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Financial Analysis Report of Tesco Plc

6041 words (24 pages) Business Assignment

16th Dec 2020 Business Assignment Reference this

Tags: Business AssignmentsFinance

Abstract

This essay looks into a financial analysis of Tesco plc carried out by looking at its balanced scorecard and carrying out a detailed financial ratio analysis of the company. The goal of this essay is to determine whether an investment being carried out into Tesco is considered to be profitable and how the company compares to its competitors. The balanced scorecard is first seen based on the financial, customer, internal process and learning perspective seen at the company. This shows that financially the company has improved its performance and has expanded its operations. In terms of customer perspective, the company has rewarded its customers and has made efficient internal processes in order to streamline its operations as well. Lastly, the company has developed a training program to train its employees and make them grow their skill sets. In terms of financial ratios, the company has seen rising profits, has improved its return ratios, has gotten stronger in terms of its financial health and has seen better efficiency compared to its competitors. Based on this analysis, it can be seen that the company is a good investment opportunity which will grow in terms of profitability and value of investment for an investment manager.

Introduction

Tesco is a large supermarket chain based in the United Kingdom which was founded in 1919 by Jack Cohen. The company began when Cohen started to sell his own excess groceries from a stall placed in East End of London (Tesco 2016, Wood et al. 2016). From humble beginnings, the company grew and by 1932 it was converted into a private limited company. The next milestone for the company was to be floated on the London Stock Exchange in 1947 with an initial price of 25p. The company grew from strength to strength and has been able to become one of the market leaders in the retail industry of the country (Wood et al. 2016).

As it had established itself in United Kingdom, the company began to expand its operations into Europe through organic and inorganic expansion as the company started to take over companies which already had a logistic and supply chain presence in the country or region. An example is the takeover of Quinnsworth, Stewart’s and Crazy Price in Ireland which had a presence in the region already (Tesco 2016). By taking over these companies, Tesco was able to establish itself in the Irish food retail market by using the infrastructure which had already been developed by former companies. The company now employees more than 450,000 employees in more than 10 countries around the world. The recent annual report shows the company exceeding a turnover of £56 billion which equates to around more than £1 billion per week of sales for the company (Evans & Mason 2018).

The current share price of Tesco plc is £224.20 compared to its competitors Morrison’s having share price of £184.5 and Sainsbury’s having a share price of £196.7. The key to the company’s success is the fact that it has been able to manage its resources which can be evaluated using two key tools. The goal of this essay is to consider investment in Tesco as an investment manager looking to invest in the company. The analysis will be carried out through a two pronged analysis on the strategic management of the company. The first part will look to analyse how the company has used its balanced scorecard in order to better harness its potential and use its resources in an efficient manner. The second part of the analysis will carry out a financial analysis on the year end statements of the company. These two aspects will determine whether the company looks like a good investment right now considering financial matrix and a balanced scorecard of the company. The essay will conclude with a decision to invest or not.

Balanced Scorecard

The Balanced Scorecard was developed in order to provide a measurement of strategic performance and the efficiency of management of framework. The scorecard is able to use financial measures in order to measure the past performance of the company but as these measures are not able to encapsulate other values of the company, the tool is also used to provide better understanding of the company going into the future (Akkermans & Oorschot 2018). Additional measures are needed in order to measure the future value of the investment being carried out in terms of their impact on the customers, the suppliers, employees, technology and innovation.

There are four perspectives which have been proposed to measure how the company is performing in a holistic manner and how it is able to translate its strategy into action for the future. The company is seen in terms of four perspectives which are financial perspective, customer perspective, internal business process perspective and learning and growth perspective and then develops measures and metrics for all of these perspectives to evaluate the performance of the company.

Strategic Analysis of Balanced Scorecard used at Tesco

The balanced scorecard used by Tesco is called the Steering Wheel and the basis of using this tool is to allow the company to deliver the core of the business in a more efficient manner. The performance of the company is reported to the board at the end of each quarter and a summary of that report is handed down to all the managers and the staff to disseminate key information to all the key stakeholders (Lin et al. 2016). Based on the performances and Key Performance Indicators set by the board, the salary of the senior management is given and bonuses are handed out based on the success of the manager (Figure 1). The balanced scorecard approach used by the company was seen as the most significant measure carried out by the company which led to it becoming the largest British retailer expanding into Europe and then Asia (Keyes 2016).

Financial Perspective

The financial perspective looks at the financial objectives set out by the organisation and allows an evaluation of the financial performance of a company with the use of traditional financial measures. Even though it can be seen as being too simple as a tool for a comprehensive evaluation, this perspective is able to define how the company’s strategy and its implementation are able to have an impact on the bottom line of the company. The recent financial performance of the company shows that it was able to increase its total sales by more than 11% for the year taking its revenues to over £56 billion for 2019 (Tesco, 2019) up from £51 billion in 2018 (Shen et al. 2016).

Tesco was also able to see a growth in its EPS (Earning Per Share) of around 30% to £15.4 per share and an increase in dividend of 92% as it gave out £5.77 in 2019 compared to £3 in 2018 (Fernie & Sparks, 2018). The increase in sales was matched by a decrease in expenses as well as the company was able to increase its operating profit by 17% compared to a sales increase of 11%. This shows that the company was maximising revenue while also looking to minimise expenses through use of efficient processes and techniques. Based on this snapshot of the company, it can be seen that the measures taken by the company are contributing to their end result.

Customer Perspective

The customer perspective considers the customers and the market segment the company is catering to and measures the performance of the business within these segments. The goal of this perspective is to measure customer satisfaction, profitability and the ability of the company to venture into new market segments (Hansen & Schaltegger 2016). Tesco has initiated the use of its value clubcard which can be used to measure the expectations of the customers and the ability of the company to meet them. Tesco attracts more than 16 million customers on a weekly basis and in order to meet the needs of all its customers, it offers three ranges of products. The company is able to understand its customers by the use of their clubcards and offers coupons and discount opportunities which retains old customers and attracts new ones (Cooper et al. 2017). The company has also started using internet-based shopping to facilitate old customers and to make new ones.  Introduction of online sales by Tesco’s has helped the company raise its market share by more than 25% and sales saw a growth of 4.5% aided by online shopping.

Internal Business Process Perspective

The internal business process perspective allows a company to identify processes and techniques which need to be implemented in order to turn its strategy into action. This measures how well the company is able to apply its processes in order to meet the customer needs. Internal processes can be divided into innovation, operations and post services based processes (Adjudicator 2016). In terms of innovation, Tesco is always looking to offer the latest trends to its customers like offering healthy eating options to its customers (Kliger 2016). The company has been able to develop a new product line by sourcing from their suppliers and carrying out market research to understand what is required by the customers, and to stay ahead of its competitors.

In terms of operations, Tesco has to manage its fleet of trucks in order to manage its supply chain efficiently. The company has looked to manage its transport better in order to reduce its cost and keep its workforce happy (Lubis et al. 2016). In terms of the post-service based processes, the company looks to keep a check on their customers and takes on feedback provided by its customers in order to constantly keep improving its services. When the customers provide the feedback and feel that their suggestions are being implemented, they are more likely to shop at Tesco.

Learning & Growth Perspective

The learning and growth perspective considers the employee training and learning being carried out at the job and how this helps them assist the customers in the future. This can be measured by managers by considering the training funds being allocated by the company and the results that they are yielding for the company (Kalendar & Vayvay 2016). Tesco employs people from a diverse background and they are given equal and fair opportunities to learn and develop at the company. It is able to measure the growth of their workforce by carrying out yearly appraisals of its staff and sees how the knowledge and skills of their workforce have improved over time. Tesco provides for on the job training and also off the job training known as options. The purpose of the options program is to tailor a development program according to the needs of the employees and allows them to develop a broad set of skills comprising of leadership and operating skills. They also take feedback from the employees in order to improve the program for the future. The on the job training allows for shadowing, mentoring, job rotation and coaching which allows the trainee to learn the task until they become competent in undertaking and completing by themselves (Mehralian et al. 2017).

Financial Analysis

A financial analysis of Tesco to be carried out will be done from the point of view of an investment manager who is considering adding the company to different portfolio and funds that the manager is responsible for managing. The analysis will compare Tesco with Sainsbury’s which is a direct competitor for Tesco and it will aid in regards to see how the company compares to one of its competitors (Liang et al. 2016). Even though an absolute analysis on itself should be seen as being adequate, a relative analysis allows putting some of the financial metrics into context. A comparison shows how well Tesco has performed in comparison to the industry and whether its performance has been better than or worse than one of its competitors working in the same industry. The analysis will look at the last five years performance for Tesco and compare it to Sainsbury’s. The ratios analysed will be profitability ratios, return ratios, liquidity and efficiency ratios (Arkan 2016).

Profitability Ratios

The profitability ratios of the company shows that the company’s gross margin increased from -3.4% to 6.5% while the operating margin increased from -7.7% to 3.2% which shows that the company went from a loss to a profit in the last 5 years (Morales-Diaz & Zamora-Ramírez. The Earnings per share of the company show that the company went from -2.12 per share to 0.41 per share into profit. The company was able to give out a dividend in 2019 which was not possible when the company was making a loss (Figure 2). In comparison, Sainsbury’s saw a stagnated gross margin of 6.9% while its operating margin was actually fell from a high of 3% to 1.1% showing its expenses have not been controlled well enough (Shaverdi et al. 2016). The earning per share of Sainsbury’s was only £0.08 and dividend was equal to what Tesco paid. This shows that Tesco has corrected its policies in recent years and can expect greater profitability in the future based on its recent performance (Figure 3).

Return Ratios

The return ratios shows that Tesco started to earn a profit as it went from -9.22% to 2.07% in 2019. The Asset turnover of the company was relatively similar which shows that sales increase was matched by increase in assets (Tian & Yu 2017). The return on asset went from -12.17% to 2.82% while the return on equity went from -52.7% to 10.43% which means that this is a great opportunity to invest as for every £1 spent in the company, the investor makes £0.1 each year in profit. The return on invest capital also improved from -23.54% to 7.45% for the company (Figure 4). In comparison to this, Sainsbury’s saw a stagnant net margin of 0.7% while its asset turnover stayed relatively same. The return on asset for Sainsbury’s was only 0.88% and return on equity was 2.53%. This also meant that return on invested capital was only 2.7% (Almamy et al. 2016). This shows that Tesco is a far better investment as compared to Sainsbury’s (Figure 5).

Liquidity Ratios

In terms of the liquidity ratios, it was seen that Tesco saw a current ratio of 0.61 and a quick ratio of 0.48. The financial leverage of the company was 6.25 times in 2015 and fell to 3.3 times in 2019 which was due to the profitability of the company. Similarly, the debt to equity ratio fell from 1.5 times to 0.38 times which shows that the company’s debt fell and the equity improved (Misund 2017). This was also reflected in the interest coverage from -11.78 to 6.69 which shows that the company can cover its interest payments with its profit 6.69 times. This shows that the liquidity position at the company was improving for an investor (Figure 6). In comparison, Sainsbury’s saw a similar current, quick ratio, interest coverage and financial leverage (Chiaramonte & Casu 2017). Sainsbury’s might seem to have better debt to equity ratio but Tesco is seeing profitability rise which will improve its position further in the future (Figure 7).

Efficiency Ratios

In terms of its efficiency, Tesco has day’s sales outstanding of just 9 days and day’s inventory of 15 days and with payable period of 56 days the company has a negative cash conversion cycle. This means that the debtors are paying back the company much more quickly as compared to when Tesco pays back its creditors (Wolfson 2017). One thing that can be done is to payback creditors earlier and gets a discount from them. Fixed asset turnover for Tesco is 3.4 times and asset turnover is 1.36 which shows that fixed assets and total assets are yielding sales of £3.4 and £1.36 for every £1 invested in them respectively (Figure 8). In comparison, Sainsbury’s sees a day sales outstanding of 1.64 days and days inventory of 25.27 and with payable period of 39.85 it has a cash conversion cycle of -12.94. This is seen to be an industry norm as both companies have negative cash cycles (Myšková & Hájek 2017). The fixed asset turnover for Sainsbury’s is 2.96 and asset turnover is 1.27 which shows that Tesco is more efficient in using its assets to generate sales as compared to Sainsbury’s (Figure 9).

Conclusion

The analysis shows that Tesco is a market leader in the UK retail industry and it has gone from strength to strength over time. In terms of its balanced scorecard, the company is able to use its resources in the best manner possible and after periods of growth, the company has expanded outside UK to Europe and Asia. In terms of its financial ratios, the company has recently turned profitable and it can be foreseen that the company will stay profitable in the future. In terms of its return ratios, the company has performed better as compared to its nearest competitor. The financial health of the company has gotten better and the efficiency of the company is also better as it utilizes its resources in a more efficient manner. As an investment manager, the better choice for investment would be to choose Tesco as it promises a more stable and greater return compared to Sainsbury’s.

Reference List

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Appendix

Figure 1 Balanced Scorecard for Tesco

Figure 2 Profitability ratios for Tesco

Profitability

2015

2016

2017

2018

2019

Gross Margin %

-3.4

5.2

5.2

5.8

6.5

Operating Margin %

-7.7

1.8

2.1

2.7

3.2

Earnings Per Share GBP

-2.12

0.05

-0.01

0.44

0.41

Dividends GBP

0.33

   

0.03

0.11

Figure 3 Profitability ratios for Sainsbury's

 

2015

2016

2017

2018

2019

Gross Margin %

5.1

6.2

6.2

6.6

6.9

Operating Margin %

0.3

3

2.4

1.8

1.1

Earnings Per Share GBP

-0.08

0.23

0.17

0.13

0.08

Dividends GBP

0.17

0.12

0.12

0.1

0.1

Figure 4 Return ratios for Tesco

Return Ratios

2015

2016

2017

2018

2019

Tax Rate %

   

60

23.57

21.15

Net Margin %

-9.22

0.25

-0.07

2.1

2.07

Asset Turnover (Average)

1.32

1.24

1.24

1.27

1.36

Return on Assets %

-12.17

0.31

-0.09

2.66

2.82

Return on Equity %

-52.7

1.76

-0.53

14.26

10.43

Return on Invested Capital %

-23.54

3.64

0.73

7.88

7.45

Figure 5 Return ratios for Sainsbury's

Return Ratios

2015

2016

2017

2018

2019

Tax Rate %

 

14.05

25.05

24.45

8.37

Net Margin %

-0.7

1.95

1.37

1.02

0.69

Asset Turnover (Average)

1.44

1.4

1.43

1.36

1.27

Return on Assets %

-1

2.74

1.96

1.39

0.88

Return on Equity %

-2.88

7.71

5.42

4.07

2.53

Return on Invested Capital %

-2.41

6.44

4.8

3.99

2.7

Figure 6 Liquidity ratios for Tesco

Liquidity/Financial Health

2015

2016

2017

2018

2019

Current Ratio

0.6

0.75

0.79

0.71

0.61

Quick Ratio

0.42

0.59

0.64

0.55

0.48

Financial Leverage

6.25

5.09

7.12

4.28

3.3

Debt/Equity

1.51

1.24

1.47

0.68

0.38

Interest Coverage

-11.78

1.33

1.28

4.01

6.69

Figure 7 Liquidity ratios for Sainsbury's

Liquidity/Financial Health

2015

2016

2017

2018

2019

Current Ratio

0.65

0.66

0.74

0.76

0.66

Quick Ratio

0.48

0.5

0.52

0.58

0.49

Financial Leverage

2.99

2.67

2.87

2.97

2.78

Debt/Equity

0.47

0.37

0.32

0.22

0.13

Interest Coverage

0.53

4.86

4.87

4.03

3.88

Figure 8 Efficiency ratios for Tesco

Efficiency

2015

2016

2017

2018

2019

Days Sales Outstanding

 

1.66

6.43

9.39

8.91

Days Inventory

18.51

19.06

16.29

15.38

14.9

Payables Period

30.91

34.04

46.2

60.24

56.03

Cash Conversion Cycle

 

-13.31

-23.48

-35.47

-32.22

Fixed Assets Turnover

2.77

2.84

3.11

3.14

3.4

Asset Turnover

1.32

1.24

1.24

1.27

1.36

Figure 9 Efficiency ratios for Sainsbury's

Efficiency

2015

2016

2017

2018

2019

Days Sales Outstanding

1.73

1.53

1.41

1.43

1.64

Days Inventory

16.19

16.26

20.36

24.62

25.27

Payables Period

31.82

34.52

35.38

38.03

39.85

Cash Conversion Cycle

-13.9

-16.73

-13.62

-11.98

-12.94

Fixed Assets Turnover

2.44

2.42

2.65

2.86

2.96

Asset Turnover

1.44

1.4

1.43

1.36

1.27

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