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What is a good current ratio for a retail company

16/11/2021 Client: muhammad11 Deadline: 2 Day

Ratio analysis

Liquidity

Liquidity is regarded as the ability to pay the current debt obligation with current assets. Calculating Costco’s current ratio is one of ways to analyze liquidity position. Current ratio refers to the ratio of corporate liquid assets to current liabilities represented as Current Ratio=Current Assets/Current Liabilities. According to Costco financial statement, in September 2018, the company’s current assets are $20,289 million, and current liabilities are $19,926 million; therefore, Costco’s current ratio in September 2018 is 1.02 which means Costco can meet its current short-term debt obligations 1.02 times over. Compared with 0.99 of current ratio in 2017, Costco’s ability of paying debt is stronger because the higher the ratio, the stronger the liquidity of the corporate assets, and the stronger the short-term solvency; otherwise, the weaker. The current liquidity required by commercial retail enterprises is often higher than that of manufacturing enterprises because the former needs to invest a large amount of funds in inventory.

The next step to do analysis of liquidity position is quick ratio. The quick ratio is the ratio of quick assets to current liabilities. It is a measure of the ability of an enterprise's current assets to be immediately realized for repayment of current liabilities. Quick ratio is presented as (Current Assets-Inventory)/Current Liabilities. In 2018, Costco’s quick ratio is 0.45 which less than 1.0. The quick ratio is maintained at 1:1, which shows that every $1 of current liabilities of the enterprise has $1 of liquid assets that can be realized, and the short-term solvency has a reliable guarantee. However, in the wholesale industry, due to the large amount of cash sales, there is almost no accounts receivable, and the quick ratio is much lower than 1, which is also reasonable. Compared with quick ratio of 0.41 in 2017 and 0.38 in 2016, Costco’s quick ratio has improved which means the firm improved its liquidity by 2018 which, in this case, is good, as it is operating with relatively low liquidity

The third step of analysis of liquidity position is cash ratio which is a liquidity ratio calculated as (cash plus short-term marketable investments) divided by current liabilities. Costco’s cash ratio in 2018 is 0.36 which increase by 0.03 from 2017. Cash ratio shows the ability of Costco to pay current debt without relying on inventory sales and receivables. The cash ratio is the balance of the quick-moving assets after deducting the accounts receivable. The amount calculated after the quick-moving assets are deducted from the accounts receivable can best reflect the ability of the enterprise to directly repay current liabilities. The benchmark of cash ratio in the industry of consumer services is 0.28, so Costco has a higher cash ratio than the industry average.

After performing an analysis of Costco’s current ratio, quick ratio and cash ratio, it is easy to find that Costco improved its liquidity position from 2017 to 2018. Although the quick ratio is 0.45 less than 1.0, it is reasonable in wholesale industry. However, it is better for Costco to sell more inventory to meet its current debt obligations. In general, Costco is solvent.

Profitability

Gross profit margin, which shows the percentage of revenue available to cover operating and other expenditure, is an important index to analyze Costco’s profitability. It is the percentage of gross margin and net sales. In 2018, Costco’s gross profit margin is only 11.04% which is much less than Amazon’s 40.25% and Walmart’s 24.68%. It is to understand that the wholesale industry is relatively saturated, and Costco opens the market at a lower price in order to increase market share. Low price is the competitive advantage of Costco. However, Costco’s gross profit margin deteriorated from 2016 to 2017 and from 2017 to 2018.

Operating profit margin refers to the ratio of operating profit to operating income of an enterprise. It is an indicator of the efficiency of business operations, reflecting the ability of business managers to obtain profits through operations without considering non-operating costs. The higher the operating profit margin, the more the operating profit provided by the company's commodity sales, the stronger the profitability of the enterprise; conversely, the lower the ratio, the weaker the profitability of the enterprise. Costco’s operating profit margin is 3.24% which is less than Amazon’s 5.33% and Walmart’s 4.12%. Costco’s operating profit margin is also much less than industry average 8.01%. Costco’s operating profit margin improved from 2016 to 2017 but then slightly deteriorated from 2017 to 2018. Reduction in sales probably is the reason of deterioration.

Net profit margin is an important indicator reflecting the company's profitability. It refers to the profit rate after deducting all costs, expenses and corporate income tax. Costco’s net profit margin in 2018 is 2.26% which is less than industry average 3.79%. However, it improved yearly since 2016. If the main business income growth rate is faster than the net profit growth rate, the company's net profit margin will decline, indicating that the company's profitability is declining. On the contrary, if the net profit growth is faster than the income, the net profit margin will increase, indicating that the company's profitability enhances. Therefore, Costco’s profitability is increasing.

Return on equity is the percentage of net profit and average shareholders' equity, which is the percentage ratio of the company's after-tax profit divided by the net assets. This indicator reflects the income level of shareholders' equity and is used to measure the efficiency of the company's use of its own capital. The higher the indicator value, the higher the return from investment. In 2018, Costco’s ROE is 24.49% which is higher than Amazon’s 23.13% and Walmart’s 12.66%; however, it less than industry average 26.15%. The higher the ROE of enterprises, the stronger the ability of enterprises to obtain income from their own capital, the better the operating efficiency, and the better the guarantee for corporate investors and creditors. Costco’s ROE improved from 2016 to 2017 but then slightly deteriorated from 2017 to 2018.

Return on assets is an indicator used to measure how much net profit is generated per unit of assets. ROA, which is divided net income attributable to Costco by total assets, is 7.68% in 2018. It is higher than industry average of 7.53%. The higher ROA, the better the utilization of corporate assets, indicating that the company has achieved good results in terms of increasing revenue and saving funds. Costco’s ROA increase yearly since 2016.

In general, although Costco’s net profit margin slightly improved from 2017 to 2018, both gross profit margin and operating profit margin deteriorated from 2017 to 2018. In addition, with the increase of ROA, ROE slightly deteriorated from 2017 to 2018. Through the profitability analysis, it is not hard to find that there is no big fluctuation in profits for Costco.

Solvency

Debt-to-equity ratio, which is calculated by dividing Costco’s total debt by total stockholder’s equity. D/E ratio reflects the ability of shareholder equity to cover all outstanding debts in the event of a business downturn. The total debt equity reflects the strength of the company's financial structure and the extent to which the creditor's capital is protected by the owner's equity. The high debt-to-equity ratio indicates that the company's total capital has high debt capital, so the degree of protection of debt capital is weak. The low debt-to-equity ratio indicates that the company's own financial strength is strong, so the degree of protection of debt capital is higher. Costco’s D/E ratio is 0.51 in 2018 which is lower than industry average of 1.06. In fact, Costco has lower D/E ratio than most other competitor, such as Walmart’s 0.60, Target’s 0.99 and Amazon’s 1.13. Costco’s D/E ratio deteriorated from 2016 to 2017 but then improved from 2017 to 2018 not reaching 2016 level.

The debt-to-capital is calculated by dividing Costco’s total debt by its total capital. Debt to capital is an important index to measure a company’s financial situation. It gives analysts and investors a better understanding of the company's financial structure and whether the company is suitable for investment. Under the same conditions, the higher the debt-to-capital ratio, the greater the company's risk. In 2018, Costco’s debt to capital ratio is 0.34, which is less than the industry average of 0.51. Therefore, Costco has less investment risk for investor. Costco’s debt-to-capital ratio deteriorated from 2016 to 2017 but then improved from 2017 to 2018 not reaching 2016 level.

In general, Costco has lower debt-to-equity ratio and debt-to-capital ratio. The both lower ratios shows Costco’s financial strength is strong, and less investment risk for investor. Therefore, the degree of protection of debt capital is higher.

Market Prospects

The dividend yield is the ratio between the dividend and the stock price. In investment practice, dividend yield is one of the important yardsticks to measure whether a company has investment value. The dividend yield is an important reference standard for selecting income stocks. If the annual dividend yield exceeds the bank deposit interest rate for many years, this stock can basically be regarded as income stocks. The higher the dividend yield, the more attractive. In 2017, Costco has high dividend yield between 4.65% to 5.12%. In May 2018, Costco’s dividend yield is decrease to 1.05%, and on 05/09/2019, the dividend yield is decrease to 0.97%. In 2018 Costco’s stock is less attractive than in 2017.

P/E ratio is the ups and downs of the stock since the starting point. The price return rate is the reciprocal of the common stock profit rate. The smaller the ratio, the greater the profitability of the company and the better the stock quality. On May 24, 2019, Costco’s PE ratio is 31.71 which is higher than Target’s 14.13 and TJX’s 21.96. In fact, in February Costco has lower PE ratio at 28.04. In general, so far Costco has lower stock quality and worse profitability.

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Documentation

Reference

https://www.investopedia.com/terms/d/debt-to-capitalratio.asp

https://www.macrotrends.net/stocks/charts/COST/costco/pe-ratio

https://www.stock-analysis-on.net/NASDAQ/Company/Costco-Wholesale-Corp/Ratios

Ratio analysis

Liquidity

Liquidity is regarded as the ability to pay the current debt obligation with current

assets. Calculating Costco’s current ratio is one of ways to analyze liquidity position.

Current ratio refers to the ratio of corporate liquid assets to current liabilitie

s

represented as Current Ratio=Current Assets/Current Liabilities. According to Costco

financial statement, in September 2018, the company’s current assets are $20,289

million, and current liabilities are $19,926 million; therefore, Costco’s current ratio

in

September 2018 is 1.02 which means Costco can meet its current short

-

term debt

obligations 1.02 times over. Compared with 0.99 of current ratio in 2017, Costco’s

ability of paying debt is stronger because the higher the ratio, the stronger the

liquidity

of the corporate assets, and the stronger the short

-

term solvency; otherwise,

the weaker. The current liquidity required by commercial retail enterprises is often

higher than that of manufacturing enterprises because the former needs to invest a

large amo

unt of funds in inventory.

The next step to do analysis of liquidity position is quick ratio. The quick ratio

is the ratio of quick assets to current liabilities. It is a measure of the ability of an

enterprise's current assets

to be immediately realized for repayment of current

liabilities. Quick ratio is presented as (Current Assets

-

Inventory)/Current Liabilities.

Ratio analysis

Liquidity

Liquidity is regarded as the ability to pay the current debt obligation with current

assets. Calculating Costco’s current ratio is one of ways to analyze liquidity position.

Current ratio refers to the ratio of corporate liquid assets to current liabilities

represented as Current Ratio=Current Assets/Current Liabilities. According to Costco

financial statement, in September 2018, the company’s current assets are $20,289

million, and current liabilities are $19,926 million; therefore, Costco’s current ratio in

September 2018 is 1.02 which means Costco can meet its current short-term debt

obligations 1.02 times over. Compared with 0.99 of current ratio in 2017, Costco’s

ability of paying debt is stronger because the higher the ratio, the stronger the

liquidity of the corporate assets, and the stronger the short-term solvency; otherwise,

the weaker. The current liquidity required by commercial retail enterprises is often

higher than that of manufacturing enterprises because the former needs to invest a

large amount of funds in inventory.

The next step to do analysis of liquidity position is quick ratio. The quick ratio

is the ratio of quick assets to current liabilities. It is a measure of the ability of an

enterprise's current assets to be immediately realized for repayment of current

liabilities. Quick ratio is presented as (Current Assets-Inventory)/Current Liabilities.

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