Assignment – Financial Accounts & Statements – Greggs PLC – Jack Diston 12419188
Introduction:
Financial accounts & statements that show the financial activities of an organisation or individual. They are used to present the information of the company or person in question with accurate precision. A few examples of these include balance sheets, profit & loss and cash flows (Accounting-simplified 2013).
1.
Sole traders are people who run a business on their own. This can be anything ranging from farming or a car dealership. They are commonly small businesses because the amount of capital available to invest is usually low. People set up as sole traders to remain independent from other businesses. Legally it is easy for a sole trader to set up the business as there are limited costs or paperwork involved. The disadvantages of being a sole trader are that the owner has unlimited liability so if debts are not paid then personal assets can be used to pay off creditors. The owner may have to work long hours and if they are ill then it is possible all business operations will stop (Flynn, D & Koornhof, C 2005).
The financial statements sole traders use are a trading, profit and loss account which records the profit and loss of the company. They also help compare business performance with expectations, for example whether Greggs are within their administrative expenses budget. Secondly a balance sheet which shows the current, non-current assets and liabilities of the business. It helps a sole trader get a grip on the financial strength and abilities of the business. Balance sheets can also analyse trends such as whether trade receivables could be collected more efficiently, for example if a sole trading car dealership sells a car on finance, are payments being collected accurately and on time (Osbornebookshop 2003).
These final accounts can be accessed by the owner numerous times throughout the year so they can see how the business is progressing financially. However annual accounts must be filed by law at the end of the financial year to HM Revenue & customs. A sole trader must pay income tax on any business profits by completing a self-assessment tax return form each year. If a sole trader plans on employing people then they must collect income tax and NIC from them as well as operating the PAYE payroll scheme. Finally if a sole trader projects a turnover in excess of £79,000 then they must register for VAT, charge it to customers and pay it to HM Revenue & Customs (GovUK 2014).
Limited Companies can be privately or publicly owned. A private limited company can have no limit to the amount of shareholders it has though the shares themselves can only be sold privately which means the capital available is restricted. Public limited companies can sell shares to the public, for example Greggs may look to sell shares on the London stock exchange and therefore use it as an effective method to raise capital. The advantages of owning a limited company is that company liabilities are kept separate from personal assets or liabilities. The company liabilities are also limited to the value of shares the person owns. Private limited companies can have one or more shareholders but public limited companies must have at least two shareholders and issue shares of at least £50,000 before it can start trading (Clayton, P 2008).
The financial statements limited companies must prepare are filed at the end of the organisations financial year in a report called statutory accounts. These are sent to and examined by shareholders, HMRC and companies house. The statutory accounts consist of a balance sheet, profit and loss account, notes about the accounts, auditors report and directors’ report A number of stakeholders will look into these accounts such as investors who will decide whether or not a company is a good investment, for example a football club such as Birmingham City is making huge losses and performing badly in the league then this could stave off potential investors due to the risk involved (Griffin, J 2013). Another stakeholder is the Government, who will analyse them and calculate the amount of tax the company must pay, however this has not always been followed correctly linking back to the Starbucks tax scandal. The accounts must be submitted to companies’ house just before the time allowed in case a late penalty is received. Directors of the limited company are responsible for any changed in structure or management of the organisation, for example if Greggs name a new chief executive or there are two new directors in the boardroom. The profits of limited companies are distributed to shareholders as dividends but can also be retained as working capital. Finally before profits are distributed the organisation must pay corporation tax to HMRC, this does not exempt working directors of the company paying income tax and NIC (GovUK 2014).
Deadlines for limited companies to publish accounts to:
· Companies House – 9 Months after end of organisations financial year
· Company Tax Returns – 12 Months after end of organisations financial year
· Pay corporation Tax – 9 Months and 1 Day after end of organisations financial year
Not-for-profit organisations is an organisation that does not withdraw profits. The profits and donations of the company are constantly retained as working capital to pursue the objectives and strategy set out. Usually this type of organisation can be exempt from most forms of tax, this includes donations made to the company by the donor. The main income streams of an NPO are donations, fundraising events, membership fees and sales of donations. For example one of the main NPO’s is Oxfam who help the poor to help themselves, they rely on people donating items which can be sold for a profit in one of their shops (Gross, M. McCarthy, J. Shelmon, N 2010).
The two key financial statements used by NPO’s and reviewed are profit and loss accounts and balance sheets. In terms of the profit and loss, the NPO is essentially aiming not to make a profit and instead constantly invest the money they make in the program (AccountingCoach 2014). When this statement is analysed there are certain point’s auditors and directors must look out for such as:
· How dependant is the organisation on government grants?
· The growth in revenues from previous years
· Staffing costs
When analysing the balance sheets of an NPO such as Oxfam, trends to look out for are:
· Invested Assets, will they lose value such as Machinery to deal with Oxfam website orders?
· Are we getting the most out of capital/fixed assets in terms of consumption, such as Oxfam store opening hours?
Charities & NPO’s with income over £25,000 are published on the charity commission government website which can be viewed by anyone. A risk framework is also set out to stop any fraudulent or suspect behaviour such as profits being used for personal use. The charities 2006 act states that NPO’s must publish their accounts within 10 months after the end of their financial year. When NPO’s report their finances internally they would examine the accounts and look at whether firstly they are in budget and if there are any improvements financially on previous years. Externally donors and members may want to see how there funds have been used and whether it’s been successful or not (CharityCommission 2014).
2.
Financial Ratios & Analysis
Financial ratios are formulas used to determine the results of an organisations financial records and can be used to compare progress with previous years. They are usually measured from the three main financial statements. These are balance sheet, cash flow statement and income statement. The ratios provide a valuable tool for directors of a large company or even small business owners. They help to measure progress against the targets set, for example one of the efficiency ratios used on Greggs PLC 2013 accounts was the inventory turnover days this was vastly reduced in that year which is a positive aspect because in the food industry stock must be sold in a relatively quick timeframe to avoid wastage (DemonstratingValue 2014).
Profitability Ratios:
Profitability ratios are a category of financial metrics which are used to evaluate an organisations ability to generate their different types of income streams. This is then compared to the expenses of the company and other costs acquired during the financial year specified. The majority of the time if these ratios are of increased value than their competitors then it is likely to be a positive signal that they are performing well. The company being analysed is Greggs PLC Bakery. In 2013 the gross profit margin fell compared to the two previous years despite revenue rising (See appendix 1). This is largely down to the cost of goods sold also increasing. A factor as to why costs of goods sold being high is because fixed assets such as new stores have been purchased. These stores have been situated at busy locations such as motorway service stations replacing the high street stores to try and target eat on the go consumers (Greggs 2013). This margin was effected by the seasonality of Greggs products, warm bakery goods such as pastries did not appeal to consumers in the heat wave of the 2013 summer.
Secondly the net profit margin had an even worse reduction of 3-4% compared to previous years (See appendix 1). The company has blamed the decline in like for like sales such as the Christmas period where the industry as a whole had a poor season. Distribution and operating costs contributed to the retail impairment. It is likely the capital of Greggs fell because of poorly estimated projections. Greggs had costs of almost 2 million pounds because of the changes to supply chain investment. Some plans to build new stores were abandoned in retrospect of poor finances and the value of existing sites were not valued correctly. Return on capital employed for Greggs has been in decline for the last three years but at over 16% in 2013 (See appendix 1), it is still perceived as a good rate. The decrease is likely to be because of the capital employed in closing and opening stores across the country (Greggs 2012). ROCE is one of the primary ratios potential investors for Greggs use as it gives a detailed indication to how management is using the debts and equity it has at its disposal. However currently the ratio is falling rapidly so this will have a negative effect on the share price because investors prefer stability when it comes to this percentage (Thukuram, R 2007).
Efficiency Ratios:
Efficiency ratios are a category of financial metrics which are used to analyse how an organisation uses its liabilities and assets internally. The ratios can calculate the revenue of trade receivables, the consumption of equity, repayment of liabilities and use of machinery and inventory. Efficiency ratios are important when used in comparison to competitors in the same industry as it gives a strong indication to which organisations are managed most effectively. An improvement in efficiency ratios usually results with increased profitability.
The average settlement period for debtors has decreased in 2013 to 11.97 days from 2012 where it was 13.38 days (See Appendix 1). This shows that Greggs has become slightly more aggressive when collecting payments from people who owe them this is understandable in the current economic climate (Greggs 2013). This period is low because Greggs are not in the type of industry where they will have many debtors. A low average settlement period for debtors means that it will have little or no impact on the company’s cash flow. An example of a trade receivable for Greggs is the sale of 700 sausage rolls to retail in Iceland Supermarkets throughout the UK (Smith, K 2011).
The average settlement period for trade creditors has been vastly reduced on previous years. In 2011 it was 109.87 days, in 2012 it was 91.91 days and at the end of 2013 it was 85.68 days (See Appendix 1). This shows that Greggs are making a positive effort in reducing the amount of people they owe money to. It is particularly impressive because the company have invested over 34 million pounds in new refits and shop equipment as well as new stores. This would normally result in trade creditors being increased however Greggs have enough retained profits and capital available to continue reducing this figure (Greggs 2012).
Inventory turnover days have been reduced by 4 days to 18.28 from the previous year (See Appendix 1). This shows that the company is turning over the inventory it has in relatively quick succession. This is especially important in the food and drink industry because Greggs focus on selling fresh products to on the go consumers so if they are not sold within a certain timeframe, then the stock becomes wastage and the company effectively loses money (Haber, J 2004).
Liquidity Ratios
Liquidity ratios are a category of financial metrics which can be used to determine a company’s ability to settle its short term liabilities. Usually, the higher value of the ratio, the increased safety margin the company has to pay off short term liabilities. It’s very important the company can do this because bankruptcy analysts use these ratios to determine whether a company in danger can continue trading. Liquidity ratios resulting in a number greater than one show that the business in terms of finances is in a stable position and less prone to experience financial difficulties. Gregg’s current ratio for 2013 is 0.81, this was the same figure in 2012 but had increased from 0.69 in 2011. 0.81 (See Appendix 1) is below the ideal figure of 2 but in the retail industry it is of less importance because goods are sold in cash and bought with credit. This means short terms liabilities can be paid off with relative ease. Compared with assets the liabilities of Greggs are significantly lower by almost 100 million so short term liabilities should not have much of an impact on the business. Gregg’s acid test ratio for 2013 is 0.61 this has had a slight increase each year since 2011. This is going to be lower than the current ratio because stock is not taken into account because this cannot be turned in to cash quickly. Similarly to the current ratio, it is a common occurrence to have a low figure in this type of industry because high amounts of stock are required all the time whereas a company such as a law firm wouldn’t. It does not necessarily mean Greggs are struggling to pay its debts.
The gearing ratio has steadily decreased each year since 2011 with it starting at a high 15.87% in 2011 to 7.75% in 2013 (See Appendix 1). This ratio measures the relationship between shareholders equity and long term liabilities. In 2011 Greggs was geared by 15.87%, when the national pasty tax was planned to be introduced by the government it is fair to see why Greggs protested strongly against this as economic downturn can have a negative effect on the gearing of a business (Greggs 2012). The figures show the company is on a more stable footing as it has a lower amount of debts to pay however this has resulted in declining profits because highly geared companies have an increased cash flow which shareholders usually profit from (Brigham, E & Houston, J 2009).
Investment Ratios:
Investment ratios are a category of financial metrics an investor uses to estimate the value and potential of an existing investment or a future investment. They can be used to gain a specific valuation but it’s important not too information is consumed because of the huge variety of financial statements. Ratios attempt to simplify the information by measuring relevant data.
Dividends yield is used to show how much a business pays out in dividends relative to the companies or individual share price. It is essentially the return on their investment. This ratio shot up in 2012 to 3.71% from 2011 where it was a meagre 0.38% (Greggs 2011). In 2013 dividends yield increased again to 4.11%. Greggs has been publicised as one of the best dividend paying public limited companies in the UK and currently shows no signs of stopping with dividends showing an increase for the last 25 years (Greggs 2012). The high dividend yield is likely to attract new investors as there is little risk buying shares in the company and they are almost guaranteed a healthy return on their money.
Earnings per share is the amount of distributable profit a business has available to allocate to each share, it is a reliable indicator of profitability as well as investment value. The earnings per share have reduced from 40p in 2012 to 24p in 2013. This ultimately shows the decline in profits of the company from previous years but usually does not put off potential investors because if earnings per share is low then the stock price is low. Greggs may have seen this decline because of the significant amount of investment they’ve put back in to the company such as opening and closing stores, also entering new markets such as on the go pizza (Greggs 2013).
P/E Ratio is used to value an organisations current share price in comparison to it’s per share earnings. Gregg’s P/E has increased to 19.67p in 2013, 2012 it was 13.15p and in 2011 13.14p. A high P/E shows that investors are expecting significant growth of earnings in the future which makes it an attractive company to invest in. However the P/E should be measured against other competitors in the industry to see if it is down to the company itself or that it’s just the market that is thriving.
The non-financial measures which have been put in place at Greggs are that they have now introduced pizzas in stores to further complement the on the go consumer market (Greggs 2013). They have also introduced a friendlier and appealing atmosphere for consumers in store. Shops have been refurbished to look more modern with only small amounts of seating to allow effective queue management (Damodaran, A 2012).
3. What are the limitations of interpreting year end accounts and why must you be cautious when drawing conclusions?
A known problem with financial ratios is the fact that seasonal factors distort them. For example with Greggs, the company’s vast majority of products are warm baked goods which a lot more popular in the spring, autumn and winter months. In the summer sales decline due to consumers targeting products to cool them down such as ice creams. If businesses are struggling they tend to do apply creative accounting which means displaying financial figures which are misleading. For example Greggs could revalue some of their assets if they are sure there is going to be a surplus which will add to the revaluation reserve. This will leave the other devalued assets at only the historical deprecation cost (Kennedy, K 2013).
Another key factor is inflation, if ratio results are compared over a number of years, financial figures will not be within the same levels of purchasing power. For example if a certain aspect of Gregg’s financials has improved over time, if inflationary changes are taken into account it could show a completely different set of results. Different companies have different capital structures. For example Greggs in 2009 under the old chief executive was highly geared leading to enhanced profit however there was always the risk of one year the company not doing so well leading to hugely negative effects. It would be unwise to say the company is not performing as well as it did then because the company has a very low gearing in comparison which means it is on a sound financial footing (Koen, M. Oberholster, J 1999).
References:
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Brigham, E. Houston, J (2009). Fundamentals of Financial Management. 12th ed. USA: Cengage. p87.
CharityCommission. (2014). How we regulate charities. Available: http://www.charitycommission.gov.uk/our-regulatory-work/how-we-regulate-charities/. Last accessed 3rd May 2014.
Clayton, P (2008). Forming a Limited Company: A Practical Guide to Legal Requirements and Procedures. 10th ed. UK: Kogan. p13.
Damodaran, A (2012). Investment Valuation: Tools and Techniques for Determining the Value of any Asset, University Edition. India: Wiley. p6-8.
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Flynn, D. Koornhof, C (2005). Fundamental Accounting. UK: Juta & Company. p6.
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Greggs. (2011). Annual Report & Accounts . Available: http://corporate.greggs.co.uk/assets/Uploads/GREGGS-PLC-REPORT-AND-ACCOUNTS.pdf. Last accessed 3rd May 2014.
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APPENDIX 1 – GREGG’S FINANCIAL RATIOS
2013
2012
2011
Profitability
Gross Profit Margin
59.65%
61.1%
61.1%
Net Profit Margin
4.38%
7.26%
8.62%
ROCE
16.4%
20.83%
23.24%
Efficiency
2013
2012
2011
Average Settlement Period for debtors
11.97 Days
13.38 Days
11.01 Days
Average Settlement period for creditors
85.68 Days
91.91 Days
109.87 Days
Inventory turnover days
18.28 Days
22.56 Days
19.10 Days -
Liquidity
2013
2012
2011
Current Ratio
0.81
0.81
0.69
Acid Test Ratio
0.61
0.58
0.51
Gearing Ratio
7.75%
10.34%
15.87%
Investment
2013
2012
2011
Dividends Yield
4.11%
3.71%
0.38%
Earnings per share
24.1p
40p
39.5p
P/E Ratio
19.67p
13.15p
13.14p
