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Determining a company's financial health is a very important step in making a decision on whether or not to invest or to stay invested. There are many different ways to compute a company's financial health. In the article below, I will be considering CF Industries Holdings Inc.'s (NYSE:CF) profitability, debt and capital and operating efficiency. Based on this we get to see sales, returns, margins, liabilities, assets, returns and turnovers.

All numbers sourced from Morningstar, CF Industries Website and MSN Money.

Profitability

Profitability is a class of financial metrics used to assess a business' ability to generate earnings compared with expenses and other relevant costs incurred during a specific period of time. In this section, we will look at four tests of profitability. They are: Net Income, Operating Cash Flow, Return on Assets, and Quality of Earnings. From these four metrics, we will establish if the company is making money, and gauge the quality of the reported profits.

  • Net Income 2010 = $349 million
  • Net Income 2011 = $1.539 billion
  • Net Income 2012 TTM = $1.817 billion

Over the past three years CF Industries is showing substantial growth regarding its net income. CF has shown an increase of 520.63% since 2010.

  • Operating Cash Flow 2010 = $896 million
  • Operating Cash Flow 2011 = $2.791 billion
  • Operating Cash Flow 2012 TTM = $3.174 billion

Operating Cash Flow is the cash generated from the operations of a company, generally defined as revenue less all operating expenses, but calculated through a series of adjustments to net income.

Over the past three years the company's operating cash flow has also significantly increased. The CF industries operating cash has increased by 354.24%.

ROA -- Return On Assets = Net Income/Total Assets

ROA is an indicator of how profitable a company is relative to its total assets. ROA gives an idea as to how efficient management is at using its assets to generate earnings. Calculated by dividing a company's net income by its total assets, ROA is displayed as a percentage. Sometimes this is referred to as "return on investment."

  • Net income growth

    • Net Income 2010 = $349 million
    • Net Income 2011 = $1.539 billion
    • Net Income 2012 TTM = $1.817 billion
  • Total Asset growth

    • Total Assets 2010 = $8.759 billion
    • Total Assets 2011 = $8.975 billion
    • Total Assets 2012 TTM = $10.183 billion
  • ROA -- Return On Assets

    • Return On Assets 2010 = 3.98%
    • Return On Assets 2011 = 17.15%
    • Return On Assets 2012 TTM = 17.84%

Over the past three years, CF Industries' ROA has increased from 3.98% in 2011 to 17.84% in 2012 TTM. This indicates that the company is making more money on its assets than it did in 2011. According to MSN money CF industries' ROA is above the industry average of 15.7%.

Quality Of Earnings

Quality of Earnings is the amount of earnings attributable to higher sales or lower costs rather than artificial profits created by accounting anomalies such as inflation of inventory. To ensure there are no artificial profits being processed, the operating cash flow must exceed the net income.

2010

  • Operating Cash Flow 2010 = $896 million
  • Net Income 2010 = $349 million

2011

  • Operating Cash Flow 2011 = $2.791 billion
  • Net Income 2011 = $1.539 billion

2012 TTM

  • Operating Cash Flow 2012 TTM = $3.174 billion
  • Net Income 2012 TTM = $1.817 billion

Over the past three years, the operating cash flow has been higher than the net income. This indicates that the company is not artificially creating profits by accounting anomalies such as inflation of inventory.

Debt And Capital

The Debt and Capital section establishes if the company is sinking into debt or digging its way out. It will also determine if the company is growing organically or raising cash by selling off stock.

Total Liabilities To Total Assets, Or TL/A ratio

TL/A ratio is a metric used to measure a company's financial risk by determining how much of the company's assets have been financed by debt.

  • Total Assets

    • Total Assets 2010 = $8.759 billion
    • Total Assets 2011 = $8.975 billion
    • Total Assets 2012 TTM = $10.183 billion
    • Equals an increase of 16.26%
  • Total Liabilities

    • Total Liabilities 2010 = $4.708 billion
    • Total Liabilities 2011 = $4.428 billion
    • Total Liabilities 2012 TTM = $4.725 billion
    • Equals an increase of 0.36%

Over the past three years, CF Industries has acquired more total assets than total liabilities. This indicates that the company not has been financing its assets through debt. Over the past three years, the company's total assets increased by 16.26%, while the total liabilities increased by 0.36%.

Working Capital

Working Capital is a general and quick measure of liquidity of a firm. It represents the margin of safety or cushion available to the creditors. It is an index of the firm's financial stability. It is also an index of technical solvency and an index of the strength of working capital.

Current Ratio = Current Assets/Current liabilities

  • Current Assets

    • Current Assets 2010 = $1.341 billion
    • Current Assets 2011 = $1.799 billion
    • Current Assets 2012 TTM = $3.015 billion
  • Current liabilities

    • Current liabilities 2010 = $947 million
    • Current liabilities 2011 = $1.031 billion
    • Current liabilities 2012 TTM = $1.194 billion
  • Current Ratio 2010 = 1.41
  • Current Ratio 2011 = 1.74
  • Current Ratio 2012 TTM = 2.53

Over the past three years, CF Industries' current ratio has increased from 1.41 in 2010 to 2.53 in 2012 TTM. This indicates that the company has more of the ability to pay off its short-term obligations than it did three years ago. As the most recent number is well above 1, this indicates that the company would be able to pay off its obligations if they came due at this point.

Shares Outstanding

  • 2010 Shares Outstanding = 65 million
  • 2011 Shares Outstanding = 70 million
  • 2012 Shares Outstanding = 63 million

Over the past three years, the number of company shares has decreased. CR Industries' shares have decreased from 65 million in 2010 to the current number of 63 million. This is a decrease of 3.07%. This indicates that CF Industries is not issuing shares to raise money.

Operating Efficiency

Operating Efficiency is a market condition that exists when participants can execute transactions and receive services at a price that equates fairly to the actual costs required to provide them. An operationally efficient market allows investors to make transactions that move the market further toward the overall goal of prudent capital allocation without being chiseled down by excessive frictional costs, which would reduce the risk/reward profile of the transaction.

Gross Margin: Gross Income/Sales

The gross profit margin is a measurement of a company's manufacturing and distribution efficiency during the production process. The gross profit tells an investor the percentage of revenue/sales left after subtracting the cost of goods sold. A company that boasts a higher gross profit margin than its competitors and industry is more efficient. Investors tend to pay more for businesses that have higher efficiency ratings than their competitors, as these businesses should be able to make a decent profit as long as overhead costs are controlled (overhead refers to rent, utilities, etc.).

  • Gross Margin 2010 = $1.180 billion / $3.965 billion = 29.76%
  • Gross Margin 2011 = $2.896 billion / $6.098 billion = 47.49%
  • Gross Margin 2012 TTM = $3.322 billion / $6.341 billion = 52.39%

Over the past three years, the gross margin also has increased significantly. The ratio has increased from 29.76% in 2010 to 52.39%. As the margin has increased, this indicates the company has been more efficient in its distribution.

Asset Turnover

The formula for the asset turnover ratio evaluates how well a company is utilizing its assets to produce revenue. The numerator of the asset turnover ratio formula shows revenue found on a company's income statement and the denominator shows total assets, which are found on a company's balance sheet. Total assets should be averaged over the period of time that is being evaluated.

  • Revenue growth

    • Revenue 2010 = $3.965 billion
    • Revenue 2011 = $6.098 billion
    • Revenue 2012 TTM = $6.341 billion
    • Equals an increase of 59.92%
  • Total Asset growth

    • Total Assets 2010 = $510 million
    • Total Assets 2011 = $726 million
    • Total Assets 2012 TTM = $1.135 billion
    • Equals an increase of 122.54%

As the revenue growth has not exceeded the asset growth, this implies that the company's assets have increased at a higher percentage than the revenue.

Based on the nine different criteria above, CF Industries is showing excellent growth. The ROA has increased significantly, the assets have increased significantly while the liabilities have remained relatively the same. The only blemish on the above listed ratios is the asset turnover ratio. This ratio indicates that the CF Industries' assets increased faster than the company's revenue. Overall, CF Industries has shown excellent growth over the past three years.

As the above ratios indicate, CF Industries has shown significant strength over the past three years. Analysts at Bloomberg businessweek are estimating CF Industries growth to stabilize over the next couple of years. They are estimating CF Industries revenue to be at 6.2 billion for FY 2012 and 6.1 billion for 2013. They are also estimating CF Industries to have an EPS at $27.52 for FY 2012 and $25.59 for FY 2013.

Source: CF Industries: Inside The Numbers