Equivalents

15.14 16.86 29.47 162.98 81.81

Sales to Receivables 39.16 123.88 80.41 89.06 57.64

Sales to Inventories 142.78 183.09 157.73 87.91 94.09

Sales Working-Capital 14.91 25.29 -161.96 -42.54 -9.35

Sales to Fixed Assets 1.59 1.66 1.52 1.15 1.05

Sales to Total Assets 1.15 1.29 1.27 0.95 0.87

Sales to Short-term Liabilities

6.78 9.36 10.98 8.31 9.91

As Al-Qadir’s asset turnover is escalating over previous five years. Up till now

this increase in asset earnings makes major variation in turnover for individual

asset components. Cash and equivalents evidence the most significant variability

during this period, which is also evidenced from common-size balance sheet.

Company’s account receivables shows a slight improvement in year 2001.

Regarding inventory turnover, company expressed desire to decrease

inventories at every stage of its manufacturing process is revealing itself through

an improved turnover ratio. It is important to note that Al-Qadir’s asset and asset

component turnover ratios often compare favorable to industry norms.

D.M Textile Mills LimitedAsset Utilization RatiosFor Year 1998 – 2002

TABLE 4. 24

2002 2001 2000 1999 1998

Sales to cash & Equivalents

118.57 131.34 64.30 333.09 289.65



Sales Working-Capital -7.94 -8.64 -7.94 -5.10 -5.36




18.04 19.67 12.11 15.95 25.39

D.M’s asset turnover is fluctuating over the years as it has decreased for the last

year 2002. Cash and equivalents also show a fluctuating trend. Account

receivable turnover has decreased for the last year but was better in the previous

years. Inventory turnover ratio has improved continuously for all the years.

(Colony) Sarhad Textile Mills LimitedAsset Utilization RatiosFor Year 1998 – 2002

TABLE 4. 25

2002 2001 2000 1999 1998

Sales to cash & Equivalents

136.94 118.44 92.08 180.54 203.29



Sales Working-Capital 0.71 0.89 0.46 0.36 1.18




1.60 2.16 1.17 1.63 9.14

(Colony) Sarhad ‘s asset turnover has decreased. Inventory turnover is much

lower than the industry norms, as company’s cost of sales are high and moreover

inventory constitutes about 50% of assets. Receivable turnover is also very low

as more of their sales are on credit. The depressing blow of sales can be seen

throughout the analysis.

4.8 CASH FLOW ANALYSIS

Al- Qadir Textile Mills LimitedCash Flows

For Year 1998 – 2002

TABLE 4. 26

2002 2001 2000 1999 1998Rupees Rupees Rupees Rupees Rupees

Cash Flows from Operating Activities

21,969,593 52,872,333 74,371,921 2,966,040 14,007,027

Cash Flows from Investing Activities

(3,841,698) (1,797,925) (19,922,155) (12,790,708) (7,172,889)

Cash Flows from Financing Activities

(17,386,931) (32,273,166) (34,542,709) 7,059,934 (6,876,559)

Increase (Decrease) in Cash

740,964 18,801,242 19,907,057 3,228,545 5,993,279

Al-Qadir’s operating cash flows is high for the year 2000, reason being low cost

of sales, which have resulted in high profit before taxation. This analysis reveals

cash flows are steady source of cash, with a substantial increase in year 2000.

The cash down turn in year 1999 is due primarily to financial charges. Investing

activities were more in 1999 and 2000, due to major out flow of fixed capital

expenditure. Financing out flows are more for the last three years, where

dividends are paid in year 2001 and 2002.

D.M Textile Mills LimitedCash Flows

For Year 1998 – 2002

TABLE 4. 27

2002 2001 2000 1999 1998

Rupees Rupees Rupees Rupees RupeesCash Flows from Operating Activities

28,768,565 40,351,744 17,315,639 22,815,401 1,836,244


(19,665,511) (16,354,183) (17,158,917) (2,171,480) (4,924,553)


(8,637,153) (26,333,169) 3,986,573 (20,746,316) 3,198,789


465,901 (2,335,608) 4,143,295 (102,395) 110,480

D.M have been able to maintain high cash flows from operations even after

incurring loss before taxation for the year 1998 and 1999. Cash flow has

decreased for the year 2002 because of more payments made to creditors.

Investment has increased for 2001 and 2002 by acquiring fixed assets. Whereas

financing out flow is more for the year 2001 as company made a repayment of

long-term loan.

Al- Qadir Textile Mills LimitedCash Flows

For Year 1998 – 2002

TABLE 4. 28

2002 2001 2000 1999 1998

Rupees Rupees Rupees Rupees RupeesCash Flows from Operating Activities

(6,098,470) 230,093 (19,908,780) (21,881,180) (993,496)


(5,893) 64,047 10,589 1,893,920 (260,035)


5,760,173 127 20,251,705 19,632,506 (535,235)


(344,190) 294,267 358,515 (354,754) (1,788,766)

(Colony) Sarhad has incurred losses all the way through the years, which has

affected its operating activities. They are not having enough sales even to cover

their production costs. In spite of incurring losses they have an addition to fixed

asset in year 1998 and 2002, that shows an out flow.

CONCLUSION AND RECOMMENDATION

Financial statement analysis focuses on one or more elements of a company’s

financial condition or operating results. Researcher emphasizes five areas of

inquiry, with varying degrees of importance.

Short-Term Liquidity. Ability to meet short-term obligations.

Cash Flow Analysis. Future availability and disposition of cash.

Return on Invested Capital. Ability to provide financial rewards sufficient to

attract and retain financing.

Asset utilization. Asset intensity in generating revenues to reach a sufficient

profitability level.

Operating performance and Profitability. Success at minimizing revenues

and minimizing expenses from operating activities over the long run.

5.1 SHORT-TERM LIQUIDITY

Important measures of short-term liquidity for the last five years have been

analyzed by the use of liquidity ratios. Al-Qadir’s current assets have increased

each year except for the year 2000. From 1998 to 2002 its assets have increased

by approximately 40%. The company’s current liabilities remained high up till

1999 and did reduced for two years then again increases in 2002, as they have

more short-term borrowings for the last year. Al-Qadir’s liquidity position is far

much better then the industry average.

D.M’s current assets also show an increasing trend, but that is slow with respect

to increase in current liabilities. Current liabilities have accelerated for the reason

of more creditors, accrued and other liabilities.

(Colony) Sarhad liquidity position is not favorable they have increased their

current assets especially inventories and they are not making enough sales, so if

they sell those assets they can’t even recover the cost. And amounts of their

liabilities have increased due to excessive short-term borrowings. They are in a

trouble to meet their short-term obligations.

5.2 CASH FLOW ANALYSIS

Al-Qadir’s operating cash flows is high for the year 2000, reason being low cost

of sales, which have resulted in high profit before taxation. This analysis reveals

cash flows are steady source of cash, with a substantial increase in year 2000.

The cash down turn in year 1999 is due primarily to financial charges. Investing

activities were more in 1999 and 2000, due to major out flow of fixed capital

expenditure. Financing out flows are more for the last three years, where

dividends are paid in year 2001 and 2002.

D.M have been able to maintain high cash flows from operations even after

incurring loss before taxation for the year 1998 and 1999. Cash flow has

decreased for the year 2002 because of more payments made to creditors.

Investment has increased for 2001 and 2002 by acquiring fixed assets. Whereas

financing out flow is more for the year 2001 as company made a repayment of

long-term loan.

(Colony) Sarhad has incurred losses all the way through the years, which has

affected its operating activities. They are not having enough sales even to cover

their production costs. In spite of incurring losses they have a addition to fixed

asset in year 1998 and 2002, that shows an out flow.

5.3 RETURN ON INVESTED CAPITAL

Al-Qadir return on assets (ROA) shows a variation due to constant increase in

assets and fluctuating net income. Net income is supreme for the year 2000.

Return on equity (ROE) similarly shows the same trend as ROA.

D.M return on assets (ROA) is also changing according to the net income

received. Its return on assets (ROA) is lowest for the year 1998 as the cost of

sales and operating expenses are high.

(Colony) Sarhad is not having any positive return from its assets for the reason of

continuously incurring losses for the successive five years.

5.4 ASSET UTILIZATION

Al-Qadir’s asset turnover is increasing over last five years. Yet this increase is in

asset turnover makes significant changes in turnover for individual asset

components. Cash and equivalents evidence the most significant variability

during this period, which is also evidenced from common-size balance sheet.

Company’s account receivables shows a slight improvement in year 2001.

Regarding inventory turnover, company expressed desire to decrease

inventories at every stage of its manufacturing process is revealing itself through

an improved turnover ratio. It is important to note that Al-Qadir’s asset and asset

component turnover ratios often compare favorable to industry norms.

D.M’s asset turnover is fluctuating over the years as it has decreased for the last

year 2002. Cash and equivalents also show a fluctuating trend. Account

receivable turnover has decreased for the last year but was better in the previous

years. Inventory turnover ratio has improved continuously for all the years.

(Colony) Sarhad ‘s asset turnover has decreased. Inventory turnover is much

lower than the industry norms, as company’s cost of sales are high and moreover

inventory constitutes about 50% of assets. Receivable turnover is also very low

as more of their sales are on credit.

5.5 OPERATING PERFORMANCE AND PROFITABILITY

Al-Qadir’s gross-profit margin has increased for the first three years and reduces

eventually for the year 2001 and 2002, as cost of sales are highest for the year

2002. Operating-profit margin is following the same trend in spite that over the

years they have reduced their operating expenses. Net-profit margin is negative

for year 1998 and 1999 as they have paid the financial charges and reduced their

debt burden.

D.M’s gross-profit margin is stable for the last three years and was low for 1998

and 1999, as their cost of sales were 93% and 92% respectively. Company’s

operating profit show an increasing trend, excluding the year 2002, their

operating expenses are very much stable for five years. Net-profit margin is

highest for the year 2001 due to less cost of sales.

(Colony) Sarhad starts from the negative gross-profit margin as its cost of sales

are higher than its net sales. Therefore, operating-profit and net-profit margin are

also negative.

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Financial Analysis of Selected Textile Companies

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