Principals Of Financial Market Analysis

Top-Down Approach

Discuss about the Principals of Financial Market Analysis.

It is essential for the investors to understand the market or company in which he is going to make investment, therefore, the investor must have a good knowledge about the industry trends or a good broker that might help him (Bentes and Navas, 2013). The investor can make use of different analysing techniques when selecting a stock. The two most used techniques used by investors in technical analysis and fundamental analysis. The fundamental analysis is a technique that helps in analysing the most fundamental factors that affects the health of the company.  The macro fundamental analysis is the top down approach that comprises of the macro environment where as the micro fundamental analysis entails the micro environment and is known as bottom up approach. When the fundamental analysis is used by any investor he uses two approaches namely macro and micro fundamental approaches (Suresh, 2013).

In addition to this, while analysing the micro and macro environment three analyses are examined namely economic analysis, industry analysis and company analysis. All the three analyses are helpful in making beneficial investment related decisions and also provide a good understanding of the economy and industry to the investor (Grimm, 2012). The economic factors that are studied in the fundamental analysis include inflation rate, Growth rate, Domestic Product (GDP), interest rate, unemployment rate and retail sales. The industry analysis includes factors such as growth rate and market size while company analysis includes factors such as balance sheet, cash flow, management and debt statement along with income statement.

Bottom up analysis is one of the important fundamental analyses that starts with the reviewing the financial performance of the companies in the particular industry and ends with drawing the opinion of financial performance of industry as a whole. In this report financial performance of Billabong and Globe International has been reviewed and opinion has been on fashion retail sector as a whole.

Top down approach of Fundamental analysis is also known as macro fundamental analysis that helps in stock selection and investment purpose. The top down approach is the strategy used by investor and starts with analysing the big picture and ends with analysing an individual stock (Lee, Lee and Lee, 2010). The benefit of using top down investment approach is that it focuses on strong sectors for investment.

The economy of Australia has reduced its growth forecast due to fall in the commodity value of commodity (Smyth, 2015). However, later in the year 2015, the economic growth was better than the forecasts. It is analysed by the economists that in the year 2015, the GDP rate in Australia was expected to increase to 1.6 trillion Australian dollars that is, by 2.7% (Reuters, 2015). Moreover, Reserve Bank of Australia forecasted that the economic growth will be 2.50% in 2016 and 3.50% in 2017 (Innes, 2016). In addition to this, according to the data collected from Focus Economic (2016), in 2015, the GDP rate estimated was 1633 billion Australian dollars which might rise by 2.8% in the year 2016. Furthermore, the GDP recorded in 2014 was 1.918 billion Australian Dollars which fell to 1.629 Australian Dollar (Statista, 2015). However, the GDP rate of Australia is expected to flourish in the future and reach 1.95 million Australian Dollar by 2020 (Statista, 2015).

Economic Condition of Australia

From the past few years, it is identified that the value of Australian Dollar is deteriorating and the exchange rate of Australian Dollar is determined as 74.70 cents in 2016. The Reserve Bank of Australia estimated that the interest rate in 2015 will be 2% which is expected to decline at the end of next year to 1.50% (Reserve Bank of Australia, 2015). In addition to this, it is also identified that the interest rate will increase to 3.50% in the future (Trading Economics, 2016). Economists also estimated that in 2015, the inflation rate was recorded to be 1.53% which is also forecasted to increase in the future by 2.49% (Statista, 2015). Along with this, the rate of unemployment is Australia is declining which is estimated to decrease much more by 2020. Moreover, it is identified that there has been employment growth in past five years and half of the population of Australia is employed in occupations such as software and application programmers (55.2%), clothing trades worker employ 57.9% and heath care practitioners employ 56.4% people (Australian Government, 2015). As per Budget (2015), more than 250,000 jobs were created between 2014 and 2015 which shows a rising percentage of job holders. Moreover, it is identified that between 2014 and 2015, the service produced by the economy of Australia was approximately 60% of the total GDP worth $ 970 billion (Australian Government, 2015). These services in 2014 and 2015 employed almost 3.1 million people and the output resulted was $ 465 billion that is 29% of the GDP (Australian Government, 2015).

The fashion or apparel industry is considered to be a significant industry all over the world. The fashion retailing is an industry that has been the interest for many investors as the fashion sense of consumers is increasing and they are purchasing more fashionable clothes. As per the data collected from Fashion United (), it is revealed that the total population of Australia is 23.5 million people and the local market value of fashion industry is worth $AUD 28.5 billion. Data also reveal that GDP per capital in Australia is $AUD 75,681 and the fashion and textile industry employ approximately 37,000 people. According to Larner (2016) fashion is one of the biggest industries in Australia and the domestic luxury market of Australia alone is worth 2 billion Australian dollars in terms of revenue. The annual growth of fashion industry is considered to be more than 10 % every year.

Industry for making Investment in Australia

The fashion retail industry in Australia faces intense competition but the increasing fashion trends results in higher revenue. As per IBIS World (2016) between 2015 and 2016, the fashion industry revenue is expected to rise by 3.3% and the main drivers of expansion of fashion industry are expected to be online channels and brick and mortar retailers. The fashion retailing industry is diverse in nature and it is investigated that only 6.3% of the fashion retailers earn more that 2 million Australian dollars while approximately 44% of the retailers generate total revenue between 200,000 dollars and 2 million dollars per year (IBIS World, 2016). Since 2013, the fashion industry in Australia is continuously seeing growth in many aspects. There were 128 brands in Australia in 2013 which has increased to 219 brands in 2015 (Baptist World Aid Australia, 2015). In terms of the level of engagement it is found that in 2013, 54% of the brands were responsive while the percentage has increased in 2015 and at present 75% brands are responsive to their customers (Baptist World Aid Australia, 2015). According to the data collected from Fashion United (2016), it is identified that out of the total population of Australia consumer expends only 3% of his income on clothing and footwear which is worth 28.5 billion Australian Dollars. Moreover, 6.1 billion Australian Dollars are used in import and export of clothing and textile industry.

The two fashion retailers that will be studied in this section include Billabong International Limited and Globe International Limited. Both of these companies deal in consumer durables and apparel segment and are listed in ASX. Billabong International Limited is a clothing retailer that was found by Gordon and Rena Merchant in 1973 and the company manufactures clothing and accessories such as board shorts, watches and skateboard (Billabong, 2009). In the year 2015, the total revenue generated by the company from continuing operations was recorded to increase by 2.8% to 1,056,130 Australian Dollar (Billabong International Limited, 2015). It is also reported that in 2015, the company achieved strong growth and the brand sales increased by 13.1% (Billabong International Limited¹, 2015).

On the other hand, Globe International Limited is another Australian company that is considered as an international producer and distributor of footwear, apparels and hand goods for board sports such as wheels, decks and trucks (Globe International, 2016). The company was founded by three Australian brothers known as Hill brothers in the year 1985 and at present the company sell its products in more than 100 countries across the world. The regional revenue accomplished by the company increased by 33% in 2015 whereas, the group revenue recorded was $137.7 million which increased by 32% from 2014 (Globe Corporate, 2015). Along with this, the net profit after tax in 2015 was $3.7 million which was $3.2 million in 2014 (Globe Corporate, 2015).

Major Fashion Retailers in Australia

This approach is linked with the investment approach as it is related with making the fundamental analysis of the individual companies that falls in the same industry. To demonstrate this analysis, two companies, Billabong and Globe International has been selected and both these companies are well known in the fashion retail sector of Australia.

Evaluating the company’s financial performance using the financial ratios as an interpreting tool helps in making the comparative analysis of the companies belonging in same industry.

Liquidity ratios help in assessing the ability of an organization in meeting its shot-term liabilities and its margin of safety. The liquidity ratios compare the liquid assets of an organization with the current liabilities for assessing its position of covering the short-term debt in the event of an emergency condition (Fabozzi and Markowitz, 2011). The liquidity position of Billabong and Globe International can be analyzed through the following ratios

Current Ratio: Current ratio examines the ability of an organization to cover its short-term liabilities with its short-term assets.  It is calculated by the following formula:

Current ratio=Current assets/Current liabilities

With the help above financial data and applying the formula it has been found that current ratio of Billabong was 2.20 times in year 2014 and in year 2015 it remains at 2.19 times. It means that Billabong keeps sufficient amount of current assets as compare to current liabilities. On the other hand current ratio of Globe International was 0.77 and 0.72 times in year 2014 and 2015 respectively. It clearly shows that liquidity position of Billabong was quite strong in both the years as compare to Globe International (Morning Star. 2016: Globe International; Billabong). So it can be said that some companies in fashion retail sector of Australia performs outstanding while other are not achieving the normal standards of performance.

Quick Assets: Quick Ratio: Quick ratio measures the ability of an organization to meet its short-term obligations with its most liquid assets. It is calculated as follows:

Quick ratio= (Current assets-inventories)/current liabilities

The quick ratio of Billabong was 1.32 times in year 2014 and it increase to 1.35 times in year 2015. Talking about the Globe International it can be said that quick ratio was 0.57 times in year 2014 and got reduced to 0.52 in year 2015. It can be said that solvency position of Globe International was quite adverse in year 2014 as well as in year 2015. They are even meeting the normal standards required in the ratio calculation (Morning Star. 2016: Globe International; Billabong).

Bottom up Analysis

Profitability ratios are used for assessing the ability of an organization to generate earnings in comparison to the expenditure. The ratios measure the ability of an organization to generate earnings in relation to sales, assets and equity (Fabozzi and Markowitz, 2011. The profitability position of Billabong and Globe International can be analyzed through the following ratios:

Net Profit Ratio: Net profit ratio indicates the remaining profit after meeting all the operational cost involved in production, administration and financing. It demonstrates the relationship between the net profit after tax and net sales. It can be calculated as follows:

Net Profit Ratio=Net Profit after tax/Net Sales

The profitability position of Billabong showing negative net profit ratio of 20.84 % in year 2014 and it was 0.39 % in year 2015. It reflects very poor performance of Billabong in both the years. The profitability position of Globe International was very sound as net profit ratio in both years was quite high as compare to industry standards. The net profit ratio of Globe International was 12.68 % in year 2014 and 13.29 % in year 2015(Morning Star. 2016: Globe International; Billabong).

Return on Equity: Return on equity denotes the net income realized by an organization on shareholder’s equity. It provides an insight into the efficiency of an organization to generate income from the shareholder’s funds. It analyses organization profitability by measuring the generation of profit with each dollar of shareholder’s equity. The ROE ratio is calculated by the following formula:

ROE=Net Income/Shareholders equity

Globe International earns return of 27 % on the total equity in both the years. Whereas, profitability position of Billabong was adverse in both the years as return of equity shows negative figures in each case (Morning Star. 2016: Globe International; Billabong).

Capital efficiency ratios depict the relationship between the expenditure of an organization on the funds used for manufacturing of goods or service (Fabozzi and Markowitz, 2011. The capital efficiency of Billabong and Globe International can be analyzed through calculating the following ratios:

Debt equity ratio: Debt equity ratio is indicative of the debts used by an organization to finance its assets in comparison to the use of shareholder’s equity. It measures the financial leverage of an organization and demonstrates the proportion of debt and equity in its capital structure. It is calculated as follows:

Debt equity ratio: Total Liabilities/ Stockholder’s equity

On calculation it has been found that debt equity ratio of Billabong was 0.79 in year 2014 and it increase to 0.92 in year 2015. In case of Globe International the debt equity was 1.08 in both years 2014 and 2015. It can be said that both companies are highly leveraged as depend more on debt capital as compare to equity capital (Morning Star. 2016: Globe International; Billabong).

Analysis of Financial Performance of Billabong and Globe International using the Accounting Ratios

Equity Ratio: Equity ratio measures the proportion of total assets that are financed by an organization with owner’s funds. It is a solvency ratio that measures the leverage used by a company by comparing the assets that are financed with shareholder funds as opposed to creditors. The equity ratio is calculated as follows:

Equity ratio=total liabilities/total shareholder’s equity

Equity ratio of Billabong was 35.91 % in year 2014 and there was no change in this ratio in year 2015. While in case of Globe International the equity ratio was 30.38 % and 30.35 % in year 2014 and 2015 respectively. It clearly shows that both the companies use debt capital as the major source of finance (Morning Star. 2016: Globe International; Billabong).

The efficiency ratio is used for analyzing the effectiveness of an organization to use its assets and liabilities internally (Fabozzi and Markowitz, 2011. The efficiency ratio is used for measuring the turnover obtained from company’s receivables and general use of inventory and machinery. The market efficiency of Billabong and Globe International can be analyzed as follows:

Earnings per Share (EPS): Earning per share of a company indicates the profitability position by measuring its profit with each outstanding share of common stock. It indicates the monetary value of company’s earnings and thus is an indicator of its profitability position. The EPS can be calculated as follows:

EPS=Net Income-Preferred Dividends/Weighted Average Common Shares Outstanding

Earning per share of Billabong was negative 1.43 dollar in year 2014 and it increased to 0.02 in year 2015. In case of Globe International it was 98.41 pound per share in year 2014 and 119.92 pound per share in year 2015. It shows higher market efficiency of Globe International as compare to Billabong (Morning Star. 2016: Globe International; Billabong).

Conclusion

Fundamental analysis is a valuable approach that helps the investor to make an appropriate choice of stock which helps them in making profit. From the overall discussion, it is revealed that the GDP rate in Australia saw a downfall in 2015 but it is expected to rise in future and presents a scope of investment for the investors. Moreover, the inflation rate and interest rates are also in favour of the investors as they represent that the economy of Australia will continue to emerge and have immense growth prospects. The fashion industry is considered as the most significant industry for stock purchase and investment as the fashion sense of the people is increasing. It is identified that fashion industry is a diverse industry and provides wide range of opportunities for investors. Two major fashion companies that are examined in this report are Billabong and Global Internationals which shows that investing in these companies can be beneficial.

Liquidity Analysis

It is recommended that the fashion industry should integrate the ecommerce medium which can boost the sales and help the companies and retailers in making huge profits (Bowen and Ozuem, 2014). Other than this, the companies are also recommended that they should use social media channel to promote their products and services as it helps in reaching a wide range of customers and make global presence. Along with this, it is identified that implementing more than one channel helps to reach mass consumers and if any one channel is inefficient than the other social media platform will surely gain the attention from the consumers (Tuten and Solomon, 2014). The most used social media sites that should be used by the fashion retailers include Facebook, Twitter, MySpace, LinkedIn, and YouTube. Using quality pictures can enhance the quality of the message and writing short messages are effective to way to influence consumers. Thus, implementing these suggestions can definitely help the fashion retailers to increase their profitability and sustainability.

It is highly suggested to Billabong to decrease their cost of good sold expenses in order to increase the net profit and it is also suggested to finance the asset through use of equity as a major source of finance.

References

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