FINANCIAL RATIOS OF BRITISH AMERICAN TOBACCO

BANGLADESH IN 2017

Prepared for
Minhaz Anwar
Course Instructor
Business Strategy

Prepared by
Md Sarwar Iqbal, 27
MBA 57D

Institute of Business Administration

University of Dhaka

2 August 2018
Internal analysis enables managers to determine the potential for the strategies they devise
and along with external analysis of the macro-environment and the industry as a whole, it
provides a clearer understanding of how is it that resources can be reallocated to take
advantage of opportunities, while taking precautions against competitive threats.

The first question managers must ask when conducting an internal analysis is in fact: “How
well is the company’s present strategy working?” The question needs to be answered before
a change in strategy is developed and periodically even after the new strategy has been
adopted due to fact that businesses believe in results and numbers. A strategy could be the
best strategy on paper but unless it provides success and is reflected on the finances of the
company, the strategy will not have done its job. Therefore, managers need indicators as to
how well a company’s strategy is actually working which give a quantitative view on whether
the company is achieving or is on its way to achieving its desired financial objectives while at
the same time being an over-par performer in the industry.

The stronger a company’s overall performance, the more well-conceived and well-executed
the strategy is and it is reflected on the finances of the company. Although there are a lot of
qualitative factors and intangibles that do have an effect on how well a company is
performing, quantitative assessments do however provide a better insight into the company’s
financial performance and balance sheet strength. Effective planning and financial
management go hand-in-hand in running a successful business and quantitative assessment
tools such as ratio analysis is critical to identify trends in the industry and within the
organization as a whole and to measure the overall financial performance of the company.

British American Tobacco Bangladesh and the Importance of Financial Ratios:

British American Tobacco Bangladesh (BATB) is one of the oldest and most renowned multi-
national companies in the country. Their astute business prowess along with their rigorous
management development programs and handsome salary packages have always led them to
attract forward-thinking and hardworking employees and managers, despite operating in the
dark sector of the tobacco industry.

Regardless of being the market leader in tobacco products in the country for a large number
of years, BATB over the years has been facing competition from various local and international
competitors. Along with that, the ever-increasing tax rates to an already insurmountable tax
cut, stringent regulations that limit their marketing strategies and the overall increase in
awareness of the people against tobacco and its harmful effects, has made it increasingly
difficult for the company to boast large profits like it used to. All these factors would have had
an adverse effect on the company’s financials, unless the managers realigned their strategy to
meet the company’s strategic and financial goals.
Financial objectives are continually being monitored so as to be on-track on achieving it
through quantitative tools such as ratio analysis. Ratios are critical quantitative analysis tools,
whose most important functions lies in their capacity to act as lagging indicators in identifying
positive and negative financial trends. The information a trend analysis provides allows the
company to make and implement ongoing financial plans and, when necessary, make course
corrections to short-term financial plans. Ratio analysis also provides ways to compare the
financial state of their business against their competitors’ or between businesses in other
industries.

Ratio analysis is used to check upon the efficiency of the company as they help management
arrive at important decisions. The ratios are used to make sense of all the information
provided in the financial statements of the company, which is not as important in itself unless
sense can be made of it. To make its real importance clear, it is to be expressed in referring to
other figures. With the help of ratios, the vast information can be made short and simple and
enables the business activities to be analyzed systematically. Ratios help in assessing
operating efficiency of the company, in future forecasting and decision making, and in taking
corrective actions if a certain strategy is not performing the way it was believed to.

The Key Financial Ratios for British American Tobacco Bangladesh Company Limited for the
year 2017 have been presented below in tabular form, along with the change in each ratio
from the previous year (2016) and the 5 year trend for each ratio. The financial information
used to calculate the ratios has also been tabulated below.
Key Financial Ratios and What They Indicate for BATB:

Profitability Ratios
Profitability ratios indicate how efficient a company is at converting business operations into
profits. Profit is a key driver of stock price, and it is undoubtedly one of the most closely
followed metrics in business, finance and investing as the main goal for a company is to
improve shareholder’s wealth. There are a number of profitability ratios, each indicating a
different aspect of the profit-making characteristic of the company, as shown below:
 Gross Profit Margin: The gross profit margin shows the percentage of revenues
available to cover operating expenses after cost of goods sold (COGS) has been
accounted for. There was a 5% increase in the ratio for BATB from 0.454 to 0.477
between 2016 and 2017, with an overall increasing trend over the last five years except
for a small dip in 2016 due to a higher proportionate increase in COGS than in revenue.
 Operating Profit Margin: Shows the profit earned on each taka of sales, before paying
interest and taxes. An 8% increase in the metric was observed by the company in the
last year with an overall increasing trend over the years, except for in 2016.
 Net Profit Margin: A 13% decrease in the ratio indicates a lower after-tax profit per
taka of sales, owing mostly to the significant increase in interest expense made during
the year. The trend seems to be cyclical, as the ratio see-saws around the 0.15 mark
each year.
 Return on Total Assets: Indicative of how effectively the company is utilizing its assets
to generate earnings, a 20% decrease in the ratio last year, with an overall decreasing
trend is an issue of concern for BATB that must be looked into.
 Return on Stockholders’ Equity: Illustrates how effective the company is at converting
the money invested into gains for the investors. A 16% decrease in the ratio last year
along with an overall decreasing trend is mostly due to the increasing tax rates and
interest expenses the company has to bear. This is not an issue to be as much however,
since the ratio of 0.339 is well above the average.
 Return on Invested Capital: A decrease in the ratio of 16% from 0.35 to 0.29 the last
year and an overall decreasing trend is mostly due to the lower proportionate growth
in earnings after tax, which is mostly because of an increasing tax rate each year.
 Earnings per share (EPS): A 3% increase in EPS from 126.37 BDT to 130.5 BDT the last
year, along with an upward trend over the past 5 years indicates a larger proportion of
the company’s profit being allocated to each outstanding share of common stock.

Liquidity Ratios
Liquidity ratios indicate how capable a business is of meeting its short-term obligations.
Liquidity is important to a company because when times are tough, a company without
enough liquidity to pay its short-term debts could be forced to make unfavorable decisions in
order to raise money. The liquidity ratios and their trends for BATB are mentioned below:
  Current Ratio: The decrease of 11% in the ratio of current assets to current liabilities is
an anomaly for BATB as the trend has been upwards over the last five years. The
current ratio of 1.30 in 2017 is still admirable as it indicates that the company has more
current assets than current liabilities and is able to pay off its current liabilities without
breaking a sweat.
 Working Capital: An overall increasing trend (except for the year 2017 which saw a 6%
decrease) in the cash available for the company’s day-to-day operations indicates it
has adequate internal funds to pay off their current liabilities on a timely basis and can
focus on expansion without resorting to borrowing or raising more equity.

Leverage Ratios
Too much debt can be dangerous for a company and its investors. However, if a company's
operations can generate a higher rate of return than the interest rate on its loans, then the
debt fuels growth in profits. Nonetheless, uncontrolled debt levels can lead to credit
downgrades or worse. On the other hand, too little debt can also raise questions as a
reluctance or inability to borrow may be a sign that operating margins are simply too tight.
Therefore, leverage ratios differ among industries and companies within an industry based on
their shareholders’ affinity to debt. The trends of ratios for BATB and what they indicate are
given below:
 Debt-to-Assets Ratio: A 12% increase in the ratio from 0.131 to 0.146 last year indicates
a rise in the extent to which borrowed funds are being used to finance the company’s
operations. An overall increasing trend over the years further strengthens this
statement but should not be a concern as the ratio is low enough to not increase the
risk of bankruptcy.
 Long-Term Debt-to-Capital Ratio: Indicative of the percentage of capital that has been
financed by creditors, this ratio has risen by 6% from 0.13 to 0.138 in 2017. However,
this is not a problem since it is well below the preferred ratio of 0.25 and stockholders
still account for more than 86% of the company’s total capital.
 Debt-to-Equity Ratio: Used to gauge the extent to which the company is taking on debt
as a means of leveraging, it is advised to keep this ratio below 1.0. BATB had a ratio of
0.29 last year, which is well below and the ratio has been almost constant at that range
over the past five years as well.
 Long-Term Debt-to-Equity Ratio: A low ratio of 0.16 despite seeing a 7% increase the
last year is still appreciable for BATB since it indicates a greater capacity to borrow
additional funds whenever required.
 Coverage Ratio: 2017 was an anomaly for BATB from the aspect of the coverage ratio
as it saw a 66% decrease despite having an overall increasing trend in this ratio over
the last five years. The ratio of 92.8 however was still way above the minimum ratio of
2.0 lenders usually insist on and the overall increasing trend indicates a favorable
financial position to service debts and meet financial obligations over the years.
Activity Ratios
Activity ratios are financial analysis tools used to measure a business' ability to convert its
assets into cash. For BATB, the activity ratios and their implications over the years are
provided below:
 Days of Inventory: A 10% increase in the days of inventory to 234.6 days in 2017
indicates a decrease in the efficiency in inventory management for the company. The
inventory is kept in storage for a longer period before being sold off than it used and
the number of days have been increasing overall throughout the last 5 years. This is an
issue the company needs to look into as it points to an increasing inefficiency from its
supply chain and inventory management division.
 Inventory Turnover: Indicating how many times the company has sold and replaced
inventory during a financial year, the decrease in this metric by 9% is a matter of
concern for BATB. The decrease indicates that the inventory was sold and replaced
1.56 times in 2017, compared to 1.71 times in 2016 and the overall trend has been
decreasing over the past five years, which is not favorable.
 Average Collection Period: A ratio which shows the average number of days the
company must wait in order to collect a cash payment from a sale, a rise in the days
from 8.86 to 16.26 days in 2017 is not flattering for BATB. This along with an increasing
trend over the past years indicates that it now takes longer for the company to collect
the payment from the sales they make, which is an issue they should look into,
although it is not a matter if grave importance.

Other Important Measures of Financial Performance

The first three ratios mentioned here provide on idea of whether a company’s share price is
reasonable or not, while the latter two ratios provide an idea of the cash in hand for the
company at a given period of time.
 Dividend Yield on Common Stock: Indicative of how much the company pays out in
dividends each year relative to its share price, BATB had a very low dividend yield of
0.018 in 2017, which was even lower than the ratio the previous year. The low yield is
a result of the high stock price of the company and it has been decreasing over the
past years, which should be looked into as investors get paid a lot less than they ought
to be as evident from the high earnings per share.
 Price-Earnings Ratio: An overall increasing trend in the ratio along with a 33% increase
to 26.1 in 2017 is indicative of strong investor confidence in the company’s future
prospects and earnings growth.
 Dividend Payout Ratio: A ratio of 0.459 indicates a higher percentage of the after-tax
profits was paid out as dividends in 2017 compared to 43.5% in 2016. The overall trend
has been quite steady the past three years while there has been a decrease in the ratio
since 2013.
 Internal Cash Flow: Upward trend in the internal cash flow over the past five years with
a 5% increase the last year, shows roughly that the company is generating more cash
 than before after payments of operating expenses, interest and taxes. This is favorable
for BATB as the excess cash can be used to pay dividends and for funding capital
expenditures to increase their operations.
 Free Cash Flow: Indicative of the firm’s valuation, an increasing trend along with a
142% increase the past year shows that the company now has a greater ability to
internally fund strategic initiatives, repay debt, make new acquisitions or increase
dividend payments. This is in favor for BATB as it puts them in a position of strength to
expand their production and invest in other securities.

Limitations and Conclusion

Ratio analysis can be used to compare information taken from the financial statements to gain
a general understanding of the results, financial position, and cash flows of a business.
However, there are a number of limitations of ratio analysis to be aware of. All of the
information used in ratio analysis is derived from actual historical results. This does not mean
that the same results will carry forward into the future.

Moreover, one needs to place ratio analysis in the context of the general business
environment. For example, 60 days of sales outstanding for receivables might be considered
poor in a period of rapidly growing sales, but might be excellent during an economic
contraction when customers are in severe financial condition and unable to pay their bills.
Also, it can be quite difficult to ascertain the reason for the results of a ratio. For example,
a current ratio of 2:1 might appear to be excellent, until you realize that the company just sold
a large amount of its stock to bolster its cash position.

In short, ratio analysis has a variety of limitations that can restrict its usefulness. However, as
long as we are aware of these problems and use alternative and supplemental methods to
collect and interpret information, ratio analysis is still useful.