Financial Analysis & Valuation - Patties Foods Limited - Assignment Example

FINANCIAL ANALYSIS & VALUATION: PATTIES FOOD LIMITED By Student’s Name Code + Course Name Professor’s Name University Cite, State Date Question 1: Principal Activities Patties Foods Limited is an Australian firm that deals in branded frozen food. It enjoys substantial market leadership in business units related to frozen savoury, dessert and fruit segments. Some of the leading popular firm brands include; Four’N Twenty, Herbert Adams and Patties. Notably, it is important to realize that the firm mainly produces and markets its quality food commodities for the supermarkets, petrol stations, catering and all-purpose foodservice stores located across Australia (Patties Food Limited, 2013). Consequently, Four’N Twenty is considered to be Australia’s most popular pie and it has found its platform in retail stores that include supermarkets and convenience stores. It holds the number position in regards to pie sales given that it is perceived as being the notable food product all major sporting events within Australia. Some of the notable brands held by the firm include; Creative Gourmet, Chef’s Pride and the Nanna’s Frozen brands (Patties Food Limited, 2013). From this analysis, it can be seen that Patties Food Limited majorly engages in frozen food products that are distributed across the Australian markets. It is noted that the firm enjoys a market share of frozen fruits in Australian supermarkets of about 46 per cent. This is relatively huge percentage that likely expounds on the higher popularity index of the company’s food products (Patties Food Limited, 2013). Business Strategies and Involved Risks Some of the notable business strategies conducted by the company include; first, adoption of new channels under which the firm strides to work together with domestic customers in matters related to the formulation of new distribution platforms (Patties Food Limited, 2013). These domestic customers are ones that might have misprioritize the firm’s food products for others (Patties Food Limited, 2013). The relative risk involved with this strategy rests with the ever-changing competitiveness of the market environments that might negatively impact profitability levels. Second, the firm focuses on the increase of product ranges as a business strategy. This is effectively executed through innovation of new product offerings that are to complement existing savory brands. These innovations are directed towards the entertainment and dessert market platforms (Patties Food Limited, 2013). The production is mainly to be conducted either locally or offshore given that food products sourced from the offshore manufacturers are cost-effective (Patties Food Limited, 2013). The risks that can be attributed to this business strategy are based on the unstable maintenance of production costs that can give advantage over the firm’s competition (Patties Food Limited, 2013). Third, the firm also adopts an acquisition business strategy as a formidable model that can be used for adding value to other business units within its operations. This is conducted through the unlocking opportunities related to such aspects as customer relationships and insights as well as efficient production processes (Patties Food Limited, 2013). Significantly, the relative risk that can be identified with this strategy involves the ability of the firm to maintain cost-effective operations since some acquisitions might prove inconsequential altogether. Question 2: Liquidity Ratio Analysis Current ratio=current assets/current liabilities For 2013:95,511/41,562= 2.3 For 2012: 91,191/35,721=2.6 Acid-Test Ratio= (Cash + accounts receivables + Short-term investments)/current liabilities For 2013: (68+53,961+557)/ 41,562=1.3 For 2012: (151+51,410)/ 35,721=1.4 Analysis; The firm’s current ratio decreases insignificantly between the two periods from 2.6 to 2.3 in the financial years 2012 and 2013 respectively. However, the decrease does not necessary mean unhealthy phenomenon since the standard current ratio stands at 2:1. This means that Patties Food Limited is fairly positioned to meet its short-term commitments for whenever they fall due. It basically means that for every liability held the firm has two assets that can be used to offset its effects on operations (Benninga and Oded, 1997). The firm’s acid-test ratio decreases insignificantly for the two financial periods from 1.4 to 1.3 between 2012 and 2013 respectively. However, the ratio is fairly positioned in relation to the standard ratio of 1. This means that the firm is able to meet its current liabilities hence its current assets are not dependent on the inventories at any given moment (Benninga and Oded, 1997). Question 3: Working Capital Management Efficiency i) Days Inventories= (ending inventories/cost of goods sold)*365 days For 2013: (40,925/158,243)*365= 94 days For 2012: (37,980/146,100)*365= 94 days ii) Day’s Debtor= (Trade receivables/annual credit sales)*365 days For 2013: (53,961/244,141)/365days= 80 days For 2012: (51,410/235,040)*365 days= 79 days iii) Day’s Creditors= (trade payables/cost of goods sold)* 365 days For 2013: (32,405/158,243)*365= 74 days For 2012: (26,899/146,100)*365= 67 days Analysis The firm’s day’s inventories remains at 94 days in the two financial periods. A standardized day’s inventory ratio sits stable at 90 days upon which a company is expected to sell all of its inventories and convert them to cash in order to prevent the firm from incurring unnecessary costs attributed to maintenance and storage. Thus, the 94 days is likely healthy for the firm’s operations meaning it is selling its inventories at a significantly higher pace. The firm’s days’ debtor increases insignificantly from 79 to 80 days in the period between 2012 and 2012. The ratio postulates that the firm is able to collect cash from the invoices placed by its customers at a relatively fairer time. Thus, it means that there will be enough cash flow resources that are needed for the purpose of ensuring that operations run effectively (Patties Food Limited, 2013). The firm’s day’s creditors increase from 67 to 74 days between 2012 and 2013 respectively. This is an indication that it is utilizing the credit available to its advantage by using the cash that should be used for payment to conduct under short-term investments. Question 4: Financial Structure i) Net Debt-to-Equity Ratio= total debt/total stockholder’s equity For 2013: (63,750+4,330)/68,571*100%= 99% For 2012: (2,124+68,542)/68,443*100%= 103% ii) Long-term debt-to-total debt ratio= total long-term debt/ total debt For 2013:63,750/68,571*100%= 93% For 2012:68,542/68,443*100%= 100% Analysis The firm’s net-debt-to-equity ratio decreases significantly from 103% to 99% in the financial periods between 2012 and 2013. This is a positive phenomenon given that the firm is taking strides to maintain a balance between the funds provided by debtors and those provided by investors who are the owners of the firm. The ratio postulates that Patties Food Limited is fairly positioned to meet the repayment of its immediate debt structure and also, it signifies its capacity to guarantee the return on equity invested into the operations of the company Fisher, E, and (Heinkel and Zechner, 1989). Subsequently, a firm that postulates an insignificant imbalance of its funds, which comprises of both equity and debt funds, is likely to suffer other notable challenges. For instance, Patties Food Limited has been able to maintain a balance of the two aforementioned funds hence it’s able to enjoy such elements as control of operations and also, it reserves the voting rights to its existing shareholders (Heinkel and Zechner, 1989). The firm’s long-term debt to total debt ratio decreases significantly in the two financial periods from 100% to 93% between 2012 and 2013. This decrease is an indication of a positive phenomenon since it postulates that Patties Food Limited has adopted effective long-term debt repayment strategies. The company has successfully managed to reduce its long-term debt burden in relation to its total debt (Patties Food Limited, 2013). This has the effect of reducing the amount of interest paid to service the borrowings. It is also important to note that Patties Food Limited has devised a significant strategy aimed at reducing debt structure visa-vie the owners’ equity, which is a perfect platform for conducting the operations of the firm (Patties Food Limited, 2013). A firm that maintains a higher long-term debt structure in comparison to short-term borrowings is a turn-off to potential investors since the risk of re-paying the amounts is considered higher (Heinkel and Zechner, 1989). It also means that in the event investors make put in their money with the company there might be a likelihood of a significant portion of the amount being used for paying-off interest rates rather than being invested in projects that will likely increase the wealth of the shareholders. Question 5: Debt Protection EBIT= Revenue- COGS-Operating Expenses For 2013: 244,823-158,243-(27,806+21,923+12,204+11,817+4,016) = 8, 814 Net Interest Cover= EBIT/Interest Expense For 2013: 8,814/4,016=2.2 NPAT=Revenues- (cost of goods sold+ operating expenses+ interest+ taxes) For 2013: 244,823-158,243-(27,806+21,923+12,204+11,817+4,016-5,741) = 3,073 Debt-to-gross cash flow = operating cash flow/ total debt For 2013: 20,844/68,571= 0.3 Analysis The firm’s Earnings before Interest and Tax (EBIT) postulates a positive value hence an indication that it is able to post profits irrespective of its capital structure and taxes (Patties Food Limited, 2013). The firm’s net interest cover ratio stands favorably at 2.2 in the financial period ending 2013. This is an indication that Patties Food Limited is able to meet its interest expenses for the amount of debt held as at the end of the financial year due to its capacity to generate sufficient level of revenues used to offset the interest expenses. The firm’s NPAT stands at a positive value of 3,073, which is a positive phenomenon since it means that the firm is able to make profits despite paying-off its taxes and interest expenses (Patties Food Limited, 2013). The firm’s debt-to-gross cash flow stands at 0.3, which means that Pattie Food Limited is able to meet its total debt with the yearly cash flow from operations. Question 6: Profitability i) ROE=net income/total stockholder’s equity For 2013: 4,789/68,571=0.1 For 2012: 19,482/68,443=0.3 ii) ROA =net income/total assets For 2013: 4,789/244,557=0.0 For 2012: 19,482/248,315=0.1 iii) EBIT Margin= EBIT/Net revenues For 2013: 8, 814/4,789= 1.8 For 2012: 30,508/19,482=1.5 iv) Net Profit Margin= net income/sales*100% For 2013: 4,789/244,141*100%=1.9% For 2012: 19,482/235,040*100%=8.3% Analysis The firm’s return on equity ratio decreases from 0.3 to 0.1 in the period between 2012 and 2013 respectively. This decrease is an indication that the firm’s capacity to generate profits for each of shareholders equity held has fallen significantly. This might be attributed to the company’s immense debt structure. The firm’s return on assets ratio decreases significantly from 0.1 to a zero value in the financial period between 2012 and 2013. This is an indication that the firm has not been effective in utilizing the size of its asset-base to generate profits. For instance, it might be true that Patties Food Limited immediate personnel are not well-trained to handle equipment use optimization (Patties Food Limited, 2013). The decrease might also be attributed to flawed equipment replacement strategies so that fault and obsolete machinery are not replaced on time hence affecting production levels. The EBIT margin increases from 1.5 to 1.8 in the period between 2012 and 2013 respectively. This is an indication that Patties Food Limited has significantly increased its earnings before tax and interest expense in relation to the net revenues posted within the year. The net profit margin decreases from 8.3% to 1.9% in the period between 2012 and 2013 respectively. The decrease stipulates that the firm has not been able to effectively post relative amounts of net income in relation to the sales posted. This might be attributed to poor marketing and pricing strategies by the firm like lack of product promotions and campaigns (Patties Food Limited, 2013). Question 7: Quality of Earnings EBIT Analysis; EBIT= Revenue- COGS-Operating Expenses For 2013: 244,823-158,243-(27,806+21,923+12,204+11,817+4,016) = 8, 814 For 2012: 235,843-(146,100+26,852+21,255+11,128) = 30,508 For 2011: 216,817-(131,522+23,905+21,621+10,756) = 29,013 For 2010: 196,885-(118,786+20,148+20,216+11,359+1,228) = 25,148 For 2009: 179,213-(110,898+17,790+19,300+10,101+713) = 20,411 Trends; 2009/2010= (25,148-20,411)/20,411*100%= 23.2% 2010/2011= (29,013-25,148)/25,148*100%= 15.4% 2011/2012= (30,508-29,013)/29,013*100%= 5.2% 2012/2013= (8, 814-30,508)/ 30,508* 100% = -71.1% The firm’s earnings capacity decreases significantly over the five year period that starts from 2009 to 2013. The earnings percentage decreases from 23.3% to 15.4% and later to 5.2% in the period between 2009 and 2012 (Patties Food Limited, 2013). However, the significantly decrease is witnessed in the period between 2012 and 2013 where the percentage drops to a negative of 71.1%. This rather unhealthy drop in the percentage is an indication that the firm suffers negative quality of earnings as the financial year’s progresses. These drops can be attributed to the costs related to distribution, sales and marketing as well as administration expenses, which have continued to accelerate despite the sales increasing at un-proportionate rate (Graham, 2000). For instance, in the period between 2012 and 2013; the sales item increases from 235,040 to 244,141, which is a 3.9% increase while sales and marketing costs increases from 26,852 to 27,806 in the two periods, which represents 3.6%. It is evidently clear that while sales of the company increase also, its expenses increase at almost the same rate. In Australia, the company tax rates stands at 30% of the untaxed revenues. Therefore, for the case of Patties Food Limited, the tax rates for the periods 2012 and 2013 can be calculated as follows; For 2013: 30% of EBIT= 30/100* 8, 814= 2,644.2 For 2012: 30% of EBIT= 30/100*30,508= 9,152.4 From the above calculations, it can be seen that the tax rate of the company in the two periods decrease significantly but the decrease is attributed to significant decrease in EBIT. Notwithstanding, the tax rates in Australia are flexible enough to allow for insignificant effects on the company’s revenue-base (Graham, 2000). The financial gearing profitability ratio of the firm can be calculated as follows; Financial gearing profitability=Total debt/ net income For 2013: 68,571/4,789= 14.3 For 2012: 68,443/19,482= 3.5 The firm’s financial gearing financial ratio increases significantly for the period between 2012 and 2013 from 3.5 to 14.3 respectively. This increase can be attributed to the company’s ability to post significant revenues that might as well be used for the purpose of the repaying debt held by the company at any given moment (Patties Food Limited, 2013). The increase might be attributed to the firm’s capacity to withdraw from long-term borrowings and concentrating its capital funds from both the owners and short-term borrowings, which attract less interest in comparison to the rather long-term debt previously held (Patties Food Limited, 2013). Question 8: Earnings per Share and Price/Earnings Ratio EX-Rights Price = Market Value of shares prior to rights issue+ cash received from right issue/ Number of shares after rights issue Dilution factors; market value of Patties Foods Limited (before rights issue) (1.60*1,950,000)= 3,120,000 Cash Proceeds from the rights issue; 3,750,000*1.565= 5,868,750 Number of shares= 3,750,000 Ex-price rights = 3,120,000+5,868,750/3,750,000= 2.397 per share Analysis; The firm’s earnings per share of 2.397 postulates that its share after rights issue is healthy and thus, provides an almost guarantee for bonus element for each of the earnings per share held by the shareholders of the firm. Price/Earnings= market price/EPS 1.565/2.397= 0.7 The firm’s lower price/earnings ratio postulates that the investors are uncertain about its future performance. However, the positive ratio indicates that it has enough cash flows that it can use for the purpose of conducting day-to-day operations (Patties Food Limited, 2013). The ratio can be used to showcase the immediate value of Pattie Foods Limited since it can depict the attractiveness of the firm’s stock price by way of identifying whether they are over or under priced at the securities market. Significantly, investors might also use the ratio to compare the stock prices of Patties Food Limited to other companies within the same industry (Patties Food Limited, 2013). Question 9: Dividends Dividends per share = sum of dividends in a 1 year period- special onetime dividends/ shares outstanding for the period = 10,567,000/ 139,705,919, 0.07, 0.1 (1 decimal place) Pre-tax dividend yield= share price today+ average quarterly dividend paid / no. of outstanding shares = (1.565 /139,705,919)* 5,283,500 = 0.06, 0.1(I dec, Pl.) After-tax dividend yield for a superannuation fund = (1,563/139,705,919)*5,283,500*0.3 = 0.02 Superannuation fund; 3,135,057 = 3,135,057/0.2, 15,675,285 Dividend Cover Ratio=Profit after tax - Dividend paid on Irredeemable Preference Shares/ Dividend paid to Ordinary Shareholders =4,789,000 /10,567,000, 0.5 The current 0.5 dividend coverage ratio for Patties Food Limited means that the firm is fighting to maintain a stable level of earnings within the given timeframe. However, it might also mean that the firm will not be able to maintain the current state of dividends in the event that there are adverse variation of profits in future operations. Question 10: Net Tangible Assets and Cash Flows Net tangible assets = total assets- intangible assets – liabilities- no. Of outstanding shares = 244,557-(66,493+113,430)/ 139,705,919 = 244,557-179,923/139,705,919, 0.5 Patties Food Limited current share price stands at $ 1.565 while the net tangible assets per share are placed at $0.5. This means that the current share price for the firm has been overpriced at the securities markets since it is not performing that well in regards to NTA stabilization strategies. Cash Flow per Share = net cash flows from operating activities / no. of outstanding shares = 20,844,000/139,705,919 = 0.15, 0.2 (1 decimal place) First, the differences are noted in the amounts of net income that keeps on differing due to the increase of sales revenues. Second, it is possible that the firm maintained a higher level of operating cash flow for the period hence a higher ratio. Third, there is a likelihood that the firm engaged in intense quality earnings that promoted the cash flow operations (Patties Food Limited, 2013). Question 11: Conclusion & Recommendations In my opinion as an analyst in a stockbrokerage firm, I would recommend that the shares should hold for a certain period of time. This is based on the results from the ratio calculations above. First, from the gearing structure, it can be seen that the firm has continued to maintain a balance between the owner’s equity and debt funds. For instance, the firm has embarked on eliminating the long-term debt in order to reduce the commitment of paying-off interest expenses. Under this scenario, any investment would not be used for paying debt but to fund possible projects that will increase the revenue base of the firm for that matter. However, the profitability ratios of the firm have continued to decrease significantly over the two year periods. For instance, the ROE and net profit margins decreases significant in the two periods, which means that the firm is not able to post effective profits for the size of its assets-base as well as skilled personnel. The fact that the firm is not able to make more profits is the fundamental reason for why stocks should be held for a certain period. Notwithstanding, the firm’s earnings per share and also, the dividends per share remain to be very lowly placed meaning that the investors return for investments are insignificant. However, there is a possibility that the firm will improve on the quality of its earnings given that it has adopted such business strategies engaging in new acquisitions as well as sourcing for new channels for where to sell their products. This means that the firm will be able to improve on its profits in the near future that might be translated to positive wealth to the existing shareholders. It is important to realize that the firm might also face intense challenges whenever engaging in exploring new business strategies. For instance, it is possible that the acquisition strategies would not led to more profits for the firm given the already concentrated competition within the Australian food industry. References List Benninga, S, and Oded S, 1997, Corporate Finance: A Valuation Approach, McGraw-Hill, New York Fisher, E, Heinkel, R and Zechner, J. 1989, Dynamic capital structure choice: Theory and tests, Journal of Finance, 44, 19–40 Graham, R, J.2000. How big are the tax benefits of debt? The Journal of Finance, vol.LV, no.5: pp 1901-1942. Marshall, DH, McManus, WW& Viele, DF, (2008). Accounting: what the numbers mean, 8th Ed. McGraw-Hill/Irwin, New-York. Patties Food Limited. 2013 annual report, Retrieved from http://www.patties.com.au/investors/financial-reports.htm Read More