BSB 6300 Corporate Finance - Semester B 2013/14 ASSIGNMENT PART A: FINANCIAL STATEMENT ANALYSIS Mustafa Hassan (201102031) Husain Abdulla Ali Ebrahim Ali (201100230) Ahmed Isa (201100677) Fatima Haider (201101348) Tutor: Fahad Ali Question 1: Accounting Standards: Based on the annual report for both "Tesco and Sainsbury" it has been found that both parties prepare their financial statements in accordance with International Financial Reporting Standards (IFRS) and International Financial Reporting Interpretation Committee (IFRIC) interpretations as endorsed by the European Union, those parts of the Companies Act 1985 applicable to companies reporting under IFRSs. Therefore, the comparison between the two competitors will be consistent as they both follow the same accounting standards. Economic Standards: According to the annual report of Sainsbury the Group’s principal activities are grocery and related retailing. And According to the annual report of Tesco As described in the Report of the Directors, the main activity of the Group is that of retailing and financial services. The common economic activities between the two competitors are grocery retailing related retailing, therefore the comparison between the two competitors is consistent as well as the inventory turnover. Question 2: J SAINSBURY: TESCO: Annual Growth in sales: The net sales of SAINSBURY is growing in a stable and positive way by an average of 5.61% yearly growth rate. Annual Growth in sales: The net sales of TESCO is growing in a stable and very positive way by an average of 12.59% yearly growth rate. Annual growth in net income: the net income growth of Sainsbury has dropped from 2004 to 2005 by 9.86%, while it has grown massively by 407.81% from 2005 to 2006. From 2006 to 2007 the growth rate has continued to increase by 1.23%, while it has decreased again from 2007 to 2008 by 12.16%. Annual growth in net income: Tesco has a very stable and positive growing rate in its net income from the year 2004 to 2008, with an average yearly growth rate of 12.82%. On the other hand we can notice that in last year (2008) it only increased by 1.74% which is relatively low compared to the previous years. As we can see the growth rate of the net income in We can conclude that Tesco has a very positive and Sainsbury is extremely unstable. consistent annual growth rate in their sales and net income. Comment: Finally, it is obvious that both competitors are doing very well in terms of growth in their Sales figures. On the other hand, we can clearly see that Sainsbury has unstable growth rate in their net income, while Tesco on the opposite is doing very well in their net income growth rates. Question 3: SAINSBURY: TESCO Net Cash Flow - Operating Activities: It seems that they are doing very well from their operations, as they are receiving cash for their products and services. Positive inflow of cash. Net Cash Flow - Operating Activities: They are receiving very well cash inflow from their operations. Positive Inflow of cash. Net Cash Flow – Investing: As we can see they are investing heavily on their Capital Expenditures in order to produce more in the future. Out flow of cash. Net Cash Flow - Investing: It seems that they are investing heavily on their Capital Expenditures and investments in order to improve their operations. Out flow of cash. Net Cash Flow – Financing: Although they are investing heavily on their operations it seems that they are not receiving good financial support for their investments or there is no good Financial cash inflow, as they are paying Cash Dividends and Long Term Debt. Negative Outflow of cash. Net Cash Flow - Financing: They are receiving very good financial support for their investments from the Common Dividends and also from the long term borrowing. Positive inflow of cash. Question 7: Solvency ratios: In general, Solvency ratios are used to indicate a company’s financial power and measure it to how it can meet their long-term obligations. Looking at the numbers, the solvency ratios can help the investors or analysts how a company can keeps on dealing with its long-term debt obligations. The greater the solvency ratios the better a company is performance to meet their long-term obligations and debts, in contrast , the lower the solvency rations the worse the company can meet it debts and greater the financial risk and struggle to keep their debts down that it will face in the future. At first, under solvency ratios we have debt to equity ratio which is an indicator to how much a firms is using a leverage which is the amount of borrowing money from outside and institutes for example. Here we can see that from calculating for Tesco and Sainsbury that Tesco has a greater debt to equity ratio in the five years period in compare to Sainsbury and even to its mean, which indicates that Sainsbury is using less equity to cover their debt which is a good thing. Second of all we have debt to capital ratio which is also used to measure the financial leverage however compared to its capital. Using this ratio can help investors to have an idea of a company’s financial structure and how it is operated. Here we also can see that Tesco’s debt to capital ratio more than Sainsbury which means that Tesco’s financial strength is weaker due to its high debt payment. Thirdly, we have assets to equity ratio which is a measurement of how much a company’s asset is financed though their equity. Tesco here has lower assets to equity ratio compared with Sainsbury which means that Tesco uses less equity to finance their assets which is a good thing. Finally we have interest coverage which is an indicator of how many times an organization can meet and cover their interest charges. Here Tesco has greater interest coverage than Sainsbury which makes it safer. Question 8: DuPont analysis is a more in-depth analysis of how a company can creates value to its shareholders. Assets in this analysis measured at gross book value rather than net book value for the reason to make a higher ROE which is return in equity. Here we have the three steps DuPont analysis which contains net profit margin, asset turnover, and financial leverage as equity multiplier. Net profit margin is used to calculate the amount of profit a company produces from its revenue, and here Tesco has a greater net profit margin than Sainsbury over their years and this a good indicator. Asset turnover measures the use of asset in the company, and Sainsbury here has a bit better ratio than Tesco Financial leverage is used to calculate a company’s leverage, Tesco here has lower financial leverage than Sainsbury which makes it better because of having less leverage means counting more on its cash. The ROE of Tesco is better than Sainsbury which indicates that Tesco is doing much better and it’s more preferable to invest in. also, the increase of ROE here is due to greater net profit margin not because of financial leverage or asset turnover which is a very positive sign. Also, we can see that we have two different ROE numbers under DuPont and profitability, because of using a decomposed break down 3 steps which is more in depth and uses net profit margin and asset turn over with equity multiplier, where it uses the asset on equity only. Question 9: Recommendations: Annual Growth in sales: The annual growth in sales for J SAINSBURY is growing in a stable and positive way but it is growing in a more stable and more positive way for TESCO as the average growth for Tesco is 12.59% while it is only 5.61% for J Sainsbury, both parties are doing well but Tesco is doing better in terms of annual growth in sales. Annual growth in net income: As for Annual growth in net income, we can see that is very unstable for J Sainsbury as it drops for one year and then increase sharply in the next year and then drop again, while in Tesco the annual growth in net income is growing in stable and positive way with no negative figures, which shows that Tesco is doing much better than J Sainsbury in terms of annual growth in net income. Net Cash Flow: Operating Activities: According to the cash flow statements for both companies it seems that both of them are doing well in terms of operating cash flow as they are both growing year after year but we can see that the operating cash flow in Tesco is much greater. Investing: Both parties are investing heavily according to the Investing cash flow figures, but we can see that Tesco is investing much more than Sainsbury in a consistent and growing way. Financing cash flow: Both companies were having negative numbers in their Financing cash flow at the early years, but we can see that Tesco is receiving positive investing cash flow in the last two years from the long term borrowings, which means that Tesco has more positive cash inflow than Sainsbury. The inflow and outflow in Tesco is higher than Sainsbury and growing more. Profitability Ratios: 1- ROA: The higher, the better and Tesco is better because it is in a more profitable position. 2- ROE: For high growth companies, we expect a high percentage of ROE which is in Tesco. 3- Gross Profit Margin: Tesco has higher percent, which gives higher percent than Sainsbury, then Tesco is obviously better to go with. 4- Operating Profit Margin: Tesco has higher percent; therefore it can pay for its fixed costs. 5- Net Profit Margin: Since Tesco holds higher percent, it makes it better that Sainsbury because profits are high. 6- Cash Flow-to-Sales: Tesco is better as it holds, specifically in all of profitability ratios, percent more than Sainsbury, which makes Tesco more favorable and in a positive financial strength. Liquidity Ratios: 1- Quick Ratio: The higher the ratio, the better since the company will be in a better liquidity position. Thus, Sainsbury is better as it has higher ratios. 2- Current Ratio: Sainsbury holds higher ratios, which makes it better because it will be more capable to pay its obligations. 3- Cash Ratio: In this ratio, Sainsbury is better because it is the one that has the higher figures, and this makes it pay its short-term debt quicker. 4- Cash Flow Ratio: It makes Tesco better since it has greater ratios in most of the years, and therefore it is in a more financial health and more capable from it to pay back its debt. Efficiency Ratios: 1- Inventory Turnover: Sainsbury possesses greater ratios, and this is good because it implies that the company’s sales are strong or it is bad because there is a poor buying. 2- Receivables Turnover: Sainsbury holds the higher figures, which makes it good in operating a cash basis and in collecting account receivables. 3- Days Inventory On Hand: The lower days the better and it is lower in Sainsbury, because inventory on hand will be in lower days. 4- Days of Sales Outstanding: Sainsbury holds the higher results, which makes it better because it will receive the revenue faster and this allows it to reinvest and make more sales rapidly. 5- Total Assets Turnover: Sainsbury has greater ratios, so the company is generating more revenues per dollar of assets. Solvency: Overall Tesco is doing better than Sainsbury when talking about solvency and their long-term obligations and it has a very high interest coverage which makes it safer to invest and can borrow more cash to invest in its business. DuPont analysis: Sainsbury has a slightly better asset turnover, but Tesco has a better net profit margin, lower financial leverage and higher ROE ratio. Therefore, the DuPont analysis suggests that Tesco can create more value to its shareholders. The overall figures for the financial statements for both companies indicates that Tesco would be a better investment choice than Sainsbury.