Ratio analysis. Financial Position of a company

Table of contents:

I. Executive summary

II. Introduction to the company

III. Financial ratio analysis
a) Profitability ratios
b) Liquidity ratios
c) Working capital management
d) Capital structure ratios
e) Stock market performance

V. Conclusion

VI. References

I. Executive summary

The purpose of this paper is to present the financial position of the company. Firstly, the company such as Burberry, which is present on the London Stock Exchange, will be introduced. Secondly, the ratio analysis will be conducted in order to examine the financial performance of the firm over 5 year’s period. Finally, the limitations of the ratio analysis will be highlighted and the conclusions will be drawn.

II. Introduction to the company

Burberry is a one of the British luxuries brand founded in 1856 by Thomas Burberry. The firm is famous of its trench coat, the equestrian logo and trademark check print. Apart from clothes, it distributes also fashion accessories, fragrances and cosmetics. Burberry is operating in four regions: in America (25% of retail revenue), Europe (32%), Asia Pacific (37%) and rest of the world (6%). The firm has 192 stores and 44 outlets around the world. The company is present on the London Stock Exchange and on the FTSE 100 Index (Burberry, 2015).

III. Financial ratio analysis

The financial ratios are the most common and widespread tools to examine an enterprise’ financial condition. They can be used to compare the performance of the business over the period of time or different firms in different industries. However, the ratios constitute just a raw computation of the financial standing and don’t take into consideration information such the size of enterprise. The financial ratio analysis allows creditors and investors to understand the financial position of the business and areas, which have to be improved. The ratio analysis allows the industries to determine their strengths and weaknesses. The financial ratios are classified into the five main categories: profitability, liquidity, working capital management, capital structure and stock market performance (Gitman, 2011).

a) Profitability ratios

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Source: Marketwatch.com

Gross margin ratio

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Gross margin ratio measures how profitable a firm is able to sell its inventory. Through the period of 5 years this profitability ratio is consistent with average 65%. The consistency can result from not changing purchasing and selling policy. This is a high percentage in the apparel industry and can indicate that the inventory is being sold at high profit percentage. The Burberry can achieve this high ratio, because it is marking its products up higher. A gross profit margin of 65% means that for every ‎£1 of sales, the firm will make around 65 pence gross profit. The high ratio means that the business will have more funds to pay operating expenses (e.g. salaries, utilities). The achieved percentage in 2015 suggests that the firm after pays off inventory cost will have 64.5% of his sales revenue to cover operating costs.

Net profit ratio

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There is slight decrease in ratio by 2.6 %., but is still high. However, the sales revenues and net profit has gone up, therefore the control of operating expenses is effective (the management effectiveness). Therefore it must be admitted that the company can effectively convert sales into net income. It’s important because increase of this ratio can give the knowledge to the investors that the company has high enough profits and they can distribute dividends and the creditors that the Burberry can pay back its loans.

Return on assets

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The ratio is consistent with average 16%, what means that the firm can efficiently convert money spent for purchasing assets into net income. This means £0.16 in profit is generated by £1 in assets. The assets and net income have increased, what means that the business can manage effectively its assets to produce a profit during the 5 years period. This positive ratio can also suggest an upward profit trend.

Return on capital employed

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The return on capital employed ratio indicates how efficiently the firm can generate profit from its capital employed. The average of the ratio is around 33%, what indicates that for every £1 invested in the enterprise, the firm makes 33 pence net profit. The ratio is consistent; however in the recent it fell, what can be caused by the loss of competitive advantage.

Return on equity

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Return on equity ratio refers to the efficiency of the firm using shareholder’s funds to generate profits and grow the enterprise. There is an increase in ratio till 2014 that means that the company has used the money of the investors effectively (effective management). The shareholders observed 21% (average) return on their investment between 2011 and 2015.

b) Liquidity ratios

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Source: Hargreaves Lansdown

Current ratio

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The current ratio is related to the company’s ability to meet the short-term obligations. The table below presents that the ratio since 2011 has increased by 0.7. This trend indicates growth in level of liquidity, what means the firm can operate around this level. The average 1.8 of the ratio indicates that current liabilities are covered by current assets 1.8 times.

Quick ratio

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The quick ratio is similar to the current ratio, however it excludes inventory, which constitutes the least liquid current asset. The average of the ratio is 1.24, what indicates that for every £1 a firm owes it has £1.24 of assets that can be sold very quickly in order to pay it. That means the firm can meet current financial obligations because of access to available quick funds on hand. The increase in the quick ratio can emphasize solid financial health of the firm.

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