Financial Statement Analysis of Wal-Mart Stores and Office Depot - Case Study Example

of Financial ment Analysis of WMT and Office Depot Introduction This paper aims to prepare a comparative financial analysis for the last two years of two American companies --- Wal-Mart Stores, Inc. (or “WMT”) and Office Depot, which are competitors in the retail industry. The financial analysis will basically compare and contrast their price-earnings (P/E) ratio, gross profit ratio, profit margin ratio, and EPS of the two companies. These ratios are basically talking about profitability, solvency and market or investment ratios. This paper will therefore dwell from the point of view of profitability and gearing and then linking both with wealth maximization objective of the company as measured by investment ratios. Towards these objectives, the paper will evaluate other ratios of profitability, gearing and investment ratios to help explain and understand the basis of contrast and comparison of mentioned ratios. Industry averages will also be used as benchmarks in the comparison of performances of two companies whenever applicable. In addition, this paper will connect the three ratios about liquidity ratios in relation to investment ratio of P/E. 1.1 Brief Company Background and History of WMT WMT is into the business or grocery and related retailing using three segments include retailing, financial services and property investments. 1The company opened its first store in 1962 at Rogers, Arkansas; the rest of the decade saw the expansion of the company by opening of other new stores as incorporation of the family business as Wal-Mart Stores, Inc. materialized.2 From 1971 to 1979, the following events happened: incredible growth the WMT by going national, becoming a public trade company with its stock sold at stock market from the basic philosophy of selling at lowest price any time anywhere, introduction of Walmart cheer and establishment of Walmart Foundation. 3 From 1980s to 1990s several miles stones were accomplished: putting up of first Sam Warehouse Clubs, employing about 300 stores and more than 20,000 associates, replacement of cash registers with computerized point-of-sale systems, naming David Glass as CEO was name during this period, start of international business, celebration of $1 billion sales per week in 1993, opening of stores in China, and acquiring ASDA in the United Kingdom.4 From 2000 to present, continued growths were experienced, customers seamless shopping experience was offered to customers are online or on their mobile devices, and attaining the top slot of Fortune 500 ranking America’s largest companies in 2002 happened. In 2010, India was entered as new market. For almost more than fifty years, it now has more than 200 million customers who are part of company’s target to live better. Doing this while employing not less than 2 million associates in more than 10,000 stores in more than 20 countries must be something significant to note for the company. 5 1.2 Brief Company Background and history of Office Depot Office Depot Inc. (or “Office Depot”), was founded in 1986 or about 22 years, after the first store of WMT by late Patrick Sher, Stephen Dougherty and Jack Kopkin. The founders were formerly associated with a home improvement company -- Home-owners Warehouse, thus making them familiar with the business of the retail industry. The vision was a warehouse-style store for office products where customer can purchase items in bulk. This made possible the opening of the first store of Office Depot at Lakes Mall in Lauderdale Lakes, Florida in 1986.6 Initial public offering happened in 1988 and expansion to West Coast occurred in 1989. The years 1992 to 1995 saw increased operations in North America, acquisition of Wilson Stationery and Printing Co, international expansion and opening of the 500th store in North America and in Poland.7 From the years 1996 to 1999, the following milestones were recorded: launch of e-commerce website, venturing into Hungary, merger with Viking Office Products, launching of international website and hiring of advertising agency to revitalize US sales.8 From 2001 to 2005, other expansions were recorded including acquisition of 4sure.com, direct mail operations in Switzerland, Spain, Portugal and new retail stores in Central America, acquisition of Guilbert, S.A. 9 From 2006 to 2010, the important events include 20th anniversary celebration, joining US Green Building Council, and opening of first store in Kuwait and purchase of BC Partners. In 2011, international footprint came in Dominical Republic, in 2012 a partnership with Born This Way Foundation began and in 2012, negotiations with the company on merger with equals began10 Office Depot, Inc. is now operating under three business segments today. There are: North American Retail Division (NARD), North American Business Solutions Division (NABSD) and International Division (ID).NARD sells a range of merchandise through its chain of office supply stores throughout the United States. Its NABSD sells nationally branded and its own brand office suppliers, furniture, technology products, and services. The company operates a network of distribution centers (DCs), crossdock, and combination of facilities across the United States. The company owned entities as in the majority or part other venture agreements covering 41 countries and has alliances at least 19 countries. 11 2. Profitability Business organizations do have their missions and purposes to deliver goods and services to their client/customers and in so doing the same, they must generate profits as there is opportunity cost for the resources that put into business. Revenues will come out first from the measured value of goods or services rendered to clients or customers. By so doing the same they also incur expenses or cost of rendering services or delivering goods to customers. Revenues less total expenses would then result to profits. The measurement of revenues and expenses are done by accountants who would have to do their work periodically as they process the documents evidencing the transactions which are financial in character. To expend resources that would become cost would require assets which may either come from shareholders and creditors. The work of accountants will finally find their destination in the financial statements of the companies that are prepared periodically. Although financial statements could be prepared monthly the immediate purpose is basically for management decision making. On a per year basis, financial statements are then prepared to be incorporated in the annual report that are required to be submitted and filed to the Securities and Exchange Commission. 12 This yearly financial report would now be made available for the investing public, the government and other interested users. The financial statements basically include the balance sheet, income statement and cash flow statements. These are normally accompanied by the notes to the financial statements, the purpose of which is to complement the three statements as a way of complying with the requirement to inform users of the financial information about the company. The investors and creditors as well as other interest parties have the right to be informed about the financial condition and situation of the corporation, particularly those who allows the public to own shares as stocks of the companies are listed with the stock exchanges. The income statement is one of the financial statements from which ratios of gross profit ratio and profit margin as the accounts would come the same financial statements. Revenues and cost and expenses as discussed earlier are found in the income statement. The balance sheet will contain assets, liabilities and equity as they would tell the financial condition of the business while the cash flow would tell how cash are sourced and used from the operating, financing and investing activities of the companies. 2.1. What is the companys gross profit ratio? Gross profit ratio is computed by dividing gross profit divided by Total Revenues. Gross profit is Total Revenues less cost of goods sold. The ratio therefore indicates how much net benefit the company realizes from every revenue transaction that it enters into. Between WMT and Office Depot, the former has lower two-year average gross profit ratio at 25% as against 30%. Both companies are also less superior to industry average of 41.05%. Table A- Summary of Financial Ratios for WMT and Office Depot13 2.2 What is the companys profit margin ratio? After deducting the operating expenses from the gross profit and making deductions and adjustments for non-operating expenses and revenues as well as taxes, the company would have the so called net income. Dividing this figure with the total revenues will produce profit margin ratio. This is therefore continuation of gross margin, which measured profitability earlier. Between WMT and Office Depot, the former has lower two-year average profit margin ratio at 3% as against 12%. Only WMT is less superior to industry average of 10.95% as shown in Table A above. 3. Gearing A company may be either profitable or unprofitable. Profitability is evident when the ratio as introduced earlier are positive and they become more convincing for a certain company the its profitability ratios are higher than those of the industry averages. Although a company is profitable, the company would still need to survive. Thus profitability may be true yet a company may still be considered risky. This is just like saying that human life may be happy yet this happiness may only be momentary. In the same way that profitability is measurable so is risk of doing business. One way to measure risk is the use of gearing ratio or solvency ratio. This ratio measures the financial leverage or a company by suggesting the degree of how the company has financed its total assets which may come from shareholder or against creditors.14 As stated early producing revenues could only require companies to basically acquire and manage assets as they engage in producing profits. These assets cannot come alone from shareholders. There must be other sources – the creditors. What distinguishes the first from second though is on the rights that they have on the corporation. Shareholders or owners are the one who will have the power to put managers or directors in the conduct of the business. Creditors do not normally have that power as shareholders as the former’s interest is only to be paid of interest expenses from the use of the resources borrowed by the companies. In effect, as companies need to borrow, for additional investment when stockholders cannot or would not want fully give the same, said creditors must be protected as well. Thus creditors will have to be paid first of their interest expenses before the shareholders can get their dividends. This must be so because interest expenses are mandatory for the company if it has to maintain its credibility to public including the creditors. 15 Companies need to know when to limit its borrowings or debts from creditors by the use of gearing or solvency ratio. This can be accomplished through the debt to equity ratio computed by dividing total liabilities with the total equity of the corporation. Using said ratio, WMT reflected two-year average debt to equity ratio of 1.67 as against Office Depot at 8.6. Both companies are higher or more risky than industry average of 0.926 as reflected in Table A above. 3.1 What is Company’s Times interest-earned? This is another other measure of risk as far as the solvency or gearing of the company is concerned. This is the ratio to measure how many times interest expense given the earnings before interest and taxes by the company. It measures capacity to service interest payment obligations by a company.16 The higher the ratio, the better as it means the company can pay obligations from the results of its operations. Creditors normally use the same to evaluation credit worthiness of the company. Stock investors also consider this ratio, since a company that can meet its interest obligations would be most probably be stable enough in the long-term and therefore could be a gauge of capital structure. 17 Between WMT and Office Depot, the former has higher two-year average times interest earned or interest cover at 11.92 as against 8.6 for the latter. Both companies are less superior to industry average of 69.98 as shown in Table A above. 4. Investment ratios Investment ratios measure the response of the investors to profitability, gearing or solvency and liquidity of the company. One of these ratios is the P/E ratio.18 4.1 What is the P/E ratio meaning? Price-earnings ratio is the relationship of the price per share of the stock as again the earnings per share of the same stock. It is a measure of level of confidence that investors give or assigned to a particular share of a given corporation. The higher the ratio, the higher is the level of confidence of investors. Viewed differently, investors are in effect taking higher risk if its assigns a higher P/E on a certain business entity. Given two companies WMT and Office Depot, both of said companies may be compared on the basis for P/E. As found WMT was found to higher P/E as against that of Office Depot. Investors are however assumed to have a long-term view on the matter of making their investments. As to how investors will respond to prospective investment may consider P/E of the said companies. Between WMT and Office Depot, the former has higher P/E ratio (5-year low) at 13.40 as against 8.02 for the latter. Only WMT is more superior to industry average of 13.08. 5. Conclusion This paper has found less profitability but better risk position of WMT compared to that of Office Depot. However, in terms of wealth maximization strategies, WMT appears to be better than that of Office Depot on the average. WMT’s more superior financial leverage compared with Office Depot was obviously taken positively by investors as the latter are more than willing to assume certain level risk with WMT. WMT has been in the industry longer compared with Office Depot by coming earlier to business for at least two decades. This may also explain the better response of investors by assigned higher P/E ratio as a way of expressing confidence. Works Cited “Annual Report of Office Depot, Inc. for 2013, Form 10-K” Securities and Exchange Commission. Web 20 April 2014 “Annual Report of WMT for 2014, Form 10-K”. Securities and Exchange Commission. Web 20 April 2014 Brigham and Houston. Fundamentals of Financial Management, Concise Edition. Cengage Learning, 2011. Print “Company History”. Wal-mart Stores, Inc. Web 20 April 2014 “Company Profile-Office Depot”. Reuters.com. Web 20 April 2014 “Office Depot, Inc. History”. FundingUniverse.com. n.d. Web. 20 April 2014 “Company Profile-Wal-Mart Stores”. Reuters.com. Web 20 April 2014 “Financial Highlights- Industry Ratios”. Reuters.com. Web 20 April 2014 Higgins. Analysis for Financial Management. Eighth Edition. The McGraw−Hill Companies. 2007. Print Kieso, et al . Intermediate Accounting. John Wiley and Sons. 2007. Print . Read More