Strengths and Weaknesses of Louis Vuitton Moet Hennessy - Case Study Example

The Company Summary: Louis Vuitton Moet Hennessy (LVMH) is a merger between the world’s top leading brands Louis Vuitton and Moet Hennessy. LVMH is the world’s largest French company dealing with the production and distribution of luxury goods. It owns a portfolio diversification of over 60 brands and its business activities have mainly five operating segments; “Wines & spirits, Fashion & Leather goods, Perfumes & Cosmetics, Watches & Jewelry and selective Retailing” (Focus on LVMH 2012). In 2010, LVMH made sales of “20,320” million Euros and by the end of the year it employed over “83,542” workers (Focus on LVMH). This company is included in Euro Next Paris Exchange and ranks among the top companies. Their current strategy is to focus more on promoting their brand so that they can maintain and improve the consumer’s perception about their products. In addition to positioning its luxury brands, it has also targeted international diversity, which resulted in the company’s achievement of constant growth without any barrier. Company maintains a good relationship with its stakeholders as well as employees by establishing important policies and procedures for their development. It is LVMH’s responsibility to ensure that labor standards and company’s supplier code of conduct are respected by the suppliers. Whenever improvements are required, supplier audits are conducted and corrective actions are taken. The company has advantage in supply chain that entails lower risk, which is a result of good vertical integration. Through a well-strategized system of advertising, it has remained to maintain its lead in fashion. The company strongly believes in maintaining quality and creating brand image through innovation. II Company Strengths and Weaknesses: 1. LVMH’s financial performance from 2009 to 2011: Return on Common Equity Ratio: This ratio measures the achievement of an organization in generating profit for the advantage of common stockholders. It is calculated by dividing the net income obtainable for common stockholders by their common equity. It is calculated as follows: “Return on Common equity = (net profit - preferred share dividends) / (shareholders equity- preferred shares)” (Return on Common Equity Ratio n.d.). Solution: Year 2009 2010 2011 Net income 1,755 3,032 3,065 Note: Data’s taken from the 2009 to 2011 financial statement of LVMH. Net Income available for common stockholders: 1,755-21=1734 (2009) 3,032-20=3012 (2010) 3,065-61=3004 (2011) Average Common Stockholders’ Equity: 2009= (100) + 1,186/2 =543 2010= 1,186+ 1,679/2 = 1432.5 2011= 1,679+33/2 = 856 Therefore, Return on Common equity = 1734/543*100=319.34% (2009) 3012/1432.5*100=210.26 % (2010) 3004/856*100=350.93 % (2011) Dividend Payout Ratio: This is the amount of dividends paid to stockholders in relation to the amount of total net profit of an organization. The amount that is left after paying dividends to stockholders is kept aside by the firm for development. This amount that is reserved by the firm is called retained earnings. It is calculated as follows: “Dividend Payout Ratio = Dividend per Share / Earnings per Share (EPS) x 100%” (Dividend Payout Ratio n.d.). Solution: 1.65/ 3.71*100 =44.5% (2009) 2.10/ 6.36*100 = 33% (2010) 2.60/ 6.27*100=41.47% (2011) Ratio 2009 2010 2011 Return on Common Equity 319.34% 210.26% 350.93% Dividend Payout Ratio 44.5% 33% 41.47% Note: Data’s taken from the 2009 to 2011 financial statement of LVMH. Interpretation: Return on equity shows the company’s profitability in terms of how much the company has earned from the investment made by common stock owners. It is a measurement of efficiency more than a measurement of profit. In 2011, return on equity for LVMH was 350.93%, which is a higher percentage than it was in the year 2009 and 2010, as shown in the table. Payout ratio here is 41.47% which is below 100% and it means that the business has grown rapidly and that it has a lot of opportunities for expansion, thus the reason for payout ratio to be low. Both returns on equity and dividend payout ratio show a better condition in the year 2011 as compared to previous years. 2. Comparison between the P/E Ratio of LVMH with the P/E Ratios of its Competitors: The P/E ratio is the best identified indicator of investment valuation. This ratio has its imperfections, however, it is the most broadly reported and used valuation by professionals in the investment filed as well as the investing public. The monetary reporting of the industries and investment research facilities utilize a basic earnings per share (EPS) divided into the present stock price to compute the P/E multiple. Generally, a high P/E states that shareholders are expecting high earnings in the future contrast to industries with a lesser P/E ratio. This ratio is used to evaluate the P/E ratios of one organization to other firms of the same industry, to the market generally or to the organization’s own past performances. It will not be helpful for shareholders utilizing the P/E ratio as a base for their savings to evaluate the P/E of a technology organization to a utility organization as every industry has different development prospects. It is calculated through the following: P/E Ratio = “Market Price / EPS” (PE Ratio: How it Helps Buy Great Stocks 2009). Market price of LVMH in 2011 = 87.5 Earnings per Share = 6.27 Therefore, P/E Ratio of LVMH = 87.5/6.27= 13.7. Year 2009 2010 2011 Net income 1,755 3,032 3,065 % Change 0 0.727635328 0.010883905 P/E Ratio Diagram: P/E ratio is an indicator to decide investment by the investors. It is an investment criteria used by the investor to decide upon which company to invest. It shows an increase which means that it increases with time, and is beneficial to the investors helping to earn returns accordingly, thus it shows a positive change. Competitors: LVMH competes with large number of small public and private companies in the luxury market, dealing with products like wine, cloths, watches etc. However, direct competition to LVMH is from PPR (including brands like Yves Saint Laurent), Compagnie Financiere Richemont (including brands like Cartier and Montblanc). PPR is similar to LVMH in case of earning and in size. Even though it owns Puma, it produces sport wears for both men and women which are affordable. In terms of revenue, Compagnie Financiere Richemont is a much smaller company than LVMH, however it still earns a similar operating profit. This company focuses on watches and jewelries. Other competitors are Valentino Fashion Group S.p.A, Christian Dior etc, which also owns two luxury brands- Valentino and Hugo Boss. It sells their products in both luxury stores and self supporting boutiques. Christian Dior is designer of fashion clothes and accessories both for men and women. (Comparison between the P/E ratio of LVMH with the of its competitors, advise for improvement) By looking at P/E Ratio, investors decide whether they need to invest in a particular business or not. Investors expect higher earnings from the company they invest in. They mainly check out a company’s P/E ratio for assessing the company’s attractiveness in its current price. This P/E ratio is a means for comparing and understanding the company’s stock value. P/E ratio of LVMH shows 13.7 in the above calculation, which is a favorable condition where investors can expect good returns. While comparing to its competitors, Richemond has higher P/E ratio, LVMH has an average one and PPR has low P/E ratio, that is, PPR has P/E ratio of 11.9 and Richemond has P/E ratio of 22.9. In general, higher P/E ratio leads to higher return for investors, however, it may not always be a positive indicator. High P/E ratio may be due to over pricing of shares of the company. On other hand, low P/E ratio may not always be a negative indicator either, it only means that it is a sleeper share which is overlooked by the market. An investor cannot make his decision solely on the P/E ratio, thus it is better to use this ratio with other ratios. LVMH can improve its P/E ratio from its current position by increasing predicted shares in numbers, and also EPS should be lowered. 3. The security market line reflects an investment's risk in opposition to its return. The measure of risk utilized for the security market line is beta. The line starts with the risk-free price and moves upward and to the right. As the risk of an investment enhances, it is possible that the return on an investment will rise. A shareholder with a short risk profile will choose an investment at the starting of the security market line. A shareholder with a high risk profile will thus choose an asset higher along the security market line. In finance, the capital asset pricing model is utilized to determine a theoretically suitable necessary rate of return of an asset, if that asset is to be added to an already well expanded portfolio, specified that assets do not entail in diversifiable risk. This method takes into account the sensitivity of assets to be unaffected diversifiable risk, which is frequently addressed as ? (quantity beta) in the economic firm, in addition to the expected return of the market and theoretical risk free asset. CAPM states that cost of equity of an investor’s capital is controlled by beta. The formula of CAPM states that the return on every risk, that is the risk premium, is given by the market less return on risk free rate. In other words, it is the quantity of additional return or the risk free charge that must be remunerated for being exposed to securities riskier than the risk free asset. Beta is frequently referred to as market risk and systemic risk, and it stands for the sensitivity of the return on security to the market's returns. That is to say, the market risk premium states the quantity of additional return earned for investing in risky assets, and the beta states the quantity of riskiness of every security. According to various studies, the risk free rate of France is 2.16%, LVMH’s beta ? = 0.928, and market return of 10.77%, which uses the security market line formula to determine expected return The security market line formula is as follows: Expected Return = “Rf + ?.(Rm - Rf)” (Expected Return for Shareholders 2003). = 0.0216 + 0.928(0.1077 - 0.0216) = 0.0216 + 0.928(0.0861) = 0.0216 + 0.0799008 = 0.1015008 or 10.15008% Calculate the Treynor Ratio: Expected Return - Rf/? 0.1015008 - 0.0216/ 0.928 0.0799008/0.928 Treynor Ratio = 0.0861 Security Market Lines Diagram: The diagram above depicts Security Market Lines, which show that the Expected Return is 10.15008%. The Security Market Lines reflect the return on a specified savings with relation to risk, an alteration in the slope of the SML can be reasoned by the risk premium of the funds. The risk premium of a savings is the surplus returns by which the shareholder ensures that a necessary return rate is met. If the premium of risk necessary by shareholders is changed, the slope of the Security Market Lines will also change also. When there is a change along the Security Market Lines, it means it will affect the investment’s risk as opposed to return profile. A shift of the Security Market Lines can happen with changes in expected real growth in the economy, conditions of capital market and expected inflation rate. III. Summary, Conclusions, and Recommendations: LVMH is a France based company trading luxury products all around the world. It includes production and distribution of products like wine, perfumes and cosmetic items, jewels, watches, make up products etc. LVMH brings creative and innovative ideas to their products, thus aiming at product excellence. They strive to be the best in the world among their various competitors. They also believe in providing better quality life for their customers, employees as well as their shareholders. It enjoys a distinctive position in the present competitive market. As an advice to Marie, since she is a risk lover, I suggest her to invest in LVMH since its financial performance is remarkable considering above ratios. Return on equity and dividend payout ratio, both have shown a better performance in the year 2011, which is beneficial for taking decisions. Since the return on equity is higher, it shows higher efficiency of LVMH. The payout ratio which is below 100 % shows the growth in the business as well as its expansion opportunity. Company’s P/E ratio shows an average performance, however investors can expect relatively good return from investment. Here, payout ratio and return on equity ratio show a good performance which means that even if the P/E ratio is average it can bring a good return for the investors. Therefore, I would suggest Marie to purchase the shares of LVMH. Reference List Dividend Payout Ratio. n.d. Ready Ratios. Retrieved Aug. 06, 2013 from Expected Return for Shareholders. 2003. ecofine.com. Retrieved Aug. 06, 2013 from Focus on LVMH. 2012. SRI Company Profiles. Asset Management. DEXIA. Retrieved Aug. 06, 2013 from PE ratio: How it Helps Buy Great Stocks. 2009. Rediff.com. Retrieved Aug. 06, 2013 from Return on Common Equity Ratio. n.d. Bizwiz Consulting. Retrieved Aug. 06, 2013 from Read More