The company chosen for the project is J.Sainsbury Plc (JS). More than 98000 persons have been employed at various outlets, stores and offices of the company. The retailing of its products is done through supermarket type of chain stores. The company has optimistic plans for the future. In this study, an exhaustive analysis has been made with regard to its existing competitive environments, strategic capabilities, financial performances for a period last five years, and its present corporate strategies. Finally suggestions have been with regard to company’s future strategic moves.
The grocery retailing industry in which J.Sainsbury Plc operates is highly competitive, and in such an industry “use of forward looking strategies can also be expected to be more widespread in competitive environments.” (Fabiani, Loupias, and others, page 204)1
J.Sainsbury Plc is the third largest grocery retailer of UK after Tesco and ASDA. JS has created its competitive environment in three ways. First, JS sells the merchandise under its own label unlike other competitors. Secondly it has a Scientific Services Division (SSD) to look after the requirements of keeping standards that meet quality, safety, legality, and performance of products being sold by JS. Third, the company has centralized decision making process to evaluate products and also to approve suppliers.
There are approximately sixteen other competitors in the industry. The company is in business of providing grocery and consumable retailing service. The basic products in which J.Sainsbury Plc deals are fresh produce, food, and grocery. Besides that J.Sainsbury Plc stores also provide delicatessen, meat and fish, pharmacies. Even coffee shops, restaurants and petrol stations are available in its outlets. J.Sainsbury Plc also has a major online business of providing groceries and consumables. “The group serves through 823 stores through out the United Kingdom, comprising 504 super markets and 319 convenience stores. The stores are set up in center or edge of center locations, many of these built on previously redundant sites.”(Wright reports)2
The company has created a competitive edge over others by initiating a centralized decision making process, as well as a Scientific Services Division (SSD) to take integrated environmental management decisions. SSD has virtually “ferreted out products that have been developed using animal testing, investigated fishing practices, and examined the practices of its suppliers of wood products. JS recently published its first environmental report which outlines the company’s policy on the environmental and the management of environmental issues.” (James McAlexender and Eric Hansen, June 20, 2008)3.
The second major factor that helps the company in creations of competitive environments is the culture of centralized decision making. Moreover, to cultivate customer loyalty, “JS is committed to marketing its own brands. Unlike the private label strategies used in the United States, JS claims that its own brand name merchandise is of equal or superior quality than manufacturers’ brands. The extensive use of its own label gives JS additional leverage with the suppliers.” (James McAlexender and Eric Hansen, June 20, 2008)4. These competitive environments have helped the company to reach at its present invincible stage in the market.
The important strategic capabilities of J. Sainsbury Plc are its IT based supply chain system and the outsourcing of its management processes that are proving the real strengths for the success of the company.
The most important strategic capability of J. Sainsbury Plc is its effectively integrated and controlled supply chains. In fact JS has been able to “migrate from a custom built, centralized legacy environments that was paper based and used a batch oriented mainframe and plain green screen monitors to a new paperless system that operates in real time through a web browser and has been integrated into key points in the supply chain.”(Andy Banks)5 The movements are goods are fast to stores ensuring that customers are getting fresh and quality products.
Business outsourcing is another strategic move that has helped J.Sainsbury to create a competitive platform to challenge the likes of ASDA and others. At one stage JS was loosing its premier position in wake of competitive threats from ASDA and Safeway, due to its in house handling of entire business processes. JS repositioned its strategic management policies and that included its business outsourcing by integrating five essential components comprising “C- level Leadership; Bold strategic agenda; Innovative deal structure; Collaborative outsourcing to transform processes; and Focus on Enterprise outcomes.”(Intelligent Total Business, May 2003)6 With such strategic outsourcing move the JS attained the capabilities of not only handling processes faster and effectively but also resting the responsibilities on other units that are executing the outsourced processes. This is a highly imaginative and innovative strategic capability of JS in the face of ever rising competition.
Financial Performance Analysis
Appraisal of financial performance involve how the capital and debt funds raised by J.Sainsbury Plc have affected the company’s profitability, efficiency, and liquidity of the company over a period of time. For this appraisal the financial performance of J.Sainsbury Plc, over a period of five years has been considered from the point of view of profitability, efficiency and liquidity with the help of ratio analysis.
The performance on profitability of any entity can be reviewed by its Gross profit ratio, Operating profit ratio, Return on Total assets (ROA) and Return on Equity. All these ratios for J.Sainsbury PLC have been calculated for the last five years as under:
Gross Profit Margin ‘indicates the percentage of each sales dollar remaining after a business has paid for its goods.’(Linda Pinson, 109)7. J.Sainsbury PLC has a mixed performance over the years. From mighty 8.65% in 2004 to low of 4.33% in 2005 speaks a lot about the company’s sales policy. The heavy fluctuations of Gross margin over the period of time indicate that the company is not having a stable sales long term policy. The fact the company reached at 6.83 % in 2007 from 4.33% in 2005 provide ample proof that company investment in fixed assets are in right direction, but slipping to 5.62% again reflect some lacunas in policy matter, which the company should sort out to attain stability.
Operating profit ratio ‘shows the profitability of the business relative to sales after deducting cost of goods sold and all operating expenses but excluding interest and taxation. It is a general indicator of the overall profitability of the business though it does not reflect the full impact of the capital structure of the business on profitability.’(Peter J. Clarke, 91)8. Though expenses have largely being managed by the company as is clear from 3.03% of operating profits in 2007 and 2.97% in 2008 from the operating loss of 0.99% in 2005, but the company’s risky investments in current assets might have caused delay in payment of expenses that has increased the cost of overheads to cope up with loss of interest on delay payments.
‘Return on assets reflects the effects of operating decisions. It is influenced by two interdependent factors- net profit margin and asset turnover. It represent the combined effect of pricing, the effectiveness of marketing mix in creating sales, and the control of costs incurred in process of doing business. It measures the efficiency of the assets in generating sales.’(John W. English, 292)9. J.Sainsbury Plc’s returns on total assets have been encouraging during the period except for 2005 and 2006 when the in different sales policies affected the operating results. But the company managed to achieve reasonable net profits available to shareholders due to some positive results from discontinued business. Leaving aside this period of 2005 and 2006, the company has been very effectively using its assets to bring encouraging results as reflected by 3.38% and 3.25% returns on assets in 2007 and 2008 respectively.
“Return on Equities is the ratio of yearly profits to the average equity needed to produce those profits.” (Timothy P.Vick, page 137)10. The pattern for return on equities is similar to return on assets but the returns are higher than return on assets. This is because equities have not effected by further issues but are affected by resultant retained earnings. In fact total equity employed has come down from $5104m in 2004 to $4935m in 2008.
“Financial efficiency may be a defined as a greater earning power of a dollar.” (AIEE, page 706)11 In order to judge the efficiency of investments of J.Sainsbury Plc. in fixed and current assets, earning per share (EPS) and Price Earning (P/E) ratio reflect the performance of investments in true sense.
Both EPS and P/E ratios are calculates as under:
‘Investors and analysts place great emphasis on earning per share and particularly on the trend of earning per share in evaluating common stocks’ (Hallman and Rosenbloom, page 152)12. Therefore any company’s investment results are reflected through its earning per common share. J.Sainsbury Plc. had remarkable EPS of 20.7 pence in 2004 and that went down badly to 4.1p in 2005 and 3.8p in 2006. It has again gained respectability when its EPS rose to 19.2 p in 2007 and 19.1 in 2008. This shows that company has fluctuating results on its investments in fixed and current assets. This again has been confirmed by the P/E ratio commanded by the company over the year.
‘The Price Earning Ratio is a measure how the market prices a common stock’ (Faerber, 146)13. In other it is reflection of how the company performance on its investment is being valued by the market. In fact P/E ratio measures the amount that investors are willing to for each dollar of a firm’s earnings per share through its investments on various assets. For J.Sainsbury Plc the investors paid as high as $87.04 per dollar of its earning per share in 2006. That happened when the company was at low ebb but the investors were hopeful about the company’s investment policies. But the downfall P/E ratio in 2007 and 2008 has brought the actual reaction of investors’ expectations from the investments made by the company.
Liquidity (Working capital management)
“Working capital is the difference between current assets and current liabilities and is crude measure of liquidity.”(Friedlob and Plewa, page 257)14 The need for working capital in an entity cannot be overemphasized. Given the financial objective of maximizing shareholders’ wealth, it is necessary to generate sufficient profits. The extent o which the profits can be earned will depend, among other things, on the magnitude of turnover or sales. However sales do not convert into cash instantly. There is invariably a time lag between sale of goods and receipt of cash unless goods have sold on cash basis, which is not possible in every business. Therefore, there is a need of working capital in the form of current assets to deal with the problem arising out of the lack of immediate realization of cash against goods sold. Thus need of working capital and its management is very crucial in any business and in this section the management of J.Sainsbury Plc’s working capital have been critically analyzed..
Working capital management is concerned with the problems that arise in attempting to manage the current assets and the current liabilities. The objective is to manage current assets and current liabilities in such a way that a satisfactory level of working capital is maintained. This is so because if the entity cannot maintain a satisfactory level of working capital, it is likely to insolvent and may even be forced into bankruptcy. The current assets should always be enough to meet current obligations when they arise.
The main task of financial manager in managing working capital efficiently to ensure sufficient liquidity in normal working of the entity. The three main measure of a firm’s liquidity are current ratio, acid test ratio, and net working capital. Accordingly for assessing the working capital management of J.Sainsbury Plc., the first step is to assess its liquidity during last five years by calculating its current ratio, acid test ratio, and net working capital as under.
“Current ratio measures the firm’s ability to meet its short term obligations’ (Lawrence J. Gitman, 58)15. Generally current ratio of 2:1 is considered optimum for any type of industry of business. Compared with standard current ratio of J. Sainsbury PLC is very poor and that is less than even 1:1 in all the five years. That means J.Sainsbury PLC has remained uncomfortable liquidity wise in all the five years. That again is confirmed by its acid test ratio which “is similar to the current ratio except that it excludes inventory, which is generally least liquid current asset.”(Lawrence J. Gitman, 59)16 Acid test ratio of 1:1 is believed to be generally efficient, but J. Sainsbury PLC has carried acid test ratio much lower than that in the last five years. The company has been struggling to meet its current obligations. That is the reason NWC has always been negative in the sense the current liabilities always exceeded current assets during five years under consideration. The company possessed a delicate liquidity position and was not in a position to meet current dues timely. It is always difficult to predict the cash inflow, which is conversion of current assets to cash. When such conversion is predictable, the company requires less working capital. When such conversion is difficult to predict, which the case of J.Sainsbury PLC is during last five years as it had negative NWS in all the years, the company requires more working capital.
For any company the management of Net working capital (NWC) can be better analyzed through its trade policy between profitability and risk. Profitability can be increased only by taking extra risks of not being able to meet short term obligations. When NWC is greater there is less risk of becoming insolvent as the company has more liquid powers; and conversely when NWC is lower, the risk involvement is higher. The basic rule is that for increasing profitability the company has to take more risk
The best measurement of this trade-off between profitability and risk is amicably reflected by the ratio of current assets to total assets, and for J. Sainsbury PLC this ratio for five years is calculated as under:
The rule is that increase in ratio capacity to profitability get reduced as current are considered to be less profitable than fixed assets. Conversely when ratio is declining the firm will have increased capacity to earn more. This can also be stated that on decreasing ratio, the firm is taking more risk and then chances to earn profits are more than in increasing ratio. J. Sainsbury PLC ratio is fluctuating since 2004. The ratio reduced from 32.2% in 2004 to 25.72% in 2005. That means company’s capacity to earn better profits increased in 2005 as compared to 2004 as it has fewer current assets as compared to 2004. This capacity to earn again reduced in 2006 when company chooses to keep more current assets as compared to 2005. Thereafter ratio declined to 20.26% in 2007 and 17.02% in 2008, and thus its earning powers increased as the company took more risks by keeping low NWC.
The earning powers or trade off between profitability and risks can be estimated by taking into consideration the effect of changes into current assets and current liabilities on NWC as reflected in first table reflecting NWC. Though NWC of J. Sainsbury PLC has always been negative, but the company took more risk in 2005 and 2008 when negative NWC increased showing that current assets decreased as compared to earlier years but that enhanced the company’s earning capacity by its risk taking abilities.
However, it must be kept in mind that ‘the risk- return trade off does not apply to 100% of all cases, but in a free enterprises system it probably comes close.’ (Seung Hee Kim, 14)17 In nut shall it can be said that the company always maintained a very low current and acid test ratios than required and therefore liquidity the company has been struggling through during the last five years. However the company has shown some sparks of increasing profitability when it took risks in some years by keeping lowering current assets so that increased fixed assets could add more to profitability. But the company need to improve its liquidity otherwise it may face the problem of not meeting its current obligations as and when those become due.
Capital Gearing or leverage
“Most firms use mixed of borrowed and owners’ capital and the relationship between the two is known as Capital gearing.”(Graham Mott, page 198)18 Capital gearing can be judged through the type of funding, owned or borrowed capital, used for financing the assets of a company. Sainsbury Plc has raised funds mainly by raising equity capital and funding on the basis of non- current and current liabilities in the business. According sources of capital invested in the company during the last five years are as under:
The single most important source of capital of J.Sainsbury Plc for long term funding is equity capital. It is a permanent source of funding without repayment liability and does not involve obligatory dividend payments. The main advantage of equity funding is that it forms the basis of further long term funding in the form of borrowings related to creditworthiness. J.Sainsbury Plc from equities has come down from $5185m in 2004 to $4935m in 2008. There were fluctuations of equity funding during this period of five years and that was caused by ups and downs of retained earnings during thee years. But such funding by J.Sainsbury Plc has some limitations. First the shareholders with limited liability exercise control and also share other ownership rights in the income assets of the company. That is to say there is danger of dilution of control whenever more funding are raised through equities. Moreover equity funding involves high cost of funding and high floatation cost for the firm.
Large term borrowings of J.Sainsbury Plc also include preference capital as a source of some permanent funding. Like equities preference capital also involves high costs of raising the funds. But preference capital funding does not dilute control of equity shareholders. Further it has negligible risk and puts no restrain on managerial freedom.
Other long term borrowings of J.Sainsbury Plc generally have low costs of raising funding as compared to equity and preference capital funding. But such borrowings do not dilute control. However it involves high risk and many a times put restrain on managerial freedom.
Short term funding has been raised by J.Sainsbury Plc through current liabilities like trade and other payables, short term borrowings, derivative financial instruments and certain statutory liabilities. This type of funding is in the regular course of business and affect the working capital of the business. Trade creditors are in fact creditors that arise on accounts payable created by supplier of goods and services in the normal course of business. Costs for raising short term funding are almost negligible, except that interest and regular costs are payable on bank credits, commercial papers and other such liabilities. However, short term funding is effective only when there is efficient working capital management. In case of J.Sainsbury Plc working is being ineffectively managed as has reflected in its current ratio calculated above, which is much lower than the norms for normal business entity.
While analyzing the sourcing of funding of J.Sainsbury Plc, particularly long term funding, it is important to analyze its long term solvency. There are two aspects of long term solvency of firm. First, its ability to repay the principal when due; and secondly, the ability to meet regular interest payments. These positions can be analyzed through leverage ratios and interest coverage ratio. Leverage of capital structure can be judged through debt equity ratio of J.Sainsbury Plc which is calculated for the five years as under:
‘Debt Equity Ratio is used to indicate the extent to which a firm is using financial leverage. The debt equity ratio is the ratio of total liabilities to total owners’ equities. (Marshall, Manger and others, page 386)19. The capital leverage is also called capital gearing. When this ratio is more than 1 the entity is considered having high geared capital structure and vice versa.
J.Sainsbury Plc has high geared capital structure during the years from 2004 to 2006. In fact debt equity ratio was 2.21 in 2006. In the remaining two years of 2007 and 2008 the company has more or less normal geared capital structure as it is certainly not a low geared capital structure.
High geared capital structure has an advantage to equity holders that they can play with the leverage of the capital structure. The equity holders are entitled to residual earnings. In the period of high earnings equity holders has the benefit of claiming large chunks of residual earnings after meeting the fixed liabilities of interests on borrowed capital.
Unfortunately in case of J.Sainsbury Plc except for 2004, rest of the two years were not good years earning wise, and therefore equity holders of J.Sainsbury Plc could not take the benefit of high geared capital structure during these years. In fact equity holders were the losers because of high geared capital structure as EPS during 2005 and 2006 was at the lowest ebb of 4.1 pence and 3.8 pence per share as compared to 20.1 pence, 19.2 pence, and 19.1 pence respectively in 2004, 2007, and 2008.
This is technically also called ‘trading on equity’ that expression describes the practice of using borrowed funds carrying a fixed charge in the expectation of obtaining higher return on equity holders.
On the other hand if debt equity ratio is high, the shareholders are putting up less money of their own. This is a clear danger signal for the creditors of the firm and that is case for J.Sainsbury Plc during the years from 2004 to 2006. The reason is that when there are heavy losses or fewer profits as was the case during 2005 and 2006 of J.Sainsbury Plc, the creditors would loose heavily.
Thus J.Sainsbury Plc has raised long term and short tern funds, and also during three of last five years it had a high geared capital structure. But during two of those years the company was having low or negative operational profits and the equity holders of the company could not take advantage of the high geared structure of the company. In other two years the company carried more or less a normal capital structure.
Analysis of present corporate strategy
J.Sainsbury Plc has declared its major present corporate strategic move in its annual report 2008 as under:
- The 2007-2010 targets are underpinning by on going operational efficiencies. The cost savings achieved over the last three years have delivered significant progress and there are further plans to reduce the cost base over the coming years, with the target to offset at least half of operating cost inflation.
- To build on and stretch the lead in food. By sharing customers’ passion for healthy, safe, fresh, and tasty food Sainsbury will continue to innovate and provide leadership in delivering quality products at fair prices, sourced with integrity.
- To expand the company’s store estate, activity seeking and developing a pipeline of new stores and expanding largely under- developed store portfolio to provide an even better food offer while also growing space for non- food ranges.
- Sales Growth- total additional sales of £3.5 billion by March 2010.
- Capital expenditure of £2.5 billion by March 2010.
- Cash Flow neutral over three years.” (source Annual Report 2008, pages 5,6)20
J.Sainsbury Plc has announced its present strategies but it has not elaborated on the method or schemes to follow those strategies. Like expansion of stores require funds to invest in immoveable properties. Will J.Sainsbury Plc go in for a fresh issue of equities or debt capital? It has not been made clear. There is other possibility that J.Sainsbury Plc may take new properties on lease basis for opening fresh stores. But the strategies as declared by the company do not clear these issues.
The company’s strategy is take attain position in food industry. The company has is facing stiff competition at present from contemporaries. Accordingly it should , formulate a step wise step strategy to attain the lead as achieving top position in revenue only does not bring the company to top position. There are other factors that are considered for attaining the top position like profitability, customer satisfaction, total assets, and others. The company should formulate a comprehensive strategy in this regard in order to attain the objective of leadership in food industry.
The company has not announced any policy to improve its working capital management. The company is already going through a precarious liquidity position as stated above in the financial analysis on working capital management. Such a situation may challenge the company’s short term solvency. The company has to meet its short term obligations when those come due, otherwise it will affect the normal operations of the company, and may also affect the long term strategies envisaged by the company.
These strategies are very optimistic in view of slow down of the businesses after recent meltdown in stock markets. Major layoffs are taking place. However, with resources at disposal of J.Sainsbury Plc, all above strategic move will lead the company to pinnacle of retail food industry. There is little doubt about achieving neutral cash flow keeping in view the inefficient working capital management at present and the upset created by great disturbances in capital markets.
Recommendations for future strategy
J.Sainsbury Plc need to take few more innovative steps to achieve its strategic objectives. First of all it has to improve its liquid position; other wise problems will be created at short term solvency front. Operational costs reduction is good move but the company will have to take certain hard decisions as there is always a danger that such moves may disturb the existing supply channels and other management operations. It is recommended the savings should not be at cost of disturbing existing structure of management operations. Expansion of stores should go hand in hand with increase in revenue and there should not be any abrupt decisions on this account.
J.Sainsbury is competing with likes of Tesco and ASDA. Keeping in view such competitions, the strategic moves of the company are pragmatic but every move needs extra caution in view of spreading depression in various economies. The company’s profitability is rising over last five years but its working capital management is creating problems. The objective of attaining top position in food industry requires comprehensive planning that ensures all round growth of the company. Capital gearing has attained a normal status and further expansion of stores may require fund raising. Accordingly such strategies are required that may not affect the attained financial status.
- Fabiani, Loupias, and others, page 204, Pricing decision in Euro Area, Oxford University Press, 2007, page 204.
- Wright Reports, Company profile report, J.Sainsbury Plc.
- James McAlexender and Eric Hansen, J. Sainsbury Plc and Home Depot: Retailers Impact on Sustainability, 2008
- Andy Banks, Success Story, J. Sainsbury Plc.
- Intelligent Total Business, Business Transformation Outsourcing Bold CEOs Partner for Radical Change, 2003.
- Lind Pinson, Anatomy of a Business Plan, 2001, fifth edition, 2001, page 109
- Peter J. Clarke, Accounting Information for Managers,2nd Edition, Interpretations of Financial Statements, 2002, page 91
- John W. English, How to Organize and Operate a Small Business in Australia, 10th edition, page 292, 2006
- Timothy P.Vick, How to Pick Stocks like Warren Buffett, McGraw Hill Professional, page 137
- AIEE, Transactions, published by The Society, 2007, page 706
- Hallman and Rossenbloom, Personal Financial Planning, page 152, 2003
- Faerber, All About Stocks, page 146, 2007
- Friedlob and Plewa, Understanding Balance Sheets, John Wiley & Sons, 1996, page 257
- Lawrence J. Gitman, Introduction to Managerial Finance, Eleventh edition, Chapter 2, page 58, 2006
- Ibid, page 59
- Seung Hee Kim, Global Corporate Finance, sixth edition, page 14, 2006.
- Graham Mott, Accounting for Non- Accountants, Kogan Page Publishers, 2008, page 198
- Marshall, Manger and others, Accounting, 6th edition, page 386, 2003.
- Annual Report 2008, J.Sainsbury Plc, pages 5,6