Debt to Equity Ratio & Leverage Ratio

Debt to Equity Ratio

A measure of a company's financial leverage. Debt/equity ratio is equal to long-term debt divided by common shareholders' equity. Typically the data from the prior fiscal year is used in the calculation. Investing in a company with a higher debt/equity ratio may be riskier, especially in times of rising interest rates, due to the additional interest that has to be paid out for the debt.

Debt to Equity Ratio:

                                      Long term debt

                                      ----------------

                                         Equity 

For example, if a company has long-term debt of $3,000 and shareholder's equity of $12,000, then the debt/equity ratio would be 3000 divided by 12000 = 0.25. It is important to realize that if the ratio is greater than 1, the majority of assets are financed through debt. If it is smaller than 1, assets are primarily financed through equity.

When used to calculate a company's "financial leverage" the debt usually includes only the Long Term Debt (LTD).

Leverage Ratio

1. Any ratio used to calculate the financial leverage of a company to get an idea of the company's methods of financing or to measure its ability to meet financial obligations. There are several different ratios, but the main factors looked at include debt, equity, assets and interest expenses.

2. A ratio used to measure a company's mix of operating costs, giving an idea of how changes in output will affect operating income. Fixed and variable costs are the two types of operating costs; depending on the company and the industry, the mix will differ

ROI and ROTA

Return on Investments

Measure of the earning power of assets. The ratio reveals the firm's profitability on its business operations and thus serves to measure management's effectiveness. It equals Net Income divided by average total assets; also called rate earned on total assets. Other versions of ROI exist, such as net income before interest and taxes divided by average total assets. Return on investment is a commonly used measure to evaluate divisional performance.

Return on Investment:

                                      Net Income before interest and tax

                                      ----------------------------------

                                          Average Total Assets

  

Return on Total assets

A ratio that measures a company's earnings before interest and taxes (EBIT) against its total net assets. The ratio is considered an indicator of how effectively a company is using its assets to generate earnings before contractual obligations must be paid.

Return on total assets:

                                                EBIT

                                      ----------------

                                      Total Net Assets

Here, EBIT= Net Income + Interest Expense + Taxes.

The greater a company's earnings in proportion to its assets (and the greater the coefficient from this calculation), the more effectively that company is said to be using its assets.

To calculate ROTA, you must obtain the net income figure from a company's income statement, and then add back interest and/or taxes that were paid during the year. The resulting number will reveal the company's EBIT. The EBIT number should then be divided by the company's total net assets (total assets less depreciation and any allowances for bad debts) to reveal the earnings that company has generated for each dollar of assets on its books.

Important financial concepts

Net profit definition:

Often referred to as the bottom line, net profit is calculated by subtracting a company's total expenses from total revenue, thus showing what the company has earned (or lost) in a given period of time (usually one year). also called net income or net earnings.

                                                          OR

Amount of money earned after all expenses, including overhead, employee salaries, manufacturing costs, and advertising costs, have been deducted from the total revenue.

Price Earning Ratio

A valuation ratio of a company's current share price compared to its per-share earnings.

Calculated as:         

                                      Market value per share

                                      ------------------------

                                      Earnings per share (EPS)

Gross Profit Ratio

Gross profit divided by net sales. High ratios are favorable in that they indicate the business is earning a good return on the sale of its merchandise, although that may also invite competition.

Gross profit ratio:

                                      Gross profit

                                      --------------

                                      Net Sales

What is a stock split?

A Stock split is a process where in the company decides to reduce the face value of the outstanding shares. This is usually done only when the stock is in a strong uptrend and the board of the company has a   comfortable anticipation that the stock will continue the same trend further. When a stock is quoting high in the market, there are worries that there will be fewer takers for the stock implying lower liquidity to the shares of the company. By this exercise, the company tries to provide more liquidity to the stock in the market. More often than not the when a company declares a stock split it means that particular firm is experiencing success.

Mechanics of stock split:

To do a stock split it is important to know the requirements before a stock split, as well as the general profile of the company which is announcing a split of their stock. Naturally the company must have enough unissued authorized shares to split the stock and then the board of directors must then meet and declare a stock split. If authorized shares need to be added, then the company must seek approval from shareholders, which requires a shareholder meeting for a vote to support additional shares being issued. At that point the company can announce the stock split and both the split and recording dates are set. When the split date does indeed arrive, additional shares are issued and the stock price per share is adjusted accordingly.

The average profile of a company that declares a stock split is one that is currently operating with increasing revenue and net earnings.  Typically the stock price is close to or higher than the price of the last split, is in a general uptrend and of course is expected to continue to move northwards.  In addition, business is forecasted to be very good going forward, shareholder confidence is high and basically no major legal issues are pending reconciliation. In addition, a stock split announcement is typically accompanied by other major events which could be anything such as a bonus, dividend being paid, a stock buyback program or even changes to management.

Stock splits usually attract the interest of the retail and institutional participants as they are certainly worth monitoring and when correctly identified, they provide low risk and high reward options strategies. In fact, if you can see a stock split coming when implied volatility is currently very low, then these particular situations have a tremendous chance of being highly profitable when coupled with the appropriate options strategy.

Tech Mahindra strike Satyam bid @ Rs.58 a share

The 13th of April 2009 will present itself as a most memorable date in the Indian IT Sector to the World at large. This date will be a witness of the sale of the fraud hit 4th largest Indian IT major - Satyam Computer services to the Mahindras, who faced a competition from the much talked about L&T, which already has 12% stake in the fraud hit IT major.

TechMahindra (TechM) emerged as the highest bidder with an offer price of Rs 58 per share. TechMa's price outbid other suitors, engineering giant Larsen & Toubro’s bid of Rs.45.90/share and private equity player Wilbur Ross' Rs 20/share, by a comfortable margin, Mr Kiran Karnik, chairman of the Govt. constituted Satyam board told reporters.
At Rs 58 per share, TechM will acquire a controlling stake of 51% in Satyam for Rs 2,889 crore, pegging the total value of the company at Rs 5,665 crore. In the first stage, Satyam will issue 30.27 crore shares to TechM, representing 31% of the company's share capital, which will infuse Rs 1,756 crore into the company. In the second stage, TechM will have to mandatorily make an open offer to Satyam's existing shareholders for another 20%. However, L&T, which holds a 12% stake in Satyam, will not participate in the open offer for shareholders as it has a lock-in period of six months.

The acquisition catapults TechM into the fourth position in the pecking order of IT firms, after HCL Technologies.
TechM is a strong player in telecom (75% of revenues), where as Satyam caters to financial services
, manufacturing and healthcare, among others.It will require a fair amount of work to bring Satyam back to its past glory. The acquisition will help the company, an arm of the Mahindra & Mahindra Group, to diversify into new areas by exploring the synergies present with Satyam and compete aggressively with bigger rivals such as TCS, IBM, Infosys and Wipro.
Satyam serves a large clientele of over 500 clients -some of them as large as GE, Cisco, Citi
and General Motors -Mahindra said: ``I will personally reach out to John Chambers (chairman of Cisco), Vikram Pandit of Citi and Fritz Henderson (GM CEO) to restore confidence in Satyam and us.''
The Stock of both the companies experienced a high volatility in the intraday trade at both the exchanges. TechM rouse to 25% quoting at Rs.400 plus a share as the high of the day and shed off its intraday gains by the end of the trading session. On the other hand, Satyam rouse above 16% to settle down at Rs. 49 a share a mere 3% up from the previous close at the BSE.

Inevitably, questions are being asked about the winning bid. Have the Mahindras over-valued Satyam…? As Cognizant, a joint bidder with Wilbur Ross, decided to back off at the last minute. Defending his bid price, TechM chairman Anand Mahindra said: ``When you are running in a race, you don't look behind who's chasing you. We believe our bid is rightly priced.'' It is estimated that Satyam's liabilities could be as high as $1 billion. TechM director Bharat Doshi said that the bid price
was determined by the company after taking into account Satyam's liabilities.

Tech Mahindra’s acquisition of Satyam may have come as a relief to the market, but analysts see a tumultuous journey ahead for the former. As regards the upcoming open offer, analysts aren’t sure of the kind of response the offer would evoke. They also appear to be quite cautious about the impact of the acquisition on the prospects of Satyam, given the magnitude of the crisis and a lack of clarity on strategy the winner would adopt post-acquisition.