When the business prospers then the owners may be able to receive a share of that prosperity in the form of a cash dividend.
Accounting information is very important for the shareholders as a report on how well the directors have run the company on their behalf.
Shareholders need information to help them decide whether they should buy, hold or sell. They are also interested in information on the entity’s financial performance and financial position that helps them to assess its cash-generation abilities and that helps them assess the stewardship of management. They also need the information to ascertain the economic stability and vulnerability of the reporting entity.
In this report I am going to analyse the financial statements of Truworths over a period of 5 years. This analysis is essential in evaluating the position and performance of the business. Comparison of ratios over time has the advantage of detecting whether there has been an improvement or deterioration in performance. Generally the performance of the Company has been remarkable for the year ended July 7 2002.
Environment overview
An analysis of the environmental surrounds of the company has been done using the PEST model (Johnson and Scholes, 2003).This framework categorises environmental influences into four main types: political, economic, socio-cultural and technological. Major points revealed are as follows:
- The current economic environment is characterised by acute foreign currency shortages, high inflation, unemployment, the raging AIDS pandemic, looming drought and political upheaval. All these factors have a very negative impact on the survival of businesses in Zimbabwe.
- Government instability has affected the clothing industry as the viability of the industry in the coming years is unpredictable.
- The shortage of foreign currency has a very negative impact as most of the materials to make the clothes are imported. This causes the cost of the clothes to the market to be unaffordable to some customers resulting in a reduction in the overall sales.
- Due to the decline in the economy most employees have lost their jobs through retrenchment therefore some customers have not been able to pay their debts and some debts had to be written off.
Critical Performance Appraisal
According to (Blake, 1985) the American Accounting Association drew up this definition of accounting in 1966:
“Accounting is the process of identifying, measuring and communicating economic information to permit informed judgements and decisions by users of the information”
Various analytical tools have been used to assess, measure and communicate the financial performance of the company.
These include
- Comparative historic and hyper-inflation adjusted financial statements and trend analysis
- Ratio analysis
- Environmental analysis
Accounting Policies
There are a great many matters in accounting practice that differ from one company to another.(Anthony and Reece, 1977). These are the accounting principles of an organisation. Readers should realise , therefore that they cannot know the precise meaning of many of the items on an accounting report unless they know which of several equally acceptable possibilities has been selected by the person who prepared the report
The principle accounting policies followed by Truworths Ltd are set out in Appendix A.
Ratio analysis
Financial ratios provide a quick and relatively simple means of examining the financial condition of a business. (Atrill & McLaney,1999). The author has used ratios which are of importance to the shareholder as the key user of the information.
Appendix K lists the ratios used by Truworths for its financial analysis.
Effect of inflation
The effect of inflation must be taken into consideration as the current economy is characterised by high inflation. Financial information reported on historical cost basis during a period of high inflation may not portray economic reality. (Walgenbach et al , 1987). This factor has been put into consideration for the Truworths figures as they have been hyper-inflated adjusted for the years 2001 and 2002.
Profitability Ratios
Businesses come into being with the primary purpose of creating wealth for the owners. Profitability ratios provide an insight to the degree of success of the owners in achieving this purpose (Atrill & McLaney, 1999)
These ratios provide some measure of how the price of a share in the stock market compares to key indicators of the performance of the company. Investors who buy shares in a company want to be able to compare the benefit from the investment with the amount they have paid, or intend to pay for their shares.
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Return on shareholder’s equity (ROSF) –
The return on ordinary shareholders funds compares the amount of profit for the period available to the ordinary shareholders with the ordinary shareholders stake in the business. (Atrill & McLaney, 1999). This is a key measure of success, from the viewpoint of shareholders, is the success of the company in using the funds provided by the shareholders to generate profit. For this calculation it is essential to use the profit for ordinary shareholders, which is the profit after tax and after interest charges.
The ROSF increased remarkably for Truworths by 37.1 % from 2001 to the year ended 7 July 2002. This was mainly due to the increase in profit after tax. The increase can also be attributed to the improvement in the use of assets (total assets and fixed assets) which more than offsets a fall in the net profit as a percentage of sales. From this ratio it is quite evident that the company is performing well and could attract more investors.
- Return on Capital Employed (ROCE)
ROCE is a good measure of management efficiency. Atrill & McLaney(1999) say that this ratio expresses the relationship between the net profit generated by the business and the long term capital invested in the business. From the results for the year ended 7 July 2002 there has been a remarkable increase from 2.1% in 2001 to 47.6 %. This clearly shows that long term finance has been used to generate operating profits which is a good sign of management efficiency.
Investment Ratios
Investors who buy shares in a company want to be able to compare the benefit from the investment with the amount they have paid, or intend to pay, for their shares. The earnings per share, price/earnings ratio, dividend per share and dividend yield have been calculated so as to ascertain if it is worth investing money into Truworths.
According to Weetman(1997) EPS is the most frequently quoted measure of company performance and progress. The percentage change from year to year should be monitored for the trend. Criticisms are that this strong focus on annual earnings may cause “short-termism” among investors and among company managers. The graph below shows the EPS trend from 1999 to 2002. From the graph there has been a remarkable increase from 45c in 2001 to 1013c in 2002. This could be attributed to the increase in the profit after tax. This increase indicates an improved profit performance for shareholders.
- Price Earnings per share(P/E)
According to Weetman(1997) the P/E ratio reflects the market’s confidence in the future prospects of the company. The higher the ratio the longer the period for which the market believes the current level of earnings may be sustained. The 8.2 value recorded in the year ended 2002 reveals that the capital value of the share is 8.2 times higher than its current level of earnings. The decrease from 18.9 in 2001 can be attributed to increase in the share price from 850 in 2001 to 8350 in 2002.
According to Weetman(1997) the P/E ratio may be interpreted as the number of years for which the currently reported profit is represented by the current share price. The graph below shows the P/E ratio over the the years 1999 to 2002.
There has been a significant increase in the dividend per share in 2002 compared to 2001, from 50 to 167. The dividend payout ratio reveals that this can be attributed, at least in part, to an increase in the proportion of earnings distributed to ordinary shareholders. However the payout ratio for the year ended 7 July 2002 is still fairly low. Only about ¼ of earnings available for dividend is being distributed.
The dividend yield has changed very little over the period and remains fairly low at almost 2%.
It is recommended that the company should have ploughed back some of its earnings into the business in order to achieve future growth. These ploughed back profits also belong to the shareholder and should in principle increase the volume of shares held.
Liquidity ratios
According to Atrill and McLaney(1999) current ratio compares the ‘liquid’ assets of the business with the short term liabilities. The current ratio for Truworths has been constant at 2.0 which is the ideal ratio compared to its competitor Edgars which has shot up to 2.7 in 2002. The high ratio for Edgars may suggest that funds are being tied up in cash or other liquid assets and are not being used as productively as they might otherwise be.
Gearing Ratio
Appendix H shows the trend in which the gearing ratio has taken for the past 5 years. Gearing occurs when a business is financed, at least in part by contributions from outside parties. (Atrill & McLaney, 1999). The slight increase in gearing ratio from 3% in 2001 to 8% in the year ended 7 July 2002. However the 8% ratio
Can be considered to be very low and may indicate that the business has some debt capacity that is, is capable of borrowing more if required.
Outlook
Against a background of an inflationary environment, Truworths achieved a turnover of $2,9 billion, a pleasing growth of 197 %, this being ahead of the reported inflation on clothing and footware of 171% as shown on the graph on Appendix H.
The focus in the current environment is to maintain the steady growth. Management need to continue with effective working capital management and cost control to ensure that the company emerges stronger from these difficult economic times
Conclusion
Truworths has managed to perform remarkably well in the financial year ended 7 July 2002 against the unfavourable inflationary environment. The performance of the debtors book was quite pleasing and compared favourably with South African retailers. Credit sales grew by 193 % and the gross debtors book grew favourably by 173%. Debtors in current were 83% compared to last year’s 76% which is close to the 85% target set for the company.
Operating costs grew by 116% with the significant increase being incurred in marketing costs. Overall operating costs were productively managed.
The pleasing growth of 197% of the turnover in the year ended 2002 was a major achievement.
The group performed well during the year recorded recording growth in all business units. Hands-on management and highly focused merchandise provided well-received branded products. High stock turns, timeous procurement of merchandise, effective seasonality management impacted positively on operating margins and cash flow management. The debtor book increased in line with the increase in credit sales. Interest on arrear debtors went up 74 % reflecting a better performing debtors’ book.
Operating profit increased by 543% to $759.3 million while attributable income went up an impressive 419% to $537.7 million from the same period last year. Earnings per share went up by 415% to 1703.1 cents.
Recommendations
Revised Planning
It is recommended for Truworths that in this high inflationary environment that the management constantly reviews the budgets preferably quarterly. Management meetings on monthly forecasts of the economic environment should also be done so that the company can make necessary adjustments in operations to counter-effect the volatile economy.
Increase foreign income through export of clothes
Truworths must increase its foreign income through the export of clothes to other countries. This could actually generate some foreign currency for the country as there are acute foreign currency shortages. The Zim dollar is losing value at an alarming rate such that for a business to be viable it needs to earn some foreign income. Truworths should concentrate more on the export of clothes than selling the clothes in the country.
Achieve real growth
To achieve real growth Truworths should gain significant market share in the industry. This can be done through marketing. Improvement in customer relationship management, brand building and brand loyalty could attract more customers.
Implementation Plan
References
- Anthony and Reece, 1975, Management Accounting Text and Cases, Illinois
- Atril P and Mclaney E, 1999, Financial Accounting for Non-specialists, Hertfordshire, Martins the Printers
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Blake John, 1985, Financial Accounting An Introduction, 5th edition, Essex, Hutchinson and Co
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Johnson G and Scholes K , 1998,Exploring corporate strategy, 6th ed, Essex, Pearson Education Limited
- Walgenbach, Hanson et al, 1987, Principles of Accounting, Ontario, T H Best Printing company Ltd
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Weetman P ,1999, Financial Accounting An Introduction,2nd edition, Essex, Pearson Publishing
Appendices
Appendix K
