🎴Financial Planning
1) In this section, ratio analysis on Margins on Income has been performed and then discussed. In order to evaluate the profitability of the real estate industry, parameters of margins on income, viz., (i) return on total assets, (ii) return on income, (iii) return on total income net of P&E and (iv) return on sales are analyzed. Results of the analysis are as follows: ………………………….
a) On the Basis of Return on Total Income
To facilitate evaluation of margins on income of the real estate industry, parameters of margins on total income, viz., (i) PBDITA as percentage of total income, (ii) PBT as percentage of total income, (iii) PAT as percentage of total income and (iv) cash profit as percentage of total income are analyzed.
PBDITA is a reasonable measure of the operating profit. Normally, a firm/industry should make sufficient profits at the PBDITA level so that it can account for depreciation and amortisation, pay for its debts and then if there is still a surplus left, pay direct taxes. PBT as percentage of total income measures the profit before tax as a per cent of the total income. This is among the most comparable measures of profitability when it comes to comparing companies, or even industries. PAT as a per cent of total income is the final net profit that is made over the total income generated by the firm. Cash profit measures the firm's/industry’s ability to generate cash from the business it does in a year.
The study examined profitability ratios, viz., PBDITA as percentage of total income, PBT as percentage of total income, PAT as percentage of total income and cash profit as percentage of total income, for analyzing return on total income. The return on total income had a steep rise in 2006-08. It shows that income of the firms reduced after 2007-08. The PBDITA as percentage of total income figures reveals that profitability as a ratio of gross income to net income has reduced from 2008-09 level and started gaining momentum in 2014-5. The other profitability ratios too follow similar trend except PBT as percentage of total income. Therefore, it appears that margins on income on the basis of return on total income of the real estate industry are yet to recover from recession.
b) On the Basis of Margins on Total Income Net of P&E
A supplementary ratio considered for assisting evaluation of margins on income of the real estate industry, parameters of margins on total income net of P&E, viz., (i) PAT net of P&E as percentage of total income net of P&E and (ii) Cash profit net of P&E as percentage of total income net of P&E are analyzed.
To derive at a more accurate estimate of the profits generated, during an accounting period, it is useful to remove the impact of transactions that pertain to prior periods (P) or are extra-ordinary (E) in nature. PAT net of P&E is such a measure. Cash profit net of P&E as percentage of total income net of P&E compares the cash generated during an accounting period against the total income generated during the same period after having netted out the prior period and extra-ordinary transactions from both the numerator and the denominator.
PAT net of P&E as percentage of total income net of P&E shows that the profitability as a ratio of gross income to net income is having an upward trend, however, it was negative in the first three years under study. Cash profit net of P&E as percentage of total income net of P&E reached 25 in 2006-08 and reduced during subsequent two years and grown to be around 20 in 2010-11 and reduced continuously during 2012-15. The above ratios indicate that the profit generated during an accounting period against the total income generated is continuously declining during the recent years.
c) On the Basis of Margins on Income on Sales
An additional ratio considered for supporting evaluation of margins on income of the real estate industry on the basis of PBDITA net of prior period and extra-ordinary transactions and other income to sales is analyzed. PBDITA net of PE&OI is a reasonably close measure of operating profits. It indicates a decrease after 2009-10. Moreover, the average during the first half of the period under study (2005-10) was over 32% while the second hand it (average) was only around 27%. Consequently, the trend of PBDITA net of P&E&OI&FI as percentage of sales indicates that the operating profit is decreasing.
2) In this section, ratio analysis on Returns on Investment has been performed and then discussed. In order to evaluate the profitability of the real estate industry, parameters of margins on income, viz., (i) return on net worth, (ii) return on capital employed, (iii) return on total assets and (iv) return on gross fixed assets are the investigated. Results are as follows:
a) On the Basis of Return on Net Worth
Profit after tax (PAT) net of P&E as percentage of net worth is one of the measures of the returns that a business generates on funds provided by its equity shareholders. Equity shareholders fund, or net worth, is the sum of the funds provided by the equity shareholders and the accumulated reserves of the firm. Net worth is always net of revaluation reserves, if any. PAT net of P&E is a better measure of returns on net worth than PAT alone. PAT as percentage of net worth is the ratio of PAT generated by the firm during a year (an accounting period, to be more precise) and the average of the net worth of the firm at the beginning of the year and at the end of the year. Cash profit is the profit after tax adjusted for the effect of non-cash transactions. Principally, these non-cash transactions are depreciation, amortization and write-offs. These and other similar non-cash charges are added back to the PAT. Correspondingly, non-cash incomes are deducted from the PAT to derive the cash profit generated by a business during a year.
PAT net of P&E as percentage of net worth was very high during 2006-07 and began deteriorating during period 2007-15. It has declined to 3% (2014-15) from 38% during 2006-07. Similar trend can be observed in the case of cash profit as percentage of net worth and PAT as percentage of net worth. This proves that the returns that the Indian real estate industry generates on funds provided by its equity shareholders have declined considerably.
b) On the Basis of Return on Capital Employed
This is one of the measures of the returns that an enterprise generates on funds provided by its shareholders and lenders. PAT net of P&E is a measure of profits that is net of prior period and extra-ordinary transactions. Prior period and extra-ordinary incomes are removed, and similar expenses are added back to derive a measure of PAT that corresponds better to the current year's activities. It removes the impact of transactions that are not directly related to the current year's operations. PAT as percentage of capital employed is a ratio of PAT generated by the firm during a year and the average of the capital employed by the firm as of the beginning of the year and end of the year.
Both PAT net of P&E as percentage of capital employed and the PAT as percentage of capital employed indicates that profitability as a ratio of capital employed is currently having a downward trend.
c) On the Basis of Return on Total Assets
This is one of the measures of the returns that an enterprise generates on the total funds deployed by it in the business. It is a measure of profits that is net of prior period and extra-ordinary transactions. In order to facilitate assessment of returns on investments of the
real estate industry, PAT net of P&E as percentage of total assets excluding revaluation and PAT as percentage of total assets excluding revaluation are analyzed.
Both the ratios reveal that returns generated on the total funds deployed by real estate industry in the business was negative in the initial year under study and it became maximum in 2006-07 and fell down drastically in the subsequent years. During 2010-11 it started improving and the further years show drastic decline. This establishes that there is a drastic slump in returns that the Indian real estate industry generates on the total funds deployed by it in the business.
d) On the Basis of Return on Gross Fixed Assets
This is one of the measures of the returns that an enterprise generates on the fixed assets created by it. Two ratios are studied returns on investments on the basis of return on gross fixed assets: (i) PAT net of P&E as percentage of gross fixed assets (GFA) excluding revaluation and (ii) PAT as percentage of GFA excluding revaluation. Since fixed assets are usually maintained at prime productivity levels, un-depreciated gross value of all fixed assets is denominator in the ratio. Prior period and extra-ordinary incomes are removed, and similar expenses are added back to derive a measure of PAT that corresponds better to the current year's activities.
The numerator of this ratio is the PAT net of P&E generated by the firm during a year. The data on both the ratios indicates the same trend of return on total assets. Return on gross fixed assets real estate industry was highest in boom period and started declining significantly.
Both the ratios became half in 2008-09 from the previous year. Recovery started in the last year, i.e., 2010-11 further years show severe decline. These ratios, currently, became a little over 6% from around 100% (2005-06). This establishes that there is a drastic fall in returns that the Indian real estate industry generates on the fixed assets created by it.
3. Asset Utilization (in Times)
Low ratios of total income and total assets show that profitability of the industry is sinking. This indicates that the real estate industry’s efficiency in using its assets to generate revenue has reduced. Ratios of total income and compensation to employees were 29.18 in 2006-07 and it reached 20.26 in 2007-08. It became 21.59 in 2014-15 from 19.34 in 2012-13. This indicates a trend of increase in expenditure.
4. Liquidity Ratios
Current ratio of Indian real estate industry began to show a slight upward trend in 2014-15. This reveals that the real estate industry may be able to meet its short-term obligations and regain financial health in the coming years. This can be supported by the improvement in the quick ratio and debt to equity ratio of the Indian real estate industry. Return on assets indicates inefficient performance of the industry because it is able to give only a small amount of returns.
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