Financial Performance of Apple and Blackberry - Case Study Example

CONTENTS Executive summary 2 Introduction 4 PERFORMANCE MEASUREMENT AND ANALYSIS 6 Part A: Du Pont Decomposition of ROE 6 Part B: Analyzing the company on the basis of Moody’s Bond Rating Criteria 12 Part C: Working capital 18 Cost of Capital 20 Changes in the capital structure 20 WACC, EVA and EVA Spread 24 WACC 24 EVA and EVA Spread 24 Payout Policy 25 conclusion 25 References 26 Executive summary Financial performance presents an overview of the overall performance of the company and how the company is able to meet the needs and wants of the consumers in the industry. If the company is performing well and consumers are appreciating the products and services offered by the company, then the financial performance and financial statements of the company would reflect such appreciation from the consumers with high profits and high volume of sales. This report presents a financial analysis of two mobile manufacturing companies; Apple and Blackberry. These two companies have been compared in this report using different ways. Return on equity is one of the most important ratios used to analyze the performance of the company. Investors and management of the company use returns on equity to analyze the performance and profitability of the company. DuPont ratio analysis is used to decompose the returns on equity of both the companies. By decomposing different elements that influence the returns on equity of companies, this report identifies important areas that help in increasing or decreasing the returns on equity. There are different elements that influence the returns on equity and some of these elements are Tax Burden, Interest Burden, Operating Margin, Asset Turnover and Leverage Ratios. DuPont analysis is applied on the two companies under study; Apple and BlackBerry, but this report also uses the data of other industry important players to analyze the factors that influence the ROE of the company. Industry players that are used in this report are Motorola Solutions, Inc. (MSI) -NYSE, Nokia Corporation (NOK) -NYSE, Microsoft Corporation (MSFT) -NasdaqGS, Hewlett-Packard Company (HPQ) -NYSE, International Business Machines Corporation (IBM) -NYSE). It has been found that Apple has performed the better when compared with Blackberry and average of the industry as ROE of the company has been higher than Blackberry as well as higher than Industry averages. Moreover, it has been found that the returns on equity of Apple have been showing an increasing trend in the last five years whereas the returns on equity of Blackberry have been showing a declining trend. In the years 2008 and 2009, ROE of blackberry was higher than Apple but the ratio was more or less the same in the year 2010. However the returns of Apple kept on increasing and these returns exceeded the returns of Blackberry. Therefore ROE of Apple was higher than ROE of Blackberry in 2011 and 2012. Moody’s Bond Rating criteria are also used to analyze the performance of Apple and Blackberry. Cost of capital of these two companies have also been analyzed and it has been found that the cost of capital of Apple is lower than Blackberry, so Apple is able to raise funds at a lower cost than Blackberry. Economic value added which is also the economic profit of Apple is higher than Blackberry. Payout policies of the two companies have also been discussed in the report. Introduction To evaluate the economic wellbeing of a business financial ratios are adopted which are calculated measurements. These ratios usually compare the data of financial statement with the information regarding the stock market trading for publicly traded firms. Financial ratios are essential instruments of financial decision making for all businesses (McLaney, 2011). By using these financial ratios further information could be obtained regarding liquidity, managerial efficiency, leverage and profitability. Through financial ratios the success or failure of a firm could be judged and profitability ratios are the most significant ones (Gitman, 2003). Other ratios specify the source of performance regardless a firm has poor or good profitability. For instance, if a firm has low return on its assets then it could possibly be having problems with liquidity, effectiveness or leverage (McLaney, 2009). Standards and benchmarks are established by financial ratios for isolated businesses. Being an investor the overall stability of a firm could be determined through financial ratios. Potential investors prefer to make investment for ownership within those companies which show improved and better financial position in relation with share price worth per financial ratios. The financial ratios could be used by the existing shareholders about the confirmation regarding the efficiency of the company. This could be done before the voting, so that board of directors or could be removed (Gitman, 2003). This report presents a financial analysis of two of the renowned mobile manufacturers and retailers, Apple and Blackberry. Apple is well-known and very famous consumer electronics, personal computers and computer software company. The company has been renowned for its innovation which has been the hallmark of the success of the company. The company is famous for coming up with different innovative products such as iPad, iPod, iPhone, iPad tablet computer and a lot more. Apple is considered as the second largest Information technology company in the world after Samsung and it is the third largest mobile manufacturing company after Samsung and Nokia. Blackberry is another important player in the mobile manufacturing industry. Blackberry is a Canadian based company with its headquarters in Ontario, Canada. In the recent years, the company is struggling as the other companies have performed well and have come up with different innovative products. Wireless computer equipments are also manufactured by Blackberry. The company was renowned for its innovation however recently it has not been able to meet the expectations of many. Financial analysis has been used to analyze the performance of these companies. Analyzing the financial performance will help in identifying which of the two companies have performed better in the recent years. Moreover, by using different techniques such as DuPont Ratio analysis, this report will not only analyze the return on equity of the two companies in the last five years, but the report will also identify the variables and factors that lead to higher or low ROE. Therefore, a deeper and a more critical analysis will be presented in terms of analyzing the profitability of the two companies under study. The findings will not only analyze the two companies, but the overall industry averages will also be compared to identify and examine the performance of these two companies with the overall industry. The industry players that are used to calculate the average of the industry are; Motorola Solutions, Inc. (MSI) -NYSE, Nokia Corporation (NOK) -NYSE, Microsoft Corporation (MSFT) -NasdaqGS, Hewlett-Packard Company (HPQ) -NYSE, International Business Machines Corporation (IBM) -NYSE). The report also uses Moody’s Bond Rating Criteria benchmarks to analyze the performance of the two companies. These criteria benchmarks are important indicators of the performance of the company as these are used by Moody to rate the performance of the bonds of the companies. Using these criteria, the risks of these companies will also be identified. The seven criteria used to analyze these companies are; Operating Margin Stability, Free Cash Flow Margin Stability, Profitability: Operating Margin, Leverage: Debt / EBITDA, Leverage: Free Cash Flow / Debt, Coverage: EBIT / Interest Expense, and returns: operating income ROAA (return on average assets) (net of cash). Working capital strategies used by these firms will also be analyzed to examine and evaluate the soundness of these firms. The capital structure of the firms is also an important indicator in analyzing the financing policy of the company. Weighted average cost of capital (WACC), Economic Value Added (EVA) at the present of these companies will also be analyzed from the Bloomberg website. At the end of the report, the payout policy of these companies will be evaluated. PERFORMANCE MEASUREMENT AND ANALYSIS Part A: Du Pont Decomposition of ROE DuPont decomposition is an important technique that is used by managers and businesses to analyze the impact of different variables that contribute to the Returns on equity of the company. The main objective of a firm is to maximize the wealth of the shareholders and therefore increasing the ROE is the main purpose or objective of the management. Thus, management focuses a lot on identifying areas through which ROE can be increased (Arnold, 2008). DuPont decomposition analysis is a helpful and a vital technique in recognizing areas that lead to higher ROE or that reduces the ROE. Thus, by improving the areas that result in decreasing ROE the company can further increase its ROE. On the other hand, by strengthening further the areas that result in increasing ROE, the company can stabilize and further increase its ROE (Gitman, 2003). Returns on equity of the two companies in the last five years have been presented in the table below: AAPL BBRY Industry 2012 43.20% 12.20% 27.00% 2011 42.20% 41.20% 37.30% 2010 35.60% 36.50% 29.70% 2009 31.40% 38.60% 18.00% 2008 35.70% 43.60% 37.70% Average 37.60% 34.40% 30.00% The above table and graph reflects the performance of Apple, Blackberry and the industry players in the last five years. ROE of the companies have been used to analyze the performance of these companies and industry. It can be found that the returns on equity of Apple have been more in the last four years in comparison to the industry averages. Moreover, with the passage of time, the returns on equity of Apple have been growing. This is indicating that the company is coming up with more and more innovative products and with the increasing sales of these products, the company is able to increase its return on equity. On the other hand, the returns on equity of Blackberry have decreased from 2008 to 2010. However, in the year 2011 the ROE of the company increased from 36.5% to 41.2%. But in the year 2012, the Returns on equity decreased drastically to 12.20% which is the lowest ROE of the company in the last five years. Thus, it can be said that the year 2012 was not a good one for the company. Returns on equity of Blackberry have been better than Apple in the years 2008, 2009 and 2010. However, ROE of apple has increased than Blackberry in the last two years. The ROE of blackberry has been higher than the ROE of industry averages expect in the year 2012 as the ROE of Blackberry has declined drastically. Thus, it indicates that both these companies; Apple and Blackberry have performed better than the industry average players. However, in 2012 the industry was higher than the ROE of Blackberry. DuPont analysis is used to calculate the ROE. This can be decomposed or broken down and it can be presented in the following equation: The above equation presents the idea that ROE is influenced by five important factors and these factors are; Tax Burden, Interest Burden, Operating Margin, Asset Turnover, and Leverage Ratios. Therefore an increase in any of these five factors will result in increase the ROE of the company as all these factors are directly proportional. Similarly, a decrease in any of these factors will result in declining the ROE of the company. This part of the report will now determine the factors that have resulted in increasing or decreasing the ROE of Apple, Blackberry and industry players. The following table presents the five important factors that influence the ROE of the company as well as the ROE of the company for Apple, Blackberry and industry players. 2012 2011 2010 2009 2008 5 years averages AAPL BBRY Industry AAPL BBRY Industry AAPL BBRY Industry AAPL BBRY Industry AAPL BBRY Industry apple blackberry industry Tax Burden 75% 77% 97% 76% 73% 103% 76% 75% 79% 68% 68% 52% 68% 71% 92% 73% 73% 85% Interest Burden 101% 101% 103% 101% 100% 100% 101% 101% 98% 103% 103% 98% 107% 105% 106% 103% 102% 101% Operating Margin 36% 8% 9% 32% 23% 15% 28% 22% 16% 28% 25% 12% 24% 29% 13% 30% 21% 13% Asset Turnover 107% 138% 82% 113% 173% 81% 106% 163% 82% 103% 163% 89% 123% 154% 103% 110% 158% 87% Leverage Ratios 150% 140% 353% 154% 140% 306% 154% 136% 291% 155% 139% 321% 166% 132% 298% 156% 137% 314% ROE 43% 12% 27% 42% 41% 37% 36% 36% 30% 31% 39% 18% 36% 44% 38% 38% 34% 30% For Apple, the leverage ratio has played an important role in increasing the ROE of the company. The leverage has the highest value in all these five factors in Apple. For instance, the value of leverage ratio is 150%, 154% and 154% in the year 2012, 2011 and 2010 for Apple which is the highest. Thus, this indicates that it is the most important factor that contributes in increasing the ROE of the company. For Blackberry, leverage ratio is the most important factor in the year 2012 only. The leverage ratio in 2012 was the highest with the value of 140%. However, from 2008 to 2011, Asset Turnover factor contributed the most in increasing the returns on equity. For Apple, Asset turnover is the second most important factor in increasing the ROE. Interest burden is another important factor for both; Blackberry, Apple and industry players in increasing the ROE of the company. After analyzing the industry, it can be found that the industry players are focusing on increasing debt in their capital structure very similar to the way Apple has been using. By adding debt, the companies in the industry are able to increase their returns on equity using the leverage concept. Some of the companies in the industry are using too much debt to enhance their returns on equity. For instance, industry average leverage is found to be 353% and 306% in the years 2012 and 2011 respectively. Although this is helping in increasing the ROE but it is also increasing the risk of the company. The factor that is contributing the least in increasing the ROE of Apple is operating margin. Operating margin is the ratio of operating profit to the sales of the company (Gitman, 2003). Therefore, it reveals that the operational cost of these firms is very high and the companies are able to achieve not lucrative operating margin. The case findings can be found with Blackberry and industry averages. Operating profit margin is low for all the companies. However, when the operating profit margin of Apple is compared with Blackberry and other industry players, then it can be identified that the operating profit margin of Apple is higher than others. Thus, Apple is able to manage its operations in a better way than other players in the market. The following table reveals the average of five factors that influence the ROE of the company. Thus, it summarizes the overall factors that have influenced in ROE of the company. It can also be identified that the average ROEs of Apple and Blackberry are more than the industry average ROE. 5 Years Averages Apple Blackberry Industry Tax Burden 73% 73% 85% Interest Burden 103% 102% 101% Operating Margin 30% 21% 13% Asset Turnover 110% 158% 87% Leverage Ratios 156% 137% 314% ROE 38% 34% 30% Part B: Analyzing the company on the basis of Moody’s Bond Rating Criteria This part of the report analyzes the financial ratios of two companies under study. Different companies, financial institutions and investors use financial ratios to analyze the performance of the company before making investment. Moody’s Bond Rating is also based on a certain criteria benchmarks and these criteria provide a way to analyze the company and its performances. This part of the report analyzes the two companies under study; Apple and Blackberry and Moody’s bond rating criterion are applied on these companies. Therefore Moody’s Bond Ratings are helpful in analyzing the performance of these two companies. There are different criteria used to analyze the performance of a company using Moody’s Bond Ratings. One of these criterions is operating margin. Operating margin is a profitability ratio and it shows the ratio of operating profit of the company to the sales. Operating margins of two companies are presented below: Profitability: Operating Margin 2012 2011 2010 2009 2008 Apple 32.55% 28.49% 24.07% 19.72% 17.33% Blackberry 17.57% 23.07% 24.01% 26.15% 26.62% The operating profit margins of the two companies show contrasting pictures. Initially, BlackBerry had performed well in terms of operating profit margin as the profitability ratio of the company was around 26% in 2009 and 2009. However, Apple had a lower operating profit margin was 17.33% and 19.72% in the years 2008 and 2009 respectively. In 2010, both these companies have enjoyed an operating profit margin of 24%. After 2010, Apple reported a higher operating income whereas the operating income margin of Blackberry reduced after the year 2010. In 2012, the difference between the operating profit margin of these companies have widened a lot as Apple reported 32.5% of operating margin whereas the operating profit margin of Blackberry declined to 17.5%. Generally, Apple has reported an increasing income trend whereas Blackberry has reported a declining trend in the last five years as presented in the graph above. The other important criterion is Leverage. It is a ratio of Debt of the company to EBITDA. Leverage ratio of these companies is presented in the table below: LEVERAGE: DEBT / EBITDA 2012 2011 2010 2009 2008 Apple 111.11% 124.35% 142.06% 155.94% 196.39% Blackberry 95.19% 75.97% 77.15% 78.20% 78.19% It has been found that Apple has a higher debt in comparison to its earnings whereas Blackberry has been focusing on lowering debts in order to mitigate the risks. Higher debt in the capital structure helps in increasing the profitability but it also results in increasing the risks. Blackberry has focused on keeping low debts to EBITDA in comparison to Apple. The above table and graph reveals that the ratio of Debt to EBITDA has been decreasing for Apple and this ratio is increasing for Blackberry and the major reason for this can be identified as earnings of Apple have been increasing whereas the earnings of Blackberry has been showing a decline. Therefore, for these reasons the ratio of Apple has been declining and Blackberry is showing an increasing trend. Moody’s Bond Rating is also influenced by another leverage ratio that used to analyze the free cash flows of the company to the debt. The higher the value of the ratio, the better and more cash the company would have in comparison to its debt. The following table presents the ratio of Free cash flow to debt of both the companies under study: LEVERAGE: FREE CASH FLOW / DEBT 2012 2011 2010 2009 2008 Apple 70.95% 70.92% 59.71% 55.52% 47.08% Blackberry 68.89% 64.04% 60.38% 52.71% 67.21% Leverage ratio of Apple has increased with the passage of time as the free cash flows of Apple have increased more in comparison to its debt. However, the ratio of Blackberry has declined in 2009 which is a negative sign but then after 2009, the ratio has increased showing that the company was able increase its free cash flows more than its debt. Returns of the company are another important measure to analyze the performance of the company. Operating income is the measure used to analyze the performance of the company in Moody’s Bond Criteria. The following table shows the operating income of two companies: Returns: Operating Income ROAA 2012 2011 2010 2009 2008 Apple 430.24% 449.88% 372.20% 312.01% 251.67% Blackberry 111.44% 144.99% 139.20% 114.05% 133.41% The operating income of Apple has been showing a drastic increase. The company has been growing in terms of its probability as the profits are growing at a rapid pace. However, there has been a slight decrease in operating income of Apple but not a significant one, as Apple operating income had declined from 450% to 430%. On the other hand, Blackberry has not been able to increase its revenues to the same magnitude as Apple. However, there has been an increase in the profits of Blackberry in 2010 and 2011 but in 2012 the company again reported an increase in its operating income as presented in the graph above. Coverage ratio is another important measure to analyze the performance of the company using Moody’s Bond Rating. It is the ratio of EBIT of the company to Interest expense. The more the value of coverage ratio, the more ability the company has to pay off its interest expense. The following table shows the ratio of coverage ratio: Coverage: EBIT/Interest expense 2012 2011 2010 2009 2008 Apple N/A N/A N/A N/A N/A Blackberry N/A N/A 15320.97 5156.944 1953.65 Because of insufficient data of interest expense of the companies, this comparison cannot be made. However the coverage ratio of Blackberry had been showing an increasing trend from 2008 to 2010. Therefore it can be said that the performance of the company was improving in terms of its ability to pay off its expenses. Part C: Working capital Working capital is an important way to analyze the efficiency and soundness of the firm. Working capital is critical in managing the overall operations firmly and smoothly. This part of the report analyzes the working capital of Apple, Industry and Blackberry. Apple Working Capital Fiscal Years 2012 2011 2010 2009 2008 Days Sales Outstanding: 25 18 31 29 24 Days Inventory Outstanding: 2 3 6 4 5 Days Payables Outstanding: 49 49 67 48 54 Days Working Capital " CCC" -22 -28 -30 -15 -25 Days sales outstanding presents information regarding the number of days a company takes to collect cash from its sales. Days inventory outstanding explains about the company’s performance in earning cash from its inventory and days payables outstanding identifies the performance of the company to retain cash to pay its suppliers (Khan, 1993). The working capital of Apple is negative and this is a good sign for the company. The company is properly managing its working capital. In fact, it is able to have more cash than it is paying. The payables outstanding have a very high value and the company takes a lot of time to pay its suppliers. On the other hand, it is receiving cash quickly from the sales and inventory and thus it is having more cash. The performance of working capital has been improved in 2010 but then it slightly decreased in 2011 and 2012. The following table presents the working capital of BlackBerry. BlackBerry Working Capital Fiscal Years 2012 2011 2010 2009 2008 Days Sales Outstanding: 60.63 72.52 63.31 69.67 71.35 Days Inventory Outstanding: 20.33 11.33 15.17 22.51 24.07 Days Payables Outstanding: 14.73 15.25 15.03 14.79 16.46 Days Working Capital " CCC" 66.23 68.59 63.46 77.39 78.95 The days working capital of Blackberry is positive and it is showing that the company pays its cash earlier and receives the cash late. However, the performance of the company in receiving its working capital has improved with the passage of time. It can be easily identified that Blackberry pays its suppliers a lot earlier than Apple. Moreover, Blackberry receives cash late from sales as compared to Apple. Thus it is resulting in a more days working capital “CCC” for the company. Industry working capital norm has been presented in the table below: Fiscal Years 2012 2011 2010 2009 2008 Days Sales Outstanding: 75 75 71 70 67 Days Inventory Outstanding: 15 16 16 14 18 Days Payables Outstanding: 34 35 39 36 34 Days Working Capital " CCC" 55 57 48 48 51 The overall industry performance is better than the performance of Blackberry. However it is worse than Apple. Generally firms in the industry take more time to convert sales into cash than the time these firms take in paying its suppliers. Therefore, the days working capital has been higher and positive. Cost of Capital Changes in the capital structure Capital structure shows how the firm has raised finance or capital to fund its assets. Capital structure has an important role as it defines and impacts the profitability of the company as well as the risk of the company (Ross, Westerfield, and Jordan, 2009). Leverage ratio calculated earlier is basically the ratio of assets to equity. However it can also be changed to debt to equity ratio So using this equation, this report will subtract 1 from the value of leverage to calculate the debt to equity ratio and then it will be used to analyze how the firm has raised its capital. The following table has calculated the debt to equity ratio of the firms in the industry and the firms under study. AAPL BBRY Industry 2012 50.1% 39.8% 253.4% 2011 54.0% 39.5% 205.8% 2010 54.5% 35.8% 191.5% 2009 55.1% 38.8% 221.2% 2008 65.8% 32.0% 198.0% Average 55.9% 37.2% 214.0% The following graph represents the data graphically: As the values of industry averages for debt to equity ratio are very high in comparison to the debt to equity of Apple and Blackberry, therefore a new graph has been prepared with a secondary axis for the industry average. It can be identified that the debt to equity ratio of Apple has decreased with the passage of time. Apple had more debt in its capital structure however after 2008; the company has been trying to reduce its debt from the capital structure in order to reduce the risks. The debt to equity ratio of Apple was almost 66% in the year 2008 and it has been reduced to almost 50% by the end of year 2012. On the other hand, Blackberry increased its debt in the capital structure in the year 2009. Debt to equity ratio increased from 32% to 39% in 2009. And from then on, it has been more or less the same. However the industry average for debt to equity ratio has been very high. Moreover, this debt to equity ratio has been fluctuating every year. For instance, it increased in 2009 and then decreased in 2010. However from 2010, it has been increasing. Therefore it is revealing that the firms in the industry have identified that by adding more debt, the profitability can be enhanced. WACC, EVA and EVA Spread WACC WACC is basically the weighted average cost of capital of the company. WACC defines the average cost that the company has to pay in order to raise capital. The higher the WACC of the company, the more expensive it is for the company to raise capital. Therefore firms try to minimize the WACC. WACC is basically the average cost of debt and the average cost of equity of the firm (Pike, and  Neale, 2009). The cost of debt of Blackberry as calculated by Bloomberg is 3.49% and the cost of equity of Blackberry is 18.01%. Therefore WACC of Blackberry is 21.5% The cost of debt of Apple is 2.3% and the cost of equity is 10.09%. Therefore the total cost of capital is 13.2%. So, it reveals that the cost of capital of Apple is much less in comparison to the cost of capital of Blackberry. EVA and EVA Spread EVA presents the financial performance of the company on the basis of residual wealth after deducting the cost of capital of the company from the operating profit. Investors use EVA to analyze the financial performance or the economic profit of the company (Pike, and  Neale, 2009). EVA of Blackberry is -3328.72 and the EVA Spread is 65.92%. On the other hand, EVA of Apple is 22,179.68 and EVA Spread of Apple is 14.67%. So it can be identified that Bloomberg believes that Apple is performing much better than Blackberry and therefore the economic value added of Apple is positive and higher than Blackberry. Payout Policy Blackberry repurchased 524 million common shares in the year 2011. This repurchase is aim to increase the returns on equity of the shareholders (BlackBerry, 2011). The company has also not paid divided in the last four years or so (BlackBerry, 2012). On the other hand, Apple has been following a similar policy as the management wants to retain the funds and not payout in the form of dividends. Apple expects higher need of cash flows and funds and therefore the management is retaining its funds for future growth and investment (Apple, 2012). conclusion This report presents financial analysis of Apple and Blackberry. It has been found that the financial performance of Apple has been improving whereas the performance of Blackberry has been declining. Therefore it is important for the management of Blackberry to identify ways to again improve its returns and other important ratios. On the other hand, the management of Apple should continue its innovation and continue investing in research and development to continue its growth. References Apple. (2012). Annual Report. Available from http://files.shareholder.com/downloads/AAPL/2975171372x0xS1193125-11-282113/320193/filing.pdf [Accessed 24th February, 2014] Arnold, G. (2008). Corporate Financial Management, 4th Edition. Harlow: FT Prentice Hall. BlackBerry. (2011). Annual Report. 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