Next plc is a United Kingdom-based retailer offering products in clothing, footwear, accessories and home products. Next distributes through three main channels: Next Retail, a chain of more than 510 stores in the United Kingdom and Eire; Next Directory, a home shopping catalogue and Website with more than 2 million active customers, and Next International, with more than 180 stores. The Company’s other businesses include Next Sourcing, which designs, sources and buys Next branded products; Lipsy, which designs and sells its own branded younger women’s fashion products through wholesale, retail and Website channels, and Ventura, which provides customer services management to clients wishing to outsource their customer contact administration and fulfillment activities.

Next Plc financial analysis

Introduction:

Next plc is a UK based retailer offering products in clothing, footwear, accessories and home products. It has over 690 stores in over 23 countries covering Europe, far and Middle East and even Latin America and through its online channel it sells products in over 37 countries. Next distributes through three main channels: Next Retail, a chain of more than 510 stores in the United Kingdom and Eire; Next Directory, a home shopping catalogue and Website with more than 2 million active customers, and Next International, with more than 180 stores Its annual turnover is close to £3.4billion dollars. With a market share of 10.4% (Mintel), it has the second largest market share in the United Kingdom behind marks and spencer (11.4%). Apart from its main retail business under the next brand it also has various other businesses such as Next sourcing, Lipsy and Ventura. It is listed on the London stock exchange and is constituent of the FTSE-100. It was one of the pioneers of the multichannel retailing launching its directory in 1988 and the online facility in 1999.

The management has steered the business well through the recession and it has emerged in better shape than when it entered. The group has been constantly increasing its revenue over the last three years. However 2009-2010 was the first year of full like for like sales growth after four years of decline. Although it operates in large number of countries, around 94% of the company’s revenue comes from the u.k, which makes the company overly dependent on the home economy. Also company has been largely unsuccesfull in managing its international business. International like for like sales fell by 7%. The company has mentioned in the report that it is changing its approach to international trading. This is the second time in two years that it restructuring its international operations which is cause of concern. The provision of 3.3 million against its store in Europe show that it expects it stores to make loss in the future. Also there is an impairment charge of £1.6 mn. to the goodwill in chezch republic. This is a clear sign that its operations in the country are not running smoothly. Overall the segment profit was down 87% to £ 1.2mn from the previous year. The Company might have expanded in this country at a very fast rate without the deeper consideration of the local culture and demands.(write about the maturation of UK market in the conclsion)

It has to be noted that over the last few years the market environment and the broader economic environment has been tough. The UK GDP contracted in 2009

and although the growth has resumed now it remains in a very fragile state. The consumer confidence during the reporting period was at very low levels. Research has also shown that consumers are cutting back on clothing then any area of expenditure, which is next’s main business. Also the large spending cuts by the government have added to the uncertainties. Also the retail market in the Uk is very competitive one. The main competitors of the company include Marks and spencer’s, Primark stores, Arcadia group, Tk maxx and the Arcadia group.

Despite these factors next has responded pretty well to the situation. Its revenue were up by 4.1% and is fast catching up with the market leader. Also next has played the recession well by upping its fashionability (both in terms of speed to at which it incorporates new trends and depth of the range). The company has moved to target the 25-34 age group where it is extremely popular. This demographic remained the most resilient during the downturn. This shows management effectiveness to identify the market opportunities at the right time. These policies have meant that the profit before tax of the company for the reporting period increased by 18 % to 505 million. It should also be noted there were no unusual items (major disposals etc) this year. Hence the profit figure is from continuing operation and is a sustainable figure. Company has increased its trading area by opening new stores (7) and refurbishing existing stores (it spent 33 million on it). In the past NEXT had expanded too fast and was on the verge of bankruptcy which also led to the firing of its CEO. Hence it has included in its objectives that new stores must meet demanding financial criteria before investment is made and success is measured by monitoring achieved sales and profit contribution against targets. This is reflected in the performance of the new stores, which have had a payback period of 13 months and net store contribution of 21% against the target of 24 months and 15% contribution respectively.

In the first part of the analysis, Next’s financial performance is analysed focusing on return on capital, profitability and asset utilisation (i.e. the DuPont formula) and stock market performance. These measures induce the analyst to investigate the strategic dimension underlying performance. I will attempt to focus on the issue of how we need to scrutinize what lies behind the numbers to effectively assess Next’s performance. This is because as mentioned by Ruth Hines, accounting not only communicates ‘reality’ but also creates it. I will take advantage of this knowledge and use it show, via segmental analysis on few occasions, how aggregate numbers represent varying performance levels in different markets. Performance is not about the “what” (e.g. profit), but the “how” (how that profit is achieved). This leads to second part, which discusses non-financial aspects of the “how”, namely corporate social responsibility (CSR).

Financial performance measures:

Although the overall revenue of the company increased, A closer look at each of the segments shows that not all of them were as successful. Sales in retail increases by only 3.5% and average sales per store actually fell by 18.5% and the sales densities have fallen even further. Also it is partly because of the adoption

of new home standalone format, which will inevitably depress sales densities further. However Next directory was the star performer for the group with 7% increase in the sales and a 3.6 increase in the average number of active customers. This also helped to offset the decreasing sales in the international business.

Operating margin ratio (PBIT/SALES):- the group’s overall operating margin ratio improved to 15.55% from 14.62%. It can be said that group has done a good job to increase its margins in the reporting period, as there were many external challenges, which could have hampered the operating margin. Even here directory’s margin was better then other areas. The margin of directory was 20.1. The retail margin was 14.2 and the international margin was 13.1. The weakness of sterling was a great challenge for the company as it declined by 35 cents to the dollar. This was curbed by a combination of moving to new sources of supply; negotiating better terms with existing suppliers, lower freight cost and less fabric wastage. This was coupled with a very efficient stock management policy of the company. The company marked down 16% less stores in their mainline stores, which improved the margins by 1.4% in the retail category. The company was also externally helped by the reduction of 0.5% in the VAT. It should be noted that this will not continue in the future as the government has announced a significant rise in VAT to 20% which might hamper the operating margins in the future. The increase of central overheads eroded the margins by 0.7%. However this was largely due to a charge for sponsoring the 2012 Olympic games. I believe this was an excellent move by the group, as this will help it to market its brand in front of a large international audience and is in line its strategy to revamp its international business. Directory’s growth was much greater than the retail because of the sales of higher margins items grew faster through this channel. Also Internet has helped the sales of the directory. The next website has the highest number of unique visitors among the clothing retailers (COMSCORE).

Return on total assets: - this measures how well the company’s management uses its assets to generate profits. I have included this in my analysis, as it is a better measure than ROE, which only measures profit generated on shareholder equity but ignores debt funding. The group managed to increase its ROA from 27.17 to 31.28. Again this is largely due to the excellent performance of the directory sales especially through the Internet. Unlike stores this channel of distribution requires the least amount of Assets and hence revenue per asset is very high. However, in the future company has indicated that as per their strategy they plan to roll out more home standalone format stores, which will depress revenue densities, and hence it will affect the Return on total assets. This is largely due to the concept of this kind of stores. To mitigate the effect of this company plans to increase its directory sales and sale to international consumers through the online channel. However its international operations have been unsuccessful and it will be interesting to see if the new strategy can boost the ROA. An amendment to the IFRS 8 means that reporting of the group’s segments assets is no longer required. Hence we are not provided with the assets of each segment and it is difficult to precisely compare the segmental performance here.

Asset turnover ratio: - the company managed to increase its asset turnover ratio from 1.86 to 2.01. This means that it was able to increase more sales for every pound of assets. However this is partly a result of a decrease in total assets from 1760.4 mn. to 1693.5 mn. The asset turnover ratio on last year’s assets would have been 1.93 which is still an improvement but not that significant. This is mainly due to the disappointing international sales especially in central and Eastern Europe, which was deeply affected by recession.

Financial leverage increased from 12.52 to 12.68. This may suggest an increase in the debt financing from the previous year but this is not the case. It is largely due to the scheme of share buyback, which reduced the shareholder’s equity. The company spent 70 mn on buybacks. On a proportionate basis this is more than the decrease in Total assets and hence the leverage ratio is more. We need to calculate the gearing ratio to give us a better picture of the proportion of debt financing used by the group compared to equity, which has actually decreased from 4.05 to 3.90. This is mainly because the company reduced the net debt by over 200 million.

With regards to te stock market ratio:

EPS or Earning per share of the company grew from 156p to 186.7P. The group has clearly stated that a constant and sustainable increase in this figure is a financial goal of the company. The objectives and strategies of the company are designed to deliver the long-term growth in EPS. The calculation on EPS without the buyback stands at 187.8, which is in itself a very strong figure. This year’s figure has been a record figure for the company and is a 57% increase from the 2005 figure. Hence it has been able to increase this figure on a constantly over the last few years. Also there were no unusual events (disposals etc) and hence it is a very strong figure.

P/E ratio: - the P/E ratio increased from 7.03 one year ago to 10.43, implying increase in growth opportunities from an investor’s perspective. . It essentially shows the current demand for the shares of the company. This increase is even more significant as it has been achieved despite a 21% increase in the EPS (denominator). It should be noted that this is despite the increase in the earnings of the company and hence represents the confidence of the investors and the markets in the company. However, the P/E ratio is a double-edged sword, it also implies that it would take longer to recover investments from earnings. The shares of the company has also outperformed the broader FTSE-100 index over the last 5 years by over 34%. However the P/E multiple is slightly below the industry average of 10.83.

Dividend per share- the dividend per share of the company has increased from 55p to 66p, which is an improvement of 20%. This is in line with the increase in the EPS from the last year. It has to be also noted that that the dividend cover is at 2.8 above the sector average of 2.4. This has been an improvement from the last year when it failed to increase its dividend at all and is a proof of the good performance of the company over the year. One may notice that although this amount is an increase over the last year it is significantly lower than the earning per share figure. However over the curse of the year the company has also bought back 190 million worth of its own shares. Hence when both the figures

are combines the company has been proactive in sharing the profits with the shareholders of the company. This may clearly reflect the shareholding pattern of the company. The majority of the shares of the company are held by investment management firms and large mutual funds which may expect short-term returns from the company. The dividend yield has sharply fallen but this is largely due to a large increase in the share price of the company (close to 100%).

Non-Financial performance measures

Legitimacy theory suggests that companies produce CSR reports to ensure they are perceived as adhering to the norms and expectations of society. In that sense, CSR reports may be biased and divert attention from theory issues to achievements in other areas.

Next’s CSR efforts centre on the concept of “responsible business” for its customers, stakeholders, employees and suppliers. It believes in maintaining healthy links with the communities in which it operates.

It also mentions that third party provides independent assurances over the firm’s CR report. It is also a member of ftse4good index series, which ranks the firm on various parameters of the CSR. However group fails to mention the procedure for the audit of the CSR report or the name of the independent auditor.

In terms of dealing with suppliers it operates a ‘code of practice’ and also carries out internal supplier audit and rates the premises of each of its suppliers. This is a good initiative but it fails to back its argument with any practical example or numerical data. Hence it may be argued that the group is not serious about it and is only doing it for the purpose of corporate advertisement.

Also in 2010 a bbc investigation showed that it breaking consumer law by failing to refund delivery charges on goods bought online but then returned. It had carried out this practice for several years and it caused widespread resentment among the customers of the company. This was completely against its promise to deal in an ethical manner with its customers.

In environmental matters it has maintained a good record. Especially it has made a point to back its arguments with hard facts. The group reduced its UK consumption of electricity and gas by 15% in the year.

Conclusion and future

In terms of 2009-2010 next has delivered a strong financial performance. However the numbers are not as sweet as presented. Especially considering its heavy reliance on the UK market and consistent failures of its international operations. Also its “other activities” are very small part of the business and it is not a highly diversified business. Also the good result can be a direct consequence of the broad strategic restructuring it underwent three years ago. Its main segment next retail has also slowed down and is expected to further slow down in the coming year. Hence it will have to rely on the excellent performance of the Directory business in the coming years. Non-

financial performance is difficult to assess objectively but it has an uphill task to repair its image after the BBC investigation.

The coming year will also present the group with some very tough conditions. Its main market is a highly mature market and the spending cuts will inevitably squeeze consumer incomes. Also with strong inflationary pressures in various areas it may face increasing costs from its suppliers.