Accounting control research task

Financial Analysis
Agamdeep Singh
Word Count: 2050

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 Table of Contents
Introduction...........................................................................................................................................3
Earning Capacity (All ratio calculations are in appendix1).....................................................................4
Stability (All ratio calculations are in appendix2)...................................................................................5
Management efficiency (All ratio calculations are in appendix3)..........................................................6
Horizontal, Vertical and Trend Analysis.................................................................................................7
Conclusion.............................................................................................................................................8
Appendices............................................................................................................................................9
References...........................................................................................................................................11

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Introduction
As of now, Harvey Norman is one of Australia’s leading retailers in furniture, bedding, computers,
communications and electrical products. Currently Harvey Norman operates as a franchise with the
main brand and all company-operated stores owned by Harvey Norman Holdings Limited (HVN)
which is listed on the ASX. Since 2011 the company has earned a great position in the retail sector by
winning big awards every year.[1] In this report an in-depth analysis will be provided of the financial
position and the financial performance of the company. The report will also investigate the changes
occurred by analysing the statistical reports and provide possible explanations to the changes.

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Earning Capacity (All ratio calculations are in appendix1)
Profitability helps us to understand the successes of a company based on their given profit. The
profitability ratios (given in appendix 1 below) allows the internal and external parties of the
company like its accountants, existing and potential investors to view the efficiency of the company,
for e.g. Whether the company is able to use its sales to generate profit to cover its day to day
expenses, and make judgements and decisions and improve the overall financial health of their
business.

Over the years Harvey Norman Holdings’ net profit ratio declined, decreasing by 1.59 pts in the
period of 2017-2018 and declining further in the period of 2018 -2019 by 5.65pts. The decline in the
ratios is significant, this could possibly be due to an ineffective cost structure or change in pricing
strategy which lead to be ineffective. The company however has done extremely well to increase its
sales drastically from $1.8B in 2017 to 1.99B in 2018 and to 2.2B in 2019 which allowed them to also
increase their cost of goods sold while maintaining a stable gross profit ratio of around 33pts which
indicates that the companies’ products are marked up by 50% [11]. The companies’ marketing
strategy is the cause for the stability in its great results, by keeping up with the industry and
updating its marketing strategy allowed them to reduce its marketing expense while attracting more
customers to improve its sales dramatically. In the coming years the company will continue to
enforce this strategy. [2]

The rate of return on owner’s equity (ROE) is 13.33% as of 2019. This can be viewed as the company
is returning 13.33% of the owner’s investment into the company with respect to the net profits.
However, in the previous year, HVN has managed to return 13.22% to the owners, a decrease of
0.11pts and in the year of 2017 the ROE was 16.47% which was 3.14 pts higher than 2019. This
change was due to the constant increase in the average owner’s equity throughout the years, in
2017 average O.E was $2.75B which increased to $3.07B. This rapid increase was far greater than the
change in the companies’ net profit which was decreasing, hence resulting in a decline for the
Return on owner’s investment. The equity ratio is the ratio/percentage of owner’s equity to total
assets or funds, this ratio indicates how the business is financed by exposing the percentage of
assets provided by internal resources. As of 2017 67.14% of the assets were funded by owner’s
investment which reduced by 2.96pts to 64.18% in 2018, but the owner has done well to increase
the equity ratio again in 2019 to 66.64% which was an increase of 2.46pts. The outstanding ratio
reflects on the low interest expense that the company pays.

The rate of return on total assets (ROA) is the indication of the rate of return on all funds or assets
employed, therefore giving a better indication of the earning capacity of the business rather than
just the owners’ equity. HVN’s ROA was 10.97% in 2017 which decreased to 9.27% and then
increased to 9.34% in 2018, 2019 respectively. The subtle increase of 0.07pts from 2018-2019 was
due to the increase in interest expense, ($2.6M to 2.9M 2018-2019)The significance of such a low
number with respect to the total assets indicates that the company has an extensive amount of
assets (which have been increasing since 2017) that are not able to generate as much profit.
However, as the ratio is above 5%, it is desirable for a retailing company. [10]

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Stability (All ratio calculations are in appendix2)
Financial stability is the companies’ ability to meet financial commitments, in both short and long
term so that the business can continue to operate. [3]. Tracking back to HVN’s ROA, it can be
concluded that the company is using their assets inefficiently. Even though the company is investing
a lot into its assets, the intangible assets accounted ($370 000) for are close to 0% with comparison
to the total assets of 4.8B, which show the company is focusing more on liquidity. But for HVN, their
main objective should be to quickly sell inventory. It can be seen that HVN’s current ratio is below
the industry average of 2:1 by 0.38pts as of 2019. However, the current ratio has been increasing
throughout the years from 1.5 to 1.59 to 1.62 for the years 2017,2018,2019 respectively. The quick
asset ratio the year 2017 was 0.97 which improved by 0.11 pts to 1.08 in 2018 but reduced to 1.06 in
2019 which was a shallow decrease, which showed that the business has, for every dollar of current
liabilities there are $1.08 of convertible assets. [11]. These changes were due to the constant
increase in revenue over the span of three years. Even though the company has been acquiring more
debt, the company has managed to rapidly increase its current assets to address its current
liabilities, which have already been far greater than its current liabilities. Now, analysing the
companies’ solvency ratios, it can be seen that the company has great control over its liabilities. In
2017 the debt ratio was 32.86% which increased by 0.88 in 2018, but the company was able to
increase its total assets in 2019 to control the debt ratio to 32.38% while still acquiring more debt
showing us that, the large amount of funds for the company are provided through internal sources.

The ability to meet short term commitments using the cash available is displayed through the Lincoln
financial health ratio which can be seen in this case has decreased significantly from 2017 -2018 by
15.66pts this was due to a decrease in the net operating profit white increasing the current liabilities
with a constant trend on depreciation and amortisation. Even though the ratios have been more
than double the benchmark of 24%. Even though the company is increasing has increased its cash
over the years, HVN can take steps to decrease its current liabilities hence improving the ratio.

The interest cover ratio or the times interest is earned relates profit to interest expense. It indicates
the ability to of the business to meet interest payments from current profits. For HVN, there has
been a trend of decline in the times interest earned ratio, in 2017 the company was doing
extraordinary by meeting its interest payments 23.57 times, but due to the sudden decrease in net
profit and an increase in its interest expense the ratio reduced by 8.14 times to 15.43 times and
continued to decrease shallowly to 15.21 times in 2019.

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Management efficiency (All ratio calculations are in appendix3)
All of the ratios for any company depend on how effectively the management is working in order to
reach business goals. The management at HVN is performing great as they are able achieve a turn
over of stock in 93.35 days which is well above the industry average of 120 days as of 2017 [7]. The
company was doing extremely well until 2019 when the industry average decreased to 27 days while
the company was turning over stock in 89.46(See appendix 3) days which was well below the
industry average. Over the years as technology develops the prices of various electronic products
increase hence resulting in a rapid increase in HVN’s cost of goods sold. But HVN is able to justify this
by increasing its average inventories over the years.

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Horizontal, Vertical and Trend Analysis
In the timeframe of 2017-2019, HVN has experienced a high growth rate in revenue which increased
by 9% in the 2017-2018 and 12% in 2018-2019. Its highest figure was in 2019 which was $2.2B. There
was a far greater increase in HVN’s cost of sales of 14% than its sales revenue. Looking at HVN’s net
profit, there was a rapid increase of 29% in 2016-2017 but however in the next year there was a
decrease of 16%, and by reducing its total expense by 2% in the period of 2018-2019 the company
was able to increase its net profit by 8%.

HVN’s relative Income Statement compositions have not changed much in the 3 years. As expected
the cost of goods sold have the highest proportion. On average, the 19.5% of revenue is spent on
marketing expense and 29% is spent on administrative expenses.

Over the years the sales have increased by 22% which exactly the same as its cost of sales, but
looking at the net profit it has decreased by 10% over the years, but this trend will look different if
the results were evaluated over four years

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Conclusion
Harvey Norman Holdings Limited is a well-known company for its electronic manufacturing and
quality home furniture. The diversified base of the company’s market is a major asset to the
company. Good current ratio has always been an internal financially strong point of the company.
This can improve the company’s ability to hold stock and provide technical upgrades. The net profit
ratio is however, poor. The company needs to think steps through for expansion and the costs
required for it. Having a large market base means the company is also trying to diversify its goods
and services. The investment decisions in a developing market might help the company to prosper in
the future. If Harvey Norman holdings limited is able to minimize its cost and utilize its assets, then it
will certainly perform well in the industry.

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Appendices
All ratios have been calculated using company information provided on the statement of financial
position and Income statement, the ratios have been rounded off to two decimal places.

All relevant calculations for ratios, horizontal vertical and trend analysis have
been provided in the spread sheet*
Appendix 1

Ratio 2017 2018 2019

Net Profit 24.71% 19.06% 18.31%

Gross profit 32.6% 33.48% 32.38%

Rate of return on owner's equity 16.47% 13.22% 13.33%

Rate of return on assets  10.97% 9.27% 9.34%

Appendix 2

Ratio 2017 2018 2019

Current ratio 1.50:1 1.59:1 1.62:1

Quick asset ratio 0.97 1.08 1.06

Lincoln financial health ratio 69.33% 53.67% 52.65%

Debt ratio 32.86% 35.82% 33.36%

Equity ratio 67.14% 64.18% 66.64%

Lincoln debt ratio 32.87% 35.82% 33.36%

Times interest earned 23.57 15.43 15.21

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Appendix 3

Ratio 2017 2018 2019

Stock turnover (in days) 93.3 90.99 89.54

Debtors turnover (in days) 172.96 124.98 119.8

(using normal sales)

Appendix 4

horizontal analysis Vertical Analysis

2019 2018 2017 2019 2018 2017
Sales revenue 12% 9% 2% 100% 100% 100%
cost of sales 14% 7% 0% 68% 67% 67%
gross profit 8% 12% 6% 32% 33% 33%
Distribution expense -1% 15% 5% 2% 2% 2%
marketing expense 4% -3% 0% 18% 19% 21%
occupancy expense 7% 6% -2% 12% 12% 12%
administrative
expense -3% 19% -4% 25% 29% 27%
other expenses -50% 6% -5% 3% 6% 6%
finance costs 9% 31% -30% 1% 1% 1%
Income tax expense 10% -20% 31% 7% 8% 10%
Total Expenses -2% 5% 1% 68% 77% 79%
Netprofit 8% -16% 29% 18% 19% 25%
Appendix 5

Trend Analysis
Sales 2019 2018 2017
Sales revenue 122% 109% 100%
cost of sales 122% 107% 100%
gross profit 121% 112% 100%
Distribution expense 114% 115% 100%
marketing expense 102% 97% 100%
occupancy expense 114% 106% 100%
administrative
expense 115% 119% 100%
other expenses 54% 106% 100%
finance costs 143% 131% 100%
Income tax expense 89% 80% 100%
Total Expenses 104% 105% 100%
Net
profit 90% 84% 100%

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References
[1] HVN), H., n.d. Harvey Norman Holdings (HVN) Balance Sheet - Investing.Com AU. [online]
Investing.com Australia. Available at: <https://au.investing.com/equities/harvey-norman-holdings-
limited-balance-sheet> [Accessed 11 June 2020].

[2] Barwick, H., 2014. Harvey Norman Finds Value In Omni-Channel Retailing. [online] Cmo.com.au.
Available at: <https://www.cmo.com.au/article/559744/harvey-norman-finds-value-omni-channel-
retailing/> [Accessed 14 June 2020].

[3] Donohoe, A., 2019. How To Define Financial Stability In Business. [online] Bizfluent. Available at:
<https://bizfluent.com/how-5950295-define-financial-stability-business.html> [Accessed 9 June
2020].

[4] Readyratios.com. n.d. Equity Ratio. [online] Available at:

<https://www.readyratios.com/reference/debt/equity_ratio.html> [Accessed 12 June 2020].

[5] Disnat.com. n.d. Gross Profit Margin | Desjardins Online Brokerage. [online] Available at:
<https://www.disnat.com/en/learning/trading-basics/ratio-analysis/gross-profit-margin> [Accessed
11 June 2020].

[6] Ibisworld.com. n.d. Ibisworld - Industry Market Research, Reports, And Statistics. [online]
Available at: <https://www.ibisworld.com/au/company/harvey-norman-holdings-ltd/3662/>
[Accessed 13 June 2020].

[7] Readyratios.com. n.d. Industry Ratios (Benchmarking): Inventory Turnover (Days). [online]

Available at: <https://www.readyratios.com/sec/ratio/inventory-turnover/> [Accessed 13 June
2020].

[8] Mitchell, S., 2017. Harvey Norman Profit Soars To Record $449M On Property, Furniture. [online]
Australian Financial Review. Available at: <https://www.afr.com/companies/retail/harvey-norman-
profit-soars-to-record-449m-on-property-furniture-20170830-gy7isr> [Accessed 10 June 2020].

[9] Powell, D., 2019. Harvey Norman Kicks Off $173M Capital Raising To Weather A Recession.
[online] The Sydney Morning Herald. Available at:
<https://www.smh.com.au/business/companies/harvey-norman-kicks-off-173m-share-sale-as-sales-
at-its-stores-fell-20190830-p52mcd.html> [Accessed 10 June 2020].

[10] En.wikipedia.org. n.d. Return On Assets. [online] Available at:

<https://en.wikipedia.org/wiki/Return_on_assets#:~:text=The%20number%20will%20vary
%20widely,5%25%20are%20generally%20considered%20good.> [Accessed 8 June 2020].

[11] Wilkinson, J., 2013. Quick Ratio Analysis Benchmark Example • The Strategic CFO. [online] The
Strategic CFO. Available at: <https://strategiccfo.com/quck-ratio-analysis-benchmark-example/>
[Accessed 8 June 2020].

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