INTRODUCTION
This paper digs deep into the financial statements of the company Michael Kors for the sake of analysis of its financial position. The analysis would include the ratio analysis of the annual reports for the years 2015-2017. The company would be analyzed regarding its profitability, liquidity, solvency, and financial stability. The reasons behind the results of ratio analysis will be assessed regarding the factors that contribute to it. Analysis aims to look into the potential problems which this company could be facing. These problems can be financial, managerial, or social. The conclusion will reflect upon the problems highlighted during the analysis and the trends of its financial attributes. It will further elaborate on the financial position of the company regarding its liquidity, solvency, and profitability.
COMPANY BACKGROUND
Michael Kors is a luxury fashion brand which is known for its world-class management, and award-winning designers were started about 35 years ago. The name of the brand is after the renowned designer owning this company. Michael Kors features various unique materials, designing and aesthetic craftsmanship which depicts the combination of elegant style, and sportiness. The company started featuring luxury sportswear to becoming global apparel, footwear, and accessories company with having the presence in more than hundred countries (Michael Kors).
The company has three operating segments. These are;
- Retail
- Wholesale
- Licensing
The company sells its products through a well-managed distribution network via its various leading department stores, retail stores, licensing partners, and specialty stores. The retail segment contributes major revenues for the company through its 389 retail stores in America and 429 stores internationally. The company also operates online from US, Canada, UK, Japan, and China. The wholesale segment is the second major contributor which represents more than 30% sales revenue. This segment operates through 1405 department stores in America, 199 department stores internationally, 1099 specialty stores internationally, and 904 specialty stores within America. Within the wholesale segment, major sales come from a few numbers of wholesale partners. The licensing segment operates through third-party licensing of sales, distribution, and production rights (Michael Kors).
The company offers three collections; Michael Kors Men’s line, the Michael Kors Collection luxury line and the Michael Kors accessible luxury line. Geographically, the major revenue is contributed by Retail and Wholesale sales in America (Michael Kors). The company Michael Kors considers these as its competitive strengths;
- Being led by a globally renowned and award-winning designer
- Expanding into Accessories Product Category
- Multi-format retail segment
- A strong relationship with wholesale customers
- Innovative offerings by licensing segment
- Experienced Management Team
The company is following the business strategy of trendsetting and offering innovative products. The company is committed to improving brand communication, enhancing the digital presence, and expanding global physical presence. The company is growing its Men’s business and optimizing its customer engagement programs for better opportunities.
The company offers products; apparel, accessories, licensed product, and footwear. The accessories contribute for more than 50% of the revenue with apparel coming second in highest contribution to the revenue (Michael Kors).
Financial Analysis
For the financial analysis of Michael Kors, the financial statements of the company for the years 2015-2017 are evaluated. The balance sheet, and income statement and the supplementary information are assessed to look for any financial or managerial problems depicting from the ratio analysis. The ratio analysis is conducted to assess the financial position of the company. The company Michael Kors is evaluated regarding liquidity, solvency, and profitability.
RATIOS
Current Ratio
The current ratio of the company depicts the liquidity of the company. The current ratio is computed by the formula;
Current Ratio= (Current Assets) / (Current Liabilities)
The ratio has been conducted for three years; 2015, 2016 and 2017. These ratios are calculated, and the calculations are shown in the exhibit 1. The current assets of the company include prepaid expenses, prepaid rent, restricted cash, leasehold incentive receivables, and unrealized gains on forward exchange contracts of foreign. The current liabilities include accrued capital expenditures, accrued royalties, accrued rent, gift card credits, accrued marketing, taxes payables, and unrealized loss on forward exchange contracts of foreign operations.
The current assets of the company have decreased over time of three years. The current liabilities have increased in three years. The current ratio has thus declined. In 2015, the company had the current ratio of 6.10 showing that its current assets are six times more than its current liabilities. The ratio has declined to 2.06 in 2017 showing that it has declined to be twice the value of current liabilities. Even though the ratio is still healthy, the decline is substantially threatening. The decline in current assets is major because of the acquisition of 100% of the stock of Michael Kors Hong Kong Limited including the subsidiary of Taiwan, China, and Macau. The acquisition was funded by 500 million of cash payment in 2017. In 2016, the company acquired controlling interests in MK Panama contributing $18.5 million of which cash consideration consists of $3.0 million, and in its licensed business in South Korea for cash of $3.6 million (Michael Kors).
Debt to Equity Ratio
The debt-to-equity ratio of the company shows how much solvent the company is. It also shows the liquidity of the company. The debt-to-equity ratio is calculated by the formula;
Debt to Equity Ratio= (Total Debt) / (Total Equity)
The total debt of the company is increasing year wise. The total equity of the company is declining. The 2015 debt to equity ratio is 0.2 which has increased to 0.51 in 2017. The company increment in debt-to-equity ratio can be attributed to the increase in its debt. The increase in debt was caused by the acquisition of MK Panama in 2016. Moreover, there are no reported borrowings outstanding as per the 2015 credit facility in 2016. However, this rose to $127.3 million of outstanding borrowings in 2017. Furthermore, in 2017, the Hong Kong credit facility contributed for $45 million borrowings outstanding and bank credits guarantee for about $1.5 million. The decline in the equity can be attributed to the share repurchase program which was authorized in 2014 for $ 1 billion of shares to be performed in two years (Michael Kors).
The pie chart shows that portion of debt and equity which are used to fund the total assets in 2017. The debt value has passed the figure of 66%. It is the reason the debt-to-equity ratio is declining. Even though the company can expand its debt obligations, it should adhere to a more balanced financing structure. It can be considered as problems regarding financial risk.
Gross Margin Ratio
The gross margin ratio shows the profitability of the company regarding its cost of production. The gross margin ratio is calculated by the formula;
Gross Margin Ratio= (Gross Margin) / (Net Sales Revenue)
The higher the gross profit, the higher will be the gross margin ratio. The higher the cost of production, the lower would be gross margin ratio. The cost of goods sold is increasing for the last five years. However, in the last year, it has declined somewhat. The revenue of the company has also increased in the last five years. However, it declined in 2017. The decline in gross profit in 2017 is attributed to the unfavorable foreign currency influence of $2 million. The decline was primarily driven by the decrease in the retail gross margin due to the increased promotional activity.
Gross profit in 2016 was increased by 5.6%. However, the gross profit margin decreased as compared to 2015 because of the decline of gross profit margin in the retail segment. The decline was because of the promotional activity increment in 2016. The decrease in wholesale gross margin was due to increase in wholesale allowances. The gross profit margin in 2015 decreased due to the decline in the retail segment. It was due to the reasons of increment in markdowns and discounts.
Profit Margin Ratio
The profit margin ratio in 2015 resulted from the increment in gross profit margin and by retail and wholesale segments. The increment in the retail segment was attributed to the more favorable product sales mix. Furthermore, the favorable purchase cost to price ratio also caused profit margin increase.
The Net Income in 2016 declined to cause the profit margin to decline. The decline in the net income of the company was caused by the increment in operating expenses and interest expense. The increase in the operating expenses was due to the increment in the selling, general and admin expenses, and depreciation expense (Michael Kors).
The net income declined in 2017 and is following a declining trend. The net income in 2017 decreases attributable to the MKHL by $286.6 million. The declining trend is depicted in the trend line. The difference between gross profit margin ratio and profit margin ratio shows the number of operating expenses.
The declining trend of the net income will affect the earnings per share and thus affect the value of the company. It can be considered as problematic.
Identified Problems:
The problems which are identified in the analysis show the following possibilities:
- The company current ratio has declined drastically in the last three years because of major acquisitions and stock repurchase programs, This, if continued, can cause liquidity problems.
- The debt-to-equity ratio is increasingly getting higher, which is showing high dependency on debt sources of financing. The more than 50% debt portion of assets is risky for any business.
- The net income of the company is declining in the last three years because of the increase in operating expenses and cost of production, this if continued, can cause valuation problem, as it will impact the earnings per share of the company.
CONCLUSION
The current ratio of the company is lowering because of the acquisitions made in the years 2016, and 2017. The current ratio is still good enough; however, it should not lower from this level. The debt-to-equity ratio is also increasing showing a high dependency on the debt, which can also be considered as concerning. The gross profit margin and profit margin are declining and have a declining trend, which is also problematic. The company should reduce its cost of production and operate expenses to increase its profitability.
Work Cited
Michael Kors. “Annual Report 10K 2016-2017.” Michael Kors. Michael Kors, 2018. Web. 13 March 2018. http://investors.michaelkors.com/financials/annual-reports/default.aspx.
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