Introduction to PepsiCo Incorporated
PepsiCo is an American multinational company having its origin in the United States. The company is a market leader in the global beverage industry. The biggest and worldwide competitor to PepsiCo is the Coca-Cola Company. PepsiCo serves the worldwide market and gain access to audience by mainly sponsoring sports events, players and teams.
Pro-Forma Financial Statements of PepsiCo Incorporated for 2016 (the next period)
This section is aimed at displaying the financial statements of PepsiCo for the next financial accounting period (2016) as well as the last statements for 2015. The pro-forma income statement and balance sheet are prepared by assuming a ten percent increase in sales revenue and cost of goods sold (cost of revenue) for 2016 and are presented as follows:
Financial Performance Analysis of PepsiCo Incorporated for 2014 and 2015
In this section, the financial performance of PepsiCo Incorporated is examined with the help of different ratio categories. In each ratio category, two ratios are selected for analysis. Such an assessment is performed in case of PepsiCo Incorporated using the financial data over a two year period, 2014 and 2015 in the following manner:
Liquidity Management
Here, to assess the strength of liquidity management practices of PepsiCo, current and quick ratios are analyzed. This is done in an attempt to measure the ability of PepsiCo to repay and cover its liabilities with short maturity (probably up to one year or less) by considering the following financial information and calculated ratios:
Current Ratio
The above tabular representations make it apparent that the liquidity strength of PepsiCo improved from 2014 to 2015 due to decline in ending inventory levels in warehouses as well as prepaid expenses. In 2014, PepsiCo only had $1.14 in its current assets to repay each $1 of its current liabilities in the event short-term creditors ask for repayment. This liquidity strength increased in 2015 where PepsiCo had $1.31 ($0.17) more in its current assets to repay its short-term creditors. Therefore, one can say that PepsiCo has been in practice more safety margin to the short-term creditors for their investments. In short, PepsiCo has improved its working capital management practices from 2014 to 2015. For more comprehensive analysis, acid-test is performed for PepsiCo by assessing the quick ratio.
Quick Ratio
This ratio is also known as acid-test ratio because it only considers highly liquid current assets in the equation. This ratio disregards inventories and prepayments as they are not considered most liquid current assets. These two forms of assets could only be converted to cash if sold at Forced Sale value (FSV). Cash, receivables and marketable could be sold at any time without diminution in their financial worth .
Looking at the quick ratios of PepsiCo for the year 2014 and 2015, it is found that PepsiCo has reduced its inventories by selling them quickly to the target market and the proceeds were used to minimize prepayments. Due to this, liquidity management for PepsiCo strengthened from 2014 to 2015. One can say that fewer levels of current assets of PepsiCo were locked into ending inventories and prepayments over a two year period. The global benchmark for quick ratio is 1:1 which confirms that PepsiCo is working closely to this standard. It reveals that the internal management of PepsiCo has been efficient enough to manage working capital practices wisely for 2014 and 2015.
Financial leverage and Debt Management Ratios
Here, two most important debt management ratios are analyzed that not only measure the extent to which PepsiCo is leveraged but also examine its ability to service its regular interest payments. This assessment is carried out with the help of following information:
Debt-to-Equity Ratio
The above tabular representation clarify that PepsiCo has increased its dependence over debt and retired its equity stake into its capital structure from 2014 to 2015. Even though PepsiCo retired some portion of its short-term debt from 2014 to 2015, yet the company increased its dependence on other sources of capital except common equity. From 2014 to 2015, PepsiCo relied more on long-term debt and supplier’s credit to reduce or minimize interest rate volatility and bankruptcy risk. Despite this, the total debt increased for PepsiCo from 2014 to 2015 which heavily damaged its financial flexibility. In future, PepsiCo would find it difficult to raise further capital from the debt market (banking and financial institution) but only at higher interest cost to compensate lenders for assuming extra riskiness in PepsiCo.
Interest Coverage Ratio
This ratio aims to measure the capacity with which PepsiCo can repay its lenders and service its regular interest payments in a timely manner. Because the company was dependent more on short-term debt, its volatility to interest rate fluctuations kept increasing. From 2014 to 2015, even though PepsiCo retired some portion of short-term debt, yet it increased its dependence on debt related capital and reduced equity capital in the capital structure over a two year period. Because of this, reduced financial flexibility also damaged the ability of PepsiCo to repay its regular interest obligations to lenders, as reflected by the declining interest coverage ratio from 2014 to 2015. In all, PepsiCo is providing lower safety margin to lenders’ investments into the business in form of debt capital. The bankruptcy and interest rate volatility of PepsiCo has increased from 2014 to 2015.
Asset Management Ratios
Ratios analyzed in this sub-section measure the efficiency with PepsiCo manages its fixed and total asset mix to generate sales revenue. Two ratios, fixed and total assets turnover are examined with the help of following tables:
Both the ratios reflect that the asset utilization capacity has remained the same for PepsiCo throughout 2014 and 2015. Though the ratios have changed by a slight margin due to decline in sales revenue more than that of fixed and total assets, even then, the asset management practices of PepsiCo remain the same. In both the years, PepsiCo has been generating $0.9 (on an average) in sales revenue for every $1 invested in the acquisition and maintenance of the total asset mix. As far as fixed assets are concerned, the property, plant and equipment are considered as a strict measure. PepsiCo has been generating an average of $3.86 in sales revenue for each dollar invested in mentioned fixed assets from 2014 to 2015. One can say that the major contributor in sales generation is fixed asset management. The second major contribution in sales generation of PepsiCo is played by utilization of total asset mix. Overall, the asset management efficiency of PepsiCo has remained the same from 2014 to 2015.
Analysis of Profitability Ratios
Return on Assets
This ratio examines the ability of PepsiCo to effectively and efficiently utilize its total asset mix to generate every dollar of net income, not sales revenue. From 2014 to 2015, return on assets ratio has declined due to reduction in sales revenue. In 2014, PepsiCo generated $9.24 in net income for every dollar invested in total assets. This position deteriorated in 2015 where PepsiCo could generate only $7.83 ($1.41 less) in net income for each dollar the company invested in total assets management. It could be said that PepsiCo has not been using its assets properly to generate net income.
Return on Equity
This ratio aims to measure the efficiency with which PepsiCo utilizes the capital invested by common equity and debt holders for generating net income . As stated earlier, PepsiCo increased its dependence over debt capital and reduced equity in its capital structure is also confirmed. It could be said that return on equity ratio for PepsiCo increased artificially from 2014 to 2015 not only the income declined by slight margin but the equity stake was also reduced in a substantial manner. Therefore, in case of utilizing investors’ capital efficiently to generate net income, PepsiCo seems to be a poor performer in this regard.
Market Value Ratios
Ratios that reflect to market value of PepsiCo are examined with the help of below mentioned information:
Even though PepsiCo’s net income declined in year 2014 to 2015, yet the company major portions of its earnings to common equity holders as dividends at end of every financial accounting period. As the dividend payout ratio has increased substantially from 2014 to 2015, the per share price also skyrocketed because investors wanted to gain more from dividend declarations at end of the year . This is also reflected by the increased per share price from 2014 to 2015. Such an increase was largely driven by higher demand for PepsiCo’s shares because market investors wanted to earn dividend declarations as well as capital gains from increase in price per share. Therefore, PepsiCo seems to be in a better position when it comes to analysis of market value ratios which reflect that investors are willing to pay more for PepsiCo’s stock, particularly, at end of the financial accounting period when dividends are about to be declared.
Activity or Efficiency Ratios
These ratios analyze the capability of PepsiCo to generate sales by selling ending inventory as well as make cash collections from its clients against credit sales . This sub-section is carried out with the support from following information:
Inventory Turnover
Analysis of two year data from 2014 to 2015 reveals that PepsiCo has been making serious efforts to generate sales more quickly than before. Due to this, the ending inventory stock held in warehouses of PepsiCo is declining since 2013. Moreover, PepsiCo is also making industrious efforts to minimize its costs associated with sales generation as well. This is a good sign but reduction in sales revenue is the price PepsiCo had to pay while saving more on it cost cutting activity. The period within which PepsiCo could generate sales has artificially remained unchanged from 2014 to 2015 due to decline in both the cost of revenue as well as ending inventory levels.
Receivable Turnover
This ratio analyzes cash collection performance of PepsiCo from 2014 to 2015. Receivables reported in the balance sheet have been declining since 2013 because PepsiCo is not only making cash collection quicker than before (37 days in 2015 compared to 38 days in 2014) but is also extending fewer sales on credit. Because of this and declining inventory levels, the liquidity management of PepsiCo improved from 2014 to 2015 as confirmed by current and quick ratios. Overall, PepsiCo seems to post good financial figures when it comes to generate sales, reduce inventories and make cash collections against credit sales.
Calculation of Return on Equity (ROE) using the DuPont System
The DuPont analysis calculated Return on Equity (ROE) by dividing this ratio into three components the formula for which is as follows:
DuPont ROE = Net Profit Margin (Operating Efficiency) × Total Asset Turnover (Asset Utilization) × Equity Multiplier (Financial Leverage)
DuPont ROE = Net Profit/Sales Revenue × Sales Revenue/Total Assets × Total Assets/Shareholder’s Equity
Synopsis of Findings, including Recommendations and Rationale for whether or not to Purchase Stock from PepsiCo Incorporated
With careful analysis of financial performance of PepsiCo from 2015 to 2015, it is found that PepsiCo’s liquidity strength has increased from 2014 to 2015. The major contribution is played by quicker selling of ending inventories and retirement of prepayments. PepsiCo is taking the same time to generate sales in both 2014 and 2015 but makes cash collections from customers one day before in 2015. The safety margin for short-term creditors is very high.
Moreover, as the company has increased its dependence over debt and retired more portion of equity stock, the financial flexibility of PepsiCo has been damaged. Bankruptcy and interest rate risk for PepsiCo from 2014 to 2015 is higher. Due to decline in sales revenue, though more sales are generated, reflect that PepsiCo is trying to cut per unit price as well as its costs of generating revenue. Due to this, making investment in PepsiCo is not recommended for lenders.
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