Economic Environment in Which Barratt Developments PLC Operates - Essay Example

? A Company Report on Barratt Development Plc s 3rd January Table of Contents 0 Introduction 4 2.0 Economic environment in which Barratt Developments PLC operates 4 2.1 Interest rates 5 2.2 Income levels 7 2.3 Government policies 7 2.3.1 Help to Buy Scheme 8 3.0 Analysis of Barratt Developments PLC financial performance 8 4.0 Strategy for Barratt Development Plc future economic success 10 4.1 The Ansoff economic model 11 4.2 Strategic options for Barratt Development Plc future economic success 12 Appendices 14 Executive Summary The company report begins with an analysis of the economic environment in which Barratt Development operates and in this regard it is noted that present the economic indicators of interest and income levels are favorable to the business of the company. The second section of the report critically appraises the recent performance of the company in the past two years and it was noted in this appraisal that the company has been experience an improvement in its financial performance. In the comparison of the company’s recent performance to that of its closest competitor, Taylor Wimpey Plc it is noted that thou it generates more revenue than this competitor it posted lower profits due to huge expenditure arising from a huge debt repayment. Under the third section of the report, the strategies of market penetration and development are presented as the reasoned strategies for the future economic success of the company. 1.0 Introduction The historical background of the modern housing sector in the United Kingdom indicate that initially the sector was dominated by the government and private companies, which constructed houses for their workers but there was very little participation of private specialized construction companies. However, this changed with the increased pressure to adopt the neo-liberalization economic practices that encouraged privatization of most public corporations and led to the emergence of specialized construction companies, which revolutionized the housing sector and resulted in the development of unique, well-designed, and constructed houses and business premises (Lowe, 2011). This report focuses on the Barratt Development PLC, which is among the largest residential property development companies in the United Kingdom. It has been in operation since 1958 and is largely acclaimed with the development of the UK residential property sector (Lowe, 2011). This study will commence by looking into the economic environment in which the Barratt Development PLC operates. Secondly, it will critically appraise the company’s financial performance in the recent years whilst comparing it to its closest competitor. Lastly, the study will incorporate an economic model and provide related information as appropriate in order to devise reasoned strategies for the future economic success Barratt Development Plc. 2.0 Economic environment in which Barratt Developments PLC operates Among the crucial economic factors that can indicate the health of the UK economic environment in which Barratt Developments PLC operates in include interest rates and the prevailing income levels (Myers, 2013). This discussion will also incorporate an analysis of the impact of government policies on the housing sector and their impact on the operations of Barratt Developments Plc. 2.1 Interest rates In the studies conducted by Myers (2013), he stated that the interest rate levels within a country largely determine the accessibility of credit and in this case the accessibility of mortgage. The rate of interest at which borrowers are going to repay back their mortgage largely determines the booms and busts on the UK’s house prices. If the rate of interest charged on mortgage finance is considerably high, first time homebuyers will be discouraged and this will lead to a bust in the housing prices due to the low demand. If the level of interest rate is perceived to be at an affordable rate then first time homebuyers will seek for credit in order to acquire their own houses, which will lead to an increase in demand for more houses by first time homeowners and subsequently a boom in house prices (Warren, 2013). Referring to the studies conducted by Jowsey (2011), the issue of interest rates is also largely associated with the rate of inflation rate, which also determines the booms and busts in the prices of houses. The graph in the appendix section indicate that since 1989 to 2009 the interest rates in the UK have been high compared to the rate of inflation, however, this trend changed from 2009 as the rate of inflation increased indirectly proportional to the interest rates. However, according to BBC News (2013), the Bank of England through its monetary policies was able to keep the interest rates at a record low of 0.5% since the year 2009. This means that since 2009, the cost of credit has drastically gone down but the purchasing power of consumers has reduced due to high rate of inflation. This additionally denotes that in this period, Barratt Developments Plc had been selling houses at higher prices that only a few people can afford, and hence why the company recorded low sales figures/ revenue. According to Jowsey (2011), the rate of inflation within a country determines the purchasing power of consumers. According to BBC News, the Office for National Statistics noted that as of November 2013, the rate of inflation in UK was 2.1% which was a significant drop compared to the previous periods and the average of 2.81% for the period 1989 to 2013. This therefore, means that Barratt Developments PLC was selling its residential property at much lower rate in November, 2013. High inflation rate, which also means increase in consumer wealth has the overall effect of increasing house prices thereby creating a boom in the market. In such a situation, Warren (2013) noted that homeowners could remortgage their house leading to an equity withdrawal, which can then be spent in the general economy. These extra funds and spending by homeowners, results to high economic spending, economic growth and has the potential to further increase the rate of inflation. Low inflation rate means a considerable amount of wealth disposable is accessible by consumers. Thus, consumer spending is capped at a considerably low level due to limited funds, and this generally means low spending in the overall economy. House prices in times of low inflation rates are usually low due to low levels of consumer spending in the general economy, also in such times the housing market is usually experiencing a bust (Warren, 2013). In the writings by Myers (2013), she noted that the national government through its’ monetary policies is able to control the inflation rates within a country by adjusting the interest rates. In times when the inflation rate is higher, the government increases the interest rates in a bid to reduce the money supply in the economy, which also reduces prices levels in the market. In times when the inflation rate is low beyond a desirable level, the government can reduce the rate of interest thereby creating additional money supply in the general economy, which will consequently increase prices level in the housing market. 2.2 Income levels The income per capita in an economy also determines the level of spending within the aforesaid economy, De Toni and Tonchia (2003) noted that when income level within a country is high, the level of consumer spending also increases and so does the prices in the market. When one has a high disposable income he or she can easily afford a mortgage, thus when income levels within a country are high the house prices will definitely experience a boom. When the income levels are low, house prices usually experience a bust. According to BBC News (2012), the disposable income for individuals in the UK as of July 2012 was at a nine-year low. In particular, the disposable income per individual putting inflation levels into consideration fell by 1% according to the Office for National Statistics. However, following the reduced levels of inflation as noted above in the year 2013, it was noted that there was a significant rise in the disposable income in the UK in the past year meaning that numerous people were able to afford to purchase residential properties built by Barratt Developments Plc. 2.3 Government policies Just like any other country, the UK government has put in place policies that regulate the housing industry in order to ensure that it can benefit and address the needs of its citizens. These policies touch on every aspect in the housing market including the cost of housing, the mortgage market, construction of new buildings, incentive to build among other issues. 2.3.1 Help to Buy Scheme According to BBC News (2014), in the year 2013, the UK government introduced a new scheme whose main objective was to help those people with sufficient income that can enable them to pay the monthly repayment fees but they are unable to afford the initial huge deposit required by bankers for mortgage. Under the Help to Buy scheme the UK government will provide a loan of 20% of the price of the house to the homebuyer. Because of this loan the homebuyer will only need to provide 5% of the house price as the deposit and then he or she will need to get a mortgage to cover the remaining 75%. It is important to note that this scheme is only available to first-time homebuyers and people moving to a newly built house that costs up to ?600,000. Shirbon and Evans (2014) wrote that these scheme has so far resulted in a sharp increase in the demanded for mortgages and houses, which consequently, has also resulted in an increase in the prices for houses whereby an area such has London has recorded a 12% increase in the prices for houses. This therefore, means that through this new government scheme, the Barratt Development Plc is posed to record a sharp increase in the demand for new houses since the scheme has empowered many people to become new homeowners. Secondly, the adjoining increase in house prices especially in London means that the company is posed to record a sharp increase in profits. 3.0 Analysis of Barratt Developments PLC financial performance According to Barratt Developments PLC background review, one of the best financial years for the company was in the period of June 1982 to June 1983 when it sold a record of 16,500 houses, which instantly made it the largest player in the UK housing construction sector. In the financial year ending 2012, the company managed to sell 12,857 houses. In the year ending 2013, it was able to sell 13,663 and this marked a significant improvement of 6% in total sales, which proved that indeed the economical factors in the UK market were more favorable in the year 2013 compared to the previous years since 2009. As a result of the increase in the number of houses that were sold by the company in the financial year ending 2013, the company was able to post an operating profit of ?252.7 million, which was a significant improvement of 32.2% from the previous financial year ending 2012 whereby the operating profit was ?191.1 million. The profit before tax for the financial year ending 2013 was slightly higher than that of 2012 since it was ?104.8 million whilst that for 2012 was ?100.0 million. The slight improvement of only ?4.8 million despite the 6% increase in the houses that were sold in the financial year ending 2013 coupled with revenue of ?2,606.2 million was attributed to repayment of huge debts in the financial year ending 2013. This is because at the financial year ending in 2012, the company had a net debt of ?167.7 million and in the financial year ending of 2013, the outstanding net debt had decreased to ?25.9 million. This meant that during the financial year of 2012 to 2013, the company used ?141.8 million to repay some of its debts and some of this money was deducted from the revenue that was generated during this particular financial year. Additionally, from the financial statements it is noted that in the year 2013 the company posted a higher net income of ?75 million, which was the highest since the year 2009. It is important to note that in the year 2009, the company made a staggering loss of ?469 million and in the successive years of 2010 and 2011 it also made losses, all of which were attributed to the downturn effect arising from the 2007 to 2009 global economic recession that greatly affected the housing market. Because of the improved financial performance in the financial year ending 2013, the company’s shareholders were awarded with a high earning per share of 0.08, which was a slight increase compared to 0.07 that was posted in 2012. The increased earnings per share was attributed to an increase in the return on equity that jumped from 2.28% in the year 2012 to 2.48% in the year 2013. One of the key rivals of Barratt Development Plc is the Taylor Wimpey Plc, which also specializes in the construction of residential properties mostly within the UK market. In its financial year ending March 2013, the company posted revenue of ? 2,019.0 million, which was a significant improvement, compared to the previous year revenue of ? 1,808.0 million. Based on this figures it is correct to state that Barratt Development Plc outperformed Taylor Wimpey PLC in terms of revenue generation in the two previous financial periods. However, in terms of profitability it is noted that Taylor Wimpey Plc was more profitable than Barratt Development PLC since it posted a profit that is nearly twice that of Barratt Development Plc i.e. ?149.3 million compared to Barratt’s ? 75 million. This was attributed to the high expenses that Barratt Development Plc had incurred during this particular financial year most of which were directed towards debt repayment. 4.0 Strategy for Barratt Development Plc future economic success From the analysis conducted above it was noted that presently Barratt Development Plc operates in a favorable economic environment since the major indicators are in a position that favors the business i.e. more people in the UK are presently capable of purchasing residential properties that have been developed by Barratt Development Plc. However, Jowsey (2011) suggested that due to the unpredictable nature of economic indicators it is important for Barratt Development Plc to deploy strategies that will safeguard its current market position as well as financial performance that was noted to be experiencing significant improvements, which is an indication of recovery from the downturn experience during the past financial crisis. 4.1 The Ansoff economic model The most appropriate economic model that Barratt Development Plc could use in order to select the strategic options that it might implement to safeguard its position in the market and increase its profitability is the Ansoff matrix. With reference to the Ansoff Matrix, it is noted that four strategic options are presented, which can then be implemented to facilitate the continued growth of Barratt Development Plc (Ansoff, 1957). The strategic options include market penetration, market development, product development, and diversification (De Ton & Tonchia, 2003). Appendix 1 shows a graphical illustration of the Ansoff Matrix strategic options. According to the studies conducted by Jowsey (2011) under product development, Barratt Development Plc will have to enhance the variety of properties that it normally develops in order to meet customers’ needs and expectations. This will only be achieved if the company utilizes the information collected from market research that will denote on what exactly their customers need and expects. Presently, the company already offers a wide variety of properties that suits the needs of different consumers and this means that this option has already been exploited by the company. The second strategic option presented under the Ansoff matrix is the market penetration strategy, which involves penetrating deep into the market where Barratt Development PLC had not previously ventured and this would be achieved by acquiring land in other foreign countries and then developing residential properties. As for the strategic option of product differentiation, it is correct to argue that it is not viable because presently Barratt Development Plc differentiates its properties by using different designs or architecture, and even construction materials. According to De Toni and Tonchia (2003), in employing the market development strategy, Barratt Development PLC will have to implement strategic measures in order to ensure that new homeowners prefer to purchase their residential properties, and this could include the introduction of discount to homebuyera or free maintenance services to the homeowners. 4.2 Strategic options for Barratt Development Plc future economic success Based on the analysis of the strategic options that are available for Barratt Development Plc, it can be stated that market penetration and market development are the most suitable strategic options that can guarantee future economic success for the company. The strategic option of market penetration is supported by the fact that the UK’s land mass area limits the expansion opportunities for the company in the near future since large parts of the country have already being developed and therefore, there is limited space for the construction of residential properties in prime areas. As a remedy to this possible hurdle in the attainment of future economic success, the company can start acquiring and developing land in other foreign company where there is still little competition in the housing sector. Through market penetration strategy, Jowsey (2011) argued that the company would be able to increase its market share and even the number of houses that it will be selling annually, which will result to a definite increase in revenue generated by the company. Additionally, Jowsey (2011) stated that the market penetration strategy would act as a risk management mechanism since its business performance would not only be determined by the economic environment of a particular country, moreover, if the economic conditions become unfavorable the company could rely on its foreign businesses to boosts its overall financial performance. Under the market development strategy, the Barratt Development Plc will focus on attracting new homeowners, even ensuring second or third homebuyers prefer to make a purchase via them, and this will ensure that it has a steady business flow throughout the year. Under this strategic option, the company will offer discount to new homeowners in order to encourage them to make a purchase. Secondly, in order to ensure they buy other properties from the company, they will offer free maintenance services in order to create greater customer satisfaction (Jowsey, 2011). References Ansoff, I. (1957). Strategies for diversification. Harvard Business Review, 35(5), 113-124. BBC News. (2012). Disposable income at nine-year low, ONS figures shows. Retrieved from http://www.bbc.co.uk/news/business-19060716. BBC News. (2013). UK inflation rate unchanged at 2.7% in September. Retrieved from http://www.bbc.co.uk/news/business-24532808 BBC News. (2014). David Cameron rejects Help to Bu housing bubble fear. Retrieved from http://www.bbc.co.uk/news/uk-25572757 De Toni, A., & Tonchia, S. (2003). Strategic planning and firms' competencies: Traditional approaches and new perspectives. International Journal of Operations & Production Management, 23(9), 947-976. Jowsey, E. (2011). Real estate economics. Basingstoke, UK: Palgrave Macmillan. Lowe, S. (2011). The housing debate. London, UK: The Policy Press. Myers, D. (2013). Construction Economics: A New Approach. London: Routledge Shirbon, E., & Evans, C. (2014). Over 6,000 seek mortgages under UK Help to Buy scheme. Retrieved from http://uk.news.yahoo.com/over-6-000-seek-mortgages-under-uk-help- 001645178--sector.html#WVFbZyd Warren, M. (2013). Economic analysis for property and business. London: Routledge. Appendices A. The Ansoff matrix Source: /www.tutor2u.net/business/images/Ansoff Matrix B. Interest rates and inflation in the United Kingdom Source: http://www.google.com/imgres Read More