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Profitability Ratios

The current assignment deals with evaluating the financial statement of two US public listed companies. Therefore, two rival companies have been chosen from the US retail industry that comprise of Wal-Mart and Costco. The financial statements have been evaluated with the help of four kinds of ratios along with the ways of computing the same and the implications to the management.

The values of the selected profitability ratios along with the method of computing the same are depicted in the form of a table as follows:

Profitability Ratios:-

Particulars

Wal-Mart

Costco

Industrial Average

Details

2015

2016

2015

2016

2015

2016

Revenue

A

     485,651

     482,130

     116,199

     118,719

Gross Profit

B

     120,565

     121,146

       15,134

       15,818

Net Profit

C

       16,363

       14,694

         2,377

         2,350

Shareholder's Equity

D

       81,394

       80,546

  10,617.00

  12,079.00

Gross Margin

B/A

24.83%

25.13%

13.02%

13.32%

20.00%

21.00%

Net Margin

C/A

3.37%

3.05%

2.05%

1.98%

3.00%

4.50%

Return on Equity

C/D

20.10%

18.24%

22.39%

19.46%

15.00%

14.50%

 

According to the above table, the gross margin is selected, as it helps in providing an overview of the efficiency of a firm in controlling its inventory and manufacturing its products and then it is subsequently passed on to the customers (Li and Mohanram 2014). It has been evaluated that Wal-Mart has better gross margin in contrast to Costco, since it has performed above the industrial standards and the scenario is reverse for Costco. The net margin is selected; as it helps in depicting the leftover amount of profit after the company has incurred all its variable and fixed expenses. From the above table, both the organizations have experienced a decline in the ratio; however, the performance is better for Wal-Mart. Both the organizations are unable to match up with the industry average in 2016.

The return on equity is selected for gauging the return on the amount of money the investors have invested into the organization. Thus, with the help of this ratio, the investors could undertake their investment decisions (Magalhães 2014). In this case, both the organizations have performed above the industrial average; however, there is a decline in the ratio in 2016. Despite the fall, Costco is enjoying competitive advantage over Wal-Mart in terms of this ratio.

The values of the selected liquidity ratios along with the method of computing the same are depicted in the form of a table as follows:

Liquidity Ratios:-

Particulars

Wal-Mart

Costco

Industrial Average

Details

2015

2016

2015

2016

2015

2016

Current Assets

A

       63,278

       60,239

       17,299

       15,218

Inventories

B

       45,141

       44,469

         8,908

         8,969

Current Liabilities

C

       65,272

       64,619

       16,540

       15,575

Current Ratio

A/C

0.97

0.93

1.05

0.98

       1.50

       1.20

Quick Ratio

(A-B)/C

           0.28

           0.24

           0.51

           0.40

       0.89

       0.75

 

The current ratio is the most basic evaluation about the level of coverage in relation to current debts by current assets. In this case, both the organizations have experienced a decline in this ratio and it is well below the industrial benchmarks. The quick ratio, on the other hand, has been selected, as it depicts the potential complexity to sell inventory or prepaid assets during emergency (Palepu, Healy and Peek 2013). Based on the above table, the ratio for Wal-Mart and Costco has declined in 2016 and it has failed to match with the industrial standard. Hence, it could be inferred that both the organizations are suffering from poor liquidity position in the US retail industry.

Efficiency ratios have great importance to the investors and management of the organization as they help to determine the financial position of the companies (Bodie, Kane and Marcus 2014). The efficiency ratios of Wal-Mart and Costco are discussed below for the years 2015 and 2016:

Efficiency Ratios:-

Particulars

Wal-Mart

Costco

Industrial Average

Details

2015

2016

2015

2016

2015

2016

Revenue

A

     485,651

     482,130

     116,199

     118,719

Cost of Sales

B

     365,086

     360,984

     101,065

     102,901

Opening Accounts Receivable

C

         6,677

         6,778

1148

    1,224.00

Closing Accounts Receivable

D

         6,778

         5,624

    1,224.00

    1,252.00

Average Accounts Receivable

E=(C+D)/2

         6,728

         6,201

         1,186

         1,238

Opening Accounts Payable

F

       37,415

       38,410

         8,491

         9,011

Closing Accounts Payable

G

       38,410

       38,487

         9,011

         7,612

Average Accounts Payable

H=(F+G)/2

       37,913

       38,449

         8,751

         8,312

Opening Inventory

I

       44,858

       45,141

         8,456

         8,908

Closing Inventory

J

       45,141

       44,469

         8,908

         8,969

Average Inventory

K=(I+J)/2

       45,000

       44,805

         8,682

         8,939

Debtors' Turnover Ratio

365/(A/E)

5.06

4.69

3.73

3.81

     10.00

     12.00

Creditors' Turnover Ratio

365/(B/H)

37.90

38.88

31.60

29.48

     28.00

     32.00

Inventory Turnover Ratio

365/(B/K)

44.99

45.30

31.36

31.71

     55.00

     63.00

As per the industry average, the debtors’ turnover ratio for the year 2015 and 2016 was 10 and 12. For Wal-Mart, the debtors’ turnover ratio for the year 2015 and 2016 was 5.06 and 4.69 respectively. One positive sign is that the debtors’ turnover ratio decreases in the year 2016 as compared to 2015. In case of Costco, the debtors’ turnover ratio for the 2015 is less than the year 2016. The increase in the debtors’ turnover ratio is not a good sign for Costco (Chortareas, Girardone and Ventouri 2013).

For Wal-Mart, the creditors’ turnover ratio for the year 2015 and 2016 are 37.90 and 38.88. It can be said that the creditors’ turnover ratio of Wal-Mart increased in the year 2016 as compared to 2015; this is a negative aspect of the financial position of the company. On the other hand, the creditors’ turnover ratio of Costco for the year 2015 and 2016 are 31.60 and 29.48 respectively. The decrease in the creditors’ turnover ratio shows the strong financial positing of the company.

For Wal-Mart, the inventory turnover ratio for the year 2015 and 2016 are 44.99 and 45.30 respectively. The decrease in the inventory turnover ratio implies that the financial positing of the company in 2016 was efficient. For Costco, the inventory turnover ratio for the year 2015 and 2016 are 31.36 and 31.71 respectively. The increase in the inventory turnover ratio shows that the financial position of Costco in 2016 was not efficient.

The debt and leverage ratio helps to understand the debt position of the companies (Fan, Titman and Twite 2012).

Debt and Leverage Ratios:-

Particulars

Wal-Mart

Costco

Industrial Average

Details

2015

2016

2015

2016

2015

2016

Total Liabilities

A

     122,312

     119,035

       22,823

       21,084

Shareholder's Equity

B

       81,394

       80,546

       10,617

       12,079

Total Assets

C

     203,706

     199,581

       33,440

       33,163

Gearing Ratio

A/(A+B)

           0.60

           0.60

           0.68

           0.64

0.5

0.45

Equity Multiplier

C/B

2.50

2.48

3.15

2.75

1.75

1.96

For Wal-Mart, the gearing ratio for the year 2015 and 2016 are 0.60 and 0.60 respectively. It implies that the debt structure of the company includes more long-term debts than equity. For Costco, the gearing ratio for the year 2015 and 2016 are 0.68 and 0.64 respectively. It implies that there were more long-term debts than equity in the company.

For Wal-Mart, the equity multiplier ratio for 2015 and 2016 are 2.50 and 2.48 respectively. It can be seen that the ratio decreased in the year 2016. For Costco, the equity multiplier ratio also decreases in 2016. The ratio was 3.15 and 2.75 in the year 2015 and 2016 respectively.

Conclusion:

Based on the above discussion, it has been found that both organizations are performing effectively in terms of profitability and efficiency, in which Wal-Mart has been identified as the strongest competitor. However, in terms of liquidity and solvency position, both are struggling due to increasing burden of debt levels.

References:

Bodie, Z., Kane, A. and Marcus, A.J., 2014. Investments, 10e. McGraw-Hill Education.

Chortareas, G.E., Girardone, C. and Ventouri, A., 2013. Financial freedom and bank efficiency: Evidence from the European Union. Journal of Banking & Finance, 37(4), pp.1223-1231.

Fan, J.P., Titman, S. and Twite, G., 2012. An international comparison of capital structure and debt maturity choices. Journal of Financial and quantitative Analysis, 47(01), pp.23-56.

Li, K. and Mohanram, P., 2014. Fundamental Analysis: A comparison of Financial Statement Analysis Driven and Intrinsic Value Driven Approaches. Maystadt, P.(2013). Should IFRS standards be more “European”. Mission to reinforce the EU’s contribution to the development of international accounting standards. Report to the.

Magalhães, M.M.C., 2014. Value investing and financial statement analysis (Doctoral dissertation).

Palepu, K.G., Healy, P.M. and Peek, E., 2013. Business analysis and valuation: IFRS edition. Cengage Learning. 

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