ratio analysis of glaxo smithkline pharmaceuticals

ORIGIN OF THE REPORT

This report is made as a report in the ‘Managerial Finance’ course on a business organization. So the business organization of GlaxoSmithKline Pharmaceuticals was chosen and we are discussing on the ratio analysis of the specified company. This had the formal approval of Mr. Kamruddin Parvez who is the Accounting lecturer, School of Business, Independent University, Bangladesh. This report is based on the background of information and knowledge that we acquired from GlaxoSmithKline Pharmaceuticals and it provides a reliable effective insight into the ratio process of the particular company.

INTRODUCTION

GlaxoSmithKline Pharmaceuticals Ltd is the parent company of GSK, a major global healthcare group which is engaged in the creation and discovery, development, manufacture and marketing of pharmaceutical products, including vaccines, over the-counter (OTC) medicines and health-related consumer products.. GlaxoSmithKline Pharmaceuticals Ltd. is producing world class of Medicine, following the requirement of the World Health Organization (WHO) in order to improve the health happiness and the quantity of life. We placed greatest emphasis on maintaining the highest standard of the Corporate Governance. On the basis of Financial Statement we can describe how the principles of the good Governance are applied in GlaxoSmithKline Pharmaceuticals Ltd. The GlaxoSmithKline Pharmaceuticals Ltd, committed to effort our health care needs of the country, about 26 new products have added to the existing products during this year. As a result Panadol ,Sensodyne , Breathe Right , Corega, Poligrip

Solpadeine, and lot of medicine have already achieved themselves in a good position in the world Market within a short period of time.

The performances of various devices are used in the GlaxoSmithKline Pharmaceuticals Ltd. analysis of Financial Statement data to bring out the comparative and relative significance of the financial information presented.

Ratio analysis: Ratio analysis is the starting point in developing the information desired by the analyst. Ratio analysis provides only a single snapshot, the analysis being for one given point or period in time. In the ratio analysis it is possible to define the company ratio with a standard one. Ratio analysis can be classified as follows:

A) Liquidity ratio C) Profitability ratio E) Market Value RatioB) Asset Management ratio D) Debt-Management ratio

A. LIQUIDITY RATIO

Liquidity ratio measures the ability of the firm to meet its obligations. These ratios establish relation between cash and other current asset and current liabilities. Creditors to evaluate the creditworthiness of the firm use these ratios. These ratios also provide revels management’s policy in managing liquidity position of the firm.

We can satisfy the liquidity ratio on the three ratios, those are:

Current Ratio

Quick Ratio

1. CURRENT RATIO:

Current Ratio indicates the ability of a company to achieve its short-term obligations, where short-term obligations indicate those obligations that are due within a year or within the operating cycle. Current ratios are extent to which the assets that are expected to cash cover the claims of short-term creditors.

Current Ratio = Current Assets

Current Liability

Following table shows current ratios of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007

2006

2005

CURRENT RATIO

13626/10345

=1.32x

10992/7265

=1.51x

13177/9511

=1.39x

COMMENTS:

From the analysis of current ratio we can see that in the year 2005, the liquidity position was weak where it had a minimal increase in 2006 but again dropped off being extremely weak in the year of 2007. There was an increasing trend from year 2005-06, but the trend again decreased in 2007. Therefore the current ratio situation of the company is not good at all.

2. QUICK RATIO:

Quick ratio is one of the most important measure of liquidity than the current ratio. This is known as the acid test ratio. Inventories which are the least liquid asset among the current assets are deducted to calculate Quick ratio. It is essential for a company to realize its ability to pay the short-term obligation, without knowing on the sales of inventory because they are the assets on which losses are mostly in the event of liquidation. Quick assets comprise current assets less inventory over current liabilities. It is calculated as

Quick ratio = (Current assets - Inventory)

Current Liabilities

Following table shows quick ratios of GlaxoSmithKline Pharmaceuticals in different years:

YEAR 2007

2006

2005

QUICK

RATIO

(13626-3062)/10345

=1.02x

(10992-2437)/7265

=1.18x

(13177-2177)/9511

=1.16x

COMMENTS:

From the analysis of quick ratio we can see that there was an increasing trend from 2005 to 2006, but then it decreased alarmingly in the year 2007. Here we can assume that the company’s quick ratio is not at a satisfactory level.

B.ASSET MANAGEMENT RATIO

The Asset Management Ratio measures how effectively the firm is managing its assets. These ratios are designed to answer this question: Does the total amount of each type of asset as reported on the balance sheet seem reasonable, too high, or too low in view of current and projected sales level? Firms invest in assets to generate revenues both in the current period and in future period. To purchase their assets, companies must borrow or obtain funds from other sources. If they have too many assets, their interest expenses will be too high; hence their profits will be depressed. On the other hand, because production is affected by the capacity of assets, if assets are too low, profitable sales might be lost because the firm is unable to manufacture enough products. We generally consider the under mentioned asset management ratios:

Inventory turnover ratio

Days Sales Outstanding

Fixed asset turnover ratio

Total asset turnover ratio

INVENTORY TURNOVER RATIO:

This ratio measures the number of times, on average; the inventory is sold during the period. Its purpose is to measure the liquidity of the inventory. A popular variant of the Inventory turnover ratio is to convert it into average days to sell the inventory in terms of days. The ratio is regarded as a test of efficiency and indicates the rapidity with which the company is able to move its merchandise. It is a measure of the effectiveness of the company’s inventory policy. The higher the turnover ratio, the shorter the shorter the time that the inventory is held over as stock on the shelves. The lower the ratio, the more inventories the firm holds. The inventory turnover ratio is calculated as follows:

Inventory turnover ratio = Cost of goods sold

Inventories

Following table shows the Inventory Turnover ratio of GlaxoSmithKline Pharmaceuticals in different years:

YEAR 2007 2006 2005

INVENTORY

TURNOVER

5206/3062

=1.7x

5010/2437

=2.06x

4764/2177

=2.19x

COMMENTS:

Analysis shows a gradual declination of Inventory Turnover Ratio over the last three years. In the year 2005, the inventory turnover was 2.19times, where it decreased to 2.06times in the year 2006 and in year 2007 it was 1.7times. Declining inventory turnover commonly indicates that the company is not being able to flush its inventory very well as it was doing in the previous years. A low turnover rate may point to overstocking, obsolescence, or deficiencies in the product line or marketing effort.

DAYS SALES OUTSTANDING:

The Days Sales Outstanding ratio shows both the average time it takes to turn the receivables into cash and the age, in terms of days, of a company's accounts receivable. It is also known as AVERAGE COLLECTION PERIOD (ACP). The average collection period refers to time it takes, on average to collect credit sales. It is a measure of speed with which a company collects its account receivables. This is calculated by dividing receivables by average sales per day. When debts are uncollected, it means cash funds are tied up financing accounts receivables and unavailable to pay creditors. A proper system of credit management will tend to minimize the collection period and the associated level of bad debts. The lower period is the better position of the firm.

Days Sales Outstanding Ratio = Receivables

Annual Sales/365 days

Following table shows the DSOs of GlaxoSmithKline Pharmaceuticals in different years:

YEAR 2007 2006 2005

DAYS SALES OUTSTANDING

5495/63.63

=86.35 days

5237/59.34

=88.25 days

5348/54.75

=97.68 days

COMMENTS:

From the analysis it can be noted that, the DSOs have been gradually decreased over the three years. In the year 2005, DSO was 97.68 days, then it had a rapid decrease in the year 2006 and in the year 2007 the DSO was 86.35 days. The significant improvement in 2006-067 signifies that the company collected its outstanding receivables quicker than the previous years.

FIXED ASSET TURNOVER:

The Fixed Asset Turnover ratio measures the effectiveness in generating Net Sales revenue from investments in Net Property, Plant, and Equipment back into the company evaluates only the investments. It is calculated as:

Fixed Asset Turnover Ratio= Net Sales

Net fixed assets

Following table shows the fixed asset turnover ratios of Glaxo SmithKline Pharmaceuticals in different years:

YEAR 2007 2006 2005

FIXED ASSETS TURNOVER

23225/17377

=1.34x

21660/14561

=1.48x

19986/14021

=1.43x

COMMENTS:

There has been a fluctuating trend observed over the 3 years. In the year 2005, the fixed asset ratio was 1.43times where it grew slightly in the year 2006 then it had a drastic fall in the year 2007. A fluctuating trend has been observed in the changes in fixed asset turnover ratios. The rapid declination of turnover in 2006-07 occurred because sales did not keep pace with the increase of company’s fixed assets.

TOTAL ASSET TURNOVER:

The Total Asset Turnover is similar to fixed asset turnover since both measures a company's effectiveness in generating sales revenue from investments back into the company. Total Asset Turnover evaluates the efficiency of managing all of the company's assets. Generally the higher the firm’s total asset turnover, the more efficiently its assets have been used. This measure is of greatest interest to management since it indicates the firm’s operations have been financially efficient. It is calculated as: Total Asset Turnover= Net Sales

Total assets

Following table shows the TATO ratios of GlaxoSmithKline in different years:

YEARS 2007 2006 2005

TOTAL ASSET TURNOVER RATIOS

23225/31003

=0.75x

21660/25553

=0.8x

19986/27198

=0.73x

COMMENTS:

From the analysis we can see that total assets turnover has been increased during the year 2005-2006. Then it has again faced decline in the year 2007. The underlying reason might be the company could not be able to be proved efficient in utilizing its assets.

C) DEBT MANAGEMENT RATIO

Debt management ratios reveal:

1) The extent to which the firm is financed with debt and

2) Its likelihood of defaulting on its debt obligations.

These ratios include:

Debt Ratio

Times interest earned

DEBT RATIO:

The ratio of total debt to total assets, generally called the debt ratio, measures the percentage of funds provided by the creditors. The higher the ratio, the greater the amount of other people’s money being used in an attempt to generate profit. It is calculated as:

Debt Ratio= Total Debt ×100

Total Assets

Following table shows the Debt ratios of GlaxoSmithKline Pharmaceuticals in different years

YEARS 2007 2006 2005

DEBT RATIOS (21093/31003)×100

=68.03%

(15905/25553)×100

=62.243%

(19628/27198)×100

=72.167%

COMMENTS:

From the analysis we can see that the debt ratio was high during the year 2005. Then it was declined in the year 2006 and again in the year 2007 it had an increase. It can be assumed that the company had a high amount of debt during the year 2005 then the company took up policies to pay off the debts in 2006-2007.

TIMES INTEREST EARNED (TIE):

It is also known as “interest coverage ratio” which determines the ability of a firm to meet contractual interest payments. It measures the extent to which operating income can decline before the firm is unable to meet its annual interest cost. This ratio provides an indication of the margin of safety between financial obligations and the net income thus it provides an indication of the available protection to creditors. Failure to meet this obligation can bring legal action by the company’s creditors, possibly resulting in bankruptcy. It is calculated as:

Time Interest Earned= Earnings before interests and taxes

Interest charge

Higher the TIE ratio shows the better performance.

Following table shows the TIE of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007 2006 2005

TIME INTEREST EARNED

7452/432

=17.25

7799/314

=24.83

6732/427

=15.76

COMMENTS:

From the analysis we see that, in the year 2005, the TIE was 15.76 where it had a significant increase in the year 2006 but again it had a drastic fall in the year 2007. In both years of 2005 and 2007 the company performed almost the same but in the year of 2006, their EBIT was higher that made their TIE go higher.

D) PROFITABILITY RATIO

Profitability is the net result of a number of policies and decisions. Profitability ratios show the combined effects of liquidity, asset management and debt on operating results. There are four important profitability ratios that we are going to analyze:

1. Profit Margin on sales2. Gross Profit Margin on sales3. Return on Asset4. Return on Equity

PROFIT MARGIN ON SALES:

Net Profit Margin gives us the net profit that the business is earning per dollar of sales. The equation is as follows:

Net Profit margin = Net income available to the stockholders ×100

Sales

Following table shows Profit Margin on Sales of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007 2006 2005

NET PROFIT MARGIN ON SALES

(5310/23225)×100

=22.8%

(5498/21660)×100

=25.4%

(4816/19986)×100

=24.1%

COMMENTS:

The Net Profit Margin was24.1% in the year of 2005, which increased to 25.4% in 2006 and then again decreased to 22.8% in the year 2007.

The main reason that the profit margin declined can be said as the costs are not well managed. High cost, in turn, generally occurs due to inefficient operations. Profit margin also declines due to excess use of long term debt. This invariably resulted in more interest cost, which brought the Net income down.

RETURN ON ASSETS (ROA):

Return on total asset measures the amount of Net Income earned by utilizing each dollar of Total Assets. The equation is:

Return on Total Assets (ROA) = Net income available to total common shareholders ×100

Total assets

Following table shows ROA of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007 2006 2005

RETURN ON ASSETS

(5310/31003)×100

=17.12%

(5498/25553)×100

=21.51%

(4816/27198)×100

=17.70%

COMMENTS:

The table shows that the ROA rose up to 21.51% in the year 2006 and again it fall to 17.12% in the year of 2007. This can be concluded as the company could not maintain the trend of increasing return from assets. The underlying reason might be the company might be used more debt financing in 2005 and 2007 compared to 2006 which resulted in more interest cost and brought the Net income down.

RETURN ON EQUITY:

Return on Equity measures the amount of Net Income earned by utilizing each dollar of Total common equity. It is the most important of the “Bottom line” ratio. By this, we can find out how much the shareholders are going to get for their shares. The equation is:

Return on Equity (ROE) = Net income available to common shareholders ×100

Total common equity

Following table shows ROE of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007 2006 2005

RETURN ON EQUITY

(5310/9603)×100

=55.2%

(5498/9386) x100

=58.57%

(4816/7311)x100

=65.87%

COMMENTS:

It is notified that the ROE has gradually declined throughout the years. The underlying reason might be the company is not able to provide adequate return on equity to the shareholders.

GROSS PROFIT MARGIN ON SALES:

Gross Profit Margin gives us the amount of Gross profit a firm is earning per dollar of its sales. The equation is as follows:

Gross Profit Margin on Sales= Sales- Cost of Goods sold

Sales

Following table shows Gross Profit Margin on Sales of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007 2006 2005

GROSS PROFIT MARGIN ON SALES

( 23225-5206)/23225

=0.78

(21660-5010)/21660

=0.77

(19986-4764)/19986

=0.76

E) MARKET VALUE RATIOS

The final group of ratios, the market value ratios relates the firm’s stock price to its earnings and book value per share. These ratios give management an indication of what investors think of the company’s past performance and future prospects. In this section, we are going to have a discussion mainly on three types of ratios:

a)Earnings per Share

b)Price Earnings Ratio

EARNINGS PER SHARE:

The earnings per share is calculated as follows:

Earnings per Share= Net Income

No. of shares outstanding

The Earnings per share of GlaxoSmithKline Pharmaceuticals Ltd. in different years are showed in the following table:

YEARS 2007 2006 2005

Earnings Per Share

5310/5524

=0.96

5498/5643

=0.97

4816/5674

=0.85

COMMENTS:

The analysis signifies that the earnings per share has faced a significant increase in 2005-2006 and maintained almost the same during 2007. It indicates a satisfactory trend in the EPS of the company throughout the years.

PRICE EARNINGS RATIO:

The price earnings ratio shows how many investors are willing to pay per dollar of reported profits. To compute the price earnings ratio, we need to know the firm’s earnings per share (EPS). It is calculated as follows:

Price Earnings Ratio= Price of share

Earnings per share

Following table shows the Price Earnings Ratios of GlaxoSmithKline Pharmaceuticals in different years:

YEARS 2007 2006 2005

Price Earnings Ratios

12.79/0.94

=13.60

13.44/0.95

=14.15

14.69/0.83

=17.78

COMMENTS:

The P/E ratio was 17.78 times in 2005 and decreased further 14.15 times in the following year. However, in 2007 it declined to 13.60 times which is an alarming signal for the potential investors

OVERALL FINANCIAL ANALYSIS

PARTICULARS 2007 2006 2005

Current Ratio 1.32x 1.51x 1.39x

Quick Ratio 1.02x 1.18x 1.16x

DSO 86.35days 88.25days 97.68days

Inventory Turnover

1.7x 2.06x 2.19x

TAT 0.749x 0.8x 0.73x

Net Profit Margin on Sales

22.8% 25.4% 24.1%

ROA 17.12% 21.51% 17.70%

ROE 55.2% 58.57% 65.87%

Debt Ratio 68.03% 62.24% 72.167%

Gross Profit Margin on Sales

0.78 0.77 0.76

TIE 17.25 24.83 15.76

FAT 1.34x 1.48x 1.43x

EPS 0.96 0.97 0.84

P/E Ratio 13.60 14.15 17.78

COMMENTS ON OVERALL FINANCIAL ANALYSIS

a)Liquidity Ratio Analysis:

The liquidity of the position depends on the current & quick ratio. Considering the analysis we

can conclude that the firm’s paying ability of short term obligation is not at a satisfactory level.

b)Asset Management Ratio Analysis:

Considering the analysis we can say that, the company is not succeeded to show its efficiency in

utilizing the inventory and investment to generate sufficient profit from the sources. Besides the

company has been quicker in collecting its receivables and sales could not keep pace with the

increase of company’s fixed assets and inefficiency is observed in utilizing their total assets.

c)Debt Management Ratio Analysis:

From the analysis it can be noted that the firm’s assets have been financed with debt and the

company has taken up adequate policies to pay its interest costs.

d)Profitability Ratio Analysis:

From the analysis we can state that after paying off the debt with interest the company is not

able to make a generous profit. Here the company is not getting a handsome return from the

assets and shareholder’s equity.

e) Market Ratio Analysis:

According to the analysis it can be said that, the earnings per share has been stable

throughout the years but the decrease in price per dollar of the share poses an alarming signal to

the investors.

ratio analysis of glaxo smithkline pharmaceuticals

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