# FInancial analysis of Air-Engines plc

Published:

This essay has been submitted by a student. This is not an example of the work written by our professional essay writers.

Introduction to Accountancy

## 1. Introduction

Air-Engines plc is a British aeronautical engineering firm. For the current year of 2013, the company has 14,863 employees globally. There are two companies that are direct competitors for Air-Engines plc: Britech Engines (BE) and Capital Services (CS). The report will mainly analyze the financial situation of Air-Engines plc and its two competitors. The major analysis instruments will be the ratio analysis, including the liquidity ratios, profitability ratios as well as other important ratios for understanding the financial situations of Air-Engines plc. The ratios of previous two years are available and the financial data for the year of 2013 of the three companies are also available. Thus the report will be structured as follow: in the second session, the report will briefly introduce the calculation of different ratios as well as the indication that different ratios will bring to us. Then the report will calculate the financial ratios for the three companies for the year of 2013. In the third session, the report will analyze the performance of Air-Engines plc based on the ratios obtained form the previous session. In the fourth session, the report will compare the performance of Air-Engines plc to its two competitors.

## 2. Ratio Calculation Findings and Discussion

This Report will mainly use the Financial Data to analyze the Liquidity Ratio, profitability ratios as well as other turnovers. The report will now introduce the calculation of different ratios shown in the table.

The first ratio is Return on Equity (ROE), which is calculated by dividing the operating profit to the total equity. The second ratio is the Operating margin, which is calculated by dividing the operating profits to the total revenue. The third ratio is the Gross margin, which is calculated by dividing the gross profits to the total revenue. The fourth ratio is the current ratio. The Current Ratio is a popular financial ratio used to test a company's liquidity by deriving the propositions’ of current assets available to cover current liabilities. The concept behind this ratio is to ascertain whether a company's short-term assets are readily available to pay off its short-term liabilities. In theory, the higher the current ratio, the better.

Formula:

The fifth ratio is the acid-test ratio, which is a liquidity indicator that further refines the current ratio by measuring the amount of the most liquid current assets there are to cover current liabilities. The quick ratio is more conservative than the current ratio because it excludes inventory and other current assets, which are more difficult to turn into cash. Therefore, a higher ratio means a more liquid current position.

Formula:

The receivables settlement period is similar to the sales outstanding days, which is calculated by dividing the Receivables to the Total Revenue and then times 365. The Fixed assets turnover is calculated by dividing the total revenue to the total fixed assets. The last ratio is the sales revenue per employee, which is quite straight forward. The ratios for the three companies in the year of 2013 are listed in the table below.

 Air-Engines Britech Engines Capital Services 2013 2013 2013 Return on Equity 38.41% 22.95% 38.87% Operating margin 15.76% 10.94% 17.21% Gross margin 40.63% 40.63% 62.00% Current Ratio 1.39 1.97 0.50 Acid Test Ratio 0.78 1.06 0.50 Receivables Settlement period 25.66 28.52 7.60 Fixed Asset turnover 3.49 3.64 2.09 Sales Revenue per employee 25.84 31.99 23.22

Table1. The Ratios for the three companies in the year of 2013.

## 3. Findings and Discussion of Air-Engines

In order to better analyze the performance of Air-Engines, the ratios are compared with the results of the previous years, which can be seen from the table below.

 Air-Engines 2011 2012 2013 Return on Equity 30.73% 33.80% 38.41% Operating margin 12.50% 13.75% 15.76% Gross margin 31.00% 36.13% 40.63% Current Ratio 1.5: 1 1.46: 1 1.39:1 Acid Test Ratio 1.2: 1 1:1 0.78:1 Receivables Settlement period 40 days 42 days 26 days Fixed Asset turnover 3.5 times 3.2 times 3.5 times Sales Revenue per employee £27,500 £26,800 £25,836

Table2. Financial Ratios for Air-Engines from 2011 to 2013.

The return on equity is increasing from 2011 to 2013, which means that the company has higher returns. It is a good news for the company’s shareholders because the higher the ROE, the better performance the company will have. The operating margin and the gross margin are also increasing from 2011 to 2013, which indicates that the company has a higher profitability in the year of 2013. It may because that the company has reduce the costs so that the cost of goods sold will be lower year by year, which will result in higher operating margin as well as gross margin. As in year 2011, the Current Ratio of Air-Engines PLC is 1.5:1, which means that the company has a good ability to cover its liabilities. The ratio of 2012 and 2013 is lower than that of 2011 mainly because the macroeconomic environment of the crisis. However, as we can see in year 2013, the Current Ratio is still 1.39:1, indicating that the company still has good ability to cover its short term liabilities. Now comes to the Acid Test Ratio. It is clear that the Acid Ratio of Air-Engines PLC is around 1 in 2011 and 2012, which implies for every 1 dollar of debt, the company has 1 dollar easy-to-liquidate asset to compensate. In year 2013, the Acid Test Ratio goes below 1, which is a signal that the company may suffer from liquidity risks. Thus, it is an indicator that the mangers of the company need to take measures so that the ratio comes back to the normal range in the next year. The receivable settlement period decreases dramatically, which indicates that the company has a better cash collection performance. The sales on credit can be paid in a shorter period, which also reduce the probability of bad debt in the future. The fixed asset does not change much during the three-year period mainly because the company does not invest too much in the fixed assets. The sales per employee decreases in 2013 mainly because the increasing number of employees for the company as a whole.

## 4. Comparison to its competitors

The performance and the ratios for all the three companies can be found in the table below. In addition, the financial data of the three companies in the year of 2013 are also listed in the Table3 below. The financial data may provide information about the basic information about the companies, such as the phases of life circle, the size of the company, etc.

 Income Statement £’000 £’000 £’000 Air-Engines Britech Engines Capital Services Turnover 384,000 320,000 480,000 Cost of sales 228,000 190,000 182,400 Gross profit 156,000 130,000 297,600 Wages and salaries 55,000 50,000 165,000 Sundry expenses 40,500 45,000 50,000 Operating profit 60,500 35,000 82,600 Tax 12,100 7,000 16,520 Profit after Tax 48,400 28,000 66,080 Non-Current Assets Buildings and equipment 95,000 70,000 190,000 Vehicles 15,000 18,000 40,000 110,000 88,000 230,000 Current Assets Inventories 25,000 32,000 0 Receivables 27,000 25,000 10,000 Cash at bank 5,000 12,000 50,000 57,000 69,000 60,000 Total Assets 167,000 157000 290000 Current Liabilities Payables 40,000 30,000 80,000 Accruals 1,000 5,000 40,000 Total Liabilities 41,000 35,000 120,000 Equity Share capital 77,600 94,000 103,920 Retained profit 48,400 28,000 66,080 Total Equity 126,000 122,000 170,000 Total Equity & Liabilities 167,000 157,000 290,000 Employee 14863 10002 20670

Table3. Financial information of the three companies in 2013

From the table above, it can be seen that the Capital Service is the largest in size. It has the most employees as well as the most fixed assets. However, it can also be seen that Capital Service does not have inventory, which is quite uncommon. In addition, the most important information is that the Capital Service has the lowest costs, compared with other two companies, which indicates that the company will have the highest gross margin.

 Air-Engines Britech Engines Capital Services 2011 2012 2013 2011 2012 2013 2011 2012 2013 Return on Equity 30.73% 33.80% 38.41% 24.21% 35.00% 22.95% 35.08% 36.93% 38.87% Operating margin 12.50% 13.75% 15.76% 12.12% 18.65% 10.94% 15.53% 16.35% 17.21% Gross margin 31.00% 36.13% 40.63% 39.00% 45.64% 40.63% 55.96% 58.90% 62% Current Ratio 1.5: 1 1.46: 1 1.39:1 1.9: 1 2.1: 1 1.97:1 0.7: 1 0.95: 1 0.5:1 Acid Test Ratio 1.2: 1 1:1 0.78:1 1.2: 1 1.5: 1 1.06:1 0.6: 1 0.8: 1 0.5:1 Receivables Settlement period 40 days 42 days 26 days 30 days 31 days 29 days 25 days 28 days 8 days Fixed Asset turnover 3.5 times 3.2 times 3.5 times 3.5 times 4.12 times 3.63 times 1.87 times 1.95 times 2.08 times Sales Revenue per employee £27,500 £26,800 £25,836 £30,250 £40,075 £31,994 £19,000 £22,140 £22,222

Table4. Ratios for the three companies from 2011 to 2013

From this table, it can be seen that the Capital Service has the lowest current ratio as well as the acid test ratio, which indicates that the company has the highest probability of suffering from the liquidity shock. In common situation, it is said that the Current Ratio of a company will be better around 2. However, while easy to understand, it can be misleading in both a positive and negative sense. A high current ratio is not necessarily good, and a low current ratio is not necessarily bad. From the table above, the liquidity ratios of Capital Service are too low that may trigger liquidity shock. However, the liquidity ratios for Britech Engines are much higher, which is a little bit conservative. The liquidity ratios of Air-Engines are just with in the acceptable range. Profitability ratio offers a useful means of highlighting the strengths and weaknesses of a business. As a result they provide useful signposts for further analysis. Although the calculation of profitability ratio is fairly straightforward, skill and judgment are required in interpreting the results. The ROE of Air-Engines is increasing and quite similar to the ROE of Capital Service. While the operating margin is a little bit lower than that of the Capital Service.

## Conclusion

The financial performance of Air-Engines is increasing in the year of 2013 compared with its performance in the previous year. If compared with its major competitors, it can be seen that Air-Engines still can make com improvement. Reducing the costs of the products may help Air-Engines to increase the operating as well as the gross margin in the future. In addition, the liquidity radio indicates that there is not enough short term liquidity for the Air-Engines, thus it needs to take measures to keep the acid test ratio within the normal range. Collectively, Air-Engines is outperformed in several aspects than its competitors and it could have better performance if appropriate measures are taken.