Ratio Analysis of J Sainsbury Plc - Essay Example

Financial ratio analysis Table of Contents Introduction 3 Ratio analysis of J. Sainsbury Plc 5 Limitations of ratio analysis 9 Conclusion 10 Reference List 11 Appendix 12 Introduction During 1869, the famous food retailer was introduced and presently, it operates in 934 stores (557 supermarkets) and 377 convenience stores (J Sainsbury Plc., 2015b; J Sainsbury Plc., 2015c). The main aim of the company is to provide healthy, fresh and safe foods to the customers. However, it offers the customers quality food at a reasonable price. The total market share of the company is about 16%. It also aims at selling more than 30,000 products (J Sainsbury Plc., 2015b). The home delivery facility is availed by 93% of the households in the UK through shopping online. The main value of the company lies in providing tasty and healthy foods to the customers by maintaining good quality and reasonable price. The vision of Sainsbury is to be the most trusted retailer, where the customers and employees prefer to shop and work respectively (J Sainsbury Plc., 2015b). During 2014, the underlying sales and profit before tax of the group increased by 2.8% and 5.3% respectively (J Sainsbury Plc., 2015b; J Sainsbury Plc., 2015c). The graph provided below shows the improvement in confidence of the consumer over the past five years. Figure 1: Consumer confidence (Source: J Sainsbury Plc, 2015a) The increase in consumer confidence is mainly due to the increase in wage structure and the reliable quality of the products offered by the supermarkets. The financial statements of the company are prepared according to International Financial Reporting System (IFRS) (J Sainsbury Plc., 2015c). The company has adopted IFRS as its accounting policies as it is followed in the European Union. Moreover, financial data in the statements are presented in sterling million. It is also prepared with the help of going concern method under the convention of historical cost (J Sainsbury Plc., 2015c). The main purpose of the report is to highlight the financial performance of J Sainsbury Plc through financial ratio analysis. The ratios during the year 2009-2014 are calculated to get a knowledge regarding the financial strength of the company. However, there are various limitations of ratio analysis, which are also depicted in the report. Ratio analysis of J. Sainsbury Plc The ratio analysis of Sainsbury is executed in order to understand the financial status of the company. The profitability, efficiency, liquidity, leverage and investment ratio are calculated in order to depict the financial condition of the company. Profitability ratio The profitability ratio helps in determining whether Sainsbury has the ability to earn enough profit out of the sales. Ratios 2014 2013 2012 2011 2010 2009 Gross profit margin 5.8% 5.5% 5.4% 5.5% 5.4% 5.5% Net profit margin 3.0% 2.6% 2.7% 3.0% 3.0% 1.5% Return on equity 16.4% 14.4% 14.1% 15.1% 14.0% 7.6% The ratio indicates the following results: 1) The gross profit margin has increased over the years from 2009 to 2014 as the sales revenue has improved due to the increase in consumer confidence. The cost of sales and the sales revenue is balanced, which have maintained stability among gross profit margin of the years. 2) The net profit margin has remained steady over the years from 2010- 2014 at 3.0%; however, it has encountered fluctuation during this period but it was negligible. This indicated the fact that the company has concentrate on improving its expenditure, which is visible in the net profit balance. 3) The return on equity is observed to increase over the years from 2009-2014, with the rise in sales revenue and shareholder’s equity. The rise in shareholder’s equity denotes that the company has succeeded in adding value to the external stakeholders. The overall profitability position of Sainsbury is strong enough to capture about 16.6% of the market share in the UK. The business model of the company is directed at improving the shareholders, which they maintain by improving the sales figure. The sales figure of the company has increased over the years as the consumer has gained confidence in purchasing its high quality products as well as achieves high returns on the investments. Efficiency The ratio helps in determining whether the company has the ability to maintain its assets and liabilities internally. Ratios 2014 2013 2012 2011 2010 2009 Accounts receivables turnover 16 18 20 19 35 96 Asset turnover 2.2 2.2 2.1 2.1 2.0 2.0 Inventory turnover 22.4 22.3 22.5 24.5 26.8 25.9 The following deduction can be made out of the above table: 1) The accounts receivable turnover ratio helps in ascertaining whether the company extends its credit and the debt collection. It measures the efficiency of the company to use the assets properly. The accounts receivables ratio of the company has decreased from 2009, which highlights that Sainsbury should revise the credit policies in order to assure the timely collection of imparted credit. 2) The asset turnover indicates the amount of sales that is generated by utilizing the assets. The asset turnover ratio of Sainsbury is very low; hence the company should concentrate on increasing its sales revenue by employing per dollar of the assets. 3) The inventory turnover ratio of Sainsbury is low, which indicates the fact that the company does not hold the product in inventory instead it is sold at a low period of time. The overall efficiency ratio of Sainsbury denotes that the company should improve its credit policies so as to earn interest on the amount of debt that is provided to the debtors. Liquidity The liquidity ratio indicates whether the company will be able to pay off its short term obligation without any difficult. Ratios 2014 2013 2012 2011 2010 2009 Current ratio 0.49 0.56 0.51 0.28 0.28 0.33 Quick ratio 0.19 0.23 0.20 0.10 0.12 0.07 Cash ratio 0.04 0.11 0.13 0.11 0.18 0.24 The following deductions can be made: 1) The current ratio of Sainsbury is low, which depicts the fact that the company will experience difficulty in paying off its suppliers in the short run. 2) The quick ratio also indicates the same fact that the liquidity position of the company is weak enough to hamper the inventory base to pay off its short and long term obligations. 3) Moreover, the cash ratio of Sainsbury indicates that it will encounter problem as the cash and cash equivalents are low with respect to the liabilities. The overall liquidity position of the company is weak, which denotes that it should focus on maintaining high asset base so as to pay off its short and long term debt. Leverage The leverage ratio helps in ascertaining the method of financing of a company so as to meet the financial obligations. Ratios 2014 2013 2012 2011 2010 2009 Debt ratio 0.03 0.06 0.05 0.007 0.007 0.004 Debt-to-equity ratio 0.09 0.14 0.13 0.01 0.01 0.01 Interest coverage ratio 13.18 10.43 14.81 12.89 17.75 4.20 The leverage ratio indicates that the company undertakes conservative financing policy since the debt and debt-to-equity ratio is low. This is good strategy for financing its operation and debt obligations. Limitations of ratio analysis Ratio analysis helps in measuring the financial performance of a company (V. Goyal and R. Goyal, 2013); however, there are few limitations on the basis of ascertaining its financial performance. The limitations are elaborated henceforth. 1) Ratios only provide information pertaining to financial performance of the companies by obtaining financial data from the financial statements. Nevertheless, if the financial data in the statements are not accurate then the ratios are not reliable, which is indicative of the fact that ratio analysis is not appropriate in this case. Moreover, the ratios are not at all helpful in detecting fraud in the financial statements (V. Goyal and R. Goyal, 2013). 2) When the organizations have narrow line of services and products, ratio analysis is appropriate in that case. The ratio analysis of a large firm is inaccurate as product structure is complex and it is difficult to portray ratios of the same (Baker and Powell, 2005). 3) In comparing the financial performance of two companies ratio analysis is not suitable, when both of them are from different industries. There are specific industry average ratios, which varies because of a number of factors such as financial performance of the industry as a whole, global economic condition and demographic features of particular market. Hence, ratio analysis cannot be employed for evaluating the financial strength or weakness of both companies, which are from different industries. Nonetheless, when the companies are from same industry then it is relatively easier and reliable to compare both the performance taking into consideration the above mentioned points (Baker and Powell, 2005). 4) The financial ratios are affected by assumptions and estimations. Different companies follow separate accounting policies, which are based on few assumptions. This assumption affects the financial data of the companies. Hence, it is not possible to calculate the ratios in such a case. 5) It is very difficult to draw a conclusion regarding the financial performance of a company using the ratios. The different ratios have separate explanations and thus it is impossible to draw a single conclusion based on these ratios. However, a tentative value is obtained which can help in depicting the financial condition of a company but fails to give accurate information regarding the same (Baker and Powell, 2005). Conclusion J Sainsbury Plc is a renowned retailer in the UK, which has captured about 16.6% of the market share. Despite its phenomenal growth in sales and profit over the years 2009-2014, the efficiency and liquidity of the company is weak, which needs to be resolved by the management through different cash management strategies. Reference List Baker, H. and Powell, G., 2005. Understanding financial management: A practical guide. Oxford: Blackwell Publishing. Goyal, V. and Goyal, R., 2013. Corporate accounting. New Delhi: PHI Learning Private Limited. J Sainsbury Plc., 2015a. Annual Report and Financial Statements 2014. [online] Available at: < http://www.j-sainsbury.co.uk/investor-centre/reports/2014/annual-report-and-financial-statements-2014/ > [Accessed 13 January 2015]. J Sainsbury Plc., 2015b. About Us. [online] Available at: < http://www.j-sainsbury.co.uk/about-us/ > [Accessed 13 January 2015]. J Sainsbury Plc., 2015c. Annual Reports. [online] Available at: < http://www.j-sainsbury.co.uk/investor-centre/reports/ > [Accessed 13 January 2015]. Appendix Profitability ratio Efficiency ratio Leverage ratio Profitability ratio Read More