Financial Management: Tesco Plc - Case Study Example

Financial Management: Tesco PLC Financial Management: Tesco PLC Types of Investment Investment decisions mean to spend on capital assets in order to yield a higher return for the company a particular period (De-Almeida & William, 2014). There are various types of invested that are done in order to attain higher value, income and improve cash flow projections of the company. In terms of Vodafone, there are types of investments are as follow: Stock Stock investments refer to purchase stocks of local or international firm. Stock investments are one of the best opportunities to improve returns of the company but are risky. Cash Investments in the cash or cash equivalents are symbolized as cash investments that are short-term investments. The investments in the cash have higher liquidity as compared to stock but have lower growth but lowest risks (De-Almeida & William, 2014). Cash investments are either done in terms of buying foreign currency or certification of deposits and money market funds. Bonds Bond is the fixed income securities offered by the government or organization. Purchasing a bond means to lend the money to the organization or government on which those institutions agreed to give you a certain amount of interest within a certain period (De-Almeida & William, 2014). Bonds are relatively safe investments; it is because the investments in bonds are virtually guaranteed as they have little risk and potential returns. However, the returns on the bond are relatively low than Stock securities. Source of Finance The organization requires finance to meet its day-to-day operations and obligations. The financing needs of the organization vary with the organization structure and size (Margaritis & Psillaki, 2010). The trade-off theory of capital structure defines that the organizations make choices to finance its activities determining the balance between its costs and benefits (Margaritis & Psillaki, 2010). There are two different sources of financing for the organization, that is, debt financing and equity financing. Equity Financing Margaritas & Psillaki (2011) defines equity financing as “means exchanging a portion of the ownership of the business for a financial investment” (Margaritis & Psillaki, 2010). In other words, the organization sells its shares in the stock market that are purchased by the public and organizations to raise capital for its operations. The sources of equity financing for the organization are: Venture Capital The venture capital refers to fund acquired by investing of the individual or organization in the business. However, the firms involved in the venture capital do not participate in the investment until the organization has a significant amount of equity investments from the founders. However, the venture investors have direct involvement in the activities of the business. Equity offering The organization floats its stock in the market that is bought by the public or organization. It mainly involves selling of common stock, ordinary stock and preferred stock. The offering of the equities is dependent on organization structure and past performance of the organization. Initial Public Offerings (IPOs) Initial Public offering can be identified as a public offering in which the stocks of the company are sold to the larger financial institution. In order to offer IPOs, the organization is required to have high profitability and a strong background. Debt Financing Debt financing refers to the raising capital by borrowing funds from the creditors and financial institution for a certain period that has to be paid back with a certain amount of interest. The organization acquires short-term debt and long-term debts depending on the purpose. Mainly, the short-term debts are raised to meet short-term obligations, and long-term debts are acquired to acquire to finance assets. Bank and Commercial Financial institutions Banks and other commercial lenders are the main sources for the financing of business activities. They mainly approve the debt reviewing credit rating, past performance and projected cash flows of the organization. Bonds The organizations offer bonds to raise capital in order to finance its activities. The bonds differ from the other financial instruments, as the organization specifies a certain amount of interest rate it would pay back to the bond- holder at maturity date. The trade-off theory explains that the organizations should be partly financed by the debt and partly with equity (Margaritis & Psillaki, 2010). The organizations that are financed with the debt have advantages to reducing the taxes but at the same time there is a certain cost for the debt (interest) that has to be paid by the organization. In the case if the organization fails to repay the debts it can lead the organization to fall in financial distress and bankruptcy (Fan et al., 2012). Distribution Decision Dividend is the certain amount of payment of a certain amount of firms earning to among its stockholder generated in the same year of previous years (García-Teruel & Martínez-Solano, 2008). The dividend policies vary according to the organization. However, the dividend paid is perceived positive by the firms and investors. The dividend policy of the organization plays an essential role to affect share price and value. Hence, the payment of the dividend should be made on a regular basis to increase the price of market share. Tesco PLC implies Gordon’s Model for its dividend policies. The Gordon Model supports that idea that the dividend should be regularly paid that would significantly impact firm’s share price and value. Hence, the company increases it reserved according to the rate of growth of the firm (Margaritis & Psillaki, 2010). Moreover, the dividends that are paid to the organization should be according to the firm’s earning. If the organization pays dividend higher than the firm’s earning, it can result in risks in the future. Hence, it is essential for an organization to ensure that the reserves and dividend should be paid according to the capital gains of the organization. It is reflected from the dividend policy of Tesco PLC that the organization ensures that the payment of the dividends has been made regularly that has significantly affected share price and value of the organization (García-Teruel & Martínez-Solano, 2008). On the contrary, the company has also ensured that the reserves of the company have proportionately improved according to the capital gains of the organization. Answer 2 Excessive Financial Leverage Financial leverage means when the company’s majority of the assets are financed by the debts. When the organizations take a lot of loans and credits from the financial institution to raise capital for its operation, it eventually incurred higher amount of interest expense (De-Almeida & William, 2014). Thus, the firms that have high financial leverage would have higher returns on assets. It will also increase the earning per share of the company but as the company has acquired a higher amount of debt it will also increase interest expense that would eventually decrease the earnings of the company. Hence, the high leverage companies will have higher interest expenses (De-Almeida & William, 2014). In addition, the companies with high financial leverage would put pressure on the company to make payments for the debt mounts. Too much debt increases the risk to default the payments that can cause negative impact on the credit rating and creditability of the firm due to which the company can also fall into bankruptcy and shortfall of the cash collection. The decline in the EPS because of high-interest expense can decline the demand of the stock. In addition, it decreases the potential of the company to issue additional equity (De-Almeida & William, 2014). Answer 3 The information about the investment and financing activities of Tesco PLC is found on the cash flow statement of the organization (Fabozzi & Drake, 2009). Moreover, the financing information about the debts and equity is present on the balance sheet of the organization mainly in the liabilities and shareholder’s equity sections. The information about the dividend policy is presented on the balance sheet and cash flow statement of the organization (De-Almeida & William, 2014). Moreover, the information about the dividend is present in the Group statement of change in equity that tells about the present and historical dividend paid to its customer. The additional information about the investing, financing activities and dividend of the company is obtained from the notes to consolidated financial statements. Answer 4 The financial indicators for Investment, financing and dividend are as follow: Investment For an investment, the Operating Margin and Earning Per Share can be one of the effective indicators to determine the profitability of the company makes decisions. Operating margin allows determining efficiency of the company to generate profit and EPS allows to determine the earning per share of the company and how much profit the company allocates to each outstanding share. Source of Financing Debt to Equity ratio can be used to determine the methods of financing of the company. It tells about the financial leverage of the company and tells about the proportion of equity and debt it requires financing its assets. Dividend Policy Dividend payout and dividend yield ratio can be used to determine the amount of the dividend the company pays. On the other hand, the dividend yield ratio tells about how much dividend the company pays relatively with respect to its market value and share. Answer 5 Investment The financial statement of Tesco PLC (2014) show that Tesco has been inclined to expand its operations in United Kingdom and will continue to invest in the United Kingdom Stores. The major investments of the company have been to improve its stores operations in United Kingdom and China. In addition, the company aims to invest 2.5 billion in the next three years to accelerate the pace of technology used in the stores. In addition, the company is spending more on the stores specifically in Europe and Asia to get higher returns. Moreover, the company has invested in the current accounts as well in the training, development and incentives of the company to improve the performance of its employee. Currently, the company has invested in the talent planning, leadership and succession planning, as well as Pension Plans (that is the in-house investment of the Tesco Group) to address the future needs. The annual report of Tesco PLC also reveals that the company has invested in the transactional currency that would significantly impact the profits of the company. Therefore, the company also has investments in the in international subsidiaries. The company also invested in the Tesco Bank, cash and cash equivalents to improve its cash flow projections. Financing Tesco PLC’s annual report (2014) demonstrates that the in-house Tesco Bank and joint ventures arrange for the major sources of finances of the company (equity financing). Moreover, the company has also acquired certain amount to debts (long-term and short-term) to meet future operational expenses. It can be identified from the information provided in the annual report that the venture capital has been one of the major sources of finance for the year 2014. China Resource Enterprise Limited can be identified as a major source of finance for the company as it adherents 20 percent of the ownership in the Tesco’s operations in China. The reason that Tesco PLC did these investments is because the company’s operations were declining due to which the organization required funds to finance its operations overseas. In order to meet future operating activities of the company Tesco PLC raised fund by acquiring debt and property disposal (Annual report: Tesco PLC, 2014). Tesco PLC mainly emphasized on debt financing and in-house financing of the Tesco bank and members to finance its operations. Tesco PLC acquires 1.4 billion from long-term debt and 0.6 billion from the property disposal (Annual report: Tesco PLC, 2014). However, the dividend for the year was 10.13 per ordinary share, whereas the company had paid a dividend in 2013 was 4.63p (Annual report: Tesco PLC, 2014). Hence, it can be determined that the distribution of dividend was higher (Annual report: Tesco PLC, 2014). Answer 6   2012 2013 2014 Operating Margin 6.2 3.4 4.1 EPS 0.35 0.2 0.12 Debt to Equity 2.85 3.01 3.41 Dividend payout 0.15 0.15 0.15 It can be determined from the financials of the company that the investment in Tesco PLC can be profitable as the company has revived its performance as reflected from the operating profits and earnings per share of the company. Despite the fact, the profits of the company were low in 2012 the company has made initiatives to improves its operation that has significantly impacted the returns. In addition, the leverage measures of the company have improved, as the company has ensured the balance between assets and liabilities. However, the dividend payout of the company remained static but on the basis of performance of the company it is predicted that investment in Tesco PLC’s stock would be profitable. List of References Annual report: Tesco PLC. 2014. London: Tesco. De-Almeida, J.R. & William, E., 2014. access to finance, working capital management and company value: Evidences from Brazilian companies listed on BM&FBOVESPA. Journal of Business Research, 67(5), pp.924-34. Fabozzi, F. & Drake, P.P., 2009. Finance: Capital Markets, Financial Management, and Investment Management. New Jersey: John Wiley and Sons. Fan, J.P., Titman, S. & Twite, G., 2012. An international comparison of capital structure and debt maturity choices. Journal of Financial and Quantitative Analysis, 23, pp.23-43. García-Teruel, P.J. & Martínez-Solano, 2008. Effects of working capital management on SME. International Journal of Managerial Finance, 3, pp.164-77. Gill, A., Biger, N. & Mathur, N., 2010. The relationship between working capital management and profitability: evidence from The United States. Business and Economics Journal, pp.1-9. Margaritis, D. & Psillaki, M., 2010. Capital Structure, equity ownership and firm performance. Journal of Banking and Finance, 34(3), pp.621-32. Read More