Financial Accounting of Sobeys Incorporation - Term Paper Example

Financial Accounting Analysis – Sobeys Incorporation Financial Accounting Analysis – Sobeys Incorporation Introduction Sobeys is one of the leading chains of retails stores operating in Canada. The company’s history stretches over more than 100 years. In these decades, the company has not only grown phenomenally, and it is currently operating more than 1,500 stores. The company is valued at $17.6 billion. The company operates as a fully owned subsidiary of Empire Company Limited and its head office is located at Nova Scotia. The company operates its retails stores under different brand names such as Sobeys, Safeway, IGA, etc. In this report, the company’s financial performance is evaluated using different comparative analysis tools including common size statements, and ratio analysis. The findings are presented in a tabular format supported by comprehensive discussion of results. Horizontal Analysis of Balance Sheet The horizontal analysis of Balance Sheet does not show any worrying trends or majorly fluctuating balances from 2011 to 2012. Inventories remain at the same level and while there is 12.84% increase in Property and Equipment it is offset by the 16.78% decrease in the Cash and Cash equivalents. Other large changes include an increase in Goodwill, decrease in Long term loan which is offset by an increase in the current portion of the Long term loan. The horizontal analysis of the balance sheet is set out below: Sobeys Inc Horizontal Analysis of Consolidated Balance Sheet (in million of CAD) Change As at 5th May 7th May Increase/ (Decrease) Percentage 2012 2011 Amount (CAD) Amount (CAD) (CAD) Assets Current Cash and Cash Equivalents 509.7 612.5 -102.8 -16.78% Receivables 362 346.6 15.4 4.44% Inventories 816.9 813.7 3.2 0.39% Prepaid Expenses 75.7 67.9 7.8 11.49% Loans and Other Receivables 32.9 45.9 -13.0 -28.32% Incomes Taxes Receivable 45.8 25.1 20.7 82.47% Assets for Sale 28.2 28.8 -0.6 -2.08% 1871.2 1940.5 Non Current Loans and Other Receivables 57.9 63.4 -5.5 -8.68% Investment in Affiliate 48 48 0.0 0.00% Other Assets 68.5 55.3 13.2 23.87% Property and Equipment 2476.5 2194.7 281.8 12.84% Investment Property 86.5 60.8 25.7 42.27% Intangibles 190.3 173.7 16.6 9.56% Goodwill 963.2 881.5 81.7 9.27% Deferred Tax Asset 23.3 15.6 7.7 49.36% 5785.4 5433.5 Liabilities Current Accounts payable and Accrued Liabilities 1,676.7 1,585.0 91.7 5.79% Income Taxes Payable 7.3 16.7 -9.4 -56.29% Provisions 23.8 24.1 -0.3 -1.24% Long terms debt due within one year 236.2 48.1 188.1 391.06% 1,944.0 1,673.9 Provisions 50.0 24.7 25.3 102.43% Long term Debt 739.4 951.2 -211.8 -22.27% Other long term liabilities 151.9 116.0 35.9 30.95% Employee future benefits obligations 140.4 119.8 20.6 17.20% Derivative Financial obligations 2.8 9.1 -6.3 -69.23% Deferred Tax liability 108.2 98.1 10.1 10.30% 3,136.7 2,992.8 Shareholders Equity Capital Stock 958.5 958.5 0.0 0.00% Contributed Surplus 93.0 93.0 0.0 0.00% Retained Earnings 1,567.3 1,362.8 204.5 15.01% Accumulated other comprehensive loss (5.2) (9.4) 4.2 -44.68% 2,613.6 2,404.9 Minority Interest 35.1 35.8 -0.7 -1.96% 2,648.7 2,440.7 5,785.4 5,433.5 Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) Horizontal Analysis of Income Statement The horizontal analysis of the Income Statement also does not show any worrying trends from 2011 to 2012. The Sales have increased by 1.8% but that is due to a corresponding increase in the Cost of Sales which has increased by 2.14%. The net earnings have increased by 3.3%, this is due to the fact that other income has increased and the financial costs have decreased during the period. The horizontal analysis of the income statement is set out below: Sobeys Inc Horizontal Analysis of Comparative Statement of Earnings (in million of CAD) 52 Weeks ended 53 Weeks ended Change 5th May 7th May Increase/ (Decrease) Percentage 2012 2011 Amount (CAD) Amount (CAD) (CAD) Sales 16,021.9 15,738.0 283.90 1.80% Other Income 69.3 59.5 9.80 16.47% Operating Expenses Cost of Sales 12,147.7 11,892.7 255.00 2.14% Selling and Administrative 3,447.6 3,407.7 39.90 1.17% Operating Income 495.9 497.1 (1.20) -0.24% Financial Costs 50.9 60.1 (9.20) -15.31% Earnings before Tax 445.0 437.0 8.00 1.83% Income Tax 109.8 112.5 (2.70) -2.40% Net Earnings 335.2 324.5 10.70 3.30% Earnings for the year attributable to Minority Interest 12.7 9.0 3.70 41.11% Owners of the Parent 322.5 315.5 7.00 2.22% Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) Vertical Analysis of Income Statement The vertical analysis of the income statement for the years 2011 and 2012 set out below shows all balances as a percentage of sales. As illustrated the cost of sales and other expenses have both increased as a percentage of sales, even though minutely. This is worrying because ordinarily the cost of sale should be kept in line with sales. Conversely the net income is 2.09% of sales in 2012 and 2.03% in 2011. There is a slight increase, which all in all is a positive sign for the entity (Rajasekaran, 2011). Sobeys Inc. Vertical Analysis of Comparative Statement of Earnings (in million of CAD) 52 Weeks ended 53 Weeks ended 5th May 7th May 2012 2011 Amount (CAD) Percentage Amount (CAD) Percentage Sales 16,021.9 100% 15,738.0 100% Other Income 69.3 0.43% 59.5 0.37% Operating Expenses Cost of Sales 12,147.7 75.82% 11,892.7 74.23% Selling and Administrative 3,447.6 21.52% 3,407.7 21.27% Operating Income 495.9 3.10% 497.1 3.10% Financial Costs 50.9 0.32% 60.1 0.38% Earnings before Tax 445.0 2.78% 437.0 2.73% Income Tax 109.8 0.69% 112.5 0.70% Net Earnings 335.2 2.09% 324.5 2.03% Earnings for the year attributable to Minority Interest 12.7 0.08% 9.0 0.06% Owners of the Parent 322.5 2.01% 315.5 1.97% Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) Trend Analysis Looking at the trends in the past five years’ financial statements of the company, it can be seen that the net sales have been increasing steadily for the past four years. The increase in sales for this year has been less than those compared to previous years, 1.6% from over 3%. The cost of sales has increased proportionally as well while the administrative and selling costs have remained more or less the same. The net earnings have been increasing steadily as well, increasing by almost 20% in 2012 and a total of 41% since 2009. The current assets of the entity had been showing a steady increase recently, until a decrease in 2012. This is mainly because of the cash position which has decreased by 17% compared to last year. The shortfall in cash is due to the investment in fixed assets and a lack of sale growth in 2012 as mentioned above. The current liabilities trend is also quite stable before a sharp increase in 2012, mainly because a large portion of the long term debt has matured (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011; Sobeys Incorporated, 2010). Ratio Analysis In this section, a ratio analysis of Sobeys has been carried out with respect to the last two financial years, 2011 and 2012. Liquidity Ratios 2012 2011 Current Ratio Current Asset/Current Liability 0.96 1.16 Acid Test Ratio Current Asset excluding inventory and Assets for Sale/Current Liabilities 0.53 0.66 Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) The liquidity ratios are a measure used to get an idea of an entity’s capability to pay back its short term liabilities. The liquidity ratios as shown above indicate worrying signs for the entity. The current ratio was good in 2011 and worsened slightly in 2012. But the entity is overly reliant on its inventories and assets for sales to cover its debts as shown by the low acid test ratios of 0.66 in 2011 and 0.53 in 2012 (Needles & Powers, 2010). Asset Management 2012 2011 Receivables Turnover Sales/Ave Receivables 45.22 45.41 Inventory Turnover COS/Ave Inventory 14.90 14.62 Payables Turnover Purchases/Ave Accounts Payable 7.45 7.50 Days Receivable Ave Receivables/Sales*365 8.07 8.04 Days Inventory Ave Inventory/COGS*365 24.50 24.97 Days Payable Ave Accounts Payable/Purchases*365 49.00 48.65 Asset Turnover Net Sales/Ave Total Assets 2.86 2.90 Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) Asset management ratios are a means to measure the success of a company in utilizing its assets for revenue generation. The analysis of these ratios indicates the efficiency and effectiveness of an entity’s assets. They measure the capability of an entity of converting its assets into sales. The asset management ratios as shown above show a healthy position of the entity. The variation in ratios form 2011 to 2012 is negligible. The day’s payable, around 49 is much higher than day’s inventory, around 25 and day’s receivable, around 8, which shows very good asset management by the entity. Considering the nature of business of the entity is food retailing the asset turnover ratio seems fine. A ratio of around 2.9 shows that the entity has a narrower asset base compared to its sales as it does not need high investment in assets to perform well. The receivables turnover, inventory turnover and payable turnover are quite favourable as well. Financial Leverage 2012 2011 Long-term Debt to Total Assets Long term Debt/Total Assets 0.13 0.18 Long-term Debt to Shareholders Equity Long Term Debt/Shareholders Equity 0.28 0.40 Coverage Ratio Earnings before interest and tax/ Interest 396.68 383.73 Operating Cash Flows to Interest Expense Operating Cash Flow/Interest Expense 12.17 12.03 Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) Financial leverage ratios are used to calculate and assess the entitys methods of financing and whether it is in a position to fulfill its financial obligations or not. These ratios focus on the entity’s financing operations which include debt, equity and interest The financial leverage ratios as shown above give a good picture of the entity. The entity seems to be in a good position to meet its financial obligations. The debt to asset ratio is quite reasonable with the entity having 1 CAD worth of assets for every 13 cents of debt. The debt to equity ratio of 0.28 is also quite reasonable and has in fact decreased from 2011 to 2012. This decrease is a little misleading considering that a huge portion of the debt became payable in 2012. The debt coverage ratio is very good and the entity has more than enough earnings to be able to cover its interest payments easily. The operating cash flows to interest expense ratio indicates how much cash the entity has from operations to cover the interest payments. The ratio of 12 shows that the entity has more than enough cash to be able to cover interest payments. Profitability 2012 2011 Gross Margin Gross Profit (Sales - COGS)/Sales 0.24 0.24 Net Profit Margin Net Earnings/Sales 0.021 0.021 Return on Assets Net Earnings/Total Assets 0.058 0.060 Return on Equity Net Earnings/Equity 0.1266 0.1330 Source: (Sobeys Incorporated, 2012; Sobeys Incorporated, 2011) Profitability ratios are a measure used to assess an entity’s earnings in direct relation to its cost of sales, total expenses or other measures including investment or equity. These ratios vary from industry to industry and are best used to compare information between two entities in the same industry or two years for the same entity. The Gross Margin on Sales earned by the entity is 0.24 or 24%. This is quite reasonable a margin ratio and is consistent for both years. The net margin of 0.021 or 2.1% seems a little low. The Return on Assets is also quite low at 5.8% in 2012. This has in fact decreased from last year when it was 6%. The return on equity has also decreased from 13.3% to 12.6%. Analysis The company’s liquidity position is not satisfactory and it has to rely on its inventory to fulfill all current liabilities. The unfavorable liquidity position is because of the investment made in property and plant in 2012. Also the previously taken long term loan is now getting close to repayment so the current portion of the loan is much higher than before, an increase of 188.1 million Canadian dollars. The company should be able to better its liquidity position in the coming years as the effect of the investment comes to the fore, debt repayments decrease, increasing net earnings and the cash position. The entity seems to be well covered as far as assets, debt and equity are concerned. The debt to equity ratio is quite low, and the interest payments are well covered by earnings as well as assets. The gross margin that the entity is operating at is quite sufficient, but the net margin is not quite so favorable. This is mainly because of the fact that the selling and administrative expenses of the entity are quite high, which is a characteristic of the food retailing industry. The entity should look to decrease its indirect costs (administrative) to improve earnings position (Rajasekaran, 2011; Needles & Powers, 2010). Conclusion The analysis shows that the results of the entity have been stable for the years 2011 and 2012. Its performance has been quite satisfactory with increase in sales and net assets. Its liquidity position needs improvement and should improve as the debt is paid off. The entity’s asset management has been quite satisfactory so has its leverage. The entity is operating on a good gross profit margin though high selling and administrative costs result in a low net profit margin. The company has invested in some property and plant in 2012 which should improve its efficiency in the years to come. To summarize Sobeys Incorporated is in a position of strength right now, and is operating efficiently. It is well covered in terms of debt, equity and assets. The only concern is the high selling costs compared to sales and that is something which should be targeted as an area for improvement. Reference List Needles, B. E., & Powers, M. (2010). Financial Accounting. Mason: Cengage Learning. Rajasekaran, V. (2011). Financial Accounting. New Delhi: Dorling Kindersley Private Limited. Sobeys Incorporated. (2010). Financial Statements. Stellarton: Sobeys Incorporated. Sobeys Incorporated. (2011). Annual Report 2011. Stellarton: Sobeys Incorporated. Sobeys Incorporated. (2012). Annual Report 2012. Stellarton: Sobeys Incorporated. Read More