Risks Involved in Mutual Fund Investments - Unilever - Case Study Example

Discussion 4.5.7 Table of Contents Part1: Unilever 3 Introduction 3 Common Stock and Preferred Stock 5 Part 2: Topic Selection 8 Part 3: Mutual Fund 8 Introduction 8 Risks Involved in Mutual Fund Investments 9 References 11 Part1: Unilever Introduction Unilever is one of the world’s leading suppliers of fast-moving consumer goods. It is a British-Dutch consumer goods company. Their product comprises foods, beverages, cleaning agents as well as personal care products. Unilever is a twofold listed company consisting of “Unilever N.V.” in Rotterdam, Netherland and “Unilever PLC” in London, United Kingdom (UK). Unilever N.V. is a public limited corporation which is registered in Netherland and possesses catalogue of shares as well as depository receipts for shares on the Euronext Amsterdam and New York stock exchange. Unilever PLC is also a public limited corporation and has shares which are listed on the London Stock Exchange as well as listed as American Depository Receipts on the New York stock exchange. The two parent companies i.e. NV and PLC operate together as an individual economic entity (Unilever, 2011). Long-term debts are financial compulsions and loans which last for more than a year. A company must show long-term debt on its balance sheet with its date of maturity and interest rate. Bonds as well as debt compulsions with maturities greater than one year are instances of long-term debt. This form of debt can be obtained from bank or bondholders. Few of the firms issue bonds to investors and pay interest on those bonds (YCharts, 2012). The cash flow of Unilever gained from the operating activities provides fund for the financing services on a frequent basis. The company seeks to manage its liquidity necessities by maintaining an access to the global debt market through short-term as well as long-term debt programmes (Unilever, 2011). According to the annual report of 2011, Unilever had US $6,150 million of undrawn committed amenities on 31st December, 2011 are as follows: Functioning 364-day bilateral credit amenities of an aggregate of US $5,950 million, but in 2010 it fell down to US $ 5,495 million In ‘364-day bilateral money market’ company’s commitments was about US $200 million but in 2010 it was US $555 million Figure: Contractual obligation of 31st December, 2011 Source: (Unilever, 2011). According to the financial information of 2011, Unilever’s interest management approach concentrates towards an optimal stability between fixed and floating interest rate which is exposed as expected net debt. The purpose of this approach is to minimise the yearly interest rate after tax and to reduce volatility. This is attained by issuing fixed or floating rate of long-term debt, or by transforming interest rate exposure through interest rate exchange. As of 31st December 2011, interest rates for the company were fixed which was approximately 73% of the estimated net debt for 2012 and 57% for 2013. In 2011, the average interest rate on short-term borrowings was 2.5% (Unilever, 2011). Unilever added the following components in its balance sheet in the form of capital such as, long-term debt (bank loans, overdrafts, bonds and other loans), short-term debt as well as equity (mainly common and preferred stock). Common Stock and Preferred Stock Common stock is a type of security and a form of company equity ownership. It is acknowledged as common for the reason of differentiating it from preferred stock. However, for both types of stock, there is a common stock holder and dividends of common stocks cannot be paid until all the dividends in relation to the preferred stock are fully paid. Moreover, common stock is a kind of ownership and company utilises it for trading. Company sells common as well as preferred stocks through public offering and those are traded among the investors in the secondary market. Common stock and preferred stock is mainly considered to be the equity of the company (Deysher, 2010). According to the financial report of 2011, the equity of Unilever group amounting to € 14,293 million comprises the equity of the parent company i.e. Unilever N.V. of€7,712 million and the equity of Unilever PLC of £1,934 million as well (Unilever, 2011). As per the 2011 balance sheet of the company, the total equity was found to be € 14,921 million and its total liabilities along with equity amounted to € 47,512 million. In 2011, it was observed that the company’s shareholders’ equity fell by €0.2 billion. The net profit added €4.3 billion with the help of currency and other operating expenses which fell by €2.0 billion in comparison to 2010. The company paid dividends in this year which amounted to nearly €2.5 billion. Unilever is learnt to make constant attempts to maintain a competitive balance sheet which is believed and expected to qualify according to the credit rating (A+) in the long-term. This facilitates the company to gain a proper access to equity and debt market as well as provides adequate flexibility for acquisition (Unilever, 2011). Unilever, according to the regulations of United Kingdom (UK), needs to provide an account of its relative share performance, based on entire share holders’ return against an equity index shares held for the last five years. The committee decided to illustrate the company’s performance against the FTSE (Financial Time Stock Exchange) 100 index in London and also Euronext 100 index (AEX) in Amsterdam, as these are the pertinent indices in the UK and Netherlands. Figure: Five year historical Total Shareholder Return (TSR) performance Source: (Unilever, 2011). The consolidated statement of Unilever group i.e. Unilever N.V. in Netherlands and Unilever PLC in UK as per 31st December, 2011, was found to encompass the consolidated income statement, the statement of changes in equity, balance sheet, cash flow statement as well as combined statement of inclusive income. In order to get a detailed account of the preferred as well as common stock (equity), it is considered necessary to mainly involve or go through the consolidated statement of changes in equity (Unilever, 2011). Figure: Consolidated statement of changes in equity as per 31st December, 2011. Source: (Unilever, 2011). Unilever securities comprise equity amounting to €41 million and €50 million which were 0.3% of the total pan assets as per 31st December 2011 and 2010 respectively. The company’s income tax on profit for the year 2011 includes current as well as deferred taxes. Income tax is included in the income statement except to the extent related to the items identified directly under equity. (Unilever, 2011). Part 2: Topic Selection Mutual Fund has been chosen as the financial topic for the intended research paper. The topic has been selected owing to its popularity as a form of financial investment. According to the present situation of the financial market, majority of the individuals intend to invest in stock market, bonds and securities. The initial section of the study relates to a different form of investment i.e. equity investment, therefore, the other form of investment i.e. mutual fund was considered to be the best suited and relevant topic in the following section. Three online resources have been selected which would be used for the reason of gathering information and details in relation to the subject of mutual fund and they are: (a) Province of Nova Scotia (b) Mungal and (c) US Securities and Exchange Commission. Part 3: Mutual Fund Introduction Mutual fund is a huge amount of finance which is managed on behalf of the investors by highly proficient wealth managers. The manager employ the fund for buying stocks, bonds and other securities according to particular investment objectives recognised for the fund (Province of Nova Scotia, 2012). Risks Involved in Mutual Fund Investments Mutual funds fall short of delivering the exact return as expected by the investors. The returns depend on the performance of the various related companies. Investors spend in shares, bonds and debentures for obtaining increased returns. It needs to be mentioned in this regard that all these investments engage certain elements of risks. The unit value of shares or other components of a mutual fund may vary with the performance of a company and in case a company fails to pay interest on their bonds or debentures, the performance of the fund gets adversely affected (Province of Nova Scotia, 2012). Moreover, there are three basic categories of mutual fund namely, income fund (also called money market fund), bond funds (fixed income funds) and stock funds (also called equity funds). Each of these funds consists of various attributes with different levels of risks as well as rewards (Mungal, 2012). Income Funds: Income funds are invested in bonds and are fundamentally known as short-term investment fund. One of the major risks which are believed to be associated with this fund is re-investment risk (Mungal, 2012). Bond Mutual Funds: Bond mutual funds are mainly composed of bonds and the key risk relates to equity funds as they primarily have a floating Net Asset Value (NAV). This particular kind of fund also involves credit risk which means that if any of the investors default with regard to a particular bond within a given period of time, an unfavourable influence will be encountered on the NAV (Mungal, 2012). Equity Mutual Funds: Equity mutual funds mainly consist of floating NAV which can fluctuate on a daily basis and therefore investors witness a price risk on their fund values. This kind of a fund is considered to be quite risky as the investments are primarily made in equity which also subsequently provides a high return (Mungal, 2012). The risks associated with mutual funds are given below: Market Risk: If the entire stock or bond market encounters a dip as a result of the economic aspect, the value of bond or stock holdings in the fund’s portfolio might fall down, which directly creates an adverse impact on the fund’s performance (US Securities and Exchange Commission, 2008). Non-Market Risk: If a company lessens its stock prices, it may negatively influence the fund’s holdings. Investors can hedge this risk by developing diversified portfolio which consists of a large variety of stocks purchased from different industries (US Securities and Exchange Commission, 2008). Interest Rate Risk: Interest rates and bond prices are always known to share an opposite relationship. When interest rates witness a rise, bond prices fall down and this declination in the underlying securities influence the fund value negatively (US Securities and Exchange Commission, 2008). Credit Risk: Bonds are supposed to be a debt compulsion which a company is liable to pay. Therefore, when the investors invest their funds in corporate bonds, they carry and share the risk of the particular company, for instance interest payment liabilities (US Securities and Exchange Commission, 2008). References Deysher. J. E., 2010. Preferred Stocks: An Overlooked Alternative. Portfolio Strategies. [Online] Available at: http://www.austinlemoine.com/documents/Article-8.pdf [Accessed September 19, 2012]. Mungal, D., 2012. Risk Associated with Investing in Mutual Funds. The Investment Chef. [Online] Available at: http://www.guardianassetmanagement.com/GAM%20New%20Website%20Content/Documents/2010%20Denise%2013-05.pdf [Accessed September 19, 2012]. Province of Nova Scotia, 2012. Mutual Funds What You Need To Know. Canadian Securities Administrators. [Online] Available at: http://www.gov.ns.ca/nssc/docs/MUTUALFUND.pdf [Accessed September 19, 2012]. Unilever, 2011. Annual Report and Accounts. Creating a Better Future Every Day. [Online] Available at: http://www.unilever.co.uk/Images/Unilever_AR11_tcm13-282960_tcm28-283641.pdf [Accessed September 19, 2012]. US Securities and Exchange Commission, 2008. Mutual Funds A Guide for Investors. Information is an Investor’s Best Tool. [Online] Available at: http://www.sec.gov/investor/pubs/sec-guide-to-mutual-funds.pdf [Accessed September 19, 2012]. YCharts, 2012. Unilever Long Term Debt Chart. Companies. [Online] Available at: http://ycharts.com/companies/UL/long_term_debt [Accessed September 19, 2012]. Read More