Ratio Analysis of Home Retail Group - Essay Example

Home Retail Group Plc Module number: of the assignment: ID: Word count:2885 Table of Contents Executive summary 4 Introduction 5 Section 1- Comparison of Latest year results with previous year 6 Section 2 – Ratio Analysis of Home Retail Group PLC 7 Profitability measures 7 Efficiency Measures 8 Liquidity/solvency measures 10 Shareholder Measures 11 Section 3 – Ratio analysis of Tesco Plc 12 Section 4 – Advantages and Limitation of applied financial ratios 16 Section 4 – Analysis of Organization’s Key Performance Indicators 16 Section 5 – Evaluation of Organisational Key Performance Indicators (KPI) 19 Section 5 – Summary of Financial Performance of Home Retail Group Plc 19 Conclusion and Recommendations 19 Reference List 20 Bibliography 22 Appendix 23 Executive summary The main purpose of the report is to establish the financial performance of Home Retail Group Plc over the two years 2013-2014. The company is a well established and renowned one, which aims at serving the customers in the UK. Nevertheless, it is observed that its financial performance has deteriorated over the years with respect to profitability and liquidity, which needs to be improved to a great extent. Hence, the profitability, liquidity and efficiency of the company are examined in the report by emphasising on its changes over the two years. Introduction Home Retail Group Plc is regarded as the leading general and home merchandise in the UK for bringing the most recognisable brands in the UK such as Homebase and Argos. The company is listed under London Stock Exchange (LSE) and is a successful constituent of FTSE 250 Index (Home Retail Group Plc, 2015b). The company has its operation in two main regions of the world, Republic of Ireland and the UK. The vision of Home Retail Group Plc is to value needs of the customers by providing them with their necessities either at home or at stores. Argos is known to be a leading multi-channel retailer in the UK and Homebase to be the home-enchantment retailer (Home Retail Group Plc, 2015b; Home Retail Group Plc, 2015e). The premium brand, Habitat, provides the customers with high quality contemporary styled products and also best-selling iconic designs. The financial services provided by the customers, helps them to purchase the products easily (Home Retail Group Plc, 2015b). The company aims at serving its customers through the two renowned retail brands such as Homebase and Argos. Figure 1: Business model of Home Retail Group Plc (Source: Home Retail Group Plc, 2015a) The customers form the heart of the business and the company experiences about 180 million transactions per year. The main elements of the business model of the company are retail brands, sourcing and infrastructure, products, multi-channel retailer, colleagues, financial services and financial strength (Home Retail Group Plc, 2015g). Section 1- Comparison of Latest year results with previous year The financial statement of Home Retail Group Plc is considered for comparing the performance of the company over the past two years i.e. 2013-2014. After comparing the two years financial data of income statement, the following deductions can be made. The revenue of Home Retail Group Plc is observed to have increased in 2014 as compared to 2013 (Appendix); this reflects the fact that the company has concentrated on increasing its sales figure over the two years. This indicates that the customers have recognized their products and services over the years and are satisfied with the brands (Home Retail Group Plc, 2015c). Despite increase in the cost of goods sold (COGS), gross profit of the company has improved. Moreover, the operating expense has increased over the years from 2013 to 2014, which indicates the fact that the company has increased its expenditure. This has been reflected in the operating profit of the company, which is observed to have decreased over the years from 2013 to 2014 (Home Retail Group Plc, 2015c). The balance sheet of Home Retail group Plc indicates that the total non-current assets have increased; however, the current asset base has decreased. The overall total asset and the non-current liability have decreased over the years from 2013 to 2014; nevertheless, the current liability has increased. The decrease in current asset and increase in current liability indicates towards the fact that Home Retail Group Plc has failed to balance the working capital for the year 2014. Section 2 – Ratio Analysis of Home Retail Group PLC The ratio analysis aims at measuring the financial health of a company over a period of time, whether it has liquidity position to continue in the long run. It also helps in measuring the profitability position and efficiency of the company (Hill, Wayne and Highfield, 2010; Hillier, et al., 2010; Hossan, 2010). Profitability measures The profitability ratio gauges the ability of a company whether it can earn enough profit to finance its developmental activities and sustain in the long run. a. Return on shareholder funds (ROSF) The percentage of income that is returned to the investor has decreased over the years from 2013 to 2014 due to decline in profit during the period of time. Hence, it can be stated that the company has experienced deterioration in its overall financial performance. b. Return on assets The return on assets has also deteriorated over the period; this implies that the management has not utilised its assets in generating sale for the company. Hence, it has not maintained asset base efficiently during 2014 as compared to 2013; hence it is reflected in the profit c. Profit margin The percentage of the income of the company has experienced a declining trend over the years from 2013 to 2014 due to the increase in operating expense. Hence, it can be stated that the company does not have better control on the cost during 2014 as compared to 2013. d. Net asset turnover Home Retail Group Plc has focused on improving the net asset turnover, through which they can generate higher sales and profit. This will ensure an efficient cash flow for future. It can also improve the asset base by cutting down the collection period that is provided to the debtors and customers. Ratios 2014 2013 Change Return on shareholder funds 0.88 1.49 -0.611 Return on net assets 0.03 0.04 -0.017 Profit margin 0.009 0.015 -0.006 Net asset turnover 2.12 2.00 0.11 Efficiency Measures The efficiency ratio assists in identifying whether the company is employing its assets efficiently in order to generate adequate sales revenue and income. Net asset turnover ratio The net asset turnover of Home Retail Group Plc had reduced by 9 days; hence, it can be stated that the company has concentrated on improving the number of days in which it sells to the customers. Therefore, it depicts the capability of the company to employ the assets faster and efficiently. Stock turnover The stock turnover of the company had reduced in 2014 as compared to 2013; this indicates the fact that the company has reduced the sales days up to 4 days. Hence, the company is maintaining the inventory efficiently. Trade debtor’s collection period The trade debtor’s collection period has increased over the years from 2013 to 2014, this is indicative of the fact that the company has not managed the debtor’s account efficiently. The increase in trade debtor’s collection period by 3 days highlighted the fact that the company do not get faster access to money, and also do not get the opportunity to reinvest the amount elsewhere. Trade creditor’s collection period Trade creditor’s collection period has deteriorated, which reflects that Home Retail Home Plc has paid off its suppliers and creditors at a much shorter span in 2014 as compared to 2013. This situation is not at all stable for the company as they are utilising their current asset to pay off its suppliers even before they are recovering payments from debtors. In this way the company is exploiting its current assets to pay its debt obligations; hence, this may lead to liquidity problem. Ratios 2014 2013 Change Net asset turnover 172 182 -9 Stock turnover 58 62 -4 Trade debtor’s collection period 45 42 3 Trade creditor’s collection period 104 108 -4 Cash Operating cycle   2014 2013 Holding time for stock     Stock turnover 58 62 Add:     Credit time allowed to trade customers     Trade debtors collection period 45 42 Less     Credit time taken from suppliers     Trade creditors payment period 104 108 Cash Operating Cycle -1 -4 Cash operating cycle of Home Retail Group Plc has declined over the years from 2013 to 2014, which is indicative of the fact that the company has concentrated on increasing its cash base during the period. Liquidity/solvency measures The liquidity or solvency ratio helps in measuring the ability of a company to pay back its suppliers and creditors out of the asset base (Banerjee, 2010; Deloof, 2003; Harrison, 2008; Gibson, 2010; Hill and Jones, 2009). Working capital is crucial for the successful operation of a company as it determines the available fund that is required on the daily basis. Gearing ratio The gearing ratio indicates that the company has adopted conservative financing policy in order to fund its operations in the long run. Hence, the company finance its operation with the help of equity that is collected from the shareholders. Current ratio The current ratio of Home Retail Group Plc is observed to have decreased over the years from 2013 to 2014; hence it indicates that it has weak liquidity position during the last year because of poor asset base. It will be difficult for them to maintain a stable liquidity position in the future. Acid test ratio The acid test ratio of Home Retail Group Plc indicates the fact that the company has failed to maintain a moderate liquidity position over the years from 2013 to 2014. Hence, it can experience liquidity crunch in the future. Ratios 2014 2013 Change Gearing ratio 0.013 0.0007 0.012 Current ratio 1.62 1.72 -0.12 Acid test ratio 0.87 0.92 -0.04 Shareholder Measures Earnings per share (EPS) The EPS of Home Retail Group Plc is observed to have decreased over the years from 2013 to 2014 due to the decrease in profit. The negative change in EPS affected the confidence of the shareholders of company, as they expect an increasing trend in the hope of achieving a good return of the invested amount. Price/ Earnings ratio The price/earnings ratio of Home Retail Group Plc has increased over the years from 2013 to 2014, which is quite convincing for the shareholders to invest in company shares. It indicates that the company has improved the ratio 14 times during 2014 as compared to 2013 (Home Retail Group Plc, 2015d; Home Retail Group Plc, 2015h). Dividend yield The dividend yield highlights that the company has experienced decrease in dividend per share due to the deterioration in the profit figure during 2014. This has a direct effect on the interest of the shareholders for investing in the company shares (Home Retail Group Plc, 2015f). Dividend Cover The divided cover is calculated based on the values of EPS and DPS, both of which are observed to have decreased over the period from 2013 to 2014. Ratios 2014 2013 Change Earnings per share 6.57 10.68 -4.11 Price/earnings ratio 28.5 14.5 14.1 Dividend Yield 0.017 0.019 -0.0018 Dividend Cover 1.99 3.56 -1.57 Section 3 – Ratio analysis of Tesco Plc Profitability ratio Return on shareholder funds The return on shareholder funds has increased over the years from 2014 to 2013, which indicates the fact that the company has not only improved its profit but also satisfied its investors. Return on assets Home Retail Group Plc has improved the return on net assets as the operating profit has increased in 2014 as compared to 2013. Hence, it can be stated that the company well utilised its assets to finance its operation and generate profit. Profit margin The profit margin of Tesco Plc has increased during 2014 as compared to 2013; it has resulted because of the improving operating profit and decrease in expense during that period of time. This indicates the fact that Home Retail Group Plc has concentrated on increasing the sales and profit value over the year from 2013 to 2014, and simultaneously decreased the operating expense (Tesco Plc., 2014b). Net asset turnover Tesco Plc has concentrated on increasing its net asset turnover, by improving the sales and profit. This has helped the company to generate an efficient cash flow in the near future (Tesco Plc., 2014a). Ratios 2014 2013 Change Return on shareholder funds 5.58 5.10 0.47 Return on net assets 0.005 -0.005 0.010 Profit margin 0.015 0.0003 0.014 Net asset turnover 1.27 1.26 0.001 Efficiency measures Net asset turnover The net asset turnover of Tesco Plc has reduced by 12 days; thus it can be stated that the company has focused on selling its products to the customers at a lesser number of days in 2014 as compared to 2013. Stock turnover The stock turnover of Tesco Plc is observed to be low as compared to Home Retail Group Plc. This recognizes the fact that the products remain in the warehouse for a long time before it is sold to the customers. Trade Debtors Collections period The trade debtor’s collection period of Tesco Plc has decreased in 2014 as compared to 2013, which indicates that the company has concentrated on recovering cash from the debtors and customer so as to use it efficiently in the business. Trade Creditors Collection Period The trade creditor’s collection period is observed to have decreased over the years in 2014 as compared to 2013; this identifies that the company has paid its suppliers at a shorter number of days. This identifies that Tesco plc has enough cash balance to pay the current liabilities. Ratios 2014 2013 Change Net asset turnover 288 300 -12 Stock turnover 20 21 -1 Trade debtor’s collection period 12 14 -2 Trade creditor’s collection period 64 68 -4 Cash Operating cycle 2014 2013 Holding time for stock Stock turnover 20 21 Add: Credit time allowed to trade customers Trade debtors collection period 12 14 Less Credit time taken from suppliers Trade creditors payment period 64 68 Cash Operating Cycle -32 -33 The cash operating cycle of Tesco Plc has decreased over the years; hence it can be stated the company has made effort in reducing the debtor days and increase the cash balance so as to balance the working capital. Liquidity measures Gearing ratio The gearing ratio of Tesco Plc indicates that the company finance its operation through equity obligations as compared to debt obligations thereby employing conservative financing policy for operating in the long run. Current ratio The current ratio of Tesco Plc depicts that it has maintained a string liquidity position during the period of 2013-2014, through increased current asset base as compared to the current liabilities. Acid test ratio The acid test ratio of Tesco Plc also highlights that the company has strong liquidity position in the market as they have adequate working capital to finance its daily operation. Ratios 2014 2013 Change Gearing ratio 0.63 0.60 0.03 Current ratio 2.25 2.12 0.12 Acid test ratio 1.63 1.50 0.15 Section 4 – Advantages and Limitation of applied financial ratios Profitability ratio Return on shareholder fund (ROSF): The main limitation of this ratio is that it does not consider the total income of the business. Return on net assets: The ratio helps the managers of the companies to analyse its position and does not play any role to the shareholder’s interest (Baker and Powell, 2005; V. Goyal and R. Goyal, 2013). Profit margin: This ratio cannot be used solely for measuring the profitability of the company as it does not take into account the factors such as economies of scale (Baker and Powell, 2005; V. Goyal and R. Goyal, 2013). Efficiency measures Net asset turnover: It does not consider the level of asset utilization in various industries. Stock turnover: The ratio does not take into account the factors that affect the levels of stock (Carmichael and Ray, 2007; Flynn and Koornhof, 2005). Section 4 – Analysis of Organization’s Key Performance Indicators The Key Performance Indictor (KPI) of Home Retail group Plc is provided henceforth. Figure 2: Sales of the Group (Source: Home Retail Group Plc, 2015c) The sales have increased over the years from 2012 to 2014. Figure 3: Operating profit benchmark (Source: Home Retail Group Plc, 2015c) The operating profit has decreased over the five years. Figure 4: EPS (Source: Home Retail Group Plc, 2015c) The EPS of Home Retail Group Plc has decreased over the past five years mainly due to the decrease in profit of the company. Figure 5: Net Cash flow (Source: Home Retail Group Plc, 2015c) The net cash flow is observed to have decreased in 2014 as compared to 2013. Section 5 – Evaluation of Organisational Key Performance Indicators (KPI) The KPI of Home Retail Group Plc helps in measuring the overall performance of the company over the five years (Hill and Jones, 2009). It is observed that the KPI have denoted improvement over the years from 2013 to 2014 to a great extent. Section 5 – Summary of Financial Performance of Home Retail Group Plc Home Retail Group Plc is regarded as an established home and general merchandising company in the UK, which aims at satisfying the customers and investors over the period of time (Home Retail Group Plc, 2015c). However, the performance for the year 2013 and 2014 is evaluated in the report. The financial performance of the company is examined with the help of ratios such as profitability, efficiency and liquidity. The liquidity position of Home retail Group Plc is weak as compared to Tesco Plc. However, the company has tried to improve its efficiency during 2014. The KPIs of Home Retail Group Plc indicates that the company has made efforts over the five years to increase its profit and expand its successful business (Home Retail Group Plc, 2015c). Conclusion and Recommendations The overall financial performance of Home Retail Group Plc was stable during 2014 due to the fluctuating operating expense over the years. Nevertheless, Home Retail Group Plc should improve its current asset base so as to sustain in the long run. The working capital position of The Company is not stable enough to pay off its suppliers and creditors in the long run. Hence, it should decrease its operating profit and concentrate on increasing its sales value. Reference List Baker, H. and Powell, G., 2005. Understanding financial management: A practical guide. Oxford: Blackwell Publishing. Banerjee, B., 2010. Financial accounting. Delhi: PHI Learning Private Limited. Carmichael, D. and Ray, O., 2007. Accountants handbook, financial accounting and general topic. New Jersey: John Wiley & Sons. Deloof, M., 2003. Does Working Capital Management Affect Profitability of Belgian Firms? Journal of Business and Accounting, 30, pp. 3-4. Flynn, D. and Koornhof , C., 2005. Fundamental accounting. New York: Juta and Company Ltd. Gibson, C.H., 2010. Financial reporting and analysis: Using financial accounting information. 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Impact of working Capital Management in the Profitability of Hindalco Industries Limited. Journal of Financial Economics, 6(4), pp.62-69. Appendix Income statement of Home Retail Group Plc Balance Sheet Profitability ratio of Home Retail Group Plc Efficiency ratio Liquidity/ Solvency ratio Efficiency ratio Shareholder measure Ratios of Tesco Plc Efficiency ratio Liquidity ratio Read More