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Financial Analysis of Target Corporation: Profitability, Liquidity, Efficiency and Gearing Ratios
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Task 1: Ratio Analysis

Profitability Ratios

The profitability ratios of the company have depicted its ability to generate earnings in relation to revenue. The Return on Capital Employed (ROCE) ratio for the company Target Corporation has depicted increase from 15.64% to 21.01% across the financial period 2018-2020. This means that it is utilising its capital base effectively for generating higher earnings from the financial year 2018-2020. The net profit margin for Target Corporation has also increase from 3.89% to 4.67% across the financial period 2018-2020 which means that its ability to realise profits in relation to the operating costs incurred has increased. The Return on Equity (ROE) for the company has also depicted an upward trend from 25.60% to 33.25% across the financial years 2018-2020. This means that it has realised higher sales from the use of equity base across the selected financial period. This is owing to strong financial performance of the company Target in Covid-19 times. The growing major shares and increased digital sales have led to driving improvement in its profitability margin across the financial year 2018-2020 (Davies and Crawford, 2019).

Liquidity Ratios

The liquidity ratio of the company depicts its ability to meet the short-term financial obligations with its most liquid asset base. The current ratio for the company Target has depicted an increase from 0.83 to 1.03 across the financial period 2018-2020 which means that there is increase in its current asset base for meeting the current liabilities. The quick ratio for the company Target has also depicted an increase from 0.20 to 0.50 over the financial period 2018-2020 but is less than 1. This means that its quick asset base is lower as compared to meeting the financial obligations that are due within a year. It has maintained a disciplined approach to manage its cash and cash equivalents during the Covid-19 pandemic that has led to driving improvement in its liquidity performance across the financial period 2018-2020.

Efficiency Ratios

The inventory days has depicted a decrease from 61.96 days to 54.18 days across the financial period 2018-2020 for the company Target. This means that company is able to quickly turn its inventory into sales depicting its higher efficiency. The account payable in days has depicted a decline from 63.13 to 62.82 from the financial period 2018-2020 illustrating that there is reduction in number of days taken to meet the obligations of its creditors such as suppliers. The asset turnover ratio depicting its ability to realise sales from the use of asset base has also improved from 1.85 to 1.99 across the financial period 2018-2020. This means that efficiency performance of the company has enhanced from the financial year 2018 to that of the financial year 2020.

Profitability Ratios

Gearing ratios

The ratios depict the extent of financial leverage that a company has in relation to the equity base. The debt-to-equity ratio has decreased from 265.50% to 254.90% across the financial period 2018-2020 which means that it has reduced debt in relation to equity. The time interest earned ratio has decreased from 8.92 to 6.69 which means there is a risk for the company to not able to meets the interest obligations on its outstanding debt on time.

Conclusion and recommendations

On the basis of ratio analysis, it has been found that financial performance of Target Corporation has been very strong during the last three years. Profitability performance reflects increasing trend and it was expected from the actual results. It is same case with liquidity position. However, it is recommended to board on capital structure as times the interest earned has started decline and debt to equity has increased (Brigham and Michael, 2017).

Risks in the business over this ‘Prognosis’ Period

  • A small change in sales make a strong impact on the net profit of the company
  • Change in operating expenses also impact the profit of the company but not to the extent as sales do.
  • Financing requirements increased by more than 25% with 10% decrease in sales while it increases by more than 15% when there is 7% decline in operating cost ((Arnold, 2018)

Formula of operating cash cycle: Inventory days + Accounts receivable days – Account payable days

  • Inventory days = (365*Inventory)/ Cost of goods sold
  • Account receivable days = (365 * trade receivables) / Sales
  • Account Payable days = (365 * trade payables) / Cost of goods sold

Please note = Average figures are not taken

Operating Cash Cycle

Case

Details

2018

2019

2020

Case 0

No change

1.25

-3.85

-9.71

Case 1

Trade receivable 10% higher

1.56

-3.61

-9.46

Case 2

Trade receivable 20% lower

0.64

-4.31

-10.20

Case 3

Trade payable 30% higher

-18.80

-23.65

-30.98

Case 4

Trade payable 15% lower

11.28

6.05

0.93

Case 5

Inventories 40% higher

27.27

20.08

13.80

Case 6

Inventories 20% lower

-11.75

-15.81

-21.46

  • As normal operating cash cycle was near 1 or less than 1 for years 2018 to 2020, it is implied that Management at Target Corporation has been very successful in managing its working capital
  • Trade payable has wide impact on the operating cash cycle as account payable is very higher as compared to account payable and inventory balance
  • Trade receivable has been very negligible that clearly define that consumer pays either at the time of purchase (Cash Sales) and credit period is very less. It means change in trade receivables will have lowest impact on the operating cash cycle.

Part a: Rationale on capital structure of the selected company (Target Company)

Common Stock, additional paid in capital and retained earnings: Main source of finance for any public listed company. This source of finance is mostly used to finance most of fixed assets such plant and equipment and vital assets required to put company in position to run the business smoothly. It is also used to make available the fund to finance the business expansion projects. Looking at the debt-to-equity ratio it can be said Target corporation make of use of debt capital almost 2.5 times more than the equity capital that reflects company is highly leveraged under external debts and it is not good for the capital structure of the company.

Debt Capital (Both short and long borrowings): The very big portion of capital of Target Corporation comprises of borrowings from external sources and these funds are being targeted to purchase of plant and equipment or buy-back or repurchase of its stock as per cash flow statement of Target Corporation. Well it is not for any public listed company to depend highly on external sources of funds while decreasing the share capital from market. As it is seen from interest coverage ratio had been continuously decreasing during the last three years that reflects poor management of capital structure by management of Target Corporation (Bragg, 2020).

Part b: Difference between ordinary and preference shares

Ordinary Shares

Preference Shares

Voting Rights

Ordinary shares provide the shareholders the rights to vote before the shareholders of a company.

The preference shares provide the preferred treatments to shareholders in comparison to ordinary shareholders but do not provide a right to vote to them

Dividend Rights

These shares also provide the right to shareholders for receiving dividends dependent on the company’s performance

The shareholders have a priority on receiving dividend as compared to ordinary shareholders

Liquidation

The ordinary shareholders rank last for receiving dividends in case of insolvency

The preference shares have priority over ordinary shareholders to receive their investment back in situation of insolvency

The factors that impact share price are stated as follows:

  • Company Share Issues: The release of new shares to public causes a demand for their purchase and the supply is low causing an increase in share price
  • Share Buyback: The company buys back its own shares from the investors causing a reduction in the support leading to increase in share price
  • Industry Trends: These trends also impact the shares price as boom in an industry tend to increase the share price and vice-versa.
  • Market Sentiment: The investors are largely influenced by the market trends and can be used for informing fundamental and technical analysis for estimating changes in share prices (Weygandt, Kimmel and Kieso, 2019)

References

Annual Report. 2018. Target Corporation. [Online]. Available at:

https://investors.target.com/annual-reports [Accessed on: 18 January, 2022].

Annual Report. 2019. Target Corporation. [Online]. Available at:

https://investors.target.com/annual-reports [Accessed on: 18 January, 2022].

Annual Report. 2020. Target Corporation. [Online]. Available at:

https://investors.target.com/annual-reports [Accessed on: 18 January, 2022].

Arnold, G., 2018. Corporate financial management. USA: Pearson Higher Ed.

Bragg, S. 2020. Business Ratios and Formulas: A Comprehensive Guide. US: John Wiley & Sons.

Brigham, F., and Michael C. 2017. Financial management: Theory & practice. Canada: Cengage Learning.

Davies, T. and Crawford, I., 2019. Business accounting and finance. USA: Pearson.

Weygandt, J. J., Kimmel, P. D., and Kieso, D. E. 2019. Financial accounting. US: John Wiley & Sons.

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