Diageo Financial Analysis - Case Study Example

DIAGEO FINANCIAL REPORT ANALYSIS By Student Name Course code + name Professor name University name City, State Date of submission Diageo Financial Report Analysis Section No.1 Company Profile Diageo is considered to be the worlds’ largest drink-manufacturers. The most sought after drinks of the company are alcoholic beverages. The alcoholic beverage market for the company is well-settled in the United States and Western sections of Europe. Until the mid-1990’s, the company focused on expanding into emerging markets of Africa, Asia and Russia. Notably, the company boasts of strong alcoholic brands in the market due to its capacity to conduct successful marketing and innovation procedures. The company is a proud owner of at least 20 top world brands that include Johnnie Walker and Smirnoff. The company also owns the world’s popular beer brand: Guinness while its pile of wine is mainly sold in both North America and United Kingdom (Diageo Company 2012, p.24). Accordingly, the company dictates a market presence in more than 180 markets across the globe. It is mentioned as the leading international spirits producer in the emerging markets of Asia, Latin America and Africa. Currently, the company enjoys about 40% of net sales from the aforementioned emerging markets. The figure is likely going to increase in the near future to double digits. In 2012, the company had employed over 25,698 employees across its global producers (Diageo Company 2012, p.26-30). The company’s most formidable competitors include Pernod Ricard and Brown-Forman whose spirits are also well-recognized across the global markets. In respect to beer, the company faces stiff competition from such companies as SABMiller and Carlsberg (Diageo Company 2012, p.32). Annual Report to be used for the entire Assignment The 2012 annual report will be used for the entire financial analysis. It is important to mention that this financial report covers two financial periods. These periods are both 2012 and 2011 financial years. Section No. 2: Ratio Analysis Liquidity Ratios The current ratio stands at 1.52:1 in 2012. This is an indication that the firm has more assets per each liability held. Thus, it is possible for the company to meet its short-term obligations (Diageo Company 2012, p.120). The quick ratio for the firm is placed at 0.69 in 2012. This is an indication that the firm is ready to meet its short-term obligations without having to sale any of its inventories (Diageo Company 2012, p.120). Profitability Ratios The gross profit margin percentage ratio stands at 45% in 2012. This is an indication that the company is able to make huge sales-volume that can be used to meet its expenses while yielding profits at the same time (Diageo Company 2012, p.118). The net profit margin percentage ratio is placed at 14% in 2012. This ratio is perceived as being favorable as compared to industry average. Thus, the company is able to make huge after-tax revenues for each amount of money spent (Diageo Company 2012, p.118). The earnings per share for the company are placed at 1.06 in 2012. This means that the company is able to provide sufficient earnings for owners of common stock (Diageo Company 2012, p.118). Efficiency Ratios: The asset turnover ratio stands at 0.63 in 2012(Diageo Company 2012, p.120). This is a favorable ratio in comparison to the industry average. Thus, it means that the company is able to generate sufficient amount of business activities in respect to its fundamental asset-investment base. Inventory turnover ratio stands at 2.72X in 2012(Diageo Company 2012, p.118-120). This is an indication that the company is selling its pile of inventories at a faster pace in comparison to the industry average. Thus, there is no possibility for stocks piling-up. Times-debtors turnover ratio stands at 5 days in 2012 Diageo Company 2012, p.118-120). The ratio indicates that the company utilizes sufficient amount of time to collect revenues for goods sold on credit. Gearing Ratios Debt-to-equity ratio stands at 2.28 in 2012 Diageo Company 2012, p.120). This is an indication that the company’s equity structure is made-up of immense creditors as opposed to real owners. Debt ratio stands at 0.67 in 2012 Diageo Company 2012, p.120). This is an indication that for every 1 asset held there is only 0.67 worth of liabilities that the company is obligated to part with. This is a healthy condition for the firm. Solvency Ratios; The return on equity stands at 0.3 in 2012 Diageo Company 2012, p.120). This is an indication that the company is able to translate sales into profits by utilizing a significant amount of stockholder’s equity. The return on assets ratio stands at 0.09in 2012 Diageo Company 2012, p.120). This is an indication that the firm has embarked on utilizing a significant amount of assets in order to post profits. This can also mean that the prices for offered products are lowly-placed hence huge sales but little revenue. Section No. 3 Merits and Demerits of Using Profit/Loss as a Performance Measurement Tool For Diageo, the percentage increase in profits/Loss is calculated as below: Profits in 2011 = £2,017M For 2012, = £ 2,072 Therefore, the percentage increase, (2,072-2,017/2,017)*100%, +2.73% Diageo Company 2012, p.118) Merits First, the profit/loss statement provides a formidable platform upon which the future forecasting of businesses can be conducted. Managers and analysts use the profits/loss statement of a company in order to establish probable future trends. Thus, in case of potential challenges they are dealt with before they cause immense damage to the business. Second, profits/loss statements are depicted as having a clear portrayal of business performance. Increased profits indicate that the business is performing well and that it is able cover for its immediate business expenses. Profits/loss values can also be used to make distinctive comparisons between two accounting periods. Demerits First, the use of profit/loss values as a tool for measuring the performance of a firm does not depict a complete picture of the business (Kirkham 2012). There is the risk of managers and analysts using the profits/losses as the entire referencing for health of a business. Although it constitutes one of the items to analyze whenever evaluating performance, there are also other items as cash flows and ratios of assets and liabilities. Second, when profit/loss amounts are reported more often there is the risk that the analysts might limit performance to a small data sample. This, in turn, is likely to portray a negative picture of the company. Merits and Demerits of Using Changes in Cash as a Performance Measurement Tool Percentage Increase/decrease of Cash: For 2011 = £ 1,584 For 2012 = 1,076 Therefore, percentage change = (1,076-1,586/1,586)*100%, -32.15% Diageo Company 2012, p.122) Merits First, the use of percentage change in cash and cash equivalents involves a simple and understandable process (Kirkham 2012). This means that the methodology involves simple computations that are comprehended and evaluated easily. Second, cash and cash equivalents are one of the techniques used in measuring performance. Thus, it means that the analysis is conducted on a right path. Demerits The use of cash and cash equivalents as a tool of measuring performance is vague and unrealistic in nature. This is because an increase in cash does not necessarily mean increased revenue. It might mean more debt being held as liquid cash at any given time. On the other hand, a decrease in cash does not necessarily mean that the business is going bankrupt given the assumption that the assets might be intact and functional. Decreased cash might also mean that the company prefers holding their monies in banks or as inventories. On that note, cash does not provide a clear picture of the business performance. Cash Flow Statement Analysis The company’s net cash flows reduce from £ 1,572M in 2011 to £1,038 in 2012. This reduction in the cash flows might mean that there was a significant change in the way sales were made that year. However, it is important to mention that the cash flows depict a positive value that means that company’s is receiving more money than for what it spends to pay operational costs. A significant reduction is being witnessed in the net cash flows from investing activities. The value spent on investment projects increases from only £ 434M in 2011 to £ 1,815M in 2012 Diageo Company 2012, p.122). This might be taken to mean that the company has embarked on spending cash to develop and sale products in newer alcoholic beverage markets. The cash flow from operating activities remains pretty much the same over the two accounting periods. In 2011 the net cash flows from operating activities stands at £ 2,183 and reduces insignificantly to £ 2,093 in 2012 Diageo Company 2012, p.122). This is an indication that the company has ensued policies that are reflected towards investment growth and development rather than increasing its operational activities. For Diageo Company, the cash flows indicate a positive and favorable liquidity position. This is indicated by the positive cash inflows over the outflows thereby indicating that the company is able to meet to pay its short-term financial obligations. Section No.5 Personally, I will assume the shareholder’s view point. First, in respect to profitability, the firm is doing pretty well. This is depicted by the positive profitability ratios in comparison to the industry averages. For instance, the gross profit margin percentage ratio stands at 45% in 2012 meaning that the company is able to make huge sales-volume that can be used to meet its expenses while yielding profits for shareholders at the same time. This is a motivating facet to both potential shareholders and existing ones given that there are higher chances of receiving dividends at the end of each financial year. Additionally, the earnings per share for the company are placed at 1.06 in 2012 meaning that the company is able to provide sufficient earnings for owners of common stock. Thus shareholders are certain that their contributed equities will be used efficiently to raise revenue rather than being used to pay-off debts. Second, in respect to growth and efficiency of the company’s operations it is safe to indicate that there are chances of breaking down into survival. For instance, the asset turnover ratio stands at 0.63 in 2012 depicting a favorable ratio in comparison to the industry average. Thus, it means that the company is able to generate sufficient amount of business activities in respect to its fundamental asset-investment base. As shareholders, this guarantee is positive and motivating as there will be minimal or no wastage of company’s asset-base. It should be noted that the contributed shareholder’s equities are used for purposes of purchasing assets for the company. Therefore, it will be unfair if the money spent is not utilized for the purpose that it was initially meant for. Additionally, the inventory turnover ratio stands at 2.72X in 2012 meaning that the company is selling its pile of inventories at a faster pace in comparison to the industry average. Thus, there is no possibility for stocks piling-up. This is a good facet to perceive as a shareholder since the faster the amount of inventories is translated to sales means that profit margin is increasing. Increased profit margins guarantee dividends for shareholders. Notably, the statutory requirement of mentioning the different asset-bases and the methodology used in calculating them are properly identified within the annual report. For instance, revenue recognition for the company is affected whenever sales revenue is made and transfer of ownership completed in that matter. Recommendations and Conclusion Therefore, I recommend that the company is conducting business on a healthy platform and it is safe to put investments with the company. Reference List Diageo Company. 2012. 2012 annual report. Retrieved from Company’s Website Kirkham, R.2012. Liquidity analysis using cash flow ratios and traditional ratios: the Telecommunication sector in Australia. Journal of New Business Ideas and Trends, 10(1):1-13 Read More