Limited Companies (Tesco and Sainsbury) - Case Study Example

PART A: INTRODUCTION This report has been designed to analyse, compare and contrast the financial performance and position of two companies from retail industry. These companies are Tesco and Sainsbury Plc. The report's structure and format present the analysis in a way that is beneficial for the company's management, investors and lenders in getting a deep insight into the company's financial performance, liquidity and solvency status, and investment potential. The stance of both the companies is illustrated with the help of financial ratios, to read between the lines of the companies' financial statements and to completely understand the financial data presented by the companies in their annual reports. The structure of the report comprises the companies' financial performance analysis for the year ended 2005 from management, investors and lenders' outlook because all these three groups are interested in the companies' position and performance with different perspectives. Therefore, the comparison presented in this report would be helpful for the company's management, investors and lenders altogether to form a base for their future decisions. Tesco and Sainsbury have been in the retail business for a long time. These companies operate on the international level, but have most number of their stores in UK, which is the major market of these companies. Tesco is the largest and most profitable superstore chain in Britain. It is the fourth largest supermarket in the world. Tesco operates 2,318 stores in 12 countries around the world and employs 326,000 people, 237,000 of them in Britain where it is the largest private employer (TESCO: A Corporate Profile, accessed 29.11.2005). The principal activity of the Group is the operation of food stores and associated activities in the UK, Republic of Ireland, Hungary, Poland, Czech Republic, Slovakia, Turkey, Thailand, South Korea, Taiwan, Malaysia and Japan (Tesco Annual Report, accessed 28.11.2005). Sainsbury is the UK's third-largest grocery retailer (after Tesco and ASDA) operates the long-struggling Sainsbury's Supermarkets chain -- some 464 supermarkets in the UK (accounting for nearly 85% of sales). The supermarkets get about 40% of their sales from private-label products. In addition to supermarkets, the company operates 260 convenience stores under the Sainsbury's Local, Bells and Jacksons banners. Sainsbury also owns 55% of Sainsbury's Bank (in a joint venture with Scottish bank HBOS) and a property development company (J Sainsbury plc overview, accessed 28.11.2005). PART B: ANALYSIS & COMPARISON OF FINANCIAL PERFORMANCE Tesco and Sainsbury are two popular companies in the United Kingdom. But the latest annual reports issued by these two companies reveal diverse results in the companies' financial performance for the year ended 2005. A deeper analysis of the differences between these companies' financial results is presented below with the help of some ratios peculiar to the analysis in terms of company's management, lenders and investors: FROM MANAGEMENT'S OUTLOOK The following analysis and comparison is done to help the companies' management to assess their performance and capabilities in the light of the companies' recent financial results: Gross Profit Margin Tesco Plc 7.3% Sainsbury Plc 4.12% The Gross Profit ratio analyses the company's profit margin before accounting for various operating costs. The gross profit margin of Tesco is higher than Sainsbury, which indicates that Tesco's management has efficiently managed to obtain more profit out of its sales after accounting for cost of sales incurred during the process of making the goods and services available to customers than Sainsbury. Net Profit Margin Tesco Plc 5.7% Sainsbury Plc 0.65% The net profit ratio analyses a company's profitability after taking into account all the operating costs. The above ratio calculation shows that Tesco has had significantly higher net profit margin than Sainsbury whose profit margin after the operating costs is dramatically low. Also, this analysis indicate that there's a great gap between Sainsbury's gross and net profit margin, illustrating that the company is losing most part of its returns on operating costs. Stock Turnover Tesco Plc 12.37 days Sainsbury Plc 14.58 days By calculating the stock turnover ratio, the ability and efficiency of company's management in emptying the entire stock and converting into sales is analysed. Here, this ratio doesn't indicate much difference for both the companies. Tesco finishes its entire stock in about 12 days whereas it takes Sainsbury about 15 days to do so. Therefore, this ratio also supports the abilities of Tesco's management to turn its entire stock into sales quicker than Sainsbury. Conclusion Thus, the analysis and comparison presented above elucidates the strength of Tesco in terms of its management's efficiency in generating sales and profit for the business much higher as compared to the Sainsbury. FROM LENDERS' OUTLOOK The following comparison and analysis of Tesco and Sainsbury's financial position in terms of the companies' ability of meeting the short and long-term debts and liabilities. This is analysed on the basis of the comparison between companies' current asset and capital structure: Current Ratio Tesco Plc 0.56: 1 Sainsbury Plc 0.92:1 A company can meet all its short-term liabilities at the time of need only if it makes sufficient investment in current assets. Here, Sainsbury's current ratio reflects a stronger position of the company as compared to Tesco in meeting the short-term liabilities of the company. Therefore, Sainsbury has better prospects for the company's lenders because it has enough proportion of current assets in its total asset structure. Quick Ratio Tesco Plc 0.35: 1 Sainsbury Plc 0.79:1 The quick ratio comparison for these companies also reveals a stronger position for Sainsbury in terms of investment in the quick current assets. Quick current assets are all the current assets of a company excluding stock. After comparing both the companies' ratios, it is clear that Sainsbury has better position in terms of liquidity than Tesco. Debt Ratio Tesco Plc 24.43% Sainsbury Plc 18.02% This ratio has been calculated to assess the percentage of these companies' total assets that are financed by the borrowed funds. Therefore, it is discovered that about 24% Tesco's total assets are financed by borrowed money whereas 18.02% of Sainsbury's total assets are covered by external funds. It can be seen that more of Tesco's investment in total assets is covered by loans and debts as compared to Sainsbury. Debt to Equity Tesco Plc 117.06% Sainsbury Plc 47.87% The debt to equity ratio enables a lender to analyse the company's overall capital structure. Therefore, Tesco Plc's total debt finance comprises 117.06% of the company's total equity, which means that the company's capital structure relies very much on external debts and borrowings while Sainsbury's capital structure is a combination of equity and debt. Tesco's debt-to-equity ratio indicates more risks for lenders incase if the economy of business does not perform upto their expectation, the company does not have enough equity funds to meet its long-term debts. Conclusion The above analysis from the perspective of companies' lenders illustrates that although Sainsbury's financial results are not satisfactory this year, however the company's position is stronger from the viewpoint of lenders. The company's short and long-term creditors and lenders can expect an easy recovery of their money as compared to Tesco. FROM INVESTORS' OUTLOOK The following ratios are chosen to demonstrate these two companies' position from the viewpoint of investors. Investors are interested in the returns and profit they can obtain out of their investment in the company's shares; therefore they will invest their money in a company that has the highest investment potential. Earnings Per Share Tesco Plc 17.72p Sainsbury Plc 3.5p The investors who are more interested in the market price of the companies' shares are sure to find investment in Tesco's shares more profitable as the Earning Per Share of Tesco's shares is 17.72p, which is much higher than the Earning Per Share of Sainsbury's shares i.e., 3.5p. Dividend Per Share Tesco Plc 7.56p Sainsbury Plc 7.80p The dividends paid by these companies to their investors do not differ much. Both the companies offer the same investment potential for the investors who are highly interested in the dividends paid by the company. Conclusion The above analysis serves the investors' purpose of identifying the best company that can offer them high investment potential. From investors' perspective, Tesco is a better option for investment as it is offering much greater Earnings Per Share to its investors than Sainsbury. PART C: FACTORS AFFECTING FUTURE PERFORMANCE TESCO PLC Tesco's financial performance is becoming more profitable over the years. But as apparent from the company's annual reports and financial statements, following are some of the factors that are supposed to have critical effects on the company's financial performance in time ahead: Insufficient Working Capital The company has insufficient working capital availability to meet its short-term obligations. The company's current assets are about 43% of the total current liabilities. This indicates that the company has more short-term liabilities than the current assets to pay off its current debts, thus showing a weaker company's liquidity position. The unavailability of sufficient working capital can result into the declining interest of the company's lenders, which can affect the future performance of the company. Capital Structure The company's capital structure consists mainly of money borrowed from external sources. The total debt of the company comprises about 117% of the company's total equity. If this condition remains constantly for a long time, it will lead the company to bankruptcy. This can also lead to unwillingness of investors and lenders to put more money into the business, considering the risk associated. This factor is really crucial to the company's future performance. SAINSBURY PLC: Sainsbury Plc did not show profitable results for the year ended 2005. It saw a sudden decline in the company's overall financial performance this year. Here are some of the factors that are alarming to the company's future performance: Mismanagement of Costs The company's financial results for the year ended 2005 indicate that the company has not been managing its costs in an effective way. Although the company's sales for the year 2005 has increased as compared to the previous year, but still the profit is much less than the last year. Most part of the company's revenues is absorbed by the cost of sales and various operating costs. It can affect the company's future performance, if the costs keep on rising and profits keep on declining. Acquisitions According to the information obtained from the company's annual report, the company entered into many acquisitions last year. The company acquired 14 stores from Morrisons in May 2004, comprising 13 Safeway branded stores and one Morrisons store. These stores located primarily in the Midlands and the north of England, are being welcomed by the customers. The company also acquired two stores from Somerfield located in Bridgnorth and Guisborough. In August 2004, the Group acquired Jacksons Stores Ltd with 114 neighbourhood convenience stores located across Yorkshire and the North Midlands. A further 50 conversions are planned in the new financial year. These acquisitions are expected to bring many changes to the company's financial performance in the future years. APPENDIX: The appendix is attached below: Reference List: Annual report 2005, Sainsbury Plc, accessed October 27, 2005 from the World Wide Web: http://www.jsainsburys.co.uk/ar05/files/report05.pdf Annual report 2005, Tesco Plc, accessed October 27, 2005 from the World Wide Web: http://www.tescocorporate.com/images/Report_05_0.pdf TESCO: A Corporate Profile, accessed November 29, 2005 from: http://www.corporatewatch.org/lid=252 J Sainsbury Plc overview, November 28, 2005 from: http://www.hoovers.com/j-sainsbury/--ID__40427--/free-co-factsheet.xhtml Read More