Financial Analysis of the Company in Clothing and Retail Industry - Example

Mr. DG Farmer Financial Analysis of the H&M (clothing and retail industry) Hennes & Mauritz , an internationally recognized is oneof the premier name when it comes to trendy high fashion clothing and cutting edge fabric designs. The company is considered one of the premier retailers in Sweden which is servicing more than 21 million customers worldwide. Following its expansion strategy, the company is actively expanding its business all across its globe. The audited financial statements of the company for the financial year 2012 present the fact that the company has employed more than 94,000 and the operations of the company has expanded to more than 43 countries. Hennes & Mauritz has captured a considerable market share in all areas of the globe through ingenious marketing techniques. As per the future growth plan, H&M is planning to increase the number of stores by 10-15% every high and making sure that this is effectively reflected through high profits and high sales revenue. Operating Performance of the Company In the financial year 2012, H&M shows impressive growth both financially and operationally. In the financial year 2012, H&M’s revenue increased by 9.82% to a striking SEK 120.799 billion which has resulted in the operating profit increase by 6.75%. Following its operational growth strategy, H&M has introduced diversity in its business. The company is showing interest in covering all the horizons of the globe by opening more and more stores in various areas of the globe as it planning to serve a diverse range of customers. Following is a comparison of the last three financial results of Hennes & Mauritz  Particulars 2012 2011 2010 Group Revenue 120,799 109,999 108,483 Operating Profit - Continuing Operations 21,754 20,379 24,659 Profit for the year 16,877 15,821 18,681 It is apparent from the aforementioned financial analysis that the financial outlook of the company has improved in the last three financial years. The revenue of the company has shown steady increase during the past three years. However, the operating profit of the company took a downward plunge in the financial year 2011, but was able to report higher profits in the financial year 2012. Although during the current financial year, the gross profit to sales ratio of the company has decrease, the net profit of the company has increased by SEK 1.056 billion. The major increase in the net and gross profit of the company is the fact that the company is actively involved in opening overseas branches and expanding its worldwide operations. Financial Statement Ratios Analysis The financial ratio analysis of H&M is conducted in this paper which analysis the financial outlook and performance of the company for the last three financial years. The analysis is divided into three main categories namely Profitability, Liquidity and Gearing ratios. These ratios identify how well the company is performing financially and gives an idea about its future financial outlook by presenting the historical trend. Profitability ratios focus mainly on net profit and gross profit and what are the ratios of these profits in comparison with the sales level. Liquidity ratios identify the level of liquid assets available with the company in order to discharge its current liabilities. Gearing ratios, on the other hand highlights the capital structure of the company. [Investopedia.com (2011)] Profitability Ratios   2012 2011 2010   Profitability Ratios Gross profit margin 59.50% 60.13% 62.93% Net profit margin 18.45% 19.04% 23.06% ROCE 50.85% 47.49% 56.63% Gross profit margin is one of the key profitability ratio indicators which indicate how well a company is in the process of utilizing its working capital in earning the desired level of profit. In order to calculate the gross profit margin ratio, the gross profit (i.e. sales less the cost of sales) is divided with the revenue of the company. As apparent, the gross profit of the company has decrease slightly decreased from the previous financial year which could be due to the fact that the cost of sales of the company increased with a bigger percentage as compared to the percentage in the revenue of the company. This could be due to increased raw materials prices from the supplier which the company could not recover from the customers through increased selling price. The next profitability indicator is the net profit margin. The net profit margin is calculated by dividing the net profit (i.e. gross profit less administrative and selling expenditure) with the total revenue. The net profit margin follows almost the same historical pattern as the gross profit margin. The analysis of the last three financial statement of the company presents the fact that the selling and administrative expenses of the company has increased which could be in line with the increasing inflation level in several countries where most of its operations are situated. The operating expense of the company has shown an increase of 10% as compared to the previous financial year. The ROCE showed massive decrease in the financial year 2011 due to the fact that the operating profit in the financial year 2011 decreased greatly although no significant changes were observed in the shareholder’s equity figure. However, through prudent resource management, the company was able to restore back its previous profit level and the ROCE increased sharply Liquidity and efficiency Ratios 2012 2011 2010 Liquidity Current ratio 2.66 2.71 2.96 Debtors turnover period 54.73 47.07 48.04 Inventory turnover 3.22 3.17 3.50 Current ratio is one of the significant ratios in the liquidity ratio analysis. The ratio puts into consideration the current assets and current liabilities of the company and analyses them. A current ratio greater than 1 presents the fact the company is able to meets its current liabilities and shows a stable and sound financial outlook. As enumerated in the table above, the current ratio of the company has always remained greater than 1 in all of its previous three financial years. Higher debtor turnover shows that company has proactive management and is converting its debt balances quickly into cash by following the implemented controls. The debtor turnover ratio has remained high in all the previous three financial year which is due to the fact that the management of H&M is working diligently and actively in converting its debt balances into cash and cash equivalent. A brief analysis of the inventory turnover ratio of the company shows that this particular ratio has marginally increased during the current financial year as compared to the previous year. Overall, the inventory turnover ratio of the company has not increased significantly which shows that the company is able to sell out its product quickly and not much of its funds and resources are tied up in inventory. Gearing Ratios 2012 2011 2010 Gearing Ratios Equity ratio 0.73 0.73 0.75 Debt ratio 0.27 0.27 0.25 Debt : equity ratio 0.73:0.27 0.73:0.27 0.75:0.25 Borrowing ratio 0.22 0.24 0.22 The companies who have high equity ratios portray a much more stable and strengthened financial outlook. [Investopedia.com (2012)] As apparent form the capital structure of the company, the company is mostly financed through equity and has tried its best to keep the debt as minimum as possible. However, during the past two financial years the debt of the company has increased slightly. However, the financial outlook still appears to be stable. The borrowing ratio of any company can be calculated by dividing all the short term and long term borrowings of any company with that of the shareholder’s equity [Peavler, R. (2012)]. From the financial analysis point of view, the borrowing ratio follows the same pattern as that of the debt equity ratio. This could probably due to the fact that both of these ratios use the same dependents in the calculation. A close look at the table above shows that around 73% of the company’s assets are financed through equity which is very positive sign for the investors as it would mean that the company would have higher disposal income and it will distribute higher dividends to its shareholders. Competitor Analysis The following chart shows the comparison of the share price of H&M and one of its biggest competitors the GAP. [Bloomberg,2013] As apparent from the above comparison, recently the share price of GAP drastically increased whereas the share price of H&M has been showing stable share price throughout the last three years. The company has also been paying good dividend to its shareholder as evident from its latest financial statements and press releases and the earning per share of the company also appears to be promising. The following table presents the comparison of the financial statement ratio analysis of H&M with GAP for the financial year 2011. GAP H&M   2012 2012   Profitability Ratios Gross profit margin 36.25% 59.50% Net profit margin 9.85% 18.45% ROCE 52.01% 50.85% 2012 2012 Liquidity Current ratio 2.02 2.66 Acid test ratio 1.27 1.57 Debtors turnover period 17.98 54.73 Inventory turnover 5.74 3.22 2012 2012 Gearing Ratios Equity ratio 0.37 0.73 Debt ratio 0.63 0.27 As apparent from the above comparison of the ratios of GAP and H&M, it is apparent that profitability of the H&M is much better than that of GAP. Same is the case with liquidity ratio which shows that H&M has greater liquid assets than GAP. The capital structure of H&M is also better than GAP as the ratio of debt in H&M’s capital structure is less. Recommendation The financial analysis of H&M shows that the company is managing its resources prudently and effectively. The company is making every possible effort to reduce the amount of debt in its capital structure as much as it is possible so that it does not have to bear excess cost of interest charge in its income statement. In addition, the company has enough liquid assets through which it can easily discharge it liabilities in the near future. The share price pattern of the company is also strong. Apart from slight fluctuations, the share price of the company has always remained strong and it has always awarded its shareholder with competitive dividends. Based on the above financial analysis it is apparent that the share price of H&M is likely to spike in the coming future and the current shareholders of the company can benefit by holding the share now and disposing off the shares in the near future. By disposing off the shares in the future the current shareholders can earn capital gain. Investors who are looking for lucrative venture to invest in should consider investing in H&M as from its financial outlook; it appears that the company will pay good dividends in the near future. References Investopedia.com (2012) Financial Ratio Tutorial | Investopedia. [online] Available at: http://www.investopedia.com/university/ratios/ [Accessed: 13 Mar 2013]. Investopedia.com (2011) Understanding Financial Liquidity. [online] Available at: http://www.investopedia.com/articles/basics/07/liquidity.asp [Accessed: 13 Mar 2013]. Investopedia.com (2012) Equity Financing Definition | Investopedia. [online] Available at: http://www.investopedia.com/terms/e/equityfinancing.asp [Accessed: 13 Mar 2013]. Peavler, R. (2012) Profitability Ratios - Financial Ratio Analysis - Profit Margin - Return on Equity - Return on Investment. [online] Available at: http://bizfinance.about.com/od/financialratios/a/Profitability_Ratios.htm [Accessed: 13 Mar 2013]. Peavler, R. (2012) Debt and Equity Financing - Advantages and Disadvantages. [online] Available at: http://bizfinance.about.com/od/generalinformatio1/a/debtequityfin.htm [Accessed: 13 Mar 2013]. Qfinance.com (2010) Gearing Ratios - Definition of Gearing Ratios - QFINANCE. [online] Available at: http://www.qfinance.com/dictionary/gearing-ratios [Accessed: 13 Mar 2013]. VERNIMMEN, P., & VERNIMMEN, P. (2009). Corporate finance theory and practice. Chichester, U.K., John Wiley & Sons. Bloomberg.com (2012) DEB:London Stock Quote – H&M - Bloomberg. [online] Available at: http://www.bloomberg.com/quote/HMB:SS/chart [Accessed: 13 Mar 2013]. Appendix Financial Statements For the financial year 2012 2012 In million SK Income statement Sales 120,799 Cost of Sales 48,928 Gross Profit 71,871 Operating Expenses 50,117 Operating Profit 21,754 Other income 536 Profit before interest 22,290 Finance expense (5) Taxation 5,418 Profit for shareholders 16,877 Dividends - Retained profit / (loss) - Balance Sheet Non-Current Assets 22,941 Current Assets Stock 15,213 Trade and other receivable 2,207 Other 5,394 Cash 14,418 37,232 Total assets 60,173 Current Liabilities Trade and other payab. 4,234 Overdrafts - Other 9,776 14,010 Non-Current 2,328 Liabilities Total Liabilities 16,338 Net Assets 43,835 Equity Share Capital (£1 nominal) 207 - Retained Profits 43,628 43,835 Debt and equity 60,173 - For the financial year 2011 2011 In million SK Income statemet Sales 109,999 Cost of Sales 43,852 Gross Profit 66,147 Operating Expenses 45,768 Operating Profit 20,379 Other income 568 Profit before interest 20,947 Finance expense 5 Taxation 5,121 Profit for shareholders 15,821 Dividends - Retained profit / (loss) - Balance Sheet Non-Current Assets 20,270 Current Assets Stock 13,819 Trade and other receivable 2,337 Other 9,443 Cash 14,319 39,918 Total assets 60,188 Current Liabilities Trade and other payab. 4,307 Overdrafts - Other 10,450 14,757 Non-Current 1,327 Liabilities Total Liabilities 16,084 Net Assets 44,104 Equity Share Capital (£1 nominal) 207 - Retained Profits 43,897 44,104 Debt and equity 60,188 For the financial year 2010 2010 In million SK Income statement Sales 108,483 Cost of Sales 40,214 Gross Profit 68,269 Operating Expenses 43,610 Operating Profit 24,659 Other income 356 Profit before interest 25,015 Finance expense 7 Taxation 6,327 Profit for shareholders 18,681 Dividends - Retained profit / (loss) - Balance Sheet Non-Current Assets 18,250 Current Assets Stock 11,487 Trade and other receivable 2,258 Other 10,496 Cash 16,691 40,932 Total assets 59,182 Current Liabilities Trade and other payab. 3,965 Overdrafts - Other 9,882 13,847 Non-Current 1,163 Liabilities Total Liabilities 15,010 Net Assets 44,172 Equity Share Capital (£1 nominal) 207 - Retained Profits 43,965 44,172 Debt and equity 59,182 Ratios Formulae Ratio Formulae Gross profit margin Gross profit/Sales Net profit margin Net profit/Sales ROCE Net Profit/Shareholders Equity Current ratio Current Assets/Current Liabilities Acid test ratio Current asset(except inventory)/Current Liabilities Debtors turnover period Sales/Debtors Inventory turnover Sales/Inventory Equity ratio Shareholders Equity/Total Assets Debt ratio Total liabilities/Total Assets Read More