General Motors Co. was founded in September 1908 in Michigan. The company has grown to become one of the leading automobile manufacturers. It activities range from designing, manufacturing and sale of trucks, cars, and automobile spare parts. Currently, General Motors is a multinational company that operates in different continents (General Motors, 2015). Thus, its profitability is affected by the changes in global economy. For effective management, the company is divided into several segments. This research paper carries out the financial analysis of the company in the year 2012, 2013 and 2014. This analysis is done by considering different financial ratios which are calculated as per the audited company’s financial statements. Based on the dynamic nature of the industry the performance of the company has been varying from one year to the other. Thus, the ratios help to determine the level of performance of the management in each financial year. The trend formed by the ratios is used to suggest the best strategy that the firm’s management should adopt to improve performance. The ratios used in the analysis are the liquidity ratios, leverage ratios, profitability ratios, and the efficiency ratios.
Liquidity Analysis
This section assesses the manner in which the management of general motors was able to finance the working capital from the year 2012 to 2014. Thus, liquidity ratios, quick and current ratios are calculated to measure the liquidity strength of the company and establish the trend set by the year 2012 (Epstein and John, 22).
Current Ratio
This ratio is calculated to gauge the company’s ability to meet the current obligation as they fall due. These obligations should be met from proceeds of current assets (Epstein and John, 22).
Current ratio= current asset/ current liabilities
The current ratio is above one in all the years analyzed. This is an indication that the company has been able to meet its current liabilities from current assets. Also, the ratio is maintained at around 1.3 in all the years. This shows that the company’s policy regarding current assets and liabilities has not changed over the last three years.
Quick Ratio
This is the ratio that establishes the business ability to meet current obligations from current assets without necessarily disposing of its inventory. This ratio is important for companies whose rate of stock turnover is low. In this case, the company may experience difficulties to raise adequate revenue to meet current obligation through the sale of inventory (Epstein and John, 25).
Quick ratio= (current assets –stock)/ current liabilities
The quick ratio for the three years is maintained at around one. This is an indication that the company does not need to dispose of its inventory to meet its current obligations. Also, this ratio is not excessively above one. Thus, the company is not holding excessive cash that should be invested to earn additional income.
The two ratios analyzed indicate that the company will not need to make short term arrangement with financial institutions to meet the current obligations. The management should, therefore, maintain the current liquidity policy so as to avoid interests changed in respect to bank overdrafts.
Analysis of Debt Management or Financial Leverage
This section seeks to establish how the management uses debt and equity in General Motors capital structure. Besides, it establishes the firm’s ability to service the obligation arising from the acquired debt. This ability is determining by calculating the interest coverage ratio for the three years considered (Epstein and John, 42).
Debt to Equity Ratio
This ratio is used to determine whether the company has more debt than equity in its capital composition. A company that has its debt higher than its equity is said to have adopted aggressive financing policy (Epstein and John, 43).
In all the years considered the total shareholders’ equity is more than the total debt. This indicates that the company has financed a majority of its projects and new investment using shareholders’ funds. In this case, the management can finance the future project using debt because the company is at a comfortable solvency state.
The low debt to equity ratio gives creditors an indication that once they offer a loan to the company the risk of default is low. In this case, the management can easily bargain for better credit terms. The company will also be able to obtain unsecured loans because it has a high credit rating.
Interest Coverage Ratio
This ratio is calculated by dividing income before interest and tax (EBIT) by interest.
EBIT= net income before tax+ interest expenses
Interest coverage ratio= 7792 / 334 = 23.32
Interest coverage ratio= 4649/403 = 11.53
Interest coverage ratio= 7382/434 = 17.002
The interest coverage ratio was at the highest point of 23.23 in 2012 this ratio dropped to 11.53 in 2013 and increased to 17.002 in 2014. The 2013 decline is attributable to the decline in the income before tax. Otherwise, the ratio in all the years considered shows that the company can adequately cover the interest expense. The high-interest coverage ratio also indicates that the company can still acquire another credit facility and pay for it without any problem. The company can, therefore, consider acquiring more debt to finance its future project. This will be possible because it has a nice credit rating and it can provide the required security.
Profitability Ratios
These are ratios that measure the ability of a firm to generate returns in comparison to expenses and resources invested. For this metric having the same or higher than the value that previous year is an indication that the firm is doing well. This is because it reflects that the company maintained or increased its level of profitability.
Gross Profit Margin
This metric is used to determine the proportion of gross profit in the company sales. It gives the amount of gross profit raised upon the sale of inventory worth one dollar. A gross profit margin of 10% means that for every dollar of sales the company earns a gross profit of $0.1.
Gross profit margin= gross profit/revenue
Net Profit Margin
This is a metric that determines the amount of net returns realizable out of every dollar of sales. The increase in the net profit margin of a firm indicates that the management has adopted effect policies of managing overheads and cost cutting measures (Epstein and John, 62).
Net profit margin= net profit/revenue
The company made a net loss of 0.199 dollars out of every dollar of sales in 2012. However, in 2013 it raised a net profit of 0.033 dollars out of every dollar of revenue and in 2014 it raised 0.009 dollars. The analysis shows that the margin has been fluctuating from one year to the other. This is attributable to extensive variation in overheads. The loss in 2012 may be attributed to extensive goodwill impairment of 27145 million dollars. It, therefore, advisable for the management to adopt more efficient overhead management costs so as to increase the firm’s profit.
Return on Assets
It is also called Return on total assets. This metric measure the net income raised out of the use of all firms average assets in a given financial year. Thus, it measures how efficiently the management used the assets at their disposal to raise profit. This ratio is based on the fact that the sole purpose of the firm’s asset is to generate profit. In this regard, the ratio is used by shareholders and management to see how effective the company can convert its investment in asset into returns. Some investors regard the Return on asset as the return on investment because capital assets take the biggest portion of total capital. In a nutshell; this ratio determines the profitability of company assets (Epstein and John, 72).
Return on assets= net income/average total assets
Average assets
(144603+ 149,422) / 2 = 147012
Return on assets= net income/average total assets
= 6,188/ 147012
= 0.42
Average assets = (149,422 + 166,344) / 2 = 157883
Return on assets= net income/average total assets
= 5,346/ 157883
=0.034
Average assets = (166,344 + 177,677)/2 = 172010
Return on assets= net income/average total assets
= 3,949/ 172010
= 0.23
The rate of return on assets was highest in the year 2012 and lowest in the year 2013. This may indicate that the management efficiency in utilizing company assets was lowest in 2013 and highest in the year 2012. To make an in-depth analysis of this ratio it may be important to compare general motors ratio with that of its main competitors. This will help to gauge the level of management efficiency in utilizing company assets with that of competitors.
Efficiency Ratios
These ratios are used to provide an analysis on how effective the management uses liabilities and assets internally (Epstein and John, 92).
Inventory Turnover
The inventory turnover ratio is used to analyze the effectiveness of management in maintaining right inventory levels. High inventory level indicates that the company is overstocking thus inventory turnover is low. High inventory level has a couple of demerits. The following are the disadvantages of maintaining a high level of inventory. One, the company faces the risk of the inventory becoming obsolete. Thus, if General Motors keep high stock of a given car model, the model price falls over time as new models are invented. This reduces the company profit realizable upon the sale of the old stock. Second, the company faces the high risk of breakages. Third, the company holds a lot of its capital in stock instead of investing in other short-term investments. Fourth, the company faces the high cost of warehousing. However, the company should also not maintain a very low level of inventory because it may not meet unexpected demand and the company may suffer run out of stock (Epstein and John, 97).
Inventory Turnover = (Cost of Sales) / (Average Inventory)
(General Motors Co., 1)
General Motors inventory turnover has been fluctuating over the last three years. The inventory turnover was highest in the year 2014. Thus, it is probable that the management adopted efficient marketing and advertising strategies that attracted many customers in year2014. The company should adopt strategies that will enable the firm to maintain a high level of inventory turnover even in the face of the global economic downturn.
Receivable Turnover
This is a metric that measure the effectiveness of a firm’s credit policy. If the ratio is quite low, it indicates that the company credit policy is quite relaxed hence many customers can acquire goods on credit. It also indicates that the management is having a problem in collecting cash from debtors. Thus, it is recommendable for firms to maintain high receivable turnover to minimize the risk of bad debts (Davis, & Elizabeth, 15).
The year 2013 =16.42
(General Motors Co., 1)
Account Payable Turnover
This is a metric that is used to gauge the effectiveness of management in managing bills. A high account payable turnover indicates that the firm is not receiving favorable payment terms from credit suppliers. In this case, the suppliers may be considering it quite risky to offer the firm goods on credit for a long period to the firm. Thus, the lower the ratio, the more favorable it is for the firm (Davis & Elizabeth, 15).
Accounts Payable Turnover = (Cost of Sales) / (Average Accounts Payable)
(General Motors Co., 1)
The ratio has been falling over the last three years considered in the analysis. This shows that the firm’s credit rating in the face of suppliers has been improving.
Conclusion
In many of the ratios analyzed the trend obtained is favorable. This indicates that the management has been able to adopt strategies that ensure that the shareholders wealth increase over years. The liquidity ratios show that the company can meet current obligation as they fall due. The gearing ratios (debt to equity) show that the company has used more equity than debt in financing its project hence it has an open option of increasing its debt in case it is unable to raise additional equity. The efficiency ratios have a favorable trend. For example, the receivable turnover has been increasing over time, and this indicates that the company risk of having excessively many bad debts has been declining since the year 2012.
References
Davis, Charles E., and Elizabeth Davis. Managerial Accounting: Working Papers. Hoboken, NJ:
John Wiley & Sons, 2012. Print.
Epstein, Marc J., and John Y. Lee. Advances in Management Accounting. Amsterdam: Elsevier,
2004. Print.
General Motors. Find the GM Vehicle. 05 May 2015. Web. 22 Jan. 2016.
<http://www.gm.com/>.
"General Motors Co." Growth, Profitability, and Financial Ratios for (GM) from
Morningstar.com.01 May 2015. Web. 22 Jan. 2016. <http://financials.morningstar.com/ratios/r.html?t=GM>.
