Fin 571 week 1 financial ratio analysis

Financial Ratio Analysis for Walmart

Running head: FINANCIAL RATIO ANALYSIS FOR WALMART

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FINANCIAL RATIO ANALYSIS FOR WALMART

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Financial Ratio Analysis for Wal-Mart

Introduction

The fortune 500 company Wal-Mart has been in many lives for years, people see how much money that is personally spent at Wal-Mart but most do not realize how great this company actually is. Through looking at Wal-Mart’s financial statements there can be a look at the ratios that allow for an evaluation of the company. These ratios are the Current Ratio, Quick Ratio, Debt-Equity Ratio, Inventory Turnover Ratio, Receivables Turnover Ratio, Total Assets Turnover Ratio, Profit Margin Ratio, and the Return on Assets Ratio. By taking a look at each ratio there will be an understanding of why the ratio is important in the financial world but first, there will be a look into what ratio analysis is.

What is Ratio Analysis?

Ratio analysis entails studying the financial health and performance of a specific company by using their financial statements (usually the balance sheet and the income statement). This information is used to look at the company’s performance over time and to assess whether the company is thriving or doing poorly in the economy. Such information can also be used to compare the company’s standing in the industry with the average of the industry or see how companies compare to each other in their sector.

Current Ratio

A current ratio (or working capital ratio) measures the ability of the company to pay both short and long-term obligations. The way to calculate this ratio is the current assets ÷ current liabilities. This is a current ratio because of the fact that this includes all current liabilities and assets. The current ratio can provide an estimate of the company’s financial health; it is here to provide a better idea if a company can use its assets to pay back its liabilities.

In order to understand if the company is financially healthy one must understand where the ratio must lie on the scale. Any ratio that is under 1 indicates that the company is in good financial health, a company above 1 means that the company may be in financial danger. In the case of Wal-Mart, their current ratio is 0.969450913, this is below 1 so Wal-Mart seems to be in good financial health.

Quick Ratio

This ratio is also called the acid-test ratio, this ratio gives a quick look at the company’s ability to meet its short-term obligations with its liquid assets. This ratio does not include inventories from the company’s current assets. To calculate the quick ratio take the current assets – inventories then ÷ the current liabilities. Quick ratios can be converted into cash within 90 days or in the short term and they are still considered current assets. Inventory is excluded because it cannot be converted into cash in such a short period of time.

“While a quick ratio lower than 1 does not necessarily mean the company is going into default or bankruptcy, it could mean that the company is relying heavily on inventory or other assets to pay its short-term liabilities. The higher the quick ratio, the better the company's liquidity position”(“Investopedia, 2018). Wal-Mart’s quick ratio is 0.277867999, which shows they strongly rely on inventory to pay their liabilities.

Debt Equity Ratio

A debt-equity ratio shows how much debt a company is using to finance its assets and can also be called a gearing ratio. This is found by total liabilities ÷ shareholders equity. This can be shown as a number or a percentage.

If a company has a high debt-equity ratio it means that the company has been growing its finances through debt, this can be associated with a high level of risk. “If a lot of debt is used to finance increased operations (high debt to equity), the company could potentially generate more earnings than it would have without this outside financing”(“Investopedia”,2018). Wal-Mart’s debt-equity ratio is 2.502715188 which is 250%. This is a high number and may show that Wal-Mart uses its debt to finance growth.

Inventory Turnover Ratio

This ratio shows how much inventory is sold over a period of time. If an inventory turnover is higher it is better than having a low inventory turnover. A high inventory turnover means that the company is selling products quickly and that there is a demand from consumers for the products(s). In order to calculate the inventory turnover, one would take sales ÷ inventory. Wal-Mart has a 10.68272745 inventory ratio, which shows there is a demand for their inventory.

Receivables Turnover Ratio

This ratio is an activity ratio and it measures if a company is using their assets efficiently. This ratio is found by net credit sales ÷ average accounts receivable and is typically calculated on an annual basis. “Firms that maintain accounts receivables are indirectly extending interest-free loans to their clients since accounts receivable is money owed without interest. As such, because of the time value of money principle, a firm loses more money the longer it takes to collect on its credit sales”(“Investopedia”, 2018). In the case of Wal-Mart, their net credit sales could not be determined through their annual report for 2015, which led to not calculating their receivables turnover ratio.

Asset Turnover Ratio

The asset turnover ratio can be used to identify how efficiently the company is creating a profit. This ratio calculates the value of the company’s sales comparative to its assets. This ratio is also typically calculated on an annual basis. To find this ratio one needs the sales ÷ total assets.

If the asset turnover ratio is higher it shows the company is performing well. This may imply that the company is creating more revenue per the dollar amount of assets. In the case of Wal-Mart, their asset turnover ratio should be high because of their high sales volume. Their ratio is 2.367279314.

Profit Margin Ratio

This ratio is a profitability ratio that shows how much profit is earned on a dollar. The way to find profit margin ratio is net income ÷ net sales. The profit margin ratio for Wal-Mart is 0.035458257, which is low.

The “Investopedia” (2018) website states that, “if a company’s profit margin is low, it may indicate that it has lower sales than other companies in the industry (a low market share) or that the industry in which the company operates is itself suffering, perhaps because of waning consumer interest (or increasing popularity and/or availability of alternatives). This could also result from hard economic times or recession”.

Return on Assets Ratio

This ratio allows a company to see how profitable they are in relation to their assets. To find the ROA ratio the net income ÷ total assets. “The ROA figure gives investors an idea of how effective the company is in converting the money it invests into net income. The higher the ROA number, the better, because the company is earning more money on less investment”(Investopedia”, 2018). Wal-Mart’s ROA ratio is 0.083939599, this shows the company may not be as good as others at turning investments into profits.

Conclusion

In conclusion, all the financial ratios shown above play different parts in the financial studies of a company. By using these ratios any investor or financial advisor can learn how a company stands in their sectors and how their profits, liabilities, and assets relate.

References

Investopedia. (2018). Retrieved from https://www.investopedia.com/ask/answers/070914/how- do-i-calculate-inventory-turnover-ratio.asp

Investopedia. (2018). Retrieved from https://www.investopedia.com/terms/a/assetturnover.asp

Investopedia. (2018). Retrieved from https://www.investopedia.com/terms/c/currentratio.asp

Investopedia. (2018). Retrieved from https://www.investopedia.com/terms/d/debtequityratio.asp

Investopedia. (2018). Retrieved from https://www.investopedia.com/terms/p/profitmargin.asp

Investopedia. (2018). Retrieved from https://www.investopedia.com/terms/r/receivableturnoverratio.asp

Investopedia. (2018). Retrieved from https://www.investopedia.com/terms/r/returnonassets.asp

Wal-Mart. (2015). Retrieved from https://s2.q4cdn.com/056532643/files/doc_financials/2015/annual/2015-annual- report.pdf