Company: Diageo Plc
Industry: Alcoholic Beverage Industry
Diageo Plc is a British, multinational alcoholic breweries manufacturer. The company is headquartered in London, United Kingdom and the primarily operations of the company are related to the manufacturing of alcoholic breweries which includes, wine, spirit and beer. With the market capitalization of $78 Billion, it is the eight largest company registered on the London Stock Exchange.
Diageo is also a proud owner of the leading brands in the alcohol industry as Smirnoff, Johny Walker and Guiness.
Stock Exchange Listing/ Stock Market Activity:
Diageo Plc is registered on London Stock Exchange under the ticker symbol of ‘’DGE’’. With the average volume of 622,398 shares, the company stock price is in the increasing trend. Referring to our stock price analysis of the company, since 2011, the price of the company was in consolidation phase with ups and down covering the stock prices. However, the major increase in the stock prices were witnessed during 2012 , when during May, the stock prices reached at $103.2, recording an increase of 34% since October, 2012. At present the stock is trading at $124.82, while the 52 week range is 111.87-134.08.
Financial Analysis:
Our above discussion on stock price movement of Diageo Plc, can not be considered as a concrete base to judge the financial health of the company. Hence, in order to have a better and an in-depth view of Diageo Plc, we will be conducting ratio analysis of the financial statements of the company. By the end of this financial analysis, we will be in a more advanced position to know about the financial stability of the company.
Liquidity Analysis:
Also known as Pure Balance Sheet Ratios, these ratios analyse the ability the short term ability of a firm to meet its debt obligations. Generally two measures of Liquidity Ratios are used by analyst to adjudge the liquidity position of the company: (Yahoo Voice, 2011)
- Current Ratio
- Quick Ratio/Acid Test Ratio
1) Current Ratio: This ratio is calculated as the ratio fo Current Assets and Current Liabilities and is a concrete indicator of a firm’s liquidity.
- Current Ratio: Current Assets/ Current Liabilities
2) Quick Ratio: Also known as Acid Ratio, this ratio is a more stringent measure of judging a firm’s liquidity position. Calculating the quick ratio excludes Inventory and prepaid expenses from the current assets while current liabilities remain same.
- Quick Ratio: Current Assets – Inventory/ Current Liabilities
Commentary:
Referring to the above analysis we can infer that the liquidity position of the company has improved during the year. However, it was interesting to note that during 2012, while the current ratio was increasing, quick ratio had a sharp decline. This proves that the level of inventory has a significant portion of total current assets of the company. Thus, while during 2012, the quick ratio declined significantly from 0.75 to 0.68, during the year 2013, the ratio finally increased to 0.78, indicating stability in the liquid resources of the company.
b) Solvency/Gearing Ratios:
These ratios carry high importance as it indicates ability of the company to pay off its long term debts and borrowings. It also helps to understand the level of financial risk being carried by the entity and ascertaining the debt and equity component in the capital structure of the company.
i)Debt to Equity Ratio:
This ratio is one of the most popular solvency ratios and indicates the proportion of debt and equity in the capital structure of the company. Higher the ratio multiple more is the financial risk embedded in the company as high ratio indicates greater proportion of debt which can lead to financial distress and even bankruptcy threats and vice versa.
ii)Interest Coverage Ratio: Operating Earning/ Interest Expense
This ratio is a true measure of firm’s ability to pay off its interest paying obligations. Lower the ratio, more is the probability that the firm will default or will face difficulty in meeting its interest payments.
Commentary:
The solvency ratios seems to be the best indicator of financial health of Diageo Plc. During 2013, the debt equity ratio of the company declined from 1.33 to 1.18 which indicates that the company is well managing its debt burden. However, the most lucrative portion of the solvency ratio was increasing interest coverage ratio even when Debt Equity Ratio was declining. In other words, when DE Ratio was falling, even then the interest coverage ratio was in increasing trend which indicates that the company have solid and strong roots of long term solvency.
c) Profitability Measures:
Profitability ratios are of great importance for the analyst and also for the investors and the creditors of the company as it indicates the profit margins being earned by a company. In other words, these ratios access the profitability of the entity and can said to be the true indicator for accessing the profitability of the concerned company.
i)Net Profit Margins: Net Profit/ Revenue*100
Net Profit margins are calculated as percentage of revenue of the company. It is an important source to ascertain the bottom line profitability of the entity.
ii) Operating Profit Margins: Operating Profit/Revenue*100
Also know as EBIT margins, operating profit margins indcates the profit marging being earned by the company from its operations and before deducting any non-operating expenses. It helps in distinguishing the actual margins from operations to the bottom line profits of the company. Analyst use this ratio to find if there is any speculation involved in the non-operating expenses of the company.
iii)Return on Equity: Net Income/Total Equity
This ratio measures profitability relative to funds invested in the company by the common stockholders. Analyst turn too concerned when Return on Equity of a company is in decreasing trend.
Commentary:
Referring to our analysis conducted in relation to the profitability analysis of the company, 2013 has been a good year for the company. Earlier during 2012, although operating profits of the company were constantly increasing and high net operating expenses forced a decline in the net margins of the company. However, with improved revenue figures and control on non-operating expenses, the company managed to record an increase in both operating margins and net profit margins.
In contrast, the shareholders of the company would be a little upset with continued fall in ROE multiple. This was primarily because of increased shareholding equity in the company. Diageo management might be willing to improve these numbers.
d)Efficiency Ratios:
Also known as Asset Management Ratios, these ratios are used to judge how efficiently the management is using its assets to generate revenue for the company.
1)Working Capital Turnover: Revenue/ Working Capital
This ratio indicates as whether the company has effectively used its working capital to generate revenue.
Working Capital : Current Assets- Current Liabilities
ii) Inventory Turnover Ratio: COGS/ Inventory
This ratio measures the efficiency with respect to its processing and inventory management. In other words, it indicates how efficiently the entity is using its inventory.
Commentary:
Working Capital Ratio gives an extended information in relation to the utilization of working capital in terms of dollars of sales per dollar of working capital. Hence, declining working capital turnover ratio is a matter of concern for the company as it indicates that company is not using its working capital efficiently. Similarly, declining ITR means that the company’s processing period is going high and hence too much capital is tied up in inventory and this indicates that the company is holding obsolete inventory.
Ratio Summary:
Industry Comparison: (2013)
Commentary:
Even in comparison to the Industrial Averages, our analysis does not change much. As already analyzed, the company indeed have strong liquidity and profitability roots and the same is also indicated in comparison to Industrial Averages also. Although, solvency ratios of the company are not in line with the industrial averages but the declining trend in the Debt Equity Ratio and the improving Interest Coverage Ratio force us to continue with Diageo Plc with an optimistic approach. However, efficiency ratios are still a matter of concern for the company and the management of the company should take that into consideration.
Conclusion: Bullish trend in Diageo Plc
Our ratio analysis can be concluded with a positive rating for Diageo Plc. The company during the year have earned good profit margins and has attained strong liquidity. Most interesting was the lucrative solvency ratio of the company. Lower Debt Equity and Increasing trend in the Interest Coverage Ratio has enhanced solvency position of the company. However, lower efficiency ratios were a matter of concern but with our management i am assured that we will be improve this section too. Thus, i would strongly recommend purchase of Diageo Plc.
Some other recommendations: Vertical Common Size Ratio Analysis
In order to further advance our study on Diageo Plc and related financial analysis, we can also refer to the vertical common size ratio analysis of the company. This will help us to understand as what In order to have a detailed analysis, i would also like to suggest common size analysis so our management could understand the constituent of income statement and balance sheet in a much better way as the decision to purchase Diageo Plc will be a significant decision for the company.
Common Size Analysis: Balance Sheet
Common Size Analysis: Income Statement
Works Cited
Alcoholic Beverages Industry. (n.d.). Retrieved March 7, 2014, from Csimarket.com: http://csimarket.com/Industry/industry_ManagementEffectiveness.php?ind=501
Diageo Inc. (2012). Annual Report 2012. London: Diageo Inc.
Diageo Plc. (n.d.). Retrieved March 7, 2014, from Yahoo Finance: http://in.finance.yahoo.com/q?s=DEO
Robinson, T. (2011). Financial Analysis and Techniques. In C. Institute, Financial Reporting and Analysis (pp. 131-148). Boston: Custom.
