Financial Performance of Marks and Spencer - Assignment Example

Financial Analysis Report 06/14/11 Table of Contents Y Table of Contents 2 Introduction 3 2.Ratio Analysis to evaluate firm’s financial performance 3 3.M&S at a glance 4 4.Profitability Analysis 5 5.Financial Health 7 6.Cash Flow Analysis 8 7.M&S vs. Morrisons 9 8.Financial Statements Ratios 9 9.References 11 1. Introduction This report analyzes the financial statements of Marks and Spencers Group over the past 5 years and draws conclusions about the financial health throughout the time period. It also evaluates the firm’s performance vs. its key competitor Morrisons in UK. Marks and Spencers group is one of the largest retailers in UK. Marks and Spencer Group plc is the holding company of the Marks & Spencer Group of companies. Established in 1884 by Michael Marks and Thomas Spencer in Leeds, the company is well known as a provider of womenswear and lingerie in UK. Its retail outlets also sell mid to high priced apparel, food, and household items under the companys private label brands, including Autograph, Classic, per una, and Portfolio. The British retail icon operates in about 330 M&S department stores and some 340 Simply Food shops throughout the UK. Beyond Britain, it spreads across over 325 locations, mostly franchises, in about 40 countries, including China, India, Indonesia, and South Korea (Google Finance n.d.). The company recorded revenues of £9,536.6 million ($15,272.9 million) during the financial year ended April 2010 (FY2010), an increase of 5.2% over 2009 (JP Morgan 2011). 2. Ratio Analysis to evaluate firm’s financial performance Past financial performance of the firm or an organization is an important indicator for predict or estimate the future of the company. Investors and shareholders measure and value this financial performance (amongst other factors) as a means to assess the expected returns on their investments (Alvarado 2011). Calculation of a number of financial ratios for the firm’s financial statements is considered a fairly safe way to evaluate the firm’s past performance, its evolution and key financial issues. The analyses are very valuable for firm’s management as well in order to identify opportunities to improve performance at the department, unit, division or organizational level. In some cases, ratio analyses can predict future bankruptcy (Loth 2011). Reading and understanding financial ratios is also the quickest method to assess the company’s operating performance. In order to understand the company well from financial statements, we need to conduct analyses at three levels: (1) Profitability analyses to see if the company is profitable or not, whether the company is a growing company or a stagnant one. (2) Financial Health analyses from ratios that indicate whether the company is sound or not and what is its presence state of solvency. (3) Finally, company specificities will be explored in terms of key growth drivers and competitive advantages. 3. M&S at a glance Marks and Spencer Group is one of the leading retailers of clothing, foods and home ware in the UK (M&S Annual Report 2011). The firm enjoys market leadership in clothing due to factors like range and quality. However, the cost pressure due to absorption of increase costs of cotton and VAT hikes can adversely affect the company’s margins (DataMonitor 2011). Though the firm primarily reports in terms of geographic segments (UK and international), its operations can be sorted under two key divisions: food and general merchandise. The food division focuses on four main areas: fresh and natural healthy food; special celebration products; authentic ready meal ranges and exceptional everyday food such as "Oakham" chicken. The apparel section deals in womens wear, mens wear, lingerie, childrens wear, accessories and footwear. Some of the prominent brands under this division include: Autograph, Limited Collection, Collezione, Blue Harbour, Girls Boutique, Per Una, Ceriso, Adored, Truly you and Body (SADIF 2011). The home division of M&S offers home ware and home accessories; kitchen and tableware; lighting; and furniture products. In terms of its retail chain, M&S offers its products and services through online channels as well as through M&S Catalogue, its flagship stores, high street stores, retail park stores, M&S outlets, Simply Food stores and Simply Food franchised stores. 4. Profitability Analysis Profitability analysis focuses on Return on equity, return on assets and Leverage ratios. The profitability analysis is further examined to include margin, turnover analysis and capital structure analysis. (NYU Stern 2011) 1. ROE: Return on Equity (ROE) is a measure of the efficiency with which the stockholders’ investment through their original capital contributions and earnings retained in the business have been used (CS Investor 2008). The following chart reveals the evolution of return of equity for Marks and Spencers group. The ROE for Marks and Spencers has been consistently declining since 2008 when it reached the peak of 42%. The current ROE is 22%, which is still higher than the industry average returns of 15.7% (Value Line Database 2011) and its main competitor 12.19%. This indicates that the company is profitable. 2. The profitability of the company depends on either a high return on assets for the company or the debt/equity ratio. Despite the fact that sales growth increased by 13%, Return on assets decreased from 63% in 2007 to 31% in 2011, indicating that the value of their assets have gone done. The Debt/Equity ratio for M&S has always been greater than 1 but reduced from 2.66 in 2008 to 1.75 in 2011. Hence, the basic driver of profitability for M&S is its highly leveraged capital structure. This indicates that the management of the company has a risk-taking attitude however; they have consistently been trying to reduce their debt over the past few years, probably because of the market environment. 3. The gross margin (37%) and operating margins (8.6%) of the company have been pretty much stable across the period of time. The operating margin of the industry is 6.76% implying that the company is still operating at a marginally higher margin than the industry average (Value Line database 2011). The low operating margins of the industry and the company imply that the industry has difficulties in paying their debts. 5. Financial Health The methodology adopted for the analysis has been to first identify and calculate financial statement ratios from historical financial documents and then to use this data to analyze overall trends and the larger context (Investopedia 2011). 1. Balance sheet structure: The following balance sheet structure shows that the company has a lot invested in fixed assets. This is due to the nature of the retail industry with excessive investments in non current assets such as real estate and retail stores. Since current assets are slightly lower than the current liabilities, it can be implied that company is not that sound. The financial soundness of the company is indicated by the fact that if the organization can pay its current liabilities if need be (Ratio-Analysis 2011). 2. Current Ratio: The current ratio (CA/CL) has been increasing for the last 5 years indicating that the company is working towards the financial soundness of the firm. The current ratio in 2011 was 0.74 while that in 2007 was 0.53. Since the current ratio is less than one for a long peroid of time, it means that either the inventories can be converted into cash fairly quickly or the company has liquidity problems. The ratio also gives an idea of inefficiency in the work and organization processes in M&S. 3. The quick ratio of the company has been improving over the period of time, from 0.19 in 2007 to 0.33 in 2011, indicating that the management is working on improving the amount of cash in the organization. 4. The liquidity ratio of Marks and Spencers has also marginally improved from 0.11 in 2007 to 0.18 in 2011 that means the company has now improved its ability to pay off its short-term debts obligations. 5. The debt ratio of M&S is high (2.27 in 2007 and 1.75 in 2011) indicating that the company is highly leveraged. 6. Financial Leverage of the company, which is the ratio of Total Assets to Shareholders Equity, has remained constant at 1.0 in the past 5 years. 7. M&S’ Debt to Assets Ratio has more or less held steady from 2007 (1.74) to 2011 (1.74) and has rose slightly in 2009 (2.45). This suggests that they have basically matched their debts to their assets and have kept their position pretty stable on this front. Total assets and total debts have gone down, probably because they are trying to become leaner in their operations. 8. Long Term debt to assets ratio has maintained a fairly steady range between .7 and .9 over the last 5 years. This does not reveal how other areas of the company were dramatically changing. 6. Cash Flow Analysis Cash flow analysis is a method of analyzing the financing, investing, and operating activities of a company (Hofstrand 2009). The main goal of cash flow analysis is to identify any cash flow problems or opportunities associated with the company. 1. CFO from Operations ratio is greater than 2 indicating that the revenue is being generated internally. 2. CFO/Current Liabilities: The ratio of cash flows to current liabilities has also been consistent over the past 5 years from being 0.81 in 2007 to 0.63 in 2011 indicating that cash has not been used to pay short-term debts. 3. CFI/Long Term Debts: As seen in the chart, the ratio of cash flow from investing activities to long-term debt has been consistently decreasing across time indicating that their ability to cover long-term debts is decreasing. This is due to the high leverage nature of the company. 7. M&S vs. Morrisons Wm Morrison Supermarkets PLC is a UK-based company engaged in food retailing with focus on food and grocery (Morrisons n.d.). Despite being in retail sector, the business activities and focus of the two companies is very different. The net profit margin of Morrisons in 2011 is 3.84% compared to 6.15% of M&S. The EBITDA margin of M&S in 2011 was 13.4%, almost double of that of Morrisons (7.42%). The return on assets for Morrisons is 7% as compared to 8.26% of Marks and Spencers. 8. Financial Statements Ratios 2011 2010 2009 2008 2007 Current Ratio 0.74 0.80 0.60 0.59 0.53 Quick Ratio 0.33 0.28 0.24 0.22 0.19 Liquidity Ratio 0.18 0.19 0.20 0.16 0.11 2011 2010 2009 2008 2007 Debt Ratio 1.74 2.27 2.49 2.66 2.27 Financial Leverage 1.00 1.01 1.00 1.00 1.00 Debts to Assets Ratio 1.74 2.27 2.49 2.66 2.27 Equity to Assets Ratio 1.00 0.99 1.00 1.00 1.00 LT debt to assets Ratio 0.92 1.01 0.98 0.95 0.71 Net debt 4197 4557 4668 4356 2693 Net debt to equity ratio 1.57 2.10 2.24 2.23 1.63 2011 2010 2009 2008 2007 Working Capital (568) (371) (917) (807) (760) Inventory Turnover 25.64 23.46 21.59 19.78 17.68 AR Turnover 5.61 4.44 4.87 4.77 5.1 AP Turnover 22.54 30.13 31.57 10.00 11.05 AR-AP (16.92) (25.87) (26.70) (4.5) (5.95) 2011 2010 2009 2008 2007 Sales Growth 2% 5% 0.4% 5% - EBIT margin 8.6% 8.9% 8.5% 12.4% 12.1% Net income margin 6.1% 5.5% 5.6% 9.1% 7.7% Return of Equity 22% 24% 24% 42% 40% Return on Investment 20% 19% 18% 18% 2011 2010 2009 2008 2007 CFO/NI 2.31 2.34 2.54 1.30 1.96 CFI/Operating + Financing 0.26 0.36 0.46 0.90 0.50 CFI/Long term Debt 0.20 0.24 0.29 0.52 0.55 CFO/Current Liabilities 0.63 0.65 0.56 0.54 0.81 CFO/Short Term Debt 0.63 0.45 0.42 0.38 0.76 9. References Alvarado, K 2011, Measuring Financial Performance: The Importance of Financial ratois , viewed 18 June 2011, . CS Investor 2008, Return on Equity (ROE): What is it?, viewed 18 June 2011, . DataMonitor 2011, Company Profile - Marks and Spencer Group plc, Market Research, DataMonitor, Datamonitor, London. Google Finance, Marks and Spencer Group Plc (ADR) , viewed 2011 18 June, . Investopedia 2011, Financial Statement Analysis, viewed 18 June 2011, . Hofstrand, D 2009, Understanding Cash Flow Analysis, viewed 18 June 2011, . JP Morgan 2011, Marks & Spencer, Market Research, Europe Equity Research, J.P. Morgan Securities Ltd.. Loth, R 2011, Financial Ratio Tutorial, viewed 18 June 2011, . NYU Stern 2011, Financial Statement Analysis, viewed 18 June 2011, . M&S Annual Report 2011, Annual Report 2011, Annual Report, Marks and Spencer, London. Morrisons, Strategy & structure, viewed 18 June 2011, . SADIF 2011, Marks & Spencer Group Plc summary due diligence report, Market Research, SADIF Newsletter and Investment Management Portal, Marques Mendes & Associados Lda, Ilhavo. Ratio-Analysis 2011, INTERPRETING FINANCIAL STATEMENTS THROUGH RATIO ANALYSIS, viewed 18 June 2011, . Value Line database 2011, Margins by Sector, viewed 18 June 2011, . Value Line Database 2011, Return on Equity by Sector, viewed 18 June 2011, . Read More