NEXT PLC: Ratio Analysis
NEXT PLC is a UK based retail chain that deals in clothing, footwear, accessories and home products. Consistent with the company’s Growth corporate strategy, its primary financial objective is the delivery of sustainable long-term growth in earnings per share (EPS), which the company believes is a key driver of shareholder value (NEXT PLC, 2013). To further enhance its growth strategy the company carries out extensive product development and improvement, which has resulted in an impressive sales performance. The group also endeavors to maintain its financial strength through an efficient balance sheet and secure financing structure.
The company has exhibited a general growth in revenue since 2009, representing an average growth of 1.37%, accompanied by a constant growth in both gross and operating profit margins. Consequently, the earnings per share increased considerably from £3.11 in 2009 to £6.23 in 2013. The operating income, net income and earnings per share increased by an average of 5.29%, 7.51% and 13.35% respectively. This represents a considerable increase in the total value of the firm. The book value per share, however fluctuated dropping slightly in 2010, followed by an increase in 2011 and 2012 and finally declining in 2013. Working capital was also characterized by fluctuations, with a range of up to £164 million between the highest and lowest working capital. Other parameters including operating cash flow, capital spending, free cash flow and free cash flow per share generally increased, which is a clear indication of a significant improvement in the overall operations of the company.
In terms of profitability, the company exhibited a remarkable performance. This can be attributed to the fact that it was in a position to implement effective cost management strategies as witnessed by the proportion of the cost of goods sold in the total revenue. The cost of goods sold have declined constantly from 2009 through to 2013, which explains the constant growth in the Gross margin. Nevertheless, it can be inferred from the fluctuation in sales, general and administrative expenses, that the company was not able to manage these costs very effectively. Other measures of profitability such as the earnings before taxes (EBT) margin, net margin, return on assets, financial leverage and interest coverage were also characterized by very encouraging trends. Like the gross and operating margin, EBT margin increased every year throughout the entire period and so did the net margin. This suggests that the company was able to increase the total income per dollar of sales every year.
The return on assets and interest coverage increased significantly, which implies that the company increased its overall efficiency in generating earnings from the assets available and improved its ability to generate sufficient cash flow to pay off its interest expenses. Moreover, in line with the company’s objective to increase shareholder value, the financial leverage declined considerably signifying the company’s reduced utilization of fixed income securities including debt and preferred equity in its capital structure.
The company’s efficiency was fairly inconsistent with ratios such as the day’s inventory, payables period, cash conversion cycle, receivables turnover, inventory turnover and asset turnover, fluctuating considerably throughout the period. The day sales outstanding was the only ratio that unfortunately deteriorated consistently for the five years. For instance, in 2013, the day’s inventory, payables period, cash conversion cycle and receivables turnover had declined by 6.53%, 3.28%, 1.48% and 2.30% respectively. To the contrary, in 2012, the day’s inventory, payables period, and the cash conversion cycle had increased by 6.40%, 2.10% and 5.37%, respectively, only the receivables turn over had exhibited a decline of 2.72%. On average, the day sales outstanding, day’s inventory, cash conversion cycle and fixed asset turnover had increased by 3.20%, 1.96%, 3.78% and 4.53%, respectively, while the payables period, receivables turnover and asset turnover had declined by 0.58%, 3.00%, 1.41% and 0.36% respectively in the last five years.
There was an increase in fixed asset turnover, but a decline in asset turnover, which implies that the company portrayed an increased ability to generate sales from the fixed assets, but a diminished ability to perform the same task from the total assets. This is a red flag for the company’s current assets. This concern is iterated by the general declining trend in the current ratio. The constant increase in the day sales outstanding is not good for the company because it implies that it is issuing more goods on credit and taking longer periods to collect its debts. The average increase in the cash conversion cycle also suggests that the company’s resources are increasingly getting tied up in the production process and inventory before they are eventually converted into cash. The average decline in inventory turnover could mean that the company is holding excess inventory and making poorer sales every year. However, because of the average increase in revenue, this could also mean that that company is making effective purchases
Finally, the company’s financial health is characterized by a declining trend in the current ratio, an increasing quick ratio and declining financial leverage and debt to equity ratio. Despite the declining trend in the current ratio, it increased by 0.30% on average owing to the 20.31% increase in 2012, which diluted the declining trend. This, coupled with the average increase in the quick ratio suggests that the company is in a position to meet its short term obligations when they fall due. The declining financial leverage and debt to equity ratio, as aforementioned, represents the company’s reduced utilization of debt and preferred equity in capital, which is consistent with its share value maximization objective.
Next Plc. (2013). Annual Report and Accounts. London: Next Plc.