Spirent Communications - Essay Example

 Table of Contents Introduction 2 Financial Trends 3 Corporate and Financial Actions 4 Profitability 5 Risk Management 9 Exchange Rate Risk 9 Political Risk 10 Conclusion 12 Introduction Spirent is major communications and technology company headquartered in Crawley, U.K. Jack Bowthorpe founded the company in 1936 and was named as Goodliffe Electric Supplies. Spirent is listed in the London Stock exchange. Apart from UK, it also has its business location in Sunnyvale, California, USA. Spirent operates with more than 1500 employees in 15 countries (Spirent, 2014). Spirent develops IT and hardware solutions for the communications industry (Spirent, 2014b). The company’s operations can be divided into three segments, Networks and Applications, Wireless and Service Experience, and Service Assurance. The Networks and Applications operation performs rigorous testing of innovative ideas in controlled environment like networks, labs or IT firms. The Wireless and Service Experience division performs performance and functional testing of 3G and LTE mobile devices (Spirent, 2014b). The third operation division is focused on providing service on troubleshooting, diagnostics and resolving network related issues. Spirent Communications made total revenue of $ 413.5 million and an operating profit of $ 39.1 million as of 2013. This study is focused on the financial performance of Spirent and also the political and exchange rate risks involved in its operations (Spirent. 2013). The telecommunications equipment industry is worth $ 81, 447.9 million as of 2013 and has grown by 3.7 % from previous year. Based on the geographic segmentation of the industry, Asia-Pacific accounts for 47 % of the overall market value, followed by Europe and America owning 29.4 % and 22.5 % of the market value respectively (MarketLine, 2014). Financial Trends The following chart shows the financial performance of Spirent in the past five years. Source: (Global Data, 2014) The above chart shows that the Spirent had significant growth in both revenue and profit from the year 2009 to 2012; however both the parameters took a plunge in 2013. The operating profit and the total equity also decreased in 2013, after a steady growth till 2012. The sudden down turn in 2013 is because of certain under investments and hurdles in some market segments and also because of some significant changes in the wireless communications industry (Spirent, 2014b). The data centre market has become severely competitive and the customers are rushing towards cloud based services. The vendor of wireless devices has faced lower profitability in that year. The unfavourable economic condition of Europe along with decreased expenditure of the Chinese customers is also responsible for the company’s decline in performance in 2013. The company is taking all the necessary steps to reorganize the business structure so that they can adapt to the changing consumers’ needs. Simultaneously, Spirent is also working rigorously to develop innovative technologies like 100G Ethernet and to improve its GNSS testing (Spirent, 2014b). Corporate and Financial Actions Ever since the establishment of the company, Spirent has gone through several changes in terms of acquisition and business structure. Recently in 2011, the company went in to several contracts with communications companies like, Crossbeam systems and China Mobile. In the same year, Spirent established a joint venture with ARCOM Telecom and offered their services of measurement solutions in Canada. The company also established a reporting and automation tool called Test-GNSS. In the next year, Spirent made collaboration with West Coast Labs to improve its test methodologies and benchmark for performance of content security and network systems. Spirent acquired Mu dynamics, and incorporated Spirent Studio with Spirent Landslide in order to streamline their business operations (MarketLine, 2014). The company also acquired Metrico Wireless and subsequently introduced a new subsidiary called the Hybrid Location Technology Solution. In 3013, Spirent made a business deal with the European Space Agency to provide services for expanding their location testing potential. The company also introduced a new service offering as Spirent Nomad, which specializes in high definition video calls and voice testing system. In 2014, Spirent took over DAX technologies with a consideration of $37.0 million. In the same year, the company launched another subsidiary called Spirent C1 Automotive testing, which offers services for automobile Ethernet testing solutions (Spirent, 2014a). Profitability Net profit Margin The above chart shows the Net profit margin of Spirent plc. The net profit margin is a measure of the profitability of a company. As evident from the chart, the net profit margin has increased significantly from year 2010 to 2012 after a plunge in 2010 (Spirent, 2013). This is due the reduction in cost of sales, owing to the series of acquisition made by the company. The sudden plunge in the graph can be explained by the acquisition cost that the company had to bear, which eventually paid off and resulted in increase of its profitability in 2011 and 2012. Liquidity Current Ratio The current ratio of Spirent plc is shown in the above chart. Current ratio can be defined as the ratio between current assets and current liabilities. A higher current ratio suggests that a company can pay off its debts and expenses easily. The constant increase of the current ratio of Spirent plc suggests that the company’s liquidity has increased largely. Thus, the company can easily pay off its short term obligations. It also suggests that the company’s working capital has increased (Spirent, 2013). The higher value of current ratio is also a sign of good financial health of the company, which can be favourable to attract more investors. Quick Ratio The above chart shows the Quick ratio of the company. The quick ratio is the ratio between current assets and liabilities, but inventories are subtracted from the current assets. The inventory is subtracted because it is considered as a less liquid asset. It is a much efficient measurement of liquidity than current ratio. The graph indicates that there is a constant rise in the quick ratio of the company in the past five years. This indicates that Spirent can easily pay off its day to day expenses and short term liabilities. The increase in liquidity suggests that Spirent has eventually managed to increase value of its current assets (Spirent, 2013). Leverage Debt to Equity Ratio The above chart shows the Net debt to Equity ratio of Spirent plc. This ratio is between the company’s Debt balance and Equity balance. The higher value of the ratio suggests that Spirent has taken up a lot of debts and loans. The high debt to equity ratio of the company also suggests that the company is financially dependent on loans, rather than on its share prices. Having such high dependence on debt is not recommended as it can lead to high interest payout. In 2012, the graph as shown a downward trend, which is due to the rise of share price of the company (Spirent, 2014c). Risk Management Managing of a multinational business operation is often faced with several risk bearing situations. Two major risks involved are financial risks and political risks. In this section the financial risks encompassing the exchange rate fluctuation and the political risks are discussed. Exchange Rate Risk The Exchange rate risk brings a potential chance of financial gain or loss for a company. This risk is mostly predominant in organizations which operate in multiple countries having different currency values. The exchange rate between two countries is a major determinant of a firm’s revenue generation (Holton, 2003). The change in the local currency value degrades an organization’s business in a holistic manner. The exchange rate fluctuation mainly affects the present value of future cash flow; this in turn affects the revenue generated by export of goods and domestic sales. Papaioannou (2006) has explained the exchange rate risks by explaining it in three terms: Transactional Risk, Translational Risk and Economic Risk. The transactional risk is also known as risk of cash flow. It is associated with the time differential between entering into a financial contract and its settlement. Increase in time difference increases the change of exchange rate. Transactional risks mostly affect the export and import contracts and fund repatriation. It is the risk involved in change of balance sheet value. Converting the balance sheet of a subsidiary in to the currency of the home country, changes the values of the financial figues based on the current exchange rate. It is guaged in terms of net assets against the currency rate change. The Economic risk, also known as Forecast Risk, mostly has long term effect on the company. It involves unexpected change in the firm’s future cash flow as well as market valuation, which results in an economic decline of the entire organization, irrespective of its business units (Papaioannou, 2006). In case of Spirent plc, the major exchange rate risk it faces comes from the fluctuation of Sterling Pound, against American dollar, which is the reporting currency in with which the values are denominated (Bloomberg, 2009). Moreover, Spirent has operational plants in different parts of the world, so it also experiences certain degree of translational risk while converting the balance sheets from foreign currency to domestic currency. According to Spirent plc’s annual report, in 2006 the value of sterling pound increased against dollar from 1.82 to 1.85. This change in currency valuation led to the reduction of revenue generation by 3.4 million pounds and operating profit reduction by 0.4 million pounds (Spirent, 2007). The transactional risk was mostly faced by the Systems group. The exchange risk as evident from the above mentioned facts can pose a serious threat to the financial position of a company, unless it is mitigated. The risk is measured by several methods, but the most popularly used method is “value of risk”, which measures the amount of risk (Holton, 2003). The exchange rate risk is mostly mitigated by hedging. Most organizations used derivatives to hedge exchange rate risks. The hedging process generally involves the use of the following instruments, Forward Contracts, Flexible forward transactions, FX Options and Currency Swaps. The main advantage of hedging is to avoid loss occurring from change in currency values and it also reduces the risks for the investors. The hedging also help the investors to lock their profits and realize them as long term returns. According to Bloomberg (2010), Spirent plc however use any instrument to hedge the currency exchange risks, mostly because the company considers its translation exposure to be a non cash exposure (Spirent, 2007). Measurement of the exchange rate risks also holds great importance; with proper measurement the company can implement the mitigation techniques. The risk measurement calculations are based on 3 factors, a) the holding period, b) confidence level on which the estimation is based, c) the denomination currency (Holton, 2003). Political Risk The political risk is another major Risk involved in a Business operation. Irrespective of its operation model or target market, every organization faces a certain degree of political risk. As Spirent mainly operates in U.K and USA, so it faces the political risks of these countries. According to Nixon (2013), the political risks in the U.K have impacted the business operations of a lot of firms. Most of the major investors usually get worried about the general election as the next government may pose new business laws and change the existing ones. From the perspective of an investor, the most important stakeholder of a company, the volatility in business laws pose a significant amount of risk. Since the 2010 fiscal adjustment, which is just four percent of the GDP, is still shorter than that of the USA and other euro-zone countries (Nixon, 2013). Graybow (2009) described the political risk in the perspective of USA. He mentioned that the government’s intervention in the business affairs is a major determinant of the investors’ confidence. The organizations worry that the increased political risks may push the investors to ask for a risk premium before buying stocks (Graybow, 2009). Spirent plc takes all the necessary measure to avoid political risks as much as possible by following all the international trade laws and also the local laws of the host countries. The company has also laid down a series of rules and regulation for all of its employees in its Governance policies and it has also gone into several regional and bilateral agreements with the government. The policy states that all the subsidiaries must follow all the labour laws and the management should make sure that the work environment is free from any political influence (Spirent, 2014). Accenture (2013) mentioned in their report that the crisis factors like the euro-zone negotiation, debate over debt limit of USA, the Arabic Spring protestation in Middle East and North Africa, etc. came into form without any prior warning. Accenture (2013) pointed out that political risks can be managed if not completely avoided by incorporating the political risk management into the enterprise risk management. It has summarized the risk management process into three steps, Identify, Measure and Manage. The political risks should be identified based on geographic locations and an organization should point out how the current political scenario may affect its business operations (Giddy and Dufey, 2014). The organization must distinguish the actual risks involved by proper scrutiny before believing in rumours. The risk management team should provide a clearly evidence based data to the management, based on which business decisions will be taken. Then, in the next stage the management must measure the severity of the identified political risks and how it may affect the future operations (Toksöz, 2014). Tools like operational network analysis can also be used to gauge the impact of a specific political issue. Here the company takes into account all of its subsidiaries and its business models, to find out if any of their business processes are in conflict with the current political scenario. In the next step, the firm must take steps to manage the identified risks. Steps like re-structuring the code of conduct, establishing partnership with local companies, creating legitimate lobbies and building community programs based on sustainability (Accenture, 2013). Conclusion Spirent plc holds a significant position in the wireless communications and technologies market. It has expanded significantly by making several strategic acquisitions and divestments. Over the time it has streamlined its business by going through certain retrenchment strategies and has focused on its core competence. From a financial perspective the company holds a high liquidity position which means it can pay off its debts easily which is a good sign for the investors. Spirent, owing to its wide overseas operations and international trading, often faces exchange rate risks and political risks. Some of the exchange rate risks are mitigated by hedging, while the rest are balanced off in foreign currencies. The company also faces certain political risks, particularly while operating in the UK and USA. The company has taken all the necessary steps to abide by the political regulations and by creating a healthy relationship with the government. Spirent also keeps a good relationship with its stakeholders, because the investors are often intimidated by the current political scenario. The company in the near future can further expand its business overseas by moving its business to other developed countries and it can also take steps to grow horizontally by adopting diversification strategies. Reference List Accenture, 2013. Managing Political Risk Controlling Loss, Finding Opportunity. [online] Available at: [Accessed 25 November 2014]. Bloomberg, 2009. Spirent Comm PLC SPT Annual Financial Report. [online] Available at: [Accessed 25 November 2014]. Giddy, I. H and Dufey, G. 2014. The Handbook of International Accounting. New Jersey: John Wiley & Sons. Global Data, 2014. Spirent Communications Plc - Financial Analysis Review. [pdf] Global Data. Available at: [Accessed 25 November 2014]. Graybow, M., 2009. U.S. political risks grow in financial crisis. [online] Available at: [Accessed 25 November 2014]. Holton, G.A., 2003. Value-at-Risk: Theory and Practice. San Diego, California: Academic Press. MarketLine. 2014. Global Communications Equipment. Market Line. May. Nixon, S., 2013. For Investors, U.K. Political Risk Comes Early. [online] Available at: [Accessed 25 November 2014]. Papaioannou, M., 2006. Exchange Rate Risk Measurement and Management: Issues and Approaches for Firms. International Monetary Fund. 6(255). pp.5-11. Rajwani, T. 2011. How Should Firms Deal With Political Risk? [online] Available at: < http://www.som.cranfield.ac.uk/som/p16495/Think-Cranfield/2011/May-2011/How-Should-Firms-Deal-with-Political-Risk > [Accessed 25 November 2014] Spirent, 2007. Annual report 2006. [online] Available at: [Accessed 25 November 2014]. Spirent, 2013. Financial history. [online] Available at: [Accessed 26 November 2014] Spirent, 2014. About Us. [online] Available at: [Accessed 26 November 2014] Spirent, 2014. Spirent Communication: Ethics Policies. [online] Available at: [Accessed 25 November 2014]. Spirent, 2014a. Our History. [online] Available at: < http://corporate.spirent.com/About-Us/Our_History> [Accessed 26 November 2014] Spirent, 2014b. Fact Sheet. [online] Available at: [Accessed 26 November 2014] Spirent, 2014c. Spirent Communications plc Annual Report 2013. [online] Available at: [Accessed 26 November 2014] Toksöz, M. 2014. Guide to Country Risk: How to identify, manage and mitigate the risks of doing business across borders. London: The Economist. 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