The Associated British Food (ABF) is a global conglomerate whose businesses span four specific areas in the food production and retail industry. These areas of business are in groceries or distribution of food products that are sourced from ABF's affiliates from around the globe; production of sugar and other agricultural products; development of ingredients for the bakery industry; and retailing of clothes and ready to wear garments and apparel.
From 2008-2009 ABF has seen its group expand, its workforce stabilize, and its revenues and profits go up in comparison from the previous years. Despite of the economic recession that has affected other companies, ABF on the other hand has in fact opened up new grocery outlets, acquired a new sugar factory in Spain; seen a growth in its workforce, and has seen a slight increase in profits.
But just how stable and true to the facts is ABF's annual report? One way to answer this question is to conduct a financial ratio analysis that will analyze the quantitative data from ABF's latest financial report and view the group's performance in terms of its ability to face its financial obligations, balance operational cost and profit generation, and ensure its profitability and solvency.
One way of analyzing the financial ratio of the ABF is by analyzing its leverage ratio by looking at the debt-to-equity ratio of the company. Based on the September 2009 report of the ABF is at £1.802 billion, while its equity amounts to £5.076 billion. Now if you divide the total liability with the equity the answer, which is about 0.36, shows the debt-to-equity ratio of ABF.
Another way of understanding how capable ABF is in facing its financial obligations is by viewing its debt ratio. This is done by dividing ABF's total debt over its total assets. If just look at ABF's net debt vis-à-vis its stated assets based on the 2009 report the following variables can be seen- Total Debt of ABF is £1.802 billion and its Total Assets are £6.991billion. If you divide ABF's net debt with the total asset what you will get is a total debt ratio of about 0.26 or 26 percent. What this means is that ABF debt in proportion to its assets is about 13:50. Again in simple language this just means that ABF's assets far outweigh its debt by 383 percent giving it a bigger capacity to face or pay off its financial obligations. This makes ABF a stable company that has the capacity to pay its short-term liabilities through its current assets.
Both the debt-to-equity ratio and the debt-to-total asset ratio compute the capacity of the company to face its debt and how it manages financial obligations in relation to financing the operations of the company. A higher ratio of debt in proportion to assets or equities indicates that a company is financed heavily or is reliant to debt, which in turn makes it highly unstable investment and financial wise. Given the data it is safe to surmise that ABF is not one of these companies and that it is in fact highly financially stable and can manage its leverage and liquidity.
Another way of viewing the stability of a company is by understanding the solvency ratio of a company. The solvency ratio measures the income of a company after taxes and the depreciation cost in relation to the debt obligations of the company. Knowing the solvency ratio will allow us to analyze the ability of a company to face up to face up to its financial obligations in the long run.
Based on the 2009 report, the net profit of ABF after taxes is about £383 million while the depreciation cost is at £293 million. Added together these two variable amounts to £676 million, which we will then divide this with the ABF's total debt obligation which is at 1.802 billion. The result is the solvency rate which is at 0.38 or 38 percent.
What amounts to a solvency ratio that is acceptable will vary depending on the industry, but the existing rule of thumb is that any ratio of solvency that amounts to greater than 20 percent is considered as healthy financially. The view is that, the lower the ratio of solvency that a company has, the bigger the probability of the failure of the company of paying its debt obligations.
Now let us analyze the profitability ratio by analyzing ABF's gross profit margin. This can be established by dividing the gross profit over the revenue. According to the 2009 report the gross profit of ABF is £720 million while its revenue is at £9.255 billion. By dividing the gross profit over the revenue we can get the actual profit margin of 7.8 percent. If you compare this data with the data of the previous year one could see there has been actually a downtrend in terms of overall profitability. We can also check the gross profit margin of ABF's business ventures by type business and geographic location. This is important for a global group of companies such as ABF in order to ascertain what aspects of the business is turning in more profit and in what parts of the word are their investments more likely to produce more income.
Based on the data one can see that the profitable business would be in the clothing retail wherein ABF's Primark is making headway. This is then followed by the ingredients and sugar and agriculture sector. In terms of geography the area which has generated more profit would be in Europe and Africa followed by the domestic markets of the United Kingdom.
Evaluating business ventures using ratio analysis can provide a significant understanding about the importance and performance provided by two indicators. This is because by finding the ratio as expressed through a percentage, or simple proportion, the mathematical relationship between different quantities over another can be established. Ratio also provides a point of comparative analysis that could determine the performance of a particular subject.
Ratio analysis can be used to understand the well being of the company, its stability, profitability, and capacity to develop amidst several factors. For example, by understanding the relationship between the two different variables such as debt and assets and its ratio between each other one can get a picture of just how much does ABF rely on debt to ensure its operations and just how much does it factor in I terms of its financial stability.
However the information provided by using ratio analysis can be useless and may not be understood if taken out of its original context. For example the data that ABF has a profit margin of 7.8 percent is meaningless if we do not put it within the context of the existing trends that affects the food and retail industry, or the economic, political, and social factor that has a bearing on how industry operates and develops, and on other factors that contribute to the financial decisions that could shape the company. Without understanding the context we will also fall short in the analysis. To further illustrate, if we go back to the example stated above, the profitability of ABF's 7.8 profit margin will be stated more clearly if it is compared to the profit data of another company within the same industry.
Also ratio analysis only centers on data gathered from the financial statements of companies. This is limiting because although in financial statements you could get numerical data on expenses or assets it does not explain the reason behind the numerical data.
For example, when reviewing the 2009 financial report of ABF we can see right away that there is a big uptrend in the revenue in Asia which was at £1.835 from £1.596 in 2008, but the gross profit £62 million from £90 million which is about a £28 million difference in the span of one year. Using ratio analysis we will be able to get the profitability margin or the operating ratio which is the ability of a company to generate profit in spite of revenue decrease, but it will not provide data to analyze the reason for the downtrend, nor will it take into account factors such as debt payment or effects of industrial expansion. And these factors affect the overall picture.
In the case of ABF it has actually successfully projected its stability and profitability the numerical data and making a financial ratio analysis. However, if we analyze the given data stated above beyond its financial statement we will understand that the downtrend in the Asia Pacific was brought about by the downtrend in sugar prices in China during the first half, the expansion of ABF in the region which increased operational costs, and overall having a difficult investment year.
Another aspect also in analyzing ABF's profitability that cannot be seen by merely doing a ratio analysis of the financial statements is the fact that the growth of ABF is fueled primarily by Primark and its retail clothing business venture which actually made very high profit during the second half due to its exploiting the holiday shopping boom. Primark made profit because it sold cheap ready to wear clothing. It was brought cheap because ABF though Primark source its supplies from India and other countries where the products are made using cheap if not unpaid labor. This controversy actually led to ABFs developing Primark's ethical trade program which sets standards in dealing with business and consumers and promotes an aspect of ABF's corporate social responsibility.
Ratio analysis cannot also provide contextual data such as the fact the that the uptrend in the European market was caused primarily by the stabilization of the sugar market due to changes in the policies of the European Union in relation to the sugar market. One must also consider that one of the important factors in ABF's financial success and which cannot be measured by ratio analysis are the management decisions and policies that were taken to address challenges facing the company and correct errors in management.
For example, to develop ABF's capacity and efficiency as a global conglomerate policy decisions have led to restructuring business interests in Australia and in the United Kingdom, expansion of the sugar and ingredients businesses in Southern Africa, China and Europe, building of new stores for the clothing retailer Primark in Europe, and developing other aspects of ABF's business interest and which in turn had a positive effect in ABFs economic growth, stability and development.
In ratio analysis we are confined to viewing only numerical and mathematical data. While ratio analysis is important in trending and providing an understanding of factors such as solvency, profitability, and liquidity of a company understanding the factors why and how it occurred goes beyond ratio analysis.
Aside from using ratio two other forms of financial statement analysis are the horizontal analysis and vertical analysis. In horizontal analysis one will evaluate data from financial statements that has accumulated for a period of time. The purpose of horizontal analysis, also called as trend analysis, is to show a decrease or increase that has taken place and which can be expressed either as a numerical amount or as a percentage. If we use this in viewing ABF's performance what we could do is to track the increase in profit or sales in a period of about three or five years. This data can also be used as a performance indicator which could be compared to forecasts that could determine the performance of the company.
Vertical analysis on the other hand is a method of financial statement analysis wherein individual line items are compared to a baseline item. Oftentimes vertical analysis is used when comparing trends regarding the relative performance in the financial statement of any line items in the course of time. For example the ABF 2009 report makes use of this method in presenting segmental analysis of the profit, revenue, and profit margin for 2008 and 2009. Examples of vertical analysis are balance sheets, income statements, and common-size statements.
Associated British Foods plc. (2009, November 3). Review of annual results for the 52 weeks ended 12 September 2009. Retrieved February 13, 2010, from http://www.abf.co.uk/
Associated British Foods plc. (2009, November 3). Annual Results Announcement Year ended 12 September 2009. Retrieved February 13, 2010, from http://www.abf.co.uk/
Quentin Fottrell. (2010, January 14). AB Foods 1Q Revenue +17%, Sees Higher Fiscal Year Operating Profit. Dow Jones Newswires, February 13, 2010, http://news.morningstar.com/newsnet/ViewNews.aspx?article=/DJ/201001140240DOWJONESDJONLINE000306_univ.xml
