Hi-Fi Financial Analysis
The question asks us to compare and evaluate JB Hi-Fi’s calculated ratio report, with that of the retail industry ratio report (Potter, Libby, Libby, Short p. 1133). The retail ratio report is comprised of a basket of listed companies which operate under the retail banner, which makes it relevant to use as a comparison to JB Hi-Fi. 1. Liquidity ratios are a class of financial metrics that is used to determine a company’s ability to pay off its short-terms debts obligations. Generally, the higher the value of the ratio, the larger the margin of safety that the company possesses to cover short-term debts.
Table 1: Current Ratio Current ratio: This ratio measures whether or not a firm has enough resources to pay its debts over a twelve month period, comparing its current assets, with its current liabilities. | 2010: 1. 25| 2011: 1. 45| Industry: 2. 67| Comparison: The industry average of 2. 67 indicates that for every dollar owed, companies, on average will have $2. 67 available in assets to convert into cash in the short term.
From the JB Hi-Fi data calculated, it is interesting to note that current ratios of 1. 45 in 2011 and 1. 5 in 2010 are significantly below the industry average. However, this is not too concerning because JB Hi-Fi still have a ratio above 1, and therefore would still be able to meet their current obligations. The lower figure may be explained by the fact that JB Hi-Fi may have a high turnover of current assets, such as stock, which if sold before accounts payable become due, would decrease the current ratio. Table 2: Quick Ratio Quick ratio: This ratio examines a firm’s ability to use its quick assets to extinguish its current liabilities immediately.
Inventory or stock is generally excluded from this equation in order to produce a more accurate account of the firm’s ability to meet its short term obligations| 2010: 0. 33| 2011: 0. 27| Industry: 1. 92| Comparison: The quick ratio measure’s an organisations ability to meet its current obligations with its most liquid assets. As inventory might not be turned into cash as promptly as other current assets, the quick ratio follows a more conservative approach than the current ratio and excludes inventory from current assets.
JB Hi-Fi’s quick ratio declined from 0. 33 to 0. 27 in 2010 to 2011 which are both alarmingly low from that of the industry’s quick ratio of 1. 92. The organisation is clearly lacking in meeting its prompt liquidity requirements. 2. Activity ratios assess a firm’s ability to convert different sectors of the balance sheet into cash or sales. Table 3: Inventory turnover Ratio Inventory turnover: This ratio measures the flow of stock within a certain time period. It assesses how long it takes for stock to be sold within a business.
In this case, the industry report indicates an average of 50 days inventory turnover throughout the retail industry. This is in comparison to 58. 67 (2011) and 56. 30 (2010) days it took JB Hi-Fi to move on stock within the business. These numbers hold up quite well to the industry average when taking into consideration the number of 45 firms used in the calculations. JB Hi-Fi takes approximately 7 days longer than average to move on their inventory, which in the scheme of things is a relatively insignificant difference.
Table 4: Accounts Receivable Ratio Accounts receivable: This ratio measures a firm’s effectiveness in extending credit as well as being able to collect debts| 2010: 1. 45| 2011: 1. 34| Industry: 25. 78| Comparison: In this situation, the retail sector average is 25. 78 days taken to receive cash from customers, compared to 1. 34 (2011) and 1. 45 (2010) days for JB Hi-Fi to collect its money from its debtors. This is positive for JB Hi-Fi as it indicates that it performs extremely well when it comes to collecting from debtors.
The company’s figures are well below that of the industry average which is a positive achievement for JB Hi-Fi, as they are able to receive money quickly for credit sales. Table 5: Fixed Asset turnover Ratio The fixed-asset turnover: This ratio measures a company’s ability to generate net sales from fixed-asset investments| 2010: 11. 03| 2011: 11. 25| Industry: 5. 26| Comparison: Here the industry average is 5. 26 times, compared to JB Hi-Fi’s figures of 11. 25 (2011) and 11. 03 (2010) times. This indicates that JB Hi-Fi is able to generate greater sales from its fixed assets, when compared to the market average.
Generally, firms with a higher fixed asset turnover are successful in getting the most out of their assets, and in turn are able to generate higher revenues. Here JB Hi-Fi outperforms its sector, and this indicates that it is in a strong position to generate sales from the assets it has available. Table 6: Total Asset Turnover Ratio Total asset turnover : This ratio measures the efficiency of a company’s use of its assets| 2010: 3. 97| 2011: 4| Industry: 3. 17| Comparison: This ratio calculates the amount of sales generated for every dollar worth of assets.
The retail average is 3. 17 times whilst JB Hi-Fi is slightly higher at 4. 00 (2011) and 3. 97 (2010) times. This indicates that JB Hi-Fi may have lower profit margins, when compared to the rest of the industry. This may be explained by the fact that JB Hi-Fi is more cutthroat and competitive when it comes to pricing, trying to gain as many sales as possible. Table 7: Days Payables Ratio Days payables: This is a ratio which examines the swiftness of a company in paying their creditors or suppliers. | 2010: 48. 09| 2011: 46. 73| Industry: 58. 83|
Comparison: Days payables are a ratio which examines the swiftness of a company in paying their creditors or suppliers. The industry average for this ratio is 58. 83 days, indicating it takes this long on average for the retail industry to pay for its supplies. In comparison, JB Hi-Fi took 46. 73 (2011) and 48. 09 (2010) days on average to pay its creditors, in the given years. This represents a different of almost two weeks, which, when considering companies want their money as quick as possible, leave JB Hi-Fi with a positive reputation amongst its suppliers.
The benefits of having a lower ratio in this situation may be that JB Hi-Fi receives a discount on credit deals for having paid in a shorter period. However, companies must be careful to avoid letting cash flow out of the business too quickly, if there is no reasonable gains to be made. This can be viewed as an advantage and a disadvantage as the company can hold off paying the creditors’ this quickly and invest the funds in generation of more revenue. 3. Profitability ratios are important when assessing the profitability of a business. They give management useful insight into where and how they can improve the operations of a business.
Table 8: Net Profit Margin Ratio The net profit margin: This ratio show the proportion of every dollar of sales that is left after all expenses has been paid, and remains as net profit. | 2010: 4. 34| 2011: 3. 71| Industry: 2. 45| Comparison: Although it is difficult to accurately compare profit ratios for different entities, as financial arrangements and expenditure vary greatly from business to business, it is valuable to compare how JB Hi-Fi stands up to the rest of the retail sector, in terms of profitability. The net profit margin is 2. 45% for the retail sector, whilst JB Hi-Fi operates at 3. 1% (2011) and 4. 34% (2010), which indicates a reasonably higher net profit margin.
This may indicate that JB Hi-Fi carries a higher margin of safety and less risk, compared to the average retail sector net profit, as a decline in profits would leave less of a strain on JB Hi-Fi. Having a higher net profit margin than the sector average leaves JB Hi-Fi in a good position to be a strong performer within the industry. Table 9: Return on equity Ratio Return on equity: This ratio indicates the amount of net income returned as a percentage of shareholders’ equity| 2010: 45. 1| 2011: 49. 23| Industry: 16. 8| Comparison: Return on equity measures a corporation’s profitability by revealing how much profit a company generates with the money shareholders have invested. The sector average for return on equity is 16. 8%. Return on equity ratio measures the corporation’s profitability by revealing how much profit a company generates with the money shareholders have invested. In the case of JB Hi-Fi this ratio is very high compared to that of the industry. With 45. 41 in 2010 the ratio increased to 49. 23 in 2011.
Table 10: Return on assets Ratio Return on assets: This ratio shows how profitable a company’s assets are in generating revenue. | 2010: 25. 45| 2011: 21. 95| Industry: 7. 77| Comparison: Here the retail average is 7. 77% whilst JB Hi-Fi is almost triple at 21. 95% (2011) and 25. 45% (2010). This shows that JB Hi-Fi is superior to its industry average and its assets are highly successful in generating revenue. It shows that JB Hi-Fi management is successful in utilising assets correctly and gives them an advantage over the competition within the retail industry.
Return on Assets ratio gives an idea as to how efficient management is at using its assets to generate earnings. This ratio declined from 25. 45 to 21. 95 in the case of JB Hi-Fi but was still high in comparison to that of the industry’s ratio of 7. 77. The higher the ROA number, the better, because the company is earning more money on less investment. Table 11: Quality of income Ratio Quality of Income: This Ratio is computed by dividing Cash Flow from Operating Activities by net income. | 2010: 128. 19| 2011: 100. 23| Industry: 7. 03| Comparison: As the ratio indicates the proportion of income that has been ealized in, high levels for this ratio are desirable. In the case of JB Hi-Fi these ratio showed a decrease but they still remained well above the industry ratio. 4. Leverage ratios are ratios used to calculate the financial leverage of a company to get an idea of the company’s methods of financing or to measure its ability to meet financial obligations. Table 12:
Times interest earned Ratio Times Interest earned: This ratio indicates the number of times a company can cover its interest charges on a pre-tax basis| 2010: 25. 17| 2011: 25. 94| Industry: 64. 2| Times interest earned or interest coverage ratio is a measure of a company’s ability to honour its debt payments. It may be calculated as either EBIT or EBITDA divided by the total interest payable. In this case, the sector average is 64. 72 times whereas JB Hi-Fi had the figures of 25. 94 (2011) and 25. 17 (2010) times. Clearly, JB Hi-Fi differs significantly from the sector averages, however both figures are significantly greater than 1 and therefore there does not seem to be a problem for JB Hi-Fi to meet its obligations. Table 13: Asset/equity Ratio
The asset/equity ratio shows the relationship of the total assets of the firm to the portion owned by shareholders, also known as owner’s equity. | 2010: 2. 63| 2011: 3. 32| Industry: 2. 16| Comparison: Assets/Equity leverage ratio measures the company’s capacity to generate assets from its shareholders equity. Both in 2010 and 2011, the Asset/Equity ratio was higher than the industry ratio. However the difference between these ratios is only minimal. 5. Dividends identify the percentage of earnings (net income) per common share allocated to paying cash dividends to shareholders. Table 14: Dividend Yield Ratio
Dividend yield Ratio: This is the company’s total annual dividend payments divided by its market capitalization, or the dividend per share, divided by the price per share. | 2010: 3. 29| 2011: 4. 75| Industry: 4. 75| Comparison: The dividend yield or the dividend-price ratio on a company stock is the company’s total annual dividend payments divided by its market capitalization, or the dividend per share, divided by the price per share. This ratio reflects how much a company pays out in dividends each year relative to its share price. The dividend yield ratio was relatively the same for JB Hi-Fi in comparison to that of the industry.
Table 15: Price Earnings Ratio Price Earnings Ratio: This ratio is a valuation ratio of a company’s current share price compared to its per-share earnings. | 2010: 17. 18| 2011: 16. 77| Industry: 12. 16| Comparison: Price/earnings ratio is the valuation ratio of a company’s current share price compared to its per-share earnings. This ratio was high in 2010 which decreased in 2011. Both of these ratios, however were high than the industry ratio. In general, a high P/E suggests that investors are expecting higher earnings growth in the future compared to companies with a lower P/E. Investor recommendations
Looking at both the liquidity and activity of JB Hi-Fi, we can make a determination of the stability of the business through their ability to pay debtors and their earnings through everyday operations. JB Hi-Fi’s liquidity to repay short-term debts is positive; however, looking at the quick ratio, they are unable to meet their obligations in the short-term. Because they operate with high levels of stock, up to $400 Million at the end of the financial period, this may paint JB Hi-Fi in a negative light. When looking at collection of debts, JB Hi-Fi’s business model ensures that debts from customers are collected within a staggering 2 days.
This is perhaps reliant on the financing institutions JB Hi-Fi has partnered with that enable a quick turn around in collecting sales on credit. This is an extremely positive aspect of the business and management of JB Hi-Fi to remain liquid. The generation of sales from assets shows that JB Hi-Fi is able to move vast quantities of stock, resulting in net sales of $3 billion. Such a figure enhances the fixed asst turnover, yet remains steady in comparison to the industry total asset turnover. The total asset turnover ratio suggests that JB Hi-Fi is generating huge sales, yet their profit margins remain low.
JB Hi-Fi’s net profit has remained higher than industry averages, and indicates management’s ability to generate sales from the assets it has at their disposal. JB Hi-Fi’s profitability, although waning in 2011, shows that they are a strong performer in the current climate. Quality of income shows that the proportion if income that has been realised as cash. As for JB Hi-Fi, they have a very high cash turnover, and their ability to generate cash flows is extremely strong as compared to the industry average. The ability to repay debtors is relatively on par with the industry average.
Yet, it shows JB Hi-Fi still have substantial cash flow in paying creditors, as there is a substantial difference in COGS and accounts payable, to the order of $2 Billion paid to suppliers and other creditors throughout the period. JB Hi-fi’s ROE and ROA ration is almost triple the industry average. It shows that JB Hi-Fi management is highly successful in generating revenue and utilising assets correctly. However, in terms of leverage, times interest earned was only 40% of the industry average and its financial leverage is almost 50% higher than the industry average.
It is suggested that JB Hi-Fi should not extend its finance liabilities from the creditors to finance its further investment as the currently level is already high. But, according to Bell (2012), management is persisting with the store rollout – 16 will open in 2012, while the meantime the margin has been squeezed due to industry changes. There is no more serious threat, that the company will become a high-volume, low-margin retailer. Investing capital in to a declining business such like this will only things worse.
However, if they stop rolling out more stores, the leverage will not become a major concern at this point of time as their earnings can cover 25 times of its interest. Evidence can be seen from positive financial leverage percentage (ROE-ROA>0). JB Hi-Fi’s price earnings ratio is higher when compared with the industry average. However, this ration decreased in 2011. Which suggest that investors are expecting lower earnings growth in 2011 than 2010. The dividend yield for JB Hi-fi is the same as the industry average in 2011 which increased from 2010’s 3. 29% to 4. 75% and annual dividend increase from 2010’s 62c to 81c in 2011.
Its shows, that the JB Hi-Fi has adopted the policy to increase its dividend for shareholders, as the lower growth expectation from investors. This made the company more attractive for investors who looking for regular cash flow. Based on the financial analysis, we believe that JB Hi-Fi will keep performing in the areas of business activity, profitability and paying an attractive dividend. However, investors have to pay attention to its financial leverage and liquidity to pay its creditors to avoid the risk that the company may become insolvent.