Whitbread PLC Financial Summary - Essay Example

08 December 2008 Whitbread PLC Financial Summary Financial ratio analysis is a very popular technique in the evaluation of the financial health of a business organization. This strategy is currently utilized by business managers, investors, creditors, suppliers, and other decision makers in order to determine the financial viability and performance of a business organization (Horngren 2000). This report aims to yield a closer look at the financial performance of UK's leading hospitality company Whitbread Plc with the aim of conducting a financial SWOT analysis. Financial ratios are grouped into five distinct categories, each showing a different aspect of a company's financial operations. These are profitability ratios, financial leverage ratios, liquidity/solvency ratios, efficiency ratios, and investor ratios (Fraser and Ormiston 2004). 1. Profitability Profitability ratios measure the ability of the company to generate income from its investments less the costs incurred (Keown et al 2005). In this analysis, gross profit margin, net profit margin, and asset turnover will be used. Referring to Appendix 1, the profitability of Whitbread has significantly improved from 2007-2008 as indicated by the increase in gross profit margin and net profit margin. In 2007, it can be seen that 83% of the company's sales is recorded as gross profit margin while this figure jumped to almost 85% in the following year. This higher ratio is reflective of the company's efforts of sourcing out and producing less costly inventories to reduce cost of goods sold. Furthermore, net profit margin almost doubled from 0.24 in 2007 to 0.44 in 2008. This reflects a very remarkable performance as it shows the cost efficiency of the company by its enhanced ability of turning revenues into net income. In 2008, net income accounts for 44% of sales from 24% in the previous year. The rise in net income signals the company's ability to manage its resources more economically. 2. Leverage or Gearing Financial leverage ratios provide an indication of the long-term solvency of the firm. They indicate the extent of non-owner claims on the firm's profits as well as the firm's operating capability to meet its obligation (Keown et al 2005). Appendix 2 shows the computed gearing ratios of Whitbread in 2007 and 2008. As with the profitability ratios, the business organization's resource structure has significantly improved. As opposed to the recorded debt to asset ratio of 0.62 in 2007, this ratio declined to 0.48 in 2008. These ratios indicate that Whitbread has been dependent on debt as a primary source of financing in 2007 accounting for 62% of its assets. However, this changed in the following year when debt only comprises 48% of its resources. It should be noted that debt is seen as a more risky financial resource as it entails the regular payment of interest and face value at the end of its life. The shift from debt to equity therefore signals lower financial risk for Whitbread. However, this improvement in resource structure fails to reflect in the company's interest coverage ratio which measures the proportion of interest expense to the business organization's income before tax. In 2007, this interest coverage ratio is 8.2 while it dropped to 3.3 in 2008. It should be noted though that in both years, the company has enough financial resource to cover its interest obligation. 3. Liquidity Liquidity or solvency ratios are used as measures of the company's ability to finance its short-term obligations by its cash and near cash items (Keown et al 2005). Appendix 3 shows the computed liquidity ratios of Whitbread in 2007 and 2008. The business organization is in danger in terms of liquidity. In both years, the company's current assets are meager compared to its immediate short term liabilities. If these current liabilities become due immediately, Whitbread will never be able to pay off all its short-term creditors. Furthermore, its liquidity ratios are deteriorating evidenced by the marked decline from 2007 to 2008. During 2007, current assets will be able to finance 43% of all current liabilities. This dropped to only 28% in 2008. When acid-test ratio is taken into account, the proportion is even more discouraging. The slight difference between the acid test ratios and the current ratios indicate that Whitbread is holding a lot of inventories in its resource pool which contributes to the low liquidity. The company is in danger of holding too little cash in order to pay-off current obligations. 4. Efficiency or Asset Utilization Activity ratios are operating efficiency measures, which determine the ability of a company to maximize its output given a certain level of resources. These ratios significantly gauge the asset, investment, and cost management performance of the business entity (Keown et al 2005). Appendix 4 shows the computed asset utilization or efficiency ratios of Whitbread. The two ratios computed, total assets and fixed assets ratios convey contrasting messages. For one, fixed asset turnover ratio increased from 1.92 to 2.15 during the fiscal periods under consideration while total asset turnover declined from 2.4 to 2.0. For the fixed asset ratio, it just shows that the growth in fixed asset is surpassed by the growth in sales indicating that these fixed assets are utilized more efficiently to generate more revenue for the company. However, when total assets are taken into consideration, utilization declined. Analyzing Whitbread's situation, it should be noted that these ratios which are moving in opposite directions are indicative of the company's increasing current assets in proportion to the pool of total assets. 5. Investment Ratios Investment ratios are financial ratios especially designed to inform the investors the profitability of the company's stock as an investment (Keown et al 2005). These almost always become a basis for the investment decisions of prospective stockholders in a business organization. Appendix 5 shows the two computed investment ratios for Whitbread Plc in 2007 and 2008 namely earnings per share and return on equity. In general, the financial performance of the company has been very favorable reflected in the marked increased in both ratios. The factors which contribute to it is the improvement in profitability which allows net income to balloon in proportion to the total number of stocks and the total value of equity. In terms of earnings per share, Whitbread is able to generate 1.23 per stock in its pool of equity in 2007. In 2008, this further improved and more than doubled to 2.8. This boost in earnings per share signals the company's increasing ability of delivering value for the investor of its stocks. Return of equity is referred to as the single most important stakeholder if a business organization, its stockholders. This view is consistent with the fact that business organizations' ultimate goal is the maximization of stockholder wealth (Fraser and Ormiston 2004). During the years under consideration, this ratio has considerably improved from 0.26 to 0.43 in 2007 and 2008, respectively. This improvement in ratios indicates that in every pound invested in the company's stock in 2007 yields 0.26p while this ballooned to 0.43p in 2008. Financial SWOT After a comprehensive discussion of Whitbread Plc's financial performance for the past two years, this section will conclude with the company's financial strengths, weaknesses, opportunities, and threats. Strengths. The main financial strengths of the company include its improving profitability, less risky resource structure which is financed in greater proportion by equity, and ability to maximize stockholder wealth through impressive investment ratios. Weaknesses. The company should look into its liquidity as its current assets are not enough to meet short term obligations which could endanger Whitbread in the long run. Opportunities. Through increased profitability and value as an investment, Whitbread faces opportunities to expand its operations. The high value of its stock will allow it to shell out more funds from various investors which are looking for a good alternative investment. Threats. The company is threatened by the increasing economic risk in the countries where it operates. The worsening economic situation in the United States and other countries possibly lowers the demand of the products and services that it offers. On the other hand, it also faces exchange rate risks as its revenues from other countries whose currencies are depreciating can be lower when converted. Appendixes Appendix 1. Profitability Ratios of Whitbread PLC (2007-2008) Appendix 2. Leverage Ratios of Whitbread PLC (2007-2008) Appendix 3. Liquidity Ratios of Whitbread PLC (2007-2008) Appendix 4. Efficiency or Asset Utilization Ratios of Whitbread PLC (2007-2008) Appendix 5. Investment Ratios of Whitbread PLC (2007-2008) References Brealey and Myers 2005, Principles of corporate finance, McGraw-Hill, 8th Edition. Fraser, L. & Ormiston A 2004, Understanding Financial Statements, Pearson-Prentice Hall: Upper Saddle New Jersey Horngren , C. et. al..2000, Accounting.4th ed. New Jersey: Prentice Hall Keown, A.J., Martin, J.D., Petty, J.W., and Scott Jr., D.F, 2005, Financial Management principles and applications, Pearson/Prentice Hall International Edition, 10th Edition. Whitbread Plc Annual Reports 2008, Whitbread.co.uk. Retrieved 09 December 2008, from http://www.whitbreadannualreport0708.co.uk/default.asppid=11 Read More