Steven has just won a significant amount of money from the state lottery. He has

Question

Steven has just won a significant amount of money from the state lottery.  He has decided to use the funds to create an investment portfolio containing stocks from different industries.  Steven has learned financial ratio analysis is a tool that he can use to help make his investment decisions.  Some of the companies and ratios are:

South Regional CheapO Quality Heavy Duty

Electric Burger Software Machinery

Current Ratio                                     0.9                           1.4                        7.1                         3.9

Quick Ratio                                        0.8                            0.9                       5.2                         2.8

Debt Ratio                                         71%                         50%                        0%                       36%

Net Profit Margin                             6.5%                       13.2%                   26.9%                       9.0%

What are the difficulties in comparing the ratios of these companies to one another?

Why are the liquidity ratios for the utility and fast food companies so much different from the software and machinery manufacturing company?

Would it be advisable for the software company to carry the same debt ratio as the utility company? Why or why not?

Make a recommendation to Steven regarding these investment choices.  Based on these ratios, what is your advice?  If another student makes different suggestions, challenge them to justify their choices.

Explanation / Answer

Answer - 1

These ratio can not be compare from each other. Becasue all ratio are belong to different industries. different industries business enviroment is different from each other. As example utility industry are based on cash sales and inventory turnover is much higher than heavy machinery industry.

Answer -2 Liquidity ratio is much different of fast food & utility co. to heavy machinery & software co. becasue in fast food & utility company inventory movement is higher than heavy machinery & software insutries. So, food & utility industry have inventory is much less than heavy machinery & software industries in same sales value. In the calculation of liqudity ratio we exclude the inventory from quick asset, so liquidity ratio of food & utilitiy indsutry much different from Heavimachinery & software industries.

Answer- 3 Yes, It is advisable that software company carry the same debt ratio as the utility company. Becasue Debt ratio is equal to total liabilities divided by total asset. here is not different between cash sales or credit sales. If software company have debt ratio equla to utility company they did not paid the interest amount. this is huge saving in company operation.

Answer -4

I have recommendation to Mr. Steven to invest in Utility companies. becasue there are all ratio is better than other industry. There is debt ratio is 0% . It means company did not have any debt burden or very less burden of any outsider liabilities. Company did not bear interest burden. Profit margin ratio is also better than other industry. So, It is always a better choice to invest in food & utility industries. If any other suggest to other industry, first you ask what aboiut debt ratio and interest burden on the company ? you will be clear the where should money to be invest ?   

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