PLC
Accounts Analysis of Next plc
It must be determined whether to invest in Next plc or not. This report examines the performance of Next plc from an investment perspective and assesses the likelihood of future above average performance.
To make a recommendation on investing in Next, this report reviewed their past performance as a basis for judging their ability to deliver future profitability and growth. The report discusses the economic environment as a context for understanding the challenges that Next must manage. The report reviews the Next plc annual report for the year to January 2011 to evaluate the company’s performance and also analyses investor and financial ratios. The annual report provided a summary of Next’s performance during the previous fiscal year, including a discussion of their achievements as well as shortfalls. The report also provided insights into management strategies to counter the threats of global inflation, erosion to consumer confidence and buying power, stocking and supply issues, and limited opportunities for growth and expansion. This assessment also includes a SWOT analysis to help identify factors to consider in making an investment decision.
In addition to analysing Next financial statements, it would have been helpful to read in-depth investment reports produced by investment services to see an even broader evaluation of Next performance. In particular, comparing Next ratios with a wide range of industry ratios, as well as their competitors’ ratios, would have provided additional insight into Next’s performance.
Conclusion
Based on Next’s track record of meeting challenges posed by the recent and current economic landscape, this analysis recommends buying Next stock.
Introduction
A leading UK-based retailer, Next plc markets home products and fashions and accessories for men, women and children. Next faced a challenging economic environment in 2011 as the economic downturn that began in 2007 continued. The effects of the downturn continue to be reflected in their annual reports and accounts.
While fashion and homeware sales began the year with a positive start, retailers had to adjust to economic factors that affected consumer confidence and spending power throughout the year. Industry analysts anticipated that the retail sector would continue to feel negative pressures in 2011 from financial, political, environmental and psychological sources. Since the downturn began in 2007, UK retail has been subject to economic challenges, but evidence during this time showed that consumers continued shopping, providing an indication of the resilience of the retail sector. Most experts view the retail industry with guarded optimism.
Consumers felt the pinch of rising unemployment, higher taxes and minimal increases in wages, all of which put pressure on disposable income. Likewise, higher petrol prices and mortgage rates affected shoppers as well. Many retailers in turn struggled with the dual impact of the VAT rise along with higher input costs. Inflation and the potential impact on interest rates also caused concern for much of 2011.
Likewise, anything that affected consumer confidence posed potential problems for retailers. Problems in the housing market, public sector cuts, the European debt crisis, political instability in the Far East all combined to create challenges for consumer confidence that affect spending habits. Even though experts predicted that spending would remain unchanged or even increase slightly due to rising prices, the volume of retail purchases would be affected.
Industry analysts also predicted that retail spending would be concentrated in fewer trips wherein fewer stores were visited. This change in consumer spending habits required that retailers like Next adapt by devising strategies to provide service and pricing that exceeded customer expectations, thereby making the most of consumers’ curtained shopping. Retailers also needed to make the most of changing demographics, characterised by different age spectrums, shopping habits, retail channels and personal interests. Also, given the economic pressures in the UK, retailers needed to look for growth opportunities outside the UK. Industry analysts predicted expansion opportunities in large East Asian countries. The most attractive opportunities for retailers seeking expansion were offered by Thailand, India, Indonesia, Vietnam and China, among others.
Findings
Analysis of Next Performance and Market Position
The Next 2011 annual report showed overall above average performance. To begin with, Next anticipated challenges posed by the economy, to which they responded by adopting strategies to control costs and still achieve growth. The company managed a reduction in central over head of 0.6% while at the same time holding store payroll costs flat. As a result, even though occupancy costs increased as a percentage of sales, the company’s net operating margin improved by 0.6%. Next decreased distribution and warehousing costs, resulting in margin improvement by 1%. Their cash flow management policies also put the company in position to invest in new stores as well as refit older stores.
In addition, Next looked for and capitalised on new growth opportunities. Next increased their total trading space by 5.4%, and increased their portfolio by eight stores to a total of 525. The company planned to open 15 new Home stand alone stores in the coming year, as well as spend approximately £18m on cosmetic upgrades to their existing portfolio. Next international net profit increased by 14.3% as well.
Next’s Summary of Financial Results showed a consistent pattern of positive performance and growth. Next Directory showed an increase of 7.1%. Even though Next Retail declined by 2.3% from 2010, Next total revenue grew by 1.2%.
Likewise Next profit and EPS increased by comparison with 2010. Profit before tax grew by 10%. Basic EPS grew by 17.7% while dividends per share were up by 18.2%over the previous year. This growth was particularly noteworthy given the economic landscape in which the company operated.
SWOT Analysis
Next management was successful at turning prior year weaknesses into strengths. Having previously encountered stock and supply issues, Next secured additional capacity by adding new suppliers and by booking fabric and production earlier. In addition to eliminating problems with supplier deliveries, the company also moved to eliminate out-of-stock problems with their best-selling lines.
Next encountered intense pressure on margins for Next Sourcing, showing their weakness in the face of dual pressure from their manufacturers who raised prices and customers who were resistant to price increases. Next sought to remain competitive by lowering its commission and reducing its profits.
The expansion of their online business overseas represents opportunities for Next to grow. In addition to trading in 38 countries outside of the UK, Next planned to expand to Pakistan, India, Russia, China and Japan in the coming year. Online overseas revenues grew by 115% in 2011, and were expected to grow by 100% in 2012.
Next faced serious economic threats during the past fiscal year and continuing into the coming year, including the threat of global inflation, cuts in public sector spending, and limited growth in consumer credit.
The same factors that affected Next sales performance in 2010 will continue to be threats: consumers and banks limiting consumer credit spending, the possibility of further public sector cuts, along with the possibility of rising inflation affecting the cost of food and fuel.
Management/Ratio Analysis
This report also evaluated the performance of Next management as shown by ratio analysis. Next investor ratios provided indications of the company’s performance as an investment. Next EPS, which increased by 17.7% from the previous year, gave a measure of the overall profit that each share generated. The P/E ratio gave an indication of how the market valued the company. Next’s P/E ratio of 11.7 was significantly less than Reuter’s industry P/E ratio of 22.24, indicating that the market does not consider Next’s share price to be a bargain. Next’s dividend yield indicated their ability to maintain a dividend payment. At 3.0, Next is higher than the industry dividend yield of 2.16. Taken together, these investor ratios showed that Next should continue to be a worthwhile investment.
Next profitability ratios provided an indication of whether the company was making profits at an acceptable rate. Next net profit margin of 12.8% was higher than the industry average of 7.22%. Inventory turnover, which measures efficiency, was at 1.56, compared with the industry ratio of 4.69. Next’s interest cover ratio, which indicates its long-term health and stability, was 25.53, as compared to an industry coverage ratio of 5.07. Next’s return on total assets measures management effectiveness; at 30.7% Next exceeded the industry average of 11.89%. Because Next ratios were better than the industry for the most part, it is reasonable to conclude that Next will continue their above-average performance in the coming year.
Conclusions
Based on financial ratios that measure Next performance as an investment, their profitability, efficiency, and management effectiveness, Next’s ability to exceed most industry averages indicates that their stock is a good investment.
Recommendations
My investment rating for Next is a moderate buy. Given the global economy and the threats of inflation and erosion of consumer confidence, Next faces significant challenges in the coming year. However, Next management has shown their ability to effectively manage costs and to maintain a satisfactory level of growth nonetheless. Over the long-term, their growth should be consistent and profitable.
Appendix 1 — Next plc Ratio Calculations and Limitations
(1) Earnings per share = Net profit available to equity shareholders Weighted average shares (m)
Earnings per share = 401.1£m 180.7£m = 221.9 (p)
(2) Dividend yield = Latest annual dividends Market share price = 78p 26p = 3.0%
(3) Dividend cover = Net profit available to equity shareholders Equity dividends paid = 400.9£m 129.6£m = 3.09
(4) P/E ratio = Market share price EPS = 26p 221.9p = 11.7
(5) Net profit margin = Net income Revenue = 441.4£m 3,453.7£m = 12.8%
(6) Return on total assets = {Profit before interest and taxes Total assets} * 100 = {551.4£m 1,792.3£m} * 100 = 30.7%
(7) Return on equity = Net income Average stockholders’ equity = 441.4£m {133. 4£m + 232.4£m }/2 = 441.4£m 182.9£m = 2.41
(8) Interest cover = Profit before interest and taxes Interest paid = 551.4£m 21.6£m = 25.53
(9) Cash flow margin = Cash flow from operating activities / Net sales = 574.8£m / 3,453.7£m = 16.64
(10) Inventory turnover = Net sales / Inventories = 574.8£m / 368.3£m = 1.56
Ratio Limitations
While financial ratio analysis is useful, there are disadvantages as well. Because of differences in accounting standards and policies, comparability between companies and within an industry may be affected. Also ratio analysis focuses on past performance, while potential investors are more concerned with current and future performance.
Bibliography
Next plc, 2011. Next plc results for the year to January 2011. [online] Available at: [Accessed 4 January 2012].
Retail Think Tank, 2011. What are the prospects for UK retail in 2011? [online] Available at: [Accessed 4 January 2012].
Reuters, 2011. Next PLC (NXT.L) [online] Available at: [Accessed 4 January 2012].
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