Ratio Analysis of Wesfarmers Limited: Liquidity and Profitability Ratios

This report analyzes the liquidity and profitability ratios of Wesfarmers Limited using the balance sheet, profit and loss account, statement of changes in equity and the cash flow statement of the company for the year 2017. The report suggests that the company needs to improve its liquidity position and cash flow in the coming future.

Principles of
Accounting
Assignment

Table of Contents
Background of the report............................................................................................................................3
Introduction.................................................................................................................................................3
Ratio Analysis..............................................................................................................................................4
Liquidity Ratios........................................................................................................................................4
Profitability Ratios...................................................................................................................................5
Conclusion...................................................................................................................................................6
References...................................................................................................................................................6

Background of the report
The report has been prepared has been prepared on the company Wesfarmers Limited and the
analysis has been done using the ratios. Out of the given 5 types of ratios, few of them has been
selected to analyze the performance of the company over the year and where it stands in
comparison with the industry. During the ratio analysis, the balance sheet, profit and loss
account, statement of changes in equity and the cash flow statement of the company for the
year 2017 was analyzed and results are shown based on the same. For the convenience of the
readers, the page of the annual report from where the data has been extracted has also been
given (Choy, 2018).
Introduction
The company which has been chosen for analysis here is Wesfarmers Limited and the annual
report pertains to the year 2017. The company is the largest in Australia in terms of revenue or
sales as well as giving employment to the people. It has a history of over 100 years and is listed
on Australian Stock Exchange. It operates in the countries of Australia, New Zealand,
Bangladesh, Ireland and United Kingdom majorly but has a presence all over the world. It is a
major retail conglomerate which also deals in chemicals, fertilizers, mining and production and
sale of other industrial and safety products as well. The company has a number of subsidiaries
and has been growing off late (Mun, 2018).

Ratio Analysis
The ratio analysis has been done for the company with respect to liquidity and profitability
ratios and has been shown below in the table.
Wesfarmers Limited > Ratios Analysis
Name of the ratio Formulas Result
Data collected
from annual
report (Pg.
No.)
Part A: Liquidity Ratios
Current Ratio or Working
Capital Ratio Current Assets / Current Liabilities 0.9x Pg. 96
Quick ratio or Acid test
ratio
(Current Assets - Inventory) / Current
Liabilities 0.3x Pg. 96
Cash flow Ratio Net cash flow from operating activities /
Current Liabilities 0.4x Pg. 96, 97
Part B: Profitability Ratios
Return on Equity Profit available to owners / Average Equity
*100 12.30% Pg. 94, 96
Return on Assets Profit (loss) / Average total assets *100 6.20% Pg. 94, 96
Gross Profit Margin Gross Profit / Sales Revenue *100 31.70% Pg. 94
Profit Margin Profit (loss) / Sales Revenue *100 4.20% Pg. 94
Cash Flow to Sales Cash Flow from operating activities / Sales
Revenue *100 6.17% Pg. 94, 97
Liquidity Ratios
The liquidity of the company is explained by its current and liquid ratios.
The current ratio indicates the ability of the company to pay off its current liabilities on time
with the help of the current assets. It is calculated as current assets total divided by total of
current liabilities of the company and the ideal current ratio is 2:1. In the given case, the current
ratio is 0.9 times (2016: 0.9 times), which is much below the ideal trend and thereby, shows
that the company needs to arrange more of current assets in order to improve its liquidity
position (Alexander, 2016).

Similarly, quick ratio or the acid test ratio is an indication of the company having the most liquid
assets to pay off the short term liabilities such that those assets can be readily convertible in
cash. This is the reason why stock and prepaid expenses are excluded from calculation as the
same is not readily convertible into cash. In the given case, the company has quick ratio of 0.3
times (2016: 0.2 times) as against industry trend of 1 times so again Wesfarmers needs to
improve on the same (Dichev, 2017).
Finally, the cash flow ratio is the ratio of net cash flow from operating activities to the current
liabilities which shows that if the company were to pay off its current liabilities today, how
much net operating cash flow it has to pay off the same. For Wesfarmers though the cash flow
ratio has improved from 0.3 times in 2016 to 0.4 times in 2017 but still it seems to be
inadequate considering the liabilities (Heminway, 2017). It means that in case the company
needs to pay off its current liabilities today, it would have to take help of inflow from financing
and investing activities.
Profitability Ratios
The profitability ratios are the indication of growth, survival and profitability of the company
over the years.
The return on equity is the measure of net income earned by the equity shareholders on the
wealth invested by them. It is also called return on net worth (RONW) and is the measure of if
the company has been able to give expected returns. For Wesfarmers, the same is 12.30% in
2017 (2016: 1.7%) and has rose dramatically as compared to last year. It is beating the industry
trends and is much above the competitors and hence the shareholders would be happy with
the returns (Jefferson, 2017).
The return on assets ratio indicates that how efficient the company’s assets are in generating
the revenue for the company. It depends from industry to industry. In the given case, the return
on assets ratio is 6.20% in 2017 (2016: 4.90%) and it shows that the efficiency of the use of
assets has increased over last year but it is still below the industry average of near 10% (Das,
2017).
The Gross profit margin indicates the revenue less cost of goods sold divided by revenue. Basically it
gives the profit earned by entity after direct costs and before indirect costs. The same is 31.70% in 2017
(2016: 30.4%) which is fairly a good margin considering the heavy competition in the market from the
new entrants (Linden & Freeman, 2017).
The net profit margin is the measure of the company earning the profit divided by sales. This profit is
derived post all the expenses like the direct and indirect, depreciation and interest as well. The
company’s current net profit margin is 4.20% (2016: 0.6%), which shows it has improved a lot in

comparison to the last year but it is still below a number of competitors in market. Therefore, the
company needs to work in this aspect.
Finally, the cash flow to sales ratio is the measure of how far the company has been able to generate the
cash out of the operating activities mainly comprising of sales. More the ratio, better the collection
efficiency and lesser the receivable days. In the given case, the same is 6.17% (2016: 5.1%) which shows
that the company has also made substantial payments to the creditors during the years and other
operating payments (Fukukawa & Mock, 2011).
Conclusion
From the above discussion and analysis it can be said that profitability wise the company has
been performing well considering the competition in the market but the liquidity ratios and the
cash flow position of the company seems to be risky and needs to be improved in the coming
future.
References
Alexander, F. (2016). The Changing Face of Accountability. The Journal of Higher Education, 71(4), 411-
431.
Choy, Y. K. (2018). Cost-benefit Analysis, Values, Wellbeing and Ethics: An Indigenous Worldview
Analysis. Ecological Economics, 145. Retrieved from
https://doi.org/10.1016/j.ecolecon.2017.08.005
Das, P. (2017). Financing Pattern and Utilization of Fixed Assets - A Study. Asian Journal of Social Science
Studies, 2(2), 10-17.
Dichev, I. (2017). On the conceptual foundations of financial reporting. Accounting and Business
Research, 47(6), 617-632. doi:https://doi.org/10.1080/00014788.2017.1299620
Fukukawa, H., & Mock, T. (2011). Audit risk assessments using belief versus probability. Auditing: A
Journal of Practice & Theory, 30(1), 75-99.
Heminway, J. (2017). Shareholder Wealth Maximization as a Function of Statutes, Decisional Law, and
Organic Documents. SSRN, 1-35.
Jefferson, M. (2017). Energy, Complexity and Wealth Maximization, R. Ayres. Springer, Switzerland .
Technological Forecasting and Social Change, 353-354.
Linden, B., & Freeman, R. (2017). Profit and Other Values: Thick Evaluation in Decision Making. Business
Ethics Quarterly, 27(3), 353-379. Retrieved from https://doi.org/10.1017/beq.2017.1
Mun, K. a. (2018). A close look at the role of regulatory fit in consumers’ responses to unethical firms.