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PRECISION LOCKS

Income Statement for the year ended 30 June 2002

2001 2002

$m $m

Sales revenue 100 120

Cost of sales (70) (80)

Gross profit 30 40

Operating expenses

Operating Profit (20) (25)

10 15

Interest expenses (1) (1)

Profit on ordinary activities before taxation 9 14

Income tax expenses (3) (6)

Profit for the financial year 6 8

Dividends (10c per share) (3) (3)

Retained profit for the financial year 3 5

Market price 200c 250c

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Non current liabilities

10% debenture loan 20x8 10 10

Current liabilities

Accounts payable 14 16

Tax 3 6

17 22

67 77

Required:

A report for the directors of precision locks on the progress, profitability and financial position for the

year ended 30 June 2002

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To: The Directors, Precision Locks

From: Financial Analyst

Subject: Analysis of Precision Locks plcs performance to 30 June 2002

Date: 14 October 2002

The following report is submitted in accordance with the request to assess the financial progress,

performance and financial position of precision Locks for the year ended 30 June 2002.

The report considers key area of profitability, liquidity and solvency. It is based on selected

ratios calculated in the attached Appendix.

Profitability

Sales increase by 20% from $100m to $120m and there is no indication that this was due to

cutting prices, as the gross profit margin has not fallen. The increase in sales volume appears to

be due to improvement in quality and more attractive credit terms being offered. The latter can

be substantiated as the number of days credit given to customers has extended by six days.

The primary measure of profitability, return on capital employed (ROCE), increased from 20%

to a very healthy 27.3% indicating more efficient use of assets by management. This was mainly

due to more profitable sales as indicated by increase in gross profit margin from 30% to 33%,

and improvement in cost control due to economics of scale as indicated by improvement in net

profit margin from 6% to 6.7%.

Liquidity and working capital management

The company invested $5m in non-current assets during the year, which was internally financed

resulting in the sight deterioration in both current and acid test ratios. Both ratios gave adequate

cover for short-term creditors. The cash operating cycle increased by ten days due to increase in

the days credit given by customers (six days) and increase in stock holding may be in

anticipation of increased sales or poor stock control.

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Solvency and gearing

Gearing was maintained at its low level and dropped slightly from 25% to 22% due to a higher

profit retention policy. Interest cover increased by five times from ten to fifteen times due to

higher profitability and no increase in interest payments. Future capital expenditure can be debt

financed to ease companys short term liquidity which can come under pressure in the following

period.

Shareholder ratio

Earnings per share increased by 35% from 20 cents to 27 cents. However, this was not matched

by the dividend payout which remained at 10 cents per share, and price-earnings ratio declined

from ten times to 9 times indicating that shareholders were disappointed as the share price did

not go up in line with improvement in performance.

Conclusion

The year ended 30 June 2002 was very satisfactory with a steady increase in the market share

and overall improvement in management efficiency, and the company should look forward to

2003 with great confidence. However, attention should be paid to the following:

1. Short-term liquidity requires further attention. Any future expansion should be debtfinanced.

2. Dividend payout should be increased in line with performance to boost share price whichwill facilitate any share issue.

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APPENDIX TO REPORT

2001 2002

Sales 100% 120%

Return on capital employed PBIT/ Non CA+ CA - CL 20% 27.3%

Gross profit margin GP/ Sales 30% 33.3%

Net profit margin PB4T/Sales 6% 6.7%

Current ratio CA/CL 2.5:1 2.4:1

Acid-test ratio CAinventory/ CL 1:1 0.96:1

Inventory turnover in days (inventory/ COS) x 365 156 160

Accounts receivable turnover in days (a/c receivable/ sales) x 365 55 61

Accounts payable turnover in days (a/c payable /COS) x 365 73 73

Gearing ratio Debt / equity 25% 22%

Interest cover op profit / interest expense 10 15

Earnings per share PAT / No of equity shares 20c 27c

Price earnings ratio market price / EPS 10 9

Dividend cover PAT / Dividends 2 2.7