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Comparison of tesco plc annual reports

Tesco is a UK-based international grocery and general merchandising retail chain. This company is public limited company .It is one of the largest retailer for both global sales and domestic market share. It was founded by jack Cohen in 1919 in east London .The headquarters is situated in Hertfordshire , England. It is currently the third largest global retailer based on revenue, behind Wal-Mart and France's Carrefour. Tesco has overall 4000 stores all over U.K according to 2008 report. It majorly deals with Groceries, consumer goods, and now it has diversified into areas such as clothing, electronics, financial services, telecoms, home, health and car insurance, dental plans, retailing and renting DVDs, CDs, music downloads, Internet services and software. Tesco has created massive of employment in UK which is approximately 440000 till 2008. It is second largest company based on profit, ahead of Carrefour. The total revenue generated at the year ending February 2009 was £59.4 billion. The operating income for Tesco at the year 2009 is £3.128 billion. Tesco also has some subsidiaries like Tesco bank, Tesco Stores Limited and Tesco Ireland Limited.

Source: (http://en.wikipedia.org/wiki/Tesco)

Now the author of this essay wants to critically analyse and compare business financial affairs for Tesco with the help of annual report of the year 2008 and 2009 by using the application of ratio analysis for some particular aspects of ratios. To get the quick and easy digestible snapshots of organisation achievements it is necessary to consider the ratio analysis of the firm. Ratio analysis is the fundamental tool through which the users of the financial statement can analyse and interpret the relation between various financial variables in order to know the past performance of the company. Financial ratios provide a quick and relatively simple way to examining the financial condition of a business and in comparing the financial position of different business. Ratios are also important for the internal management of an organisation which keeps monitoring the performance by which some experts analysts give clear picture of overall organisation.

The first ratio which is taken in to consideration is the Profitability Ratio. The profitability ratio measures the degree to which the business is in profitability. This ratio is also used to measure a business's ability to create earnings as compared to its expenses and other relevant costs incurred during a specific period of time. There are three main ratios which are considered in profitability they are as follows

Return on capital Employed

This ratio is the basic measure for analysing the business performance. This ratio express the relationship between operating profit (net profit interest and taxation) during a period and the capital employed i.e. the average long term capital invested in the business in that period. It is given by the formula

ROCE = × Net profit before interest and taxation X 100

Share capital + Long term loans

For the year

2009

R.O.C.E = (3206/ 28013) X 100

= 11.44%

For the year

2008

R.O.C.E = (2791/19901) X 100

= 14.04%

This clearly indicates that for the year 2009 the return on capital employed is less by 2.58% as compared to 2008. This ratio helps to know the returns from the business against the capital invested in to the business. Since the R.O.C.E is less (2009) the return on capital invested is less. This can generate problem in achieving profit for the business in particular time period.

Gross Profit Margin

The gross profit margin ratio brings out the relation Gross Profit and net sales. It is also known as “Turnover Ratio” or “Gross Margin Ratio”. It also relates the gross profit of the business to the sales income generated for the same year. It also gives the clear idea about the difference between

Sales income and the cost of sales. The ratio is therefore a assess of profitability in purchasing or producing buying as well selling goods before considering the other expenses in to account. We know cost of sales represents a major expense in the business; a change in this ratio can affect the profit in that particular year. The gross profit margin ratio is calculated as follows:

Gross Profit Margin = Gross Profit X 100

Sales Revenue

For the year 2009

Gross Profit Margin = (4218/54327) X 100

= 7.76%

For the year 2008

Gross Profit Margin = (3630/47298) X 100

= 7.67%

The year 2009 shows increase in profit margin by 0.09%.Thus the gross profitability i.e. difference between sales revenue and cost of sales for the year 2009 is increased by 0.09 million pounds than 2008. To increase the profit margin Tesco decreased the cost of goods and other expenses which helped them to increase gross profit margin.

Net Profit Margin:

The net profit margin ratio gives the net profit for the period to the sales revenue during that year. The net profit before interest and taxation is considered as it represents the profit from trading operations before the interest cost are taken into account. Most of the times it is considered as benchmark for effective performance. This ratio compares the net profit of the business along with the sales revenue. Depending on the type of the business this ratio can vary considerably. This ratio is given by the formula

Net Profit Margin = Net Profit before interest and taxation X 100

Sales revenue

For the year 2009

Net profit margin = (3206/54327) X 100

= 5.90%

For the year 2008

Net profit margin = (2791/47298) X 100

= 5.90%

The value for net profit margin for 2009 and 2008 is 5.90% which is constant this is because Tesco plc dint reduce the administrative cost and some expenses.

The second ratio which is considered is Liquidity Ratio. These ratios are related with the ability of the business to congregate its short term financial obligations. There are two main ratios which are widely used under liquidity ratio they are as follows:

Current Ratio:

This ratio is designed to measure the relationship of current assets to current liabilities normally in the form of pure ratio. The current ratio compares the ‘liquid’ assets (like cash or those assets which can be converted in to cash) of the business with the current liabilities. If the ratio is higher it is considered that the business has more liquidity. As liquidity

is very important in business for its survival a higher current ratio is preferable as compared to a lower ratio. However its not always advisable for a business to have high current ratio because that may also indicate that the funds are engaged in cash or other liquid assets and are not used

Productively as they might otherwise be. The current ratio is given by the formula

Current Ratio= Current Assets

Current Liabilities

For the year 2009

Current Ratio = (14045/18040)

= 0.77%

For the year 2008

Current ratio = (6300/10263)

= 0.61%

Current ratio gives the idea of the current assets and liabilities that the company has in particular year. The ratio compares liquid assets to the current liabilities. The increase in the ratio means the business has more liquidity. In this case Tesco has more liquidity in 2009 since the current ratio is high compared to 2008. This also indicate that Tesco has more liquidity which they must have been used by them to cover the current liabilities.

Acid Test Ratio

The acid test ratio is very similar to the current ratio, but it represents a more rigorous test of liquidity. The minimum level for this ratio is often stated as 1.0 times. It is observed that in many successful business which are considered as business having adequate amount of liquidity has low acid ratio below than 1:0 without causing liquidity problems is not unusual. The acid ratio should always be less than current ratio since it is excluding the inventories (which are sometime difficult to convert it to cash).

The Acis Test Ratio is expressed as

Acid Test Ratio : Current Assets - Inventories

Current Liabilities

For the year 2009

Acid Test Ratio = (14045-2669)/18040

= 0.630:1

For the year 2008

Acid Test Ratio = (6300-2430)/10263

= 0.870:1

The acid test ratio for 2009 is significantly less than 2008. The 2009 level may be a cause of concern. The rapid decline in this ratio should lead to some precautionary action to be taken at least to stop further decline.

Working capital position is another important factor which is considered while calculating the ratios. working capital position means the funds or cash that are easily available to run the business. Basically, it's the cash and assets that can be easily converted to cash which is immediately available and not committed elsewhere. There are few factors which are important while calculating working capital position they are as follows

Inventory Days:

Inventories often represent a significant investment for a business. This turnover period measures the average time for which stock is being held. This can be calculated as a simple average of the opening and closing stock levels for the year. However, in the case of Tesco plc the inventory must be minimum so as to keep the stock moving condition. This ratio is sometimes expressed in terms of months rather than days. This is expressed by using the formula

Average inventory turnover period = average inventory held X 365

Cost of sales

For the year 2009

Inventory period = (2669/50109) X 365

= 19 days.

For the year 2008

Inventory period = (2430/43668) X 365

= 20 days.

As this period tells us the average days the stock being held it is better to have less number of inventory days. For Tesco in year 2009 has 19 days which is less as compared to 2008. We know that Tesco has some perishable food items such as vegetables and fruits hence it is better to have less inventory period so that the stocks gets moving before its expire date.

Receivable period

The average settlement period for receivables tells the period on average, credit customers take to pay the amounts that they owe to the business. Generally a business will typically be concerned for how long it takes for customers to pay the amounts owing. The earlier or late payment can have a major effect on the business’s cash flow. A business will normally prefer a shorter average settlement period to a longer one since the funds are tied up which may be used for some other purpose where there is more profit. Though this ratio can be useful, but we should remember that it gives an average figure for the number of days for which debts are outstanding. The ratio is expressed as

Average settlement period of receivables = Trade receivables X 365

Credit sales revenue

For the year 2009

Receivable days = (1798/54327) X 365

= 12 days.

For the year 2008

Receivable days = (1311/47298) X 365

= 10 days.

The value of receivable days is more in year 2009 by 2 days. This means that Tesco got the late payment from the creditors by 2 days. It is always better to have less number of receivable so that as soon as the payment is received it can be paid to the payables. Thus the payment condition from the creditors was better in 2008 as compared to 2009.

Trade payable period

The average settlement period for payables gives the clear idea about how long, on an average, the business takes to pay its trade payables. It is advisable to have more trade payable period so that the business gets time to receive funds from customer and later pay it to the suppliers. However it can be seen that some businesses try to increase their average settlement period for trade payable since it gives more source of finance for the business. Such policy can be taken too far and result in to loss of goodwill of the supplier. The ratio is calculated as follows:

Average settlement period for payables = Trade payable X 365

Credit purchases

For the year 2009

Trade payable period = (8522/50109) X 365

= 62 days.

For the year 2008

Trade payable period = (7277/43668) X 365

= 60 days.

Trade payable period indicates the time till which Tesco can make payment to its creditors or suppliers. 2009 shows 2 days more than 2008 in this case the 2 days will not matter much but overall it can be seen that Tesco gets nearly 2 months time for the payment to its suppliers. So Tesco got 2 months and 1 day to held the amount with themselves and thus they can utilise that money by investing it to some other profitable area of business.

The long term solvency Ratio is measures to assess a company’s ability to meet its long-term obligations and thereby remain solvent and avoid bankruptcy. Two general, overall solvency ratios include

1.Gearing Ratio

2.Interest Cover Ratio

These ratios basically tell whether a company owns more that it owes. The higher the ratio, the more solvent the company. Usually, both short-term and long-term debts and assets are used for calculating this ratio. In short, if the company doesn’t the lower a dependence on debt to finance its assets, the less risky is that company. In assessing solvency, it is also important to take into consideration the breakdown of a company’s liabilities.

Source: (googobits.com)

Gearing Ratio:

The gearing ratio measures the contribution of long-term lenders to the long-term capital structure of a business. Gearing ratio is one of the important ratio to be considered since it gives the clear idea for long term working of the business. Higher the value of gearing ratio more the chances of company to perform well in future. Share holders mainly show their concern mainly in gearing ratio. It is expressed as

Gearing Ratio = Long term debts X 100

Capital employed

For the year 2009

Gearing ratio = (12693/28013) X 100

= 45.31 %

For the year 2008

Gearing ratio = (6294/19901) X 100

= 31.62%

The Gearing ratio for the year 2009 is much higher as compared to 2008.

Gearing ratio actually helps the investors to decide whether they should invest money in the company. It also helps the share holder to know how much dividend company can pay every year to the share holder. Thus Tesco has high gearing ratio in 2009 people can think to invest money in Tesco and become share holder of Tesco.

Interest Cover Ratio

The interest cover ratio measures the amount of profit available to cover interest payable. If the business covers the lower profit level than there is a greater risk to the lenders. It becomes difficult for the payment of interest if the interest cover ratio is less. There is also greater the risk to the shareholders because the lenders will take action against the business to recover the funds due. It is calculated by the formula

Interest Cover Ratio = Profit before interest and taxation

Interest payable

For the year 2009

Interest cover ratio = (636/44)

= 14.45 times

For the year 2008

Interest cover ratio = (536/46)

= 11.65 times.

This ratio gives the idea of amount of profit earned from the business which can be used to cover the interest payable. More the profit less is the risk for lenders (of Tesco). The year 2009 shows 2.8 times more profit as compared to 2008. This shows that Tesco has higher profit in 2009. This will help Tesco to recover the interest in short duration of time.

Conclusion: The overall performance of Tesco in 2009 is good. During the time of recession the performance and the profits did not had much down fall. They have continued firm growth in the UK market and coped well with the challenges of competitors. In non-grocessory department, Tesco is growing sales and maintaining profitability along with the market shares, even though there is decline in the retail market. The investors if they want to invest money then they can think of investing in Tesco plc.

Critical assessment of Corporate Governance statement

Corporate governance is the set of processes, customs, policies, laws, and institutions affecting the way a corporation (or company) is directed, administered or controlled. Corporate governance also includes the relationships among the many stakeholders involved and the goals for which the corporation is governed. (anonymous ).

Corporate governance is a multifarious interests subject. One of the important factor of corporate governance is to secure the responsibility of certain employees in an organization through mechanisms which will reduce or eliminate the principal-agent problem. It is very important to consider factors such as sub-committees, combined code, board balance and independence which are part of corporate governance. Generally every company has remuneration committee, Nomination committee, and audit committee.

The role of Remuneration Committee is to determine and recommend to the Board the wages or payment scale of the Executive Directors. It also monitors and helps to structure the salary for senior management employees and make sure that the wage scale are designed to attract, retain and encourage the Executive Directors needed to run the Company successfully. It can be seen that the remuneration committee for Tesco met 10 times this year to ensures the remuneration of the Directors and Chief Executive Directors of the company. It is also the responsibility of the Remuneration Committee to explain the Director’s remuneration principles of combined code.

Similarly the Nominations Committee leads to the process for Board appointments and the re-election and of Directors, as well making Recommendations for the membership of legal committees. The Committee put the effort to identifying suitable candidates for the position of Non-executive Director. It may also include External search consultants to identify appropriate candidates. While identifying the non executive directors the nomination committee ensure the independence of the candidate. The committee also review the performance and development of Executive and Non-executive directors and also some other senior executive directors. They regularly take in to account the size, structure, working arrangement and capability for the board of directors

The Audit committee also plays vital role in corporate governance . The following diagram shows the general working of audit process of the company

Primarily the auditor is appointed by board. The financial accounts data and evidences are collected. The Audit Committee’s is responsible to assess the financial statements, and provide a assurance about the reliability of the information contained in the financial statements (balance sheet) in accordance with the universally accepted accounting principles and its rules . The committee also reconsider the company’s internal control and risk assurance process. They consider the appointment of the external auditors and their reports to the committee which includes an assessment of company’s internal audit. The audit committee also evaluate the possibility of fraud occurring in the company or organisation. The committee assess the company will continue to work on going concern concept which states that “The company business will continue to be in operational for the foreseeable future, unless this is known not to be true” (Eddie McLaney). Depending upon the certainty of the report and evidences the Auditor forms the opinionand overall view about the company which is published later in the annual report.

The combine code is one of the important factor of corporate governance . The Combined Code for Corporate Governance sets benchmark of good practice with respect to issues such development, remuneration, accountability and audit and relations with shareholders. The code consists of supporting principles and provisions. Every company has to report on how it applied the principles in the code and it should be confirmed that it is applicable with the codes principles and provision or if it is not applicable the company has to provide an explanation. All companies incorporated in the UK and listed on the London Stock Exchange are required to report on how they have applied the Combined Code in their annual report.

Among all the above listed factors it is very important for a company board to be balance and independent. The board should always include equal number of Executive and Non-Executive directors such that to particular group or particular individual can dominate board’s decision. But there is a contradiction to the theory “the board should be balance” it can be clearly seen that for a short time the board of Tesco plc in 2009 had imbalance due to the un expected resignation of two non –executive directors Carolyn McCall and E Mervyn Davies. Later in February 2009, the Board of Tesco PLC comprised eight Executive Directors, seven independent Non-executive Directors on board. The theory also says that “There should be transparent formal and rigorous procedure while appointing new directors on board”. We can easily analysis this theory on Tesco plc when they started with the process of finding replacements for two Non-Executive directors. The Board selected the right candidates and Recruited individuals with the right experience, availability and skills required for Non-Executive Directors. This clearly shows that the recruitment is be transparent formal and rigorous. The theory also provides some factors which can affect the independence of the members on board which may lead to unfair decisions.

If the director has received or receives additional wages from the company apart from directors monthly wages.

If the director has been an employee of the company for the last three- to five years which can make him to take the decisions from company’s side.

If the director has significant shares of the company.

If he is advisor other company and has significant links with the directors through the association in other company.

If he has close family ties with any of the company’s directors or senior management employee.

Therefore to avoid difference of opinion and fraud in the company it is essential to have independent Executive and Non-Executive directors for the company. It is also necessary to consider the situation where answerability is of increasing Importance and duties of care are now considered in many cases the corporate governance is an essential part of the everyday controls of the company and should be taken in to account regularly.

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