Accounting Business Reporting for Decision Making

346 Accounting: Business Reporting for Decision Making

The cash debt coverage ratio for 2015 indicates that, if JB Hi-Fi Ltd maintains its net operating cash

flow, it would take the company on average less than one year of operating cash flows to repay its

non-current liabilities. This is less than the 5.15 years indicated by the 2014 ratio.

Entities complying with accounting standards disclose further details about their borrowings such as

the weighted average interest rate, overdraft facilities and other secured debt. This provides users with

further information about entities’ debt funding and the facilities available to the entities. JB Hi-Fi Ltd

makes this disclosure in note 33.

VALUE TO BUSINESS

•   An entity’s assets must be financed by debt, contributions by owners or retained earnings. The

ratios that depict an entity’s reliance on debt funding relative to equity funding are capital structure

(gearing) ratios.

•   Capital structure ratios can express debt relative to assets (debt ratio), debt relative to equity (debt/

equity ratio) or equity relative to assets (equity ratio). An entity’s capital structure ratios indicate the

entity’s exposure to financial risk.

•   The interest coverage ratio and cash debt coverage ratio indicate the ability of an entity to meet its

interest commitments. The ratios reflect the entity’s safety margin of profits or cash flows to meet

debt-servicing charges.

8.8 Market performance analysis

LEARNING OBJECTIVE 8.8 Define, calculate and interpret the ratios that measure market performance.

We will briefly examine market performance ratios (also referred to as market test ratios) in this sec-

tion. These ratios are most applicable to companies listed on organised securities exchanges as the ratios

relate reported numbers to the number of shares on issue or the market price of the share. The ratios we

will introduce are ratios that are commonly referred to in the financial press.

Net tangible assets per share

The net tangible asset backing (NTAB) per share provides an indication of the book value of the com-

pany’s tangible assets (as reported in the balance sheet) per ordinary share on issue. The intangible assets,

such as goodwill, are excluded from the calculation due to their lack of identifiability. The NTAB per share

is not an indication of the cash that would be available per share if the company’s assets were liquidated

and the proceeds used to discharge the company’s debts, due to the peculiarities of asset values in the bal-

ance sheet. Remember from previous chapters that the book values of assets do not necessarily reflect their

realisation value. It is useful to compare a company’s NTAB per share with its share price, and that share

price will normally exceed the NTAB per share. The magnitude of the excess reflects the market’s assess-

ment of the entity’s future growth prospects. A company trading at a much lower price than its NTAB per

share is a prime candidate for a takeover as this indicates that the value obtained from buying the company

and then selling off its assets is higher than the price that would have to be paid to acquire the company in

the marketplace. The net tangible asset backing per share is calculated as:

Ordinary shareholders’ equity − Intangible assets

=x cents/share

Number of ordinary shares on issue at year-end

Earnings, cash flow and dividend per share

A measure of the profit generated for each ordinary share on issue is the earnings per share. Earnings

per share (EPS) is the entity’s profit expressed relative to the number of ordinary shares on issue.