Financial Performance Analysis Of Coca-Cola

Company Brief

The management of finance in an effective manner is the most crucial aspect of the business. The area of finance management covers three essential decisions such as dividend decision, financing decision and investment decision.  In order to make these decisions the manager is required to possess knowledge and skills to analyze the financial statements of the company (Baker and Powell, 2009). There are various tools that are applied in analyzing the financial performance of a company and among them the most commonly used is the ratio analysis. With the help of ratio analysis, the four crucial aspect of business such as profitability, liquidity, efficiency, and solvency can be analyzed. In the context developed here, a report has been presented which provides coverage to the financial performance analysis of Coca-Cola for the financial year 2016. In addition to this, the report also covers one more crucial concept of finance management namely bond valuation in the second part.  

Coca-Cola, listed on New York Stock Exchange, is a nonalcoholic beverage producer and it belongs to consumer goods industry. The company manufactures and distributes the nonalcoholic produces all over the world (Coca-Cola, 2016). The company was incorporated in the year 1886 in the United States and it has grown exponentially over the period of time. The company started with one soft drink brand and now it produces many; the major brand involves Diet Coke, Coca-Cola Zero, Fanta, Sprite, Minute Maid, Aquarius, and Gold Peak. The company leads growth through innovations in its products and production and distribution processes. Presently, the company operates with total assets of $87,270 million and it gives employment to more than 100,000 people (Yahoo Finance, 2017).

Figure 1: Coca-Cola Brands (Coca-Cola, 2017)

In order to analyze the financial performance of Coca-Cola three crucial aspects such as liquidity, profitability, and solvency have been assessed. For this purpose, ratio analysis has been used comparing the ratios of current year (2016) with the previous year (2015) and also with the competitor. Pepsico Inc has been chosen as the competitor company. The assessment of profitability of the company has been made by analyzing the ratios such as net margin, return on assets, and return on equity. Further, to assess the liquidity of the business, the ratios such as current ratio and quick ratio have been analyzed (Tracy, 2012). The solvency aspect has been assessed by analyzing the debt equity ratio and debt to total assets ratio. In addition to this an analysis of change in the company’s capital structure over the period of two years has also been carried out.         

Part A

The financial performance is explained by profits earned by the company. The investors, lenders, and creditors all keep a close eye on the profitability of the company (Walton and Aerts, 2006). In respect of Coca-Cola, the primary ratios of profitability such as net margin, return on assets, and return on equity have been computed as below:

The net margin ratio is computed by dividing the net profit by the total revenues, thus, it represents the net profits as a percentage of revenues. In respect of Coca-Cola, it could be observed that the net margin is down in the current year from 16.60% to 15.59%. The downfall in the net margin shows that the cost of operations of the company has increased in the current year as compared to the previous year. Further, the revenues of the company are also down from $44,294 million in 2015 to $41,863 million in 2016 (Appendix). Further, the return on assets and return on equity are also showing downward trend. The return on assets is down from 8.17% to 7.48% while the return on equity is down from 28.77% to 28.30%. In this regards, it has been observed that company’s total assets as well as equity has decreased in the current year but despite that returns are lower. This implies that there has been substantial decrease in the net profits.  

Comparing the company with its competitor it could be observed that the company has better net margin. The net margin of Coca-Cola is 15.59% while that of Pepsico Inc is 10.08%. However, the return on assets and return on equity of the company are lower than the competitor. Coca-Cola is earning a return on assets of 7.48% while Pepsico Inc is earning 8.54% return on assets. There is a huge difference in return on equity; Coca-Cola has return on equity of 28.30% while that of Pepsico Inc is 57.04%. The difference in return on equity is due to the reasons that Pepsico Inc is using less equity because it has lot of debt.    

The return on equity requires more detailed analysis which can be carried out by undertaking DuPont analysis. The DuPont analysis breaks the return on equity into three components such as assets turnover ratio (efficiency), equity multiplier (leverage), and net margin (profitability) (Robinson et al., 2015).   

The return on equity of Coca-Cola is decreasing in the year 2016 slightly as compared to the year 2015. In this regards, it could be observed that the reasons for decrease in the return on equity are the decline in asset turnover ratio and the net margin. The asset turnover ratio is down from 0.492 to 0.479 and the net margin is down from 16.60% to 15.59%. However, equity multiplier has increased during the year from 3.522 to 3.785 which reduced the decline in return on equity. 

Analysis of Financial Performance of Coca-Cola

The analysis of liquidity is important to assess the company’s ability meet out the short term debt obligations. It is very important for every company to maintain adequate amount of liquid assets to run the business without obstacles (Palepu et al., 2007). In order to assess the liquidity of Coca-Cola, the current ratio and quick ratio have been computed as shown below:

The current ratio is computed by dividing the current assets with the current liabilities and it depicts the sufficiency or insufficiency of the liquid funds. In respect of Coca-Cola, it could be observed that the current ratio is increasing in the current year as compared to the previous year. In the year 2015, the company had current ratio of 1.24 times which increased to 1.28 times in the year 2016. The increase in current ratio shows that the company’s liquidity has improved. Further, the quick ratio has also increased from 1.13 times in 2015 to 1.18 times in 2016. The increase in quick ratio also signals that the liquidity of the company is improving. The primary reason for increase in the current ratio is increase in the current assets of the company. The current assets have been found to be increasing from $33,395 million in 2015 to $34,010 million in 2016 (Appendix).

Comparing the liquidity of the company with competitor it has been found that both are at same platform. The current ratio of Coca-Cola and Pepsico Inc is same at 1.28 times. However, the quick ratio of Coca-Cola is found to be slightly better than that of Pepsico Inc. The quick ratio of Coca-Cola is 1.18 times and that of Pepsico Inc is 1.15 times. Thus, overall it could be inferred that Coca-Cola has done better than Pepsico Inc in regards to liquidity. 

The decisions in regards to sourcing of finance and its deployment in various investment options are critical because these decisions have severe impact on financial performance and position of the business. There are different sources of finance which are pooled under two major categories such as equity and debt (Bierman, 2003). The capital structure of the company reflects the amount of equity and debt funds that the company is using in financing its assets. Thus, the analysis of capital structure becomes important when the company seeks to raise funds. The analysis is made to find out the adequacy of debt and equity. It is important for every company maintain adequate balance between the equity and debt funds to improve the financial performance. The financial performance will be affected adversely if either of debt or equity is too high or too low. The use of too much debt would give rise to risk of solvency whereas the use of too much equity will cause reduction in the profits of the company. The profitability of the firm will decrease with the use of too much equity because equity financing is the costly as compared to debt (Bierman, 2003). 

Profitability

In regards to Coca-Cola it has been observed that the company is seeking to raise more debt for which it is essential to analyze the capital structure ratios such as debt equity ratio and debt to total assets ratio. The position is depicted as below:

From the data presented in the table given above, it could be observed that the debt equity ratio of Coca-Cola is increasing in the current year as compared to the previous year. The debt equity ratio increased from 2.52 times in 2015 to 2.78 times in 2016. The increase in the debt to equity ratio shows that the company has used more debt than equity in the current year. Further, the debt to total assets ratio is also showing increasing trend. The debt to total assets ratio increased from 0.72 times in 2015 to 0.74 times in 2016. The increase in the ratio again indicates increased proportion of debt in financing the assets of the company. However, on comparing the company with its competitor it could be observed that the company is still using less debt.

The debt equity ratio of Pepsico Inc is found to be 5.68 times which is way higher than that of Coca-Cola. Further, the debt to total assets of Pepsico Inc is found to be 0.85 times which is also higher than 0.74 times of Coca-Cola. Thus, it could be inferred that Coca-Cola can raise debt because it has scope to increase debt in its capital structure. Further, it is expected that the net profit of the company would be positively affected if it goes for increasing the debt in its capital structure.    

Generally, the long term sources of finance include equity which comprises common stock and retained earnings and long term dent which comprises notes, bonds, debentures, and term loan. The short term sources of finance include supplier’s credit, short term loans, and short term notes (Jones, 2007). In respect of Coca-Cola, it has been observed that apart from using the in-house equity funds, the company also usages a range of long term debt instruments. From the table given below, it could be seen that Coca-Cola usages notes and debentures apart from common stock and retained earnings.    

In the current year, the significant changes could be observed in notes (long term) and loans and notes (short term). The usages of notes increased from $28,912 million in 2015 to $31,003 million in 2016 which account for 7.23%. On the other hand, the usages of short term loans and notes decreased from $13,129 in 2015 to $12,498 million in 2016 which account for -4.81%.    

The ratio analysis has been used in analyzing the financial performance of Coca-Cola. However, the ratio analysis is a useful and the most appropriate tool for financial performance assessment, it suffers from certain limitations. The very first limitation of ratio analysis is that it takes historical data from the financial statements of the company and preparation of financial statements involves use of accounting policies which may differ from company to company in certain cases (Ehrhardt and Brigham, 2008). Thus, the use of different accounting policies will make the financial figures less comparable. Apart from this, the ratio analysis provides analysis of historical trend only; it does not provide analysis of future viability which is important for the investors to make investment decisions (Ehrhardt and Brigham, 2008).   

The bond of Coca-Cola is A+ rated and having face value of $100, paying coupon at the rate of 8% with the term to maturity of 5 years. The interest payments to the bond holders are made yearly. The Yield to maturity applicable to the A+ rated bonds is 3.50%. Using this information, the value of bond has been computed as under:

Further, Pepsico Inc is considering issuing B+ rated bond of face value $100 having 5 years terms to maturity. The bond pays semi-annual interest at rate of 8% and has yield to maturity of 4%. Using this information, the value of bond is arrived at as under: 

The price of Coca-Cola’s A+ rated bond is $120.32 while that of Pepsico’s B+ rated bond is $117.97. The price of Coca-Cola’s bond is higher than the bond of Pepsico. This is due to the reasons that Coca-Cola’s bond is less risky as it has A+ rating as compared to Pepsico’s bond which has B+ rating. 

There are three big rating agencies which dominate the market namely Standards and Poor, Moody’s Investor Services, and Fitch Ratings Ltd (Nigudkar, 2017). These three rating agencies have operations all over the world and captures large part of the market. The companies issuing debt securities take services of these firms. The companies seek credit rating not only because it may compulsory under the regulations of the stock exchanges but also to make their securities more attractive to the public. The companies try to keep the credit rating as high as possible because high credit rating signifies that the company is financial capable to meet out the debt obligations. The high credit rating implies lower risk for the investor and due to low risk the company can price its securities at premium (Mathieson and Schinasi, 2000).       

Conclusion

The report covers analysis of the financial performance of Coca-Cola which is a beverage producer. The analysis of data depicts that the financial performance of Coca-cola is better than Pepsico Inc which is its biggest competitor. The Coca-Cola has higher net margin than Pepsico. Further, Coca-Cola also involves less solvency risk as compared to Pepsico which is depicted from the low debt equity ratio. Apart from this, the bond of Coca-Cola has also been observed to be selling at higher premium than that of Pepsico Inc.

References

Baker, H.K. & Martin, G.S. 2011. Capital Structure and Corporate Financing Decisions: Theory, Evidence, and Practice. John Wiley & Sons.

Bierman, H. 2003. The Capital Structure Decision. Springer Science & Business Media.

Coca-Cola. 2016. Annual report of Coca-Cola Company. Retrieved April 15, 2017, from https://www.coca-colacompany.com/content/dam/journey/us/en/private/fileassets/pdf/investors/2016-AR-10-K.pdf

Coca-Cola. 2017. Coca-Cola Front Page. Retrieved April 15, 2017, from https://www.coca-colacompany.com/homepage

Ehrhardt, M. and Brigham.E. 2008.Corporate Finance: A Focused Approach. Cengage Learning.

Jones, M. 2007. ACCOUNTING FOR NON-SPECIALISTS. John Wiley & Sons.

Mathieson, D.J., & Schinasi, G.J. 2000. International Capital Markets Development, Prospects and Key Policy Issues. International Monetary Fund.

Nigudkar, A. 2017. Credit Rating Agencies. Retrieved April 15, 2017, from https://www.financewalk.com/credit-rating-agencies-sites/

Palepu, K.G., Healy, P.M., Bernard, V.L., & Peek, E. 2007. Business Analysis and Valuation: Text and Cases. Cengage Learning EMEA.

Robinson, T.R., Henry, E., Pirie, W.L., & Broihahn, M.A. 2015. International Financial Statement Analysis. John Wiley & Sons.

Tracy, A. 2012. Ratio Analysis Fundamentals: How 17 Financial Ratios Can Allow You to Analyse Any Business on the Planet. RatioAnalysis.net.

Walton, P. and Aerts, D. 2006. Global Financial Accounting and Reporting: Principles and Analysis. Cengage Learning EMEA.

Yahoo Finance. 2017. Profile of Coca-Cola Company. Retrieved April 15, 2017, from https://in.finance.yahoo.com/quote/KO/profile?p=KO

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