Part C - Ratios
Using the Consolidated Statement of Comprehensive Income and Consolidated Balance Sheet, ratios can be calculated to give a potential investor a view of the profitability, liquidity, solvency and value of Next Plc so that they might make a better more well informed decision (Bull, 2008). Some such ratios can be calculated as follows:-
The above ratios can be explained to an investor as follows:-
Part D - Investability
For the purposes of this section, details of share prices for Next Plc were downloaded from shareprices.com (app.4). This information was downloaded on 9th November 1011 and covers the period 10th October – 8th November 2011. From these details, information has been extracted, explanations of which can be found below:-
(Shareprices.com, 2011)
Current Share Price
The current share price for Next Plc at close of business on 8th November is £27.46 (Shareprices.com, 2011). The share price for any share in any company fluctuates on a daily, even hourly, basis due to supply and demand. The share price is for one share in Next Plc. This is what an investor would pay for per share if he/she were to purchase shares at the point the information was downloaded together with broker fees. Share price is important for two reasons, if too high it may prevent individuals from being able to purchase enough shares to make up a round lot (100 shares) which is what some brokers require at the outset. Also, there is a general rule that shares below £1 (referred to as penny shares) are deemed to be speculative in that trying to predict whether high gains will be made is risky.
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Price Earnings (P/E Ratio)
The price earnings ratio divides the market share price by the EPS figure. Next Plc’s P/E Ratio is 12.37 times meaning that shareholders are prepared to pay 12.37 times 2.21 which is what each share is earning. In general, the higher the P/E Ratio of a company, the higher the level of market confidence. It is usually more helpful to compare the P/E Ratios of one company to other companies in the same sector in order to gauge the level of confidence.
The International Accounting Standards Committee provides standards that state how particular types of transactions and other events should be reflected in financial statements. The IASC has no authority to require compliance with its accounting standards. However, many countries require that financial statements of companies who publicly trade should be prepared in accordance with IAS.
The EPS figure used within the P/E Ratio is one such figure that is included, being covered by the IAS 33. The IAS 33 sets out the way in which the EPS figure should be calculated in the following way:-
Net income - Dividends on Preferred Stock
Average Outstanding Shares
EPS is reported over a certain period of time and the number of outstanding shares will likely fluctuate in that period, this is why average is used rather than a particular number (Collings, 2011).
EPS is considered by most investors to be the single most important metric to use when evaluating a stock. However, some aspects of EPS can be misleading when comparing two different companies. For example, one company could use twice as much capital to generate the same amount of profit as another, but it is obviously not utilizing its capital as efficiently as the other company. However, these numbers are not reflected in the EPS, so it is important to do your research on many different metrics when evaluating a company.
The IAS 33 states that an organisation must disclose the EPS figures in the Statement of Comprehensive Income (as with Next Plc). However, if a separate profit and loss statement is presented then the EPS figures should be presented on there.
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Dividend Yield
Dividend Yield expresses the dividend being paid as a percentage of the current share price. The Dividend Yield for Next Plc is 2.84%. Dividend yield is an easy way to compare the relative attractiveness of various dividend-paying stocks. It tells an investor the yield he/she can expect by purchasing a stock. This allows a basis of comparison between other investments such as bonds, certificates of deposit, etc.
It is a measure of the return on investment that the shareholder is receiving. Many yields are around 3%.
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Market Capitalisation
Market capitalisation (market cap) is the total value of the shares of a company’s sector or market. As can be seen in Note 8 to the Consolidated Financial Statements (app.6) Next Plc has 185mn shares in issue. If we times the total of shares in issue by the share price as at 8th November (£27.46) this provides us with the market capitalisation for Next Plc - £5.80bn. An investor would use this figure to determine the size of Next Plc as opposed to sales or total asset figures (Vetilingham, 2009). The market capitalisation of companies can be divided up into three categories; high cap, mid cap and low cap and generally speaking, if a company was listed on the FTSE 100 it would be regarded as high cap. Next Plc is listed on the FTSE 100 and therefore could be legitimately viewed as having high market capitalisation.
Part E – Growth & Return
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Capital Growth
Essentially, investors buy shares because they expect the share price to go up and/or because the shares will earn them income in the form of dividends. The increase in share price over time is known as capital growth whilst the decrease in share price over a period of time is called capital loss. For example, with Next Plc, investors may have purchased shares in early October for £25.58 and a year later they may be worth £30.58. If the shares were then sold, gains would be realised by the difference of £5 being pocketed. This is called a capital gain (Vaitilingham, 2009). Until the shares have actually been sold then any capital gain is on paper only and, once sold, the capital gain must be recorded in an Annual Tax Return.
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Income Return
Some investors may be seeking long term income in the form of dividends which are payments made to shareholders out of an organisation’s profits. Not all companies pay dividends as some choose to use profits for organic growth. Those organisations that do pay dividends may have a policy of paying out a certain percentage of profits to shareholders.
These dividends are usually paid twice a year; an interim dividend halfway through the year and a final dividend at the end of the year (Vaitilingham, 2009). Together these dividends form the total dividend which again must be included in an Annual Tax Return.
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Graph and Percentage Calculation
Using the share price information from app.4 a line graph has been created using Excel and imported below:-
(Shareprices.com, 2011)
The line across the graph shows that at the date of download share prices of Next Plc had in fact increased. To determine the percentage of this increase, the following formula is used:-
(Latest Share Price – Initial Share Price) x 100
Initial Share Price
(2724 – 2558) x 100
2558
The formula calculates the increase in share price or capital growth to be 6.48%.
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Dividends & Tax Credits
Organisations pay dividend out of profits on which they have already paid tax. Tax Credits take account of this tax and the shareholder can offset any Income Tax that may be due on their income from dividends. Tax Credits represent 10% of the dividend income.
For example, figure 1 shows dividend per share figures of Next Plc for five years ended 2011 extracted from the Annual Report and Accounts of Next Plc.
Fig.1 (Source – Nextplc.co.uk)
If an investor held 2,350 shares in Next Plc then total dividends and tax credit for years 2011 and 2011 would be as follows:-
Tax Credit is calculated by using the following formula:-
Total Dividends x Dividend Per Share x 10
90
Part F – International Accounting Standard 10 & International Financial Reporting Standard 8
As previously mentioned, International Accounting Standards are a set of standards that regulate how specific transactions should be noted in financial statements (Collings, 2011). A standard which affects the balance sheet and income statement is the IAS 10:-
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IAS 10
The IAS 10 is a standard which defines:-
- when an entity should adjust its financial statements for events after the balance sheet date; and
(2) the disclosures that an entity should give about the date when the financial statements were authorised for issue and about events after the balance sheet date.
Events after the balance sheet date are those events that occur between the balance sheet date and the date when the financial statements are authorised for issue. Two types of events can be identified:-
The IAS 10 also takes into consideration dividends in that if dividends are declared after the balance sheet date but before the financial statements are authorised for issue, those dividends are not recognised as a liability in the balance sheet date because they do not meet the criteria of IAS 37. Such dividends are disclosed in the notes of financial accounts in accordance with IAS 1 - Presentation of Financial Statements.
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IFRS 8
International Financial Reporting Standards (IFRS) are standards using the framework adopted by the (IASB) (Collings, 2011). IFRS 8 is a standard under that framework which applies to separate or individual financial statements of an entity (and to the consolidated financial statements of a group with a parent such as Next Plc):-
- whose debt or equity instruments are traded in a public market; or
- that files, or is in the process of filing, its (consolidated) financial statements with a regulatory organisation for the purpose of issuing any class of instruments in a public market.
However, when both separate and consolidated financial statements for the parent are presented in a single financial report such as for Next Plc, segment information needs to be presented only on in the consolidated financial statements.
An operating segment is a component of an entity, ie. Next Retail, Next Directory, Next International and Next Sourcing are all components of Next Plc. These components all engage in business activities from which Next Plc may earn revenues and incur expenses (Melville, 2009). Not all operating segments need to be separately reported hence the term “reportable segments”. Operating segments are only
required to be reportable if they exceed quantitative thresholds such as:-
- reported revenue (external and inter-segment) is 10% or more of the combined revenue of all operating segments;
- the absolute amount of the segment’s reported profit or loss is 10% or more of the greater of the combined reported profit of all operating segments that did not report a loss, and the combined loss of all operating segments that reported a loss;
- the segment’s assets are 10% or more of the combined assets of all operating segments.
Next Plc have provided information as to their continuing operations and total segment revenues in their Results for Half Year ended July 2011, an extract of which can be found at app.5.
Bibliography
Bull, R, 2008. Financial Ratios: How to Use Financial Ratios to Maximise Value and Success for Your Business. Elsevier Science & Technology. Available from:<> 23 December 2011
Collings, S, 2011. Interpretation and Application of International Standards on Auditing. Wiley. Available from:<> 23 December 2011
Companies House, 2011. Life of a Company: Part 2 Event Driven Filings. Share Capital. Available from:
Elliot, B, Elliot, J, 2007. Financial Accounting and Reporting. Pearson Education UK. Available from:<> 8 February 2012
Fortes, Dr. H, 2010. Accounting Simplified. Pearson Education UK. Available from:<> 11 December 2011
Lewis, R, Pendrill, D, 2004. Advanced Financial Accounting. Pearson Education UK. Available from:<> 11 December 2011
Melville, A, 2009. International Financial Reporting. Pearson Education UK. Available from:<> 23 November 2011
Next Plc, 2011. Reports and Results: Half Year Results. Available from:
Wolfgang, D, Missonier-Piera, F, 2011. Financial Reporting under IFRS: A Topic Based Approach. Wiley. Available from:<> 23 December 2011
Shareprices.com, 2011. NXT – Next Plc Investor Summary. Available from:
Vaitilingam, R, 2009. Financial Times Guide to Using the Financial Pages. Pearson Education UK. Available from:<> 23 December 2011
Weetman, P, 2006. Financial and Management Accounting. Pearson Education UK. Available from:<> 23 December 2011
Figure Table
- Five Year History – Next Plc (Nextplc.co.uk)
Appendices
- Consolidated Balance Sheet – Next Plc
- Consolidated Income Statement – Next Plc
- Consolidated Statement of Comprehensive Income – Next Plc
- Investor Summary – Next Plc
- Segmental Analysis – Next Plc
- Notes to Consolidated Financial Statements – Next Plc
