# Interpretation Of Financial Statements From Morrisons Finance Essay

Published: Last Edited:

This essay has been submitted by a student. This is not an example of the work written by our professional essay writers.

Morrisons, the fourth largest food retailer in the UK, operates 403 stores across UK selling mainly grocery and food to 9million customers weekly through almost 124,000 people employed. They also run their own manufacturing facilities through which they source and process most of the fresh food being sold at Morrisons. (http://www.morrisons.co.uk/Corporate/About-Morrisons/Company-history1/)

## Reasons for using ratio analysis

Investopedia defines ratio analysis as aÂ tool used by to perform a quantitative analysis of the financial informationÂ and performance of a company (http://www.investopedia.com/terms /r/ratioanalysis.asp).

Ratio analysis is used as performance analysis for its following advantages:

Analyzing Financial Statements - stakeholders like management, creditors, investors and bankers analyze financial statements using ratios for the purpose of their own decision making

Judging Efficiency - company's efficiency in terms of its management and operations and asset usage to earn profits can be judged

Locating Weakness - specific areas of weakness can be identified for remedial action

Formulating Plans and forecasting results - can also be used to predict the future financial performance trends

Comparing Performance - trend analysis over time, comparison of performance of different divisions, comparison with competitors or industry benchmark are also among the uses of ratio analysis (http://accountlearning.blogspot.com/2010/02/importance-and-advantages-of-ratio.html)

To workout the solvency - show the relationship between the liabilities and assets

To simplify the accounting information - summarize the results of detailed and complicated computations

To workout short-term financial position - short-term financial liquidity position of the company can also judged (http://www.universalteacher4u.com/cbse/xii/acctheory /ch11/page1.htm)

## Analysis and Recommendations

The activities of the company in recent years have resulted in an exceptional financial performance.

## Sales revenue

The sales revenue of the group increased reasonably well in the three years 2007-2009. Revenue increased from £ 12,462m to £ 12,969m during the year 2008 resulting in an increase of 4.07% and in 2009, revenue further increased by 12% showing a consistent performance. According to the annual report 2009, part of this increase was due to the very high prices of fuel seen in the forecourts business in the year caused by a worldwide spike in oil prices.

Despite the weakened UK economy, the group is doing good in terms of increased turnover and increased market share growth i.e. from 12.1% to 12.3% in the year. Tesco, on the other hand, has both a much larger turnover than Morrisons and a higher percentage in increase in its turnover i.e. about 15.1%. Therefore, Morrisons still has much room for improvement in capturing more market share and increasing its turnover.

## Gross Profit Margin and Net profit margin

The gross profit margin remain more or less consistent over the years with a small increase in year 2008 and none in year 2009 getting the overall increase of about only 1% over the three years. This means that gross profit increased in line with revenue. From this it can be concluded that the group has costs under control and they have only allowed a rational increase keeping in view the growth of the group.

Comparing the result with Tesco, where gross profit margin for 2009 is touching 7.76%, which is 1.48% more than that of Morrisons. It can perceived from this that Tesco has more control over their costs keeping in view the fact that it has a much larger turnover thus giving Morrisons an indication and signal to cut down costs even more.

In 2008 net profit margin increased by 114.6% from 1.99% in 2007 to 4.27% in 2008. This was mailny due to the increase in revenue and effective management of overhead costs. In 2009, net profit margin declined by 25.76% from 4.27% in 2008 to 3.99% in 2009. Along with the weak economic environment and the decline in net profit, another reason for this decline was the 5% increase in the administration costs since 2008. This increase, according to the report is due to the marketing expense which forms a major part of operating expenses and is useful in capturing a wider market.

The net profit margin of Tesco is quite at the same level as compared to Morrisons.

## Return on Capital Employed

The return on capital employed (ROCE) assesses profits with the amount of funds (capital) employed to make the profits. This increased from 7.80% in 2007 to 11.62% in 2008. This represents an increase of 32.87%. But due to the economic unstability, the group could not maintain its high rate of increase in ROCE over the years and it minutely declined by 0.78% from 11.62% in 2008 to 11.53% in 2009.

On the other hand Tesco's ROCE in 2009 stands at 12.25% which is not very larger than Morrisons. So this means that in relation to the industry, Morrisons is doing well to keep its ROCE at that level. The reason for a low ROCE could be high overhead costs. It must control its costs in order to generate a higher return and free up additional extra capital invested.

## Current Ratio

This is a measure of the adequacy of company's current assets to meet short-term liabilities as they fall due, i.e it's a basic liqiudity ratio. A ratio between 1 and 2 thought to be a standard level of liquidity. Morrison's current ratio was 0.40, 0.49 and 0.59 in 2007, 2008 and 2009 respectively. This shows a weak situation of the group as it has less current assets than its current liabilities as the ratio is less than 1, therefore this to be an area of concern for the group. Although the ratio is improving over the years but even in 2009, Morrisons have enough assets to just cover about 60% of its liabilities. As current ratio is of particular interest to short-term creditors of the group so the situation may create difficulties in obtaining short-term credit.

If we compare the ratio of 0.59 in 2009, with that of Tesco i.e. 0.76, it can be seem that although even Tesco has current ratio less than one but they have it maintained to more close to 1 than Morrisons. So in order to secure group's outlook for short term borrowings, management need to implement efficient working capital management techniques.

## Quick Ratio and Average Payment Period

One drawback of the current ratio is that inventory may include many items that are difficult to liquidate quickly and that have uncertain liquidation values, so quick ratio is used instead which normally range from 0.7 to 1.

Morrisons' quick ratio has been 0.21, 0.25, 0.28 for 2007, 2008 and 2009 respectively. The ratio has gradual increase over time but shows an alarming situation in relation to liquidity. This is mainly due to the high amount of trade creditors of the group. These figures are much less as compared Tesco where the ratio comes out to 0.61 that is quite acceptable. So management needs to pay close attention at careful monitoring of this issue which is what they are doing as in the Annual Report 2009 it is stated that:

"...... It is Group policy to ensure all payments are made within mutually agreed credit terms. Where disputes arise, the Group attempts to sort these out promptly and amicably to ensure delays in payment are kept to a minimum. Trade creditors for the Group at the financial year end represented 33 days of purchases (2008: 34 days)."

## Inventory Turnover

Another major asset turnover ratio is inventory turnover. The inventory turnover often is reported as the inventory period, which is the number of days worth of inventory on hand, calculated by dividing the inventory by the average daily cost of goods sold.

Morrisons seem to be maintaining a good inventory turnover period which stands at 13.24 days in comparison to Tesco where it comes out to 19.44 days. This means that Morrisons take only 13 days to sell it stock and resultantly it addresses the issue of stock obsolescence and holding costs.

## Financial Leverage Ratios

Financial leverage ratios provide an indication of the long-term solvency of the firm. Unlike liquidity ratios that are concerned with short-term assets and liabilities, financial leverage ratios measure the extent to which the firm is using long term debt.

## Gearing

This indicates the extent to debt finance involved in a business. Morrisons gearing ratio comes out to 27.7% in 2009 and has been almost at the same level since 2007. Tesco on the other hand has a high gearing ratio.

This means that although short term borrowing capacity of Morrisons is at a very low level, but they can always get good long-term debts in order finance the business in case of cashflow problems. It can also be concluded from this that Morrisons use a source of finance that has a higher rate of return i.e. equity.

## Interest cover

The interest coverage ratio indicates the extent of which earnings are available to meet interest payments. An interest cover ratio of more than 3 times is considered safe as even if profits are reduced to half the company will still be able to meet its financing costs.

Morrisons had a high interest cover of 5.16 in 2007 which increased to a striking 11.18 and in comparison Tesco has a cover of 6.71 which is also considered quite safe. So, keeping in view the gearing and interest cover of the group, it can be concluded that long term borrowing is not much of an issue for the group even in these times of recession.

## Investor Outlook

The earnings per share (EPS) measures how much profit after tax is made for each individual share.

EPS of the group, in comparison to Tesco i.e. 28.92p, is a bit on the lower side and stands at 17.16p despite of the increasing revenue in the 2009. In addition there has been some fluctuations in EPS over the three years as in 2007 it stood at a very low 9.31p and increased considerably in 2008 to 20.67p. Another thing to keep in mind is the fact that Morrisons is generating this EPS with a lesser equity (investment) than Tesco which means that it may be more efficient in using its capital to generate income.

The dividend per share of Morrisons was 5.8p and it then increased by 21% from 4.8p in 2008. The group managed to maintain a gradual increase in dividend which is covered 2.96 times by earnings.

Tesco, on the other, is maintaining a larger dividend payout at 11.96p per share which is covered 2.42 times by earnings and thus Tesco seems to be a more favourable investment for investors. Management seems to have noticed this fact and thus states in the Annual Report that :

"We will continue our progressive policy of increasing the dividend by underlying earnings and additionally moving dividend cover towards the average for our sector, which is around 2.5 times, by January 2010." - (Sir Ian Gibson - Chairman)

## Limitations of the analysis

Due to limited information available, some of the ratios could not be calculated which would have given an even clearer and in-depth analysis of the group's performance and position.

In addition to the limitations specific to this analysis there are certain other general limitations of the ratio analysis technique:

Limited Comparability - Differing accounting policies can lessen the usefulness of ratio in making comparisons

False Results - Dependant on the accuracy of accounting records and statements otherwise wrong financial position will be presented

Effect of Price Level Changes - changes in general price levels over time make it difficult to compare figures over a period of time

Qualitative factors are ignored - qualitative factors which may be important for the decision making are ignored by ratio analysis

Effect of window-dressing - Ratios can be used by management for "window dressing" and present an unreal financial position of the company

(http://www.universalteacher4u.com/cbse/xii/acctheory/ch11/page1.htm)

## CONCLUSION

Morrisons seems to be doing well in gradually growing and expanding the business. As compared to Tesco, which is a much larger group than it, Morrisons need to pay more attention to capturing a wider market to increase its turnover. A special attention has to be paid to the liquidity situation of the country. Although Morrisons seems to be a good investment, but from the investors point of view, there are other even better investments available and thus Morrisons need to pay out more dividend to attract even more investment and finance.

## Appendix

Financial ratios for the financial years 2009, 2008 and 2007 and also for the purpose of comparison similar ratios for a competitor "Tesco" are calculated as under:

Current Ratio

0.53

0.49

0.40

0.76

Quick Ratio

0.28

0.25

0.21

0.61

Cash Ratio

0.16

0.10

0.12

0.19

## Efficiency Ratios

Average Payment Period

33 Days

34 Days

Inventory Period

13.24 Days

13.28 Days

11.36 Days

19.44 Days

## Financial Leverage Ratios

Gearing Ratio

27.1%

24.7%

28.8%

53.6%

Interest Coverage

11.18

10.20

5.16

6.71

## Profitability Ratios

Gross Profit Margin

6.28%

6.31%

5.10%

7.76%

Net Profit Margin

3.17%

4.27%

1.99%

3.99%

Return on Capital Employed

11.53%

11.62%

7.80%

12.25%

## Investor Ratios

Diluted Earnings per share

17.16p

20.67p

9.31p

28.92p

Dividend

5.8p

4.8p

4.0p

11.96p

Dividend cover

2.96

4.31

2.33

2.42