Performance Evaluation and Investment Sensitivity Analysis

Cold Ice PLC Financial Performance Evaluation

(a) Cold Ice PLC (CIP) manufactures cold beverages and frozen products, and distributes them all over the country. An investor has calculated the following

 Ratios based on the financial statements of the company for the year ended 31 March 2021. Gross profit margin 36% Net profit margin 17%Debt ratio (1- equity ratio) 21% Quick ratio 0.89 Inventory days 63.85 Dividend cover 1.14 The market price per share as at 31 March 2021 and the dividend per share of CIP for 2020/21 were Rs. 660 and Rs. 19.25 respectively. The number of shares issued as at 31 March 2021 was 98 million. The following has been extracted from CIP’s financial statements for the year ended 31 March 2021. Rs. ‘000 Finance cost 305,675
Total current liabilities 2,163,000
Total assets 17,587,000

The effective tax rate on the profit before tax was 19.75%, and the average finance cost on the closing total interest bearing debts was 13.75%. The investor has found the following average ratios in relation to the industry in which CIP is operating. Return on equity 10%
Operating profit margin 20%
Debt-to-equity ratio 0.10
Current ratio 2.00
P/E ratio 18.00

Evaluate the performance of CIP during the year ended 31 March 2021. (15 marks)

(b) Synergy PLC is a diversified conglomerate providing a wide range of goods and services to its customers. It is now planning to increase its production capacity to meet the increasing demand for one of its products called Tang. A new machine is required to carry out the increase in production of Tang, and it could be purchased for Rs. 50,000,000, payable immediately. The new machine is expected to have a 5-year useful life and zero scrap value.

The selling price of Tang is Rs. 160 per unit and this price is expected to increase by 5% per annum from Year 2 onwards.
The variable cost of Tang is Rs. 125 per unit and this is expected to increase by 3% per annum from Year 2 onwards.
The incremental fixed cost for Year 1 would be Rs. 6 million and this would increase by 2% per annum.

The sales volume for the next five years is as follows.

Year 1 Year 2 Year 3 Year 4 Year 5
Volume (units) 500,000 520,000 550,000 560,000 575,000
Synergy PLC’s nominal cost of capital is 12.5%.

Assess the sensitivity of the above investment to changes in the product’s selling price and variable cost, and comment on the sensitivity of the investment to the changes in variables. (10 marks)
(Total: 25 marks)

b) ABC (Pvt) Ltd (ABC) is a small-scale local company that specialises in herbalproducts and Ayurveda medicine. Its products are exported mainly to Europe. ABC engages an exporter, PQR (Pvt) Ltd (PQR), to manage foreign sales via their distribution channels including invoicing and collections for an agreed commission of 5% of sales proceeds. ABC invoices PQR in LKR and receives proceeds in LKR in 30 days. ABC invoices products to PQR at a 25% mark-up. PQR has now increased its commission percentage to 9% as a result of the COVID- 19 pandemic and the resulting increase in the credit period needed by its global agents, credit risk and forward exchange rate exposure. Therefore, ABC is now exploring the possibility of getting into direct export sales and given below is a new order received from a wholesale company called Medicive in Europe. Medicive is based in France. It is a large wholesaler who is willing to place an order for LKR 320 million, to be delivered and invoiced immediately. However, the payment will only be made in 6 months. The invoicing and payments will be done in Euros, calculated based on the LKR/EUR exchange rate at the point of invoicing. ABC’s CFO, Pasan Perera, is concerned about whether the LKR will appreciate against the EUR ove the next 6 months due to the current forex market restrictions imposed by the authorities, as this could wipe out the expected profit. Accordingly, he decided to contact ABC’s banker and enquire about exchange rates in an attempt to hedge the forex exposure.