The Financial Statements of Inditex and GAP - Assignment Example

Financial ment Analysis By Due Introduction This report analyses the financial mentsof Inditex and GAP, Inc and compares the two companies’ performances through ratios, vertical and horizontal analysis and pyramid of ratios. Among the ratios analyzed on this financial analysis include net margin, cash ratio, return on asset ratio, gross margin, debt equity ratio among others. The analysis is based on the balance sheet and income statements of both Inditex and GAP, Inc within the period from 2008 to 2010. All figures and graphs used are cited. Limitations There are several limitations that I faced in the compilation and analysis of the financial statements of Inditex and GAP, Inc. One limitation is that the financial statements and analysis to not cover qualitative analysis of the companies. This means that the quality of the companies’ management cannot be measured effectively through financial statements. Another limitation is that financial statements are usually historical and it is, therefore, likely that they might not reflect the present current status of a company. A lack of means of access to both Inditex and GAP, Inc to gather current data and statistics meant that I had to rely on the “historical” financial statements. The financial statements of Inditex and GAP, Inc are availed in different currency denomination (Inditex in Euros and GAP in dollars). The ratio comparison between the two companies might, therefore, be lost in the currency conversion, especially, since I performed the conversion using the current rates of exchange (1 dollar = 0.76 Euros) which are subject to fluctuations. Inditex and GAP, Inc ratios are illustrated below for the period from 2008 to 2010. Current Ratio Current ratio = Current Assets/Current Liabilities. Inditex 2010 2009 2008 Current Asset 3,943,795 3,264,041 2,981,595 Current Liability 2,304,960 2,390,848 2,458,067 Ratio 1.711 1.365 1.213 GAP, Inc 2010 2009 2008 Current Asset 4,664,000 4,005,000 4,086,000 Current Liability 2,131,000 2,158,000 2,433,000 Ratio 2.19 1.86 1.68 The current ratio is a measure of the short term solvency of a business. It measures the capability of a business to pay its liabilities that might arise in the near future, usually a period of not more than one year. The current ratio is a rough indicator of whether cash on hand in addition to the cash to be collected from receivable accounts and from selling inventory will be enough to pay off liabilities that will become due in the following period. (Tracy, Tracy, and CPA, 2008, pg. 287) Businesses are usually expected to maintain a minimum current ratio of 1 to 2, which means its current assets, should be twice its current liabilities. (Tracy, Tracy, and CPA, 2008, pg. 287) The current ratio compares the assets a company can at short notice convert to cash to the liabilities it must pay in the short term. It generally checks if a company has the capability to meet current obligations as they become due. (Vance, 2003, pg 38) From the figures above, GAP, Inc has a better short term solvency than Inditex as the current ratios for GAP are much closer to 2 with the value for 2010 being greater than 2. Profit Margin Ratio Profit Margin Ratio = Gross Profit/Sales. Inditex 2010 2009 2008 Gross Profit 7,422,022 6,328,009 5,914,240 Sales 12,526,595 11,083,514 10,406,960 Ratio 59.25% 57.09% 56.83% GAP, Inc 2010 2009 2008 Gross Profit 5,889,000 5,724,000 5,447,000 Sales 14,664,000 14,197,000 14,526,000 Ratio 40.16% 40.31% 37.5% The profit margin indicates the profitability generated from revenue and it is, therefore, an important measure of operating performance. Furthermore, the profit margin also provides clues to a company’s pricing, cost structure, and production efficiency. (Shim, and Siegel, 1998, pg. 27) The percentage profit margin of Inditex increases annually indicating growth of the company however, the profit margin of GAP, Inc is much less than that of Inditex indicating poor comparative performance. Debt Equity Ratio Debt Equity Ratio = Long Term Debt / (Long Term Debt + Equity). Inditex 2010 2009 2008 Long Term Debt 659,931 637,198 430,484 Equity 5,370,546 4,748,600 4,217,051 Total 6,030,477 5,385,798 4,647,535 Ratio 10.94% 11.83% 9.26% GAP, Inc 2010 2009 2008 Long Term Debt 963,000 1,019,000 1,131,000 Equity 4,891,000 4,387,000 4,274,000 Total 5,854,000 5,406,000 5,405,000 Ratio 16.45% 18.85% 20.92% Return on Assets Return on assets = PBIT/Total Assets. Inditex 2010 2009 2008 PBIT 2,290,469 1,728,388 1,608,536 Total Assets 8,335,437 7,776,646 7,105,602 Ratio 27.48% 22.23% 22.64% GAP, Inc 2010 2009 2008 PBIT 1,968,000 1,815,000 1,548,000 Total Assets 7,985,000 7,564,000 7,838,000 Ratio 24.64% 23.99% 19.75% Return on assets measures whether assets are utilized productively by a company. It is crucial for assets to be used productively as idle assets tie up capital that could be used to invest in development of new products, investing/buying out a rival or paying debts etc. Idle assets can also lead to losses due to deterioration of their value over time. Return on assets ratios are also important as they enable the management to make decisions on when to close plants as well as indicating the efficiency of the management. (Vance, 2003, pg. 20) Operating Margin Operating Margin = Operating Income/Sales. Inditex(2010) Operating Income = 2,966,207 Net Sales = 12,526,595 2,966,207/12,526,595 = 0.24 GAP, Inc(2008) Operating Income = 1,548,000 Net Sales = 14,526,000 1,548,000/14,526,000 = 0.107 It is the ratio between operating earnings and revenue. It demonstrates the capacity of a firm to earn profits from its core business. (Sinha, 2009, pg. 123) Both firms have positive ratios implying they earn profits from their core business. Gross Profit Ratio/Margin Ratio Gross Profit Ratio = (Gross Profit/ Net Sales) x 100 Inditex (2010) Gross Profit = 7,422,022 Net Sales = 12,526,595 7,422,022/12,526,595 = 59.25% GAP, Inc (2008) Gross Profit = 5,447,000 Net Sales = 14,526,000 5,447,000/14,526,000 = 37.5% It is the ratio between gross profit and net sales. Profitability of a company depends on the sales margin, which is the surplus of sales over the cost of sales. This ratio is important for financial analysis of companies as the bigger the margin, the more profitable a firm is and vice versa. (Sinha, 2009, pg. 121) Inditex and GAP, Inc NOPLAT margins Figure 1 Source: (Pehlivan, 2011, pg.34) From the graph above both Inditex and GAP have positive NOPLAT growths for most of the years although Inditex’s margin deeps between 2002 and 2003 and again between 2008 and 2010. GAP’s margin also drops between 2006 and 2007. The period of the highest rise in GAP’s margin coincides with the biggest deep in Inditex’s margin in the period between 2002 and 2003. This is also the period when GAP was most dominant over Inditex and other rivals in the world market but Inditex later caught up. Table 8: Comparison of Inditex’s and GAP’s EBITDA margin with that of their competitors Year 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Inditex 22% 22% 19% 22% 22% 22% 23% 21% 21% 24% H&M 16% 20% 21% 22% 24% 25% 26% 25% 24% 26% GAP 8% 12% 16% 17% 15% 11% 12% 15% 17% 17% Benetton 19% 19% 18% 19% 16% 14% 16% 17% 16% 15% Esprit 17% 17% 20% 23% 22% 23% 23% 23% 19% 14% Average apparel industry 15% 14% 15% 14% 14% 14% 15% 16% 15% 16% Source: (Pehlivan, 2011, pg.31) According to the figures from the table above, Inditex is positioned in average 7% above of some apparel companies worldwide. Therefore, from the data on the table above, it is clear that Inditex is relatively stable, financially, compared to the competition. Consolidated Balance Sheet for Inditex Table 1 (in thousands of euros) 2010 2009 2008 Assets Current Assets 3,943,795 3,264, 041 2,981,595 Cash and Cash Equivalents 2,420,110 1,466,291 1,465,835 Trade and other receivables 421,781 585,311 463,716 Inventories 992,570 1,054,840 1,007,213 Income tax receivables 15,663 15,342 1,719 Other current assets 93,671 142,257 43,112 Non-current assets 4,391,642 4,512,605 4,124,007 Property, plant and equipment 3,293,535 3,442,321 3,182,112 Investment property 13,273 8,445 9,475 Rights over leased assets 514,159 531,468 504,604 Other intangible assets 19,118 16,476 13,344 Goodwill 131,685 131,685 125,583 Financial Investments 15,392 14,416 36,174 Deferred tax assets 234,203 203,100 133,020 Other 170,277 164,684 119,695 Total Assets 8,335,437 7,776,646 7,105,602 Liabilities Current Liabilities 2,304,960 2,390,848 2,458,067 Trade and other payables 2,103,029 2,073,141 1,975,251 Financial debt 35,058 234,037 371,276 Income tax payable 166,873 83,670 111,540 Non-current liabilities 659,931 637,190 430,484 Financial debt 4,996 13,241 42,358 Deferred tax liabilities 172,892 213,847 110,957 Provisions 127,054 101,820 47,681 Other non-current liabilities 354,989 308,290 229,488 Equity 5,370,546 4,748,600 4,217,051 Net equity attributable to the parent 5,329,166 4,721,714 4,193,129 Net equity attributable to minority interest 41,380 26,886 23,922 Total Equity and Liabilities 8,335,437 7,776,646 7,105,602 Source: Inditex Annual reports Table 2 Consolidated Balance Sheet of GAP, Inc ($ and shares in millions except per value) 2009 2008 Assets Current Assets: Cash and Cash Equivalents 1,715 1,724 Short-term Investments _ 177 Restricted Cash 41 38 Merchandise Inventory 1,506 1,575 Other current assets 743 572 Total current assets 4,005 4,086 Property, and equipment, net 2,933 3,267 Other Long Term Assets 626 485 Total Assets 7,564 7,838 LIABILITIES AND STOCKHOLDERS’ EQUITY Current Liabilities: Current maturities of long-term debt 50 138 Accounts Payable 975 1,006 Accrued expenses and other current liabilities 1,076 1,259 Income taxes payable 57 30 Total Current Liabilities 2,158 2,433 Long-term Liabilities: Long-term debt _ 50 Lease incentives and other long-term liabilities 1,019 1,081 Total Long-Term Liabilities 1,019 1,131 Total Stockholders’ equity 4,387 4,274 Total liabilities and stockholders’ equity 7,564 7,838 Source: GAP, Inc Annual reports Table 3 Consolidated statements of earnings of GAP, Inc, 2008 ($ and shares in millions except per share amounts) Net sales $14,526 Cost of goods sold and occupancy expenses 9,079 Gross profit 5,447 Operating expenses 3,899 Operating income 1,548 Interest expense 1 Interest income (37) Earnings from continuing operations before income taxes 1,584 Income taxes 617 Earnings from continuing operations, net of income taxes 967 Loss from discontinued operation, net of income tax benefit — Net earnings $ 967 Weighted-average number of shares—basic 716 Weighted-average number of shares—diluted 719 Basic earnings per share: Earnings from continuing operations, net of income taxes $ 1.35 Loss from discontinued operation, net of income tax benefit — Net earnings per share $ 1.35 Diluted earnings per share: Earnings from continuing operations, net of income taxes $ 1.34 Loss from discontinued operation, net of income tax benefit — Net earnings per share $ 1.34 Cash dividends declared and paid per share $ 0.34 Source: GAP, Inc Annual reports Horizontal Analysis Horizontal analysis refers to the percentage fluctuation in an account computed to reveal trends. Percentage change equals the change over the amount of the previous year. Horizontal analysis identifies areas of wide divergence for investigation purposes. The changes in amount as well as the percentage change are both important as a look as either one of them alone might be misleading. (Siegel, and Shim, 1991, pg. 11) Horizontal analysis also compares the trends in a firm’s accounts against those of rivals and to industry norms. When an analysis covers many years of comparative statements, it it usually recommended to illustrate trends relative to a base year. (Siegel, and Shim, 1991, pg. 11) Inditex’s Horizontal Analysis of Balance Sheet (2009 – 2010) Table 4 Amount of Change % Change Assets Current Assets 679,754 20.83% Cash and Cash Equivalents 953,819 65.05% Trade and other receivables -163,530 -27.94% Inventories - 62,270 -5.9% Income tax receivables 321 20.92% Other current assets -48,586 -34.15% Non-current assets - 120,963 -2.68% Property, plant and equipment - 148,786 -4.32% Investment property 4,828 57.17% Rights over leased assets -17,309 -3.26% Other intangible assets 2,642 16.04% Goodwill 0 0% Financial Investments 976 6.77% Deferred tax assets 31,103 15.31% Other 5,593 3.4% Total Assets 558,791 7.19% Liabilities Current Liabilities -85,888 -3.59% Trade and other payables 29,888 1.44% Financial debt -198,979 -85.02% Income tax payable 83,203 99.44% Non-current liabilities 22,741 3.57% Financial debt -8,245 -62.27% Deferred tax liabilities -40,955 -19.15% Provisions 25,234 24.78% Other non-current liabilities 46,699 15.15% Equity 621,946 13.1% Net equity attributable to the parent 607,452 12.87% Net equity attributable to minority interest 14,494 53.91% Total Equity and Liabilities 558,791 7.19% GAP’s Horizontal Analysis of Balance Sheet (2008 – 2009) Table 5 ($ and shares in millions except per value) Amount of Change % Change Assets Current Assets: Cash and Cash Equivalents -9,000 -0.52% Short-term Investments -177,000 -100% Restricted Cash 3,000 7.89% Merchandise Inventory -69,000 -4.38% Other current assets 171,000 29.9% Total current assets -81,000 -1.98% Property, and equipment, net -334,000 -10.22% Other Long Term Assets 141,000 29.07% Total Assets -274,000 -3.5% LIABILITIES AND STOCKHOLDERS’ EQUITY Current Liabilities: Current maturities of long-term debt -88,000 -63.77% Accounts Payable -31,000 -3.08% Accrued expenses and other current liabilities -183,000 -14.53% Income taxes payable 27,000 90% Total Current Liabilities -275,000 -11.3% Long-term Liabilities: Long-term debt -50,000 -100% Lease incentives and other long-term liabilities -62,000 -5.74% Total Long-Term Liabilities -112,000 -9.9% Total Stockholders’ equity 113,000 2.64% Total liabilities and stockholders’ equity -274,000 -3.5% Vertical Analysis Vertical analysis compares a financial statement item to a base amount within the same year. In the balance sheet, total assets are assigned 100%. Each asset is then expressed as a percentage of total assets. In a similar fashion, each liability and stockholders’ equity account is expressed as a percentage of total liabilities and stockholders’ equity respectively. (Siegel, and Shim, 1991, pg 11) In the income statement, net sales are assigned 100% and all other income statement accounts are evaluated in comparison to it. (Siegel, and Shim, 1991, pg 11) Combined consolidated Balance Sheet of Inditex and GAP, Inc Table 6 Inditex GAP, Inc (in thousands of euros) 2010 2009 2010 2009 Assets Cash and Cash Equivalents 2,420,110 1,466,291 1,784,480 1,303,400 Other current assets 93,671 142,257 466,640 564,680 Property, plant and equipment 3,293,535 3,442,321 1,997,280 2,229,080 Total Assets 8,335,437 7,776,646 6,068,600 5,748,640 Liabilities Income tax payable 166,873 83,670 31,160 43,320 Total Equity and Liabilities 8,335,437 7,776,646 6,068,600 5,748,640 Note: The value of GAP, Inc figures above have been converted from $ to Euros (1$ = 0.76 Euros). Vertical analysis of Inditex and GAP, Inc using the combined balance sheet on table 6 for the year 2010 Table 7 Inditex GAP, Inc (in thousands of euros) 2010 2009 2010 2009 Assets Cash and Cash Equivalents 29.03% 18.86% 29.41% 22.67% Other current assets 1.12% 1.83% 7.69% 9.82% Property, plant and equipment 39.51% 44.26% 32.91% 38.78% Total Assets 100% 100% 100% 100% Liabilities Income tax payable 2% 1.08% 0.51% 0.75% Total Equity and Liabilities 100% 100% 100% 100% The percentages of both Inditex and GAP, apart from that of “other current assets”, appear close to each other and, as a result, neither of the companies needs to raise alarm bells over performance. From table 7, the cash and cash equivalents of both companies increase over the period from 2009 to 2010, which is good news for the company in terms of short term solvency. However, the fixed assets between the same periods drop. The income tax payable by Inditex increases which might imply increased income for the company. Pyramid of ratios for GAP, Inc First Stage (Measure of overall profitability) ROI = Net earnings/Total Assets = 967,000/7,838,000 = 12.34% (2008) 1,102,000/7,564,000 = 14.57% (2009) Second Stage (Measure of two components of profitability) ROI (0.1234) (2008) (0.146) (2009) Net Margin Ratio Asset Turnover Ratio 967,000/14,526,000 (2008) x 14,526,000/7,838,000 (2008) = 6.66% (2008) x =1.853 (2008) 1,102,000/14,197,000 (2009) 14,197,000/7,564,000 (2009) = 7.76% (2009) =1.88 (2009) Third Stage (Analysis of each factor) (Net Profit/Sales) (Sales/Total Assets) Gross Margin Net Margin working Capital turnover Gross Profit/Net sales Net income/Total revenue = Net Sale/Gross capital 5,447,000/14,526,000 967,000/14,526,000 = 14,526,000/1,847,000 = 37.5% (2008) = 6.66% (2008) = 7.86 (2008) 5,724,000/14,197,000 1,102,000/14,197,000 = 14,197,000/4,387,000 = 40.32% (2009) = 7.76% (2009) = 3.24 (2009) Operating Ratio Fixed Assets Turnover = Operating Profit/ Total Revenue Sales/Fixed Assets 1,548,000/14,526,000 = 0.107 (2008) 14,526,000/3,267,000 = 4.45 (2008) 1,815,000/14,197,000 = 0.13 (2009) 14,197,000/2,933,000 = 4.84 (2009) Pyramid of ratios for Inditex First Stage (Measure of overall profitability) ROI = Net earnings/Total Assets = 1,741,280/8,335,437 = 20.89% (2010) 1,322,137/7,776,646 = 17% (2009) Second Stage (Measure of two components of profitability) ROI ( 0.21) (2010) (0.17) (2009) Net Margin Ratio (Net income/Total revenue) Asset Turnover Ratio (1,741,280/12,526,595) x (12,526,595/8,335,437) = 0.14 (2010) x 1.5 (2010) 1,322,137/11,083,514 11,083,514/7,776,646 = 0.12 (2009) = 1.43 (2009) Third Stage (Analysis of each factor) (Net Profit/Sales) (Sales/Total Assets) Gross Margin Net Margin working capital turnover Gross Profit/Net sales Net income/Total revenue = Net Sale/Gross capital = 7,422,022/12,526,595 = 1,741,280/12,526,595 = 12,526,595/5,370,546 = 59.25% (2010) = 13.9% (2010) = 2.33 (2010) 6,328,009/11,083,514 1,322,137/11,083,514 11,083,514/4,748,600 = 57.09% (2009) = 11.93% (2009) = 2.33 (2009) Operating Ratio Fixed Assets Turnover = Operating Profit/ Total Revenue Sales/Fixed Assets 2,966,207/12,526,595= 0.24 (2010) 12,526,595/3,293,535= 3.8 (2010) 2,374,189/11,083,514 = 0.21 (2009) 11,083,514/3,442,321 = 3.21 (2009) From the pyramid of ratios of both inditex and GAP the turnover ratios show that both companies improved their effectiveness in use of assets. Both companies also improved their incomes which were reflected in the improved gross and net margins. The Ratios on the pyramid include; Net Profit Ratio Net Profit Ratio = (Net Profit after tax/Net Sales) X 100. It is the ratio between net profit and sales. This ratio reveals how much the owners are left with after meeting production and other costs. (Sinha, 2009, pg. 123) Working Capital Turnover Working Capital Turnover = Sales/Average Working Capital. This ratio indicates the overall picture of the working capital required for maintaining a level of sales. The greater the ratio, the shorter is the working capital cycle, and the higher is the working capital management efficiency. Higher ratios imply faster conversion of working capital into sales. (Sinha, 2009, pg. 136) Fixed Assets Turnover Fixed Assets Turnover = Sales/Average Fixed Assets This ratio measures the efficiency of Long-term capital investment. It reveals the level of sales generated due to investment in long-term assets. (Sinha, 2009, pg. 137) Other ratios like gross margin and Net margin were discussed earlier on this analysis. Conclusion The financial analysis on both companies shows that they are both heavily reliant on assets for their profits. The financial analysis also indicates that GAP was ahead of Inditex in terms of revenue generation and profits in the early 2000s, as indicated by the NOPLAT margins on figure 1, although Inditex later overtook them in the latter part of the decade. This analysis is, however, not conclusive and exhaustive and additional analysis might be required in future, including comparing both of these companies with others in the same field. References Tracy, J., Tracy, J.A., and CPA. (2008). Accounting for Dummies. Indianapolis: John Wiley & Sons. Shim, J.K., and Siegel, J.G. (1998). Schaum’s Outline of Financial Management. McGraw-Hill Professional. Pehlivan, C.N. (2011). Financial Analysis and Valuation of Inditex: A business valuation report and theoretical study. GRIN Verlag. Annual Reports, 2012. Inditex. [online] Available at: [Accessed 13 April 2012]. Annual Reports and Proxy. GAP Inc. [online] Available at: [Accessed 13 April 2012]. Vance, D.E. (2003). Financial Analysis and Decision Making: Tools and techniques to solve financial problems and make effective business decisions. New York: McGraw-Hill Professional. Siegel, J.G. and Shim, J.K. (1991). Finance. New York: Barron’s Educational Series. Sinha. (2009). Financial Statement Analysis. New Delhi: PHI Learning Pvt Ltd. Talekar, S.D. (2005). Management of Working Capital. New Delhi: Discovery Publishing House. Nelson, S.L. (2011). QuickBooks 2012 All-in-One Dummies. Hoboken: John Wiley & Sons. Read More