EC7095 Financial Statement Analysis Lecture 6

Recap – lecture 5 Gearing Theories of Gearing Interest Cover Predicting corporate failure Z scores

Shareholder/Investor ratios An investment is only a good investment if you buy it at the right price Shareholders will be interested in profitability, liquidity and gearing, but……

Shareholder/Investor ratios An investment is only a good investment if you buy it at the right price Shareholders will be interested in profitability, liquidity and gearing but we must always relate this back to the price of the share.

Dividend Yield = Dividend per share/ Share price (%) An indicator of expected future income Income or growth? A low yield “should” suggest a fast growing company

Dividend Yield for Next plc 2011 dividend per share = 78p (a yield of 2.8% based on current share price) 2010 dividend per share = 66p 2009 dividend per share = 55p 2008 dividend per share = 55p 2007 dividend per share = 49p 2006 dividend per share = 44p 2005 dividend per share = 41p 2004 dividend per share = 35p Share price over last year: £18.36 - £28.18 Current price (14 November) £27.89

Earnings per Share Trends in eps are very important = PAT/number of shares Problems in calculation Next has a primary financial objective to

Earnings per Share Trends in eps are very important = PAT/number of shares Problems in calculation Next has a primary financial objective to “ maximise sustainable growth in earnings per share”

Earnings per Share Trends in eps are very important = PAT/number of shares Problems in calculation Next has a primary financial objective to “ maximise sustainable growth in earnings per share” They believe that this will create value for shareholders.

EPS for Next plc EPS 2011 = 221.9p EPS 2010 = 188.5p EPS 2009 = 156.0p

EPS for Next plc EPS 2011 = 221.9p (181m shares in issue at year end) They have repurchased over 100m shares since start of the 2003/4 financial year (37%)

Dividend cover How many times could the dividend have been paid out of earnings (PAT) Shows how safe the dividend is and the extent of profit retention = PAT/Dividends or eps/dps Income or growth?

Dividend cover for Next plc 2011: PAT/Dividends = 400.9/129.6 = 3.09 times 2010: 364.0/108.5 = 3.35 times 2009: 302.3/106.5 = 2.84 times 2009: 156.0/55.0 = 2.84 times 2008: 168.7/55 = 3.07 times 2007: 146.1/49 = 2.98 times 2006: 127.4/44 = 2.90 times 2005: 120.2/41 = 2.93 times 2004: 93.9/35 = 2.68 times

PE Ratio Shows how highly investors value the earnings a company produces = Market Price/EPS Share price can be seen as a “multiple” of earnings The size of the “multiple” can reflect expectations of future growth

PE Ratio As at 14 November 2011 (11 November 2010) PE Ratio Marks and Spencer 8.76 (11.2) Next 12.21 (11.2) Tesco 11.18 (13.3) Sainsbury 9.78 (10.3) Morrisons 12.72 (12.90)

Earnings Yield = eps/market price (%) Can be compared to dividend yield to give information on retentions Low yield = high PE ratio?

Net assets per share = Net Assets/No of Shares A crude measure of the value of most companies Next = £1.28 per share (current market price is £27.89)

Other factors Current market price Past and expected future returns Security

Financial v. Management Accounts FINANCIAL ACCOUNTS MANAGEMENT ACCOUNTS Legal requirement No legal requirement Standard format No standard format Annual Monthly (or less) Audited No audit required Published Not published Minimum disclosure “Maximum” disclosure Late! (deal with the past) Prompt! (also consider the future) Financial data Financial and non financial data Compares previous year Compares previous year, month and budget Company as a whole Detail on all departments/products

The Balanced Scorecard Aim is to provide management with information that covers all relevant areas of performance in an objective and unbiased fashion Uses indicators to measure performance on 4 different perspectives Customer Internal Innovation and learning Financial

Customer Perspective What do existing and new customers value from us? Need to consider targets that matter to customers – cost, quality, delivery etc.

Customer Perspective GOALS MEASURES New Products % of sales from new products Responsive Supply On time delivery Preferred supplier Share of key accounts’ purchases Customer partnership Number of cooperative engineering efforts

Internal Perspective What processes must we excel at to achieve our financial and customer objectives? Aim is to improve internal processes and decision making

Internal Perspective GOALS MEASURES Technology capability Manufacturing configuration v. competition Manufacturing excellence Time/cost/yield Design productivity Engineering efficiency New product introduction Actual v. plan

Innovation and Learning Perspective Can we continue to improve and create future value Considers the business’s capacity to maintain its competitive position through the acquisition of new skills and the development of new products

Innovation and Learning Perspective GOALS MEASURES Technology leadership Time to develop next generation of products Manufacturing learning Process time to maturity Product focus Percentage of products that are 80% of sales Time to market New product introduction v. competition

Financial Perspective How do we maximise the wealth of our shareholders? Covers the traditional measures of growth, profitability and shareholder value. Set through talking directly with shareholders

Financial Perspective GOALS MEASURES Survive Cash flow Succeed Growth Prosper Increase market share and ROCE

Balanced scorecard advantages Looks at internal and external factors – can improve understanding of key issues Is related to the key elements of a company’s strategy Financial and non financial measures are linked together

Balanced scorecard problems Conflicting measures – research funding v. cost reduction Selecting appropriate measures – and not too many Expertise and understanding of the indicators Interpretation – putting the data into an overall perspective

Problems with financial performance indicators Concentration on too few variables Lack of information on quality (see later) Measuring success, not ensuring success

Growing emphasis on non financial indicators Changes in cost structures Changes in the competitive environment Changes in the manufacturing environment Non financial performance indicators are measures of performance based on non financial information and are used to monitor and control without any accounting input

NFI’s examples AREA ASSESSED PERFORMANCE MEASURE Service quality Number of complaints Proportion of repeat bookings Customer waiting time On time deliveries Production performance Set-up times Number of suppliers Days inventory in hand Output per employee Material yield Schedule adherence/lead times Proportion of output to be reworked

NFI’s examples AREA ASSESSED PERFORMANCE MEASURE Marketing effectiveness Market share (trend) Sales volume growth Customer visits per salesperson Client contact hours per sales person Sales volume – forecast v. actual Number of customers Personnel Number of complaints received Staff turnover Absenteeism – days lost Accidents/sickness – days lost Training time per employee

Quality Drury example Route to TQM Qualitative issues

Value for money Used for evaluating public sector organisations E

Value for money Used for evaluating public sector organisations Economy E

Value for money Used for evaluating public sector organisations Economy Efficiency E

Value for money Used for evaluating public sector organisations Economy Efficiency Effectiveness

Value for money Used for evaluating public sector organisations Economy Efficiency Effectiveness Inputs, outputs and impacts

Value for money Used for evaluating public sector organisations Economy Efficiency Effectiveness Inputs, outputs and impacts VFM audits