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1.

Introduction:
The pricing hike in the energy products in the country has raised alarms. The consumers
expenditure is increasing day by day (Wahlen and Brown, 2010). Recent news shows that the
consumers expenses have risen by about 1.23 per day due to the rapid rise in the prices of
the electricity and gas (www.npower.com, 2013). The governmental additional cost of green
production has burdened the energy companies with additional production costs. Thus this
has compelled the companies to raise the prices (Yogo, and Campbell, 2010).
In the following assignment the focus will be to evaluate the financial performance of the
energy

company RWE Npower Plc operating in UK.

1.1 Purpose of assignment


The purpose of the assignment is to evaluate the financial performance of the company for
consecutive five years. The tool of financial ratio is implemented to understand the change in
the financial health of company over a given period (Puxty, 2010). The comparative study of
the year on year financial figures will help to understand the reasons for rising production
cost and the prices of the energy products. The financial ratios are beneficial for both the
mangers of the company as well as the stakeholders to understand the worth of the company
(Wachter, 2011).

1.2 Key highlights


The company Npower has a customer base of 3 million households for 14.6 terawatt hours
(TWh) of electric supply (www.npower.com, 2013). Npower also provides electricity
distribution services for 350000 business houses in Britain with an addition 33.4 TWh of
electricity (www.npower.com, 2013). The company also provides gas supply with
approximately 163.4 million capacities (www.npower.com, 2013). Npower is a subsidiary of
RWE which is into the business of generation of power and exploration of gas in UK and
Europe.

1.3 Methodology
For the purpose of financial analysis of Npower, the tools of financial ratio are applied to
carry out the evaluation. Financial ratio is an effective method to critically evaluate the
performance of the company (OBryan, 2010). The comparison of the present performance

with the historical figures will indicate the development of the company in financial as well
as economical values. The company analysis is an effective tool as these ratio analyses are
made for the managers of the company to make the decisions pertaining to different areas of
business (Lewellen, 2010). The financial statements form the basis of the financial ratio
analysis. For this purpose the financial statements are sources through valid sources like
Fame or the annual reports from the websites of the company (Michael, 2011). The ratio
analysis is calculated to identify the profitability ratio, liquidity ratio, gearing ratio and the
investment ratio. Apart from this the analysis drawbacks are also discussed to highlight the
weaknesses of the methodology (Kinney and Trezevant, 2010).

1.4 Source of data (FAME)


Fame (Forecasting Analysis and Modelling Environment) is a platform to avail the financial
statements and reports of the companies operating in UK and Ireland. This is the most valid
and reliable source of information as the files are available in an achieved forms and comes
with a particular login ID (Libby, 2010). Apart from this the software also helps the viewer to
access the value of the shares and debentures of the company along with the asset value of
the company. Financial ratios are also made available at these sites which give the insight of
the company to the non-financial viewers for their easy understanding (Frankel et al. 2010).

2. Justification
Fame software is used as this is a prevalent source of information. As this framework has a
record of almost all the companies functioning in UK, this source has been selected for the
purpose of collecting the financial statements of the past 5 years of Npower (Chapman,
2012). The financial statements are valid and reliable as the login of these sites requires the
discloser of the details of the user and hence it is secured. Mintel is another data base which
shows similar reports but it is not used as this data base shows jumbled figures which include
a number of irrelevant data (Soumaya, 2012).
Financial ratio analysis model is used as this model shows a comparative study on year on
year basis and so it helps the mangers of the company to understand the flaws in the present
operation and evaluate the success of new plans incorporated (Mathuva, 2012). The managers
of the company can use these ratios to understand the financial performance of the company
without considering all the financial reports which saves time.

3. Performance Analysis:
Performance analysis is the determination of the change in the financial performance of the
company in the given external economic condition (Soleimani and Salehfar, 2012). These
ratios show the ability of the company to perform strategically within the prevailing financial
condition.

3.1 Profitability Ratios


Profitability ratio is the indicative of the earnings that the company has been able to earn
through the deployment of the capital invested. This ratio shows the earnings in comparison
to the cost of the company (Khan and Rehman, 2012).

3.1.1 Return on equity (ROE)


ROE = Net income/ Shareholders equity*100

Return on equity
2010

2011

2012

2013

2014

NET INCOME

3,719.00

25,212.00 11,017.00 23,451.00 22,451.00

TOTAL EQUITY

8,996.00

9,069.00

9,246.00

10,234.00 11,919.00

Return on equity

0.41

2.78

1.19

2.29

1.88

ROE
3

2.78

2.5

2.29
1.88

2
1.5

ROE

1.19

1
0.5

0.41

0
2010

2011

2012

2013

2014

Figure 1: ROE of Npower


(Source: Created by the author)
ROE is the profit earned by the company by employment of the equity of the shareholders.
These show the rational investment which has earned favourable return for the company.
The ROE of Npower has shown a down fall from that of 2013 as the company has not been
unable to earn returns from the equity investments (Saeidi and Jorjani, 2012). This is also
indicative of the fact taht the company has not been able to make a rational investment
decision which has resulted in the drop of the ROE. The shareholders of the company will be
depressed by the performance of the company.

3.1.2 Return on assets (ROA)


ROA = Net income/ Total assets *100

Return on asset
2010

2011

2012

2013

2014

NET INCOME

2,079.0

2,159.00

1,917.00

2,153.00

2,476.00

Total assets

0
44,607.

46,400.00

47,335.00

54,705.00

52,384.00

Return on Assets

00
0.05

0.05

0.04

0.04

0.05

ROA
0.06
0.05

0.05

0.05

0.04

0.05
0.04

0.04

0.03

ROA

0.02
0.01
0
2010

2011

2012

2013

2014

Figure 2: ROA of Npower


(Source: Created by the author)
3.1.3 Return on capital employed (ROCE):
ROA indicates the ability of the company to utilise the assets of the company to generate
income. More is the value of ROA, more is the efficiency of the company to generate sales
through the operational activities.

The employment of capital into a business is for the purpose of earning profit. ROCE is the
indicative of the income earned through the total investment in a certain project (Kheradyar
and Ibrahim, 2011). The capital employment comprises of the debentures of the company and
the net assets which may be infused. The assets of the company is not fully explored to meet
the actual efficiency of the company.
ROCE = Profit after tax / Capital employed*100
Capital employed = Debt + Equity
Return on capital employed (ROCE)

2010

2011

2012

2013

2014

NET INCOME

2,069.00

2,148.00

1,971.00

2,153.00

22,451.00

Equity

8,996.00

9,069.00

9,246.00

10,234.00

11,919.00

Debt

35,313.00

37,331.00 38,089.00 44,471.00

40,465.00

ROCE

0.23

0.24

0.21

0.21

1.88

ROCE
0.23
0.24
0.21

2010
2011

0.21

2012

1.88

2013
2014

Figure

Figure 3: ROCE of Npower


(Source: Created by the author)
3.2 Liquidity Ratio:
Liquidity ratio is the availability of the short term assets of the company which can be
converted to liquid cash with minimum depreciation value (Krishnan, 2012). This source of
liquid assets is required to meet the short term fund requirements of the company like
working capital and other short term liabilities (OBryan, 2010).

3.2.1 Quick ratio


Quick ratio = (Current assets inventories) / current liabilities

Quick ratio

2010

2011

2012

2013

2014

TOTAL CASH AND SHORT TERM


INVESTMENTS

346

384

332

671

354

TOTAL RECEIVABLES

1,397.00 1,179.00 1,143.00 1,547.00 1,723.00

TOTAL CURRENT LIABILITIES

6,693.00 6,936.00 6,091.00 7,445.00 7,431.00

Quick ratio

0.26

0.23

0.24

0.30

0.28

Quick ratio
0.3

0.3

0.26
0.23

0.28

0.24

0.2
0.1

Quick ratio

0
2010

2011

2012

Quick ratio
2013

2014

Figure 4: Quick ratio of Npower


(Source: Created by the author)
Quick ratio is a more useful means to determine the liquidity condition of the company as this
ratio does not includes the stock into consideration of this ratio and hence it is helps to
determine the actual liquidity condition of the company (Krishnan, 2012). The quick ratio of
Npower has started improving. This can be attributed to the fact that the company has
improved the receivables of the company. The conversion period has reduced and so the
company is able to convert the products to cash equivalent to pay the creditors of the
company (www.rwe.com, 2014). The quick ratio in the year 2013 has shown the highest
result. This can be attributed to the fact that the company was able to earn better through the
production process in the past year.

3.2.2 Current ratio


Current ratio = Current assets/ Current liabilities

Current ratio

2010

2011

2012

2013

2014

TOTAL CURRENT ASSETS

5,736.00

6,233.00 5,691.00 9,576.00 7,489.00

TOTAL CURRENT
LIABILITIES

6,359.00

6,396.00 6,097.00 7,445.00 7,331.00

Current ratio

0.90

0.97

0.93

1.29

1.02

Current ratio
1.02

2014

1.29

2013
0.93

2012

Current ratio

0.97

2011

0.9

2010
0

0.2

0.4

0.6

0.8

1.2

1.4

Figure 5: Current ratio of Npower


(Source: Created by the author)

Current ratio is the indication of the current assets as compared to current liabilities. The
operational activities of the company determine the ideal current ratio and this ratio is

different for different companies (Krishnan, 2012). The ideal current ratio is considered to
be 2:1 but it depends on the company to company. For Npower it is evident that the company
as maintained a constant current ratio which shows that the company has shown stagnant
approach has not undergone any change in the production capacity as well as the increase in
the demand of the company(Krishnan, 2012). This ratio shows that the company has financial
crisis as the demand of the products have stagnated.

3.3 Gearing ratio


Gearing ratio signifies the gearing up of the activities of the company which results through
the use of liabilities of the company.
3.3.1 Interest coverage ratio
Interest coverage ratio = EBIT / Interest
EBIT = Earnings before interest and tax

Interest coverage ratio


2010
2011
2012
3,809.00
3,980.00 3,667.00
981.00
1,118.00 1,046.00
3.88
3.56
3.51

EBIT
Tax expenses
Interest coverage ratio

2013
3,504.00
975
3.59

2014
3,536.00
1,000.00
3.54

Interest coverage ratio


3.9

3.88

3.8
3.7
3.56

3.6

3.59
3.51

3.5

3.54

Interest coverage ratio

3.4
3.3
2010

2011

2012

Interest coverage ratio


2013

2014

Figure 6: Interest coverage ratio of Npower

(Source: Created by the author)

Interest coverage ratio justifies the use of the liabilities. If the ratio is low this means that the
company is not able to earn profit to pay the interest payable for the liabilities and hence the
company may soon turn out to be insolvent (Krishnan, 2012). For Npower the ratio is
decreasing and this is matter of concern as the company is finding it difficult to meet the cost
or the interest of the liabilities. The earnings of the company have fallen in the recent years. If
the condition continues Npower will find it difficult to survive in the competitive market and
will soon windup. The interest coverage ratio can also influence the profit margin of the
company as most of the profit earned will be drained away to pay the interest of the liabilities
(Krishnan, 2012).

3.4 Investment ratio


Investment ratio is used by the shareholders of the company (OBryan, 2010). Investment
ratio indicates the enterprise value of the company in the market which lures the investors to
invest in the company.

3.4.1 Earnings per share (EPS)


EPS = Net income / Number of shares outstanding

Earnings per Share

2010
NET INCOME

2,069.00

Preferred dividend

838

TOTAL EQUITY

8,996.00

EPS

0.14

2011

2012

2,148.00 1,971.00
886

1,006.00

9,039.00 9,264.00
0.14

0.10

2013

2014

2,153.00

2,451.00

810

1,059.00

10,342.00

11,919.0
0
0.12

0.13

EPS
0.12

2014

0.13

2013
0.1

2012

EPS

2011

0.14

2010

0.14
0

0.02

0.04

0.06

0.08

0.1

0.12

0.14

Figure 7: EPS of Npower


(Source: Created by the author)

This ratio is useful for the investors of the company (OBryan, 2010). The investors make
decision related to the investment in the company if these ratios are impressive. The ratio
shows the ability of company to create wealth for the shareholders. In case of Npower the
EPS has dipped lower than that of the previous years figures which means that the company
has not been able to earn the expected returns from the projects (OBryan, 2010). This can be
due to the reason that the economic condition of the energy sector has declined in the recent
years.

3.4.2 Dividend payout ratio


Dividend payout ratio = (Equity dividend/ PAT + Preference dividend)*100
Dividend payout ratio

2010

2011

2012

2013

2014

TOTAL DIVIDEND
PAID
NET INCOME

838

886

1,006.00

810

2,069.00

2,148.00

1,971.00

2,153.00

Dividend payout ratio

0.41

0.41

0.51

0.38

1,059.00
2,451.00
0.43

Dividend payout ratio


0.6
0.51
0.5
0.41

0.43

0.41

0.38

0.4
0.3

Dividend payout ratio

0.2
0.1
0
2010

2011

2012

2013

2014

Figure 8: Dividend payout ratio of Npower


(Source: Created by the author)
Dividend payout ratio is the indicative of the company policy to reward the ordinary
shareholders of the company (OBryan, 2010). This ratio shows the part of the earnings
which the company declared to share with the shareholders of the company (Krishnan, 2012).
Npower has shown improvements in the dividend payout ratio. Through the company is
earning unsatisfactory profit in-spite of that the company has been able to maintain a good
ratio of dividend payout ratio (OBryan, 2010).

4. Summary of Analysis
The analysis of Npower shows that the company is having huge financial crisis. The demand
of the products has declined as a result the operational cost of the company have not been
rationalised. The profitability ratios of the company show that the company is bound to
increase the prices of the energy products. The financial performance evaluates that the
company has shown no improvement in the earnings of the company or the demand of the
company. The return from the projects has also not been able to improve the financial health

of the company. Npower has earned profit but that is not enough to overcome the interest
payable by the company.

5. Weaknesses of ratio analysis


Weaknesses of the ratio analysis are that the ratio cannot give the real picture relating to the
financial performance of the company (Krishnan, 2012). Some of the strategies carried out by
the company may lead to abrupt change in the financial statements and this will be reflected
in the ratio analysis.

The justification for such change cannot be determined without

understanding the strategies of the company (Krishnan, 2012). The investment decision may
also show apparent decrease in the cash flows which can change the ratios to give adverse
results related to the performance of the company.
The inflation factor is not considered in the processes of calculation of the ratio for historical
data which also is a weakness as the actual value comparison is not considered.

6. Conclusion and Recommendation


Through the financial analysis conducted on the financial statements of Npower, the
performance of the company is evaluated. The ratios indicated the areas of deficiency and
inefficiency on the part of the company. The company has declined to earn profit which
would help the company to suffice the burden of the liabilities. The dividend payout is the
only satisfactory ratio which indicates that the company has been able to distribute the part of
the small earnings with the shareholders.

Recommendation
Decrease in the operational cost: The operational cost should be decreased to increase the
profit margins of the company. To achieve this company should decrease the waste of the
resources and involve new technologies to increase the efficiency of Npower.
Cost of resources: The resources incurs for the large amount of production cost. Npower
should encourage the use of cheap raw material like renewable energy to produce electricity
using green technologies.
Improvement of collection period: The collection period of the company should be decreased
so that the company can avail liquid cash to infuse into the operational activities. These

strategies can help the company to improve the availability of resources to prevent lag in time
of production process. Decrease in the ideal time will result in increase in the efficiency.

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