The analysis of financial statements is critical for the various stakeholders of an entity. For instance, investors compare various financial statements of different companies so as to be able to make an objective decision on where to invest. In this regard, investors carry out a comparison of financial statements (audited) for the companies they are interested in using a number of approaches including but not limited to ratio analysis as well as comparative analysis. Successful investors always insist on ‘doing their homework’, that is, carrying out a detailed industry as well as company analysis before making investments.
In this text, I choose two companies in the retail industry and come up with a comprehensive, detailed ratio as well as trend analysis of both companies in addition to comparing the two companies against industry norms. I also come up with a detailed analysis of the industries the companies operate in and compare the two countries in terms of business as well as legal environment amongst other issues.
The identified companies for analysis in this case include the Wal-Mart stores which are based in the U.S and the Dashang Group in china. Both of these companies are in the retail industry and they are recognized as market leaders in the jurisdictions they operate in.
Though headquartered in the US, Wal-Mart stores operate globally through franchises. Wal-Mart was founded by Sam Wal-Mart in 1945 and since then, it has grown to be one of the biggest retailers in the world with an annual turnover of 405,046 million U.S dollars as at 31st March 2010.
When it comes to the Dashang Group, it was established in 1960 and with its headquarters in Dalian, it is taken to be one of the largest retail chains in china. For the financial year ended 31st March 2010, Dashang registered a turnover of 76,733 million US dollars.
The companies I consider for analysis in this case, that is, the Dashang Group and the Wal-Mart Stores are both in the retail industry. According to Boone et al. (2009) the retail industry is made up of companies that offer for sale to consumers finished products. With a big chunk of the GDP in most countries around the world being informed by retail consumption, the retail industry performance has come to be taken to be an indicator of the performance of the economy of a given company.
A brief analysis of the operating environment
According to Finne et al. (2009), the U.S business environment is considered to be among the world’s best when it comes to the legal structures in place. However, those who with to successfully do business in this environment must first of all appreciate the country’s diversity. When it comes to the legal dimension, the Federal governments as well as county and state governments are responsible for enforcement of the bulk of laws that govern the country. Taxes are imposed by the responsible jurisdiction and all the businesses operating in a given jurisdiction must comply with a variety of taxes in a given jurisdiction. With the U.S. recovering steadily from the global economic slump, analysts estimate that the potential of companies to perform well shall be enhanced.
When it comes to china, the business environment has been regarded as ‘highly inviting’ and by dint of being the second largest economy in the world as far as the PPP or what is known as the purchasing power parity is concerned. In the recent past, we have seen the Chinese government going ahead to enhance the country’s investing climate and in this regard, there has been a commendable infrastructural improvement in china over the last few years.
The US retail industry
Boone et al. (2009) notes that the total U.S. retail industry sales totaled to about 4.1 trillion U.S dollars as per the 2009 data released by the U.S. Census bureau. However, this was a significant drop from the performance of the industry the previous year. The fall was blamed on the downturn in economic activity that started off in 2009 and informed one of the worst recessions since the Great Depression of the 1920s. The aggregate decline was also registered in the various retail stores. However, with the recovery of the economy that has been informed by the stimulus program offered by the government, major retail stress have seen an increased profitability going by the interim statements for 2010.
It is important to note that when growth is considered, the retail industry remains to be the second amongst the various US industries. The U.S retail industry has also been taken to be one of the largest employers in the marketplace and with that in mind, we have global brands including Disney store, Apple as well as Wal-Mart based in the U.S. In the U.S alone, we have close to 400,000 individuals deriving their livelihood from Wal-Mart. Boone et al. (2009) notes that close to 11% of the U.S employment opportunities are derived from the retail industry. According to Finne et al. (2009), single-store businesses characterize the U.S retail industry.
The Retail Industry in China
According to Finne et al. (2009), for a long time, the growth of the Chinese retail has been largely inhibited by the tendency of the Chinese people to execute purchases from small stores as well as shops located in their neighborhoods. However, in the last two decades, there has been a significant shift in this and this has been reflected by the growth of retail chains in the same period. A look at the data released by the China Chain Store and Franchise association shows that the Chinese retail market continues to grow by close to 13% annually. Analysts estimate that in the next one or so decades, the growth of the same shall hit 17% per annum.
A comparison of Wal-Mart and Dashang
According to Walton (2000) ratio analysis is one of the most important as a well as effective tool as far as a company’s financial statements qualitative analysis is concerned. On computation, ratios provide a valid as well as reliable comparison of the performance of a single company over time, the industry or even a number of companies operating in the marketplace.
It is however important to note that for ratios to be entirely effective as far as the analysis of financial statements is concerned, they should be utilized for the comparison of companies operating in the same industry (Walton 2000). It should be noted that the ratio analysis I carry out below with regard to both Dashang and Wal-Mart is derived from the most recent financial statement for the companies i.e. for the year ended 31st March 2010.
Wal-Mart and Dashang: An analysis of ratios
The current ratio concerns itself with solvency. It shows the ability of a company to settle its short term obligations. The current ratio is given by dividing the current assets with the current liabilities. For our two companies;
The current ratio of Wal-Mart = current assets/current liabilities
= 48,331/55,561 = 0.87
What this essentially means is that for every 1 dollar of short term obligations Wal-Mart owes to the outsiders, it has 0.87 with which to settle the same. This essentially means that as at the moment, Wal-Mart cannot be able to settle its obligations (short-term) as they fall due.
For Dashang, current ratio = current assets/current liabilities
= 7450/7714 = 0.96
This essentially means that for every 1 dollar of short-term obligation Dashang owes to outsiders, it has 0.96 with which to settle the same. From the perspective of current ratio, it is clear that Dashang is in a better position to settle its short term obligations as compared to Wal-Mart.
Quick ratio is a basic measure of an entities liquidity. It is given by dividing the summation of cash and accounts receivable by the current liabilities.
Quick ratio = cash + accounts receivable/ current liabilities
For Wal-Mart = (7907+ 4144)/ 55,561 = 0.21
For Dashang = (424+ 909)/ 7714 = 0.17
For the case of Wal-Mart, a quick ratio of 0.21 essentially means that for every 1 dollar of short term obligations Wal-Mart has to settle, the company has 0.21 cash and cash equivalents with which to settle the same. For the case of Dashang, a quick ratio of 0.17 essentially means that for every 1 dollar of short term obligations Wal-Mart has to settle, the company has 0.17 cash and cash equivalents with which to settle the same. This essentially means that Wal-Mart is better placed to settle short term obligations without putting so much reliance on inventory.
Debt to worth ratio
The debt to worth ratio concerns itself with the measurement of financial risk and it is derived by dividing the total liabilities figure with the net worth of a firm
Debt to worth ratio = total liabilities / net worth
For Wal-Mart = 99,957/170,706 = 0.58
For Dashang = 18,261/23093 = 0.79
A debt to worth ratio of 0.58 for the case of Wal-Mart essentially means that for every 1 dollar of net worth that the stockholders have invested, Wal-Mart owes $0.58 debt to all its creditors. On the other hand, a debt to worth ratio of 0.79 for the case of Dashang essentially means that for every 1 dollar of net worth that the stockholders have invested, Dashang owes $0.58 debt to all its creditors. It is hence clear that Dashang owes less to its creditors than Wal-Mart for every single dollar invested.
Net margin ratio
The net margin ratio is a basic measure of the net profit level. It is derived by dividing the net profit before tax with the sales figure. That is;
Net margin = net profit before tax/ sales
For Wal-Mart, = 22,066/405046 = 0.05
For Dashang, = 2967/76733 = 0.03
This essentially means that in the Case of Wal-Mart, for every $1 dollar of sales made, Wal-Mart produces 0.05 dollars of profit (Net). Similarly, in the Case of Dashang, for every $1 dollar of sales made, Dashang produces 0.03 dollars of profit (Net). A look at this gives brings one to a conclusion that Wal-Mart earns more of net profit for every dollar of sales made.
Sales to assets ratio
Sales to assets ratio concerns itself with charting the efficiency of total assets as far as generation of sales is concerned. It is given by dividing the total sales with the total assets.
Sales to assets = sales/total assets
In the case of Wal-Mart = 405046/ 170,706 = 2.37
In the case of Dashang = 76733/ 23093 = 3.32
In the case of Wal-Mart, sales to assets ratio of 2.37 essentially means that for every $1 invested in total assets, the entity a sales value of $2.37. However, when it comes to Dashang, a sales to assets ratio of 3.32essentially means that for every $1 invested in total assets, the entity a sales value of $3.32. It is clear therefore that for every single dollar of current assets invested, Dashang generates more in sales.
Return on assets
The return on assets ratio charts the efficiency of total assets as far as the generation of net profit is concerned. It is therefore a measure of how many dollars of net profit are generated for each single dollar invested in assets (Total). It is derived by dividing net profit with the total assets.
Return on assets = net profit before tax/ total assets
For the case of Wal-Mart = 22,066/170,706 = 0.12
For the case of Dashang, = 2967/23093 = 0.12
Surprisingly, both Wal-Mart and Dashang have the same return on assets. This therefore means that for both Dashang and Wal-Mart, a net profit before tax of 0.12 cents is generated for every single dollar invested in assets.
Return on investment
The return on investment is said to be an efficiency ratio and with that in mind, it is concerned with charting how efficient the net worth is as far as the generation of net profit is concerned. It is derived by dividing net profit before tax with the net worth of the entity.
Return on investment = net profit before tax/net worth
For the case of Wal-Mart, = 22,066/170,706 = 0.13
For the case of Dashang, = 2967/23093 = 0.12
What a return on investment of 0.13 means for Wal-Mart is that the entity generates a total of 0.13 cents for every single dollar invested in net worth. On the other hand, a return on investment of 0.12 means that in the case of Dashang, the entity generates a total of 0.12 cents for every single dollar invested in net worth. For an investor looking for a higher return on assets, then he or she would consider investing in Wal-Mart for it generates a slightly higher return on investment than Dashang.
The inventory turnover is classified as a measure of specific efficiency and it is derived by dividing the cost of goods sold with the inventory. It basically measures inventory usage rate expressed in annual terms.
Inventory turnover = cost of goods sold /inventory
For the case of Wal-Mart, = 304,657/ 33160 = 9.18
For the case of Dashang, =58958 /4902 = 12.02
In the case of Wal-Mart in the above scenario, it essentially means that for every single fiscal year, the average dollar inventory volume is used up a total of 9.18 times. On the other hand, when it comes to Dashang, an inventory turnover of 12.02 time essentially means that for every single fiscal year, the average dollar inventory volume is used up a total of 12.02 times. It is therefore clear that inventory is used up more times in Dashang than in the case of Wal-Mart. It is important top note that though this ratio may not be important for service companies, it ends up being real useful in the case of companies operation in the retail marketplace like Wal-Mart and Dashang as it charts the efficiency of each as far as inventory usage is concerned.
Accounts payable turnover
The accounts payable turnover is a measure of the accounts payable payment rate per year. It is given by dividing the cost of goods sold with the accounts payable
Accounts payable turnover = cost if goods sold/ accounts payable
For the case of Wal-Mart = 304,657/ 30451 = 10.00
For the case of Dashang, = 58958/ 3890 = 15.15
For Wal-Mart, an accounts payable turnover of 10 essentially means that payment for the accounts receivables average dollar volume is done 10 times in the fiscal year concerned. On the other hand, for the case of Dashang, an accounts payable turnover of 15.15 essentially means that payment for the accounts receivables average dollar volume is done about 15 times in the fiscal year concerned.
A brief analysis of the companies going forward
Analysts estimate that the U.S retail industry shall continue to grow going forward. Further, the retail industry is expected to grow the economy by availing close to 14% of the total employment opportunities in the U.S by the year 2015. Finne et al. (2009) further notes that those companies that embrace ecommerce shall increase their revenues going forward. Already, Wal-Mart has restructured for purposes of enhancing e-commerce. This has been through the establishment of Global.com which is a business unit within Wal-Mart that is charged with foreseeing the company’s eCommerce growth both at the home front as well as internationally. Analysts note that if the platform is to be fully successful, then Wal-Mart shall have a potential to increase its revenues by up to 75% in the next five years. However, when it comes to Dashang, efforts are yet to be made as far as the establishment of an ecommerce strategy is concerned. Finne et al. (2009) notes that based on the fact that ecommerce shall be one of the main drivers of growth for players in the retail industry, Dashang needs to focus less on its “bricks-and –mortar” outlets and instead focus more on the utilization of the ecommerce platform to boost sales.
It is also important to note that when it comes to Dashang, it is set to encounter stiff competition from other retailers from around the world making forays into the Chinese marketplace. This according to Boone et al. (2009) is because Global Retail Players continue to see the Chinese retail marketplace as a profitable marketplace in which to do business given the growth rate of the country.
From the analysis carried out for both Dashang and Wal-Mart, each investor would have a specific aspect to look out for. However, as already noted, mot investors are interested on the return on investment as they are most interested in a company or entity that shall give them a higher return for every single dollar of investment they make depending on their risk appetite. However, all the other ratios are useful on their own as they give an important insight on the efficiency as well as the ability/likelihood of a given company to continue doing business going forward.
Boone, L.E. & Kurtz, D.L. (2009). Contemporary Business 2010 Update. John Wiley and Sons
Finne, S. & Sivonen, H. (2009). The Retail Value Chain: How to Gain Competitive Advantage through Efficient Consumer Response (ECR) Strategies. Kogan Page
Walton, P. (2000). Financial statement analysis: an international perspective.
Business Press, Thomson Learning