About the Companies
Cerebos Pacific Limited (CPL) Cerebos Pacific Limited (CPL) is a manufacturer and distributor of health supplements, Asian and Western food, and beverages to market throughout Asia and Australasia. The company's products include its flagship BRAND'S chicken essence, other health supplements, coffee, sauces, canned products and desserts. BRAND’S® will celebrate its 175th Anniversary in 2010, with significant milestones underlined by the opening of new state-of-the-art manufacturing facilities in Thailand and Malaysia scheduled for April 2010.The increased capacities in BRAND’S® Essence of Chicken, Bird’s Nest and InnerShine range production as well as for cap manufacturing will enable the Group to keep up with growing demand in the Asia markets and completes their major capex investments for the medium term. The company is headquartered in Singapore and employs about 2,580 people as on September 2007. The Company’s geographical segment includes Thailand, Taiwan, Australia and New Zealand.Having made key strategic investments in the past years, the Group is currently in a strong position to exploit market opportunities to expand sales of their products in the expected recovery of the global economies projected by some economists.
Eu Yan Sang International Ltd (EYSI)
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Eu Yan Sang was established in 1879 with the noble vision of caring for mankind. The group was listed on Singapore Stock Exchange main board as Eu Yan Sang International Limited (EYSI), in 2000.Eu Yan Sang International manufactures and retails Chinese herbs and medicines in more than 140 stores across Singapore, Hong Kong, Taiwan and Malaysia, with a portfolio of more than 280 own-brand products and 1,000 types of medicinal herbs. In addition, the company also operates a chain of Traditional Chinese Medicine (TCM) clinics in Singapore and Malaysia and specialist clinics in Singapore. The company's flagship products include bak foong pills, bo ying compound, deer's tail pills, extra strength lingzhi cracked spores, h4h hair formula, menoease pills and wild yunzhi powder extract.The group has renewed its focus on their core Traditional Chinese Medicine (TCM) business in Year 2008, took the necessary steps to complete their exit from non-core businesses within the group, restructured their investment in the retail concept store red white & pure into a 20% holding in the sanctuary spa this will enable EYS to remain focused on TCM while maintaining an interest in the fast growing health and lifestyle sector.
The company primarily operates in Singapore where it is headquartered and employs 891 people.
Both CPL and EYS have similar ROCE in the Year of 2007 with CPL performs much better than EYSI. CPL exhibits consistent performance as shown in their ROCE and Return on Shareholders’ Fund ratios.This shows that CPL’s management is constant in tax minimization to achieve correlation in both ratios and have a concrete business strategy. Despite the financial crisis in Year 2008, CPL’s ROCE is higher than Year 2007 and Year 2009.
This is because long term borrowing in Year 2008 is much lower. Year 2009 weaker performance (in Q2 and Q3) is due to the economic and financial crisis, exchange rate movement and the USA product recall that affects USA, China and Hong Kong market. Despite the adverse economic conditions, CPL turned in a reasonable performance by maintaining and enhancing their competitiveness through the year.This can be due to CPL’s strategy of continuing with investments that lead to long-term sustainable growth. In shareholders’ point of view, CPL provides a stable profitability with a return of ~ 20% by expanding and diversifying their product ranges over the years strategically while maintain a clear focus in food segment. By making use of existing distributions channels, CPL is able to reduce risks in their new business ventures, consolidate their resources and leverage on their strong brands to carry out a customer-focused approach to exploit market opportunities.To maintain consistent base for comparison, a finance leases liabilities of SGD$56,000 (from Year 2009 financial report note (27) and (28)) was minus off to reflect SGD$31,549,000 in the above calculation as finance lease liabilities is not related to bonds and notes (comprise of certain plant and equipment, and motor vehicles from non-related parties under finance lease).
EYSI on the other hand has dramatic change in their Return on Shareholders’ Fund. The ~8% increase (Year 2008 to Year 2009) is an interesting ratio as the increase did not correlate with the almost unchanged EYSI’s ROCE ratios.One possible explanation can be EYSI’s management is able to minimize the tax charge by using different taxation methods in these two years. The change in these figures gives a clear indication that management’s business strategy has changed to renew focus back to their core Traditional Chinese Medicine (TCM) business.
Both companies have generally same Gross Profit Margin. This suggested that both companies turnover are proportionate to their gross profit percentage.Any other competitors who would like to enter this health food industry should target a similar gross profit margin else they will not be able to survive long term in the market. Although there is a strong sales improvement in Year 2009 for CPL as compare to the previous year, gross profit margin is being affected due to supplier issues faced by CPL, the global economic slump coupled with food safety concerns in People’s Republic of China (PRC) resulting from the local melamine scare and also the import band of BRAND’S® products to US due to trade regulatory issue.
In addition, the switch to a new distributor also affects the product availability on shelf that affect the gross profit performance. On contrary, EYSI’s gross profit margin of EYS has increased by 1. 0ppt due to the revenue grew across all key markets –Malaysia (+19%), Singapore (+4%) and Hong Kong (+1%). The above gross profit calculation is further supported by dividing fixed assets into sales as shown in the table below. Both CPL and EYS are able to generate an approximately SGD$3 of sales from every SGD$1 invested in fixed assets. The net profit margin can be used to gauge the company’s size and turnover. With the above calculation, CPL has generally maintained similar company’s size over the 3 years.The slight decrease in Year 2008 is due to the impact on financial crisis where worldwide companies have retrenched workers to maintain their competitiveness. But CPL has employed back some employees in Year 2009 to curb their increase operations.
There is a sharp decrease in the net profit margin for EYSI. This is attributing to liquidize the Australia business in Year 2008. From the comparison, CPL is a bigger company and is approximately 2 times of EYS business. Although CPL business scale is larger than EYSI, CPL’s operating margin is lower than EYSI over years. CPL has maintained a consistent proportion of spending in their advertising and selling and administrative expenditures to achieve operational efficiency. EYSI on the other hand has a higher operating margin even though their business scale is 2 times smaller than CPL. The advertising and selling spending is almost 2 times more than CPL.This shows that EYS advertising and selling strategy might not be effective as the revenue did not increase dramatically with the extra dollars spent on advertising. 2. 3 Liquidity Ratios ; Working Capital Calculations Calculate ratios that will enable you to comment on the liquidity and management of working capital over the period.
CPLEYSI 30-Sep 200930-Sep 200830-Sep 200730- Jun 200930- Jun 200830- Jun 2007 Current Ratio1. 701. 562. 111. 541. 321. 52 In the health food industry, both companies do not need a high ‘optimal’ current ratio of 2.
0:1 as compared with others that take longer time to sell their stocks to convert to assets.Although health products will not be sold off the shelf as fast as other perishable food (within days or hours), regular customers take supplements daily and will purchase their stocks frequently. Both companies’ current ratios have increased, indicating a healthy financial state and less likely to run into liquidity issues. The fact that CPL is able to maintain a current ratio of 1. 56:1 in Year 2008 shows that CPL is financially stable and able to weather through financial crisis. Year 2008 for EYSI is a critical year as their current ratio is 1. 32:1 (closer to 1).
The increase in current ratio to 1. 4:1 by Year 2009 shows that the change in business strategy by EYSI’s management is heading the right direction and the company is less likely to run into liquidity problem in Year 2010 provided that they are able to continue and manage their cash flow well. CPLEYSI 30-Sep 200930-Sep 200730- Jun 200930- Jun 2008 Quick Ratio 1. 251. 220. 810. 57 The use of quick ratio will be more stringent to measure business liquidity by taking inventories out of the equation.
A suggested ‘optimal’ quick ratio is 1. 0:1 (subjected to the nature of business where the retail sector can survive on a ratio of only 0. 3:1).CPL’s quick ratio reflects the company’s current assets are able to pay up the creditors immediately when they fall due. This will give lenders enough confident to provide CPL longer period for repayment. EYSI30-Jun 200930-Jun 200830-Jun 2007 $'000$'000$'000 (a) Current assets86,256 85,662 76,568 (b) Inventory (stock)40,936 48,565 38,931 (b)/(a) %47. 46%56.
69%50. 85% EYSI on the other hand has much of its liquid assets tied up in inventory as shown in above calculation where inventories take up almost 50% of EYSI’s current assets, making EYSI dependent on the sale of these inventories to finance operations.If the sales is not growing fast enough, these stocks can turn into an albatross that forces the company to issue stock or take on debt. However, EYSI cannot be concluded having undesirable Quick Ratio as different industries have different quick ratio average. More than one health food industry needs to be taken into comparison. In general, EYSI has improved in their overall business operation and less likely to run into liquidity issue in the Year of 2009 (0. 81:1) as compared to Year 2008 (0.57:1). CPLEYSI 30-Sep 200930-Sep 200730- Jun 200930- Jun 2008 Inventory turnover (days) 9883137171From Year 2008 to Year 2009, CPL has increased its inventory turnover by 18% but their inventory turnover figure is still much lower than EYSI. One possible reason for CPL is due to issue with their suppliers and also the requirement from the new distribution channels. EYSI’s management improved managing their inventories over this 2 years but continuous improvement is still requiring by benchmark with CPL’s. High inventory levels are unhealthy because they represent an investment with a rate of return of zero and opens the company up to trouble should price begin to fall. CPLEYSI 30-Sep 200930-Sep 200730- Jun 200930- Jun 008 (a) Inventory turnover (days) 9883137171 Average day to sell a product =365/(a)3. 744. The turnaround time for CPL to clear their stocks is about 8 days faster than EYSI’s. This shows that CPL has a lean operational system where they flushed continuously their inventory with raw materials flow in and through the product system to produce finish products efficiently. The streamline flow of CPL operating system can be due to the fact that their major shareholder belongs to a Japanese company and they might have skills to practice Just-In-Time (JIT) for their operational management.EYSI clearly needs to improve their operational management, especially in the area of inventories management as they take an average of 11 days to clear a product. CPLEYSI 30-Sep 200930-Sep 200730- Jun 200930- Jun 2008 Debtor turnover (days)55523036 Creditor turnover (days)1471343649 From the Debtor and Creditor turnover calculation, CPL enjoys good relationships with their distributors or debtors as well as their suppliers or creditors.
Generally, businesses request payment within 30days of delivery goods but CPL is able to provide ~50 days for the debtors to make their payments.In this case the distributors will prefer working with CPL than their competitors. In contrast, EYSI did not enjoy special terms with either their debtors or creditors. The debtors are not taking an unrealistic time to pay and there is nothing to suggest that EYSI is putting pressure on its customer. EYSI is also not slow in paying their creditors with slightly longer than 30days credit terms. The sharp reduce in their current ratio and quick ratio might be one of the reasons the creditor turnover days are reduced from 49 days in Year 2008 to 36 days in Year 2009. CPLEYSI 30-Sep 200930-Sep 200730- Jun 200930- Jun 008 Debtor turnover (days)55523036 Creditor turnover (days)1471343649 Working Capital Cycle61131157 The figures of Year 2008 and Year 2009 above show that CPL can raise the cash quickly and there is no need to have a large amount of working capital available as CPL’s cash is tied up in any given piece of stock for 1 day in Year 2008 and 6 days in Year 2009 before it is recovered with profit.
However, if there is a surge in demand, CPL’s production might not be able to produce fast enough to meet the increase in demand. Hence, CPL has decided to build factories in Malaysia and Thailand to cope with demand increase.EYSI on the other hand has a high working capital cycle as their inventories constitute almost 50% of their current assets. The working capital cycle for EYSI is incredible higher than CPL – almost 100 times. Operating management is required by EYSI to achieve efficiency. EYSI sales team also need to work harder to engage more distribution channels in order to increase their sales. The current net realizable value finished goods only comprises 25% of the total inventories as show below.
EYSI30-Jun 200930-Jun 2008 $'000$'000 At cost: Raw materials4,1554,232 Work-in-progress3,2774,468 Packaging materials257225Finished goods24,14626,973 31,83535,898 At net realizable value: Finish goods9,10112,667 Inventories stated at lower of cost and net realisable value40,93648,565 2. 5 Gearing Ratios Calculations (a)Calculate the gearing ratios for the two companies. Gearing Ratios Analysis (b) Discuss the capital structure of the two companies and the implications of the funding decisions that were made in the past.Both companies have low gearing ratios and are far away from the typical gearing ratio (about 40%). They can be concluded to be conservative in borrowing and depend more on their retained earning from the previous years to make further investment in the long run. CPL long-term borrowing is primarily for the building of new plants and development in their R&D while EYSI did not borrow any long term banks loans in Year 2008 and Year 2009.
Comparing both companies, CPL is stronger in the industry as the company is expanding while maintaining a health cash flow with low risk in long-term borrowing.CPL will be a better company to invest as compare to EYSI as their business strategies have proved that they are expanding wisely. In term of interest coverage, CPL has no interest expense as they manage to offset by their financial income (comprise of held-to-maturity financial assets, fixed deposits and sub-participation loan and the share of results of associated company and joint venture). From the tight balance-sheet controls and prudent capital expenditure, CPL has been generating strong free cash flows and is typical no risk to service its debt with interest gain greater than loan interest rate.This is shown in the table below. CPL30-Sep 200930-Sep 200830-Sep 2007 $'000$'000$'000 Financial income2,745 8,057 12,510 Financial cost(3,755)(6,082)(8,338) Share of results of: -associated company2,262 2,457 3,193 - joint venture4,194 4,442 6,185 Total Interest expense/income5,446 8,874 13,550 Although EYSI did not have any long term borrowing, their interest expenses are still higher than their interest income. EYSI interest income depends on fixed deposit as the sole source.
In Year 2007, their interest coverage is higher as the Australia business has not liquidized.The actual figures only reflect in Year 2008 and Year 2009 after EYSI refocus. The interest coverage of 15. 48 in Year 2009 means that the profit before interest and tax needs to be reduce by a factor of 15. 48 before interest charges take effect and force EYSI into a loss-making situation. As a general rule of thumb, an interest coverage ratio under 1. 5 is not desirable for any investors to own that stock.
Hence, the increase interest coverage ratio implies that EYSI is able to meet its interest obligations even if there is a decline in profits till a factor of 15. 8. 2. 7 Investment Ratios Calculations (a) Calculate investment ratios for the two companies. For this purpose, you can use the current share price as the share price on the last day of the financial year may be difficult to obtain.
Investment Ratios Analysis b) Discuss the implications of the investment ratios to existing and potential investors in this industry. CPL did not have a fixed dividend policy but a dividend of average of SGD$0. 26 in the past three years translates into a payout of more than 90%. Barring significant acquisitions or major capital expenditure, this level is expected to maintain by CPL’s management with the support by current net cash and strong operating cash flows in the next few years. EYS also did not have a fixed dividend policy but there is a 2.
6 times increase in the EPS from 1. 37 cents to 3. 62 cents.Though the dividend pay out seems to be less in Year 2009 as compared to Year 2008, this is due to the low net income in Year 2008. The dividend yields for both companies are similar and this means that there will be no difference for an investor who is looking to supplement his or her income to choose over CPL or EYS. The only difference for the investor to consider will be the share prices. CPL’s share price is 10 times more than EYS’s and this means investors will require more cash to purchase CPL’s shares.
Investors who have more disposable cash, looking for low risk high payout dividend should invest in CPL.For investors who have less disposable cash, EYS will be recommended as the payout for Year 2009 is consider good provided EYS able to maintain their new business strategy in the subsequent years. The P/E ratio is what the market is willing to pay for the company’s earning. Some investors prefer a stock with high P/E ratio as high potential stock while some will view a high P/E as an overpriced stock and the company is overvalued. The above P/E calculations from both companies for Year 2009 are quite similar so no conclusion can be drawn if the P/E ratios are too high or too low.But both companies are confirmed profitable as a company that does not have any P/E ratio is not profitable at all. From the above investment ratios, existing investors can be recommended to continue holding these 2 shares.
EYS dividend payout is still not as stable as CPL. Hence, for potential investors, it would be better to invest in CPL than EYS as CPL has a consistent good financial track record. 2. 9Limitations of Financial Reports Discuss the problems that are faced by people who wish to assess the performance and financial position of a public company if only the published reports are available.Ratio analysis is a very useful technique for the interpretation of financial statement. However it diverts attention from the figures and statements themselves. It is important to look at aspects such as the sheer size of the company under consideration.
A larger company will have more bargaining power and may be able to enjoy economies of scale. It is also important to look at information in the notes to the statements, some of which is not reflected in the ratios. Inter-firm comparison may not be useful unless the firms compared are of the same size and age and employ similar production methods and accounting practices.Even within a company, comparisons can be distorted by changes in the price level. If someone is suing the company for damages, this will be disclosed in a note stating the amount claimed and possibly giving an indication of the expected outcome but it will not appear on the balance sheet. Moreover, some of the attributes like management and staff’s commitment, brand positions and customers’ loyalty affect greatly in the company’s performance and financial but these are difficult to quantify for people to assess.Also, there are peculiarities of the trade that make it difficult to interpret certain ratio e.g. service industries where no goods are being transacted. Comparison can be affected by different accounting policies or by other external factors. One of the examples is that both companies might use different methods for the calculation of depreciation then any ratio based on their financial statements might not be comparable. The accounting periods are also different for the companies and this will impact share price, currency conversion etc that add difficulties to the comparison.Similarly, two similar businesses could be affected to different extents by currency movements. Ratios are calculated on the basis of past financial statements.
They do not indicate future trends and they do not consider economic conditions. The case EYSI has more cash in different type of currency as compared to CPL. Distortion created by adding together asset values that are denominated in term of different monetary values can overstate or understate the profit figures. In the financial reports, assumption is made that the purchasing power of money will remain unchanged.However if inflation is severe, the financial statement based on historical costs can be seriously misleading and unrealistic. Moreover, in the current ratio calculation, inventories are inclusive in the current assets and might have significant influence on the appropriate presentation of the financial conditions and operating results of a company. The valuation and presentation of inventories might not be necessarily worth the amount on the books especially when the accounting period is a year.
This is particularly true in retail that routinely sees close-out sales with 60% to 80% markdowns.Hence the market value should be determined on the final day of the fiscal year. However, if prices are unstable and there are great price fluctuations before that day, market value should be the average market value of the month. The net realizable value in the calculation thus did not reflect the actual final cost and disposal costs. This can even worsen when a company going out of business is forced to liquidate its inventory within a short time frame. Sometime, these inventories or raw materials might become pennies on the dollar or worthless if these raw materials are over their expiry dates.The finish goods, raw materials or even packaging material might be damaged and subject to disposal but these costs are not regarded as inventory costs.
If a company experiences any seasonal fluctuations e. g. a slowdown after the Christmas season, inventory turnover calculation will not result in an accurate cost of goods sold amount. As a result, the calculated turnover will not reflect actual inventory performance. The company might reflect satisfactory inventory turnover ratio but they might be having a lot of stocks throughout the years and only manage to sell through during the Christmas season.
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