Fundamentals of Financial Management - Research Paper Example

RUNNING HEAD: Business Appraisal Business Appraisal of Executive Summary Tesco can benefit from its internal environment by knowing its strengths of profitability and exceptional long-term competitive strategy to help itself as well in correcting its weaknesses of generally lower liquidity and solvency as against competitors. It can benefit also from the external environment by taking advantage industry opportunity of possibly recovering from the effects of recession in years to come and protect itself from industry threats of high availability of product substitutes, high bargaining power of buyers, high intensity of rivalry by competitors, relative ease of entry by new entrants and high bargaining power of suppliers. The strategy can be accomplished by maintaining its low prices as continual respond to the changing needs of its markets. It diversification efforts to more products would continue to protect also itself from industry threats. Investing in research and development cost could be another way protects the company further from industry threats. 1.0 Introduction Tesco PLC (or “Tesco”), based in the United Kingdom, operates under the retail industry. It has expanded operations outside the UK and it now considered as international retailer. Its being the UK leader in the grocery retailing, and its success internationally could explain its being considered world’s third largest retailer in terms of gross sales (Tesco, 2010a, 2010b). From being originally a UK-focused retailer specializing in food and drink, the company’s expansion should include its eventual diversification both by products and geographically. Its present business on clothing, financial services, health, car and dental insurance, electronics, telecoms, retailing and renting DVDs, and software speak for the magnitude of its diversification. Geographical diversification produced as retailing and associated activities outside the United Kingdom including that of Japan, Malaysia, Poland Hungary, the Republic of Ireland, Slovakia, China, The Czech Republic, India South Korea, Thailand, Turkey, and the United States (MSN, 2010a). This paper demonstrates an organization’s need to be knowledgeable of the influence of both its internal and external environment in order to have effective and appropriate decisions for the organization and for promoting good management. 2.0 Business Appraisal All organizations need to be aware of the influence of both internal and external environments as both are parts of the decision making process. A wise decision maker should know itself firms in terms of its strengths and weaknesses and its industry opportunities and threats. The industry opportunities are what make the industry attractive or give more chances of gaining profits while industry threats are what make the industry unattractive or produce fewer chances. A strategically oriented company through its management must be able to take advantage these industry opportunities and protect itself from industry threats. Accomplishing its objectives by employing correct strategies responsive to both internal and external environments, would have the effect of making appropriate decisions and promote good management. 2.1.1 Internal Environment: Nature, methods of analysis—appraise your organization in relation to literature reviewed. The internal environment is the aspect in which the firm can exercise greater control compared with the external environment. How to understand the internal environment requires analysis of an organizations resources and capabilities. The purpose is evidently to understand how these circumstances might be used to create competitive advantage in the delivering goods and services to customers. Competitive advantage means doing something better than competitors do Resources, which are either tangible or intangible describes any inputs, which may be utilized by an organization in order to produce outputs. The tangible ones could encompass human resources such as those issues related to number and type of staff. Does the company’s staff or people have particular skills and qualities such as flexibility, adaptability or commitment to bring the company to its competitive level of performance An example of resource could customer orientation or expertise and skill in one aspect in delivering goods or service. (Jack, 2005). Resources may either be financial and non-financial resources. Financial resources, including variety of factors such as profitability, holdings, levels of debt and equity (Brigham and Houston), access to funds for future development, and relationships with key financial stakeholders. Is it easy to secure funds when needed from either the bankers or shareholders? (Jack 2005). This part will use financial analysis (Helfert, 2001) as a way to measure financial resources of Tesco based on the company’s financial statements. Non-financial resources would include physical/operational resource and this may encompass operating procedures, premises, internal systems and equipment. A company, for example may point to its unique good systems that it may use rapid development and product customizations as key resources. (Jack 2005). Under non-financial sources, this will look into unique characteristics of the company from other competitors. 2.1.1.1 Financial Analysis Financial analysis compares the overall financial situation of Tesco using ratio analysis based on its financial statements as retrieved from its Annual Report for year 2009 (Tesco, 2010a) and prior year. Tesco appears to more profitable compared with industry average. The company had higher 4% net profit margin for 2009 as against that of industry competitors at 1.97 %. It better profitability appears clearer in terms of return on assets (ROA) where Tesco had 5% in 2009, which is more than double against industry average of 2.14%. The return on equity (ROE) almost speaks similarly, where the Tesco had 17% in 2009 as against industry average of 5.10%. Another profitability ratio that can be useful is the return on capital employed (ROCE). This ratio considers only the capital employed by having total assets as denominator after reducing from the same the amount of current liabilities and numerator for computation would still be the net income compared with ROE and ROA. Tesco’s ROCE showed high positive ratios of more than 10% for both years of 2009 and 2008. Unavailable industry data for ROCE may not allow any comparison with competitors but the company is evidently better than average competitors are when it comes to profitability. See Appendix I As to liquidity, Tesco can be evaluated as to its strengths. If it can pay its currently maturing obligations on time then it is liquid (Meigs, Meigs & Meigs, 1995; Helfert, 2001). Tesco’s current asset ratios for years 2009 and 2009 are below 1.0 respectively and appeared lower than industry average of 1.02 for. Hence, the company is less liquid than its competitors are, it must be considered a weakness for the company.. As to its gearing, the company also was in worse position with its debt to equity ratios of more than 1.0 for years 2009 and 2008 as against industry average of 0.44. Note that the higher the ratio, the less favorable would it be Tesco from the point of view of an investor and is indicative that its stocks being more risky investment (Helfert, 2001). 2.1.1.2 Exceptional characteristics of the company Inimitable or exceptional features of the company can be known by determining those not possessed by ordinary competitors while providing a competitive advantage. Since the company claims to have a consistent strategy for growth, the same may also be considered as company strength. This could enable Tesco to outdo competitors in terms of sales and profits despite the crisis that has affected many parts of the world economy even at present and which is believed to have started at the latter part of 2007. Since Tesco operates in many countries, which did escape the effects of the crisis, its capability to increase revenues and profits (Tesco 2010) only proves such strength. 2.1.2 External Environment: Nature, methods of analysis – appraise your organization in relation to literature reviewed The external environment would include the macroeconomic environment and the competitive environment. The management of the business must be able to see the industry within the bigger economy and since each kind of industry responds to the economy differently, studying the industry characteristics would afford the owner or decision-maker the proper way to identity the industry opportunities and threats. An industry may be defined as group of firms or companies, which have similar or closely related products. These companies are therefore necessarily competing to each other in their desire to have more profits. It is therefore expected to one company may be using a strategy that would outdo the others. The demand for products or goods or services in the market is what names the industry. Thus, the following are examples of industries: bank industry, telecommunication industry and retail industry (Jack, 2005). For Tesco to do strategies, this section will make use of how to position itself in relation to changing macroeconomic environment and determining its opportunities and threats using the Porter’s five forces model. 2.1.2.1 Macro Environmental Analysis The United Kingdom, the US and many parts of the world witnessed significant macro trends in for the past decade years along with the development of various industry particularly the telecommunication industry. The last three years also showed the vulnerability to economic changes that the growths in the economy for early years could not be kept permanently as there are times to go down as well. Such was the effects of much felt recession in the economy, not only in UK but also in many parts of the world and which came about as result of the financial crisis. With rising trends of Internet and telecommunication triggering many changes, volatility in the business environments would only be expected to be experienced. But production of undeniable marks in business particularly as revealed in keeping the world economy functioning by various governments in the industry, players must also be reacting and managing well in order to attain its objectives which get more exposed to risks because of the changing environment. Such developments have bound more business entities and many people as to interact to each other and created more demands for various needs and wants of people. These left companies finding themselves expanding and diversifying in not only making more varied products and services to already existing markets but even to different parts of the world as many companies gets globalized. Tesco should be able therefore to see the trends in demands for its products. The recession should bring the industry opportunity of possibly recovering from its effects. It should be interested in knowing whether it should be maintaining its present size or it should be expanding in the light the changes in the macroeconomic environment. 2.1.2.2 Industry Analysis using Porter’s Five Forces The five forces model by Porter (1980) would afford Tesco to know its industry opportunities and threats. One force under the model is threat of availability of product substitutes, which can be considered high because retail products generally address basic needs so the continuing effects of recession make people to look for lower price products than usual. The effect would to bring competition by industry players to offering reduction in prices and thereby affect the profitability or attractiveness of the industry. Another force under the Porter’s model is the bargaining power of buyers, which can be considered high in evaluating the retail industry. The category is high because of the basic nature of the products such as food, groceries, clothing such as those served by Tesco, usually bear low switching cost by buyers as they can change brands for some products in the industry without much difficulty. Still another force to evaluate the retail industry is the intensity of rivalry by competitors, which can be considered high also as evidenced by the competition for lower prices in the retail industry. Another force is relative ease of entry by new entrants in the retail industry since coming in does not required much capital in the retail industry, the latter being not capital intensive. The final force in the model is the bargaining power of suppliers, which should be considered high due to the numerous manufacturers of consumer products in the industry. 3.0 Conclusion The present strategy of Tesco is diversification as can be analyzed from the most expansions of Tesco’s business in its products and geographically by going more international. The company can make use of its strengths of profitable and unique long-term competitive strategy and help correct its weakness of generally lower liquidity and solvency in relation to competition. It can also take advantage industry opportunities of possibly recovering from the effects of recession in the near and immediate and protect itself from industry threats of high availability of product substitutes, high bargaining power of buyers, high intensity of rivalry by competitors, relative ease of entry by new entrants and high bargaining power of suppliers 4.0 Recommendations The company should maintain its lower prices to respond continually to the changing needs of its markets. It should continue its diversification to more products as a way of protecting itself from industry threats. It should also invest in research and development cost to protect the company from industry threats and make use of its strengths. Appendices Appendix 1 – Summary of Financial Ratios; Source (Tesco, 2010; Reuters, 2010) References Brigham, E. and Houston, J. (2002). Fundamentals of Financial Management, Thomson South-Western, US Helfert, E. (2001). Financial Analysis: Tools and techniques: a guide for managers. McGraw-Hill Professional Jack, Keith (2005). Video demystified a handbook for the digital engineer. Newnes Meigs, R,. Meigs, W., & Meigs, M. (1995). Financial Accounting. McGraw-Hill, New York, USA MSN (2010). Company Report . Retrieved 8 Nov 2010 from http://moneycentral.msn.com/companyreport?Symbol=TSCDF Porter (1980). Competitive Strategy, Free Press , London, UK Reuters.com (2010). Industry Ratio. Retrieved 8 November 2010 from http://www.reuters.com/finance/stocks/financialHighlights?symbol=TSCO Tesco (2010a). Annual Report in 2009. Retrieved 8 November 2010 from http://www.tescoplc.com/annualreport09/downloads/ Tesco (2010b). Company Website. Retrieved 8 November 2010 from www.tesco.com Read More