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Impact of Merger on Profitability of
Alliance Boots
Ganesh Adhikari
ABE membership number: W07304
05 September 2013
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DECLARATION
I declare that this assignment is my own work and I have appropriately acknowledged
the work of others. This assignment is produced in accordance with the ABE regulations
and guidelines.
......
28 July 2013
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Table of Contents
EXECUTIVE SUMMARY ............................................................................................ 5
1. INTRODUCTION .................................................................................................... 6
2. EVALUATION OF THE STRATEGIC DECISION ...................... ............. ............. ... 7
2.1.1 Suitability ...................................................................................................................... 72.1.2 Acceptability .................................................................................................................. 8
2.1.3 Feasibility ...................................................................................................................... 8
2.2 Validity and Reliability .......................................................................................................... 8
2.3 A quantitative appraisal of the decision ......... ......... .......... ......... .......... ......... ......... ......... ...... 9
2.4 Other non quantifiable issues ............................................................................................ 10
2.4.1 Political issues ............................................................................................................ 10
2.4.2 Organisational issues .................................................................................................. 10
3. CRITICAL EVALUATION OF THE MERGER ............. ............. ............. ............. ... 11
3.1 Impact of Merger ............................................................................................................... 11
3.2 Appraisal of the decision ......... ......... .......... ......... .......... ......... ......... .......... ......... .......... ...... 12
3.3 Tension among Stakeholders ............................................................................................ 13
3.3.1 Shareholders ............................................................................................................... 14
3.3.2 Employees .................................................................................................................. 14
3.3.3 Customers................................................................................................................... 14
3.3.4 Government ................................................................................................................ 14
3.4 International aspects and complexities .............................................................................. 15
3.4.1 International Aspects ................................................................................................... 15
3.4.2. Financing issues ........................................................................................................ 15
3.5 Risk management in decision making process .................................................................. 15
3.5.1 Identified Risks ............................................................................................................ 16
3.5.2 Management of risks ................................................................................................... 16
4. CONCLUSIONS ................................................................................................... 17
4.1 Strengths of the decision making process.......................................................................... 17
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4.1.1Mission driven .............................................................................................................. 17
4.1.2 Followed the structures and practices ......................................................................... 17
4.1.3 Stakeholder analysis ................................................................................................... 17
4.1.4 Commitment to accomplish required synergy .............................................................. 17
4.2 Weakness in decision making process .............................................................................. 174.2.1Timeframe .................................................................................................................... 18
4.2.2 Organisational culture ................................................................................................. 18
4.2.3 Weak liquidity and profitability ..................................................................................... 18
4.3 Evaluation of the success ......... ......... .......... ......... ......... .......... ......... .......... ......... ......... .. 18
4.4 Recommendations ............................................................................................................. 18
5. REFRENCES ............ ............. ............. ............. ............. ............. ............. ............. . 19
APPENDIX ................... ............. ............. ............. ............. ............. ............. ............. . 23
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Executive summary
This report provides an analysis and evaluation of the past, current and prospective
profitability, liquidity and financial stability of Alliance Boots. Identification, calculation
and interpretation of available data were required to measure the financial performance
of Alliance Boots before and after merger. To do so key performance ratios as well asreturn on investment measures were applied. Financial data from Balance Sheets, Cash
Flow Statements and profit and loss account of Alliance Boots have been used to
calculate and analyse the different accounting ratios which were the key performance
indicators. Additionally the data on office of fair trading (OFT) available on its websites
was also applied.
The purpose of using different source of data was to establish validity and reliability of
the research. Most of the calculations can be found in the appendices. Results of data
analysed show that majority of the ratios in the report are below industry averages after
the merger. In particular Liquidity and profitability immediately after the merger was
weak. However company was able to achieve consistent increase in revenue, trading
profit and the operating cash. It was also able to achieve the highest market share in the
UK market as well as the greater product portfolio.
Similarly group was able to expand its operations in major European market as
expected however there were few concerns over the regional politics and economy as
well as the impact of exchange rates.
The report also have some limitations which include the data provided in the internet is
not sufficient to calculate all the required ratios. Similarly the data about the impact on
stakeholders was not widely available as the merger took place in 2006.
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Total word count: 3784
1. Introduction
Merger has always been the most reliable choice for the companies to expand their
business. It is commonly argued that the merger helps companies to gain access to
new resources through increased revenue and wider customer reach. If managed
effectively merger can be a vital turnaround for any company. Merger is the mechanism
for improving competitiveness of companies through gaining greater market share,
broadening the portfolio to reduce business risk, for entering new markets and
geographies, and capitalizing on economies of scale.
Boots is the established household name in UK market. However, Boots has been
struggling in the competitive British market by facing consecutive fall in profits. Boots
began trading in 1849 and has seen its sales fall in recent years as its aggressive
segmenting and targeting strategy didnt clicked (Boots website, 2006). There was
strong call among stakeholders that the company should immediately seek effective
way to overcome those problems. To overcome these challenges Boots plc merged with
Alliance Unichem in July 2006. However there were many other rationale behind the
merger which include
The creation of Europes leading pharmacy -led healthcare group
To expand the number of retail stores and pharmacies
To create wholesale network to serve over 88,000 outlets
Enhances international growth opportunities
To deliver substantial cost savings
For the generation of incremental revenue opportunities
To deliver value for both sets of shareholders
After the merger The Group has constantly recorded increase in revenue and profit. In
the financial year 2010/11 company recorded the revenue of 23 billion with trading
profit of 1195 million.
This merger of two major players in the health and beauty industry in UK generates the
larger scale of operations and increased product range. By making 1000 job cuts initially
company saves around 100 million in its operation related activities. Despite the fact
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that job were lost as a result of merger, yet in the long term the financial performance
and increased market share of merged company has resulted more job creation.
Reduction in the cost of production has secured sustained profitability of the company in
following years. There are still some challenges in the market. The competitive rivalry
among the retailers has forced many companies to seek different ways to gain
competitive advantage. Rapid change in internet technology, financing efficiency and
favourable regulatory law are the main reason driving mergers.
There are various complex reasons behind any merger therefore a single doctrine
cannot justify the motives of merger. In many case merger is used as the strategic tool
to enhance financial performance of the company. Merger and acquisition are also seen
as major strategic tools to expand business and accelerate growth, however in many
studies their success remain contested in long term profit making. A study by Bruner
(2002) suggested that in many cases mergers were not able to provide adequate
amount of return to the shareholders in long run. In contrast to that the study of Paul
(2009) shows that post acquisition operating performance of the merged companies
was higher than the industry average. Similarly the study by Tower Watson (2011) for
Cass business school shows that the acquiring companies have the better performance
than the average market index.
2. Evaluation of the strategic decision
2.1.1 Suitability
Boots UK was the leading health and beauty retailer in the UK market. However it was
facing strong challenge from the rival retailer like Tesco, Sainsbury and Superdrug.Therefore to secure the growth and profitability of the company in longer term it was
essential for Boots to take strategic decision to exploit the opportunities and avoid any
threats in the environment. Therefore the suitable strategic decision to make was to
merge with the rapidly expanding company within same industry. This was the forward
integration where the company was able to expand its activity through increased
product portfolio and market share (Alliance Boots, 2013). With careful external and
internal environmental analysis along with Porter five forces analysis it was found thatthe Boots was in very sound and competitive position to acquire Alliance Unichem to
form the largest Health and Beauty Company in the UK. Boots core competence was its
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size and number of outlets in every corner of the UK, its product portfolio, service
delivery and the brand image. It was suitable for Boots to merge with the Unichem
which is the key wholesale player in health and beauty market. Therefore Boots has
been able to enjoy the consistent superiority in the market after the merger.
2.1.2 Acceptability
Acceptability focuses on the interaction between the strategic decision and the
stakeholders reaction to this (Thomas wu, 2010). In this case there was minor
opposition among the shareholders in the general meeting of the Boots for the proposed
change. However the majority of the shareholders were agreed with the strategic
decision of the company on the basis of various financial measurements like economic
value added, cost benefit analysis and shareholder value analysis. Similarly the detailed
analysis of return and risk helped group of stakeholders and investors to reduce their
discomfort. Medlow power interest index was utilised by the management to measure
the interest and power of various stakeholders in the environment and help make
decision accordingly.
2.1.3 FeasibilityMcKinsey 7s framework was used to analyse the capabilities of the company and was
found that the strategic decision made by the Boots was in control with its internal
capabilities (Mind tools, 2013). Boots has analysed all the financial costs involved with
the transaction of the proposed merger. The other internal factors are termed as 5M
factor which stand for money, machinery, material, manpower, market and makeup,
need careful consideration before implementing the strategic decision (Wikipedia,
2013). The major capabilities of the firm at the time of merger were its workforce,
system, product portfolio, supply chain and both companies being in same industry has
helped them gain more value through efficient integration of system. However there was
a bit of concern among the employee about the possible job cuts however these issues
were settled among the HR department and the leaders of the unions.
2.2 Validity and Reliability
The decision of the Boots management to merge with Alliance Unichem was directedtowards future growth and the increasing financial performance in the longer term.
Similarly it was also to expand the business internationally and maximise return to the
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shareholders. To appraise the potential decision of investment on merger Boots has
carried out the analysis on long term investment. Similarly the rates of return and
payback period were key indicator to measure the validity of the decision. The
consistent growth of the company around the globe after the merger shows that the
decision to merge was valid in terms of growth. Similarly the increased profitability in all
following years suggests that the decision was reliable too.
2.3 A quantitative appraisal of the decision
Profitability ratios
Ratios (%) 2007/8 2008/9 2009/10
Gross profit Margin 8.4 5.9 3.21
Operating Margin 4.51 4.07 4.2
Return On Equity 1.01 1.028 0.26
Return On Asset 1.2 0.6 0.8
ROCE 0.4 0.086 3.2
In terms of profitability after the merger company was in line with the expectations of the
management. There was a reduction in the profit in 2008/9 but this may be the impact of
the worldwide recession. Much lower cash was generated from the groups oper ational
activities which were not enough to secure increased profitability. However the Groups
profitability were rose again significantly in 2010/11 showing that the company is moving
into right direction.
The financial results for the five consecutive years suggest that the group was in right
track in terms of trading profit and cash generations.
Groups trading profit and cash generation from operations has rose significantlyfollowing the merger:
Financial year Trading profit growth
(millions)
Cash from operations
(millions)
2007/8 836 1,152
2008/9 929 1,045
2009/10 1,042 1,130
20010/11 1,176 1,3092011/12 1,300 1,601
Source: www.allianceBoots.com
http://www.allianceboots.com/http://www.allianceboots.com/ -
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2.4 Other non quantifiable issues
2.4.1 Political issues
When the decision was made to acquire Alliance Unichem, the situation in external
market were challenging. Issues like uncertain political and economic times, pressures
on public spending and global economic weakness were taken into account while
making decision. Additionally there was the pressure of the powerful unions regarding
the possible job losses and the economy was slowing down.
2.4.2 Organisational issues
Software
Culture
Human resource
Pay scheme Pensions plan
Supply chain integration
Legal issue
Finance
Formation of Board of directors
General meetings
There was also the concern among leaders involved about the organisation culture,
training and development of the staff. Board of directors was formed consisting top level
managers and directors of both companies. Similarly the integration of the software,
systems, supply chain and deliveries were the non financial issues which were
integrated successfully. The merger was highly publicised in the UK therefore the
interest among the public was higher. Therefore product portfolio for the merged stores
and pricing policy was integrated by using appropriate framework.
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3. Critical evaluation of the Merger
3.1 Impact of Merger
On 31 July 2006 the Boots UK acquired the entire share capital of Alliance Unichem Plcfor consideration, including costs, of 3.9 billion. The provisional goodwill arising on the
acquisition is 2.2 billion and the initial assessment of the fair value of the intangible
assets acquired, which predominantly comprises pharmacy licences and customer
related assets, is 1.7 billion. Boots share price went up by 4% to 633 pence and
Unichem by 1% to 875 pence. Boots share price went up by 4% to 633 pence and
Unichem by 1% to 875 pence. Even though the Boots profitability was sliding in recent
years (BBC, 2006) but the share price were going up because of the speculation aboutthe future growth perspective of the company. Therefore this surge in the shares
appraised the decision of merger to create infinite advantage for the shareholders.
Key financial indicators before and after Merger
2005(millions) 2006(millions)
4 936 Sales Revenue 5 027
2 809 Cost of Sales 2 7832 127 Gross Profit 2 244
1 767 Less Expenses 1 895
360 Net Profit 349
A through and objective review of the financial statements of an acquisition or merger
candidate is an essential component of open market transactions (Johnson, 2001). The
analysis of the pre and post merger financial statements suggests that the performanceof the group were according to the expectations. According to the interim results
published on 30 September 2006 the shareholders expectations were met, revenue,
trading and underlying profit and earnings per share are all up to comparative figures.
However the profitability of the group was less after the merger which suggests that the
group was unable to generate earnings comparing its costs and expenses. Similarly the
profitability of the group were not excellent compared to the year before merger but
however were in line with the expectations of the management.
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Profitability ratios before and after the merger:
Post merger 2007 Profitability ratios Pre merger 2006
1.14% Return on Asset 1.47%
2.0% Return on Equity 3.04%3.83% Gross profit margin 7.34%
3.3.2 Appraisal of the decision
Merger is the long-term strategic decision which will have large impact on whole
organisation. Therefore the investors must determine whether if it is beneficial for the
firm to invest in merger or not. Healy, Palepu and Ruback (1990), Paul (2009), Tower
Watson (2011) found that merged firms have significant improvements operating cash
flow returns after the merger, resulting from increases in asset productivity.
Groups liquidity ratios suggest that the group was in strong position to meet its long and
short term obligations. Data from the following table shows that the Groups debts were
far lower in 2009/10 compare to 2007/8. The ratio of liabilities was higher over the
current assets in 2007/8 but company reduces it in following years by making efficient
use of its inventory.
Liquidity ratios
Ratios 2007/8 2008/9 2009/10
Current Ratio 1.301 1.183 1.228
Quick Ratio 0.125 0.82 0.824
Cash ratio 0.124 0.111 0.085
Activity based costing approach was utilised by boots to secure examine the value
created by each activity for the groups integration plan (Alliance Boots, 2013). The
Group was able to save 100 million in 18 months ahead of schedule after the merger
mainly through the job cuts and restructuring the supply chain (Alliance Boots 2006).
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Additionally priority of the board of newly formed company was to reduce the cost by
implementing cost synergy plan. Initially company was able to save 20 million merger
cost by implementing new organisational structure, utilising existing office space,
harmonising buying prices, reducing corporate costs and integrating the distribution
channel.
Immediately after the merger all the Boots brands and products were made available in
all 500 pharmacies of Alliance Unichem. Which helps increase customer reach as well
Boots products were supplied though the channel of Alliance Unichem in Europe.
Similarly the diversification of the product range and the increase in operating platforms
has created the opportunity for the Group to increase strategic customer offering. The
merger has reduced the cost of re-engineering the process of supply chain and product
costing which helped group to achieve competitive advantage.
Similarly the integration plan was applied to achieve business excellence and value
chain. The combined operations of two companies in same sector made it easier for
them to integrate core operations to deliver excellent customer service.
3.3 Tension among Stakeholders
Financial objectives of the Group were
Europes leading retail pharmacy business
Enhanced international growth opportunities
Cost savings of at least 100 million
Incremental revenue opportunities
Financial objectives of the company were to create a global leader in the field of
pharmacy led health and beauty group by utilisation of all the possible international
opportunities. However this decision of the management to merge with pan-European
Company has created dissatisfaction among the large section of British community.
Critics were worried about the possible exit of the Boots from The UK to Europe.
According to Rhodes (2002) merger is not only about financial ownership it is also about
integration of ideology, culture and practice. Therefore only the business relation
between the merging firms does not appear to be the major determinant of post-merger
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performance. Factors like balance of power, employee welfare, compensation for the
affected parties and technology and interests of shareholders are equally important.
3.3.1 Shareholders
There was a clear authority to the management of both companies to take decision from
the shareholders. Therefore there was not any conflict between the owner and the
agency. More than 95.5% of share holders in both companies agreed to the deal to
merge however the small group of shareholders disagreed on the deal citing company
should focus on bringing new ideas rather than buying more shops. Similarly they also
stressed that the management should create more value from its existing space by
reducing cost and polishing up their brand name.
3.3.2 Employees
Employees were concerned about the possible job losses after the merger deal. More
than 1000 jobs were lost in the process to create synergy in the merger. Series of
meetings were held with union leaders in UK to settle down the issue.
3.3.3 Customers
The impact of merger on the customers is vital in the modern market environment.
Consumers are interested in the decision made by the corporations. More specifically
the health and beauty retail sector has the direct connection with the customer. Boots
has the wide brand loyalty among its customers and the It system has played important
role in creating customer loyalty. Therefore it was crucial for Boots to analyse the
customer choice before and after merger.
3.3.4 Government
Government and regulation bodies were concern about competition standards and
possible impact off the merger into the government income as tax. The office of fair
trading said there were 100 local areas where the merger would create competition
concerns (OFT, 2006).
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3.4 International aspects and complexities
3.4.1 International Aspects
Boots UK has the strong presence in the UK market however the AllianceUnichem was
third largest pharmacy led health and beauty wholesaler in Europe. Boots has greater
brand equity and product development capabilities and the major objective of the
merger was to combine these with international distribution reach and long established
relationships of Unichem outside UK. This also helped gain consumer and investors
confidence in brand as well as reasserts the companys dominance in the UK retail
health and beauty market. However there were challenges like exchange rates, laws in
Europe and other countries, taxation, Global economic issues and different legal
requirements to run the business various nations.
3.4.2. Financing issues
Although the decision of merger was supported by majority of shareholders the concern
over the investment in expansion of business in difficult time was objected by few.
Similarly the liquidity ratio of the company after the merger not as good as desired.
Higher liquidity ratio creates more margins of safety to the investors. Therefore the
Group faced future investment challenges after the year of the merger.
Liquidity ratios comparison
Post merger 2007 Liquidity ratios Pre merger 2006
1.32 Current ratio 2.06
0.84 Acid test ratio 1.43
3.5 Risk management in decision making process
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3.5.1 Identified Risks
Lynch (2009) believes that mergers might be successful in some cases but it does not
guarantee superior financial performance. Merger could lead towards problem if too
much money is paid or not have any experience of merger (Johnson, Wittington andScholes, 2009). Conflict arises while integrating the cultures of both companies. If the
firm try to crush those cultural differences then it might create problems. Difficulties in
gaining commitment of employees, problems of cultural fit and uncertainties in customer
confidence create chaos (chui, 2011). The decision to merge with the huge rival
company brought risk with it for employee to fit within new culture.
The risks identified were macro economic and political environment, the impact of
regulation; changes and trends in consumer behaviour; competition; health, safety and
environmental risks; product/services risk; major operational business failures;
increased costs; change management; acquisitions; currency exchange; funding and
interest rate risks; pension contributions; and data protection.
Similarly critics of the decision were also worried about the impact of tax on merger
which will force group to move out of the UK and finally in 2008 the group headquarter
was moved to Switzerland to enjoy lower corporation tax (Alliance Boots,2013).Furthermore the law in many European countries did not allow operating as a
chain retailer and the working hours and minimum wages to the employee were
different in Europe which was additional complexity in the process. Additionally there
was risk of strong resistance to change because of the possible job cuts create fear
among the employee.
3.5.2 Management of risks
All the identified risk were monitored and then assessed to minimise their effect on the
decision. Human resource of the group played key role in minimising the cultural
difference in both companies by identification of the potential barriers to cultural fit.
Similarly the complexities in the integration of the systems, supply chain and payment
structures were integrated with an appropriate planning in advance within the available
budget. Similarly the legal experts at the group were negotiation with trade unions,
government regulatory bodies and other related parties.
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Similarly standards were set for all the newly merged stores and departments along with
supply chain to mitigate risks associated with health, safety and the environment which
were also closely monitored and regularly audited.
4. ConclusionsMerger between Boots and Alliance Unichem was the positive sign for the future
growth. The increase in the share price after the merger was announced help gain
confidence of the investors which secured the future investment opportunities among
the investors. Similarly the financial objectives of the group were according to the
expectations of the management after the merger. However the liquidity and the
profitability of the group were not as expected instantly the deal was done but within a
matter of years Alliance Boots was able to achieve both up to industry average.
Therefore Boots was able to secure strong financial position although in the time of
recession in 2008 till 2013. However it needs to look into some key areas if it wants to
improve the market presence and growth.
4.1 Strengths of the decision making process
4.1.1Mission drivenThe decision of merger was directed towards the mission to be the leading pharmacy
led health and beauty group in the world.
4.1.2 Followed the structures and practices
Established merger committee, bring both boards together and agreed all the activity to
do according to the schedule purposed.
4.1.3 Stakeholder analysis
Decision was followed by the stakeholder analysis to measure the impact and power
which could affect the decision.
4.1.4 Commitment to accomplish required synergy
The decision was motivated by the cost saving plans which has enhanced the profit
making ability of the group.
4.2 Weakness in decision making process
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4.2.1Timeframe
Timeframe was not allocated about when the synergy plan will achieve the expected
outcome, which takes longer than expected.
4.2.2 Organisational culture
There was not any model or structure for the culture of new group which created chaos
among the staff about the future.
4.2.3 Weak liquidity and profitability
Due to the unproductive resources and overheads group was not able to achieve the
required level of liquidity and profitability.
4.3 Evaluation of the success
It is found that the merger could be an effective tool to improve product portfolio, growth
and expansion of the business. If effectively applied merger could bring huge financial
benefits to the company. However not only finance the other dimensions of business
are equally important in this modern age of information and technology. Therefore the
relationships with customers, employees and investors are also a key indicator in the
success of any merger. Therefore business must try to win the confidence of all the
stakeholders before making any strategic decision. Even though the small sections of
stakeholders were not satisfied with the merger between two major players in the health
and beauty sector, Group has successfully managed the balance of interest among its
stakeholders including shareholders, employee and management.
4.4 Recommendations
The report suggests that the Boots UK provide valid reason to merge with Alliance
which helped firms growth and e xpansion. It must also explore other possible ways ofexpansion into the emerging markets around the globe. The Group has done well in
terms of profitability, revenue and market share growth however it should seek possible
ways to increase its liquidity slightly by making effective use of inventory and assets.
Similarly, Group should look out for possible way to expand its product portfolio in
international market to secure future profitability. Additionally, non quantifiable issues
must remain as important as financial issues while expanding the business in another
market.
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Appendix
A. Returns on investment ratios:
Post merger 2007 Ratios Pre merger 2006
6.3% ROCE 13.98%
7.88% Return on shareholders
fund
21.13%
B. Key financial indicators:
Revenue - continuing operations 3,933 million (H1 05/06: 2,339million)Profit from operations - continuing 156 million (H1 05/06: 282 million)
Profit for the period attributable to equityshareholders 135 million (H1 05/06: 273 million)
Basic earnings per share - total 21.8 pence (H1 05/06: 38.2 pence)
Basic earnings per share - continuing 19.0 pence (H1 05/06: 33.9 pence)
C. Comparing financial performance before and after merger:
Results in 31 st March 2007 Combined results of year (2005/6)
Revenue up 3.6% to 14,608
Trading profit up 6.3% to 641
million
Underlying trading profit up 7.4%
to 641 million
Adjusted earnings up 11.5% to
467 million
Adjusted earnings per share up
11.4% to 48.7 pence
(2005/06 14,096 million)
(2005/06 603 million)
(2005/06 597 million2)
(2005/06 419 million)
(2005/06 43.7 pence)
D. Profitability ratios
-
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Ratios (%) 2007/8 2008/9 2009/10
Gross profit Margin 8.4 5.9 3.21
Operating Margin 4.51 4.07 4.2
Return On Equity 1.01 1.028 0.26
Return On Asset 1.2 0.6 0.8
ROCE 0.4 0.086 3.2
E. Liquidity ratios
Ratios 2007/8 2008/9 2009/10
Current Ratio 1.301 1.183 1.228
Quick Ratio 0.125 0.82 0.824
Cash ratio 0.124 0.111 0.085
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