ACCT13017 – ASSESSMENT 2

STEP 3 – RATIO AnALYSIS

Upon first glance of my company’s ratios, I could not help but to feel overwhelmed by the amount of information I am presented with. To be honest, I do not know where to begin. I decided to calm myself down and break the ratio analysis into bits to lessen my anxiety. From an initial inspection, I could see that there is a trend of a continuous decrease of the firm’s profitability ratios. From a net profit margin of 12.6% in 2017 to 10% in 2020. In addition, the return on assets also significantly decreased from 9.4% in 2017 to 5.2% in 2020. I wonder why this is the case. Furthermore, Mayfield’s total asset turnover ratio have also decreased from 0.74 to 0.53. The first question that I have in my mind is what do these ratios indicate? Is it a good thing that these ratios are decreasing or are they a bad thing for Mayfield? To answer my question, I needed to do further research into my company and what these ratios mean.

According to my research, net profit margin shows the percentage of each dollar of revenue/sales is translated into profits (Murphy, 2021). It is a good indication of whether a company can control its costs and overheads and whether it is generating enough profits to cover its operations (Murphy, 2021). From looking at Mayfield’s net profit margins, it varies between 9.3% – 13.6% of the firm’s total revenue. This states that for every dollar of sales/revenue Mayfield generates is translated into 9 cents of profits for Mayfield. This seems to be very low in comparison to other industries such as selling digital products online which has a net profit margin of 40% (Vaidya, n.d.). However, Mayfield’s net profit margin ratio is better than the average net profit margin ratio for the childcare services industry, which is around 8% (Biery, 2014). This indicates that despite the decreasing net profit margin of Mayfield, they are still making profits above average for the childcare industry. From here, I turned to my attention towards my firm’s return on asset, which is also declining. My first thought was, maybe it is because they have purchased new assets therefore explaining why there is such a declining percentage of return from total assets. Upon investigation of my company’s total assets, I learned that there was a significant increase of their total asset from $36.4 million in 2017 to $71.4 million in 2020, which significantly impacted the return on asset ratio and caused it to decrease over the past 4 years. I noticed that Mayfield accumulated “right of use assets” worth $25 million in 2019 and 2020 which increased their non-current value. Upon further investigation of what right of use assets mean, I found out it is the right to use property and motor vehicles, which makes sense because my firm is in the business of buying established childcare centres.

Moving onto the analysis of my firm’s efficiency ratio, I did notice the declining trend of my total asset turnover ratio from 0.74 in 2017 to 0.53 in 2020. On the contrary, my current asset turnover ratio is moving in the opposite direction and is increasing, from 10.4 in 2017 to 13.1 in 2020. Judging my firm’s total asset turnover ratio, it can be seen in 2017 that for every dollar of assets used, Mayfield is able to turn it into 74 cents of sales – which is ¾ of the total assets. However, my company’s efficiency decreased to 53 cents per dollar of assets due to the $25 million of asset purchased in 2019 (as mentioned previously). My current asset turnover has a positive trend which is what we want to see. This indicates that firm is working efficiently to manage its current assets such as accounts receivable, cash and other.

Mayfield’s liquidity ratio is what I was looking forward to analysing. From my own understanding, liquidity ratios indicate the firm’s ability to pay its debts and meet its financial obligations. Assessing from my firm’s current ratio of 0.3 in 2020 indicates the very low ability to pay off its current debt. For every $1 of current liability, Mayfield is only able to pay 30 cents, which indicates that an inadequate degree of liquidity and if the trend continues, Mayfield will be unable to meet its liability obligations. This trend is also translated into a very high debt to equity ratio of 137.2% in 2020. Ultimately, Mayfield is headed towards a concerning liquidity problem and is not in a good debt position. This situation makes me further question why the company chose to distribute dividends in 2020 despite their very risky debt situation. Have I missed something during my analysis?