Analysis of Financial Statements of Marks & Spencer - Essay Example

Table of Contents S.No Heading Page No Introduction 2 2 Understanding the financial objectives of M&S. 3 3 -Describing, discussing and analysing the basis of the content of the financial statements of Marks & Spencer. 5 3.1 Income Statement 5 3.2 Balance Sheet 7 3.3 Statement of Cash Flows (IAS7) 8 4 Measuring the financial performance of M/s Marks & Spencer 11 4.1 Profitability Ratios 12 4.2 Liquidity Ratio 13 4.3 Current ratio 14 4.4 Quick Ratio 15 4.5 Debt –equity ratio 15 4.6 Efficiency Ratios 16 4.7 “Inventory Turnover Ratio” 16 4.8 “Receivable turnover ratio” 16 4.9 Fixed Asset Turnover Ratio 17 5 Understanding the methods of raising and deploying financial resources in times of uncertainty. 17 6 Works Cited 19 List of Figures S.No Heading Page No 1 Marks & Spencer Revenue by Segment 2 2 Good Performance in M&S Food and Growth in the International Business 3 List of Tables S.No Heading Page No 1 Marks & Spencer Income Statement for the year 2013 & 2014 6 2 M&S Cash Flow Statement for the year ending March 2014 & 2013 10 3 Marks & Spencer – Profitability Ratios 12 4 Marks & Spencer Liquidity Ratios 14 5 Marks & Spencer Efficiency Ratios 17 Student Name Professor Name Subject 3rd September 2014 Analysis of Financial Statements of Marks & Spencer 1 -Introduction Marks & Spencer (hitherinafter referred as M&S) is one of the UK’s largest retail chains with 12.4% of market share in clothing and a 3.8% market segment in food stuffs in the United Kingdom’s market in the year 2014. Started as a small store at Kirkgate Market in Leeds in 1884, its group revenue is reported at £10.3 billion in 2014 where 55% of turnover is comprised of food items whereas the rest 45% is comprised of general merchandise as of March 2014. Further, about 89% of M&S revenue is generated from its UK stores whereas 11% of its turnover is generated through its stores located in Europe, Asia and the Middle East. As of 2014, M&S owns 798 stores in UK, 455 stores in 54 international territories in Asia, Middle East and Europe and offers direct employment to more than 85,813 employees both in UK, and in stores located around the world. Fig 1- Marks & Spencer Revenue by Segment Source-http://www.jyskebank.dk/ Despite recent economic recession and due to intricate market scenarios, M&S is still able to maintain steady sales growth in the recent past years. Thus, despite the difficult market situation, M&S is able to maintain a stable sales growth, mainly due to its strong business concept, which centers on its sustainability, innovation and quality policies. Although the products offered by M&S are somewhat costlier than those of its competitors and in the customary supermarket scenario, M&S is still able to attract a sizeable number of customers towards its brands. M&S is concentrating on the global market, particularly in the developing economies such as India and China, and this strategy helps to improve its international sales revenues as evidenced by the following graphs: Fig 2- Good Performance in M&S Food and Growth in the International Business Source-http://www.jyskebank.dk/ M&S offers clothing under its own brands and M&S Simply Food shops are operated as supermarket chains. These retail chains offer a distinct , assorted variety of specialty products under M&S own brands. 2-Understanding the financial objectives of M&S. Financial statements published by a company are evaluated both internally by the management and externally by the creditors, investors and regulatory agencies. Management’s evaluation of company’s financial statements chiefly pertains to the functioning of various sections of the company. For decision-making purposes, these financial statements offer unique financial information and specific reports to the top management of the company. External users use these financial statements to make a decision about whether to invest in the company or not. The analysis of financial statements includes the application and analysis of various techniques and tools to extract useful investment decision from the application. Further financial statements offer a useful link for the evaluation of company’s past performance and current performance. Potential and the present investors use this information to evaluate the profitability of the company. Financial statements offer an insight to the outsiders and the long-term creditors about the solvency position of the company (Hemanson and Ivancevich 393). In an atmosphere of fierce competition, supermarket chains in the UK, despite their size, have realised that it is essential for their survival for the efficient management of medium-term, short-term and long-term cash outflows and for proper management of the resulting risk from such cash outflows. For managing the finance functions of the company, it is essential to integrate of all cash flow information by the company from the various financial transactions carried over by it. Thus, this assimilation impacts every aspect of the company starting from short-run control and clearing of the bank account balances, to medium-run planning and estimation of the inflow and outflow of payments to vendors and customers, to long-run supervising of operational areas like sales and purchases. Further,a supermarket chain’s success is solely dependent upon how this information flows into already planned or established financial investment borrowing activities and financial investment’s activities by the treasury department of the company. The strategic codification of financial objectives of a business is knotted to risk and revenue objectives or goals. Thus, financial objectives of a business will include efficient management of liquidity of a business as backed by the cash management element. Further, the market risk offers procedures and methods for assessing risk positions. For management of financial positions and transactions, a well-balanced treasury management is essential (Curran 231). 3-Describing, discussing and analysing the basis of the content of the financial statements of Marks & Spencer. M&S financial statement consists of the following: a) consolidated income statement (Profit and Loss account) b) consolidated statement of comprehensive income c) consolidated statement of financial position (Balance sheet) d) consolidated statement of changes in Equity e)consolidated cash flow statement. M&S annual financial statements are prepared as per IFRS regulations (International Financial Reporting Standards) and as per interpretations made by the IFRS interpretation committee, as perused by European Union (EU) and in consonance with Companies Act, 2006 of UK as applicable to companies reporting by UK companies under IFRS (Marks &Spencer Annual Report 2014 92). 3.1 Income Statement Income statement of any business under IFRS should disclose income earned, and expenses incurred during the financial period so as to arrive at the profit or loss for that financial period. An income statement should usually consist of the following: a)Revenue b) finance costs c) share of the revenue or loss of subsidiaries and joint-ventures accounted for by employing the equity method d) the aggregate the post-tax revenue or loss from business operations that has been discontinued, e) taxes paid f) administrative and marketing expenses, g) net revenue or loss after taxes. Further, from the income statement, one can also understand about the percentage of revenue attributable to minority interest and parent company’s shareholders. Further, extraordinary items cannot be presented either in the notes to accounts or income-statement. Moreover, any material revenue or expenses should be divulged separately with their amount and nature of such expenses. On the footing of their function or nature, analysis of expenses can be classified in the income statement. Further, the amount of aggregate and per-share dividend which is distributable to equity shareholders should be disseminated in the income statements, the notes and changes in the equity should also be disseminated (Mirza, Holt & Orrell 7.2). Table1- Marks & Spencer Income Statement for the year 2013 & 2014 Summary of the Financial Results of M&S for the last two years March 29 , 2014 March 30 , 2013 Changes % on year £ m £ m Total Revenue 10309 10026 2.8% UK 9156 8951 2.3% International 1154 1075 7.3% Underlying Operating Profit 742 779 -4.70% UK 619 658 -6.90% International 123 120 2.10% Underlying Profit before tax 623 648 -3.90% Profit before Tax 580 547 6.10% Underlying Basic EPS 32.2p 31.9p 0.90% Dividend per Share 17p 17p Source: (M&S Annual Report 2014 88). As compared to the year 2013, in the year 2014, M&S witnessed a just 2.8% of an increase in its aggregate revenue, which seems to be moderate. The poor increase in net revenue for M&S may be attributed to challenging issues in European markets as witnessed by M&S, particularly in Spain, Greece and Ireland, which are yet to recover from the debt crisis of Eurozone. Further, in UK, the consumer purchasing power is impacted by the ever rising cost of petrol and energy and adverse weather conditions witnessed in 2013 and 2014 in UK due to unprecedented flooding due to excess rainfall, which have contributed to the negligent increase in the net revenue of M&S during the above periods. 3.2 Balance Sheet The balance sheet of a company should consist the following vital information about the business assets and its liabilities as on the closing of the accounting period which usually comprises of a period of twelve months, and they are categorised as follows: a) details about equipment , plant and property b) details of intangible assets c) amount invested in properties d) financial assets, which include investments made , trade and other receivables and cash and cash equivalents ,e) biological assets if any f) details about trade & other payables , g) provisions for bad debts , depreciations , provision for current tax ,etc. , h) details of financial liabilities like deferred tax assets and liabilities i) paid-up capital and reserves, j)trade creditors h) long-term and short-term debts and so on. Further, in the balance sheet, it is essential to differentiate between current assets/ liabilities and non-current assets / liabilities. Under current assets , all assets which are likely to be realised within the period of twelve months immediately after the balance sheet date which is held for business objectives, which includes cash or cash equivalents should be disclosed. All other assets which do not fit into the term ‘current assets’ shall be shown as non-current assets. A current liability is one, which is likely to be paid within the normal business operating cycle or within the period of one year immediately after the date of the balance sheet. All other liabilities of the company shall be classified as non-current liability (Mirza, Holt & Orrell 7.3). 3.3 Statement of Cash Flows (IAS7) Under IFRS, a statement of cash flows should be prepared by a company which offers information about the company’s cash inflow (receipts) and cash outflow (payments) for the period for which the financial statement is prepared. IAS 7 (International Accounting Standards) prescribes the regulations as regards to the statement of cash flow preparation and reporting. Cash flow statement offers an excellent insight over the financial structure of a business, including its solvency and liquidity, and its capability to impact the timing and amounts of cash flows so as to adapt to changing scenarios and opportunities. It also offers updated information for the purposes of appraisal of changes in liabilities, assets and equity of a business. It also acts as a pointer to the timing, amount and certainty of future cash flows (Mirza, Holt & Orrell 42). From the following M&S’s cash flow statement, one can understand about M&S’s net cash flow from operating activities, cash inflows due to investing activities like cash receipts from property sales, cash outflow due to purchase of plant, property and equipment, cash outflow due to purchase of intangible assets, purchase or sale of current financial assets and cash flow due to receipt of interest. One can also understand, net cash inflow from financing activities of M&S like cash inflows due to borrowings, issue of syndicated loan notes, inflows due to floating of medium-term notes, cash outflow for employee’s pension schemes, decrease in financial obligations under leases, dividend paid on equity shares and receipts from the issue employee share options (M&S Annual Report 2014 91). Thus, M&S net cash flow from operating activities during the year ending 29th March 2014 was £ 1129.6 million. M&S employed net cash for investing activities for the above period to the tune of £ 614.9 million and employed cash for financing activities during the above period to the tune of £ 498.1 million with a closing net cash balance of £ 175.7 million (M&S Annual Report 2014 91). Table-2 M&S Cash Flow Statement for the year ending March 2014 & 2013 Source : M&S Annual Report 2014 91. 4- Measuring the financial performance of M/s Marks & Spencer The income statement, the balance sheet and cash flow statements offer an insight into a company’s profitability, operations and its aggregate financial status. By evaluating the associations among the financial statements can, however, offer more insight into a company’s financial status and performance. Further, by employing ratio analysis, one can identify a company’s financial acumen and its drawbacks. Ratio analysis is possible by calculating and analysing financial ratios thereby employing information taken from a company’s financial statement so as to evaluate a company’s performance and its financial condition. A financial ratio explains the association between financial data on a percentage basis. For example, a current ratio is analysed by analysing the relationship between current assets and current liabilities. Further, a company’s ratio can be employed to compare its performance over the period of time and also can be used to compare the industry average, or it can be used to analyse with the other company’s performance in the same industry. For instance, we can analyse Marks& Spencer’s financial analysis with that of Next Plc financial ratios to know which company is performing well. It is significant to remember that ratio analysis is footed upon historical data and may not highlight future financial performance of a company. Ratio analysis just pinpoints the probable issues, and it does not demonstrate that these problems exist. Nonetheless, the top management of the company can with the help of ratios monitor the company’s performance from period to period and to comprehend business operations much better and to recognise the weak areas. Ratios also offer an insight to creditors of a company both present and future and with the help of ratios, they can come to conclude whether the company is having the financial ability to repay their debts and to evaluate the company’s both the present and future financial health. Further, financial institutions will insist that the company’s to have some minimum levels of particular ratios for them to lend to the company. Further, ratios offer an insight to shareholders to evaluate the company’s past performance and its future trend. Ratios can be grouped into the following categories like profitability, liquidity, debt and activity (Gitman & McDaniel 491). 4.1 Profitability Ratios: Profitability ratio is helpful to evaluate how a business is employing its resources to generate revenues and how efficiently it is being administered or managed. To evaluate the profitability of a business, the profits of a business can be related to its inventory, sales and equity. The net profit ratio evaluates the percentage of each GBP sale remaining after all expenses, including taxes have been adjusted with. Higher net profit margin indicates the good show by a company, and it is frequently employed to evaluate a business revenue earning capacity (Gitman & McDaniel 493). Table -3 Marks & Spencer – Profitability Ratios Marks & Spencer Mar-12 Mar-13 Mar-14 Gross Profit Ratio % 37.8 37.9 37.5 Net Profit Margin 5.16 4.65 5.09 Return on Assets 7.02 6.29 6.78 Return on Equity 18.81 17.73 20.21 Return on Invested Capital % 13.16 12.72 14.7 Interest Coverage 5.85 5.50 5.79 Source: financials.morningstar.com As per CSIMarket, the grocery stores industry average of gross margin as of 2nd quarter of 2014 is 24.27%. The average gross profit ratio of M&S is 37.33%, which is 53% higher than the industrial average. The high gross profit margin points out how efficiently M&S is employing its labour and other overheads to generate higher revenue. Thus, M&S high gross profit margin points out that M&S can be able to make a reasonable revenue on its sales. Net profit margin of M&S remained at 4.97% in average in the last three years. The industry average of net profit margin in the 1st quarter of 2014 3.19% as per CSIMarket. To increase its net profit margin, M&S has to pay more attention to minimise its selling and administrative overheads. It is hoped that by increasing its international operations, M&S should try to enhance its net profit margin in the coming years as M&S International operations has yielded 7.3% increase in 2014 as compared to 2013 as its UK operations have yielded just 2.3% increase in the year 2014 as compared to 2013. Return on Equity ratio helps to evaluate a company’s profitability with the money invested by its shareholders. Higher the ratio, it indicates that the company is prudently employing the shareholder’s money and suitably rewards them back. Further, a consistent return on equity ratio connotes that company is maintaining its business in stable condition. M&S is able to have a high return of equity, mainly due to its overseas expansion activities. Despite economic recession, M&S is able to have a stable and increasing ROE which demonstrates that it disposes off its inventory in its stores within a short span of time. 4.2 Liquidity Ratio Ratios that evaluate a company’s ability to defray its short-term debts as they fall due are known as the liquidity ratio. This ratio is of much useful to creditors and lenders as it will help them to evaluate a company’s financial strength to meet their dues when they fall due. A company’s liquidity is measured through the ratio of aggregate of its current assets to aggregate of its total current liabilities, which is known as current ratio. A current ratio of less than 2 may not be considered to be adequate for a merchandiser company that carries a high volume of inventories and a large sum of receivables (Gitman & McDaniel 491). Table 4 Marks & Spencer Liquidity Ratios Marks & Spencer Liquidity Ratios Mar-12 Mar-13 Mar-14 Current Ratio 0.73 0.57 0.58 Quick Ratio 0.17 0.15 0.15 Financial Leverage 2.62 3.04 2.92 Debt / Equity 0.70 0.69 0.61 Source: financials.morningstar.com 4.3 Current ratio M&S current ratio is less than 1 in the last three years and in average, it remains at 0.63% in the past thirty-six months. It denotes that M&S is having just 0.63% of current assets only to meet its current liability obligations. However, the current ratio should be considered against the background of what is normal for the business in general. For instance, supermarket’s chains like M&S tend to have low current ratios, mainly due to the following reasons like a) trade payables will be always high as supermarket enjoys a considerable credit period from the suppliers , b) since supermarkets are selling on cash and carry business ,there will be less trade receivables and c) there is normally close monitoring of cash through tight cash control policies as supermarket’s chains like M&S has to fund its investment in improving its store’s atmosphere and in identifying and investing in new stores. M&S competitors like Sainsbury , Morrisons and Tesco is also having low current ratio, and we can come to a conclusion that low current ratio is a common factor in supermarket chain industry in UK. 4.4 Quick Ratio This is also known as the acid-test ratio as by removing inventory from the current assets , it tries to offer the acid test of whether a business has adequate liquid funds like cash and receivables to meet its current liabilities. Supermarket chains will have a low quick ratio as there will be less receivables as they are offering only cash and carry sales and there will be minimum credit sales. When inferring the quick ratio, more attention should be paid to the status of the bank overdraft. A company with low quick ratio like M&S, in reality, may not witness any issue in paying its short-term debts if it is having good arrangement with its bankers for availing overdraft facilities to meet its current liabilities. 4.5 Debt –equity ratio This ratio evaluates the association between the amount of owner’s funds (equity financing) and the amount of borrowing (debt financing). In normal parlance, a low ratio is always better for a company, but it is significant to evaluate the debt-equity ratio against industry averages and the past values (Gitman & McDaniel 494). By minimising the quantum of debt that forms the part and parcel of M&S capital structure, M&S has, in reality, had de-risked its balance sheet. The financial gearing of M&S has fallen drastically in the last three years as M&S has posted a low debt-equity ratio. When tough trading condition in UK supermarket industry is taken into account, this is really an impressive trend. Moreover, this shows that M&S not only minimised the quantum of risk carried on its balance sheet but has also performed quite well to maintain a high ROE as higher magnitude of financial gearing tends to result in higher returns to equity shareholders of M&S (Motley Fool 2013). 4.6 Efficiency Ratios This ratio is also known as asset-management ratio, which offer an insight about how a company can perform well by employing its assets to generate sales. For instance, if two super market chains in UK have the same level of sales, but one company has a low level of investment in its inventories, then, we can say that super market chain with lower investment in inventories is more efficient as regards to its inventory management. 4.7 “Inventory Turnover Ratio” This ratio evaluates the number of GBP of sales that are earned per GBP of inventory. It can also be construed as the number of times that a super market chain replaces its inventories during a year. In general parlance, high inventory turnover is regarded to be good as it connotes that opportunity costs of maintaining inventory are low , but it is too high , then , a super market may be facing a risk of inventory breakdowns, and its loyal customers may be lost (Mayes and Shank 110). M&S average inventory turnover is 8.54 days whereas the industry average is 4.75 days and M&S is considerably enjoying a low opportunity cost for maintaining its inventory. 4.8 “Receivable turnover ratio” Without offering credit, it may be difficult for any business to increase the sales. It is significant to understand about how well a company is administering its accounts receivables, and the receivable turnover ratio offers us with this useful information. Normally, a higher ratio is always good, but allowing too high credit period might point out that the company is denying credit to creditworthy clients thereby losing sales. A low ratio indicates that the company may witness a difficulty in the collection of its credit sales. (Mayes and Shank 111). It takes nearly three months for M&S to collect the amount from debtors. 21 days is the industry average. Thus, allowing a too long period to debtors to pay back may end in the larger provision for bad debts by M&S. Thus, it is recommended that M&S should introduce an aggressive credit policy so that it should bring down its receivable turnover to one month from that of existing three months. 4.9 Fixed Asset Turnover Ratio This ratio explains the GPB amount of sales that are earned by each GPB invested in fixed assets of the company. (Mayes and Shank 112). M&S average turnover is 2.2 for the last three years whereas the industry average is 0.84. High asset turnover ratio of M&S implies that it effectively using its fixed assets to increase its sales. Table-5 Marks & Spencer Efficiency Ratios Marks & Spencer Efficiency Ratios Mar-12 Mar-13 Mar-14 Receivables Turnover 93.32 89.97 87.70 Inventory Turnover 9.04 8.60 7.98 Fixed Assets Turnover 2.1 2.04 2.03 Source: financials.morningstar.com 5-Understanding the methods of raising and deploying financial resources in times of uncertainty. In the recent past, UK witnessed many economic downturns as in 1980 and 1980, and in 2009, again, UK was impacted by global economic meltdown. Further, the recent Eurozone economic recession and also severe flood in the year 2013 and 2014 had impacted UK’s economy seriously. Due to credit crunch during the economic recession, many businesses in UK may find it difficult to raise funds to meet their business needs as banks might have tightened their credit policies. Hence, getting a term loan from a ,bank for a new project or getting cash credit facilities from a bank to meet the working capital needs of the business will become more cumbersome in such economic recession scenarios. Further, raising funds from the primary market by issues of shares, bonds, and credit notes might not be feasible as investors may not have adequate financial resources to invest in such public issues. M&S is not an exception to this. However, M&S has well managed the situation and during the recession also, due to its reputation, it received credit periods from its suppliers, and also its bankers have helped it due to its good past track record. From the cash flow statement of M&S annual report 2014, we can understand M&S is able to tide over the economic recession thereby accessing conventional funding available from the market. From the investing activity of M& S cash flow statement, we can understand that M&S is able to raise GBP 167.5 million as of March 2014 as compared to just GBP 0.05 million in March 2013 through the way of borrowings. Further, M&S is able to raise funds through the issue of syndicated loan notes to the tune of GBP 154.1 million as of March 2014 as compared to just GBP 81 million in March 2013. Further, M&S is able to raise funds by issue of shares to its employees to the tune of GBP 44.2 million as of March 2014 as compared to GBP 22.9 million as of March 2013. Further, with the help of internal accruals, to minimise interest cost, M&S redeemed medium-term notes of GBP 400 million as of March 2014 whereas it redeemed “GBP 606.4 million as of March 2013”. Thus, by employing prudent financial management, M&S is able to raise its financial resources even during the time of financial uncertainty. Works Cited “Financials.morningstar.com”. Marks & Spencer Group Plc Key Ratios < http://financials.morningstar.com/ratios/r.html?t=MAKSY> “Marks & Spencer Annual Report 2014.” Annual Statements and Financial Statements2014. “Motley Fool.” High Returns for Shareholders Mean that M&S is on my Buy List. < http://www.iii.co.uk/articles/123324/high-returns-shareholders-mean-marks-and-spencer-group-plc-my-buy-list> Curran. SAP R/3 Business Blueprint. Understanding Enterprise Supply Chain Management. New Delhi: Pearson Education India, 2000. Gitman, L J & McDaniel, C. The Future of Business: The Essentials. New York: Cengage Learning, n2008. Hemanson, Edwards & Ivancevich. Managerial Accounting. New York: Freeload Press, Inc., 2006. Mayes, T & Shank, T. Financial Analysis with Microsoft Excel. London: Cengage Learning, 2011. Mirza, Abbas A, Holt, Graham & Orrell, Magnus. International Financial Reporting Standards (IFRS). London: Wiley & Sons, 2010. Read More