Company Analysis of Berklee and Comparisons with Other Firms in the Industry - Essay Example

“Company Analysis of Berklee and Comparisons with other firms in the industry” EXECUTIVE SUMMARY This reportaims to take us far beyond the theoretical learning of Education and put us in the practical situation where investors deeply analyze various businesses to make their investment decision. The purpose of this report is to enlighten the readers about the financial performance of the various companies operating in the automotive sector in Australia. These companies are Berklee, Coventry Group, and Pacifica. Though, we have chosen Berklee as our benchmark company, we have also analyzed other companies in great detail. We have calculated various different types of ratios to assess the financial health of Berklee and compared these results with its competitors. In the end we have tried to comment on the possible reasons behind the changes in these ratios. We have also compared these ratios with past years ratios to find out whether or not the company is on the right path. Based on these ratios we have tried to suggest what the company could do to improve its condition. Some of these ratios are Activity Ratios, Profitability Ratios and solvency ratios. These ratios represent a true picture of the company which solitary figures could not exhibit. In the end we have conclude our report with appendices and various interesting findings about the companies under analysis. Table of Contents Introduction 1 Objective of the Report 2 Ratio Analysis 3 Liquidity Ratios 4 Current Ratio 4 Quick Ratio 5 Activity Ratios 6 Inventory Turnover 6 Receivables Turnover 7 Days Receivables Outstanding 8 Efficiency Ratios 9 Operating Profit Margin 9 Sales Growth 10 Leverage Ratios 2 Debt-to-Equity 11 Debt-to-Asset 12 Profitability Ratios 13 Net Profit Margin 13 Return on Assets 14 Return on Total Equity 15 Links between the Ratios 16 Future Prospects and Potential of Automotive Sector in Australia 17 Appendices 18 INTRODUCTION Berklee Limited is one of the premier companies operating in Australia. The company was formed by Mr. Adrian Van Berkel in 1963. The company was an immediate success and it was converted into a limited company by 1966. Later, the company was converted into a Public Limited company in 1989 and provided secure investment opportunities to thousands of Australians. Since then, this group has never looked backed and is growing in strength every day. The Principal activities of this group include manufacturing of automotive mufflers and various kinds of exhausts. The company manufactures its products in a fully-automated plant located near Victoria. From this plant, the products are dispatched to the distributors upon completion. Berklee has a unique selling point as its products are sold throughout Australia. This is made possible by the use of its strong distribution network, which has an outreach in every singly city of Australia. A summarized background of the company is presented below in chronological order: 1963: Adrian Van Berkel laid foundations for the company as a small family business 1966: The Company after its immediate success turned into a Limited Company 1989: Company achieved the status of a Public Limited Company through the sheer hard-work and determination put in by its employees 2001: Adrian Van Berkel retired from the post of managing director of the company. During this time, the company looked for young and dynamic leadership under, Edward Van Berkel. 2001 – Present: Mr. Edward Van Berkel, with his dynamic leadership and far-sighted vision, diversified the operation of the company to tube-bending and other automotive products. Since his take over as the managing director, the company has also been managed to achieve ISO Quality Standards and other certificates. The progress of the company, according to Edward Van Berkel, will never come to halt. Being a man of his words, Mr. Edward is currently considering various strategies to introduce his company to the global market and grow it even further. (The major posts at Berklee Pty Ltd. are occupied by the members of Van Berkel family). If we look at the statistics of automotive parts and Electronics Industry, we can easily conclude that it is one of the most competitive industries in Australia. This industry is made up of thirteen different firms operating independently. As a result, there is a lot of price competition between these firms. Some of the well-known corporations operating in this industry are Ingram Corporation, Berklee Pty Ltd, Coventry Group and Pacificia Company. Berklee contributes to around 35% market share in the industry. However, despite its size, it has also felt the impact of global financial crisis. According to many, 2008 was the worst season in the history of this industry. Many companies in the industry suffered massive losses. Although Berklee was able to avoid such losses, their profits also shrunk. Despite recession, Berklee and many other big firms in the industry are hopeful that market condition is going to improve in the near future and therefore they are trying to avoid downsizing. OBJECTIVE OF THE REPORT The objective of this report is to assess the performance of various companies in the automotive parts industry through ratio analysis and other tools that are used by financial managers to assess the performance of a company. For this project, we have to collect relevant information from latest annual reports issued by the companies. We will then take the necessary information and see it through the lens of financial reporting and financial analysis. This report is intended for education purposes and not as an investment guide, and given our information and time constraint, it might not be useful for investors but it sure can assist students who want to compare these companies. In making this report, we will also learn about the industry condition in which our chosen firms operate. This is going to be particularly helpful in assessing the profit trends of the industry. This report will also invoke, in our group, feeling of group and will train us for various group projects that we may have to undertake in the future endeavors of our life. Ratio Analysis Liquidity Ratios 1. Current Ratio Table 1: Current Ratios for Berklee 2007-08 Current ratio shows the liquidity condition of the company. It shows how much current assets a company has to pay off its current debts/liabilities. The ideal current ratio is 2. The company’s current ratio in the year 2007 was 3.18 which show that for every one DOLLAR of debt, the company has three (3) DOLLARS of assets. Therefore company will not face any problems in paying off its debts. However this ratio is too large and the company has too much of its resources tied up in current assets which could have been invested into other profitable uses. In the year 2008, there was only a slight change in this ratio. This ratio might save company from bankruptcy, but from an accountant point-of-view, this ratio is bad because it represent a lot of cash lying idle which can be invested into profitable ventures. Figure 1: Graph Exhibiting Current Ratios for Berklee, Coventry and Pacifica 2007-08 Market Trend: If we look at market trend, we discover that Berklee’s condition is moderate when compared to other companies’ ratios. Some companies like Coventry group are enjoying an ideal ratio of around 2, whereas other companies like Pacifica are in serious trouble and maybe forced to go bankrupt. 2. Quick Ratio Table 2: Quick Ratios for Berklee 2007-08 Formula: 2007 2008 Trend 1.43 1.01 Going deeper into the analysis, that the reason why the company’s current ratio was too high because too much of their resources were tied up in stock in the year 2007. Now when we have eliminated the stock factor from the current assets, it can be said that the company had ideal quick ratio. The company can easily pay off its debts as defined above and can practice smooth running of the business. However in 2008 the company is in an ideal condition. Now they neither have excess cash resources lying idle, nor have they too little cash to be face with threats of bankruptcy. Figure 2: Graph Exhibiting Quick Ratios for Berklee, Coventry and Pacifica 2007-08 Now looking at the market trend, we can clearly see that major competitors of Berklee i.e. Coventry and Pacifica are near bankruptcy as are the most of the firms in this industry. This shows good internal management by Berklee’s executive and this gives the company an edge over its competitors. ACTIVITY RATIOS 1. Inventory Turnover Table 3: Inventory Turnover for Berklee 2007-08 Formula: 2007 2008 Trend 1.09 1.1 This ratio indicates, how many times during a year the stock is sold. According to our results, the inventory turnover has increased by approximately 1.09 to 1.1 times. The more quickly the stock is turned over, the sooner the profits are earned on it and the more times the profit can be earned. One important thing to consider is the type of product being sold. This is why it is important to compare this figure with the industry’s average figure. Considering the low debt turnover and high stock turnover 0f Berklee in 2008, there are signs of overtrading, which is a potential threat to liquidity and solvency. Figure 3: Graphs Exhibiting Inventory Turnover for Berklee, Coventry and Pacifica Panel A Panel B If we look figure 5B, we will come across a downward trend in both the competing companies. This curve shows the market trend that some of the competitors of Berklee are facing. So an increasing trend in the inventory turnover is good news for Berklee and shows that even in the times of recession Berklee has increased their sales. 2. Receivable Turnover Table 4: Receivables Turnover for Berklee 2007-08 Formula: 2007 2008 Trend 3.990218 3.683063 The receivable turnover ratio basically indicates how quickly a company converts its accounts receivable into cash. A lower turnover rate is generally good news for the business, since that indicates a shorter time between the sales generated and the cash received. The ratios above indicate that in 2007, the receivable turnover was approximately 4 times whereas in 2008 the receivable turnover is approximately 3.68 times. This implies an increase in the length of time between sales made and cash received from 2007 to 2008.Berklee low receivable turnover suggests that most of their sales are on short term credit or cash. This is a good sign for the business. Similarly, this ratio remained consistent during 2008 and 2007 which shows that collection department and internal management are working well and collaborating well. The decrease in receivable turnover ratio is a good news for the company as they are collecting cash quickly now. Figure 4: Graph Exhibiting Receivables Turnover for Berklee, Coventry and Pacifica 2007-08 Competitor’s Analysis: Competitive Analysis shows that Berklee is better and quicker in collecting cash from customer than its competitors. Its major competitors Coventry and Pacifica collect cash from credit customer in around 5 and 50 days respectively whereas Berklee collects cash in just 4 days. Like Berklee, its competitors enjoyed a similar trend in collectible with Pacifica having the most improvement but still it is lagging behind Berklee and Coventry massively. 3. Days Receivables outstanding Table 5: Days Receivables Outstanding for Berklee 2007-08 Formula: 2007 2008 Trend 91.4737 99.10229 This ratio describes the average period of credit taken by the customers or the debt holders. In 2007 the debtors took a period of approximately 92 days (91.47) to pay off their debts and in 2008 they took approximately 100 days (99.10) .This shows an increase of 8 days from 2007 to 2008.At this point in time, this may not seem to be a potential risk factor but if this trend continues it can again lead to liquidity and solvency issues. Reason being that, there are two things to consider, first of all the interest lost due to delay in collection of debt hence the mobility of cash is reduced which is unfavorable for the business. Secondly the older a debt gets the greater the risk that it will not be collected at all. There is a potential risk that the real working capital is actually lesser than what it appears on the balance sheet. There is an increasing trend of long credit period. This trend can plotted as below. Figure 5: Graph Exhibiting Days Receivables Outstanding for Berklee, Coventry and Pacifica 2007-08 Competitors Analysis: In this case this company again is in line with the market trend. Other companies in the industry are also experiencing an upward trend in this ratio, i.e. credit customers are taking longer to pay their debts. The trend line of Pacifica group can be seen above to give you the idea of what competitors of Berklee are experiencing. EFFICIENCY RATIOS 1. Operating Profit Margin Table 6: Operating Profit Margin for Berklee 2005-08 Formula: 2005 2006 2007 2008 1.704% 2.284% 2.488% 0.341% Operating Profit Margin is a measure of the efficiency of a firm. It defines what proportion of the total sales is available for payment of financial charges and for distribution of profits. From 2005-2007, the trend in operating profit margin was upwards at Berklee. However, following the impact of the global financial crisis, the decline in global demand and hence sales, the rise in operating costs and the increase of cost of goods sold, the operating profit margins declined. In 2008, the operating profit margin dropped significantly. Figure 6: Graph Exhibiting Operating Profit Margin for Berklee and Coventry 2005-08 Competitor Analysis: An analysis of the market trends shows that Berklee is currently below its competitors when compared on this standard. However, Berklee has also shown relative stability in its profitability over the past four years. Coventry on the other hand has declined in its profitability immensely in times of financial crisis. Therefore, considering its previous position, Berklee has dealt well with the global financial crisis situation. 2. Sales Growth Table 7: Sales Growth for Berklee 2007-08 Formula: 2007 2008 Trend 6.873% -7.373% Sales growth measures the growth in turnover over the years. Berklee was experiencing moderate growth in its sales turnover before the financial crunch of 2008. However, after 2008, the situation changed immensely. In 2008, Berklee saw negative growth in its sales. This can be rightly assumed to be one of the reasons why Berklee also suffered a decline in its operating profit margins. Figure 7: Graph Exhibiting Sales Growth for Berklee, Coventry and Pacifica 2007-08 Competitor Analysis: A competitive analysis reveals that Berklee all firms have lost sales turnover during the past two years. Berklee is not much different from the industry situation when compared on the basis of sales growth. All firms have lost sales revenue during the past and Berklee’s sales decline in 2008 was actually more than one of its big competitors, i.e. Coventry. However, one notable fact is that Berklee was the last firm in the market to go into negative growth as it still maintained a growth of over 6% in 2007 when other firms in the industry were losing out. This indicates stability of structure and good product at Berklee. LEVERAGE RATIOS 1. Debt-to-Equity Ratio: Table 8: Debt-to-Equity Ratios for Berklee 2007-08 Formula: 2007 2008 Trend 0.32 0.30 The policy of the company is that it does not believe in too much of debt. The debt structure of Berklee during the past two years remained very consistent. They were able to keep the debts down to 30% to 32% during the years under observations. The ratio went up only slightly between years 2008 and 2007. This shows the company’s ability on generating cash whenever need rather than relying on Cash. Figure 8: Graph Exhibiting Debt-to-Equity Ratio for Berklee and Coventry 2007-08 Competitors Analysis: If we look at competing firm, Coventry Group’s debt-to-Equity ratio, we will see a massive increase in their debt structure during 2008. This further sheds light on the Berklee’s good performance and they have been able to keep debts low even at the times of recession and global economic turmoil. Similarly there was also an increase in this ratio for Pacifica group which signifies the ability of Berklee to generate cash-flows through internal sources rather than relying on outside sources of debts. 2. Debt-to-Assets Table 9: Debt-to-Assets Ratios for Berklee 2007-08 Formula: 2007 2008 Trend 0.32 0.30 Now going further into the details, out of the total investments in the company 24% were financed by debts in 2007. However the company was able to get rid of this debt in the year 2008 and by the end of this year the figure shrunk to only 23%. This again reinforces the company’s policy to rely on cash-flows rather than on debts. Figure 9: Graph Exhibiting Debt-to-Assets Ratio for Berklee, Coventry and Pacifica 2007-08 Competitor Analysis: Similarly, if we look same ratio for the competing firms, we will find that Coventry group was also able to reduce their debt and gave more importance to internal sources of raising Cash, whereas Pacifica group raised their debts to unprecedented high at about 85 percent. This spells trouble for Pacifica group and will repel investors from investing in Pacifica group. Profitability RATIOS 1. Net Profit Margin Table 10: Net Profit Margin for Berklee 2007-08 Formula: 2007 2008 Trend 1.716% 0.266% This ratio shows how much profit the company is earning on every $1 of sale. In the year 2007 the company had a net profit margin of 1.716 which shows that company was earning 1.7 cents on every $1 worth of sale. However this ratio worsened in the year 2008 and in that year the company was earning only 0.2 cents on $100 worth of sales. This means that the company has faced increasing expenses. The ratio worsened due to either increase in expenses or decline in the selling price of its commodities. In order to remain competitive it needs to monitor its cost to revise the old net profit margin. Figure 10: Graph Exhibiting Net Profit Margin for Berklee, Coventry and Pacifica 2007-08 Only Coventry group has been able to maintain consistent net profit margin over the two years under analysis. Other competitor, Pacifica, is in shambles and its profit margin has turned into negative. Looking a the market, one can easily conclude that this industry is in crisis and Berklee is doing a very reasonable job by not letting their profit margins to go into danger zone or losses. 2. Return on Assets Table 11: Return on Assets for Berklee 2007-08 Formula: 2007 2008 Trend 1.614% 0.240% It is an indicator that shows how profitable a company is relative to its assets. It shows the efficiency of the management of how well they are using their assets to generate earnings. This ratio shows how much is the company earning on its investments. In Berklee’s case, in the year 2007 it was earning $1.6 on every $100 worth of investment. However in the year 2008 its return on Assets decreased to .24% only. This shows two things, either the company’s new assets have low earning potential or the company is not being able to use its assets on their full capacity. This ratio also tells that industry is in a severe decline as all the companies operating in automotive sector found that earning power of their assets have decreased. This ratio indicates investors to move toward other profitable sector where the earning power of assets is high and which yield hire returns to investors. Only Coventry Group experienced an increasing trend in the return of assets. Some of the companies like Pacifica experienced a negative return. Therefore if you look at a general market condition of the industry, one can safely conclude that it is becoming less favorable for the investors. 3. Return on Total Equity Table 12: Return on Total Equity for Berklee 2007-08 Formula: 2007 2008 Trend 2.141% 0.313% Return on investment shows the amount of earning a company produces form Rs invested. In this analysis it was around 2.141% in the year 2007, whereas it came down to only 0.313% in the year 2008.This clearly shows that the profitability of the company reduced. There can be two reasons for the profitability to go own, either the new investments are yielding a low amount of return or it could be because of the financial down turn that the world has experienced in the last few years. Since, the return on investment or equity has fallen; new customer should not invest in this company. In fact they should avoid investing in any firm in automotive sector as it is going through a period of severe crisis. Only few companies are giving small returns to their investors. This low return on equity will divert the prospective investment to other booming sectors. Similarly, If world recession prolongs, there are widespread fears in Australia that these companies would have to shut down their operations. In the end of analysis, I would like to conclude by stating that this sector is not a safe avenue for investors and they should look for other more profitable sectors to invest their funds in. Figure 11: Graph Exhibiting Return on Total Equity for Berklee, Coventry and Pacifica 2007-08 LINKS BETWEEN RATIOS Experts have identified various links that exist between different kinds of ratios. In profitability ratio, for example, there are link between various kinds of margins. A decline in gross-profit does will also result in lower net profit and operating profit margin. This is because gross-profit is a component of profit calculation and result in lower gross-profit figure will also lower net profit and in turn profit margins will also be low. Similarly, links exist between return on assets and return on equity. Low returns on assets mean that assets are not yielding well when their price and return are taken into account. Since equity is used to build assets, lower return on assets will also lower the returns on equity and hence Return on Equity will also fall. Similarly, in liquidity ratios, there is a link between current ratio and quick ratio. These ratios are positively related and hence decrease in one ratio signifies decrease in another. In equity ratio also, there is a strong link between Receivable turnover and Days of sales outstanding. Since we arrive at latter by diving the former by 365, any changes in Receivable Turnover will also change the Days of Sales Outstanding. We can also look that some of the ratios in our analysis have been affected by shift in corresponding ratios. Since all the ratios are linked, one can safely conclude that these financial ratios exhibit a true condition of the company since they take into account each and every aspect of the company. Future Prospects and Potential of Automotive Sector in Australia Future does not look very bright for this industry and there is a risk that around 200 companies operating in this sector are going to exit the industry. Many of the firms operating in this industry are restructuring their operations faced with a threat of plummeting demand. This measure will help them remain competitive in international market and open up new avenues of success. However, in order to counter the current decline period that this industry is going through, there is an immediate need for worker in this sector to improve their productivity. Similarly, the companies operating in this sector are also searching for opportunities abroad to minimize their costs. They try to produce in countries where cheap labor and resources are available. This is done to minimize their costs and increase profit to keep business in operating. Another report suggests that future might not be very bleak for these companies as once the recession period is over their might be a booming demand for automotive parts that are produced by these companies. Similarly, once these companies face high demand, their profits are going to increase and this in turn will increase Return on Assets and Investment and may tempt investor to buy stock of these companies which might provide these companies with good cash-flows. Hence, the futures of these companies look very optimistic once they cross hard times they are facing currently. Therefore, all companies operating in this sector should try to minimize cost by engaging in human-resources development, search for cheaper venues for production and, should try to be as efficient as possible. Another good thing for firms operating in this industry is the recent grant provided by the government. However, they may solve the short-term problem of these companies, but to remain competitive over long term these firms will have to reduce their costs as discussed above and will have to work very hard towards efficiency and future will ultimately become very bright for them. Appendices ACTIVITY RATIOS Receivables turnover ratio come by dividing sales by average receivables. The annual sales come from the profit and loss account. Receivables / trade debts are come from the balance sheet. Average receivables come by taking the average of current and previous year receivables. Days of sales outstanding result by dividing 365 by receivables turn over. Inventory turnover results by dividing cost of goods sold by average inventory. Cost of goods sold / cost of sales is come from the profit and loss account. Inventory / stock in trade is come from the balance sheet. Days of inventory turnover result by dividing 365 by the inventory turnover. Payable turnover ratio comes by dividing the purchases by average trade payable. Purchases results by subtracting the opening inventory from the total of ending inventory and raw material consumed. We take the creditors, bills payable and accrued liabilities in the trade payable. Average trade payable results by taking the average of the trade payables of current and previous year. Number of days payable result by dividing 365 by the payable turnover. Total asset turnover ratio results by dividing the revenue by average total assets. Revenue is come from the profit and loss account where it is stated as sales. Total assets come from the balance sheet. Average total assets results by taking the average of the total assets of current and previous year. Fixed asset turnover ratio results by dividing the revenue by average fixed assets. Fixed assets are come from the balance sheet. Average fixed assets results by taking the average of the fixed assets of current and previous years. Working capital turnover ratio results by dividing the revenue by average working capital. Working capital is the sum of current assets and current liabilities, which are come from the balance sheet. Average working capital results by taking the average of the working capitals of current and previous years. LIQUIDITY RATIOS: Current ratios come by dividing the current assets by current liabilities. Current assets come from the assets section of balance sheet and current liabilities come from the liabilities section of the balance sheet. Quick ratios results by firstly subtracting the inventory from the current assets and then dividing it by the current liabilities. Cash ratios results by dividing the cash and bank balances by current liabilities. Cash and bank balance come from the assets section of balance sheet. Defensive interval results by firstly summing up the vales of cash & bank balances and receivables and then dividing it by average daily expenditures. Average daily expenditure comes from by dividing the total expenses (given in the profit and loss account) by 365. Cash conversion cycle is finding out by firstly adding up the values of days sales outstanding and days of inventory on hand and then subtracting the value of no of day’s payables. Days of inventory on hand comes from by dividing 365 by inventory turnover ratio. SOLVENCY RATIOS: Debt to equity ratio come from by dividing the total debt by total shares holders equity. Total debt value come from the liabilities section of balance sheet, where it is stated as total liabilities. Total shareholders’ equity comes from the capital and reserves section of the balance sheet. Debt to capital ratio results by dividing the total debts by the sum of total debts and total shareholders’ equity. Debt to assets ratio results by dividing the total debts by total assets. Financial leverage results by dividing the average total assets by average total equity. Average total assets results by taking the average of the total assets of current and previous year. Average total equity results by taking the average of the total equities of current and previous year. Interest coverage results by dividing the earnings before interest and taxes by interest payments. Earnings before interest and taxes comes from the profit and loss account where it is stated as profit from operations Interest payments are also comes from the profit and loss account where it is stated as the finance cost. Fixed charge coverage results by dividing the sum of earnings before interest & taxes and lease payments by the sum of interest payments and lease payments. Lease payments come from the cash flow statement, where it is stated as the liabilities against assets subject to finance lease. PROFITABILITY RATIOS: Net profit margin results by dividing the net income by revenue. Net income comes from the profit and loss account, where it is stated as profit after taxation. Gross profit margin results by dividing the gross profit by revenue. Gross profit comes from the profit and loss account. Operating profit margin results by dividing the operating income by total revenue. Operating income comes from the profit and loss account, where it is stated as profit from operations. Pretax margin results by dividing the earning before tax by total revenue. Earnings before tax comes from the profit and loss account, where it is stated as profit before taxation. Return on assets results by dividing the net income by average total assets. Operating Return on assets results by dividing the Operating income by average total assets. Return on equity results by dividing the net income by average total equity. Return on common equity results by firstly subtracting the preferred divided from the net income and then dividing it by the average common equity. Average common equity comes from by taking the average of the common equities of current and previous years. References: Annual Report 2008, Berklee Limited Annual Report 2008, Coventry Group Annual Report 2008, Pacifica Group Final Report on “Review of Australia automotive Industry, Published on 22 July 2008 Harold Randall, Accounting 3rd Edition, Letts Education Read More