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MBA 503 Final Project Kassim Zaid Southern New Hampshire University May 15, 2019

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Introduction As a growing coffee shop, it is important for the business to be looking towards growth always. This growth can be arrived at by paying critical attention to the competition in our business sector. A major competitor of our establishment is the Starbucks Corporation. In this analysis, we will take a serious financial look of the Starbucks Corporation and examine how the corporation fairs in business. This analysis should help us see how we can put our enterprise in competition to better compete with Starbucks. Horizontal and Vertical Analysis Accounts Receivable: Based on data from Starbucks’ fiscal 2018 annual report horizontal analysis of account receivable are shown on the table below. Accounts receivable

693.1 870.4 -177.3 Similarly, the vertical analysis of accounts receivable are illustrated as follows.

-20%

Accounts receivable

2.9% 6.1% 693.1 870.4 Starbucks’ assets increase during these two years, as such there was also increase in the percentage of account receivable compared to total assets. As indicated in Starbucks’ fiscal report, Starbucks’ preparation of financial statements is in conformity with GAAP. This requires management to make estimates and assumptions that affect the reported amounts of assets. In addition to this, the company’s receivables are mainly comprised of receivables for product and equipment sales, royalties from the licensees, as well as receivables from CPG customers. The company’s allowance for doubtful accounts is calculated based on historical experience, customer credit risk and application of the specific identification method. As of September 30, 2018, and October 1, 2017, Starbucks’ allowance for doubtful accounts was $8.0 million and

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$9.8 million, respectively. This approach by Starbuck implies that there may be an element of uncertainty in the calculations of receivables. Asset Acquisition, Depreciation, and Amortization: In examining the horizontal analysis of Starbucks’ tangible assets in 2017 and 2018, it seen that there was an increase. Fixed assets

5,929.1 4,919.5 1,009.6 21% This was matched with an increase in depreciation and amortization expenses between the two years. Depreciation & Amortization

1,247.0 1,011.1 235.9 23% This indicates the company is trending towards growth by investing more in both tangible and intangible assets as the depreciation and amortization increased by 23% during the two years. Vertical analysis of tangible assets as a percentage of the total assets are displayed below. 34.2% 24.5% 4,919.5 5,929.1 As for depreciation and amortization expenses, the percentages for the two years are shown as Fixed assets

follows. 5.0% 4.5% 1,247.0 1,011.1 According to its 2018 fiscal report Starbucks Cooperation indicated that it analyzes tangible Depreciation & Amortization

assets for impairment when the carrying value of such assets may not be recoverable. When evaluating for impairment, the carrying value of the asset is compared to the asset’s estimated future undiscounted cash flows. Long-lived assets are grouped with other assets and liabilities at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities. Starbucks evaluates goodwill and indefinite-lived intangible assets for impairment annually during the third fiscal quarter, or more frequently if an event occurs that would indicate that impairment may exist. When evaluating these assets for impairment, the

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company performs a qualitative assessment to determine whether it is more likely than not that a reporting unit is impaired. Impairment calculations contain uncertainties because they require management to make assumptions and to apply judgment when estimating future cash flows and asset fair values. Debt Financing: Horizontal analysis reveals that between 2017 and 2018 long term debt rose by 131% whereas the current portion of the long-term debt increased by 91%. This is shown on the table below. Debt financing Other LT liability

9,090.2

3,932.6

5,157.6

1,430.5

750.9

679.6

131% 91%

Looking at the vertical analysis we see that, when compared to total liabilities and equity, the percentage of long-term debt changed from 27.4% to 37.6% between 2017 and 2018. On other hand the changes for the current portion of long term debt were from 5.2% to 5.9%. This is shown below on the table.

Debt financing

9,090.2

37.6%

3,932.6

27.4%

5.9% 5.2% 1,430.5 750.9 Other LT liability These changes in debt indicate an increase in borrowing by Starbucks Cooperation. Starbuck’s methods of debt financing include the use of revolving credit facility and a commercial paper program which are used for various needs of the corporation. When it comes to long-term debt Starbucks issues long-term debt in an underwritten registered public offering. In August 2018, the company issued long-term debt in an underwritten registered public offering, which consisted of $1.25 billion of 7- year 3.800% Senior Notes due August 2025, $750 million of 10-year

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4.000% Senior Notes due November 2028 and $1 billion of 30-year 4.500% Senior Notes due November 2048. Liquidity Ratios:

As it is known liquidity ratios show the ability of an organization to pay its short-term debts and obligation. Based on the calculations of the current ratio, Starbucks as a corporation is well capable of meeting its short-term obligations as the current ratio was 1.25 for 2017 and 2.20 for 2018, which were both above 1. These calculations show that the corporation improved greatly between the 2 years since the current ratio increased significantly. In addition to this we see that for this ratio the industry average of this ratio is 1.31, therefore Starbucks performed far better than the industry in 2018 but not in 2017. Similar results are obtained for the calculations of the quick ratio which evaluates how readily assets excluding inventory can be converted to cash to meet obligations. The industry average of this ratio is 1.19, therefore Starbucks performed extremely well in 2018 with a quick ratio of 1.69. However, in 2017 the company performed below average with its quick ration being 0.84. Overall based on these calculations, Starbucks Corporation shows a strong position in terms of its ability to meet current obligations. Solvency Ratios:

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Debt ratios show to what degree a company is on debt financing (Grant & Ross, 2019). Based on the calculations performed Starbucks’ debt-to-asset increased from 0.62 to 0.95 between 2017 and 2018. This shows more borrowing by the company between these two years. This indicates a trend of the company towards growth by means of borrowing. Moreover, when the debt-toequity ratio is calculated for the company between the two years, a drastic increase from 1.63 to 19.54 is observed. This again, is explained by a profound increase in the company’s debt. The other side of this could be that Starbucks is perceived as a credible corporation by creditors which means the corporation can then borrow large sums of money for its operations. Profitability Ratios:

As one would expect profitability ratios demonstrate how well a company generates earnings (Kent, 2019). Starbucks’s net profit margin was 18.3% and 12.9% for 2018 and 2017 respectively. These findings indicate Starbucks net income after taxes was substantially large for both years, especially when the industry average of 6.33% is taken into consideration. This clearly shows that Starbucks is outperforming its competitors. The gross profit on sales tells a similar story of Starbucks performing above average. The industry average of this ratio is at

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48.45% but Starbucks performed at 59.6% in 2017 and at 58.8% in 2018 showing and that the corporation is increasingly doing better than the average. Rules of Financial Reporting It is the objective of any organization to prevent fraud and unintentional error in the normal operations of the business. This prevention is achieved by internal control. Internal control is what an enterprise does to safe guard assets, promote the following of company polices, encourage efficiency operations, insure accuracy and reliability in accounting records, and abide by required regulations (Harrison et al, 2015). The discussion below will demonstrate how Starbucks performs internal control. Control Procedures: To achieve the objectives of internal control, companies use control procedure. This is achieved by keeping adequate records, comparing and other checks, using proper approvals, separating duties, and physically protecting assets from theft (Harrison et al., 2015). Control procedures must be reported because companies must show how and what they do to comply with methods and procedures that assure financial statements are valid and accurate (Kenton, 2018). This allows companies to comply with Sarbanes-Oxley Act that was instituted by U.S. Congress in 2002 due to the scandals at Enron, Tyco and WorldCom (Kenton, 2018). Based on Starbucks 2018 Form 10-K the company outlines that as part of its disclosure of control procedures, it examined how effective the design and operation of its controls procedures during the fourth quarter of fiscal 2018 (Starbucks Annual Report, 2018). The company also reported no changes that affected or were likely to compellingly impact internal control over financial reporting (Starbucks Annual Report, 2018). With the acquisition of East China joint venture, the company outlined that it is recording and evaluating the nature of internal controls in

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East China and it is planning to include East China in its regular checks from the first quarter of the 2019 financial year (Starbucks Annual Report, 2018). Segment Information: For any business, FAS 131 mandates the reporting of segment information to be in line with the information seen by management even when it is not of significant value (U.S. SEC, 2001). This information is needed because it makes it possible for investors and regulators to see the company’s performance with the lens of management just as how management checks performance and comes to its decisions (FASB, 1997). This breakdown is also needed because it allows outside examiners of an enterprise to more insightfully comprehend the corporation's performance, better evaluate future cash flows, and come to more critical conclusions of the corporation (FASB, 1997). Starbucks includes many reportable segments on its 2018 Fiscal Report. Some of these segments are interest expense, external customers revenues, revenues from various operating segments within enterprises, interest revenue, and expenses from depreciation, amortization, and depletion. (Starbucks Annual Report, 2018). The breakdown of these segments brings more clarity to the financial position of the corporation. Estimate: As part of GAAP guidelines and more specifically ASC-275 in conjunction with ASC-605-15, outlines are laid out that mandate the disclosure of estimate and assumptions that affect future revenue recognition (U.S. SEC, 2017). This may impact some asset accounts such as receivables. One area in which Starbucks reports estimates and assumption is in the calculations of impairments of future cash flows (Starbucks Annual Report, 2018). Estimates are also disclosed in the examination of fair value of intangible assets and this is also done when it comes to the calculations of liabilities that are associated with risks that are retained by the company (Starbucks Annual Report, 2018).

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Investments and Fair Value: The disclosure of investments and use of fair value is required by FASB for any public traded company under FAS 157 (FASB, 2006). This standard was established because only one consistent method was needed for projecting fair value with the lack of quote prices (Kenton, 2018). On the consolidated statement of cash flows, Starbucks shows the monetary value of its investments (Starbucks Annual Report, 2018). The corporation also reveals on Note 1 its detailed elaboration of various securities, and its investments through equity and cost methods (Starbucks Annual Report, 2018). Furthermore, Starbuck describes its 3leveled fair value pricing approach and the various inputs utilized in its calculations. Leases: Reporting of leases is required because under FAS 13/ASC 840 and leases can be viewed from the perspective of assets or liabilities. These usually comes in the form of operating leases or capital leases (FASB, 1976). On Note 10 of its annual report, Starbuck discloses its lease structure. The corporation reports sublease income of $12.3 million, $15.5 million, and $14.6 million, for the fiscal years 2018, 2017, and 2016 respectively. Moreover, the company elaborated on its lease finance agreements and on how its assets are amortized in depreciation, amortization, and interest expenses on its consolidated statement of earnings (Starbucks Annual Report, 2018). Conclusion: The ratio analysis performed here reveal that Starbucks Corporation exhibits a strong financial standing. The company’s level of performance is well above average in almost all the categories of examination. This is a clear indication that the company is well managed and has valuable products that are desired by its customers. The company also strategically plans for growth through effective ways of borrowing. With its borrowing the company has put means through which debt financing is done without jeopardizing it strong financial position. In addition to all these, Starbucks Corporation does well in financial reporting to show how it

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abides by the rules of financial reporting. The corporation goes above and beyond the requirements of all disclosures. This shows how the corporation is well managed at the top. It also reveals that the corporation wishes to remain in the excellent of terms with its stakeholders and regulators. The findings here indicate that for our coffee shop to do well then there will be need for precise planning. Our establishment will not only have to imitate the path of Starbucks, but we have to implement ways of doing the imitation in better and more productive ways.

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References FASB. (2006). Statement of financial accounting standards No. 157. Retrieved from https://www.fasb.org/jsp/FASB/Document_C/DocumentPage? cid=1218220130001&acceptedDisclaimer=true FASB. (1997). Statement of financial accounting standards No. 131. Retrieved from https://www.fasb.org/jsp/FASB/Document_C/DocumentPage? cid=1218220124541&acceptedDisclaimer=true FASB. (1997). Statement of financial accounting standards No. 13. Retrieved from https://www.fasb.org/jsp/FASB/Document_C/DocumentPage? cid=1218220124481&acceptedDisclaimer=true Grant, M & Ross, S. (2019). What is a Good Debt Ratio?. Retrieved from https://www.investopedia.com/ask/answers/021215/what-good-debt-ratio-and-what-baddebt-ratio.asp Harrison, W.T., Horngren, C.T., Thomas, C. W. (2015). Financial Accounting (10th ed.). Pearson. IRS. (2018). Publication 535 (2018), Business Expenses. Retrieved from https://www.irs.gov/publications/p535#en_US_2018_publink1000209185 Kenton, W. (2019). Profitability ratios definition. Retrieved from https://www.investopedia.com/terms/p/profitabilityratios.asp Kenton,

W.

(2018).

Accounting

Control.

https://www.investopedia.com/terms/a/accounting-control.asp

Retrieved

from

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Kenton, W. (2018). Financial Accounting Standard 157 (FAS 157). Retrieved from https://www.investopedia.com/terms/f/fasb_157.asp United States Securities and Exchange Commission. (2018). Starbucks Fiscal 2018 Annual Report.

Retrieved

from

https://s22.q4cdn.com/869488222/files/doc_financials/annual/2018/2018-AnnualReport.pdf

United States Securities and Exchange Commission. (2017). Topic 13: Revenue Recognition. Retrieved from https://www.sec.gov/interps/account/sabcodet13.htm#A.4.b

United States Securities and Exchange Commission. (2001). Division of corporation finance: International

financial

reporting

and

disclosure

Issues.

Retrieved

https://www.sec.gov/divisions/corpfin/internatl/issues0501.htm#P484_61896

from

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Appendix A: Horizontal and Vertical Analysis Vertical Analysis Accounts Accounts receivable Fixed assets Intangible assets Goodwill Depreciation & Amortization Debt financing Other LT liability

Year 2018 Amount Percent 2.9% 693.1 24.5% 5,929.1 4.3% 1,042.2 14.7% 3,541.6 5.0% 1,247.0 37.6% 9,090.2 5.9% 1,430.5

Year 2017 Amount Percent 6.1% 870.4 34.2% 4,919.5 3.1% 441.4 10.7% 1,539.2 4.5% 1,011.1 27.4% 3,932.6 5.2% 750.9

2018

14,365.60

2017

2018

22,386.80

2017

Base amount for Balance Sheet: 24,156.4 Base amount for Income Statement: 24,719.5 Starbucks ($in millions, except per share data Horizontal Analysis Accounts Accounts receivable Fixed assets Intangible assets Goodwill Depreciation & Amortization Debt financing Other LT liability

2018 $ 693.1 5,929.1 1,042.2 3,541.6 1,247.0 9,090.2 1,430.5

2017 $ 870.4 4,919.5 441.4 1,539.2 1,011.1 3,932.6 750.9

Increase or Decrease Amount (177.3) 1,009.6 600.8 2,002.4 235.9 5,157.6 679.6

Percent -20% 21% 136% 130% 23% 131% 91%

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Appendix B. Key Financial Statement Ratios...