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Profitability Analysis And Comparison Finance Essay

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Date added: 17-06-26


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ROCE is a comprehensive profitability indicator because it measures managements ability to generate earnings from a companys total pool of capital. It should always be higher than the rate at which the company borrows; otherwise any increase in borrowing will reduce shareholders' earnings. The ratio at the start of the period is 16.9% and at the end of 2012 it reaches to 19% as compare to 129% that ends up 71%. In this area next plc looks very strong. Though there is decrease in the ratio but it is at advantage here.

Return on Share holders' Funds (ROSF)

Return on Shareholders' Fund (ROSF) is the amount of net income returned as a percentage of shareholders' equity. It reveals how much profit a company earned in comparison to the total amount of shareholder equity found on the balance sheet. The return ranges from 16% to 19% except a sudden increase to abnormal event as compare to -371% that represent loss and ends up 195% positive. Next also has advantage here as company has recovered it losses in 2009. Although if industry average is available then this ratio can be interpreted in a much good way but from the data available it is safe to say that the Next Plc is in way better position.

Gross Margin Percentage

The Gross Margin Percentage is one of the most widely used profitability ratios. It represents how much of sales revenue is spent on providing the goods or services sold. The result of the Gross Profit Percentage indicates what is left from sales revenue for operating costs and profit. Generally, the higher the figure, the better it is. The ratio at the start is 14.55 % and after four years it is 13.56 % as compare to NEXT's 28.51% to 30.38%. NEXT has advantage over the Debenhams in this area. Further there is decreasing trends of Debenhams compare with increasing one of NEXT's.

Net Profit Margin Percentage

The net profit percentage is the ratio of after-tax profits to net sales. It reveals the remaining profit after all costs of production and administration expenses have been deducted from sales, and income taxes recognized. In the early year it is 4.19 % and after 4 years it reached to 5.62 % as compare to NEXT which has 14.96% that reached to 16.84% at the end of 2012. Both the companies have increasing trend but overall position of NEXT is better. Further gross profit and operating profit of Debenhams has decreasing trend and it is surprising that company have increasing net profit margin. Possible causes could be non-operating income which is non-reoccurring nature

Earnings per share

The portion of a company's profit allocated to each outstanding share of common stock. Earnings per share serve as an indicator of a company's profitability. Earnings per share are generally considered to be the single most important variable in determining a share's price. The higher the ratio the better it is. Debenhams' ratio at start is 0.09 and after the end of four years it is 0.10. Company ratio is consistent over the period and shows a good performance in that area despite the variation in the profit and increase in the expenses. The ratio is almost in two digits over the period. On the other hand Next start with 1.69 and ends with 2.55 which is way better so it is safe to say that NEXT take a lead here.

Efficiency Analysis and Comparison of both companies

Stock Turnover Period

This ratio shows how many days a company's inventory is hold and replaced over a period of time. If the ratio is low it means cycle of purchasing raw material and turn to finished goods is very short and low investment in inventory and vice versa. The ratio start with 56 days and with changes during the period it ends with 62 days as compare to NEXT's 46 days at start and ends with 56 days .

Debtors Turnover Period

An accounting measure used to quantify a firm's effectiveness in extending credit to its customers. By maintaining accounts receivable, firms are indirectly extending interest-free loans to their clients. So lower the ratio the better it is. Debenhams ratio at the start is just 4 days and at the end with a light change it reached to 3.6 days that is very good. Low ratio as in this case suggests that either major sale of the company is on cash or debtors' management is extraordinary efficient. In either the case company is handling its debtors remarkably. On other hand NEXT has 52 days at start and ends up 60 days which is very high than Debenhams. Although industry average would help it better to analyses the concerned area but from the available data it would be safe to say that the NEXT's management regarding inventory is more efficient.

Creditors Payment Period

This is an estimate of the average time period taken for a Company to pay off its trade creditors. By maintaining creditors, company is indirectly taking interest free loans so the higher the ratio the better it is. The ratio at the start is 58 days and at the end of the period it changes to 57 compared with NEXT's 27 days at the start and ends up 30 days. Debenhams is managing its creditors better than NEXT. Further as compare to debtors it should be higher which is right in the case of Debenhams.

Cash Conversion Cycle

The cash conversion cycle is the length of time between a Company's purchase of inventory and the receipt of cash from accounts receivable. It is the time required for a business to turn purchases into cash receipts from customers. CCC represents the number of days a firm's cash remains tied up within the operations of the business. A cash flow analysis using CCC also reveals in, an overall manner, how efficiently the company is managing its working capital. The lower the ratio the better it is. Company maintains a very efficient cash conversion cycle during the last five year. Debenhams ratio starts with 1.6 and it ends 8.1, although the increase is a negative impact but that is very slight. The company is managing its financial resources very well by restricting the cash flow conversion period to single digit. On the other hand NEXT's ratio start with 71 days and ends up with 87 days which comparatively very high. The main difference is due to the debtors' turnover period.

Financial Position

Simply stating, financial position means the value of assets and liabilities of a company. In other words the overall financial health of a company in terms of its assets, liability and the capital. When the business is growing it becomes very vital to prepare & monitor some key indicators of corporate financial position on consistent basis and to compare them with prior periods to ensure timely and appropriate corporate decisions. Lack of precise and timely information can result in severe consequences. Some of the important KPIs that should be monitored include the following:

Current Ratio

Current ratio measures a company's ability to pay its short-term obligations through its short term assets. Debenhams starts with 0.54 and with changes it ends up 0.63 compare with NEXT's 1.1 in start and 1.54 at the end, which means that for every 1 GBP of current liabilities the companies have 0.54 or at the end 0.63 and 1.1 and 1.54 respectively worth of current assets. Debenhams is facing liquidity issues as it has very low current ratio over the last five years.

Quick Ratio

The quick ratio is stricter test of liquidity as it measures a company's ability to meet its short-term obligations using its most liquid assets. If the acid-test ratio is much lower than the working capital ratio, it means current assets are highly dependent on inventory as in this case. This is not an ideal situation for a company to maintain such a low ratio. Debenhams starts with 0.17 and after five year it ends with 0.17compare with NEXT's 0.65 to 0.91. The ratio depicts that for every 1GBP there is 0.17 worth of liquid asset and NEXT has 0.91.

Gearing Ratio

It is used mainly for analyzing a company's capital structure and thus assessing the company's financial position in the long run. During the earlier years Debenhams ratio is very high which represents that company is under high debts which leads to high interest and low profit available to the shareholders. Company managed its debt effectively during the last three years and financial health has been improved a lot. In the start it is almost 88% and after the end of fifth year it decrease to just 27% that is very significant. On the other hand Next has same trend as Debenhams but NEXT's ratio is very high as compare to Debenhams'.

Interest Cover Ratio

The interest cover ratio measures the amount of profit available to cover the interest payable by the company. The lower the level of interest cover the greater the risk to lenders that interest payments will not be met. If interest payments and capital repayments are not paid when they fall due there can be serious consequences for a company. The ratio of both companies is low during the earlier period which tells that interest cost is high during the said periods and there is not much available to the shareholders. The ratio afterwards improved a lot. Debenhams ratio in the start is 0.5 and with the passage of time it increases to almost 10% as compare to NEXT's 12.77% that increase to 25.99% which is very significant and appreciable.

Dividend Yield

The dividend yield compares the amount of dividend per share with the market price of a share, and provides a direct measure of the return on investment in the shares of a company. Debenhams has not declared any dividend in the last couple of years but the ratio is consistent. The distribution of the dividend depletes the retained earnings of the company. On the other hand NEXT has been declared dividend regularly which is positive sign and advantage over the Debenhams.

Market price per share

Market price is an indicator of the stake-holders view about the worth of the company. It just not shows the net worth of the company and the future expectation from the company. As it shows the intentions of the general public and determine through the forces of supply and demand. Market value of the company's share is 0.48 and after the four years it reached to 1.02 that is a significant improvement. It shows that net worth of the company is increasing. Next start with1.29 and ends with 2.77 which is multiple times greater than Debenhams'.

Vertical analysis of Balance Sheets

Debenhams vertical analysis of current asset shows that there are ample resources available in the form of cash & short term investment during 2009 and 2010. These resources can be managed to minimize the interest cost. Account receivable of both the companies has been increased over the period but managed well. Inventory also has been increased over the period of time in both companies but Debenhams inventory increased more than the NEXT's. Debenhams' prepaid expenses have been comparatively increased. Overall both the companies managed their current asset very well except cash and short term investments by Debenhams. Both companies do not made any major investments in the property plant and equipment during the periods. Debenhams' Intangible has been increase a lot, more than double over the period and on the other hand NEXT's intangibles have been decreased consistently. Debenhams long term investment has been decreased a lot; liquated almost all long term investment. On the other hand NEXT's investments have been increased. Overall current liabilities of Debenhams have slight changes and nothing important variation except the current portion of the long term loans but in case of NEXT it has been decreased over the period. Non-current liabilities' analysis of Debenhams shows that long term loans has been almost paid in 2010 and then again raised in 2011 but the raised amount is much less than the amount paid during the period. NEXT's long term loans has been increased over the period. Other non-current liabilities have grown by 75% over four year in case of Debenhams and decreased by 24% in case of NEXT's. Over all non-current liabilities has no major variation except long term loans.

Corporate Governance

Corporate governance refers to the set of systems, principles and processes by which a company is governed. They provide the guidelines as to how the company can be directed or controlled such that it can fulfil its goals and objectives in a manner that adds to the value of the company and is also beneficial for all stakeholders in the long term. Stakeholders in this case would include everyone ranging from the board of directors, management, shareholders to customers, employees and society. The management of the company hence assumes the role of a trustee for all the others. The financial reporting council formulated and implemented the UK Code of Corporate Governance in 1992. The code of corporate governance not only helps to monitor the companies' performance but also is responsible to attract investments, since the code applicable in UK is of the highest standard. The companies listed on stock exchanges of the country are liable to comply with the requirements of the code and are required to report on how they have applied the main principles of the code and in case of any deviation to disclose the same in their annual report. Hence it is explained on "comply or explain" The code of corporate governance sets out the standards on the composition and effectiveness of the board, risk management, committees, shareholder's relations & internal controls. The board (trustee) is responsible to shareholders for the overall direction and control of its company and specifically reserves certain matters for its consideration. In order to ensure the compliance with the principles of corporate governance the Composition of board represents executive and sufficient independent non-executive directors to evaluate the performance of the company. The principle board committee consists of following three committees: Audit committee Nomination committee Remuneration committee To ensure continuing compliance the board undertakes formal evaluation of its own performance and that of its committees and individual directors. The directors complete appraisals on matters relevant to the board, committee and director performance. A report is presented to and reviewed by the board. Consecutive board meetings are being held to evaluate the performance of the management independently from time to time. Further independent evaluation has been performed by the auditors of the company. Findings of the evaluation are being presented to the board and afterward to the shareholders.

Compliance by Debenhams plc

The board of Debenhams plc acknowledges its responsibility for the long term success of the company, groups strategy & risk management. The board discloses its composition and any changes therein that might have occurred during the period. The board held five meeting during the period which were attended by all the directors and other relevant personnel Specific matters including the Company's business model and strategy, approval of financials, major investments decisions and other matters as required by the code to be undertaken by the board, were considered by the board. Operational decisions were delegated to the committees. The board confirms that there are clear divisions of responsibilities between the Chairman and the Chief Executive. Debenhams plc recognises that the non-executive directors have other business interests outside of the Company and that other directorships bring benefits to the board. The board states that In 2011 the performance evaluation was facilitated by Lint stock Ltd. This year an evaluation of the performance of the board, its committees, the individual directors and the Chairman was conducted internally. The board also identifies the fact that the board is responsible for ensuring that the Company maintains a satisfactory dialogue with shareholders.

Compliance by NEXT plc

NEXT plc identifies the fact that Effective corporate governance is essential to the success of business and states that the Group complied throughout the year under review with the provisions set out in the UK Corporate Governance Code. The Board includes four independent non-executive directors and the Chairman who bring considerable knowledge, judgement and experience to the Group. The board took major policy decisions whilst delegating more detailed matters to its committees and officers including the Chief Executive. The Board also ensured system of internal control and for monitoring implementation of its policies by the Chief Executive. A clear division of responsibilities between the offices of Chairman and Chief Executive as agreed by the board was set out in writing. The board has placed a formal system so as to disclose the interest of the directors in any matter. The performance of the Board, its non-executive directors and committees was formally evaluated during the year. The evaluation was conducted by directors completing a detailed questionnaire, the results of which were compiled by the Company Secretary for review by the Chairman and the Board as a whole.

Ratings given by the independent institute (CSRHUB) are 66 to NEXT plc and 58 to Debenhams plc.

Corporate Social and Environmental Reporting

The corporate social responsibility may be defined as the commitment of business to contribute to the sustainable economic development, working with employees, their families, the local community and society at large to improve their quality of lives. Corporate social responsibility is a concept that the organizations have a responsibility to consider the interests of the customers, the suppliers, shareholders, communities and the ecological considerations in all of their operations. It means the rights of the employees, suppliers, investors; other stake holders should be protected. The activities of the company should not harm the environment in the form of pollution. Every country has enforced such laws so as to ensure that the companies do not deviate from these moral and ethical principals so as to increase their wealth. Both the Companies are taking proper measures to ensure the corporate social and environment issues. There is number of agreements and commitments made to fulfil the duties towards the people and planet and to make it a better place for living. Following are the major areas (i) Supplier code of conduct is designed to be ethical, achievable, auditable, and universal to promote the ongoing development of companies' sources of supply. Such code ensures the timely, efficient and required quantity of raw material delivery and the supplier satisfaction and commitment owing to timely payments (ii) Legal Requirements were duly considered while building the code. (iii) Employment issues are properly handled like: (a) Appropriate employees and management training programs were held so as to acquaint them to the latest practices and procedures Employees compensation is fixed at an appropriate level so as to ensure employee are retained for a long period of time. Working hours are appropriate and are not excessive enough so as to deviate from the labour laws. (b) Employment of children is considered to be illegal (c) Disciplinary practices are implemented to ensure a professional and corporate culture. (d) No gender discrimination is practiced at all the work places (e) Providing a working environment in which our employees can develop to achieve their full potential and have opportunities for both professional and personal development. (f) Safety measures in consultation of professional organizations are implemented so as to ensure the lowest possible work place accidents (g) Employee group insurance is being provided so as to ensure relief in case of any accident. (iv) Appropriate steps are taken to ensure: (a) Customer Service Department incorporates effective procedures in place, for both Retail and Directory customers, for customers to contact through telephone calls, letters and email correspondence, to resolve enquiries and issues in relation to products, operation, policies or the service provide (b) Market research and direct customer approach practices are adopted to have an insight into the customers perspective (c) For the satisfaction of the customers it is ensured that the quality of products is 100%. That product is safe and fit for their intended purpose. Products fully comply with all legislation and standards (iv) Environment issues are considered like controlling the pollution (v) Charity work has been supported a lot. NEXT Plc approached and delivered financial support to 350 charity organizations during the year and paid over three million pounds for the these activities. NEXT has also diverted its excess stock, that previously was dumped, to the charities which makes use of it for their benefit. NEXT Plc is also supporting scrap stores UK. NEXT has worked in partnership to support the work of Doncaster Refurnish for over 3 years. NEXT has also been engaged in collaboration with Oxfam Gmbt to support the social development activities. (vi) Workers' representation should be sufficient (vii) Monitoring, Inspection and assessment is made on regular basis

Rating given by independent institutions

Good Guide has given Debenhams rating of 5.7 out of 10for social responsibility as compare to 6.1 of next plc. Good Guide has given Debenhams rating of 6.4 out of 10 for Environment responsible as compare to 6.4 of next plc. CSRHUB has given Debenhams rating of 52 out of 100 for Basic corporate social responsibility as compare to 58 of next plc.

Conclusion & Recommendation:

A prospective investor has to assess financial aspects of a company before he makes any investment decision. The fact that the non financial factors are also too important is not deniable. Based on our previous detailed analysis, I recommend the investor to invest in the shares of NEXT PLC over Debenhams PLC for the following reasons. (i) Better profit margins over the periods. (ii) Better liquidity position. (iii) Better return on investment (iv) Better financial position (v) Better corporate governance rating (v) Better Corporate, social and environmental rating
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