Business Decision Making and Financial Analysis of TESCO Plc

This article discusses different capital budgeting techniques such as payback period, accounting rate of return, net present value, and internal rate of return. It also evaluates the financial performance of TESCO Plc using various ratios such as gross profit margin, return on assets, current ratio, liquid ratio, stock days, trade receivable, trade payables, and gearing ratio. Additionally, it highlights the limitations of accounting ratios and factors affecting TESCO's performance.

Business Decision Making

TABLE OF CONTENTS
TASK ONE......................................................................................................................................3
Question 1(a)...............................................................................................................................3
Question 1(b)...............................................................................................................................5
Question 1(c)...............................................................................................................................7
TASK TWO.....................................................................................................................................7
Question 2(a)...............................................................................................................................7
Question 2(b)...............................................................................................................................8
Question 2(c)...............................................................................................................................9
REFERENCES..............................................................................................................................10

TASK ONE
Question 1(a)
1. Payback Period
Project Manchester
Years Cash Flows Cumulative Cash Flow
1 10000 10000
2 50000 60000
3 50000 110000
4 80000 190000
40000
0.5
Payback Period 3.5 years
Project London
Years Cash Flows Cumulative Cash Flow
1 95000 95000
2 25000 120000
3 20000 140000
4 50000 190000
40000
0.8
Payback Period 3.8 years
2. Accounting rate of return
Project Manchester
Years Cash Flows
1 10000
2 50000
3 50000
4 80000

Estimated Life 4
Initial Investment 150000
Scrap Value 10000
Average investment 80000
Average Annual Net Earnings 47500
Average Rate Of Return 59.4
Project London
Years Cash Flows
1 95000
2 25000
3 20000
4 50000
Estimated Life 4
Initial Investment 180000
Scrap Value 40000
Average investment 110000
Average Annual Net Earnings 47500
Average Rate Of Return 43.2
3. Net Present Value
Project Manchester
Years Cash Flows PV Factor Discounted Cash Flow
1 10000 0.92 9174.31
2 50000 0.84 42084
3 50000 0.77 38609.17
4 80000 0.71 56674.02
Total 146541.5
Initial
Investment 150000

NPV -3458.5
Project London
Years Cash Flows PV Factor Discounted Cash Flow
1 95000 0.92 87155.96
2 25000 0.84 21042
3 20000 0.77 15443.67
4 50000 0.71 35421.26
Total 159062.89
Initial
Investment 180000
NPV -20937.11
4. Internal rate of Return
Project Manchester
Years Cash Flows
0 -150000
1 10000
2 50000
3 50000
4 80000
IRR 8.15%
Project London
Years Cash Flows
0 -180000
1 95000
2 25000
3 20000
4 50000
IRR 2.59%

Question 1(b)
Techniques of Capital Budgeting:
Payback Period:
Under this method, initial investment of project should be returned from the project as
soon as possible. When total cash flows is equal to initial outlay, then that period is pay back
period for particular project (Habibollahzade and et.al., 2019). It is a simple and easy way which
is used to compare different projects by calculating no. of years it will take to get back initial
amount invested & project with lesser years will be preferred.
Advantages:
 It involves less time, cost and labour as compared to other methods. It reduces the losses arising from obsolescence of assets because shorter payback
periods are recommended.
Disadvantages:
 Method ignores short term liquidity of company.
 Time value of money concept is not considered in this method.
Accounting rate of return:
It is a capital budgeting tool which is useful to determine project's profitability while
comparing multiple projects. In this method, investment's average expected return rate is
determined by dividing expected income by initial investment and then making a comparison
with desired rate of return to approve or reject a project (Javad, 2019). The proposal is accepted
when ARR is equal or greater than required rate of return.
Advantages:
 It is based on financial profit, therefore, measures profitability of investment. This is a simple method to be used which is widely acceptable & easily understood be
everyone.
Disadvantages:
 ARR is calculated on basis of profits earned, thereby, ignoring cash flows. It also ignores terminal value which is very important in accounting.
Net Present Value:

NPV calculates whether all cash flows generated from an investment will exceed cost of
starting that project. By having a look at all income to be generated from investment and
converting it in into today's pound, company can decide which project is worthwhile (López-
Marín and et.al., 2021). Generally, method explains if project will have positive or negative
outcomes.
Advantages:
 It calculates income generation from an investment by applying discount rate (time value
of money) which serves to be a clear measure. For long term projects, this method is perfectly suitable and appropriate.
Disadvantages:
 NPV assumes that discount rate remain constant for the entire life of project but is
changes every year. Another baseless assumption is that this method accurately predicts future cash flows.
Internal Rate of Return:
IRR is the expected compounded return rate that is earned on a project on annual basis.
This method allows senior management to compare and rank investments proposals on the basis
of projected profits (Speranda and Speranda, 2019). It is widely used in comparing private
equities and venture capital.
Advantages:
 Method is very simple to apply and easy to interpret results by comparing IRR and cost
of capital. The concept of time value of money is considered in this internal rate of return
method.
Disadvantages:
 Difficulty in calculating the return makes this method a complex one to understand.
 This method is not suitable when a comparison is made between mutually
exclusive projects.
Question 1(c)
When company is selecting Payback period as a method to choose between 2 proposals,
then Aisha Plc can go in for Project Manchester because it will cover the initial investment

within 3.5 years as compare to project London which will take 3.8 years to cover initial outlay.
In payback period method, proposal is chosen in terms of time taken to cover the initial cost.
In addition to this, if Aisha Plc is opting for Accounting rate of return, in that case also
Project Manchester proves to be profitable for company because it is providing a return of 59.4.
on the other hand Project London is giving a return of 43.2 which is less beneficial as compared
to other project.
Furthermore, on comparing two proposals by net present value method also, Manchester
proves to be favourable. Although, returns from both projects are negative but project
Manchester is leading to negative of 3458.5 whereas Project London is giving returns of -
20937.11.
On contrary, when company made a comparison of 2 investment proposals by using
internal rate of return, then also Project Manchester is preferable because of higher IRR in it. The
reason being IRR from Manchester is 8.15% and that from London is 2.59%.
TASK TWO
Question 2(a)
TESCO Plc's performance and position over last three years is evaluated using the
different ratios. Gross profit margin of company is declining from last three years, that is, from
6.38% to 5.19% from 2019 to 2017. It shows TESCO is not able to make good sales from last
three years which is leading to decreased GPR. Either the company is charging high price for its
products or is incurring heavy production costs (Haralayya, B., 2021). The return on assets is
also decreasing which indicates that enterprise is not using its assets efficiently to generate
profits. ROA has decreased dynastically from 3.41% to 0.32% which shows that company assets
are either not used optimally or are using old and obsolete assets to earn profits. ROCE is also
showing bad signs on performance of company which indicates decreasing trend from last three
years i.e. 5.90% to 0.55%.
Now, the liquidity position of company is growing which means company is maintaining
enough cash balance to meet its short term obligations. Current ratio is increasing from 2017 to
2019 from 0.61 to 0.79 which shows TESCO Plc is having adequate current assets to settle its
liability. Along with this, liquid ratio has also increased from 0.49 to 0.68 that depicts even

without inventory firm can pay its current liability. However, company still needs to improve this
liquidity ratios by keeping at least 2 current assets for 1 current liability.
In addition to this, efficiency ratios are also improving which shows company is making
better sales and collecting its dues from customers on time. Stock days is rising from 14.95 to
15.02 which means company is easily converting its inventory into sales. Trade receivable show
that company takes 2 to 3 days on average to make collection from debtors which depicts quick
collection procedure of TESCO. Moreover, trade payables indicates that company pays its dues
within 32 to 33 days, that is, it almost takes a month to make payments.
On the other hand, Gearing ratio is surging from 161.26% to 354.44% that exhibits
TESCO Plc's dependence on external funds to carry out its business operations. It means
enterprise is having low equity proportion in its total funds and depends on loans and advance to
finance its activities.
Question 2(b)
Limitations of Accounting Ratios:
 If financial statements are manipulated to show better financial position of business, then
the ratios so calculated from such statements do not provide accurate results. Such
window dressing may lead to wrong conclusions and analyst may not be able to identify
true position.
 Accounting ratios will not show correct performance of company if it keeps on changing
its accounting procedures and practices. Business following LIFO method for inventory
calculation changes its method to FIFO, then ratios will differ and proper analysis cannot
take place (Csikosova, Janoskova and Culkova, 2019).
 Future decisions are taken on the basis of historical informations which becomes the
limitation of financial ratios. It means ratios are calculated on the basis of past data and
future forecasting is made on that basis.
 Another limitation is that of complexity, that is, ratios make comparison a more complex
& difficult procedure which leads to misleading conclusion on the basis of price level
changes.
 Comparison of ratios cannot be done if company does not belong to same industry or is
not of similar size & nature.

Question 2(c)
Three factors affecting performance of TESCO:
 Company is using advanced technology which improves its total sales and enhances
shopping experiences of customers. TESCO launched barcode system for product
counting which is done automatically. It also brings in the advance features of M-
Commerce and payment through mobile apps.
 TESCO Plc's operating profits declined because of false accounting declaration of wrong
presentation of profits and income (TESCO SWOT Analysis 2019 | SWOT analysis of
TESCO, 2020).
 Another factor that positively affects its performance is the opportunity for joint ventures
in region of underperformance by TESCO. Such alliances will enhance company
performance because local companies have knowledge about market potential.

REFERENCES
Books and Journals
Habibollahzade, A. and et.al., 2019. Enhanced performance and reduced payback period of a low
grade geothermal-based ORC through employing two TEGs. Energy Equipment and
Systems. 7(1). pp.23-39.
Speranda, I. and Speranda, Z., 2019. The Comprehensive Method of Solving the Multiple
Internal Rate of Return Problem. Montenegrin Journal of Economics. 15(1). pp.73-86.
López-Marín, J. and et.al., 2021. The Financial Valuation Risk in Pepper Production: The Use of
Decoupled Net Present Value. Mathematics. 9(1). p.13.
Haralayya, B., 2021. Ratio Analysis at NSSK, Bidar. Iconic Research And Engineering
Journals. 4(12). pp.170-182.
Csikosova, A., Janoskova, M. and Culkova, K., 2019. Limitation of financial health prediction in
companies from post-communist countries. Journal of Risk and Financial Management.
12(1). p.15.
Javad, V., 2019. Economic evaluation of the Health, Safety and Environment (HSE)
management system. Advances In Management. 12(1). pp.30-33.
Online
TESCO SWOT Analysis 2019 | SWOT analysis of TESCO. 2020. [Online]. Available through:
<https://bstrategyhub.com/tesco-swot-analysis-2019swot-analysis-of-tesco/>