Month: June 2020

The database is an organized collection of structured data to make it easily accessible, manageable and update. In simple words, you can say, a database in a place where the data is stored. The best analogy is the library. The library contains a huge collection of books of different genres, here the library is database and books are the data.

In layman terms, consider your school registry. All the details of the students are entered in a single file. You get the details regarding the students in this file. This is called a Database where you can access the information of any student.

Facts about Database:

• Databases have evolved dramatically since their inception in the early 1960s.
• Some Navigational databases such as the Hierarchical database and the Network database were the original systems used to store and manipulate data. Although these early systems were actually inflexible
• In the early 1980s, Relational databases became very popular, which was followed by object-oriented databases later on.
• More recently, NoSQL databases came up as a response to the growth of the internet and the need for faster speed and processing of unstructured data.
• Today, we have cloud databases and self-driving databases that are creating a new ground when it comes to how data is collected, stored, managed, and utilized.

Database Components

The major components of the Database are:

1. Hardware

This consists of a set of physical electronic devices such as I/O devices, storage devices and many more. It also provides an interface between computers and real-world systems.

2. Software

This is the set of programs that are used to control and manage the overall Database. It also includes the DBMS software itself. The Operating System, the network software being used to share the data among the users, the application programs used to access data in the DBMS.

3. Data

Database Management System collects, stores, processes, and accesses data. The Database holds both the actual or operational data and the metadata.

4. Procedure

These are the rules and instructions on how to use the Database in order to design and run the DBMS, to guide the users that operate and manage it.

5. Database Access Language

It is used to access the data to and from the database. In order to enter new data, updating, or retrieving requires data from databases. You can write a set of appropriate commands in the database access language, submit these to the DBMS, which then processes the data and generates it, displays a set of results into a user-readable form.

Advantage of database

• Reduced data redundancy.
• Also, there is reduced updating errors and increased consistency.
• Easier data integrity from application programs.
• Improved data access to users through the use of host and query languages.
• Data security is also improved.
• Reduced data entry, storage, and retrieval costs.

Disadvantage of database

• Complexity: Databases are complex hardware and software systems.
• Cost: It requires significant upfront and ongoing financial resources.
• Security: Most leading companies need to know that their Database systems can securely store data, including sensitive employee and customer information.
• Compatibility: There is a risk that a DBMS might not be compatible with a company’s operational requirements.

Types of Database

There are a few types that are very important and popular.

• Relational Database
• Object-Oriented Database
• Distributed Database
• NoSQL Database
• Graph Database
• Cloud Database
• Centralization Database
• Operational Database

Capital gearing ratio is a useful tool to analyze the capital structure of a company and is computed by dividing the common stockholders’ equity by fixed interest or dividend bearing funds.

Analyzing capital structure means measuring the relationship between the funds provided by common stockholders and the funds provided by those who receive a periodic interest or dividend at a fixed rate.

A company is said to be low geared if the larger portion of the capital is composed of common stockholders’ equity. On the other hand, the company is said to be highly geared if the larger portion of the capital is composed of fixed interest/dividend bearing funds.

formula:

Capital gearing ratio = (Common Stockholder^’ s equity)/(Fixed cost cost bearing funds)

In the above formula, the numerator consists of common stockholders’ equity that is equal to total stockholders’ equity less preferred stock and the denominator consists of fixed interest or dividend bearing funds that usually include long term loans, bonds, debentures and preferred stock etc.

Gearing (%) = (longterm Liabilities)/(Capital employed)

Notes:

Long-term liabilities include loans due more than one year + preference shares + mortgages

Capital employed = Share capital + retained earnings + long-term liabilities

How can the gearing ratio be evaluated?

• A business with a gearing ratio of more than 50% is traditionally said to be “highly geared”.
• A business with gearing of less than 25% is traditionally described as having “low gearing”
• Something between 25% – 50% would be considered normal for a well-established business which is happy to finance its activities using debt.

It is important to remember that financing a business through long-term debt is not necessarily a bad thing! Long-term debt is normally cheap, and it reduces the amount that shareholders have to invest in the business.

What is a sensible level of gearing? Much depends on the ability of the business to grow profits and generate positive cash flow to service the debt. A mature business which produces strong and reliable cash flows can handle a much higher level of gearing than a business where the cash flows are unpredictable and uncertain.

Another important point to remember is that the long-term capital structure of the business is very much in the control of the shareholders and management. Steps can be taken to change or manage the level of gearing for example:

The current ratio, also known as the working capital ratio, measures the capability of a business to meet its short-term obligations that are due within a year. The ratio considers the weight of total current assets versus total current liabilities. It indicates the financial health of a company and how it can maximize the liquidity of its current assets to settle debt and payables.  The Current Ratio formula (below) can be used to easily measure a company’s liquidity.

Current Ratio = Current Assets / Current Liabilities

What are Current Assets?

Current assets are resources that can quickly be converted into cash within a year’s time or less. They include the following:

• Cash: Legal tender bills, coins, undeposited checks from customers, checking and savings accounts, petty cash
• Cash equivalents: Corporate or government securities with 90 days or less maturity
• Marketable securities: Common stock, preferred stock, government and corporate bonds with a maturity date of 1 year or less
• Accounts receivable: Money owed to the company by customers and that is due within a year. This net value should be after deducting an allowance for doubtful accounts (bad credit)
• Notes receivable: Debt that is maturing within a year
• Other receivables: Insurance claims, employee cash advances, income tax refunds
• Inventory: Raw materials, work-in-process, finished goods, manufacturing/packaging supplies
• Office supplies: Office resources such as paper, pens, and equipment expected to be consumed within a year
• Prepaid expenses: Unexpired insurance premiums, advance payments on future purchases

 What are Current Liabilities?

Current liabilities are business obligations owed to suppliers and creditors, and other payments that are due within a year’s time. This includes:

• Notes payable: Interest and the principal portion of loans that will become due within one year
• Accounts payable or Trade payable: Credit resulting from the purchase of merchandise, raw materials, supplies, or usage of services and utilities
• Accrued expenses: Payroll taxes payable, income taxes payable, interest payable, and anything else that has been accrued for but an invoice is not received
• Deferred revenue: Revenue that the company has been paid for that will be earned in the future when the company satisfies revenue recognition requirements

 Why Use the Current Ratio Formula?

This current ratio is classed with several other financial metrics known as liquidity ratios. These ratios all assess the operations of a company in terms of how financially solid the company is in relation to its outstanding debt. Knowing the current ratio is vital in decision-making for investors, creditors, and suppliers of a company. The current ratio is an important tool in assessing the viability of their business interest.

The Debt Service Coverage Ratio (DSCR) measures the ability of a company to use its operating income to repay all its debt obligations, including repayment of principal and interest on both short-term and long-term debt. This ratio is often used when a company has any borrowings on its balance sheet such as bonds, loans, or lines of credit. It is also a commonly used ratio in a leveraged buyout transaction, to evaluate the debt capacity of the target company, along with other credit metrics such as total debt/EBITDA multiple, net debt/EBITDA multiple, interest coverage ratio, and fixed charge coverage ratio.

Debt Service coverage Ratio = EBITDA / (interest + Principle)

Debt Service coverage Ratio = (EBITDA-Capex) / (interest + Principle)

Where:

• EBITDA = Earnings Before Interest, Tax, Depreciation, and Amortization
• Principal = the total loan amount of short-term and long-term borrowings
• Interest = the interest payable on any borrowings
• Capex = Capital Expenditure

 Some companies might prefer to use the latter formula because capital expenditure is not expensed on the income statement but rather considered as an “investment”. Excluding CAPEX from EBITDA will give the company the actual amount of operating income available for debt repayment.

Interpretation of the Debt Service Coverage Ratio

A debt service coverage ratio of 1 or above indicates that a company is generating sufficient operating income to cover its annual debt and interest payments. As a general rule of thumb, an ideal ratio is 2 or higher. A ratio that high suggests that the company is capable of taking on more debt.

A ratio of less than 1 is not optimal because it reflects the company’s inability to service its current debt obligations with operating income alone. For example, a DSCR of 0.8 indicates that there is only enough operating income to cover 80% of the company’s debt payments.

Rather than just looking at an isolated number, it is better to consider a company’s debt service coverage ratio relative to the ratio of other companies in the same sector. If a company has a significantly higher DSCR than most of its competitors, that indicates superior debt management. A financial analyst may also want to look at a company’s ratio over time to see whether it is trending upward (improving) or downward (getting worse).

The Dividend Payout Ratio (DPR) is the amount of dividends paid to shareholders in relation to the total amount of net income the company generates. In other words, the dividend payout ratio measures the percentage of net income that is distributed to shareholders in the form of dividends.

Dividend payout Ratio = Dividends (or Dividends per Share) / Net income (income per Share)

Dividend Payout Ratio Formula

There are several formulas for calculating DPR:

1. DPR = Total dividends / Net income
2. DPR = 1 – Retention ratio (the retention ratio, which measures the percentage of net income that is kept by the company as retained earnings, is the opposite, or inverse, of the dividend payout ratio)
3. DPR = Dividends per share / Earnings per share

Interpretation of Dividend Payout Ratio

The dividend payout ratio helps investors determine which companies align best with their investment goals. When shareholders invest in a company, return on their investment comes from two sources: dividends and capital gains. The two sources of return are related as follows:

• A high DPR means that the company is reinvesting less money back into its business, while paying out relatively more of its earnings in the form of dividends. Such companies tend to attract income investors who prefer the assurance of a steady stream of income to a high potential for growth in share price.
• A low DPR means that the company is reinvesting more money back into expanding its business. By virtue of investing in business growth, the company will likely be able to generate higher levels of capital gains for investors in the future. Therefore, these types of companies tend to attract growth investors who are more interested in potential profits from a significant rise in share price, and less interested in dividend income.

The dividend payout ratio is not intended to assess whether a company is a “good” or “bad” investment. Rather, it is used to help investors identify what type of returns dividend income vs. capital gains – a company is more likely to offer the investor. Looking at a company’s historical DPR helps investors determine whether or not the company’s likely investment returns are a good match for the investor’s portfolio, risk tolerance, and investment goals. For example, looking at dividend payout ratios can help growth investors or value investors identify companies that may be a good fit for their overall investment strategy.

The DPR can also be used to gauge a company’s level of maturity, as follows:

• Younger, more rapidly growing companies are more likely to report a low DPR as they reinvest most of their earnings into the business for expansion and future growth.
• More mature, established companies, with a steadier but probably slower growth rate, are more likely to have a relatively high DPR as they do not feel the need to commit a high percentage of their earnings to business expansion. Blue chip stocks, such as Coca-Cola or General Motors, often have relatively higher dividend payout ratios.

Keep in mind that average DPRs may vary greatly from one industry to another. Many high-tech industries tend to distribute little to no returns in the form of dividends, while companies in the utility industry generally distribute a large portion of their earnings as dividends. Real estate investment trusts (REITs) are required by law to pay out a very high percentage of their earnings as dividends to investors.

Expense ratio (expense to sales ratio) is computed to show the relationship between an individual expense or group of expenses and sales. It is computed by dividing a particular expense or group of expenses by net sales.  Expense ratio is expressed in percentage.

Formula:

Expenses Ratio ( Particular expenses / Net Sales ) * 100

The numerator may be an individual expense or a group of expenses such as administrative expenses, sales expenses or cost of goods sold.

Significance and Interpretation:

Expense ratio shows what percentage of sales is an individual expense or a group of expenses. A lower ratio means more profitability and a higher ratio means less profitability.

Analyst must be careful while interpreting expense to sales ratio. Some expenses vary with the change in sales (i.e variable expenses). The ratio for such expenses normally does not change significantly as the sales volume increases or decreases. For fixed expenses (rent of building, fixed salaries etc.), the ratio changes significantly as the sales volume changes. The ratio is helpful in controlling and estimating future expenses.

In Mutual fund Industry

Annual Fund Operating Expenses, mostly known as the expense ratio, is the percentage of assets payable to the fund manager (i.e. AMC).

The asset manager, with the help of a team of analysts and other experts, allocate, manage (including the auditor and advisor fees) and advertise the fund to maximise returns and manage risks.

If the funds’ assets are small, then the expense ratio can be high. This is because the fund has to meet its expenses from a restricted or a smaller asset base.

Similarly, if the net assets of the fund are significant, then the expense percentage should ideally come down.
On 18 September 2018, SEBI brought about significant modifications by reducing TER of the mutual funds and changing the method of providing a commission to the distributors. Read more about it here

What are the Components of Expense Ratio?

The expense ratio includes numerous charges for smoothly running the mutual fund scheme. They recover this cost from the mutual fund investors on a day-to-day basis.
However, they disclose it to the investors once in every six months. Also, this will have a substantial impact on your take-home returns.
There are three major types of expenses as part of the expense ratio.

There are three major types of expenses as a part of the Expense Ratio. 

a. Management Fees

Mutual funds require the formulation of investment strategies before actually investing money in the underlying assets. Fund managers need to possess a high level of educational, relevant fund management experience, and professional credentials.

The management fee or investment advisory fee is compensation for these managers’ expertise. On average, this annual fee is about 0.50% to 1% of the funds’ assets.

b. Administrative Costs

The administrative costs are the expenses of running the fund. This would include keeping records, customer support, and service, information emails, and communications. They can vary greatly and are expressed as a percentage of fund assets.

c. 12-1b Distribution Fees

Many mutual funds collect the 12-1b distribution fee for advertising and promotional purposes. Usually, they charge their shareholders to market and promote the fund to the investors. These three fees combined are equal to the percentage of assets deducted from the fund.

Expense Ratio Limit By SEBI

All expenses of an AMC must be managed within limits specified under Regulation 52 of SEBI Mutual Fund Regulations. As per these regulations, the total expense ratio (TER) allowed is 2.5% for the first Rs.100 crore of average weekly total net assets, 2.25% for the next Rs.300 crore, 2% for the next Rs.300 crore and 1.75% for the rest of the AUM.
The limit for debt fund is 2.25%. On top of this, the Securities and Exchange Board of India allows all the mutual funds to charge 30 basis points more as an incentive to penetrate in smaller towns (B15 Cities). These cities also enjoy an additional 20 basis points as exit load charges.

How does Expense Ratio impact Fund Returns?

Expense ratios indicate how much the fund charges in terms of percentage annually to manage your investment portfolio. If you invest Rs.20,000 in a fund which has an expense ratio of 2%, then it means that you need to pay Rs.400 to the fund house to manage your money.

In simple words, if a fund earns returns equal to 15% and has TER of 2%, then you will make a return equal to 13%. The Net Asset Value (NAV) of a fund is reported after deducting all fees and expenses. Hence, it becomes essential to know how much are you paying to the fund house.

Expense Ratio Implications

Expense ratio indicates the percentage of sales to the total of individual expense or a group of costs. A lower rate means more profitability and a higher rate means lesser profitability. It becomes critical for schemes with comparatively more moderate yields.

Apart from that, you may use expense ratio to differentiate between actively managed and passively managed funds. In case of actively managed equity funds, the alpha generated by the fund manager is a compelling justification for the fee they charge. If you find a wide divergence between the returns of your fund and index funds, then you may think of making a switch.