Council on Foreign Relations Analysis Report on Burberry Group Plc - Example

CFR Analysis Report: Burberry Xin Chen number: 12019368 Table of Contents Part A 4 Introduction 4 Investment 4 Regulatory framework 4 Part B 5 Cash generation units 5 Impairment of assets 6 Financial instruments 7 Managing risks 7 Post employment obligations 10 Part C 11 Conclusion 11 Review of Company Disclosure 11 Part A Introduction This CFR Analysis Report on Burberry Group plc is based on the Company’s annual report 2012. Burberry is a global luxury brand with a unique British lineage. It designs and sources clothes and fashion accessories and sells them through its varied network of retail (including online), wholesale and licensing procedures globally. Burberry luxury products can be purchased through franchises and third-party stores also worldwide through contractual arrangements. The Company adheres to standard accounting practices, as per regulatory norms related to accounting disclosures. It is a listed company in London Stock Exchange and is a constituent of FTSE 100 Index. Investment Burberry has its investment of property, plant and equipment in mainland China. Investment is made in the acquisition of subsidiaries also. There are total 68 stores in 35 cities. Investment in China is clustered around provincial capitals and flagship markets for ensuring appropriate brand representation. Other than property, Burberry invests in retail productivity in the high growth emerging markets. It also has its investment in wholesale shop-in-shops and in retail capital. Burberry is making investment in smaller markets of future. It has its stores in regional headquarters in Brazil, Latin and Central America, India and the region of Middle East. Regulatory framework The consolidated financial statements of the Burberry Group are prepared complying with EU endorsed International Financial Reporting Standards (IFRSs), IFRS Interpretations Committee (IFRS IC) and part of Companies Act 2006, as applied to companies reporting under IFRS. The preparation of consolidated financial statements is made as per the convention of historical cost other than the modification through revaluation of financial assets and liabilities at fair value by means of profit or loss (Burberry, 2012). Part B Cash generation units In relation to the assets of company, the future cash flow is assessed by the management of the company in terms of cash flow from operating activities, cash flow from investing activities and cash flow from financing activities. The adjusted operating profit from continuing and discontinuing operation is assessed and the net cash inflow from operations is adjusted for capital expenditure. Overall, Burberry had cash-in-hand of £338m in 2012. Cash generation from operation functions touched £482.5m in 2012, an increase of £116.1m from the year 2011. It meant that cash-flow assessed from various operational functions exhibited strength till March 2012 relatively to the year ending March 2011. Net cash generation from different operational functions reached £373.7m by 31 March 2012, which was £265.1m in the year ending 31 March 2011. Cash generation from investment functions including acquisition of subsidiaries and purchase of intangible assets recorded net cash outflow of £176.6m, an increase of £16.3m from the past year, ending March 2011. Financing functions generated net cash outflow of £154.3m, way ahead from the previous year of £67.3m. Cash and cash equivalents by the year end reached £339.6m, an increase of £40.4m from the year 2011. Impairment of assets Goodwill is examined for impairment of assets by the Group each year or when doubted for impairment. The recoverable amount of all cash generating units has been measured on the basis of value in use. This method needs measurement of future cash flows arising from concurrent functions of cash generating units and selection of suitable discount rate for computing current value. Impairment losses identified on goodwill are not reversed in future periods. The company does not have historical impairment losses without any tendency to delay. Inventory Impairment Assumptions over inventory provisioning to compute impairment include the type and situation of the inventory besides its predicted saleability. There was a net shift in inventory provisioning by the end of March 2012, costing £4.4m. Inventory write-downs of £1.5m in 2011 were reversed due to inventory kept out of use for on-hold Spanish functions in 2012. Inventory to the tune of £8.3m was termed as losses in 2012. Impairment of trade receivables Risk of trade receivables to the Group has heightened due to economic slow-down worldwide. An approximation of recoverable value includes such factors as aging profile of debtors and any particular risk. Trade receivables are short maturity instruments; therefore, after deducting value for impairment, the nominal value is measured to its fair value. Financial instruments The financial instruments include various financial assets as reported in financial statements, which are: cash and cash equivalents, trade and other receivables, trade and other payables, borrowings, put option liabilities over non-controlling interest and derivative instruments. Put Option Liability Regarding key assumptions, these have been critical also in the China business segment of Burberry. It has been observed regarding put option liability over the non-controlling interest. It has been stipulated in the contractual agreement regarding assumptions on future performance and concurrent market capitalisation and risk-free rate in China. Exchange Rate An analysis of exchange rate changes and cash and cash equivalents at the start of the year reveals that year-on cash and cash equivalents got increased by £5.3m and exchange rate impact differed by £.9m, accrued by deducting £1.5m for 2011 from £2.4m from 2012. Thus, exchange rate has been a differentiator, as assumed for net cash outflow from financing functions (100). Managing risks The Board has delegated the responsibility of ensuring management of risks to the Audit Committee for reviewing the effectiveness of internal control and methodology of risk management of the Company. Market risk Market risk to Burberry emerges from the foreign exchange exposures. Burberry follows a policy to minimise such risks by hedging foreign currency denominated deals through forward foreign exchange contracts. It adheres to its policy in connection with derivative instruments. In the treasury risk controlling, the Group follows the policy of hedging expected cash flows in each leading foreign currency that passes for ‘highly probable’ predicted deals for hedge accounting objectives in the off late. Possibility of hedging the net assets of overseas subsidiaries are analysed when converted into Sterling for reporting aims. No such transaction has been hedged in the off late time or the previous year as well. A sensitivity analysis was done to decide the impact of non-Sterling currencies on 31 March 2012 either for their strength or weakness by 20% against Sterling, assuming other factors remaining constant. It could have affected post-tax profit on net debt, receivables, payables and financial instruments for the year 2011 by £3.0m, registering either a decrease or increase of £0.1m. Translating forward foreign exchange contracts titled as cash flow hedges and Sterling denominated loans kept in global subsidiaries would have impacted an increase or decrease in equity by £12.1m, which was £11.4m in 2011 (128). Share price risk Burberry is exposed to the possibility of share price risk due to its employer national insurance liability on the enforcement of different employee share based incentive schemes. Burberry follows a policy of going for equity swaps when permitting share options and awards to minimise exposure to ups and downs in the employer’s national insurance liability, as share price shifts. This is a regular practice at Burberry of always monitoring such risks. For example, an increase/decrease in the share price of 50.0p could cause an increase or decrease in profit after tax of £0.8m. Interest rate risk A change in interest rate exposes to market risk related mainly to cash, short-term deposits and outside borrowings, which are connected to the LIBOR rate. On the other hand, local market rates impress cash and short-term borrowings. Risks differ on fixed rate and floating rate borrowings. Burberry employs interest rate swap derivatives to control interest rate risks. It has no pending interest rate swaps by 31 March 2012. The floating rate financial liabilities for the years, 2012 and 2011 do not include cash pool overdraft balances of £204.7m (2011: £166.1m) which are neutralised by cash balances for computing interest. An increase or decrease of 100 basis points on borrowings could have resulted in £nil increase or decrease in post-tax profit due to an increase or decrease in interest expense on floating rate borrowings by 31 March 2012, if other factors remained same. The fixed rate financial liabilities have been owed under a finance lease of £1.8m (2011: £2.3m). The same computation of 100 basis points applies for the year ending 31 March 2012 with the possibility of post-tax profit increase or decrease of £2.8m due to an increase or decrease in interest income on short-term deposits. As there are no other critical floating rate foreign currency borrowings, Burberry is not exposed to shifts in foreign currency interest rates. Credit risk Credit risk to Burberry is almost negligible given that its trade receivables balance is scattered over huge number of varied customers with no individual debtor in possession of more than 8% of the total credit pending towards the Company. Policies exist that ensure bulk sales are made to only those customers maintaining a clean credit history. Retail sales pose no credit risk at all, as their mode of payment is either cash or credit card. Besides, receivables balances are checked regularly to avoid any major bad debt risk. As a result, default rates have traditionally been very less. The forwarding figures of financial assets exhibit the maximum credit risk to the Company. The Company manages credit risks from smaller financial assets, such as cash and short-term deposits and some derivative instruments but the counter-party can present the maximum default risk to the tune of exposure equal to the forwarding value of these instruments. These policies control credit exposure to any financial institution and funds are deposited only with independently rated financial companies carrying a minimum rating of “A”. Huge amounts deposited in various countries of Company operations in their currencies are held as guarantee at some of the European banks. The measurement bases employed to identify financial instruments on financial statements are IFRS 9. The financial position and performance of the company is appraised as per IFRS guidelines which are in line with the practice of industry. A comparison of the Company performance with the companies in the FTSE 100 index for Total Shareholder Return (TSR) for £100 invested on 31 March 2007 reveals that Burberry has became a part of the FTSE 100 index on 10 September 2009 and before that it had a market capitalisation near to that of the companies at the reducing end of the FTSE 100 index. Post employment obligations Pension costs The Burberry Exceptional Performance Share Plan was launched in 2007 to reward brilliance in performance, as one of the aims. Performance assumptions included: Burberry’s TSR outshined the median TSR of a segment of luxury competitors by at the minimum 7% year-on across the four-year period ending 31 March 2011; and Growth in Adjusted PBT crossed 75% across the five-year performance period till 2011. Burberry succeeded in fulfilling both conditions completely for the share vesting in the year but in 2010/11, 69.5% of the first share of the award passed. It was decided not to declare awards further under the EPP. Other scheme for employees includes Defined Contribution Pension Scheme, the cost of which is mentioned in Income Statement of each respective year. Yet another scheme, the Defined Benefit Scheme, identifies liability in the Balance Sheet. The Defined benefit obligation is computed each year by the independent actuaries through Projected Unit Credit method (Burberry, 2012). Part C Conclusion Review of Company Disclosure A review of the report substantiates the Company’s strength of global coverage expanded through America, Europe, Asia and the rest of the world. Its diverse distribution network of retail, wholesale and licensing adds to its strength. The double-digit growth over all product segments through varied distributional pathways makes it a strong brand. Weak areas for Burberry are reflected from its reducing efficiency in relation to the industry competitors’ strong turnover. Fashion industry trends are always changing. This industry trend along with low-profiling in Spain needs to be managed efficiently. Discontinued functions in Spain have caused operating profit losses, requiring restructuring huge cash spend. Irrespective of the difficulties, the annual report of the Company provides a picture of growth. Nevertheless, the Company needs to reduce the cost of capital to be increasingly more competitive. A shift from the floating interest rate to fixed interest rate due to exposure risk needs to be maintained. Reference Burberry, 2012. Annual Report 2011-2012. Available from http://www.burberryplc.com/documents/full_annual_report/burberry_ar_final_web_with-urls_indexed.pdf [Accessed 1 July 2013]. Read More