The Kroger Company - Essay Example

?The Kroger Co. (KR) Kroger Co. is a prominent in the retail industry. It operates in more than 2400 retail grocery stores and multi-department stores in 31 states. Kroger Co. stands to fulfill customer needs for groceries and much more. It usually stands among the top five players in 38 out of 42 major markets. Although, most of its competitors have experienced negative sales growth in 2010, Kroger Co. has not failed to keep its shareholders satisfied by steady sales growth in the last 29 quarters. Kroger Co. takes pride in its loyal customer base as approximately one-half of US households have a Kroger loyalty card. This has been a result of Customer 1st strategy that Kroger Co. believes in. It has also been popular among shareholders for its consistent dividend payments. In 2010, it distributed $250 million along with maintaining investment-grade credit rating and reducing long-term debt which eventually resulted in capital gains. Profitability ratios are an indicator of a company’s performance over the year. Profitability ratios include operating profit margin, net profit margin, return on asset, and return on equity (Puxty, Dodds & Wilson 1988). Sales increased by 7.1% to $82.2 billion in 2010, which is more than its competitors. Operating profit margin for the year 2010 was 2.65% with operating profits of $2.182 billion. Return on sales, also known as net-profit margin, were impressive in 2010 with reported net earnings of $1.12 billion to get $1.74 earning per diluted share. Net profit margin for the year was 1.36%. Shareholders are also interested in return on assets and equity. Their decisions are influenced by these ratios therefore; it is essential that a company projects better return on the asset it employs and the equity it takes. For Kroger, return on equity is impressive with 21%. Moreover, Kroger has been reducing its long term debt in the past few years which makes the company less risky to benefit shareholders. Therefore, a return of 21% is notable in comparison to the industry. Return on asset has also been sufficient with 6.3%. Speaking of efficiency, Kroger Co. has performed well in this regard. Efficiency ratios judge the ability of a company to earn from its resources in an effective and efficient manner (Besley & Brigham 2008). These ratios include asset turnover ratio, receivable turnover ratio and inventory turnover ratio. Total Asset turnover is impressive for Kroger Co. as sales are about 3.5 times the total assets. This means that with every dollar of asset provided, Kroger generates $3.5 worth of sales from it. Inventory Turnover ratio has also been inspiring with a multiple of 16.55 times. This means that in a matter of 21 days, inventory is converted into sale. A high turnover rate implies that Kroger Co. is facing high sales therefore there is minimal investment tied up in the inventory (Fabozzi, Peterson & Drake 2003). Still efforts need to be made to increase its turnover rate as investment in inventory yields zero return and a company would always refrain from having its capital tied up in such an investment. Receivable turnover is calculated by dividing credit sales from average receivables. This ratio measures the efficiency of a company to collect its receivables. Kroger Co. is extremely efficient in this regard as it collects its receivables in less than four days which is remarkable. Kroger Co. generates sales of $82.2 billion and not more than 1 billion is kept as receivable means a job well done. Liquidity ratios illustrate the company’s ability to pay off obligations in the short term (Shim & Siegel 2008). Current asset ratio and acid-test ratio are observed closely when liquidity is in question. Kroger Co. has not been impressive with its ability to keep liquid assets. Current ratio which is current asset divided by current liabilities is below 1. This means that to pay off each dollar of liability, Kroger does not have equal amount of liquid assets on hand. Acid test ratio is in a sorry state as well. Inventory constitutes major portion of current asset, with $5billion out of 7.6billion. Therefore, acid test shows that Kroger Co. has $0.33 of highly liquid assets to repay each dollar of short-term debt. P/E multiple for Kroger Co. stands at 11.91. Quarterly earnings have grown by 15.5% therefore; resulting in a higher EPS. P/E multiple is expected to fall more due to soaring income of the company in the near future. Kroger Co. has a high standing among top 10 players in the industry. Its past performances have seen ups and downs. In the year 2009, it witnessed a fall in the sales as overall industry fell due to lack of purchasing power of consumers. However, it has recovered from the dip and is in a growing state. Its ROE is one of the highest in the industry and will continue to be considering lucrative prospects proposed. Analyst expects share to perform well in the future therefore; it is advisable for the investors to hold shares till the third quarter results are published. It is also advised that investors buy the stocks as growth potentials are high in the upcoming future for Kroger Co. Wal-Mart Stores Inc. (WMT) Wal-Mart is a big name in the retail industry. It is highly popular among that class of the society which thinks a lot before they buy. Wal-Mart is engaged in the operation of retail stores in over 50 states of United States. It has six merchandise units namely Grocery, entertainment, stationary and books, health, apparel and home. Wal-Mart believes in providing extensive variety of products and services at every day low price (EDLP) therefore; it has a target market of middle or lower middle class which makes its piece of cake magnanimous. Year over year, Wal-Mart has progressed well and has been able to augment its revenues from $408.1 Billion to 421.8 billion in the current year. In 2010, it declared a dividend of $1.21 per share which boosted positive feelings in the capital market. Wal-Mart has performed well in generating profitability as it is of key concern to Wal-Mart’s shareholders. The reason for satisfied shareholders and huge trading volume in the stock market is growing profitability of Wal-Mart. Operating profit margin which is calculated by dividing operating profit of the company with Sales for the current period has been a positive sign for them (Brigham & Ehrhardt 2010). Operating profit margin has been healthy with 6.1%. Return on sales, more popularly known as net-profit margin, has been impressive in comparison to Kroger. Net earnings are 3.9% of sales which is commendable in comparison to the industry. High profit margin has been the highlight for Wal-Mart in the recent years as it operates on low prices and to maintain net profit margin of such scale is remarkable. It contributed heavily to the recovery of Wal-Mart from 2009. Trends have not been impressive for Wal-Mart especially in terms of liquidity. Wal-Mart has struggled to maintain a suitable position of its liquidity in the recent years. It is rated poorly among major players in the industry which is evident from low current and acid test ratios. Current ratio is below 1 with 0.9. This means that Wal-Mart does not have equal or more current assets to pay off short term obligations. This is a worrying sign for Wal-Mart as it could result in borrowing and augmenting pressure on profit margins. Wal-Mart structure of current assets is similar to Kroger Co. as inventory holds a major share in current asset of Wal-Mart. This has not favored Wal-Mart as highly liquid assets are extremely low for them. With rising short-term obligations, Wal-Mart needs to devise a strategy to manage its cash flows in a way that it does not force the company to borrow more. Acid test ratio is an alarming sign for them. It is calculated by deducting inventory from current assets and then dividing the residual by current liabilities. This ratio helps in identifying highly liquid assets for paying off short term debt. Wal-Mart has not outperformed Kroger Co. in efficient utilization of its resources. Efficiency ratios provide an insight of utilization of company’s resources (Horne & Wachowicz 2008). Its sales are 2.32 times the total assets, which is low in comparison to the industry. Moreover, inventory turnover rate has also been on the lower side considering the diverse range of product it sells. Inventory turnover rate is 11.53 times which means that it takes almost 31 days for Wal-Mart to convert its inventory into sales. Receivable turnover rate is relatively stable for Wal-Mart with 82.33 times. This means that collection of receivable is done in less than five days which portrays favorable standing in the industry. P/E ratio has been declining for the past two years for Wal-Mart. It is ranked relatively low in comparison to the industry. Price-to-earnings multiple for the current year stands at 10.91. This is because of increased earnings from the previous quarter. Market has not taken into account earnings of the company in its share price but anticipations of rise in share price are high. Wal-Mart past performances have seen crest and trough periodically where 2009 was not a prosperous year for them but they eventually recovered from the dip in 2010. Its share prices have been steady which shows that the stock hasn’t fluctuated much but the return is increasing as shares repurchase have been a popular trend for Wal-Mart in the last couple of years. Projections for the future have been shiny for Wal-Mart. Quarterly earnings have been growing at 5.7% (y-o-y basis), which is a glowing sign from an investor’s perspective. The share prices are not expected to decrease if fundamentals are considered to be the driving force for them. Wal-Mart has crossed its recovery stage and stepped into the growth phase now. Although, the growth seems sluggish in the short-run but it will eventually get steeper with time. There are strong recommendations to buy the stock as investors expect the company to perform well in the upcoming future. For risk adverse investors, the suggestion is to hold the stock for the next three-months till the third quarter results are out. Conclusion Wal-Mart and Kroger Co. have been tough players in the industry and will continue to do so in the future. Kroger Co. has relatively been on the weaker side in terms of profitability but has edged in efficiency of its operations. On the other hand, Wal-Mart has worked hard to recover from 2009 downfall and is perfectly placed to grow in the years to come. Both the companies have analyst predictions of either BUY or HOLD for the time being. Analyst expects these stores to perform well but they are highly dependent on the global economic conditions. Therefore, if we assume that the global indicators will stay in favor of these two companies than it is easy to say that shareholders of these two companies will enjoy souring gains in the forthcoming future. Ratio Formula The Kroger Co. (KR) Wal-Mart Stores Inc. (WMT) Current Ratio 0.944 0.89 Acid Test 0.33 0.21 Total Asset Turnover 3.497 2.32 Inventory Turnover 16.55 11.53 Receivable turnover 97.26 82.33 Operating Profit Margin 2.65% 6.1% Return on Sales 1.36% 3.91% Return on Asset 6.29% 8.91% Return on Equity 21.07% 23.91% P/E Ratio(trailing) 11.91 10.93 trailing = Trailing Twelve Months (as of Apr 30, 2011) Note- Values are taken from Wal-Mart Stores Inc. (Wall-Mart Stores Inc. (WMT) 2010) and Kroger Co.’s 2010 annual report (Kroger Co. 2010). Bibliography Besley, S & Brigham, EF 2008, Principles of Finance, Cengage Learning. Brigham, EF & Ehrhardt, MC 2010, Financial Management Theory and Practice , Cengage Learning. Fabozzi, FJ, Peterson, PP & Drake, PP 2003, Financial Management and Analysis, John Wiley and Sons. Horne, JCV & Wachowicz, JM 2008, Fundamentals of financial management, Prentice Hall. Kroger Co. 2010, 'Kroger Co. Annual Report'. Puxty, AG, Dodds, JC & Wilson, RMS 1988, Financial management: Method and Meaning, Taylor & Francis. Shim, JK & Siegel, JG 2008, Financial Management, Barron's Educational Series. Wall-Mart Stores Inc. (WMT) 2010, 'Wal-Mart Annual Report'. Read More