Financial Analysis report
Myer Holdings is engaged as a department store retailer in Australia, with a valuable footprint of 65 stores in the reachablity of the target market. The organisation considers itself the largest retailer in the Australian market with a sales value amounting to over 3.2 billion in 2009. Significant investments are undertaken by the company to enhance efficiency and effectiveness. For example, distribution centres have been diminished from eight to four.
The two key elements that an equity investor considers in the decision pertinent to acquiring shares encompass the return derived from such an investment and the risks pertinent to it. A close examination of the Income Statement is necessary in order to evaluate the return potential. As regards risks an evaluation of the financial stability of the company is undertaken. Liquidity is also considered to determine the firms liquidity risks. A creditor is keener on the cash flow of the organisation in order to determine the potential of the company to make payments on time. Risk is also important leading again to the aforesaid relevant variables.
Financial Analysis of Madison Stores Limited
A ratio by itself is meaningless. Therefore, it is important that the ratios computed in this financial report are either compared over time or with companies operating in the same industry. For this reason, the key ratios for 2009 and 2008 will be computed to outline any underlying trends. Their respective calculations are outlined in Appendix A of this paper. The key factors noted from such ratio analysis will be further sustained or contradicted with the adoption of a horizontal analysis. This consists of an examination of the percentage increase or decrease in key items present in the income statement, balance sheet and cash flow statement (investopedia n. d.). The horizontal analysis computations are portrayed in Appendix B of this report. A structure will also be provided to this financial report, whereby the financial health will be subdivided between profitability, liquidity and financial stability.
Profitability
An increase is noted in the resource utilisation ratios as portrayed in the graph above. The increase in the asset turnover indicates that the assets of the organisation were utilised in a more effective way to generate sales. The rise in the return on assets shows that assets were also utilised more proficiently to generate profits. The horizontal analysis performed in Appendix B, outlines a 26.10 rise in sales revenue and a 51.36 increase in net income, which sustain the above arguments.
In Appendix A the gross profit and net profit margins have also been computed. Their results are portrayed graphically above, where a decrease in the gross profit margin and an increase in net profit margin are noted. The gross profit margin and net profit margin indicate the gross profit and net profit made out of every 100 of sales. Therefore a decrease in the gross profit margin indicates lower gross profit from sales. The horizontal analysis shows that sales increased by 26.10. However, cost of sales increased by a higher rate of 38.76. Therefore the decline in the gross profit margin is the result of decreased efficiency in direct costs. However, one may wonder why the net profit margin increased in light of such rise in direct expenditure. One has to remember that net profit is not solely affected by direct costs. There are also operating expenses, other expenditure and taxation which affect net profit. A decline is noted in operating expenses in the horizontal analysis of 7.04, which contributed to such increase in net profit. Indeed, both operating profit and net profit increased by 48.01 and 51.36.
The aforementioned increases in profits are a positive element for the potential equity investor. This stems from the fact that potential returns are higher when there are increases in profits. In fact, the return on equity ratio substantiates such argument. An increase in the return on equity ratio means that the return that shareholders attain from their investment is higher.
Financial Position
As already hinted by the bar chart above, the working capital management of the company is assessed through the current ratio and quick ratio. The current ratio outlines the capability of the current assets to cover the current liabilities. While the quick ratio portrays the capability of the most liquidity assets (current assets excluding inventory) to cover short-term liabilities. There is a decline in both ratios, which means that the working capital management is worsening. This immediately raises concerns about the liquidity of the company. As noted in the introductory section of this financial report, the trade creditor is interested to see the potential of the company to make timely payments. Therefore, a general examination of the working capital is not enough, requiring the computation of specific ratios.
The management of debtors and negotiations with creditors are examined through two types of ratios. The accounts receivable turnover of the company declined, which means that more time is taken to recoup the money from trade debtors. On the contrary the accounts payable turnover increased, which means that less time is taken to pay trade creditors. Such trends are negative for the cash flow of the company. The second bar chart further highlights this situation. The debtors ratio increased, which again pinpoints more time taken by the accounts department to collect the money due from credit sales. The creditors ratio declined, which means that less credit period is allowed by trade creditors. Further more, the debtors ratio is higher than the creditors ratio, which means that payments to creditors are made before receipts from debtors. Such element can affect negatively the cash position of the organisation and may easily lead to cash problems, which is a serious issue for the creditor.
Cash, due to its importance ought to be examined further. An increase in the cash flow ratio is noted, which outlines better cash management. Indeed, the cash from operating activities increased drastically by 82.33. However, despite such rise the cash balance decreased by 19.82. A further study of the cash movements show that such decrease stems from the companys investments and financing operations. Despite the company reduced the cash outflow arising from the acquisition of property, plant and equipment by 17.72 the firm still had a 952.38 increase in the cash used in investing activities. This is mainly due to the lower proceeds from sale of investments and other assets. The financing activities also portray an increase in the cash utilised of 48.26. This mainly resulted from lower proceeds from borrowings of 77.46. Therefore, the day-to-day operations of the company are very effective in generating cash. However, such resource is being utilised in investments and finance leading to a lower cash balance. This further raises the concerns of the creditor concerning timely payments.
Improvement in the stock management of the organisation is noted by the increase in the inventory turnover ratio. This ratio outlines the number of times stock is turned over. The higher the ratio the greater the stock turnout, which diminishes money tied up in stock (improves liquidity) and risk of obsolete inventory.
Financial Stability
The above bar chart outlines that the debt capital of the organisation is decreasing. Indeed, the debt asset ratio, which outlines the debt capital in relation to total assets diminished. The debt to equity ratio, which portrays the debt capital in proportion to equity also decreased. The lower the debt capital the lesser its financial risks, which is favourable for shareholders and creditors.
Financial stability is further assessed by two ratios. The times interest earned outlines the ability of operating profits to cover interest charges. While, the cash interest coverage shows the capability of operating cash flow to cover interest expense. A sharp decline is noted for both ratios. This immediately outlines the financial stability as a red area, which is deteriorating sharply, which are again concerns for shareholders and creditors.
Recommendation to Equity Investor and Creditor
The financial health of Madison Stores Limited is presently weak, because the only strong element is profitability. As already commented above, a weak liquidity and financial stability were noted. These are a serious concern that affects both the equity investor and the trade creditor. As regards the equity investor, a good profitability outlines a good return potential. However, the weak financial position and long-term solvency outline that this is a very risky investment. If the equity investor is a risk taker, heshe will probably opt for the investment in light of a high return. However, if heshe is risk averse a decline decision will be undertaken. With respect to the trade creditor, a no decision will probably be undertaken in light of the weak financial position and financial stability. It is not financially viable for a supplier to provide credit terms to an organisation that holds cash problems and may be unable to pay on a timely basis and is also risky in terms of long-term stability.
Limitations of Financial Analysis
An organisation is not solely affect by financial figures, qualitative features are also important and should be considered. The annual report is based on historical data, which may not be a mirror of the firms future performance. Key economic variables like inflation and economic fluctuations are also not taken into account.
The two key elements that an equity investor considers in the decision pertinent to acquiring shares encompass the return derived from such an investment and the risks pertinent to it. A close examination of the Income Statement is necessary in order to evaluate the return potential. As regards risks an evaluation of the financial stability of the company is undertaken. Liquidity is also considered to determine the firms liquidity risks. A creditor is keener on the cash flow of the organisation in order to determine the potential of the company to make payments on time. Risk is also important leading again to the aforesaid relevant variables.
Financial Analysis of Madison Stores Limited
A ratio by itself is meaningless. Therefore, it is important that the ratios computed in this financial report are either compared over time or with companies operating in the same industry. For this reason, the key ratios for 2009 and 2008 will be computed to outline any underlying trends. Their respective calculations are outlined in Appendix A of this paper. The key factors noted from such ratio analysis will be further sustained or contradicted with the adoption of a horizontal analysis. This consists of an examination of the percentage increase or decrease in key items present in the income statement, balance sheet and cash flow statement (investopedia n. d.). The horizontal analysis computations are portrayed in Appendix B of this report. A structure will also be provided to this financial report, whereby the financial health will be subdivided between profitability, liquidity and financial stability.
Profitability
An increase is noted in the resource utilisation ratios as portrayed in the graph above. The increase in the asset turnover indicates that the assets of the organisation were utilised in a more effective way to generate sales. The rise in the return on assets shows that assets were also utilised more proficiently to generate profits. The horizontal analysis performed in Appendix B, outlines a 26.10 rise in sales revenue and a 51.36 increase in net income, which sustain the above arguments.
In Appendix A the gross profit and net profit margins have also been computed. Their results are portrayed graphically above, where a decrease in the gross profit margin and an increase in net profit margin are noted. The gross profit margin and net profit margin indicate the gross profit and net profit made out of every 100 of sales. Therefore a decrease in the gross profit margin indicates lower gross profit from sales. The horizontal analysis shows that sales increased by 26.10. However, cost of sales increased by a higher rate of 38.76. Therefore the decline in the gross profit margin is the result of decreased efficiency in direct costs. However, one may wonder why the net profit margin increased in light of such rise in direct expenditure. One has to remember that net profit is not solely affected by direct costs. There are also operating expenses, other expenditure and taxation which affect net profit. A decline is noted in operating expenses in the horizontal analysis of 7.04, which contributed to such increase in net profit. Indeed, both operating profit and net profit increased by 48.01 and 51.36.
The aforementioned increases in profits are a positive element for the potential equity investor. This stems from the fact that potential returns are higher when there are increases in profits. In fact, the return on equity ratio substantiates such argument. An increase in the return on equity ratio means that the return that shareholders attain from their investment is higher.
Financial Position
As already hinted by the bar chart above, the working capital management of the company is assessed through the current ratio and quick ratio. The current ratio outlines the capability of the current assets to cover the current liabilities. While the quick ratio portrays the capability of the most liquidity assets (current assets excluding inventory) to cover short-term liabilities. There is a decline in both ratios, which means that the working capital management is worsening. This immediately raises concerns about the liquidity of the company. As noted in the introductory section of this financial report, the trade creditor is interested to see the potential of the company to make timely payments. Therefore, a general examination of the working capital is not enough, requiring the computation of specific ratios.
The management of debtors and negotiations with creditors are examined through two types of ratios. The accounts receivable turnover of the company declined, which means that more time is taken to recoup the money from trade debtors. On the contrary the accounts payable turnover increased, which means that less time is taken to pay trade creditors. Such trends are negative for the cash flow of the company. The second bar chart further highlights this situation. The debtors ratio increased, which again pinpoints more time taken by the accounts department to collect the money due from credit sales. The creditors ratio declined, which means that less credit period is allowed by trade creditors. Further more, the debtors ratio is higher than the creditors ratio, which means that payments to creditors are made before receipts from debtors. Such element can affect negatively the cash position of the organisation and may easily lead to cash problems, which is a serious issue for the creditor.
Cash, due to its importance ought to be examined further. An increase in the cash flow ratio is noted, which outlines better cash management. Indeed, the cash from operating activities increased drastically by 82.33. However, despite such rise the cash balance decreased by 19.82. A further study of the cash movements show that such decrease stems from the companys investments and financing operations. Despite the company reduced the cash outflow arising from the acquisition of property, plant and equipment by 17.72 the firm still had a 952.38 increase in the cash used in investing activities. This is mainly due to the lower proceeds from sale of investments and other assets. The financing activities also portray an increase in the cash utilised of 48.26. This mainly resulted from lower proceeds from borrowings of 77.46. Therefore, the day-to-day operations of the company are very effective in generating cash. However, such resource is being utilised in investments and finance leading to a lower cash balance. This further raises the concerns of the creditor concerning timely payments.
Improvement in the stock management of the organisation is noted by the increase in the inventory turnover ratio. This ratio outlines the number of times stock is turned over. The higher the ratio the greater the stock turnout, which diminishes money tied up in stock (improves liquidity) and risk of obsolete inventory.
Financial Stability
The above bar chart outlines that the debt capital of the organisation is decreasing. Indeed, the debt asset ratio, which outlines the debt capital in relation to total assets diminished. The debt to equity ratio, which portrays the debt capital in proportion to equity also decreased. The lower the debt capital the lesser its financial risks, which is favourable for shareholders and creditors.
Financial stability is further assessed by two ratios. The times interest earned outlines the ability of operating profits to cover interest charges. While, the cash interest coverage shows the capability of operating cash flow to cover interest expense. A sharp decline is noted for both ratios. This immediately outlines the financial stability as a red area, which is deteriorating sharply, which are again concerns for shareholders and creditors.
Recommendation to Equity Investor and Creditor
The financial health of Madison Stores Limited is presently weak, because the only strong element is profitability. As already commented above, a weak liquidity and financial stability were noted. These are a serious concern that affects both the equity investor and the trade creditor. As regards the equity investor, a good profitability outlines a good return potential. However, the weak financial position and long-term solvency outline that this is a very risky investment. If the equity investor is a risk taker, heshe will probably opt for the investment in light of a high return. However, if heshe is risk averse a decline decision will be undertaken. With respect to the trade creditor, a no decision will probably be undertaken in light of the weak financial position and financial stability. It is not financially viable for a supplier to provide credit terms to an organisation that holds cash problems and may be unable to pay on a timely basis and is also risky in terms of long-term stability.
Limitations of Financial Analysis
An organisation is not solely affect by financial figures, qualitative features are also important and should be considered. The annual report is based on historical data, which may not be a mirror of the firms future performance. Key economic variables like inflation and economic fluctuations are also not taken into account.
