fma assignment final draft

1(a) Calculate ratios which will assist you to assess the performance of the companies over a period of three to five years. (8 marks) Please refer to ratio working calculation in appendix A

Dutch LadyNo Performace indicator 2006 2007 20081 ROSF 36 38.1 29.52 ROCE 50.21 52.4 40.273 COGS/ revenue 62.61 69.75 74.024 Gross margin 37.40 30.25 25.975 SGA & E / revenue 21.45 14.62 14.166 Operating margin 11.69 10.75 8.177 Effective tax rate 28.14 27.05 26.298 Net profit 8.38 7.81 5.999 ROA ( Net income/ TA) 20.37 16.04 14.65

NestleNo Performace indicator 2006 2007 20081 ROSF 48.79 48.82 59.132 ROCE (%) 57.67 62.68 80.003 COGS/ revenue 66.28 67.06 68.954 Gross margin 33.72 32.94 31.045 SGA & E / revenue 22.36 20.32 19.136 Operating margin 11.38 11.99 11.997 Effective tax rate 27.27 26.12 22.768 Net profit 8.07 8.55 8.799 ROA ( Net income/ TA) 19.46 20.00 22.3

Table A : Summarized of all performance or profitability ratio using 3 years Financial statement ( 2006 to 2008)

USGBS ( Malaysia Centre)

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1(b) Compare the performance of the two companies, explaining the likely reasons for the differences between their performances over the period. (16 marks) Comment one : Net profit

Nestle ‘s net profit margin has increased by 0.72% marginally to 8.55% in yearend of 2008 since year 2006. However, Dutch Lady Milk Berhad (DLM)’s net profit margin has been eroded significantly from 8.38% in year 2006 to 5.99% in year 2008 (Table B) despite of 38.5% increased in total sales revenue for the same period of time. Nestle 2009 Net profit of Nestle rose by 29% compared to FY2006 and stood atRM340,887,000 .On the other hand, DLM’s 2009 net profit declined by 0.97% as compared to its 2006 Fiscal year net profit and recorded RM 42,647,000 (Table C)

Table B : Net profit margin (%) Table C: Net profit margin in absolute Value (RM’000)


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+29%

-0.97%

Below are some of the plausible reasons behind why DLM’s net profit margin was erodedyear by year since 2006.

1. DLM operating profit margin was declining at year 2008 due to following reasons :

a. Erosion of gross profit margin from year to year at 7.15% and 4.28% in year 2007 and 2008 due to - Increased of raw material and consumables has increased from RM 299,199 to RM

470,038 or 60.97% increament between year 2006 and 2008.- COGS / sales ratio has increased from 62.61 % in year 2006 to 74..02% in year 2008

or the increment of cost of goods sold (COGS) is 174.2% which is faster than the sales revenue growth (38.50%) between year 2006 and 2008. One of the reason is the commodities pricing of raw material such as milk powder and solid, cocoa and oil palm has increased significantly by 50 to 60 % (Chairman report, 2007 & 2008 of Annual report ; 2006 tftchart.com; Dow Jones International News 2009; Business Times 2007).

- Thus, the increment of COGS was outpaced the sales growth by 135.7% during the duration between 2006 and 2008.

- Hence, the gross profit has been hovering around RM 183,000,000 without recorded any significant growth compare to Nestle which has diversify their business while less affected by the high cost of commodity such as milk , cocoa and oil palm.

b. Administrative expenses increased by 46% since 2006.c. Director remuneration increased by 40.5% to RM 1,808,000d. Rental of premises has increased by 111.6% from RM 293,000 to RM620,000 between

year 2006 to 2008 respectively. e. Rental equipment has increased by 59.4% from RM 69,000 to RM 110,000 between

year 2006 to 2008 respectively. f. Allowance for slow moving and obsolete inventories increased from zero to

RM 1,613,000 between year 2006 to 2008 respectively. g. 2008 finance costs was RM 246,000 or increased by122.5% compared with RM

133,000 recorded in year 2006.


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Below are some of the plausible reasons behind why Nestle’s net profit margin was increased significantly between year 2006 and 2008

1. Nestle gross profit has been increased marginally at 1.89% and 6.97% respectively in year of 2007 and 2008. a. Increment of sales revenue is greater than COGS /sales ratio increment by 3.51 % and

11.61% in year 2007 and 2008 respectively. As a result, gross profit has improved in term of Riggit from year to year.

Nestle 2006 2007 2008Sales revenue (RM'000) 3275541 3416028 3877068Growth (%) / 4.29 13.50COGS/Sales (%) 66.28 67.06 68.95Gross profit (RM'000) 1104445 1125309 1203750Growth (%) / 1.89 6.97Effective tax rate (%) 27.27 26.12 22.76

b. Following government policy to reduce corporate tax in order to increase country competitiveness ,Nestle has enjoy the reduction in term of effective tax rate from 27.27% to 22.76% which managed to maintain their tax expenses from year 2006 to 2008 around RM 101,000,000 approximately. Thus, it helps to increase the net profit.

2. Nestle’s operating profit has grown consistently by 8,83% and 11.80 % in year 2007 and year 2008 due to following reason a. 2008 Selling, General and admin expenses (SGA & E) to revenue ratio was decreasing

by more than 3.23% since year 2006.b. Reduction in amortization of intangible asset from RM 6,382,000 to RM 256,000c. Reduction of other expenses by RM 19,676, 000 from 2007 to 2008 was significant

figure which boast up the operating profit.

Nestle2006 2007 2008

Operating profit (RM'000) 362950 394984 441578Growth (%) / 8.83 11.80SGA & E / revenue (%) 22.36 20.32 19.13Amortization of intangible asset (RM'000) 6382 5062 256Other expenses (RM'000) 6968 22606 2930

Comment on ROSF/ ROE


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Table D: ROE for DLM and Nestle

Despite of stronger growth in term of total sales revenue (DLM 38.5% versus Nestle 18.36%), DLM’s ROE was reduced to 29.5% whereas Nestlé’s ROE rose to 59.13%. Following is the likely reason behind the fluctuation of ROE in DLM during 2006 and 2008:

Dutch LadyDupont identoty 2006 2007 2008Net Profit margin (%) 8.38 7.81 5.99Total asset turnover ( TA / sales) 2.429 2.052 2.445Equity multiplier ( TA/Equity) 1.767 2.375 2.015ROE 36.0 38.1 29.5

Based on dupont identity, ROE is affected by net profit margin, total asset turnover and equity multiplier:

1. In 2007, ROE tend to increase marginally by 2.1% despite of the reduction in net profit ( 0.57%) and total asset turnover reduced by (0.377).However, These reduction was nullified by the significant increase of equity multiplier of 0.608 because total asset was growth at a faster rate ( 39.3%) faster than equity (3.7%).

2. In 2008, although total asset turnover has increased by 0.393 over last year but ROE was reduced significantly to 29.5%. This is because the compounding effects of reduction in both net profit margin and equity multiplier by 1.82% and 0.36 which is greater than the increment of total asset turnover. Another reason is the growth rate of average shareholders funds or total equity is much higher ( 16.4%) as opposed to the reduction in 2008 net profit by 9.75% over last year.


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Dutch Lady

2005 2006 2007 2008Shareholder funds (RM'000) 118298 120947 127258 161585Average shraeholders funds (RM'000) / 119622.5 124102.5 144421.5Growth (%) / / 3.7 16.4Net profit (%) / 8.38 7.81 5.99Net profit (RM'000) / 43065 47255 42647Growth (%) / / 9.73 -9.75

Following is the likely reason behind the fluctuation of ROE in DLM during 2006 and 2008:Nestle

Dupont identoty 2006 2007 2008Net Profit margin (%) 8.07 8.55 8.79Total asset turnover ( TA / sales) 2.245 2.131 2.335Equity multiplier ( TA/Equity) 2.69 2.68 2.88ROE (%) 48.74 48.83 59.11

Reason for significant increased of ROE in Nestle1. Despite of slight increase in net profit margin by 0.48%, it was nullified by the decresed

of both total asset turnover and equity multiplier by 0.114 and 0.01 respectively. Overall in 2007, the ROE was almost the same as 2006 which stood at 48.83% or marginally increase by merely 0.09%.

2. In year 2008, we observed significant increase in ROE which was largely due to the increment in all three factors including net profit margin , total asset turnover and multiplier by 0.24, 0.204 and 0.2 respectively over last year.

3. ROE for year 2008 was definitely higher than 2006 by 10.37% because of the increment observed in all three factors including net profit margin , total asset turnover and multiplier by 0.72, 0.09 and 0.19 relatively.

Comment on ROCE


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Table E: ROCE for DLM and Nestle

Overall Nestle has a much better ROCE than DLM by 7.46, 10.28, 39.73 in year 2006 , 2007 and 2008 respectively. Nestle ROCE was much higher owing to following reason:

Nestle2006 2007 2008

Operating profit (RM'000) 362950 394984 441578Growth (%) / 8.83 11.80Average total capital employed (RM’000) 647421.5 654376 580441.5Growth (%) 1 -11

1. As shown on the table above Nestle’s operating profit year on year growth always outpaced average total capital employed by 7.73 and 22.8% in year 2007 and 2008 respectively. Thus, the 2007 ROCE was rosed by increased 5.01%. Meanwhile, 2008 ROCE was grown by 17.32% over last year.

2. In 2008, Nestle has made an imprudent dividend payout of 131.52% or RM 448,341,000 which is the main reason behind the significant reduction of 2008 year capital employed in order to boast ROCE to its highest level.

DLM ROCE was decreasing owing to the following reason:Dutch Lady


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2006 2007 2008Operating profit (RM'000) 60063 65026 58154Growth (%) / 8.26 -10.57Average total capital employed (RM’000) 119622.5 124102.5 144421.5Growth (%) 4 16

1. In 2007, ROCE only growth marginally by 2.19% because operating profit growth (8.26%) is just slightly higher than average total capital employed (4%).

2. In 2008, ROCE has decreased tremendously because the operating profit was fell by more than 10% ( as shown on table above) while average total capital employed still growth at the rate of 16%.

3. DLM has a steadily increased in capital employed ( as shown above) due to the fact that a. Increase retained earnings from year on year (YOY) at a rate of 11.1% and 54.3% in

year 2007 and 2008 respectively.b. In year 2008, DLM has retained more earning by reduced it dividend payout rate from

86.7% to 19.5%. Hence, it boosts the total equity upwards significantly by 26.97% compared to last year.

In conclusion, DLM high growth of total capital employed has posed great challenge for the company and its management to increase its operating profit more diligently and efficiently in order to maintain above industry ROCE.

(2)(a) Calculate ratios that will enable you to comment on the liquidity and management of working capital over the period. (10 marks)


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Please refer to ratio working calculation in appendix B

Dutch Lady Milk Berhad2006 2007 2008

Liquidity Ratio Current Ratio 1.77 1.41 1.76Quick Ratio 1.15 0.7 1.15Working capital Stock holding period (days) 59.5 74.85 66.82Debtors payment period (days) 45.1 45.1 51.8Creditor payment period (days) 46.9 49.1 46.5Cash conversion cycle (days) 57.7 70.85 72.12Asset turnover Ratio ( times) 2.43 2.05 2.45

Nestle

2006 2007 2008Liquidity Ratio Current Ratio 1.196 1.08 0.856Quick Ratio 0.711 0.567 0.409Working capital Stock holding period (days) 49.86 61.93 61.86Debtors payment period (days) 49.7 32.6 22.9Creditor payment period (days) 39.1 45 39Cash conversion cycle (days) 60.46 49.53 45.76Asset turnover Ratio ( times) 2.43 2.05 2.45

Table F: Summerized of Liquidity ratio and ration related to working capital.

(b) Discuss the likely causes and effects of the changes in the liquidity ratios over the period of two years. (15 marks)


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Table G: Current ratio Table H: Quick ratio

Overview

In general, Dutch Lady Milk Berhad is much solvency as compared to Nestle during the entireduration between 20076and 2008 based on both current and quick ratio (as illustrated in Table G & H) . It means that DLM is more “liquid “ and also has better ability to pay its current obligations (current liabilities) in time when they become due as compared to Nestle.

However, in actual fact, Nestle might be slightly more liquid than DLM based on the fact that Nestle’s cash conversion cycle for year 2007 and 2008 are much shorter than DLM by 21.32 days and 33.12 days. On top of that, Nestle has a much shorter stock holding period duringthe entire period of 2006 to 2008; debtors payment period also significantly shorter than DLMin year 2007 and 2008 by12.5 days and 28.9 days respectively (Table F). The implication of the better cash conversion cycle of Nestle over DLM was further substantiated by the significant increase of its net cash from operating activities by 91.3 % ( 2007 -RM 290,657 versus 2008 –RM555,972). In contrary, due to perpetual longer cash conversion cycle, DLM net cash fromoperating activities was declining 33.7% over last year and stood at RM 29,897.

Discussion of the changes in liquidity ratio over 2006 & 2007

A. Dutch Lady Milks Berhad (DLM)


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At the end of 2007, both DLM’s current and quick ratio were drop significantly and stood at by 1.41 and 0.71 respective compared with year 2006. Quick ratio decreased more significantly as compared to current ratio as the inventories growth by 65% from 2006 to 2007. Thus, inventories contributing 36.9% of the total current asset in 2007 versus 33.5% in 2006.

Below are the likely contributing factors behind the reduction of both current and quick ratio:

1. Despite of total current asset increased by 49.97% to RM 234,403,000 , the current liabilities has increased much more significantly by 79.81% to RM 165,812,000. Thus, the 2007 current ratio was drop 1.41 compared to last year.

2. The reason why current liabilities increased much rapidly than current asset:a. Shorterm borrow ( RM 16,400)b. Trade payables ( RM 25,891) or 59% increasedc. Amount owing to other related company up 206% compared to last year.

- Mainly due to increase purchase from Friesland foods BV and Friesland foods Foremost (Thailand) plc.

- Know-how and trademark license fee paid to Friesland foods BV by 8,492,000 more than last year ( 2006)

d. Net cash and cash equivalents at the end of 2007 was RM 17,267,000 which is reduction of 35% from last year. This is mainly due to reduction of cash generated from operation and net cash from opetaing activities by 10.4% and 16.6% respectively; Increase interest paid by 84.5% to RM 246,000; increment of net cash used in investing activities by 199.6% to RM 13,235,000. Thus, reduction in net cash slower the overall growth of total current asset relatively to current liabilities.

As a results of the reduction on both current and quick ratio in year 2007, following are some of the likely effects:

1. The group net cash decreased of RM 9,311,000 compare to last year surplus of RM 7,820,000.

2. The interested expense in year 2008 has increase from 246 to 296 or 20.3% increased compare to last year due to high current liability mainly come from short term borrowing of RM 16,400,000.

3. DLM has to consciously reduced its current liabilities as a whole by a. In year 2008 there isn’t short term borrowingb. in year 2008 it manage to reduce its trade payables by 7.7% to RM 64,387,000.

4. DLM has done following in year 2008 to increase current asset


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a. Increased net cash and cash equivalent from operating activities by RM 6,525,000 through reducing stock holding period from 74.85 days to 66.82 days and better working capital management.

b. Increased in trade receivable through better sales growth by 33.9%.

B. Nestle At the end of 2007, Nestle’s current and quick ratio were drop significantly and stood at by 1.08 and 0.567 respective compared with year 2006. Below are the likely contributing

factors behind the reduction of both current and quick ratio:

1. The overall growth of total current liabilities increased by 27.4% which is much faster than the overall growth of total current asset ( growth = 15%) by 12.4%. Hence, the current ratio suffered from significant decreased.

2. The 2007 current liabilities was significant higher than 2006 by some 27.4% due to the remarkable increased in 2007 short term loan and borrowing coupled with slight increased on trade payable. The loan and borrowing in 2007 is RM 302,703,000 which represent 353% increment over last year short-term borrowing. At the same time, trade payables also rose to RM310,439,000 or 22.3% increased over last year. Hence, both current and quick ratio was declining sharply by 0.224 and 0.158 respectively.

3. The growth of nestle 2007 total asset was slower compared to its total liabilities due to the fact that cash on hand was reduced by 46.3% to RM 31,670,000; trade receivables reduced marginally by 4.1%; remarked increase in impairment of trade receivable by 42.9% over last year; Hence, both current and quick ratio was declining sharply by 0.224 and 0.158 respectively.

4. 2007 current ratio declined as a result of 2007 working capital declined by 49.8 % compared to last year. Despite of low current and quick ratio that doesn’t mean that Nestle having problem of fullfill their short term obligation (debt) or facing financial problem such as bankruptcy . Firstly, Nestle working capital productivity (*1) increased from 25.4 to 49.1 which is a clear sign of efficiency and productivity of Nestle ‘s sales revenue growing faster than the resources required to generate them. Secondly, Nestle might be able to generate more cash sales and improve its debtor payment period (48.5 days to 47.4days ) even before they have to pay to their creditors (45 days on average).

*1 Working capital productivity = Sales revenue ÷ (Current assets – Current liabilities)

As a result of the reduction on both current and quick ratio, following are some of the likely effects:


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1. Due to reduction on both current and quick ratio from year to year analysis, the creditor like bank will be very much concern about Nestle capability to service their short -term debt such as loan and borrowing. At the same time, banker will consciously reduced the amount of overdraft , unsecured loan and raised the effective interest rate correspond to the financial risk such as low current and quick ratio for Nestle should nestle were to apply for more loan to financial it business.

2. The group net cash flow (NCF) will be decreased significantly as cash generated through operation will be eroded as there is less by relatively higher total liabilities which consists of trade payable, short-term loan and borrowing , and interest expenses.

3. Due to low level of current and quick ratio, Nestle will probably take moderate tactical plan to improve and reduced its cash conversion cycle (CCC) by a. reduced debtor payment period among their top 30 to 50 percentile client or dealer

while maintain the debtor payment period among their top 30 percentile client or dealer to prevent loss of sales due to this factor alone , given other factors remain constants.

b. Reduction of inventory holding period through more effective planning and

4. In order to improve and preserve cash flow and maintain uninterrupted goods supply to their value added dealers and customers, Nestle would probably choose to maintain its inventory at 8.8% of the total sales revenue projected in the next fiscal year based on the analysis conducted by myself. This will certainly curb over spending on purchases of raw materials (cocoa, milk solid & powder, oil palm ) and subsequently reducing its related opportunity cost in holding those raw material and finished goods such as storage space.

Nestle 2005 2006 2007 2008inventories at 31 Dec 262,456 330,674 446,602 459,489 Average inventories during fiscal year, AINV 296,565 388,638 453,046 Growth (%) 24 14 Total CA 816,133 939,353 881,882 AIVN/Total CA (%) 36.3 41.4 51.4Sales revenue 3,127,441 3,275,541 3,416,028 3,877,068 AIVN / total sales revenue (%) 9.05 11.38 11.69 Total sales / AIVN 11.04 8.79 8.56

Table J : Nestle average inventories data

3 (a) Calculate gearing ratios for the two companies. ( 4 marks) Please refer to ratio working calculation in appendix C


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Dutch LadyNo Performace indicator 2006 2007 20081 Gearing ratio (%) 0 0 02 Interest cover ratio ( times) 451.6 264.3 196.53 Proprietary ratio 0.572 0.432 0.5554 Debt-to-Equity ratio (LTD/SF) 0 0 05 Fixed asset to SF ratio 0.4556 0.474 0.4156 CA/ SF ratio 1.29 1.84 1.397 Capital gearing ratio 0 0 08 Debt Ratio (TL/TA) 42.78 56.8 44.47

NestleNo Performace indicator 2006 2007 20081 Gearing ratio (%) 16.1 0.81 0.522 Interest cover ratio ( times) 37 27.6 20.13 Proprietary ratio 0.383 0.398 0.31064 Debt-to-Equity ratio (LTD/SF) 19.1 0.81 0.5215 Fixed asset to SF ratio 1.11 1.041 1.516 CA/ SF ratio 1.496 1.474 1.717 Capital gearing ratio 5.21 123 191.78 Debt Ratio (TL/TA) 61.7 60.25 68.94

*SF = Shareholders funds ; CA = Current asset ; TL= Total liabilities ; TA= Total Asset ; LTD = Long term debt

Table K : Summarised of the gearing ratio

(b) Discuss the capital structure of the two companies and the implications of the funding decisions that were made in the past. (8 Marks) During 2006 to 2008, Dutch Lady Milk Berhad (DLM) has better long-term solvency position as compared Nestle.

Firstly, DLM’s gearing ratio and capital gearing are both zero (Table K) as compared to Nestle ( Gearing ratio ranging from 0.52 to 16.1%) due to the fact that they did not call for any long term debt such as debenture or preference share issues. This shown that Dutch Lady was less relying on external funding to finance their total asset due to business expansion and future growth relatively as compare to Nestle. This fact was further substantiated by the fact that DLM has a much higher level of proprietary ratio than Nestle and the differences ranging from 3.4% to 18.9% across year 2006 to 2008. It shown that Dutch lady was less rely on creditor funding by some 3.4% to 18.9% comparatively to Nestle.

Secondly, Nestle has a fixed asset to shareholders funds ratio more than 1:1 since


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year 2006 whereas DLM ‘s ratio always hovering around 0.4 and 0.5. This indicate that Nestle has insufficient shareholders funds to finance their fixed asset. Thus, they have to finance their fixed asset with both short and long term debt as shown in Table L. In contrast, DLM has only raised relatively small amount of short term debt as shown in table M. Between year 2006 and 2008 , Nestle has raised total debt at RM 590,491,000 versus DLM ‘s RM 16,400,000 (Table M) or RM 574,091,000 more debt than DLM duration between 2006 and 2008. Hence, DLM has better long-term solvency position as compared Nestle.

Nestle 2006 2007 2008Long term debt 107208 5179 2690Short term debt 66758 302703 105953Total debt 173966 307882 108643Growth 77.0 -64.7

Nestle 2006 2007 2008Total equity 559106 637259 515755

Table L: Nestle’s total debt and total equity figures

Dutch Lady 2006 2007 2008Long term debt 0 0 0Short term debt 0 16400 0Total debt 0 16400 0Total Equity 120947 127258 161585

Table M: Dutch Lady total debt and equity figures

Following is the implication of the funding decision that Nestle and DLM were made in the past:

First of all, despite of Nestle relatively higher gearing ratio compared to DLM, Nestle


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managed to achieve higher return from borrowed funds which exceeded the cost of paying interest. Thus, it manage to achieve impressive operating profit growth (profit before tax) of 8.9% and 11.7% in 2007 and 2008 respectively. As a result, Nestle’s 2008 ROCE has increased to 80% or represent increment of 22.33% from 2006.

Secondly, Nestle’s interest expenses has increased sharply by 47.1% and 55.6% in year 2007 and 2008 due to excessive short term borrowing and moderate long term Borrowing ( Table M).

Nestle 2006 2007 2008Share capital (RM'000) 234500 234500 234500reserve (RM'000) 30763 34067 30186retained earning (RM'000) 293843 368692 251069Long Term Borrrow (RM'000) 107208 5179 2690Long Term Capital employ (RM'000) 666314 642438 518445Growth of LTCE (%) -3.6 -19.3Operating profit (RM'000) 362950 395298 441353Growth of OP (%) 8.9 11.7Interest expense,IE 10090 14842 23091Growth of IE (%) 47.1 55.6

Table N: Nestle Operating profit and interest expenses growth figure

Thirdly, DLM finance their business with short term borrowing such as overdraft and loan which had increased the interest expense by 85% and 20.3% in year 2007 and 2008 respectively.

Dutch Lady 2006 2007 2008Interest expense (RM'000) 133 246 296Growth 85.0 20.3Short term borrowing (RM'000) 0 16400 0Bank overdraft (RM'000) 15 15 115

Table P: DLM interested expenses growth figure ( year 2006 - 2008)

4 (a) Calculate investment ratios for the two companies. For this purpose, you can use the current share price as the share price on the last day of the financial year may be difficult to obtain. (8 marks)


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Please refer to ratio working calculation in appendix D

Dutch Lady Milk BerhadInvestment Ratio 2006 2007 2008Dividend payout ratio (%) 93.8 86.7 19.5Dividend yield (%) 5.81 5.4 2.17Dividend per share,DPS (RM) 0.631 0.640 0.195EPS (RM) 0.673 0.738 0.666PE ratio 16.14 16.06 13.51

NestleInvestment Ratio 2006 2007 2008Dividend payout ratio (%) 88.75 91.39 131.52Dividend yield (%) 4.03 4.34 7.08Dividend per share,DPS (RM) 1.00 1.138 1.912EPS (RM) 1.127 1.245 1.454PE ratio 22 21.08 18.57

Table Q: Summarized of both companies investment ratio

b) Discuss the implications of the investment ratios to existing and potential investors in this industry. (16 marks)

Following are some of the plausible implication of the investment ratio to existing investor in the fast moving consumer goods (FMCG) industry:

1. “Growth investors” whom has invested in Nestle ‘s stocks will continue to hold the share as a. Nestle has increased its DPS at the rate of 13.8% and 68% in 2007 and 2008

respectively. Its high DPS growth rate was underpin by the high growth rate of its net profit by 10.53% and 18.73% in 2 year consecutively after year 2006. (Table R)

Nestle2006 2007 2008

Net profit ( RM'000) 264219 292042 340887Growth (%) 10.53 16.73

Table R: Nestle net profit figures

b. Nestle has increased EPS at the rate of 9.3% and 16.79% in year of 2007 and 2008 respectively. The growth of the EPS was due to the fact that its net profit by 10.53% and 18.73% in 2 year consecutively after year 2006. (Table M)

c. Nestle has increase its dividend yield more than 3.05 % since 2006 while maintaining healthy growth of its net profit as shown in Table M.


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2. “Growth investors “ whom has invested in Dutch Lady Milk Berhad (DLM) would probably intend to sell of its stock by year end of 2008 or early 2009 due to following reason:a. DLM year on year (YOY) sales growth was stagnant or no growth.b. DLM Net profit margin has gone down more than 2.39% to 5.99% which would

hurt the dividend payout and dividend yield significantly if this trend persist for the year 2009 and beyond.

Dutch LadyPerformace indicator 2006 2007 2008Gross margin (%) 37.40 30.25 25.97Operating margin (%) 11.69 10.75 8.17Net profit (%) 8.38 7.81 5.99Sales revenue (RM'000) 513650 604732 711,567Growth in sales (%) 17.7 17.7COGS (RM'000) 321587 421792 526711Growth in COGS (%) 31.2 24.9

Table S: Nestle performance indicator

3. “Value investors” whom has invested in either or both Nestle and DLM will be tempted to buy in both companies stock at the end of 2008 and later as the PE ratio has fallen below their trailing PE by 2.59 (DLM) and 2.97(Nestle). [ Assumption: Nestle trailing PE = (22+ 21.08) / 2 = 21.54

DLM Trailing PE= (16.14+16.06)/2 = 16.1 ]

Following are some of the plausible implication of the investment ratio to potential investor in the fast moving consumer goods (FMCG) industry:

1. “Value Investors” will be taking this opportunity to purchase Nestle stock as the PE ratio has drop more than 2.97 compared to its trailing PE ratio. This indicate that the stock price was under value as compared to its average trailing PE ratio.

2. “Value Investors” will be taking this opportunity to purchase DLM stock as the PE ratio has drop more than 2.59 compared to its trailing PE ratio. This indicate that the stock price was under value as compared to its average trailing PE ratio.

3. “Momentum investors” will be taking the opportunity to buy in Nestle share as its share price was increased steadily from RM 24 .80 to RM 27 during 2006 to 2008.

4. “Growth investors” will be buying in to Nestle stock as

a. Nestle has enjoy steadily net profit growth as shown in Table R.b. EPS , DPS, dividend yield have enjoy a healthy growth as shown in Table Q.


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(5) Discuss the problems that are faced by people who wish to assess the performance and financial position of a public company if only the published reports are available. (15 marks)

* I am using Dutch lady milk berhad (DLM) as a example for this section. First of all, they are many groups of people who wish to assess the performance and financial position of a public company such as DLM. Namely, they are DLM ‘s supplier, lenders, potential investor & investment analyst , competitors, government body (Inland department) besides their “internal customers” such as manager, owner and employee.

From the perspective of lender such as banker, they will facing problems if only DLM’s published reports such as financial report quarterly and annual are make available to them. First of all, Banker or lender need to assess Nestle the most recent gearing ratio, capital structure, cash conversion cycle (CCC), net cash from operating activities, net cash flow at the latest fiscal year or end of quarter in order to assess their financial solvency and its associated risk ; the ability to repay borrowing interest and its principal when due. However, those information mentioned was captured within the annual financial reports which will be published only few months after the fiscal year end. Thus, lender has to take calculated risk based on the most recent data available to make judgement on the loan amount and its margin and interest rate with the assumption that there isn’t any drastic changes (i.e. change in accounting policy) happen during this grey period. Investment analyst and investor whom are obsess with fundamental analysis will be facing problem if only published information make available to them. First of all, they need to judge the financial performance of the company based on its financial statement and its health. However, they cannot find following information from the financial reports:

a. industry trends such as technological changes, market competition b. changes in consumer tastes and other behaviour which has direct impact on Nestle’s

business viability and vitality c. the impact of changes in broad macro economic factors such as new policy of less sugar

and salt ; fast food policy ; milk solid contaminated with melamine. d. changes within the firm itself such as “brained drain” to competitor

Secondly , all the information presented in published report was based on historical cost concept. Thus, financial analyst will have difficulties in assessing company valuation based on either earning or dividend model or PVGO model as those information is not make available timely. As a results, competitor like Nestle would have difficulty in assessing the enterprise or take over value as those were historical value such as preferred stock, total debt and cash reserve. Shareholder need to assess all the profitability and investment ratio timely before decided to hold or sell or buy in more share from the stock market. Also, they can gauge the share holders confident level of the company future earning by comparing its trailing PE ratio with their latest


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PE ratio. However, the EPS data only make available few months after the fiscal year end. Thus, share holder would need to rely on document or other sources such as financial Investment strategy related magazine, mutual fund managers besides published report provided by company in order to maximize their returns.

Competitor like Nestle and F&N will be facing difficulties in finding more information with regards to the details of intangible asset such as brand name (worth) , patented technology, spending in research and development (R&D) for new products which are not make available as there are not mandatory by Kuala Lumpur Stock Exchange (KLSE). Secondly, competitor would not be able to get the breakdown of sales revenue by product line and categories from DLM published reports . Howver , it is only assesible through subscription from renown marketing survey company such as frost and Sullivan, AC Nielsens and Goliath . Thirdly, competitor would not be able to get enough “up to date” to do benchmarking study on working capital efficiency, production efficiency , financial performance such as PE ratio, EPS, DPS ,Dividend yield. The group of supplier which supply raw material, machinery spare parts, audit firm would face problems as they need to assess to the company solvency position and their credit risk. They would be very much interested to look into the net cash flow , interest cover, liquidity ratios and the length of cash conversion cycle (CCC). However, if only company published reports is avaibale to them , they might facing problem

a. They can not really make the correct judgement on the credit limit and its term to DLM as they didn’t not about their latest financial status.

b. They didn’t know when they should chase for overdue payment if they didn’t monitor their debtor’s solvency, on going concept and its indicator in a timely manner.

Appendix A : Working solution for Performance ratio

Formulas:

Return on Capital Employed, ROCE = Profit before tax and interest X 100%


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Average Equity + Average long term borrowing

Return of Equity, ROE = Profit after Taxes X 100% Or ROSF Average Equity

COGS to Revenue ratio = COGS X 100% Sales revenue

Gross profit Margin(%) = Gross profit X 100% Sales revenue

SGA&E to revenue ratio = SGA & E* X 100% *SGA&E = selling, General administration Sales revenue expenses

Operating Profit Margin (%) = Operating profit X 100% Sales revenue

Net profit margin (%) = Net profit X 100% Sales revenue

Dutch Lady Milk Berhad Performance ratio working calculation as below:

2006 ROSF = 43,065 X 100% = 36%


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(120,947 + 118,298) ÷ 2

2007 ROSF = 47,255 X 100% = 38.1% (127,258 + 120,947) ÷ 2

2008 ROSF = 42647 X 100% = 29.5% (161,585 + 127,258) ÷ 2

2006 ROCE = 60,063 X 100% = 50.21% (120,947 + 118,298) ÷ 2

2007 ROCE = 65,026 X 100% = 52.40% (120,947 + 118,298) ÷ 2

2008 ROCE = 58,154 X 100% = 40.27% (120,947 + 118,298) ÷ 2

2006 COGS/ revenue = 321,587 X 100% = 62.6% 513,650

2007 COGS/ revenue = 421,792 X 100% = 69.75% 604,732

2008 COGS/ revenue = 526,711 X 100% = 74.02% 711,567

2006 Gross profit Margin (%) = 192,063 X 100% = 37.4% 513,650

2007 Gross profit Margin (%) = 182,940 X 100% = 30.25% 404732

2008 Gross profit Margin (%) = 184,856 X 100% = 25.97% 711,567

2006 SGA&E/ sales (%) = 97610 +12561 X 100% = 21.45% 513,650


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2007 SGA&E/ sales (%) = 73,089 + 15,352 X 100% = 14.62% 604,732

2008 SGA&E/ sales (%) = 82403 +18342 X 100% = 14.16% 711,567

2006 Operating profit Margin (%) = 60,063 X 100% = 11.69% 513,650



2006 Net profit Margin (%) = 43,065 X 100% = 8.38% 513,650



Nestle Performance ratio working calculation as below:


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2006 ROSF = 264,219 X 100% = 48.79% (559,106 + 524,052) ÷ 2

2007 ROSF = 292,042 X 100% = 48.82% (637,259 + 559,106) ÷ 2

2008 ROSF = 340,887 X 100% = 59.13% (515,755 + 637,259) ÷ 2

2006 ROCE = 60,063 X 100% = 57.67% (559,106 + 524,052+107,208 +104,477) ÷ 2

2007 ROCE = 65,026 X 100% = 62.68% (637,259 + 559,106 + 5179 + 107,208) ÷ 2

2008 ROCE = 58,154 X 100% = 80% (515,755 + 637,259+ 2690 + 5179) ÷ 2

2006 COGS/ revenue = 2,171,096 X 100% = 66.28% 3,275,541

2007 COGS/ revenue = 2,290,719 X 100% = 67.05% 3,416,028

2008 COGS/ revenue = 2,673,318 X 100% = 68.95% 3,877,068

2006 Gross profit Margin (%) = 1,104,445 X 100% = 33.72% 3,275,541



2006 SGA&E/ sales (%) = 248,075 + 484,490 X 100% = 22.36% 3,275,541


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2007 SGA&E/ sales (%) = 73,089 + 15,352 X 100% = 20.32% 3,416,028

2008 SGA&E/ sales (%) = 82403 +18342 X 100% = 19.13% 3,877,068

2006 Operating profit Margin (%) = 373,040 X 100% = 11.38% 3,275,541



2006 Net profit Margin (%) = 264,219 X 100% = 8.07% 3,275,541



Appendix B : working solution for Liquidity and working capital ratio

Liquidity ratios formulas

Curreny Ratio = Current asset


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Current Liabilities Quick ratio = Current asset - Inventory ( stock) Current Liabilities

Working Capital Ratio formulas

Average Stock Holding period (days) = Average Inventory X 365 Cost of sales

Average Debtor payment period (days) = Average trade receivables X 365 Sales revenue

Average Creditor payment period (days) = Average trade payables X 365 Cost of sales

Cash Conversion cycle (days) = Stock holding + Debtor payment - Creditor payment Period Period Period

Asset turnover ratio = Sales revenue Total Asset

Dutch Lady Milk Berhad Liquidity and working capital ratios working calculation as below:

2006 Current ratio = 156,293 = 1.77 88,153


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2007 Current ratio = 234,403 = 1.414 165,812

2008 Current ratio = 223,976 = 1.76 127,089

2006 Quick ratio = 211,400 – 55,057 = 1.148 88,153

2007 Quick ratio = 234,403 – 117,945 = 0.702 165,812

2008 Quick ratio = 223,976 – 74,902 = 1.173 127,089

2006 Stock Holding period (days) = (55,057 + 49,810)÷ 2 X 365 = 59.5 321,587

2007 Stock Holding period (days) = (117,945 +55,057)÷2 X 365 = 74.85 421,792

2008 Stock Holding period (days) = (74,902 + 117,945)÷ 2 X 365 = 66.82 526,711

2006 Debtor payment period (days) = (64,199 + 62799) ÷ 2 X 365 = 45.1 513,650

2007 Debtor payment period (days) = (86,468+64,199) ÷ 2 X 365 = 45.1 609,232

2008 Debtor payment period (days) = (115,774+ 86468) ÷ 2 X 365 = 51.8 711,567

2006 Creditor payment period (days) = (43,846 + 38,829) ÷2 X 365 = 46.9 days 321,587

2007 Creditor payment period (days) = (69,737+ 43846) ÷ 2 X 365 = 49.1 days 421,792


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2008 Creditor payment period (days) = (64,387 +69737) ÷ 2 X 365 = 46.5 days 526,711

2006 Cash Convertion cycle = 59.5 + 45.1 - 46.9 = 57.7 days

2006 Cash Convertion cycle = 74.85 + 45.1 - 49.1 = 70.85 days

2006 Cash Convertion cycle = 66.82 + 51.8 -46.5 = 72.12 days

2006 Total asset turnover = 513,650 = 2.43 211400

2007 Total asset turnover = 604,732 = 2.05 294,688


Nestle Liquidity and working capital ratios working calculation as below:

2006 Current ratio = 816,133 = 1.196 682,565


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2007 Current ratio = 939,353 = 1.08 869,761

2008 Current ratio = 881,882 = 0.856 1,030,457

2006 Quick ratio = 836,133 – 330,674 = 0.711 682,565

2007 Quick ratio = 939,353 – 446,602 = 0.567 869,761

2008 Quick ratio = 881,882 – 459,489 = 0.409 1,030,457

2006 Stock Holding period (days) = (330,674 + 262,456)÷ 2 X 365 = 49.86 days 2,171,096

2007 Stock Holding period (days) = (446,602 + 330,674)÷2 X 365 = 61.93 days 2,290,719

2008 Stock Holding period (days) = (459,489 + 446,602) ÷ 2 X 365 = 61.86 days 2,673,318

2006 Debtor payment period (days) = (311,562 +308,334) ÷ 2 X 365 = 49.7 days 3,275,541

2007 Debtor payment period (days) = (298,891+ 311,562 ) ÷ 2 X 365 = 32.6 days 3,416,028

2008 Debtor payment period (days) = (187,450 +298,891) ÷ 2 X 365 = 22.9 days 3,877,068

2006 Creditor payment period (days) = (253,863 + 211546) ÷ 2 X 365 = 39.1 2,171,096

2007 Creditor payment period (days) = (310,439 +253,863) ÷ 2 X 365 = 45 2,290,719


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2008 Creditor payment period (days) = (261,215 + 310,439) ÷ 2 X 365 = 39 2,673,318

2006 Cash Convertion cycle = 49.86 + 49.7 – 39.1 = 60.46 days

2006 Cash Convertion cycle = 61.93 + 32.6 - 45 = 49.53 days

2006 Cash Convertion cycle = 61.86 + 22.9 - 39 = 45.76 days

2006 Total asset turnover = 513,650 = 2.43 211400



Appendix C: Working solution for gearing ratio


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Gearing Ratio formulas

Gearing Ratio (%) = Long term debt X 100% Equity + Long term debt

Interest cover (times) = Profit before interest and tax Interest expense

Following is the working calculation for Dutch Lady Milk Berhad Gearing ratio:

2006 Gearing Ratio (%) = 0 X 100% = 0 120,947 + 0

2007 Gearing Ratio (%) = 0 X 100% = 0 127,258 + 0

2008 Gearing Ratio (%) = 0 X 100% = 0 161,585 + 0

2006 interest cover (times) = 60,063 = 451.6 133

2007 interest cover (times) = 65026 = 264.33 246

2008 interest cover (times) = 58,154 = 196.47 296


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Following is the working calculation for Nestle Gearing ratio:

2006 Gearing Ratio (%) = 107,208 X 100% = 0.161 559106 + 107,208

2007 Gearing Ratio (%) = 5179 X 100% = 0.806 637,259 + 5179

2008 Gearing Ratio (%) = 2690 X 100% = 0.52 515,755 + 2690

2006 interest cover (times) = 353,195 = 35 10,090

2007 interest cover (times) = 380,456 = 25.63 14,842

2008 interest cover (times) = 418,262 = 18.11 23,091


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Appendic D: Working solution for investment ratio

Investment ratio formulas

Divident payout ratio = Dividend announce of the year X 100% Profit of the year

Dividend yield ratio = Dividend per share X 1 X 100 % (DPS) Market value per share

Earning Per share (EPS) = Profit for the year Number of ordinary share in issue

Price / earnings (PE) Ratio = Market value per share Earnings per share

Following is the working solution for Dutch Lady milk berhad investment ratios:

2006 Dividend payout ratio = 40,416,000 X 100% = 93.8% 43,065,000

2007 Dividend payout ratio = 40,944,000 X 100% = 86.7% 47,255,000

2008 Dividend payout ratio = 8320 X 100% = 19.5% 42,447,000

2006 Dividend yield ratio = 40,416,000 X 1 X 100 % = 5.81% 64,000,000 10.86*

2007 Dividend yield ratio = 40,944,000 X 1 X 100 % = 5.4% 64,000,000 11.85*

2008 Dividend yield ratio = 8,320,000 X 1 X 100 % = 1.4% 64,000,000 9*

*All the historical market price per share from 2006 to 2008 were obtained from Yahoo finance website.


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2006 Earnings Per share (EPS) = 43,065 X 100% = RM 0.673 64,000

2007 Earnings Per share (EPS) = 47255 X 100% = RM 0.738 64,000

2008 Earnings Per share (EPS) = 42647 X 100% = RM0.666 64,000

2006 Price / earnings (PE) Ratio = 10.86 = 16.14 0.673


2008 Price / earnings (PE) Ratio = 9 = 13.51 0.666

Following is the working solution for Nestle investment ratios:

2006 Dividend payout ratio = 234,500 X 100% = 88.75% 264,219



2006 Dividend yield ratio = 234,500 X 1 X 100 % = 4.03% 234,500 24.80*

2007 Dividend yield ratio = 266,889 X 1 X 100 % = 4.34% 234,500 26.25*

2008 Dividend yield ratio = 448,341 X 1 X 100 % = 7.08% 234,500 27*

*All the historical market price per share from 2006 to 2008 were obtained from 2008 Nestle annual report.


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2006 Price / earnings (PE) Ratio = 24.8 = 22 1.127


2008 Price / earnings (PE) Ratio = 27 = 18.57 1.454

Reference list :

1. Chairman statement, 2007 DLM annual report, page 4


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2. Chairman statement, 2008 DLM annual report, page 4

3. Cocoa historical commodity pricing , http://tfc-charts.w2d.com/chart/CC/M (assessed on 11 Feb 2010)

4. Butter historical commodity pricing http://tfc-charts.w2d.com/chart/BU/M (assessed on 11 Feb 2010)

5. Milk historical commodity pricing http://tfc-charts.w2d.com/chart/DA/M (assessed on 11 Feb 2010)

6. Dutch Lady Sees 2009 Gross Margins Above 2008's 20%, Dow Jones International News, 5 Feb 2009 ( from Factiva, SBS Intranet)

7. Dutch Lady dairy products to cost on average 5pc more, Business Times, 2 May 2007( from Factiva , SBS Intranet)

8. http://finance.yahoo.com/ (assessed on Feb 11 2009)


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http://tfc-charts.w2d.com/chart/DA/M

http://tfc-charts.w2d.com/chart/BU/M

http://tfc-charts.w2d.com/chart/CC/M

fma assignment final draft

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