Financial Performance of Tesco and Sainsbury - Assignment Example

IMPORTANT SECTIONS OF TESCO AND SAINSBURY'S ANNUAL REPORTS The annual reports of both the companies are divided into various sections, but the most important and information revealing sections of the annual reports are: 1- Directors' Report The director's report mainly contains information like the company's principal activities, group results, dividends, fixed assets, share capital, shareholders, directors' interests, employment policies, donations, suppliers/creditors payment policy, going concern and Annual General Meeting etc. Here, this point should be considered that the author of this report is a company representative, so this report may contain tailored or concealed facts. The directors' report section in the Sainsbury's annual report contains all the information as that in the Tesco's directors' reports except for the discussion on group results and sales. 2- Auditor's Report It is an important section of the companies' annual report, which contains acknowledgement from the external auditors that the company's accounts and financial statements reported present a true and fair view of the company's affairs. This satisfies the government about the accuracy of financial information presented in the Tesco and Sainsbury's financial statements. 3- Consolidated Profit and Loss Account This section represents the financial performance of both the companies for the current year and also the previous year. This section helps the investors, lenders, employees and general public to compare the companies' income and expense condition of the current year against the previous year and predict the future of the company. 4- Balance Sheet This reveals the companies' financial position for the current year-end. It shows the companies' asset and equity position for the current and previous year. This contains the information on companies' liquidity, solvency, efficiency and investment prospects. This is helpful for investors, lenders, suppliers, employees, customers and general public. 5- Statement of Cash flows This section reveals the companies' position in terms of availability of cash and shows the cash inflow and outflow for the current and previous years. Again, this section is very important for various stakeholders of the company. 6- Notes to the Financial Statements This section contains information necessary to read between the lines of financial statements. This section is very important for a true and complete analysis of the companies' financial statements. THE OPERATING AND FINANCIAL REVIEW (OFR) STATEMENT The Operating and Financial Review (OFR) statement of both the companies show the summary of the companies' financial statements, their financial performance, their segmented financial results and the profitability of the companies reflecting their financial statements. Both the companies have provided a thorough analysis of their company's major operations and results obtained from these operations. The statement also emphasises the major risks faced by the company, which enables a reader to get an insight of the companies' present condition and evaluate any future risks. TESCO PLC-- RATIO ANALYSIS The financial performance and position of Tesco Plc can be assessed with the help of ratio analysis for the last three years. This analysis is broken down into sections so as to be helpful for all the groups interested in the financial performance of the company i.e., the management, the investors, the lenders, the analysts etc. PERFORMANCE The performance of Tesco Plc over the last three years can be assessed by the following ratio: Return on Investment (ROI) 2005 2004 2003 14.95% 14.04% 13.85% The Return on Investment ratio is used to analyse a company's position in terms of the return or profit it gains on the funds invested. It shows the effectiveness and performance of the company's management to obtain more returns on the company's investment. Tesco Ltd's Return on Investment ratio has almost been stable over the last three years, showing that the company's management has been utilising its assets towards a stable growth in profit. PROFITABILITY Analysing the profitability of Tesco Plc lies in assessing the company's profit margin on sales before and after accounting for operating costs. This can be done with the help of the following ratios: Gross Profit Ratio 2005 2004 2003 7.3% 7.17% 7.06% The Gross Profit ratio analyses the company's profit margin before accounting for various operating costs. Therefore, it represents the profit margin after accounting for cost of sales. Tesco Plc's gross profit margin has been stable over the last three years but it is much less than that of other companies in the retail industry. Net Profit Ratio 2005 2004 2003 5.7% 5.41% 5.45% The net profit ratio analyses a company's profitability after taking into account all the operating costs. Tesco Plc's operating profit margin has been over 5% over the last years, which does not reveal much gap between the gross and operating profit margin. This is a good sign showing that the company is managing its selling and administrative costs in a way to maximise its net profit margin. LIQUIDITY The company's short-term lenders are interested the firm's ability to meet its short-term debts and obligations. This is only possible when the company has enough liquid assets to meet its current liabilities without any hassles. This ability of the firm is assessed by the following ratios: Current Ratio 2005 2004 2003 0.56: 1 0.55: 1 0.45: 1 The current ratio measure's a company's abilities to pay off its short-term liabilities. Tesco Plc's current ratio seems to be increasing slightly over the last years but it is still much behind the company's competitors. It shows that the company does not have enough liquid assets to meet its short-term liabilities whenever a need arises. Acid Test (Or Quick) Ratio 2005 2004 2003 0.35: 1 0.34: 1 0.24: 1 The quick ratio tests the short-term solvency of a company after keeping aside its stock from the current assets. Tesco Plc's quick ratio also appears to be increasing slightly, but like the current ratio, it is also less than that of other companies in the industry. It does not reveal a good position of the company in terms of liquidity. EFFICIENCY The efficiency evaluation of Tesco Plc lies in the assessment of how the company uses its different assets to generate sales and profit for its business. This can be analysed with the help of the following ratios: Total Asset Turnover 2005 2004 2003 1.81 times 1.80 times 1.71 times The total asset turnover ratio measures how efficiently or productively the firm is using its total assets, (fixed assets plus current assets), to generate sales. In general terms, the higher the total asset turnover ratio the better; it suggests the business is utilizing its assets productively (Mcmenamin Jim, 1999). Tesco Plc's asset turnover ratio shows that the company's total turnover is about 2 times bigger than the total assets. This ratio has increased slightly over the years presenting a good sign of company's efficiency. Stock Turnover 2005 2004 2003 12.37 or 12 days 12.72 or 13 days 14.71 or 15 days Stock turnover ratio calculates the company's ability and efficiency to finish its entire stock and generate sales. The stock turnover of Tesco Plc has improved over the three years from 15 days in 2003 to 13 days in 2004 and 12 days in 2005. It shows that it takes the company fewer days than before to convert its entire stock into sales. This is another improving sign of company's efficiency. INVESTMENT The feasibility of a company in terms of investment is of great importance to the company's investors. Some investors are interested in market price of company's stock and others are interested in dividends given by the company. Both the aspects are analysed below with the help of ratios: Dividend Per Share 2005 2004 2003 7.56p 6.84p 6.2p It is an efficient way to assess the investment potential in a company's shares, as it is important for the investors whose objective is to maximise the dividend revenue from their investments. The dividend paid by Tesco Plc to its investors has been improving over the years, showing a better opportunity for the investors. Earnings Per Share 2005 2004 2003 17.72p 15.05p 13.54p Common shareholders and potential investors in common stock first look at a company's earning record (Meigs & Meigs, p934, 1993). The investment is made in the shares of stocks; therefore Earning Per Share determines the market value of a company's shares. The company's annual reports show an increasing trend in the Earnings Per Share of the company. Therefore, it can be said that the company has an improving investment potential. SAINSBURY PLC-RATIO ANALYSIS After analysing the Tesco Plc's financial ratios, we will analyse the financial performance and position of Sainsbury Plc with the help of ratio analysis for the last three years. This analysis is again broken down into sections so as to be helpful for all the groups interested in the financial performance of the company i.e., the management, the investors, the lenders, the analysts etc. PERFORMANCE Sainsbury Plc's performance over the last three years can be measured with the help of the following ratio: Return on Investment (ROI) 2005 2004 2003 1.64% 8.81% 9.45% Return on Investment ratio shows the performance of the company's management in terms of using its assets productively to generate more sales. The Tesco Plc's Return on Investment ratio has been declining over the past three years. It reveals an inefficient performance of the company's management in the year 2005 to generate profit for the business because this ratio was quite satisfactory in the year 2004 and 2003. PROFITABILITY The ability of company to generate profit before and after accounting for operating costs can be evaluated with the help of the following ratios: Gross Profit Ratio 2005 2004 2003 4.12% 8.13% 7.67% The gross profit ratio reveals the company's ability to manage the production and distribution activities. The Sainsbury Plc's gross profit margin also appears to be declining sharply in the year 2005. The company's gross profit margin was 7.67% in 2003, which increased to 8.13% in 2004 and finally decreased to 4.12% in 2005. This shows that the company has not been managing its production and distribution productively. Net Profit Ratio 2005 2004 2003 0.65% 3.67% 4% The net profit margin reveals the company's position after accounting for all the operating costs. Sainsbury Plc's net profit margin has a sharp declining trend over the last three years. Also, the gap between gross and net profit margin shows that company is incurring great operating expenses. LIQUIDITY The liquidity of a company lies in having sufficient current assets to meet its short-term liabilities and expenses without any hassles, whenever a need arises. Sainsbury Plc's liquidity analysis can be done with the help of the following ratios: Current Ratio 2005 2004 2003 0.92:1 0.91:1 0.86:1 This ratio is the measurement of relationship between a company's current assets and current liabilities. Sainsbury Plc's current ratio has an increasing trend over the last three years. Its current ratio was 0.86:1 in 2003, which increased to 0.91:1 in 2004 and finally to 0.92:1 in 2005. This is showing good improvement but it is still not sufficient to meet all its current liabilities. Acid Test (Or Quick) Ratio 2005 2004 2003 0.79:1 0.73:1 0.70:1 Sainsbury Plc's quick ratio also reveals an increasing trend. It has increased gradually from 0.70:1 to 0.79:1 over the past three years. The quick ratio of the company shows the good position of the company in terms of liquidity. EFFICIENCY Sainsbury Plc's efficiency in managing the company's different assets is measured below with the help of ratio calculation: Total Asset Turnover 2005 2004 2003 1.42 times 1.45 times 1.5 times Sainsbury Plc's total turnover is 1.42 times bigger than its total assets in the year 2005. It was 1.5 times in 2003, this also shows a decreasing trend in the company's efficiency to manage and utilise its assets to generate more sales and profit. Stock Turnover 2005 2004 2003 14.58 or 15 days 15.54 or 16 days 24.24 or 24 days Sainsbury Plc's stock turnover ratio indicates an improving trend in the stock turnover i.e., it took 24 days for the company to finish its entire stock in 2003. Whereas, in 2005, it just took the company 15 days to convert its entire stock into sales. This shows a good sign for the company's efficiency. INVESTMENT The company's prospects for investors are evaluated below with the help of two main ratios: Dividend Per Share 2005 2004 2003 7.80p 15.69p 15.58p This ratio reveals a company's feasibility in terms of the dividends paid by the company. The dividends paid by Sainsbury Plc show a declining trend over the past three years. The company paid a dividend of 15.58p per share to its shareholders in 2003, which decreased to 15.69p per share in 2004 and finally 7.80p per share in 2005. This doesn't reveal good prospects for the investors interested in dividends. Earnings Per Share 2005 2004 2003 3.5p 20.7p 23.7p Sainsbury Plc's annual reports and financial statements show a great decline in the company's Earning per Share, which was 23.7p in 2003 and it declined to 3.5p in the year 2005, which can be very shocking for the investors interested in market price of the company's stocks This can shake the investors trusts in the company. COMPARISON OF TESCO AND SINASBURY'S FINANCIAL PERFORMANCE: Both the companies' annual reports and financial statements reveal great differences in the companies' financial performance and position for the last three years. The major points of comparison are discussed below: Trend in Turnover Tesco has had an increasing trend in its total turnover over the past three years as shown by the company annual reports. Most of the sales comprise business operation in the UK segment. The total turnover has increased over 31% from the year 2003 to 2005. Sainsbury Plc's total turnover remained almost stable in the year 2004, but it decreased by about 9% in the year 2005. Therefore, Tesco Plc's financial results indicate that the company has been more successful than Sainsbury to generate increased sales. Trend in Profit Not only there has been a declining trend in Sainsbury's total turnover over the previous years, but also there has been a diminishing rate of profit margins for the company. Although the company's gross profit margin increased by about 3% in 2004, but it reduced by about 54% in 2005. This is a great shock for the company as well as its investors, who have a share in company's profits. Moreover, the company's net profit margin has been decreasing constantly. It declined by over 85% just over the last three years. Tesco Plc, on the other hand, is enjoying an increasing trend in both the gross profit and net profit margins. Its gross profit margin has increased by over 35% and net profit margin by 39% over the past three years. Tesco again, offers great prospects for its investors, who are interested in the company's earnings. Working Capital Both the companies do not have sufficient working capital to meet their short-term debts and obligations. Working capital is the difference between a company's current assets and current liabilities. According to reuters.com (Retail (Grocery) Industry, accessed 27.11.05), the average for current ratio in the retail industry is around 1.19:1, but both the companies' current ratio is less than the industrial average. Although both the companies are improving their investment in liquid assets but when compared, Sainsbury's has more working capital availability than Tesco. Debts and Borrowings An analysis of both the companies' annual reports show that both the companies have different debts and borrowing situations. Sainsbury's total debt and borrowing increased by about 25% in 2004 and decreased by 17.89% in the year 2005. Tesco however had a stable decline in the total debts and borrowings of the company. The company's total debts and borrowings declined by about 7.2% over the last three years. TESCO AND SAINSBURY-- DIFFERENCE IN CORPORATE REPORTS Both the companies, Tesco and Sainsbury are from the same industry and sector. They both are from retail (grocery) industry, but an analysis of their annual reports and financial statements indicate that both these companies have shown different corporate results. These companies have included all the important sections in the annual report with each of the section reporting the corporate results in a different way. The difference in the corporate reports of the companies from the same sector and industry comes out from the fact that every company has different financial results from its operations in a given year and these results might be satisfactory or unsatisfactory for the various users of the company's annual reports and this is because a company presents its annual reports and accounts to highlight the achievements and conceal the flaws. For instance, an analysis of the corporate reports of Tesco and Sainsbury for the year 2005 will reveal that the Directors' report in Sainsbury's annual report does not discuss the company's sales and results from operations, while Tesco's directors' report highlights the increase in company's sales and financial results. CORPORATE REPORTS-SATISFACTION OF STAKEHOLDERS' NEEDS The stakeholders of the companies can use the important sections of these companies' annual reports (i.e., auditors' reports, consolidated profit and loss account, balance sheet, statement of cash flows and notes to the financial statements) to ensure that the company's financial performance is satisfactory and will remain to be for the foreseeable future. The above ratio calculation and financial analysis has been done on the basis of data obtained from the companies' annual reports and reveal a better insight into the companies' current performance and position that can help the major stakeholders of the companies to assess and predict the companies' future in terms of profitability and cash flows. APPENDIX Click on the icon below to see the appendix for ratio calculation: References 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 2004, Sainsbury Plc, accessed October 27, 2005 from the World Wide Web: http://www.jsainsburys.co.uk/files/reports/ar2004/pdf/annual_report.pdf Annual report 2005, Tesco Plc, accessed October 27, 2005 from the World Wide Web: http://www.tescocorporate.com/images/Report_05_0.pdf Annual report 2004, Tesco Plc, accessed October 27, 2005 from the World Wide Web: http://www.tescocorporate.com/images/Report_04_0.pdf Meigs & Meigs (1993), "Accounting: The Basis For Business Decision Making", Mc Graw Hill: New York, p934 Mcmenamin Jim (1999), "Financial Management: An Introduction", Routledge, London Retail (Grocery) Industry, accessed November 27, 2005 from the World Wide Web: http://www.investor.reuters.com/IndustryCenter.aspxindustry=RTFOOD&target=industrycenter Read More