Financial Analysis for Primark Stores Ltd - Case Study Example

FINANCIAL ANALYSIS FOR PRIMARK STORES LTD and Table of contents Table of contents 2 1 Current business and financial situation of Primark 3 1.2 Analysis for Marks & Spencer P.L.C., Matalan Retail Ltd, New Look Retailers Ltd 3 1.3 Financial strengths and weaknesses of Primark compared to listed competitors 5 1.5 Conclusion and summary of findings of Primark financial ranking within its sector on the London Stock Exchange 13 1.6 A forecast of the companys 2014 profit after tax with analysis and arguments to support the assumptions made. 14 1.7 Factors in that may impact the valuation 15 1.8 Finance techniques applied in the analysis 15 1.9 Recommendations for a basic corporate governance structure, suitable for Primark following the IPO 16 References 16 American Management Association, (n.d). Financial Decision Making and the Techniques Used in Financial analysis. 16 www.flexstudy.com/catalog/schpdf.cfm?coursenum=96088 16 Sky News, (2014, November). Primark Posts Magnificent 30% Profit Rise. http://news.sky.com/story/1366366/primark-posts-magnificent-30-percent-profit- rise. Retrieved on January 4, 2015 19 Appendices 19 1.1 Current business and financial situation of Primark Primark Stores Ltd is a retail business group that specializes in a range of clothing that includes womenswear, Lingerie, childrenswear, menswear, footwear, accessories, hosiery and hornware (ABF Annual report and accounts 2013, p. 5). It is part of the greater Associated British Foods (ABF) which operates diversified business activities in more than 100 countries worldwide. About half of the operations of the ABF activities are in Europe, Southern Africa, the Americas, Asia and Australia (ABF Annual report and accounts 2013, p. 4). Primark Stores Ltd has stores in UK, Republic of Ireland, Spain, Portugal, Germany, the Netherlands, Belgium, and Austria which form the largest selling space. The corporation is known for its quality clothing wear which many customers refer to as up-to-minute fashion at value-for-money prices for the customer choice and taste. The employees buy the materials and manufacture them according to each seasons fashion trends. It has over 48,000 employees who make the corporations activities efficient and flow smoothly (ABF Annual report and accounts 2013, p. 5). In the corporations report of the year ending September 2014, its Chairman reported that there was a "magnificent" performance in sales. The growth accounted for 30% profits which translated to 662 million Sterling Pounds (Sky News 2014, par.1). The report recorded annual growth in sales in the stores operating in its nine countries. There was 17% increase in sales over the sales witnessed in 2013 which was associated with an increase in retail selling space and the addition of new retail stores (Sky News 2014, par.4). The corporation took advantage of the Christmas holidays in 2013 and the strategic supply of clothing sales that targeted autumn/winter season as well as the spring/summer seasons. Although there was a setback on the corporations profits in the year 2013, after the collapse of the Rana Plaza factory in Bangladesh, the corporation has made strides in recovery from this disaster. As a result, the Corporation has set aside total 7.5m Sterling pounds to compensate the staff who died or were hurt in the disaster or their relatives. In addition, the corporation has embarked on structural assessment of all the supplier factories with a view to improving them. 1.2 Analysis for Marks & Spencer P.L.C., Matalan Retail Ltd, New Look Retailers Ltd There are many listed companies which are close competitors of the Primark Stores Ltd that rival in the clothing wear business, but the performance of three will be compared with performance of Primark. Among the three discussed retailers, Marks and Spencer (M&S) is the main competitor in terms of growth and expansion (ABF Annual report and accounts 2013, p. 5). The M& S utilizes online marketing strategy which has worked to the retailers advantage over many other retailers of its caliber that has kept it in the market. Although it struggled to beat other retailers such as John Lewis shopping chain that emerged as the UKs best high-street website. However, in 2013 the M & S website hosted 50% of the Republic of Ireland online trade that fronted a great challenge to other clothing retailers including Primark Stores Ltd (ABF Annual report and accounts 2013, p. 5). The year ending March in 2013, the retailers turnover was 10,309.70 million Sterling Pounds while the Primarks turnover by the year ending September 2014 was 2583.52 million Sterling Pounds. The balance sheet of the Primark Stores Ltd on 2014 September showed a net worth of the corporations assets and liabilities of 287.34 million Sterling Pounds. On the other hand, the Marks and Spencer had a net worth of 4384 million Sterling Pounds by March 2014. Comparatively, the Marks and Spencer P.l.c was a bigger retailer to Primark in terms of size and investment. The comparison ratio remains true for the number of employees and also the operating profit. However, Primark Stores Ltd has a higher percentage of the operating profit 9.6% as compared to the Marks and Spencer 7.5% that has been on the decline since the year 2010. The two retailers have broad marketing networks that spread worldwide forming chains of clothing stores. Matalan Retail Ltd is another competitor that is growing very fast in the clothing business with a years turnover of 1,122.90 million Sterling Pounds and 15,995 employees. Although both the Matalan Retail Ltd and Primark Stores Ltd are under small class retailers, Primark is larger and has a higher operating profit than Matalan, which is 5%. Primark is also bigger in terms of the net worth of its assets and liabilities than Matalan Retail Ltd whose net worth is 243.4 million Sterling Pounds. In addition, evaluation of its pretax profit and the operating profit over the last four years shows it has been on the decline. However, it engages in retail sales of clothing in specialized stores as the Primark; hence it actively competes in the market. New look retailers Ltd are the third retail company that is involved in retail sales of clothing with a turnover of 1,273.81million Sterling pounds and a net worth of its assets and liabilities of 255.991 million Sterling Pounds. New Look Retailers is a smaller retailer in size and investment as compared to Primark Stores Ltd. It boasts of 16,543 employees, a number that is almost half of the number of employees in Primark Stores Ltd. However, the ratio of the operating profit to the total turnover is relatively high at 9.1%. The rate is very close to that of Primark, although it is slightly lower, an indicator that it has effective sales strategies. However, this trend is not consistent over the years since it has fluctuated from low to high and back for the last four years. 1.3 Financial strengths and weaknesses of Primark compared to listed competitors Primark brand in retail sales has attained value in terms of space and quality which has drawn customers in the corporations favor (ABF Plc SWOT Analysis 2014, p.4). The ability to sustain quality products and expanding retail space has given the company an edge over its competitors. In the Autumn/winter and spring/summer seasons, the retailer sold all the products at minimum discount. It is an indicator of value and quality appreciation by the customer (ABF Plc SWOT Analysis 2014, p.5). In addition, the retailer expands in number of stores every year and opens new stores in new regions, hence increasing customer base. For instance, the company opened 16 new stores in the year 2013 in Austria, Vienna, and Innsbruck, which included its second store in London. The existing stores in Manchester, Newcastle, Chester, and Mary Street Dublin were refurbished giving the stores a new look in order to woo the customers (ABF Plc SWOT Analysis 2014, p.5). As at the end of 2013, the retailer was operating 257 stores in major cities of Europe and expanded further to open its first store in France. The increase in selling space of the company in major cities has largely contributed to wider customer base and increased sales. As a result, the companys operating profits have consistently risen over the last four years. Primark Stores depends on the UK and European market where it generates 40% of its total revenues. Most of the major stores are concentrated in this region (ABF Annual report and accounts 2013, p. 4.) As a result, it is likely to suffer from the macroeconomic conditions that affect the region such as unemployment rates and the demand dynamics specific to the region (ABF Plc SWOT Analysis 2014, p.6). For instance, high unemployment rates could affect consumer spending thus lowering the companys profits. Unemployment rate in UK stands at 6.9% as at December 2013 according to the office of national statistics in UK (ABF Plc SWOT Analysis 2014, p.6). Primark can take advantage of the growing e-commerce market in UK and other regions of its operation to increase the customer base. Although it has already engaged the UK-based e-retailer ASOS to establish an online market, this can be replicated in other stores especially in Europe (ABF Plc SWOT Analysis 2014, p.7). The UK online retail sector has grown tremendously in the past few years and has shown increased internet retail sales, and hence providing convenient shopping for customers. For instance, the internet sales in UK had grown to 575.2 million Sterling Pounds in April 2013 which rose to 655.2 million Sterling pounds by April 2014(ABF Plc SWOT Analysis 2014, p.7). The increase in online shopping was attributed to desire for convenience, improved delivery, and fulfillment options to the customers expectation. Like many retail companies, Primark Stores Ltd is threatened by the intense competition in the clothing market. There are many competitors some of who have larger financial resources in comparison, and hence they have a competitive advantage over Primark. For instance, companies such as Marks and Spencer P.L.C, Tesco and others can invest in production, marketing, and expanding through buying off existing businesses (ABF Plc SWOT Analysis 2014, p.8). Hence, price wars may ensue which may influence the market share each company gets. Moreover, having many stores in UK and US has exposed the Primarks retail business to the effects of high labor costs (Jensen 1993, p.832). Increased overtime, minimum wages due to tight labor market, and government policies are a painful reality to investors in both UK and US. The minimum wage in UK in October 2013 was 6.31 Sterling pounds per hour while, in the US the least paid minimum wage was $7.9 in 2014 which reduces the operating profit of the company. 1.4 Recommendation of a suitable price range for the shares of Primark to be used in the IPO The Primark Company has small capital investment which is evident from its total turnover of 2583.52 million Sterling Pounds. It is compared to some of its competitors such as Marks and Spencer that has a total turnover of 10,309.70 million Sterling Pounds. Therefore, there is need to expand its capital investment in order to raise the total turnover, hence increase in volume in profit after tax and the companys operating profit (Basu & Meltzer 2012, p.860). As a financial analyst, I suggest that they engage in an Initial Public Offer, which may help in raising capital since the retailer has a potential to expand. The company is a listed and hence the management needs to find the optimally best buyer out of the pool many identified buyers. For such an arrangement in listed companies, there is search cost involved which makes it more expensive (Malkiel, 2003, p.59). Therefore, the share price goes up so as to share the cost with the buyer (Boot, Gopalan, & Thakor 2008, p.2023). According to the signaling theory, high quality firms underprice the issue price of the shares since they target to entice the buyers for future offerings (Hassing & Nørgaard 2014, p.65). In such a case the company is aware of its continuous need to raise external capital funds also known as the issue equity (Francis, Hasan, Lothian & Sun 2010, p.82). As a result, the retailer who is the issuer must issue equity multiple times in order to attain maximum benefit (Danfeng, Shao-Na, & Xiao-Rong 2013, p.377). Another reason for underpricing the IPO is when a company or retailer is not popular, and hence the underpricing is used to attract the investors who may have ready many to invest (Kim, & Ritter 1999, p.7). Primark Stores Ltd is a popular retailer in London and an active player in the stock market. Therefore, the IPO price may not need to go too low since there is a high probability that many investors are willing to invest in the IPO (Francis, Hasan, Lothian & Sun 2010, p.84). Although Primark has had positive earnings in the last four years, that may not translate to real trends as required; hence need for new investment decisions (Hassing & Nørgaard 2014, p.1). Pricing Primark’s IPO Comparable firm approach is the valuation method that has been used to get the price for the IPO. It uses market multiples of listed peer firms and accounting data of IPO firm (Hassing & Nørgaard 2014, p.73-74). There are seven Important (Market multiples) ratios and they include; Price/Sales, Price/Book pre-issue, Price/Book post-issue, Price/Earnings, Enterprise Value/Sales, Enterprise Value/ EBITDA, Enterprise Value/EBIT, 1. Price/Sales (P/S): Price divided by Sales. a) New look retailers ==116960 Sterling Pounds P/S= b) Matalan Retailers Price per share= P/S==0.00008460236 c) Marks and Spencer Price per share= P/S= d) Primark Price per share= P/S= 2. Price/Book pre-issue (P/B pre-issue): Price divided by Book-value of Equity. a) New Look Retailers P/B= b) Matalan P/B= c) Marks and Spencer P/B= d) Primarks P/B= 3. Price/Book post-issue (P/B post-issue): Price divided by the sum of Book-value of Equity and Net Proceeds from issue of shares. a) New look Retail P/Bafter== b) Matalan P/Bafter= c) Marks and Spencer P/Bafter= d) Primarks P/Bafter= 4. Price/Earnings (P/E): Price divided by Earnings a) New look Retailers P/E= b) Matalan P/E= c) Marks and Spencer P/E= d) Primarks P/E==2 5. Enterprise Value/Sales (EV/S): Enterprise Value divided by Sales. a) New Look Retail EV=Price + Net debt (Total debt-Total cash) =116960+(17,600,000-81,090,000)=-63,373,040 EV/S= b) Matalan EV=9500+ (7300,000-76400,000)=-59600 EV/S= c) Marks and Spencer EV=0.33863283 + (180700,000-182100,000)=-1399.6613 EV/S= d) Primarks EV=3.5672 + (7,233,842-419,570,000)=-412,336,158 EV/S= 6. Enterprise Value/ Earnings Before Interest and Tax (EV/EBIT): Enterprise Value divided by Earnings Before Interest and Tax. a) New Look Retail EV/EBIT = b) Matalan Retail EV/EBIT = c) Marks and Spencer EV/EBIT = d) Primarks EV/EBIT = 7. Enterprise Value/ Earnings Before Interest, Tax, Depreciation and Amortization (EV/EBITDA): Enterprise Value divided by Earnings Before Interest, Tax, Depreciation and Amortization. a) New Look Retail EV/EBITDA = b) Matalan Retail EV/EBITDA= c) Marks and Spencer EV/EBITDA= d) Primark EV/EBITDA= Premium/discount= 1.5 Conclusion and summary of findings of Primark financial ranking within its sector on the London Stock Exchange The Primark Stores Ltd being classified as a small company may not be among the very top performing companies due to its low volume in stock performance. However, due to the consistent positive performance in the last 12 months, it has registered considerable profits worth competitive advantage in the stock market. The operating profit increased from 89.68 million Sterling Pounds in 2010 to 248 million Sterling Pounds in 2013. Similarly, the Profit After Tax increased consistently from 29.8 million Sterling pounds to 178.36 million Sterling Pounds. The growth rate is relatively consistent in comparison to the competitor companies such as the Marks and Spencer, Matalan Retail Ltd, and The New Look Retail Ltd. The Profit after Tax of these companies has rated either low and declining or fluctuating. It can be ranked as one of the fast growing stock exchange player and at the top of its group (Cen, Hilary & Wei 2013, p.48). Its financial stability has helped in surviving the mild fluctuation that has hit businesses in the last few years. Although it is not a major beneficiary of the interest rates and has relatively small volume in the stock exchange, it has withstood tough economic times to have an impact in the London Stock Exchange. 1.6 A forecast of the companys 2014 profit after tax with analysis and arguments to support the assumptions made. The Retailers Profit after Tax has consistently increased from the year 2010 at 29.8 million Sterling pounds to 178.36 million Sterling in the year ending 2013. The expansion of the retailers selling space has been attributed to the consistent increase in profit after tax. The retailer has continued to expand in the period beyond the financial year 2013, and greater profits are expected in the year ending 2014(ABF Plc SWOT Analysis 2014, p.6). The assumptions that the same strategies used in the companys management in the last three years will continue to favor the company is not farfetched. The retailer firm which is part of the ABF group of businesses wholly runs its stores y using locally based management. The managers operate from the local stores thus maximizing on eliminating undesirable factors that may drag the clothing business. In addition, the company experiences both the internal and external competition for which it needs to strategize in order to cope. The larger ABF consists of other companies that compare their income with Primark Stores Ltd, hence the pressure to outperform each other. On the hand, the company has to remain relevant in the market, to earn profit, hence need to formulate strategies that enable it to remain afloat in business. The concentration of the company stores in major cities that provide stable customer response has favored Primarks as a retailer; hence increased sales are anticipated in the year 2014. The current entrance into the French market is expected to boost its sales in the 2014 even beyond the Analyst’s forecast. There is a high likelihood that the profit after tax in the year 2014 may be over 250 million Sterling Pounds. Moreover, the wide customer base has gained confidence in the Primarks clothing products, and the retailer does not have to worry about prices anymore. Even at relatively higher retail prices, the products sellout from the stores before the end of the season as was the case in 2013. 1.7 Factors in that may impact the valuation The valuation of a company may be determined by the purpose of the business(Sky News 2014, par.6). For instance, the Primark Stores is a trading business and also investment-oriented which increases its value. In addition, the stability of the retailer makes a company highly valued both in the stock market and the investors. The companys tangible assets that it owns determine its value too such as freehold properties and buildings. A more established and old business has more value and credibility that earns trust from the customers (Amortization Of Intangibles 1968, p.859). A retail company like Primark that has earned profits consistently over three years has a high valuation for any buyers. 1.8 Finance techniques applied in the analysis The finance technique applied in any financial analysis depends on the type of decision that needs to be made. The technique used when making an investment decision is different from the technique used when making a financing decision or the decision concerning dividend (Fama 1970, p.383). However, some financial problems and decisions may require more than one financial analysis technique (American Management Association n.d, p.8). The importance of an analytical technique is to help its users to make informed decisions concerning the financial situation in the company (Konchitchki, Yaniv & Patatoukas 2014, p.670). Primark Stores financial analysis involved techniques help in making investment decisions. Investment decisions are very important for the retailer company because it requires increasing the amount of cash flow for selling space expansion. The investment capital proposals are taken through risk analysis before making any investment decision, to ensure the risk involved is within manageable levels by the company. A cost of capital analysis was also very crucial for the Primark Stores Ltd in order to determine the correct discount rate. It was to be used in balancing the cost of capital and customer price (Techniques for Financial Analysis, n.d, p.9-10). In order to complete the cost analysis, the company needed a cash flow analysis to find out whether the net cash flow from the newly established stores recorded profit. In addition, sales analysis was required to predict future sales from the investment (American Management Association n.d, p.9). The retailer company has been in the process of acquisition of new stores, and hence financial ratios such as price/earnings ratio, and exchange ratio could not be ignored. "Forecasting the Companys performance, utilizes the levels of Forecast Earnings per Share (FEPS) of its competitors"(Cen, Hilary & Wei 2013, p.48). When the FEPS of a company is higher than that of its competitors, the financial analysts tend forecast lower than it should possibly be like (Easterwood & Stacey 1999, p.1777). The phenomenon poses as a limitation to this method of analysis (Bulkley & Renata 2005, p.605). It is also known as the financial analysts ‘anchoring bias since the analyst avoids moving away from the normal range (Zarowin 1989, p. 1386; Dedman 2004, p.38). 1.9 Recommendations for a basic corporate governance structure, suitable for Primark following the IPO The adjustment ability of a company after the IPO is largely determined by the corporate governance between the external directors and the internal directors (Chancharat, Krishnamurti & Tian 2012, p. 144). There is a widespread view that the chief executive should be given independence to make decisions with minimal interference from the external directors. Due to the rapid expansion in the number of stores, the company may need two more directors to have seven in order to match the added responsibilities. Corporate governance scholars advocate few external directors and more internal directors since the internal directors are close enough to monitor the business activities and provide advice on time (Chancharat, Krishnamurti & Tian 2012, p.145). Similarly, this strategy may be a the direction to take for Primark Stores, where the external directors are few, but also a lean board of directors all together to ensure that there are effectiveness and coordination. References ABF Plc Annual Report and Accounts, (2013). The elements of success. www.abf.co.uk/.../2013/2013_abf_annual_repor... American Management Association, (n.d). Financial Decision Making and the Techniques Used in Financial analysis. www.flexstudy.com/catalog/schpdf.cfm?coursenum=96088 Amortization Of Intangibles, (1968). An Examination Of The Tax Treatment Of Purchased Goodwill. Harvard Law Review ,81.4, 859. Academic Search Premier. Web. 2 Jan. 2015. Associated British Foods plc SWOT Analysis, (2014). 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Web. 2 Jan. 2015 Appendices I Turnover and Pretax Profit Chart v Margin for New look Retailers Ltd II Turnover and Pretax Profit Chart v Margin for Marks and Spencer P.L.C III Turnover and Pretax Profit Chart v Margin for Matalan Retail Ltd Read More