Financial Analysis of Bega Cheese Ltd - Case Study Example

Financial Analysis of Bega Cheese Ltd Your name: Institution name: 1.0 Executive Summary Bega Cheese Ltd has continued along a growth path during the period of the previous action plan. The challenge of ensuring the company sustainability and protecting the environment is the responsibility that is a high priority for the company’s management team and it’s predominantly farmer based shareholders. The company has committed its resources to developing a sustainable database for monitoring and reporting packaging metrics. This has form the basis of the company’s packaging analysis and strengthens the company’s performance in relation to the key performance indicators and covenant goals as outlined in the company’s plan. In the past 10 years, Bega Cheese Ltd has invested heavily in automated and robotics processing lines to increase its production and packaging efficiency and capacity. At same time, Bega Cheese Ltd has increased scale through the execution of small number of high volume contracts with major global food companies including Mead Johnson, Kraft, Ingredia1 and Fonterra. Bega Cheese Ltd has a scale advantage over its next biggest competitor in cheese processing and packaging, at the moment the company is running its overall operations at 67 per cent utilization. 2.0 Introduction Bega Cheese Ltd is the largest producer of cheese measured by revenues in Australia. This research report will show how Bega Cheese Ltd makes strategy to create survival development room and success in dairy competition. Bega Cheese Ltd operates six sites in Australia, it primary listing is on the Australia Stock Exchange (ASX). It had a market capitalization of approximately $766 M as of August 2014, making it the largest company in the cheese production industry. The products of Bega Cheese Ltd include Natural cheddar, Cream cheese, processed cheese, Milk proteins and Nutritional powders. Bega Cheese Ltd has a strong balance sheet and the company is well positioned to participate in numerous opportunities that are found in the Australian dairy sector (Morningstar, 2014). The group expects to consider a number corporate and investment opportunities in short to medium term. On the other end, competition for milk supply and adverse weather has driven a 10 per cent drop in milk intake to 336 million liters, but the company revenue rose 5 per cent to $510 million and earnings before interest and tax jumped two per cent to $30 million. The recent decline in the Australian dollar and near-record dairy commodity price underpinned the growth in earnings (Morningstar, 2014). Bega Cheese Ltd business outlook for dairy commodities is positive primarily due to the demand from China for whey powders and whole milk powders. Strong competition amongst existing competitors, new entrants and increased returns from global markets has continued to create a highly competitive market for milk. 3.0 DATA 2012 2013 PROFITABILITY Gross Profit Margin 686.7/1178=58.3% 146.6/1216=12.06% Net Profit Margin 62/1178=5.26% 65/1216=5.35% ROE (16611-14629)/102472*100=1.95% (15491-13925)/101849*100=1.53% ROCE 44/(549.9-287.3) =16.76% 47.2/(548.6-234.2) =15.013% LIQUIDITY Current Ratio 237/150=1.58:1 549.9:287.3=2:1 Acid Test Ratio (549.9-163.0):287.3=1.35:1 (548.6-184.2):234.2=1.6:1 4.0 Ratio Analysis According to the Bega’s accounting policies, the financial report has been prepared in accordance with Australian Accounting Standards Board, which allows management to make estimates and assumptions. Those estimates and assumptions may have the significant risk of causing a material adjustment to the assets and liabilities and exerting the chances for manager to manipulate the financial record. 4.1 Profitability The condition or state of yielding a gain or financial profit, in other words, Profitability is a tool that measures the effectiveness of a company has used its available resources. Profitability is often measured by price to earnings ratio (Weygandt, Kieso, and Kell, 2006). A class of financial metrics has been used to assess a company’s ability to generate earnings to its expenses and other costs incurred by a company during a specific period of time (Kenneth, 2003). For most of these ratios, having a higher value in relation to a competitor’s ratio or the same ratio from a previous financial period is indicative that the company’s operation is doing well. To say that a company had made a million dollar in profit may sound appropriate and very good on the part of the company (Kenneth, 2003). However, in order to measure the success of the company (i.e. how well is the company performance) we need to know how much capital the company has used to make that one million dollar and how does the profit compared to the past years. 4.1.1 Gross Profit Margin (Gross Margin) Gross Profit Margin 686.7/1178=58.3% 146.6/1216=12.06% Gross profit margin is the percentage of ales left after the company has subtracted the production cost of goods or products sold to the customers from the total sales (Weygandt, Kieso, and Kell, 2006). Gross profit margin measures the percentage of sales remaining to pay overhead expenses and provide the company with a profit (Kenneth, 2003). In other words, gross profit for a company is the difference between the value of products being sold to customers and the cost of direct labour, direct materials and overheads expenses incurred in making these products (Woolridge and Gray, 2006). Gross profit margin ratio has been used to gauge Bega Cheese Ltd return on sales when compared with the cost of sales. During these two financial years, the gross profit ratio has decrease from 58.3 per cent to 12.06 per cent, these is a lost in gross profit. The common reason of this drop is less efficient control of expenses, which means an increase in expenses as indicated by the increase in expenses figures. In addition, competition for milk and adverse weather drove drop in milk intake. 4.1.2 Net Profit (Net Margin) Net Profit Margin 62/1178=5.26% 65/1216=5.35% Net profit margin is used to show how much money has been left after direct and overhead expenses have been deducted from the gross profit (Kenneth, 2003). Net profit ratio describes how much company’s operating profit was realized for every dollar of sales. If the company’s net profit margin is low as compared to a high gross profit margin, this will imply that the company selling, administration and distribution departments are not efficient in relation to their controlled expenditures (Kenneth, 2003). This ratio highlights control of costs and management efficiency. In our calculations, there is an increase on net profit margin from 2013 to 2014, which is a good result; especially the decrease of gross profit margin ratio, so it indicates there is efficiency measures that have been put in place over expenses and other overhead costs. This can be confirmed by a comparison with the percentage increase in gross profit. and the increasing proved that Bega’s business is being run efficiently and expenses and overheads are being kept under control. 4.1.3 Return on equity (ROE) ROE (16611-14629)/102472*100=1.95% (15491-13925)/101849*100=1.53% Return on equity (ROE) is a measure of business efficiency as well as profit. A rising return on equity will suggests that the business in increasing its ability to generate more profits without injecting more capital (Kenneth, 2003). ROE also indicates how well the business’s is using the shareholders’ capital. In other words, the higher return on equity the better for the company; but a falling return on equity will present a problem to the shareholders. In our calculation, the return on equity has been seen from reducing from 1.95 per cent in 2012 to 1.53 per cent in 2013. This has been contributed to the value of the shareholders’ equity that has gone up. Thus, reduced share buybacks and write downs have artificially affected the return of equity. 4.1.3 Return on Capital Employed (R.O.C.E) ROCE 44/(549.9-287.3) =16.76% 47.2/(548.6-234.2) =15.013% Return on capital employed (ROCE) is used to measure efficiency of how a company can be able to generate profit from its capital assets employed by comparing capital employed to net operating profits (Kenneth, 2003). In other words, return on capital will show potential investors how many dollars in profits each dollar of capital used generates money (Woolridge and Gray, 2006). This ratio is based on two important calculations: capital employed and operating profit. The earnings before taxes and interest is often called EBIT or net operating profit. EBIT is often found on the company’s income statement because it will help investors to recognize profits that have been generated from operations (Woolridge and Gray, 2006). Return on capital employed is useful when comparing the performance of a business in capital intensive sector such as utilities etc. Return on capital employed considers debt and other expenses as well. This is because it provides a better indication of financial performance for the business with significant debt. ROCE will assist to measure how well or badly Bega has used its capital which is invested in it. ROCE gives a more useful measurement of Bega’s performance than its absolute profit. Our calculation indicates that the data decrease from 16.76 per cent to 15.013 per cent in 2014. which is which is not good return on the Bega shareholders’ investments, when compared to current interest rated for cash investment, this can also be contributed to adverse whether effects which affected the company’s milk intake. For Bega, the Return on capital employed (ROCE) trend over the years is important indicator of company’s performance. In general, potential investors will favor a company that has a rising and stable ROCE numbers over businesses where ROCE is bounces and volatile around from one year to another. 5.0 Liquidity Liquidity ratio is used to measure the capability of a company to meet its short term financial obligation when they fall due (Kenneth, 2003). Liquid ratio is realized by diving cash and other liquid assets by the current liabilities and short term borrowings (Weygandt, Kieso, and Kell, 2006). To a company, liquid ratio will present the number of times the short debt obligations is covered by the liquid assets and cash. If the value of liquid ratio is greater than one, it means the company can fully meet it short term obligations, and the company is less likely to fall into financial problems (Woolridge and Gray, 2006). In general terms, the higher the liquidity ratios are, the higher margin of safety that the company is able to meet its current liabilities. 5.1 Current Ratio Current Ratio 237/150=1.58:1 549.9:287.3=2:1 Current ratio is used to measure the liquidity of a company at a certain period. The current ratio should be analyzed over a period of time (Kenneth, 2003). The increase in current ratio may suggest improved liquidity of the business or there is a conservative approach to working capital management. While a decrease current ratio will suggest a deteriorating liquidity position of the company or there is a learner working capital cycle of the business through adoption of efficient business management practices. Generally, business that have current ratio of one should ensure that the value of their current assets cover the amount of their short term obligations (Woolridge and Gray, 2006). On the other hand, a company with a current ratio of greater than one gives the company an additional cushion against unforeseeable contingencies that may arise in the short term. In our calculation, the current ratio for the two financial years indicates the company’s ability to meet its short-term obligations without having to resort to borrowing from the external market. Statistics indicates that there is a small increase in current ration from 2012 to 2013, which is a good result. It means Beta Cheese Ltd improved its ability which meets short-term financial obligations. 5.2 Acid Test Ratio Acid Test Ratio (549.9-163.0):287.3=1.35:1 (548.6-184.2):234.2=1.6:1 Acid test ratio is also known as quick ratio (Woolridge and Gray, 2006). This ratio is used to measure position of the company and its short term liquidity. If the acid test ratio is less than one, then it can be said the company being analyzed by this ratio is not stable and the company may have problem paying off their debts in the short term (Kenneth, 2003). In order for a company to clear its short term debts, it will need to sell some of its assets. But such an option may affect the overall position of the business because if the company has in its possession little assets. “The advantage of acid-test ratio is that it helps the company in understanding the end results very feasibly” (Woolridge and Gray, 2006). From the calculation, acid test ratio indicates the company’s ability to meet its short-term obligations without the company having to resort to borrowing. Statistics indicates that there is a small increase in current ratio from 2012 to 2013, which is a good result. It means Bega Cheese Ltd improved its ability which meets short-term obligations. 6.0 Analysis of other information from Annual Report 6.1 Expenses to Turnover Expenses to Sales (2738+4771+44+1109)/41017=21.12% (2981+5328+114+10+56)/44472=19.09% This measure is used to gauge the company’s ability to control expenses in comparison to the turnover of the business. Our calculation indicates that a decrease in percentage of Bega at 2013, it is a good result for Bega. Experts concluded therefore that the business was run more efficiently on a day-to-day basis in year 2 than it was in year 1, and the increasing means that Bega get the better its performance over cost control. 6.2 Creditors Turnover Creditors Payment Period 9624×365/25842=135.93days 1163×365/29439=138.40days This ratio measures the average length of time it takes for the company to pay its suppliers. This ratio can highlight cash flow difficulties. The period of credit taken did increase from 136 days in 2012 to 138 days in 2013. Such prompt payment may lead to problems, Bega need be aware that it could run the risk of losing its regular suppliers if it starts to take too long to pay its debts. 6.3 Fixed Asset Turnover Fixed Asset Turnover 41017/139670=0.29 times 44472/142766=0.331 times This ratio shows how efficiently the company’s fixed assets are being used to generate sales. Bega’s fixed assets are being used to generate sales more times in 2013, in general the higher the figure the better here, but having old, low value assets can distort the ratio sometimes. 6.4 Gearing Ratio Capital Gearing (25+6181)/(25+6181+22+8036)=43.51% (227+4217)/(227+4217+70+7810)=36.06% The capital gearing ratio is used to measure the level of borrowed capital, i.e. debentures and long term loans, to total capital. a company will tend to mix the type of capital they raise preferring to opt for the least expensive capital. However, a company cannot continually issue debentures since the more they hold these debentures the greater the risk that the company’s profit not be enough to service the loan interest repayment. Since the interest rate is fixed according to the amount of risk taken this will lead to high interest rates being fixed. The more highly geared a company is ,i.e. the higher the ratio of fixed interest capital to total capital, then the greater the risk that it will fail to service its interest chargers and creditors will foreclose. The gearing ratio of Bega reduced in 2013, which means Bega needs a good way of raising funds for capital expenditure projects and does not affect the voting rights of the ordinary shareholders. When interest rates are high this is a less risky situation. This changed the gearing position ie fixed interest capital contributes only a minor amount to the overall capital of the business, with the majority coming from ordinary shares. Although Bega may be viewed as less risky, especially at times of high interest rates, then interest rates are low and potential for generating profit is high, financing through fixed rate capital can be more cost effective. 7.0 Discussion of information available in the public domain 7.1 Secret to Success Business strategy is a method or technique that helps a company to develop and a useful strategy is the key to success. Good business strategies will help a company form the advantage and create survival tactics in business competition. Business strategy is not changeless, they are being adjusted depending on the nature of the company and external environment. Different time have different strategies, companies need to continuously innovate to remain a head of their competitors. Deacon (1961) argued that adjusting business strategies as an when needed is an important aspect of success. Bega is proud of its strong but simple business strategies. The company’s management is extremely disciplined when it comes to capital and cash management (Abigail, 2014). This core focus has helped the company to have a strong balance sheet, and therefore when new opportunities arise, the company is in a position to grasp them. “In the past five years, the company has acquired Tatura Milk Industries as well as major cheese manufacturing and packaging assets in Australia” (Abigail, 2014), these acquisition have significantly boost the company bottom line. 7.2 Innovation and Development Bega Cheese Ltd has invested a lot of money and time into development to ensure its products and services satisfy customer’s demand. Research and development for the Australian market is conducted and driven by in-house market research. The company has responded to the domestic market for new products such as the kid’s snaking segment. This segment has been seen to be growing strongly for the past 5 years in Australia (Abigail, 2014). The company has also respond to the demands from the international customers- especially in China- who may want milk products with low salt levels, and added ingredients such as Omega-3 fatty acids for good health. Bega cheese Ltd has strong presence in the Chinese market that has been seen to grow all the time. When it comes to promoting dairy science, Bega contributes to an organization called Dairy Innovation Australia, which leverages and manages many research in the Australia milk industry. Bega not only specializes in milk and cheese; across its other products its produces more than 90 sku’s including nutritional dairy products, infant formula, cheddar, milk powders, cream cheese and mozzarella. In addition, the company is the largest producer of lactoferrin, which is an iron-binding protein that works in the digestive system to minimize infection there, providing antibacterial activity to human infants. The company has been selling a lot of lactoferrin in Northern Asia which provides a strong market for the business. In addition, Bega Cheese Ltd is committed to innovating its packaging and processing facilities. The company factory has high level of mechanization and automation equipments. 7.3 Environmental Management Bega has been operating under close supervision from Department of Environment, Conservation & Climate Change (DECC). The production of cheese has little waste materials and by-products of milk and cheese are whey powder and whey butter, which the company manufactures at their site- the only waste matter being water. “Time-to-time, the company irrigates surrounding farmlands with the nutrient-loaded water from the milk and cheese production process, delivering yet another benefits to local farmers” (Abigail, 2014). The company has a huge impact on the local communities where their factories operate. Conclusion We conclude that Bega will continue to grow based on the industry and company analysis. From the financial analysis, Bega performance fluctuated but improved in 2014 and was better than the market, its industry and peers (Morningstar, 2014). Based on our valuation, we estimate Bega value to be at AUD 5.5 which is considerably equivalent to the last observed market price of Bega which was valued at AUD 5.5 as at 3rd September 2014 (Morningstar, 2014) and since in the last few months the price was around 5.2 to 5.4 (Morningstar, 2014). So we recommend the investors to hold their position in Bega Cheese Ltd. References Abigail, P. (2014). Bega Cheese Tastes Victory. Australia Business Review. Retrieved from Read More