1.0 Executive summary
Rockwell Collins Inc is a US multinational company whose headquarter is in Ceder Rapids, Lowa. It manufactures aircraft, and provides information technology and Avionics to government agencies. However, Rockwell Collins is about to be purchased by a French aerospace company, Safran S.A. Meanwhile, this paper assessed Rockwell Collins using financial ratio analysis, and bond and stock analysis and recommended its performance. For example, it has a considerably small debt ratio; consequently, it incurs small interest expenses.
2.0 Introduction
Two of the elements/aspects of a company that can best be used to analyze its performance is the financial ratio analysis, and stock and bond analysis. According to Cornett, Notsinger & Adair, (2016), the bond of a firm is the sum of its short- and long-term debts. Bond analysis is used to measure the proportion of the debt on the firm’s net worth. On the contrary, the stock analysis is used to estimate the percentage of the equity on the company’s net worth (sum of equity and debts). Based on the financial report of FY2017, Rockwell Collins’ total debt amounted to $1.84 billion. Its net worth was $7.162, which means that loaners and creditors contributed approximately $25.7%. The shareholders contributed the remaining about 74.3%. As for financial ratios, the paper used to multiple of them to estimate the performance of Rockwell Collins. In general, the major categories of financial ratios are the profitability ratios, the solvency ratios, the efficiency ratios, liquidity ratios among others. Note that each of those categories has its own specific financial ratios. This paper seeks to present a detailed report of Rockwell Company’s financial ratios analysis, as well as stock and bond analysis.
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3.0 Analysis
3.1 Financial Ratio Analysis
3.1.1 Current Ratios
“ When looking at ratios for a company, the number calculated for a ratio is not always good or bad, and that extreme values (either high or low) can be a bad sign for the firm” (Cornett, Nofsinger, & Adair, 2016). Cornett, Nofsinger, and Adair also name the three most common ratios used, and they are as follows: current ratio, quick ratio, and cash ratio. The current ratio is determined by dividing the current assets by the current liabilities (Cornett, Nofsinger, & Adair, 2016). “In 2017, Rockwell Collins had assets of $17,997,000 and liabilities of $3,069,000, making the ratio 5.86%. In 2016 Rockwell Collins had assets of $7,699,000 and liabilities of $2,346,000, making the ratio of 3.28%” (Rockwell Collins). There was a huge increase in the assets for Rockwell Collins from 2016 to 2017, mostly in part of the purchase of B/E Aerospace. Rockwell reported on October 27, 2017 “that for the fiscal year 2017, operating activities garnered d a total of $1.264 billion. For the previous fiscal year, it was $723 million. The increase was brought about by the operating cash flow obtained from the B/E Aerospace acquisition and the increased cash collections coming from the customers of the other segments of the company.” Such was “partially offset by higher income tax payments and payments for B/E Aerospace acquisition-related expenses. Excluding the acquisition of B/E Aerospace, cash provided by operating activities increased $286 million or 40%, from the fiscal year 2016” (Rockwell Collins).
3.1.2 Inventory Turnover Ratio
Cornett, Adair and Nofsinger said, “As a company decides the optimal inventory level to hold on the balance sheet, managers must consider the trade-off between the advantages of holding sufficient levels of inventory.” This aims to maintain the rate of the production process going against the expenses that come with the act of holding huge volumes of inventory (Cornett, Nofsinger, & Adair, 2016).
“ One of the most frequently used ratios is the inventory turnover. The inventory turnover measures the number of dollars of sales produced per dollar of inventory. The cost of goods sold is used in the numerator when managers want to emphasize that inventory listed on the balance sheet at cost, that is, the cost of sales generated per dollar of inventory” (Cornett, Nofsinger, & Adair, 2016).
Cornett, Nofsinger and Adair also said that the “inventory turnover can be calculated by dividing the sales or cost of goods sold by the inventory.” In addition, Rockwell Collins unveiled that: “For 2017, sales for Rockwell Collins were $6.82 billion divided by the inventory value of $89 million, making the ratio 76.65%. In 2016, sales for Rockwell Collins were $5.259 billion, divided by the inventory value of $95 million, making the ratio of 55.35%. Total sales increased $1.563 billion or 30% in 2017, compared to 2016, primarily due to the B/E Aerospace acquisition, which contributed $1.406 billion worth of revenue. Sales excluding the B/E Aerospace acquisition (organic sales) increased to $157 million or three percent, compared to 2016, due to revenue growth across all of our legacy businesses. Information Management Services sales grew nine percent, Government Systems grew three percent, and Commercial Systems grew one percent” (Rockwell Collins).
Rockwell Collins also states that: “Inventories are stated at the lower of cost or market using costs, which approximate the first-in, first out method, where less related progress payments are received. Inventoried costs include direct costs of manufacturing, certain engineering costs, and allocable overhead costs. The Company regularly compares inventory quantities on hand on a part level basis, to estimated forecasts of product demand and production requirements, as well as historical usage. Based on these comparisons, management establishes an excess and obsolete inventory reserve, as needed. Inventory valuation reserves were $89 million and $95 million on September 30, 2017, and 2016, respectively” (Rockwell Collins).
3.1.3 Debt Ratio
Cornett, Nofsinger, and Adair define Debt Management Ratio as the “measurement of the limit to which firms use debts versus equities to fund its assets and to determine how well it can pay its debts. It also measures the total asset percentage funded using debt.” Debt ratio can be calculated by dividing the total debt by total assets (Cornett, Nofsinger, & Adair, 2016). “Rockwell’s debt ratio for 2017 is $7,155,000 in debt / $17,997,000 assets, which gives a debt ratio of 39%. Rockwell’s debt ratio for 2016 is $2,114,000 in debt / $7,999,000 assets, which gives a debt ratio of 36%” (Rockwell Collins).
“ The debt to equity ratio measures the dollars of debt financing used for every dollar of equity financing. To calculate the debt to equity ratio, divide the total debt by the total equity” (Cornett, Adair, & Nofsinger, 2016). “Rockwell’s debt to equity ratio for 2017 is $7,155,000 in debt / $6,043,000 in equity, which gives a debt to equity ratio of 1.08%. Rockwell’s debt to equity ratio for 2016 was $2,114,000 in debt / $2,078,000 in equity, which gives a debt to equity ratio of 1.01%” (Rockwell Collins).
Rockwell said on their notes on the financial statement that “short-term debt includes commercial paper borrowings incurred to fund a portion of our share repurchase program and also includes $200 million related to debt that matured in December 2013” (Rockwell Collins).
Gross Profit Margin
“ Profitability ratios show the combined effects of liquidity, asset management and debt management on the overall operating results of the firm. One of the most commonly used profitability ratios is the gross profit margin.” It pertains to the percentage of sales that remained after the deduction of the cost of sold goods (Cornett, Adair, & Nofsinger, 2016).
“ Rockwell’s gross profit margin for 2017 is $6.82B-$4.48B/$6.82B, which gives a debt to the profit margin ratio of 0.34%. Rockwell’s gross profit margin for 2016 is $5.26B-$3.4B/$5.26B, which gives a debt to the profit margin ratio of 0.36%” (Rockwell Collins).
3.1.4 Market to Book Value Ratios
“ Market value ratios relate a firm’s stock price to its earnings and its book value. For publically traded firms, market value ratios measure what investors think of the company’s future performance and risk.” The market to book ratio can be determined by dividing the market price per share by the existing book value per share (Cornett, Adair, & Nofsinger, 2016). In 2017, Rockwell reported that “their market to book ratio was 5.530% and in 2016, it was 6.414%. Currently, it is 3.165%.” When the UTC acquisition was announced, the stock prices went up. They have come down significantly since China trade issues have arisen. According to the NY Stock exchange, “The stock price today is $130.85.”
When Rockwell Collins purchased B/E Aerospace, it reported on October 2016 that the cost was $6.4 billion in stock and in cash, with the net debt assumption amounting to $1.9 billion. That is also $62.00 for every share (Rockwell Collins). That year, Rockwell Collins issued almost 400 million dollars in debt. At times, companies are forced to issue debt.
Investopedia defines this issue as “A debt issue is a financial obligation that allows the issuer to raise funds by promising to repay the lender at a certain point in the future and in accordance with the terms of the contract. A debt issue is a fixed corporate or government obligation, such as a bond or debenture. Debt issues also include notes, certificates, mortgages, leases, or other agreements between the issuer (the borrower) and lender (2017).”
3.2 Bond and Stock Analysis
3.2.1 Bond Analysis
“ Bonds of a company are equal to the sum of its short-term and long-term debts. (Cornett, Nofsinger, & Adair, 2016). Rockwell Collin’s short-term liabilities, as indicated in the 2017 annual report, are $600.4 million. The company’s long-term deficits, on the other hand, are $1.243 billion. Therefore, Rockwell Collin’s total bond is $1.84. Note that the total net worth or the sum of Rockwell Collins’s fixed and current assets, as per the 2017 annual report, is $7.162. That means the creditors own about 25.7 percent of Rockwell Collins, which puts Rockwell to an elevated risk of being taken over by the creditors because the debt is quite high. Also, the fact that the debtors occupy more than a quarter of Rockwell Collins gives them the power to influence the decisions made by the company. For example, the debtors can prevent Rockwell from taking additional huge loans, especially when they believe it will inconvenience the company from paying them.
The other adverse effect surrounding Rockwell Collins because of its huge bonds concerns the interest expense. According to the 2017 financial report, the company paid $76.2 million as interest expense. The interest expenses are charged at two different rates. (In 2015, Rockwell obtained debt worth $600 million from different banks at 2.165% interest rate for 2025 Notes and 1.755% interest rate for 2020 Notes). So, based on this deal alone, Rockwell incurs a total of 3.92% as the annual interest rate on debts, which is about $23.52 a year (3.92 percent of $600). Note that interest expense is subtracted from the company’s revenues in the income statement; as a result, the higher the interest expense, the lower the profitability.
In the 2017 financial year, for instance, Rockwell Collins’s interest expenses were 9.2 percent of its net income respectively (Annualreports.com, 2018). As stated earlier, high-interest expense reduces the profitability; consequently, the company usually remain with limited profit share to reinvest in the business which reduces its sustainability. In simple terms, the fact that Rockwell spends much of its profits on interest expenses, it usually remains with little profit shares to reinvest in sustainable programs such as research and innovation. As a result, its sales are more likely to decrease in the future, especially when its competitors come up with more efficient products.
3.2.2 Stock Analysis
The NYSE reports that the “The current price of Rockwell Collins is $132.92.” However, this price is more than that of its major competitors. The NYSE also reports that “The current stock price of Siemens AG is $59.18; ABB Ltd, $20.63; Schneider Electric SA, $74.45; Emerson Electric Co., $69.87; and Mitsubishi Electric Corp., $25.875.” That is the case despite the fact that most of these competitors are more profitable than Rockwell Collins. For example, Schneider Electric SA’s current stock price is $74.45, yet it made $2.24 billion net profit in the 2017 fiscal year, which is about thirty times $76.2 million that Rockwell garnered. According to Brooks and Mukherjee “the price of a company’s common stock has a strong correlation with its profitability, which means Rockwell Collins stock is overvalued.”
Book price of the stock : According to Rockwell Collins financial report, its book price of the stock is 164.84. However, the actual book value is extremely higher than that. The actual book value of the stock is estimated by dividing shareholders equity by the outstanding number of shares (Aharoni 2013).
In Rockwell’s case, the shareholders' equity, as per the 2017 financial report, was $1.9901 billion. The number of outstanding shares is 3,690,880. Therefore, the actual book value of Rockwell Company is $1.9901 billion ÷ 3,690,880 = $539.193. So, based on book value analysis, Rockwell’s current price is undervalued.
Forecasted price : Based on the information in the 2017 annual report, the forecasted stock price of Rockwell Collins can be estimated using the following formula. The forecasted price = current price × (1+ [last dividend/current price] + expected growth in dividend) time (t). The last dividend for Rockwell Company was $3.04. The current price is $132.92. However, the expected growth is unknown, but it can be estimated using the average of the last growths, i.e., the mean of growth in the dividend over 2015-2016 and 2016-2017. (Dividends in 2015 and 2016 were $2.6 and $2.9 respectively). Therefore growth in 2015-2016 and 2016-2017 periods were 0.12 and 0.05, respectively, and their mean is 0.085. If you substitute in the original formula, the forecasted price of Rockwell Company in FY2018 = $132.92 × (1+[3.04/132.92] + 0.085)2= $248.94. Using the P/E ratio (price per share/dividend per share), the projected value of Rockwell Collins is $43.72 or 132.92/3.04.
Fair value : The fair value of the stock is estimated using the P/E ratio (price per share/dividend per share) and then comparing with other companies in the industry (Aharoni 2013). Therefore, the fair value of Rockwell Collins is $43.72 or 132.92/3.04. It is fair since it close to current stock prices of most of its competitors including Siemens AG whose price is $59.18.
4.0 Recommendation
This section will explain what you as an investor or stakeholder of Rockwell Collins Company should be aware of. There will be multiple (and even contrasting) recommendations depending on the analytical results of the variables used in the analysis. However, there will only be one overall recommendation. Let’s start with the current ratio. Rockwell Collins’ current ratio was 3.28% percent in FY2017, which means its current assets were three times higher than (or was three times more able to cater for) its current liabilities. Therefore, investors should invest in the company as it is self-sustainable.
Secondly, Rockwell Collins’ inventory turnover ratio was 55.35% in FY2017. That means every dollar the company spends to buy inventory rewarded them about $55.35 in sales. Simply put, the result shows that the company’s production is very efficient, and therefore, the investors should venture in it. Concerning, the debt ratio, Rockwell Collins’ was 26% and 39% in FY2016 and FY2017, respectively. Although the difference indicates that the company’s debts increased over the two fiscal periods, still, the proportion of debt was very small compared to its assets. As a result, it incurred relatively smaller interest expenses, plus creditors had/have little influence on the company’s decision-making process. Therefore, it is recommendable for the investors to venture in Rockwell Collins.
Based on the gross profit margin analysis, Rockwell Collins’ was 0.36% in FY2017. However, that means about 64% of the company’s sales revenue were spend on the production and marketing process. Therefore, it is recommendable for the company to reduce its expenditures so as to improve its profitability. Simply put, based on gross profit analysis, investors are discouraged from venturing in Rockwell Collins since the company’s low profitability will reduce the dividend level.
The last financial ratio analysis focuses on the market to book value analysis. Based on the records, Rockwell Company’s market to book value ratio was 5.53%, 6.414%, 3.3165%, in FY2016, FY2017 and FY2018 respectively. Although the trend implies that the value of the company’s shares is unstable (fluctuating), the good part is that if the initial investors sell their stock today, they will earn at least three times more than what they spent to purchase them. However, new investors should not buy Rockwell Company’s stock because the chances of making losses in the future are very high (the market trend is very volatile).
Regarding bond analysis, Rockwell Collins’ ratio of bond to net worth was $25.7% in FY2017. As a result, incurred relatively smaller interest expenses, plus creditors had/have little influence in the decision-making process in the company. Therefore, it is recommendable for the investors to venture in Rockwell Collins. Finally, concerning the stock analysis, the value of the company’s stock is overvalued, meaning it is more likely to fall to the actual level in the future. Therefore, the best option for investors is to sell their shares. In general, I recommend the investors to venture in Rockwell Company since its strengths outweigh the weaknesses.
5.0 Conclusion
This paper sought to present a detailed analysis of Rockwell Collins’ bond and stock analysis, as well as financial ratio analysis. To do so, the company’s financial records were examined and used in the analysis. Among the financial ratios used in the analysis include; the current ratio, the inventory turnover ratio, gross profit margin, debt ratio, and market to book value ratio. The bond and stock analysis focused on the variables like the book to price value, forecasted price, and fair price. Finally, the recommendations were made based on the outcomes. In general, the paper succeeded to present what it intended to. However, the subsequent analysis should include more financial ratios, such quick ratio to, in order get more reliable results.
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