The key ratios for Morrison Plc and Tesco Plc are computed below along with a relevant analysis of the overall financial performance of the two firms.
The relevant profitability ratios for the two firms are as summarised below (Morrisons; Tesco, 2017).
With regards to Morrison Plc, it is apparent that there is a decline in the gross profit margin which has decreased by 13 basis points. This may be attributed to the closure of underperforming stores which impacted the sales growth adversely and therefore marginal negative impact on gross margins. However, it is impressive to note that at the net profit margin, there is an improvement of about 50 basis points in 2017 over 2016. The margins expansion could be attributed to the £ 1 billion savings program that the company embarked in 2014 (Morrisons, 2017). During the year 2016/2017, the company reaped savings to the tune of £ 390 million. The savings are apparent from the significant drop in administrative costs from £472 million in 2016 to £288 million in 2017. The company in the recent times has shifted focus back to the core business and aim to achieve profit and sales growth through an asset light model. As a result, higher emphasis is being given on promotion of online sales (Axtell, 2016). The improvement in net profit margin is also response for the superior ROA and ROE in 2017 as compared to 2016.
With regards to Tesco Plc, it is apparent that there has been an improvement in gross margins by 19 basis points in 2017 over the previous year i.e. 2016. This may be attributed to improvement in sales to the extent of 1.1% excluding fuel in 2017 compared to 2016. The growth was particularly strong in the international markets such as Asia and Europe (excluding UK and Ireland). Additionally, the company has also embarked on an ambitious cost reduction program whereby by 2019/2020, the company aims to save costs to the extent of £ 1.5 billion – £ 2 billion (Stones, 2015). A particular focus area for the company has been to work with suppliers so as to ensure that the prices remained low in the wake of inflationary pressure especially in the second half of the year. Also, administrative costs along with finance costs have witnessed a decline leading to higher profit margins (Tesco, 2017). The higher profit margins in turn have led to an increase in ROA and ROE. The huge jump in ROE in 2017 is on account of decrease in equity by about £2 billion on account of reduction in reserves and retained earnings primarily due to discontinued operations.
From the above ratios, it is apparent that Tesco has better profitability ratios as compared to Morrison. One of the attributing reasons could be scale considering that Tesco’s market share is about 2.5 times that of Morrison. As a result, economies of scale can be better reaped by Tesco. Also, Tesco has international presence which is responsible for the higher sales growth considering the cut throat competition that the retail industry is witnessing in the home market. However, the profitability ratios such as ROA and ROE are superior for Morrisons in comparison to Tesco for the period under consideration. A common trend visible for both national retailers is that there is an improvement in profitability ratios which is driven by dedicated cost cutting or cost saving measures in the backdrop of competitive market. This augers well for the company’s financial health and also their shareholders (Petty et. al., 2015).
The relevant liquidity ratios for the two firms are as summarised below (Morrisons; Tesco, 2017)
With regards to Morrison Plc, it is apparent that there is a decrease in both the current ratio as well as acid test ratio. This is mainly because there has been a decline in the current assets while the current liabilities have increased. The decrease in current assets is on account of lower cash & cash equivalent to the tune of £326 million as on January 29, 2017 as compared to £496 million as on January 29, 2016. The increase in current liabilities is on account of higher creditors to the tune of £2,837 million as on January 29, 2017 as compared to £2,518 million as on January 29, 2016 (Morrisons, 2017).
With regards to Tesco Plc, there has been a marginal decline in both the current ratio along with acid test ratio. For the company, as on February 25, 2017, the current assets and current liabilities recorded in the balance sheet is higher than the corresponding levels reported as on February 27, 2016. However, the % increase in current liabilities is higher than the % increase in current assets which is responsible for deteriorating liquidity ratios for Tesco. Two items having sizable contribution to current liabilities increase are trade payables along with customer deposits (Tesco, 2017).
It is apparent that there is deterioration of the short term liquidity for both companies but considering the dismally low value of acid test ratio, the situation looks worse for Morrison in comparison with Tesco. It is possible that Morrison may face short term cash crunch if the working capital management is not improved going forward (Ehrhardt and Brigham, 2016).
The relevant efficiency ratios for the two firms are as summarised below (Morrisons; Tesco, 2017).
With regards to Morrison, it is apparent that the debtors collection period has gone up marginally which imply that the cash cycle would be adversely impacted. This means that the days taken to collect receivables have increased marginally. A positive aspect for the company is that the creditors payment period in 2017 has increased by about 6 days which augers well for the company as it reduces the cash cycle. The inventory turnover has not changed materially in 2017 as compared to the previous year (Morrisons, 2017). Also, the asset turnover ratio has shown marginal improvement which implies that the company is utilising the assets in a more efficient manner owing to higher revenues being generated per dollar of asset (Brealey and Myers, 2012).
With regards to Tesco, it is apparent that debtors collection period has deteriorated marginally only which is not significant. A positive aspect for the company is the reduction in inventory days which implies that the inventory is getting converted into sales in lesser days. Further, the creditor payment days for Tesco has also increased marginally in 2017 which implies the company has greater credit period. The asset turnover for the company has shown marginal deterioration which implies that the ability of the company to generate higher revenues from the given assets has remained stagnant (Tesco, 2017).
Cash cycle = Debtors collection period + Inventory Days – Creditors payment period
Based on the efficiency ratios computed above, it is apparent that for both companies, there has been a decrease in the cash cycle which limits working capital requirement. Also, the cash cycle for Tesco is considerably much longer when compared to Morrison primarily because of credit period being very short which tends to increase the working capital requirements (Petty et. al., 2015).
The relevant capital structure ratios for the two firms are as summarised below (Morrisons; Tesco, 2017).
With regards to Morrison, it is apparent that there has been a reduction in debt ratio in 2017 which is in line with the strategic intent of the company to lower down the overall debt levels and hence strengthen the balance sheet. Besides, the non-current liabilities as a % of the total liabilities have also come down to 44.74% as on January 29, 2017 compared to 50.37% as on January 29, 3016. Additionally, the interest cover has also shown significant improvement in 2017 as the interest expense has decreased in 2017 while the operating profit has improved. It is apparent that the company has lowered the overall debt levels along with altering the maturity of outstanding liabilities to short term while improving the comfort for lenders in terms of interest coverage (Morrisons, 2017).
With regards to Tesco, the debt ratio has worsened owing to increasing levels of both the current and non-current liabilities. Also, the shareholders’ equity has taken a dip from £8,626 million as on February 29, 2016 to £6,438 as on February 27, 2017. The dip in equity is on account of the losses owing to exceptional items which erased the retained earnings. A positive aspect for the company is that the increase in non-current obligations in on account of post-employment benefit obligations and not caused due to increase in borrowings. The increasing share of non-current obligations can also be explained by the increased employee benefit obligations to the tune of approximately £3 billion. Owing to lower debt (both current and non-current), the interest expense has reduced in 2017 by £28 million. Thus coupled with higher operating profit has led to improvement in interest cover (Tesco, 2017).
From the above analysis, it is apparent that both companies in 2017 have reduced their debt levels. Besides, the interest coverage ratio has also improved for both companies. On a comparative basis, the capital structure ratios of Morrison indicate greater deleveraging of the balance sheet as compared to Tesco (Petty et. al., 2015).
References
Axtell, W. (2016) Morrisons details strategy for growth, [online] Available at https://bakeryinfo.co.uk/news/fullstory.php/aid/15677/Morrisons_details_strategy_for_growth.html [Retrieved March 18, 2018]
Brealey, R., and Myers, S., (2011) Principles of Corporate Finance. 9th ed. New York: McGraw –Hill.
Ehrhardt, M. C. and Brigham, E. F. (2016) Corporate Finance: A Focused Approach. 6th ed. London: South- Western College Publisher.
Morrisons (2017) Annual Report 2016-2017, [online] Available at https://www.morrisons-corporate.com/annual-report-2017/static/downloads/Morrisons_AR_2016_Web_Full.pdf [Retrieved March 18, 2018]
Petty, J.W., Titman, S., Keown, A., Martin, J.D., Martin, P., Burrow, M., and Nguyen, H. (2012) Financial Management, Principles and Applications. 6th ed. NSW: Pearson Education, French Forest Australia.
Simms, A. (2007) Tescopoly: How one shop came out on top and why it matters. London: Constable
Stones, M. (2015) Tesco reveals sales fall and big cost-cutting plan, [online] Available at https://www.foodmanufacture.co.uk/Article/2015/01/09/Tesco-unveils-sales-down-and-cost-cutting-plan [Retrieved March 18, 2018]
Tesco (2017) Annual Report 2016-2017, [online] Available at https://www.tescoplc.com/media/392373/68336_tesco_ar_digital_interactive_250417.pdf [Retrieved March 18, 2018]
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