Financial Ratios Analysis of Nestlé Berhad PDF

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The report provided computation of financial ratios for Nestlé Berhad for FY2014 and FY2015. Analysis of the company’s liquidity, activity or efficiency, debt or leverage, and profitability were then made based on the ratios computed. Recommendations were then given to improve the company’s financia...

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TABLE OF CONTENTS

CHAPTER 1: INTRODUCTION...................................................................................................2 CHAPTER 2: ANALYSIS & DISCUSSIONS................................................................................3 2.1

Computation of Financial Ratios for Nestlé Berhad for 2014 & 2015.............................3

2.2

Analysis & Discussions of the Computations of Financial Ratios...................................4

2.2.1

Analysis of the Liquidity Ratios...............................................................................4

2.2.2

Analysis of the Activity or Efficiency Ratios............................................................6

2.2.3

Analysis of Debt or Leverage Ratio........................................................................8

2.2.4

Analysis of the Profitability Ratios..........................................................................8

CHAPTER 3: RECOMMENDATIONS.......................................................................................11 3.1

Eliminating unproductive assets...................................................................................11

3.2

Assessing and eliminating unnecessary overhead costs.............................................11

3.3

Effective policy and agreement credit..........................................................................12

CHAPTER 4: CONCLUSION....................................................................................................13 CHAPTER 5: REFERENCES....................................................................................................14

CHAPTER 1: INTRODUCTION Based on Nestlé corporate profile stated that the history begins in 1866, with the foundation of the Anglo-Swiss Condensed Milk Company. Henri Nestlé develops a breakthrough infant food in 1867, and in 1905 the company he founded merges with Anglo-Swiss, to form what is now known as the Nestlé Group. The history also begins when Nestlé’s founder, launches his ‘farine lactée’, the combination of flour and milk in Vevey, Switzerland. It combines cow’s milk, wheat flour and sugar. The reason of developing this idea is to tackle high mortality rates as the consumption by infants who cannot be breastfed. Since his name in German for “little nest”, Henri Nestlé decided to use a bird’s nest as his trademark. Today it’s one of the best known logos around the world, communicating Nestlé’s emphasis on nutrition for a healthy life. This company started business by two registered one in Vevey and one in Cham. Until now the company expanded and has factories around the world except the main seven factories in Switzerland, six in Great Britain, three in Norway, and one each in the United States, Germany, and Spain. Over the 150 years Nestlé still used the tagline is Good Food, Good life in helping people live more enjoyable, healthier lives and bring them products they can trust. The successful of proven when Nestlé has been ranked as No.1 in the Fortune 500 Global List of Companies in the world as the most profitable company. It is the biggest food company in the world with a market capitalization of around 210 billion Swiss Francs. It has a primary listing on the Swiss Exchange and secondary listing on Euronext.Nestlé The wide range of Nestlé over 8000 brands of products include baby food, dairy products, breakfast cereals, frozen food, pet food, snacks, beverages like tea and coffee and mineral water. Some of the highest selling products of Nestlé are Nescafe, Kit Kat, Nesquik, Maggi and Smarties. Nestlé invested an average of 100 million each year for the protection of the environment in our factories with the aim to maximise the production of goods while minimising consumption of resource and at the same time reduce waste and emissions. Nestlé focus for lower-income consumers in many countries; Nestlé is marketing a range of products at affordable prices. Although low in cost, they provide a balanced diet by compensating for local dietary deficiencies, and combine good taste with convenience and relevant nutrition.

CHAPTER 2: ANALYSIS & DISCUSSIONS 2.1

Computation of Financial Ratios for Nestlé Berhad for 2014 & 2015 FINANCIAL RATIOS Current ratio = Current Assets/ Current Liabilities

Liquidity Ratio

Quick Ratio = (Current Asset – Inventory) / Current Liabilities Net Working Capital = Current Asset – Current Liabilities

Activity / Efficiency Ratio

Inventory Turnover = Cost of Goods Sold / Inventory Average Collection Period = Account Receivables / Sales x 365 Total Asset Turnover = Sales / Total Assets

Debt / Leverage Ratio

Debt Ratio = Total Liabilities/ Total Asset x 100% Gross profit Margin = Gross Profit/ Sales x 100%

Profitability Ratio

Operating Profit Margin = Operating Profit/ Sales x 100% Net Profit Margin = Net Income / Sales x 100% Return on Total Assets = Net Income/ Total Asset x 100%

2014 893,350 / 1,306,084 = 0.68 times (893,350 – 370,291) / 1,306,084 = 0.40 times

2015 1,015,412/1,524,627 = 0.67 times (1,015,412 – 414,262) / 1,524,627 = 0.39 times RM1,015,412 – RM1,524,627 = - RM509, 215

RM893,350 – RM1,306,084 = - RM412,734 3,108,981 / 370,291 = 8.40 times

2,972,500 / 414,262 = 7.18 times

504,540 / 4,808,933 x 365 = 38 days

581,918 / 4,837,957 x 365 = 44 days

4,808,933 / 2,303,296 = 2.09 times

4,837,957 / 2,488,330 = 1.94 times

1,526,159 / 2,303,296 x 100% = 66.3 %

1,779,734 / 2,488,330 x 100% = 71.5 %

1,699,952 / 4,808,933 x 100% = 35.35%

1,865,457 / 4,837,957 x 100% = 38.56%

724,947 / 4,808,933 x 100% = 15.08 %

760,177 / 4,837,957 x 100% =15.71 %

550,384 / 4,808,933 x 100% = 11.45 %

590,733 / 4,837,957 x 100% = 12.21%

550,384 / 2,303,296 x 100% = 23.90 %

590,733/ 2,488,330 x 100% = 23.74 %

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2.2

Analysis & Discussions of the Computations of Financial Ratios

Financial statements of a company shall be analyzed in order to enable the company to evaluate its financial performance as well as to enable the company to make optimal financial decisions that may have future impact on the actions and directions taken by the company. In order to analyze these financial statements, financial ratios computed based on the information extracted from the financial statements of a company can be compared for the purpose of analyzing the performance of the company (Gibson, 2008). There are two types of ratio comparisons available which are cross-sectional analysis and time series analysis. Cross-sectional ratio analysis refers to the analysis that may be carried out on a company in relation to the industry in which the company operated. The analysis will focus on comparing the financial performance of a company with the industry average in which it operated in (Investopedia, 2016). Time series analysis on the other hand focus on analyzing the performance of a company by comparing the current performance of the company with its previous performance. The ratio comparison that will be used to analyze the financial performance of Nestlé Berhad in this report is the time series analysis in which the financial ratios for Nestlé Berhad for two years, 2014 and 2015, will be computed and compared to evaluate the financial performance of the Company. 2.2.1

Analysis of the Liquidity Ratios

The first financial ratios that will be analyzed in this report is the liquidity ratios. Liquidity ratios will focus on the ability of a particular company to pay off its short-term debt obligations or in other words, its current liabilities, as they become due, as well as its long-term debt obligations as they become current. In simpler words, these ratios will show the cash levels of a company and the its ability to turn other available assets into cash to be utilized in paying off its current liabilities and other current obligations that the company may have (Gibson, 2008). There are three main elements of liquidity ratios which are current ratio, quick ratio, and net working capital. Current ratio calculates the firm’s ability to meet its short-term obligations by utilizing its current assets. The current ratio is an important indicator of the liquidity of a company as it ensures that the company will have enough cash or current assets to pay off its current liabilities as it becomes due within the next year. A higher current ratio is more favorable as it shows that the company can make it current liabilities payment more easily. As for Nestlé, from the computation made above, we can conclude that the current ratio for the Company almost remained the same in the year 2014 and 2015 with 0.68 times and 0.67 times respectively. This ratio shows that Nestlé Berhad only has enough current assets to pay off 68%

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of its current liabilities in the year 2014 and 67% in the year 2015. This indicates that Nestlé Berhad is highly leveraged and highly risky. The next liquidity ratio is quick ratio. Quick ratio is also known as acid-test ratio. It is a liquidity ratio that measures the ability of a particular company to pay its current liabilities when they become due by utilizing the quick assets available in the company. Quick assets refer to the assets that can be converted into cash within 90 days on in the short-term. Cash, cash equivalents, marketable securities, short-term investments, and

accounts receivable are

considered as the quick assets (Rist & Pizzica, 2014). If a firm has enough quick assets to cover its short-term liabilities, the firm be able to pay off its debts without having to sell of any of its long-term assets. Higher quick ratio is more favorable to a company as it shows that there are more quick assets available as compared to the current liabilities in a company. In the case of Nestlé Berhad, the Company’s quick ratio for the year 2014 is 0.40 while its quick ratio for the year 2015 is 0.39. Again there is only a slight decrease in the quick ratio of the company. The amount of quick ratio of Nestlé Berhad indicates that the Company has not enough quick assets that can be utilized to pay off its current liabilities. The Company is only able to pay off 40% of its current liabilities by using its quick assets in 2014, and 39% of its current liabilities in the year 2015. The last liquidity ratio is net working capital. Net working capital is a liquidity calculation that is computed to measure a company’s ability to pay off its current liabilities with current assets. As according to Leach (2010), if a company can’t pay off its current obligations with its current assets, it will be forced to use its long-term assets, or income producing assets, to pay off its current obligations. This can lead decrease in operations, sales, and may even be an indicator of more severe organizational and financial problems. Net working capital is calculated by subtracting a company’s current liabilities from its current assets. A positive net working capital is obviously better than a negative one. A positive net working capital may indicates that the company is able to generate enough cash or other current assets from its operations to pay for its current obligations. As in the case of Nestlé Berhad, the net working capital of the Company as calculated above is - RM412,734 in the year 2014 and - RM509,215 in the year 2015. From the calculated amount, we can see that there is a decreased in the net working capital of the Company of RM96,481 from the year 2014 to the year 2015. The net working capital for Nestlé for both years are also negative, showing that the operations of Nestlé aren’t producing enough current assets to support the company’s current debts. It’s a sign that the short-term liquidity of Nestlé is not in a good position and that the Company has more current

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liabilities that will become due within the next year as compared to the available current assets that can be utilized for the purpose of paying those liabilities when it becomes due. In overall, Nestlé Berhad has not enough currents assets or other assets convertible into cash in short-term to cover its current liabilities once it becomes due in the coming year. This shows that the Company is highly leveraged and depends more on liabilities to finance its operations as compared to its available assets. In fact, from the computation of the liquidity ratios above, we can also see that the Company’s liquidity has decreased slightly in the year 2015 as compared to its previous year, 2014. 2.2.2

Analysis of the Activity or Efficiency Ratios

Efficiency ratios are the second type of financial ratios that are normally computed in order to evaluate the performance of a company. Efficiency ratios are calculated to measure the extent of how well a company utilizes its assets to generate its income. Efficiency ratios will often look at the period it takes for the company to collect cash from its customers or the period it takes for the company to convert its stocks or inventories into cash, or in other words, to make sales (Leach, 2010). The first efficiency ratio that we will analyze is the inventory turnover ratio. This ratio indicates the relative effectiveness of the inventories in a company are managed by comparing cost of goods sold with the average inventory for a period. This ratio will measure the number of times the average inventory is turned, or in other word, sold during a given period of times. The higher the number of times in which the company managed to turned or sold its inventories in a year, the better control that the company has towards its inventories. It will show that the company does not overspend by buying too much inventories and wastes resources by storing inventories that may lead to a higher holding cost or storing cost. It also shows that the company can effectively sell the inventory it purchases. In the case of Nestlé, as computed in the table above, Nestlé’s inventory turnover ratio for the year 2014 and 2015 are 8.396 times and 7.175 times respectively. The figures shows that in the year 2014, Nestlé managed to turn its inventories for a total of 8 times during the year, and a total of 7 times in the year 2015. This shows a decrease in the number of times in which the inventories of Nestlé were turned from the year 2014 to the year 2015. This indicates that Nestlé was more efficient in managing its inventories in the year 2014 as compared to the year 2015 whereby the Company managed to sell off its entire inventory for a total of 8 times during 2014 and only managed to do the same for 7 times in the year 2015.

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The second efficiency ratio that will be analyzed is the average collection period. Average collection period refers to the average time it takes for the company to collect payments from its account receivables. A short collection period means prompt collection and better management of receivables. A longer collection period may negatively affect the shortterm debt paying ability of the business. It is expressed in days and will represent the quality of receivables collection of the company (Gibson, 2008). Average collection period is calculated by dividing account receivables with the credit sales of the company and multiplying it with the total number of days available in a year. The average collection period for Nestlé is 38 days for the year 2014, and 44 days for the year 2015. It means that Nestlé needed a total of 38 days to collect all its receivables from its debtors in 2014 and 44 days, an increase of 6 days, in 2015. As what can be observed from the computation of the average collection period between the two years, Nestlé took longer to collect its receivables in the year 2015 as compared to the year 2014. This indicates that the Company managed to collect its account receivables more effectively in the year 2014 as compared to the year 2015. The last efficiency ratio that will be analyzed in this report is the total asset turnover. Total asset turnover ratio measures a company’s ability to generate sales from its assets. It determines the overall efficiency of the company in utilizing its available assets to generate sales for the company. This ratio is calculated by comparing the total sales generated by a company with the amounts of total assets that the company has. The total asset turnover ratio will calculate sales as a percentage of assets to show how many sales are generated from each RM1 of the company assets. Since this ratio measures how efficiently a firm uses its assets to generate sales, so a higher ratio is always more favorable than a lower ratio. As for Nestlé Berhad, the total asset turnover ratio for the Company for the year 2014 and 2015 are 2.09 times and 1.94 times respectively. This means that the Company managed to generate RM2.09 of sales for every RM1 of assets invested in the Company in 2014, and RM1.94 of sales for every RM1 of assets invested in the year 2015. From the ratio, we can see that the ratio for the year 2015 showed a slight decrease of 0.15 times as compared to the previous year indicating that Nestlé able to efficiently manage its assets to generate more sales in the year 2014 as compared to the year 2015. Higher turnover ratio in 2014 means the Company was using its assets more efficiently during that year as compared to the year 2015. In overall, Nestlé Berhad showed a better performance in managing its available assets to generate sales for the Company in the year 2014 as compared to the year 2015. The Company managed to collect its receivables from its debtors faster, turn its inventories into sales more times, and generate more sales from every RM1 invested in its assets in the year

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2014 than it was in the year 2015. This indicates that the Company’s overall efficiency in managing its assets to generate sales has decreased from year 2014 to 2015. 2.2.3

Analysis of Debt or Leverage Ratio

Debt or leverage ratio is the third financial ratio that will be analyzed in order to evaluate the performance of Nestlé from the year 2014 to the year 2015. Debt ratio is a solvency ratio that measures a firm's total liabilities as a percentage of its total assets. The ratio will help to project a company's ability to pay off its liabilities with its assets. Since the ratio measures a company’s total liabilities as a percentage of its total assets, it will thus reflect on the financial leverage of that company. Companies with higher levels of liabilities compared with its assets are considered as highly leveraged and more risky (Leach, 2010). The debt ratio is calculated by dividing total liabilities by total assets. In analyzing the result of the calculation, a lower ratio debt ratio is more favorable than a higher ratio. In the case of Nestlé Berhad, as computed earlier in this report, the debt ratio for Nestlé in the year 2014 is 66.3% and 71.5% in the year 2015. It shows an increase of 5.2% in the year 2015 as compared to the previous year. This percentage indicates that the Company’s liabilities make up a total of 66.3% of its available assets in the year 2014 and 71.5% in the year 2015. The increase in the debt ratio in the year 2015 reflects that the company has either increased in terms of its liabilities or has decreased in terms of its assets for that year. It also means that the Company is more financially leveraged in the year 2015 as compared to the year 2014. 2.2.4

Analysis of the Profitability Ratios

The last financial ratios that will be analyzed in this report are the profitability ratios. Profitability ratios measure the firm’s use of its assets and control of its expenses to generate an acceptable rate of return (Rist & Pizzica, 2014). Th...