The financial analysis of a company is useful to understand how the business has performed in the last accounting period. Although the analysis is based on historical financial information, it helps in identifying the key areas of high and low performances (Fridson & Alvarez 2011). The financial analysis is relevant to both internal and external stakeholders. It can help internal stakeholders in recognizing the weaknesses of their business and taking steps to improve its position. External shareholders and analysts use financial analysis to ascertain if the company is likely to generate a higher return on their investment in the coming period (Brigham & Daves 2014).
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The financial analysis of oil and gas companies involves the determination of various measures of performance. The information provided by companies in the financial statements is specific to the industry, and it is difficult to understand (Javadi, Simkins & Wicker 2013). Therefore, financial analysis enhances users’ understanding of the financial information provided by oil and gas companies. The financial analysis covers “leverage, liquidity, exploration efforts, and size” of oil and gas companies (Abdel-Khalik 1993). The most useful tool of financial analysis is financial ratio analysis. The financial ratio analysis can be used to perform a survival analysis of oil and gas companies. It also allows comparison with industry averages (Johnston & Johnston 2006).
The role of financial analysis in project financing is important. The financial analysis supports the financing decisions of a company (Soyode & Ariyo 2014). The company decides to raise funds from equity or debt-based on the findings of the financial analysis. It could help analysts in ascertaining free cash flows of a project. The analysis determines the cost of capital including the cost of debt and cost of equity that is used for discounting free cash flows of a project. If the project has a positive net present value, then it must be accepted (Brigham & Daves 2014).
Table 1 indicates that the value of the current ratio was 1.62 in 2010 that declined to 1.41 in 2011. The change was due to the significant increase in the company’s current liabilities including accounts payable and accrued expenses.
Table 1: Current Ratio.
|Current Assets / Current Liabilities||6,931/4,899||1.41||6,675/4,114||1.62|
The quick ratio does not include inventory in current assets for calculation as it has low liquidity when compared with other current assets. Table 2 indicates that the value of the quick ratio was 1.22 and 1.48 in 2011 and 2010 respectively. The decline was due to the increase in the company’s current liabilities in 2011.
Table 2: Quick Ratio.
|(Current Assets – Inventory) / Current Liabilities||(6,931-975)/4,899||1.22||(6,675-572)/4,114||1.48|
Table 3 indicates that the value of the Debt to Equity Ratio increased from 1.40 in 2010 to 1.73 in 2011. It was due to the increase in the company’s long-term borrowing. Furthermore, the company’s retained earnings declined in 2011 that resulted in a higher debt to equity ratio value.
Table 3: Debt to Equity Ratio.
|Debt to Equity Ratio|
|Total Debt / Total Equity||32,796/18,983||1.73||30,120/21,,439||1.40|
Table 4 indicates that the company’s networking capital decline in 2011 due to the significant increase in its current liabilities.
Table 4: Net Working Capital.
|Net Working Capital|
|Current Assets – Current Liabilities||6,931-4,899||$2,032||6,675-4,114||$2,561|
List of References
Abdel-Khalik, AR 1993, ‘Discussion of “Financial Ratios and Corporate Endurance: A Case of the Oil and Gas Industry’, Contemporary Accounting Research, vol 9, no. 2, pp. 695-705.
Brigham, EF & Daves, R 2014, Intermediate Financial Management, Cengage Learning, Boston, MA.
Fridson, S & Alvarez, F 2011, Financial Statement Analysis: A Practitioner’s Guide, John Wiley & Sons, Danvers, MA.
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Javadi, S, Simkins, BK & Wicker, ME 2013, ‘Financial Statement Analysis for Oil and Gas Companies and Competitive Benchmarking’, in Energy Finance and Economics: Analysis and Valuation, Risk Management, and the Future of Energy, John Wiley & Sons, Hoboken , NJ.
Johnston, C & Johnston, D 2006, Introduction to Oil Company Financial Analysis, PennWell Books, Tulsa, Oklahoma.
Soyode, A & Ariyo, A 2014, ‘Adequacy or Inadequacy of Accounting Information In Annual Financial Reports: Methodological Analysis’, Journal of Financial Management and Analysis, vol 27, no. 1, pp. 33-40.