Pros and Cons of Horizontal and Vertical Analysis - Assignment Example

?Pros and Cons of Horizontal and Vertical Analysis Horizontal and vertical analyses are carried out in order to check the financial performance and position of the company either by based upon some specific criterion of line items or on period-to-period basis. The biggest advantage of these analyses is that these are easier to calculate as well as understand. However, when discrepancies arise significantly in percentages, it becomes very difficult to pinpoint the root cause of that change as well as the effect of those changes on other line items of income statement and balance sheet (Brigham et al, 2008). Horizontal Analysis – Income Statement   May-13 Feb-13 Nov-12       $ in million % of Sales $ in million % of Sales $ in million % of Sales Revenues 6,697 100.00% 6,187 100.00% 5,955 100.00% Cost of Sales 3,757 56.10% 3,451 55.78% 3,425 57.51% Gross Profits 2,940 43.90% 2,736 44.22% 2,530 42.49% Demand creation expense 642 9.59% 619 10.00% 613 10.29% Operating overhead expense 1,380 20.61% 1,244 20.11% 1,223 20.54% Total selling and administrative expense 2,022 30.19% 1,863 30.11% 1,836 30.83% Other (income) expense, net 13 0.19% 17 0.27% -17 -0.29% Interest (income) expense, net 3 0.04% -2 -0.03% -1 -0.02% Income before income taxes 902 13.47% 858 13.87% 712 11.96% Income taxes 206 3.08% 196 3.17% 191 3.21% Net income 696 10.39% 662 10.70% 521 8.75% The above table presents the horizontal analysis of Nike for the three quarters such as Q2, Q3 and Q4 ending November 2012, February 2013 and May 2013. In the horizontal analysis, each line item of income statement is divided by the total revenues figure in order to check the percentage of that line item with respect to sales. If cost of sales of Nike is considered, it can be observed that it has remained quite consistent in all the three quarters and remained around 56% of sales (Nike Inc., 2013). Accordingly, the gross profit margin of the company is around 44%. Nike incurs substantial expenditure over its demand creation activities such that this expenditure covers around 10% of sales every quarter. As far as operating overheads of the company are concerned, the company absorbs the expenditures at around 20% of sales level which remained consistent in previous three quarters. Similarly, selling and administrative expenses of the company are around 30% of the turnover of in each of the three quarters. Other incomes and interest incomes are nearly negligible such that they do not even constitute to 1% sales level. Income before taxes has been improved by 2% in third and fourth quarter as compared to second quarter. Income tax expenditure of the company is also improving, i.e. showing a very minute decline on quarter-level percentages. Net income of the company has increased to double figures especially in third and fourth quarter. Overall, from the horizontal analysis of income statement of Nike, it is quite evident that the company has performed well and maintained consistent percentages of sales in the last three quarters. Vertical Analysis – Balance Sheet   May-13   Feb-13   Nov-12 ASSETS   Current assets: $ in million % change $ in million % change $ in million Cash and equivalents 3,337 30.50% 2,557 11.61% 2,291 Short-term investments 2,628 76.97% 1,485 20.34% 1,234 Accounts receivable, net 3,117 -3.56% 3,232 1.38% 3,188 Inventories 3,434 3.15% 3,329 0.33% 3,318 Deferred income taxes 308 12.00% 275 -15.90% 327 Prepaid expenses and other current assets 802 -9.07% 882 20.33% 733 Assets of discontinued operations 0 -100.00% 29 -91.57% 344 Total current assets 13,626 15.58% 11,789 3.10% 11,435 Property, plant and equipment 5,500 2.42% 5,370 1.13% 5,310 Less accumulated depreciation -3,048 -1.99% -3,110 1.90% -3,052 Property, plant and equipment, net 2,452 8.50% 2,260 0.09% 2,258 Identifiable intangible assets, net 382 1.60% 376 0.53% 374 Goodwill 131 0.00% 131 0.00% 131 Deferred income taxes and other assets 993 -6.23% 1,059 8.84% 973 TOTAL ASSETS 17,584 12.61% 15,615 2.93% 15,171     LIABILITIES AND SHAREHOLDERS' EQUITY   Current liabilities:   Current portion of long-term debt 57 0.00% 57 -1.72% 58 Notes payable 121 17.48% 103 3.00% 100 Accounts payable 1,646 32.63% 1,241 -18.30% 1,519 Accrued liabilities 1,986 4.58% 1,899 1.06% 1,879 Income taxes payable 98 -28.99% 138 206.67% 45 Liabilities of discontinued operations 18 -70.97% 62 -68.69% 198 Total current liabilities 3,926 12.17% 3,500 -7.87% 3,799 Long-term debt 1,210 651.55% 161 -5.29% 170 Deferred income taxes and other liabilities 1,292 0.39% 1,287 8.33% 1,188 Shareholders' equity 11,156 4.58% 10,667 6.52% 10,014 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY 17,584 12.61% 15,615 2.93% 15,171 Vertical Analysis – Balance Sheet In the vertical analysis, the performance or position of the company is analyzed on period-to-period basis. Each line item included in the balance sheet is compared with its last year figure in order to check any discrepancy (Baker et al, 2011). The current assets of Nike have improved tremendously such that there was an increase of 3% in the third quarter which increased to 15% by the end of fourth quarter (Nike Inc., 2013). Similarly, a substantial increase can be observed in the fixed assets of the company which rose to around 8.5% from merely 0.09%. The total assets of the company increased by around 12.31%, which is an excellent improvement keeping in view the increase of hardly 3% in the previous quarter. If the other side of the balance sheet is taken into consideration, interesting movements can be noted. The current liabilities section of Nike has increased substantially such it faced a decline of 7.87% in the third quarter whereas it increased by around 12% in the last quarter i.e. bouncing back to its earlier position. Long-term debt has been injected by Nike in the last quarter which was quite negligible in the earlier quarters. However, this caused a decline in shareholders’ equity from 6% to around 4% by the end of fourth quarter. It can be concluded that the balance sheet of Nike experienced a significant volatility as compared to its previous quarters’ financial position. Ratios   Formula   May-13 Feb-13 Nov-12 Current Ratio = Current Assets = 13,626 = 3.47 11,789 = 3.37 11,435 = 3.01   Current Liabilities 3,926 3,500 3,799   Working Capital Ratio = Current Assets - Current Liabilities = 13626 - 3926 = 9700 11789 - 3500 = 8289 11435 - 3799 = 7636   Fixed Assets to Long-term Liabilities = Fixed Assets = 2,452 = 2.03 2,260 = 14.04 2,258 = 13.28   Long-term Debts 1,210 161 170   Price/Earnings Ratio = Price per share = 61.66 = 79.05 54.28 = 73.35 48.18 = 41.53   Earnings per share 0.78 0.74 1.16   Earnings per share = Net Income = 696 = 0.78 662 = 0.74 521 = 1.16   No. of Shares Outstanding 892.6 893.9 448.5   Dividend Yield = Dividend per share = 0.21 = 0.34% 0.21 = 0.39% 0.42 = 0.87%     Price per share   61.66 54.28 48.18 Source: (Yahoo! Finance, 2013) References Baker, H. K. and Martin, G. S., (2011).Capital structure and corporate financing decisions: theory, evidence, and practice. New York: John Wiley & Sons. Brigham, E. F. and Ehrhardt, M. C., (2008). Financial management: theory and practice. 12th ed. New York: Cengage Learning. Nike Inc. (2013). NIKE, INC. REPORTS FISCAL 2013 SECOND QUARTER RESULTS. Retrieved August 12, 2013, from Nike Inc.: http://investors.nikeinc.com/files/doc_financials/NIKE%20Inc%20FY13%20-%20Q2%20Earnings%20Release.pdf Yahoo! Finance. (2013). NKE Historical Prices. Retrieved August 12, 2013, from Yahoo! Finance: http://finance.yahoo.com/q/hp?s=NKE+Historical+Prices Read More