Basic Concepts

Equity Capital: Equity paid-up capital as at the end of the financial year.

Net sales: Gross sales less excise.

% CHG: Average annual change in percentage terms over the previous year.

OP: Operating profit. Profit before interest, depreciation and tax. Other income not considered for calculating the same.

Gross Profit: Profit after interest, but before depreciation and tax.

Net Profit: Profit after tax (PAT), as shown in the P&L account.

GPM: Gross Profit Margin. Gross profit expressed as percentage of gross sales.

Div yield (%): Dividend per share expressed as percentage of CMP.

D/E: Debt/equity ratio, calculated by dividing loan funds by net worth of the company.

OCF/GB: Operational cash flow to gross block.

PBIDT/GB: Profit before interest, depreciation and tax to gross block.

(OCF: Operational cash flow is calculated by adding depreciation to PAT. PBIDT is profit before interest, depreciation and tax. VA is value added, calculated as sales net of intermediate input costs. GB stands for gross block.)

OI /PBT: Other income expressed as a percentage of profit before tax. Other income of recurring nature are considered for the same.

Net exports: The FOB value of exports adjusted for CIF value of imports.

CMP: The current market price.

Rationale for PBIDT/GB: Both profit and investment base must be determined to measure profitability. It is logical that the profit in the numerator should flow from the investment base used in the denominator. There are controversies about the definition of the profit. Should it be net or gross of interest and taxes? We have taken PBIDT for our calculations.

The treatment of interest is, however, clear. If the interest is deducted for calculating profits, the inter-company comparison of profit will be affected by the debt/equity ratio, which varies from one company to the other. If it is not deducted, then the factor that affects the comparison is capital intensity.

Similar is the problem with depreciation and taxes as the policy may vary among companies. Profit, gross of depreciation, is a better indicator for comparison of inter-company profitability than profit net of depreciation.

OCB/GB: Any ratio of profit to assets, in the case of an old company, has a disadvantage. The profits of two companies can not be compared by measuring profit to total capital employed, if the age of the assets differ significantly. The problem with this is that the profit is at current value but assets are at historic costs. The profit to assets ratio will be meaningful only when the value of assets is taken close to its replacement value.

The realistic picture of profitability will emerge only when a company earns a reasonable operating profit on value added as well as on its gross block. The combination automatically takes care of problems arising out of high debt.

Operating profit is the best indicator for inter-company comparisons. If the objective is to highlight larger debt in a companys capital structure, then OCF is the best indicator. OCF takes into account the existence of large debt in the capital structure while PBIDT ignores it.

Diluted equity: The fully diluted equity of the company after considering all pending conversions.

Trailing 12 months: In India, normally annualised half-year results for the latest period are used for financial analysis. However, this ignores the seasonal nature of industries like sugar, cement etc. Here we have considered results for latest 12 months, usually a sum of last two half-yearly results. This is an internationally accepted practice.