Assessment Two - Tesco\'s Analysis PDF

Preview

Summary

Tesco's Analysis Report. ...

Description

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

ANALYSIS OF TESCO PLC

Page | 1

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

Assessment Two Submitted by Tanya Kamaly Student Identification Number: 25008729 Company Name: TESCO PLC Course: MSc Accounting & Finance (Level 7) Module: Financial Analysis Tutor: Abdo Hafez Word Count: 3,000 (Excluding all citations, current page, headings, contents, bibliography and the appendix) Submitted on the 3rd of May 2019

Page | 2

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

TABLE OF CONTENT 1. Introduction……………………………………………………………………………….....5 2. Solvency…………………......................................................................................................6 3. Investment………………….………………………………………………………………..9 4. Comparative Analysis………………………………………………………………………13 5. Recommendations…………………………………………………………………………..18 6. Bibliography…………………………………………………………………………….......19

Page | 3

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

GLOSSARY OF TERMS CG – Capital Gearing CR – Current Ratio GPM – Gross Profit Margin IC – Interest Cover OPM – Operating Profit Margin RBS – Royal Bank of Scotland ROCE – Return on Capital Employed ROE – Return on Equity TRT – Trade Receivables Turnover

Page | 4

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

1. INTRODUCTION The pages to follow intend to deliver evaluative information to Sheffieldo.Co who may want to invest in Tesco Plc. The breakdown of this report is centred on Tesco’s Annual Report, their Consolidated Financial Statements and ratios for the year ending 27th of February 2016 and 2017 which have been audited by Deloitte LLP. All through the report, we will weigh the percentage changes of Tesco’s financial variables from 2016 to 2017. The ratios will take into account Tesco’s overall performance, liquidity, investment, activity etc. and on occasions in contrast with Sainsbury’s to demonstrate deeper investigation. Applying the ratios we will evaluate the financial performance and position of Tesco’s from 2016 to 2017 in a manner that should aid Sheffieldo.Co’s investment as to which supermarket gives them the utmost growth in their shares or bonds.

Page | 5

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

2. SOLVENCY Tesco’s Debt to Equity has enlarged from 0.44 in 2016 to 0.51 in 2017. This suggests for the investor in the financial year of 2017 Tesco has still resourcefully engaged their shareholder equity, and debt liabilities in order to generate healthy takings. A ratio of 0.51 signposts to “Sheffieldo.Co” that Tesco’s assets are upheld at 2-to-1 by shareholders to lenders. Put differently Tesco’s stockholders own 66.6p of every £1 of Tesco’s assets while lenders simply control 33.3p of every £1. This should be appealing to budding shareholders like Sheffield.Co as in principle organisations like Tesco exist and operate in the main to create value for their shareholders and Tesco’s debt to equity growing demonstrates this. Say Tesco’s debt to equity was at 1 it demonstrates that stockholders and moneylenders together alike control Tesco’s assets. Tesco’s debt to equity is lower than the supermarket blanket score which is 0.56 (Investing.com, 2019) establishing they are more steady than the sector. Organisations with a larger debt to equity ratio than the sector itself are regarded more risky to shareholders and moneylenders than those with a lower ratio as debt must be settled up but equity does not. Debt also coerces fixed interest outgoings, but then with Tesco’s debt to equity being small they are less perilous to their stockholders as equity is less onerous. Supermarkets that have high debt in some cases cannot shell out for these outgoings. On the flip side if Tesco’s debt to equity was too low and closer to zero this would prompt to shareholders that Tesco hasn’t consummated their borrowing expectations. Therefore shareholders, to my mind, shouldn’t back Tesco if they have a too low ratio since to me they are not distinguishing the rewards of borrowing which are earnings and share price gains. Though Tesco’s debt to equity in 2017 is below 0.56 and at the 50 mark, this is a good pointer that they are implementing their equity and debt competently which means to Sheffieldo.Co they aren’t as risky. Tesco’s Debt to Assets has increased from 0.80 in 2016 to 0.86 in 2017 demonstrating in the year 2017 Tesco has used more borrowings to subsidy their assets which settles the above point of pinpointing borrowing openings. However, as Tesco’s debt to asset has enlarged they may find it worrying to stay afloat thru a recession than an organisation with a lesser ratio since fixed interest outgoings have to be paid under all circumstances if not Tesco will violate its debt agreements (covenant) which will swiftly lead to announcing bankruptcy as there’s no “wiggle-room”, and bankruptcy no one wishes. Although, each year Tesco’s debt to asset ratio is moderately high as Tesco is a supermarket which buys its assets on credit like any other supermarkets. In the supermarket sector borrowings are high and so Tesco’s large debt to asset ratio is anticipated.

Page | 6

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

2. SOLVENCY CONTINUED Tesco’s Interest Cover (IC) has decreased by 14.19% in 2017. Their IC of 4.90 times signposts they can make their interest outgoing almost 5 times, but this has decreased from almost 6 times in 2016 which is thanks to growing their borrowings to buy assets in 2017. Sheffieldo.Co needs to be certain Tesco can pay their bills before putting their £350,000 in which includes their interest pledges, and of course Sheffieldo.Co doesn’t want Tesco’s growth to derail because of interest expenses. Due to Tesco’s IC decrease, this demonstrates an overall weakness in their capability of paying their interest although 5 times is still satisfactory. But, Sheffieldo.Co should still be cautious of this decline as Tesco may be unable to pay its future debts. The sector IC is 7.74 times (Investing.com, 2019) suggesting Tesco is below the sector and necessitates betterment yet the IC is only a replication of the short-term and improvement should be made. For Sheffieldo.Co they necessitate long-term ratios because that is what bears on Tesco’s share price. Tesco’s Capital Gearing (CG) increased from 55.42% in 2016 to 59.53% in 2017 demonstrating an increase of their debt to Tesco’s total debt. This increase in CG insinuates Tesco is a risky investment. In 2017 Tesco’s borrowings had increased by 41% suggesting debt financed many of their acquisitions as acquisitions have grown by 277%. This establishes to Sheffieldo.Co that though CG has increased in truth so has future revenue and Tesco’s share price thanks to their acquisitions subsidised by the little debt taken. Overall, Tesco is in a good place and can make payments to satisfy their long term liabilities and others which guarantee Sheffieldo.Co will gain value from their possible shares, and have a sound mind that Tesco can meet its obligations. Given Tesco’s ratios and esteem it is not like they’ll be going bankrupt overnight. Tesco can make developments in their IC like anyone else. However if Sheffieldo.Co are placing their £350,000 for the single resolve of receiving dividends from their shares over share value they will be disappointed as Tesco’s Dividend Cover in both years was 0.00 as they had not distributed any dividends. This is something Sheffieldo.Co should keep in mind.

Ratios on next page.

Page | 7

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

2. SOLVENCY CONTINUED Year ended 27th February 2016 £m (unless specified) Solvency Long-Term Debt ÷ (LongTerm Debt + Equity) x 100

Gearing 55.42%

Debt to Equity Total Debt ÷ Total Equity 0.44 Debt to Asset Total Debt ÷ Total Assets 0.80 Free Cash Flow to Equity (FCFE) Cash from Operations – Capital 35.77 Expenditure + Net Debt Issued Interest Cover Cash Flow from Operations ÷ 5.71 Times Interest Paid Dividend Cover 0.00 Net Profit After Tax ÷ Dividend Paid

3. INVESTMENT Page | 8

Year ended 27th February 2017 £m (unless specified)

59.53%

0.51 0.86 59.57

4.90 Times

0.00

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

Tesco’s Gross Profit Margin (GPM) has decreased resulting at 5.27% in 2016 and 5.19% in 2017 when matched with its revenue. This is due to a 3.5% increase cost of sales which has eaten into revenue, but if we look at revenue in isolation it has increased and so the cost of sales does have a linear relationship with revenue as it too has increased. Additionally, for the investor Tesco’s Gross Profit (GP) is 2.04% greater in 2017 (albeit marginally). This is thanks to better management of cost of sales with regards to Tesco’s revenue along with the economies of scale from Tesco’s expansion. Their GP has increased by virtue of their wider and greater network of customers which is something investors should bear in mind. Tesco’s Operating Profit Margin (OPM) has dropped in 2017 and Tesco could have been more resourceful in 2017 but because of administrative expenses and the sale of Tesco’s buildings, they weren’t as profitable. For Sheffieldo.Co and their investment much rest on the assumption that these increased costs are a “one-off” respectively to assist in their expansion of new supermarkets, and it is significant for Sheffieldo.Co to note this isn’t a weakening of cost-control as Tesco are increasing shareholder value. Depreciation from their non-current assets in 2017 i.e. building charges has unfavourably affected the OPM, and so is a point of concern for investors as these charges will be carried down. Nevertheless, for Sheffieldo.Co Tesco’s OPM is still impressive since during a period where Tesco had undertaken expansion and acquisitions where their time and resources could have been diverted away from day-to-day goings-on Tesco continued to out-perform. This is significant for investment decision making to know results still can be produced by management in a busy period and demonstrates Tesco’s ability to operate effectively and trigger returns simultaneously. Tesco has performed better than its competitors for example; Sainsbury’s OPM in 2017 was 1.44% in the wake of Sainsbury’s rapid expansion in the UK suggesting Tesco is fundamentally more efficient than Sainsbury’s and so a better investment. Tesco’s Return on Capital Employed (ROCE) has decreased from 4.80% in 2016 to 4.48% in 2017. This demonstrates to investors in the year 2017, not like 2016 Tesco hasn’t as resourcefully engaged shareholder equity, and debt liabilities to create healthy revenue. Decreases in Asset Turnover and OPM are also reasons as to why ROCE has decreased. An increase in Tesco’s ROCE would be attractive for investment opportunities if Tesco decreases their capital costs. Additionally, Tesco’s Earnings per Share (EPS) has decreased from 1.70p in 2016 to -0.49p in 2017. If Sheffieldo.Co is looking for steady dividends the EPS is beneficial for how much Tesco can increase its existing dividend by.

3. INVESTMENT CONTINUED Page | 9

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

Yet, to simply look at the EPS in isolation will not help investment decisions, but rather reviewing the changes Tesco has made historically to its dividends will give Sheffieldo.Co an improved indicator of the actual dividends and size for the future. Tesco’s EPS has continued to decrease historically until 2018 with an EPS of 14.77p but their decrease of -0.49p in 2017 will have a significant influence on their investors since in general, an organisations share price is controlled by the market as to how much they believe a company is worth and the EPS impacts this valuation, and as the EPS has decreased so did the investment of their current shareholders although this was made up for in 2018. To conclude, despite the fall in the ratios Tesco has demonstrated sound management to those who recognise the benefits of using retained earnings as a source of finance for Tesco’s expansion programme in 2017, and the cash flow pressures that will arise, consequently no dividends were distributed in 2016 and 2017. But with retained earnings there is less pressure than meeting interest payments which leads to a better investment for the future.

Ratios on next page.

3. INVESTMENT CONTINUED

Page | 10

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

Year ended 27th February 2016 £m (unless specified) Investment Profit After Tax ÷ Number of Shares Issued Market Price of Share (pence) ÷ EPS (pence) EPS (pence) ÷ Market Price of Share (pence) Dividends Paid ÷ Number of Shares Issued

Year ended 27th February 2017 £m (unless specified)

Earnings per Share (EPS) 1.70p

(0.49p)

Price Earnings Ratio (PE) 66.48

234.57

Earnings Yield 0.93

0.26

Dividend per Share 0.00

0.00

Return on Capital Employed (ROCE) Profit from Operations ÷ Capital Employed (NonCurrent Assets + Current Assets –Current Liabilities) Gross Profit ÷ Revenue x 100 Profit from Operations ÷ Revenue x 100 Profit (after tax) Attributable to Equity Shareholders ÷ Equity x 100

4.80%

4.48%

Gross Profit Margin 5.27% Operating Profit Margin 1.99%

1.82%

Return on Equity 1.76%

(0.53%)

5.19%

3. INVESTMENT CONTINUED – BREAK-DOWN

Page | 11

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

Year ended 27th February 2017 £m Revenue [pp.86] Cost of Sales [pp.86] Gross Profit [pp.86] Profit from Operations [pp.86] Profit for the year [pp.86]

Year ended 27 February 2016 £m Income Statement th

% Change Increase or Decrease

Better or Worse

55,917

53,933

3.68%

Better

(53,015)

(51,089)

3.78%

Worse

2,902

2,844

2.04%

Better

1,017

1,072

(5.13%)

Worse

(54)

(129)

58.14%

Better

Statement of Financial Position Non-Current Assets [pp.88] Current Assets [pp.88] Current Liabilities [pp.88] Non-Current Liabilities [pp.88] Equity [pp.88]

30,436

29,220

4.16%

Better

15,417

14,684

5.00%

Better

(19,234)

(17,866)

(7.66%)

Worse

(20,034)

(17,422)

(15.04%)

Worse

6,414

8,616

(25.56)

Worse

Cash Flow Statement Cash generated 2,558 2,434 5.09% from operations [pp.90] Net cash inflow 1,989 2,126 (6.44%) from operations [pp.90] Net cash outflow 279 (615) 54.63% from investing activities [pp.90] Net cash inflow (1,387) (604) (129.64%) from financing activities [pp.90] Net decrease in 881 907 (2.87%) cash & cash equivalents [pp.90] Percentile Changes from 27th of February 2017 to 27th of February 2016

4. COMPARATIVE ANALYSIS Introduction Page | 12

Better

Worse

Better

Worse

Worse

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

The careful assessment of the consolidated financial statements of organisations is central for the assessment of an organisations entire achievements and set-backs coupled with stronger investment decisions. There are countless tools employed for the exploration of consolidated financial statements though a widely accepted tool is ratio analysis which is convenient for the investigation of Tesco, but also enables for the comparison of contenders in the same market e.g. Tesco and Sainsbury’s. Throughout the pages to follow, the main ambition is to make a comparison amid two dominant supermarkets; Tesco Plc. and Sainsbury’s Plc. over three years (2015, 2016 and 2017) employing profitability, liquidity, efficiency and gearing ratios. Profitability

Gross Profit Margin 7 6 5 4

Tesco Sainsbury's

Growth % 3 2 1 0 2015

2016

2017

2017.5

Years

From the graph it is evident Sainsbury’s has a greater margin than Tesco given the steepness of their line. Sainsbury’s growth in revenue as per all three years of their annual report note their gross profit margin growth is thanks to resourceful management of cost of sales and upgraded advertising strategies which had successfully maximised their sales. Tesco however hasn’t been able to keep up with Sainsbury’s in 2015 though progressively increased in 2016 and 2017. Tesco’s consolidates financial statements has reported low output of sales revenue versus Sainsbury’s even though Tesco has the advantage of more stores to surge its revenue which suggests they may be lacking in their advertisement, which has led to lesser revenue. Sainsbury’s annual report states they have a robust method of debt collection which of course boosts their revenue yet Tesco leaves a wider gap for receivables which has compressed their revenue.

3. COMPARATIVE ANALYSIS CONTINUED

Page | 13

Name: Tanya Kamaly Module: Financial Analysis Student Identification Number: 25008729

However, Tesco in 2016 and 2017 has strongly focused on their expansion programme and risk management which in 2018 develops investment and the share value of investors. Even though Tesco has greater revenue than Sainsbury’s they need to focus on efficiency to grow their GPM. Liquidity

Current Ratio 1 0.9 0.8 0.7 0.6 0.5 Ratio:1 0.4 0.3 0.2 0.1 0 2015

Key: Tesco Sainsbury's

2016

2017

Years Source: Tanya Kamaly

From the above graph nor Tesco or Sainsbury’s were able to complete a ratio of 1 throughout the three years which signpost there is some risk involved with both. As a rule of thumb it is recommended organisations should push for a Current Ratio (CR) of 1 in the supermarket sector however, from the graph it is noticeable that Tesco came out on top with a faintly better CR than Sainsbury’s suggesting Tesco is better able to meet its short-term liabilities than Sainsbury’s which is worthy information for investors as their shares will grow in the forthcoming year. Yet, both Tesco and Sainsbury’s given they don’t have a CR of 1 demonstrate they cannot satisfy all short-term liabilities with their current assets which does bear the question that suppliers may be unwilling to hand over their merchandise on credit or banks to agree to short-term overdrafts. The domino result of this is both their customers – their bread and butter will distrust both supermarkets if they don’t have their items as expected which leads to a drop in revenue and then a drop in the share price impacting the fortune of stakeholders. The rationalisation or contributors as to why both have under-achieved could be due to both holding unwarranted inventory against the diminishing plea of the item. But it could also be an increase in their liabilities as both have taken out additional overdrafts and short-term loans which raise the number of current liabilities to be paid. Sainsbu...