Industry and company strategy analysis
Burger King is the second largest fast food restaurant after McDonalds. The company is incorporated in the United States. The company has about 12,700 outlets in 73 outlets. It is a public company that trades on the New York Stock Exchange. A large percentage of the outlet of the company is owned privately and managed though franchising (Chidsey 1). Despite the high competition in the industry, the company is working towards maximizing its market share and income across the world.
As a strategy, the company is working towards increasing the number of outlets across the world through franchising. Since increasing prices is not feasible in the highly competitive industry, the management is working to ensure that they provide a number of slightly differentiated products so as to increase sales. Also, the company is practicing market differentiation so as to achieve the desired level of sales. The counter the challenge of increasing concerns about obesity, the company came up with a number of health fast foods such as fruit and vegetable salads. Some of the key players in the industry are McDonalds Corporation, Subway, Wendy’s, and Yum Brand among others (Kaczanowska 1).
Value chain analysis
Value chain provides a flow of activities for a company. Some of the key activities that are being carried out by the company can be presented in a flow diagram
The value chain of the company can be analyzed into four categories these are, firm’s infrastructure, human resource, technology and procurement. There are a number of strengths that supports the success of these sectors. Some of these strengths are economies of scale, just in time delivery, sustainable packaging, quality control, clean environment and order accuracy among others (Samadi 1).
Porter’s five forces
The fast food industry is very competitive. The first competitive force is its suppliers. The competitive force for suppliers is low because there are a number of suppliers in the fast food industry. Examples of key suppliers are PepsiCo and Coca Cola. There is sufficient supply for all the competing firms in the industry. The second force is buyers. The competitive force is quite high since the products that are being sold in the first food industry homogenous. The third force is the threat of substitute products. In the fast food industry, the cost of substituting one product for another is negligible. Thus, the threat of substituting one product for another is quite high.
The fourth force is the threat of rivalry. The competitive force in the rivalry industry is quite high. It is because the leading fast food firms in the industry have outlets in in the same geographical region. This makes the threat of rivalry quite high. This has created an intension competition that is based on price within the industry. The final competitive force is the threat of entry. The competitive force is quite high. Even though the industry seems saturated, there is room for innovation and the possibility of new entrants join the market. For instance, the existing fast food firms have not adequately addressed the issue of obesity in their products (Holmes and Alan 77).
The company has maintained the same financial policies when preparing the financial statement of the company. Thus, there are no significant changes in how the company prepares the financial statements and the reports prepared by the company.
Financial statement ratio analysis
Ratio analysis breaks down the financial data into various components for better understanding of the financial strengths and weaknesses of the company. Ratio analysis will focus on the profitability and risk analysis of the company (McLaney and Peter 96).
Profitability analysis of Burger King Worldwide Inc.
Profitability ratios give an indication of the earning capacity of an entity. The ratios measure the effectiveness of a company in meeting the profit objectives both in the long run and short run. The ratios show how well a company employs its resources to generate returns. In this section, an analysis will be carried out on profitability and efficiency of the company. The analysis will be carried using the most recent financial statements of the company, that is, for the year 2012. The income statement is shown in the appendix.
ROA (Return on Assets)
Return on asset is used to ascertain if the company is successful in using assets to generate earnings. The first step will be to estimate the profit margin for return on assets and asset turnover. The values obtained will be used to calculate the return on asset (McLaney and Peter 56). The profit margin for the return on assets is calculated as shown below
P.M. for ROA = Net Income + (1 – Tax Rate) (Interest Expense) + Minority Interest in Earnings
P.M. for ROA = 117,700 + (0.66) (223,800) + (0)
P.M. for ROA= 13.50%
The profit margin of return on assets for Burger King Worldwide Inc. is 13.50%. This ratio implies that the company has a potential of earning profit from the current level of sales. This implies that the company can generate a profit of $0.135 for every dollar of generated from the sales. After calculating the profit margin for return on assets, the next step will entail computing the rate of asset turnover. Asset turnover is the ratio of sales and average total assets.
Assets Turnover = Sales/Average Total Assets
Assets Turnover = 1,966,300/5,586,200
Assets Turnover = 0.352
Asset turnover measures the efficiency of company in generating revenue from the amount of asset that is available in the company. The calculations above shows the asset turnover is 0.352. Thus, $0.352 of sales can be generated from a unit of total assets. High ratios are often preferred. The two ratios calculated above can be used to estimate the return on assets. The formula for return on assets is presented below.
ROA = PM for ROA x Assets Turnover = 13.5% x 0.352 = 4.752%
Return on asset is an important ratio for a potential investor. It shows the amount of net income that is generated from the current amount of the asset. The return on assets is an important tool for measuring the continuous performance of the company since it excludes external sources of funds in assessing the performance of the company. The effectiveness of the ratio in measuring the current performance of the company can be improved by excluding certain items that do not occur frequently in the profitability value. Thus, the company will earn $0.04752 of profit from each unit of the assets.
Profit Margin for ROCE
ROCE = Net income for Common Shares / Sales
= 117,700 / 1,966,300 = 5.985%
The profit margin for return on capital employed is 5.985%. This shows the amount of earnings that can be allocated to the common shareholders. The net income is arrived at after eliminating operating expenses and finance cost.
Capital structure leverage
The capital structure leverage is calculated as illustrated below.
= Average total assets/ Average CS equity
=1/2(5,564,000 + 5,608,400) / ½ (1,175,000 + 1,049,200)
= 5,586,200 / 1,112,100
The capital asset leverage of the company is 5.0231. The ratio gives an indication for the use of financial leverage to finance return on equity. A high value of capital structure leverage implies that the return on asset exceeds the cost of all non – common equity financing.
Return on capital employed
From the ratios calculated above, the return on capital employed is computed as shown below.
= (Net income to common shares/Sales) x (sales/average total assets) x (Average total assets/ Average common shareholders’ equity)
ROCE = (5.985% * 5.0231 * 5,586,200) / 1,112,100 = 15.10%
Return on capital employed measures the overall efficiency and profitability of the company. The return on capital employed for the company is 15.10%. The ratio is fairly high and it indicates that the company is efficient in managing resources and generating sales. High ratios are often preferred to low ratios.
Common Size Income Statement
The values of the income statement are expressed as a percentage of the sales value. The table presented below shows the common size income statement for the company for 2012 and 2011.
|Total net revenue||100.00%||100.00%|
|Cost of revenue||52.75%||61.97%|
|Sales, general and administrative||26.01%||22.51%|
|Total operating income||21.24%||15.52%|
Explanation of the common size income statement
The cost of sales relates to the amount of net revenue. In most cases, as sales revenue increases, the amount of net revenue increases. The cost of revenue declined from 61.97% to 52.75%. This can be attributed to the decline in sales. SGA overheads rose from 22.51% in 2011 to 26.01% in 2012. Even though the amount of sales declined, the SGA overheads increased. The operating income increased from 15.52% in 2011 to 21.24% in 2012. Similarly, the net income increased from 3.77% in 2011 to 5.99% in 2012. Thus, despite the decline in sales, the net income, and total operating income also increased.
Accounts Receivable Turnover
Fixed Asset Turnover
There was a decline in the efficiency ratios of the company. The accounts receivable turnover declined from 13.46 in 2011 to 11.26 in 2012. It implies that the debtors are taking longer to pay their debt. Also, inventory turnover ratio declined from 112.74 in 2011 to 101.69 in 2012. This implies that the number of times that the company replenishes stock declines. Finally, the fixed asset turnover also declined from 2.28 times in 2011 to 2.06 times in 2012.
A decline in efficiency ratios is an indication that management efficiency declined during the period. This can explain the decline in the levels of sales in the company. Thus, from the analysis of financial statement of the company, it can be observed that the profitability of the company improved over the two year period. However, the level of efficiency of the company declined (Brigham and Michael 121)
Risk Analysis of Burger King Worldwide Inc.
Risk analysis of the company is important for all stakeholders of the company. An investor will be interested in the risk level so as to ascertain the risk level of the required rate of return. Further, the other stakeholders will decide on the whether to work with the company or not depending on the risk level. Various ratios will be calculated to ascertain the risk level of the company.
Revenues to Cash Ratio = Revenues / cash
2012: 1,966,300 / 546,700 = 3.597
2011: 2,335,700 / 459,000 = 5.087
Days Revenues Held in Cash = 365 / Revenues to Cash Ratio
2012: 365/3.597 = 101.47
2011: 365/5.087 = 71.75
The ratios give an indication on the short term liquidity of the company. High values are not desired. The value of the ratio increased from 3.597 to 5.087. It is not a good indication of the liquidity position of the company.
Current ratio = Current Assets/ Current Liability
2012: 890,500 / 397,800 = 2.24
2011: 724,100 / 472,000 = 1.53
The current ratio of the company increased from 1.53 in 2011 to 2.24 in 2012. A ratio that is greater than one implies that the value of current assets is greater than the current liabilities. It is a good indication of the liquidity position of the company.
Quick Ratio= Cash+ marketable securities+ Account Receivable/ Current Liability
2012: (890,500 – 91,300) / 397,800 = 2.00
2011: (724,100 – 69,200) / 472,000 = 1.3875
The quick ratios of the company were also high at 1.3875 in 2011 and 2.00 in 2012. The ratios indicate that the company does not face liquidity problems.
Operating Cash Flow to Average Current Liabilities Ratio
Operating Cash Flow to Average Current Liabilities Ratio= Operations Cash Flow/ Avg. Current Liability
2012: 224,400 / 397,800 = 0.564
2011: 406,200 / 472,000 = 0.86
The ratio shows how much the company can use cash from operations to pay debt. The ideal rate is 0.4. Operating cash flow to average current liabilities ratio declined from 0.86 in 2011 to 0.564 in 2012. The ratios were above the ideal rate which is a good indication.
Days Account Receivable= Sales/Average Accounts Receivables
2012: 1,966,300 / ((252,500 + 195,900) / 2) = 8.7702, 365/8.7702 = 41.62 days
2011: 2,335,700 / ((195,900 + 187,200) / 2) = 8.53, 365/11.26 = 32.42 days
The ratio shows that the days in account receivable increased. It is an indication of reduced level of efficiency.
Net Days Working Capital = Revenues/Avg Cash
2012: 1,966,300 / 546,700 = 3.5966, 365/3.625 = 101.48 days
2011: 2,335,700 / 459,000 = 5.0887, 365/5.0887 = 71.7276 days
The Net Days Working Capital determines the approximate number of days that Starbucks requires financing from other sources than its own.
Liabilities to Assets Ratio = Total Liabilities / Total Assets
2012: 4,389,000 / 5,564,000 = 0.79
2011: 4,559,200 / 5,608,400 = 0.81
The ratio of total liabilities to total assets declined over the period. It indicates that the proportion of of total assets that is financed by the total liabilities. This is attributed to a decline in the amount of debt and increase total assets.
Liabilities to Shareholder’s Equity Ratio = Total Liabilities / Shareholder’s Equity
2012: 4,389,000 / 1,175,000 = 3.74
2011: 4,559,200 / 2,431,800 = 1.87
The leverage ratio of the company increased from 1.87 to 3.74. It is a good indication of the company.
Long-term Debt to Long-term Capital Ratio = Long-term Debt / Long-term Debt + Shareholder’s Equity
2012: 2,993,500 / (1,175,000 + 2,993,500) = 0.72
2011: 3,105,700 / (2,431,800 + 3,105,700) = 0.561
Long-term debt to long-term capital ratio increased from 0.561 to 0.72. It is an indication of an increase in the leverage of the company. An increase in leverage implies that the company is less risky.
Long-term Debt to Shareholder’s Equity Ratio = Long-term Debt / Shareholder’s Equity
2012: 2,993,500 / (1,175,000) = 2.5
2011: 3,105,700 / (2,431,800) = 1.3
The ratio of long term debt to shareholder’s equity increased from 1.3 to 2.5. It implies that the amount of debt in the capital structure increased significantly. A high ratio is not a good indication since it shows that the company is more risky.
Operating Cash Flow to Total Liabilities Ratio= Cash Flow from Operations/Average Total Liabilities
2012: 224,400 / 4,389,000 = 0.051
2011: 406,200 / 4,559,200 = 0.089
The ratio measures the ability of the company to pay off debt from cash flow generated from operations. The ratios of the company declined and were less than the ideal rate which is 0.20.
Interest Coverage Ratio = Net Income + Interest Expense + Income Tax Expense + Minority Interest in Earnings / Interest Expense
The interest coverage ratio increased from 1.50 times in 2011 to 1.71 times in 2012. It implies that the company’s ability to pay interest expense increased despite the increase in the amount of debt in the capital structure. The increase can be attributed to an increase in profitability.
Process and assumption used to make the forecasts
This section gives an estimation of forecasted income statements of Burger King Worldwide Inc. for a period of five years that is, between 2013 and 2017. The financial analysis carried out above shows that the financial position of the company has continued to improve over the years despite the swings in the economic condition. In 2010, the company reported a loss in net profit. However, the situation reverted in 2011. The company reported profit in 2011 and 2012.
The forecasted income statement for the company will be prepared on the assumption that the current growth in profitability will continue for the next five years. The growth in profitability from 2011 to 2012 was about 26%. Thus, the management will ensure that the growth of profitability will grow. Thus, conservative rates will be used to grow the values of the income statements of the company during the five year period (ABC News Network 1). All items will grow by 8% both in 2013 and 2017. The table presented below shows the forecasted income statement for the company.
|Cost of Revenue||1,120,176.00||1,209,790.08||1,306,573.29||1,411,099.15||1,523,987.08|
|Selling General and Administrative||552,312.00||596,496.96||644,216.72||695,754.05||751,414.38|
|Operating Income or Loss||451,116.00||487,205.28||526,181.70||568,276.24||613,738.34|
|Income from Continuing Operations|
|Total Other Income/Expenses Net||(36,936.00)||(39,890.88)||(43,082.15)||(46,528.72)||(50,251.02)|
|Earnings Before Interest And Taxes||414,180.00||447,314.40||483,099.55||521,747.52||563,487.32|
|Income Before Tax||172,476.00||186,274.08||201,176.01||217,270.09||234,651.69|
|Income Tax Expense||45,360.00||48,988.80||52,907.90||57,140.54||61,711.78|
|Net Income From Continuing Ops||127,116.00||137,285.28||148,268.10||160,129.55||172,939.91|
From the estimates, the net income will amount to $127,116 in 2013. The value will increase to $172,939.91 in 2017 when a growth rate of 8% is assumed for all the income statement values.
Cost of equity and debt
The formula for the capital asset pricing model is illustrated by the equation shown below.
Cost of equity = risk free rate of return + beta * risk premium
Risk free rate
For the analysis, the interest rate for a 10 year US treasury bond will be risk free rate is 5.275%.
The firm’s asset beta is 0.80 based on reported results of the company
The market risk premium is 7.5%. It is the risk premium for S & P 500 index.
Cost of equity = risk free rate + beta * risk premium
= 5.275% + 0.8 * 7.5% = 11.275%
Cost of debt = (risk free rate + default spread) (1 – t)
Risk free rate = 5.275%
Default spread = 1.24
Tax rate = 34% (corporate tax in the US is 34%)
Substitute the values
(5.275% + 1.24) * 0.66 = 4.3%
The cost of debt is 4.3%. It is based on the risk free rate of 5.275% and the default spread is 1.24%.
Weighted average cost of capital
The weighted average cost of the capital = cost of equity * proportion equity the capital
structure + cost of debt * proportion debt in the capital structure
The table presented below shows the calculation of cost of capital for the company.
|Source of funds||Amount on the balance sheet||Proportion||Cost of equity and debt||Cost of capital|
From the calculations summarized in the table presented above, the weighted average cost of capital for the company is 6.24%.
ABC News Network 2013, Burger King Worldwide Inc. Web.
Brigham, Eugene F. and Michael C. Ehrhardt. Financial Management Theory and Practice, USA: South-Western Cengage Learning, 2009. Print.
Chidsey, John 2009, Burger King Holdings, Inc. -Form 10-K. Web.
Holmes, Geoffrey A. and Alan Sugden. Interpreting Company Reports, New York: Harlow, 2008. Print.
Kaczanowska, Agata 2010, Soft Drink Production in the US-Major Companies. Web.
McLaney, Eddie J. and Peter Atrill. Financial Accounting for Decision Makers, London: Harlow, 2008. Print.
Samadi, David 2010, Fast Food Restaurants in the US. Web.