Business Environment and Financial Analysis: Tesco vs. Wal-Mart


Tesco has also been the proud of people from United Kingdom, for its vast reach and expansion to many other regions around the globe. Today, Tesco has not only operations in Europe, but also in America and Asia. It is one of the retailing power houses in the global context, challenging the position of Wal-Mart from the United States. Not only is Tesco a well known company, it is also a fast growing company in the competitive retailing industry. With a focus on human resources management, efficient supply and distribution network, customer orientation culture as well as the business strategic mission to maintain sustainable growth rate in the future, Tesco has been able to maintain consistent growth and profitability in the past decades. Instead, the shareholders investing in Tesco had been rewarded handsomely, as not only Tesco has been increasing the dividend payment amount in the past decades in a highly consistent manner, the growth of the business and successful expansion of the firm to the international context has also contribute to the satisfactory price appreciation of the company stock.

In this report, the profitability of Tesco will be analyzed. Apart from the financial ratios or numbers of Tesco, the strategic direction and the effective management of the company will also be investigated. In order to have better understanding on the profitability picture of Tesco, as compared to the industry leader, Wal-Mart will be used as comparison purposes. Besides, in order to understand the profitability picture of Tesco, and Wal-Mart in greater detail, financial decomposition methods will be used. Accordingly, the profitability ratio will be decomposed into several components, so that the various elements or dimensions affecting the profitability picture can be analyzed and understood better. The data used for the profitability analysis will be obtained from Thompson One Banker database. For the purpose of analyses, top-down approach will be employed. Firstly, a brief review of the macroenvironment and the industry structure will be performed. Then, the focus will be placed on comparing the performance of Tesco to the industry leader, namely Wal-Mart. Lastly; the future outlook of both Tesco as well as Wal-Mart will be articulated. Comments on the share pricing as well as the growth potential and profitability picture of Tesco in the next decades will also be discussed.

Review of Literature

Financial analysis has been a popular topic in business management and investment analysis. This is not surprising as there are much useful information can be obtained through financial analysis on a company. Generally speaking, from management perspective, financial analysis is useful to understand the performance of a particular business from different time frame and dimensions (Silbiger, 2005). The sources of profitability affecting the business can also be investigated. With proper financial analysis, it is possible for management to take corrective and proactive actions in improving the business or to sense imminent crisis in the future (Weygandt et. al., 1998). Besides, in the context of business management, financial analysis can be combined with other methods, for strategic management of a company. For this, financial analysis can contribute to the budgeting process, performance measurement and appraisal, the adoption of Balance Scorecard and setting of Key Performance Metrics for business divisions in an organization (Warren et. al., 1999). From another perspective, financial analysis is popular and useful for analyst or investors to understand the business fundamentals and performance of a particular company. Indeed, in analyzing potential investment candidates, financial analysis is widely performed by investors or equity analysts to gauge the financial health, prospects and risks pertaining to the investment target. It is an essential part of fundamental analysis in stock valuation. Specifically, the calculation of fair value for any stocks relies heavily on the usage of financial analysis and information available to the investment fraternity (Reilly & Brown, 2003). Indeed, it is also argued by certain researchers that financial analysis may provide reasonable chances for the investor to understand the prospects of a company, and hence make reasonably accurate prediction on the stock returns of a particular company in the future (Charitou et. al., 1999). In that sense, financial analysis may enable diligent investors to identify high performing company and increase the likelihood of outperforming the broad market average index returns.

In performing financial analysis, there are several concepts widely employed by practitioners and scholars. One important concept is to view the historical financial information as a trend. For this, the financial information pertaining to an organization should be analyzed in the time series manner, and investors can then gauge how the performance of the organization has been changing from time to time (Estes et. al., 2007; Wild, 2000). Then, financial information should also be computed in ratio format, as financial ratios will enable analysts to better understand the different financial figures from a comprehensive perspective. Specifically, financial ratios allow analyst to investigate the proportion of certain financial metrics to other important financial metrics. It enables analysts to put the different financial information to a relative scale, for better interpretation of financial statement and better financial prospects of any organization (Wild, 2000). In terms of calculation of financial ratios, there are also arguments that financial decomposition is useful in allowing the analysts to understand the different aspects of a company from financial perspectives. One such method is about decomposing financial profitability into different components. The different components are the key drivers of the specific financial profitability ratios. Through such approach, not only the profitability ratios of a company can be computed, but the key drivers contributing to the profitability ratio or picture can also be investigated (Bannister et. al., 1998). One of the famous decomposition methods perhaps is about decomposing Return on Equity measures into the different components. For example, ROE can be decomposed into five different components as shown in formula below.


ROE = Net profit X Pretax profit X EBIT X Sales X Assets
Pretax profit EBIT Sales Assets Equity
  = Tax burden X Interest burden X Margin X Turnover X Leverage


As discussed by Bodie, Kane & Marcus (2007), the method above is called Du Pont Decomposition of ROE. By decomposing ROE into a series of different factors, whereby each of the different components represents the separate dimensions affecting a particular firm performance, analysts will be able to understand the different impacts or drivers of the factors towards affecting the ROE or profitability picture of a particular firm. For example, when comparing the profitability picture of two different firms, ROE figure may not be truly reflective in gauging the relative financial performance of the two firms. Even when the two firms are having the same ROE figure, the financial risk pertaining to the two firms may differ significantly. For example, firm A may be using high degree of leverage to achieve an attractive ROE level similar to firm B. Although firm A apparently is enjoying similar financial profitability of prosperity to the case of firm B, firm A should be treated with more cautions because the use of leverage is often having double-edge effects. In good times, leverage may significantly enhance the ROE of firm A, but the high gearing situation of firm A may also put the firm into serious financial distress or bankruptcy when the economy turn recessionary. In bad times, firm A may simply face huge problems to serve high interest payments, and forced to default on the interest obligation and hence facing great risks of bankruptcy. It is also worthy to mention that there are also other approaches used to decompose other financial profitability ratios into the respective component. For example, ROE can also be decomposed into three different components as follow: net profit margin, asset turnover and financial leverage. The formula for such decomposition is shown as follow.


ROE = net profit margin X asset turnover X financial leverage


Nonetheless, financial information should never be used alone. In order to perform in-depth and meaningful analysis on the fundamentals of any company, it is important for investors to combines financial information with other qualitative information. In this perspective, financial information is purely quantitative in nature. There are only so much information can be understood from calculation of the financial numbers. It is crucial for analysts to go beyond the numbers, to understand the qualitative forces or factors that are affecting the outcomes of these financial numbers to gauge the true situation and performance of an organization. For example, the factors in the macroenvironment will definitely affect the financial performance of any firm in the competitive market. The possible factors widely perceived as influential towards a firm financial position include the political factors, economic factors, social cultural factors, technological factors, environmental factors and legal aspects. Then, the specific industry competitive structure will also important to be considered in performing financial analysis on a company. Indeed, the competitive advantages enjoyed by a firm as well as the competitive nature within the industry of a particular firm will affect the future profitability of the firm (Bodie, Kane & Marcus, 2007). Then, it is also important to understand the internal forces affecting the competitive position and core competencies of a firm. For example, availability of human capital and remarkable management talents in a company may not be reflected immediately in a company, but will affect the future profitability and competitive position of the firm, and hence, should be taken note by analysts or investors. Besides, the formulation and subsequent implementation of strategic directions by any firm will definitely affect the future profitability, growth and positioning of a firm in the marketplace. As all of these issues will affect the future cash flows to be generated from the firm, they are simply valid and crucial elements and issues to be considered and incorporated into the investment decision making process. Experienced analyst will surely make adjustment and prediction after understanding on the qualitative factors possibly affecting the future income or cash flow pertaining to the firm under analyzed (Reilly & Brown, 2003).

Research Design and Methods

In this report, the profitability of Tesco, as well as its main competitors, namely Wal-Mart will be analyzed. By comparing the two firms, the relative performance of these firms can be better understood. In order to better understand the true profitability picture of the two firms, the following will be performed. In this research design, top down approach will be adopted. Firstly, the business environment and the industry structure that Tesco and Wal-Mart is operating on will be investigated. Then, the strategies, reputations and competitiveness of each of the firms will be investigated. The growth and competitive stories of both the firms is crucial to understand the rationales and reasoning behind the financial performance, and will be important to form better judgment on how these firms may perform in the future. Particularly in the retailing industry, the strategic direction, methods to achieve efficient supply chain, adoption of information technology or system for lean operation management, the branding or reputation of the firm, as well as the reliant on economies of scale for price leaderships will be discussed.

Then, the financial statement of both Tesco and Wal-Mart will be analyzed. In order to obtain a more economically meaningful picture on the long term profitability pictures of both the firms, the respective income statement and balance sheet of the two firms will be reformulated. From the reformulated financial statement, financial ratios will be computed for further investigation. Then, in order to understand the components driving the profitability of both Tesco and Wal-Mart, financial decomposition methods will be used. As shown in Figure 1 below, the profitability ratio will be decomposed into several components, so that the various elements or dimensions affecting the profitability picture can be analyzed and understood better. The data used for the profitability analysis will be obtained from Thompson One Banker database.


Figure 1: Decomposition of ROCE


Source: Penman (2009)

Analysis of Business Landscape of Retailing Industry

Macroenvironment of Retailing Industry

Overall, the international retailing industry is competitive. There are many powerful and yet aggressive players trying to expand fast and to win over market shares, competing fiercely with each other in the world (Woods, 2007). There are several trends driving the changes of the business environment in the retailing industry in the past decades. Firstly, it is about the globalization process in play. When the world become more integrated, and businesses found new and promising opportunities in the other part of the world, big and multinational corporations tend to expand to the overseas market for strategic reasons (Rogers, Ghauri & George, 2005). Particularly for multinational retailers with dominant position in their respective countries, such as Tesco in United Kingdom while Wal-Mart in United States, to expand to overseas is rational and necessary steps, as the market in the respective domestic become matured and pretty saturated (Palmer, 2005). Furthermore, in the past few years, it can be seen that the growth of economy in the developed countries, primarily those from the West, has been slowing and turbulent. In contrast, the growth prospects in the East, or in those emerging countries, often represented by the BRICS (Brazil, Russia, India, China and South Africa) has been encouraging (Evans, 2011). All these factors further motivate powerful retailers such as Tesco and Wal-Mart to expand to these emerging countries. However, as big and powerful retailers expand overseas, they found that other multinational corporations are also doing so. As a result, the clashes of titans in the retailing industry are unavoidable, and the competition landscape of the retailing industry has been intense and challenging (Fong et. al., 2006).

Industry Structure of Retailing Industry

Although there are only few highly powerful and branded retailers in the international landscape, there are many other equally competitive and aggressive retailers around the world. For example, although Tesco is the market leader in United Kingdom, there are many other competitive retailers competing with Tesco in United Kingdom. In United Kingdom, the other popular retailers beside Tesco PLC include the following: WM Morrison Supermarket PLC, J Sainsbury PLC, Greggs PLC, and Ocado Group PLC (Source: Yahoo Finance). Similarly, although Wal-Mart is the dominant player in United States, there are many other highly competitive retailers in the nation, such as: Price Smart Inc, Fred’s Inc, Costco Wholesale Corporation, and Target Corporation (Source: Yahoo Finance). Retailing industry is a highly competitive business around the world. This can be witnessed from the fact that gross profit margins of various retailers are squeezed over the years (de Guzman, 2010). Then, the competition within retailers has been increasingly focused on price war. The competition had indeed evaluated to a degree, whereby the retailer with the most efficient and lean supply chain tend to win out in the competitive market. Wal-Mart is a good example, whereby the economies of scale and the highly efficient supply chains have been contributing to the low cost leadership position of the firm (Shister, 2007). However, to have efficient supply chain is often no sufficient. Consumers today are becoming more demanding. Customer satisfaction is crucial to entice repeat customers or to enhance loyalty within customers. Tesco is a famous company for customer satisfaction (Stone, 2003). Aside from the intense competition within industry players, the consumers tend to have high bargaining power as well. For example, as described by Thuermer (2006), there is likely to have a few retailers competing with each other in strategic locations in cities around the world. Although the market leader may gain high degree of market shares, their dominance is not permanent or definite. The smaller scale retailers often have different techniques of approach to reach and attract the consumers. Fortunately, one of the favorable development or trend in the retailing industry is that the big retailers are gaining higher bargaining power against the suppliers. For example, Wal-Mart is famous for ability to squeeze margin from the smaller scale suppliers at a favorable terms (Sprague & Callarman, 2010).

Comparing Competitiveness Attributes of Wal-Mart and Tesco

The market leader of the respective country has distinctive attributes that contribute to the relative dominance and competitive advantage in the retailing industry. In this section, the strategies and the competitive advantage of Tesco and Wal-Mart will be discussed.

For Wal-Mart, the key competitive advantage is having a highly efficient supply chain. This dominance of Wal-Mart is particularly obvious in developed countries such as United States, whereby the firm has long established success track records and network with the local suppliers in United States (Quinn, 2009; Freeman et. al., 2011). Through continuous improvement, Wal-Mart has been able to lower the cost structure of the firm, particularly in United States to become the low cost leader in America. Many technologies are developed to ensure efficient supply chain. Partnerships with the suppliers are formed for strategic purposes (Hopkins, 2010).

However, the strategy of achieving market leadership and dominance in United States may not be easily duplicated in other nations. As discussed by Quinn (2009), the success of efficient supply chain of Wal-Mart is made possible in United States due to advance and readily available infrastructure in the country. However, in other nation such as China, the lacking of comprehensive infrastructure, particularly in the rural areas, is indeed creating huge barriers for Wal-Mart to established efficient supply chain to reach the rural or less developed areas in China. This is consistent with arguments presented by Lisanti (2002), whereby Wal-Mart operations in emerging countries such as Indonesia is facing issues concerning the relatively backwards of infrastructure in these nations. In other words, the key success strategies of Wal-Mart may not be easily portable to the fast growing emerging countries in the east. As such, Wal-Mart has to work out more localized strategies to deal with the nature of market in the emerging countries. For example, Wal-Mart is said to have been trying to reinvent itself in China, to fit to the local culture and business context (Trunick, 2006).

Another advantage enjoyed by Wal-Mart is that the company has great advantage in terms of economies of scale. Due to the economies of scale, the price offered by Wal-Mart to customers is low, and often, able to drive out the less competitors out from the market. Indeed, the lower cost structure of Wal-Mart has been putting great pressure to the competitors’ profit margin (Thuermer, 2006). Then, due to the economies of scale enjoyed by Wal-Mart, the company can leverage on such advantage to enhance the company brand name in the marketplace. This leads to the next competitive advantage of Wal-Mart, as will be discussed in the following paragraph.

Being the reputable low price leader, with the tagline of ‘Everyday low price’ is another key advantage of Wal-Mart. As discussed by Lisanti (2002), the brand name of Wal-Mart is delivering real benefits to the firms as it is the famous price leader. Consumers, even from China, tend to perceived that the price offered by Wal-Mart is cheapest. Then, as discussed by Merrilees and Miller (2002), the brand equity of Wal-Mart is indeed enabling the firms to attract higher crowd to the stores. It is also commented that due to the popular and respectable brand name of Wal-Mart, local suppliers are continuously seeking opportunities to cooperate with Wal-Mart. At such a situation, Wal-Mart often has higher bargaining power, enabling the firm to source the best possible products at the best pricing – an advantage that will definitely enhance the profitability of Wal-Mart in the highly potential and biggest emerging countries in the world (Mihm, 2010).

Tesco is not a weak company either. There are various strategies employed contributing to the rise of Tesco as one of the reputable and respected market players in retailing industry around the globe. While Wal-Mart is famous for its superior, intelligent and efficient supply chain, the key competitive advantage of Tesco, however, is often attributed to the customer centric culture adopted by the management. As discussed by Ma, Ding and Hong (2010), Tesco is one of the retailers that able to deliver satisfactorily services to customers with caring and helpful employees. Tesco is employing a holistic market strategy. The welfare of employees is taken care of, and by ensuring employees satisfaction and commitment to serve the consumers better, the employees will be more ready to provide better and pleasant services and shopping experiences to consumers. To achieve this, people management is being place great importance by the management. Team work is emphasized (MacLaurin, 2000). Besides, development and training of human talents is also attributed to the success of people management in Tesco. As discussed by Pollitt (2010) Tesco is emphasizing on developing business leader for the future internally. It is believed that the management perceives that the key assets that make Tesco to distinguish itself from the competitors are through the human capital available in the firm. Similarly, as discussed in Strategic Direction (2009), the people management of Tesco is successful due to effective performance management system available in the firm.

Apart from having effective people management system and practices that subsequently contributing the success of Tesco, the different techniques employed by management to attract and retain loyal customers is also one of the key advantage of Tesco (Mason, 1998). One of the widely discussed key success factors of Tesco is due to the Tesco Loyalty Clubcard implemented by the management. As discussed by Stone (2003), the loyalty card has been able to retain and enhance the customers’ tendency or habits of shopping in Tesco. The loyalty card often enables the loyal customers to enjoy great savings from their loyalty to Tesco. Besides, as articulated in Strategic Direction (2005), the successful implementation of loyalty program has also enable Tesco to access to valuable data concerning shopping habits of customers. With access to these data, management can implement promotion or program to more accurately fulfill the customers’ needs and requirements. Indeed, as further discussed by Turner (2006), it is discovered that customers that subscribe to Tesco loyalty card tend to stay with Tesco, as they enjoy the process of collecting points and rebate provided by Tesco from their daily shopping in Tesco. Such a loyalty program indeed has been contributing to high level of customer satisfaction in Tesco.

Nevertheless, Tesco ability to manage the distribution channel efficiently is also one of the reasons contributing to its rise in the global market. As discussed by Kirkwood (1984), Tesco has been focusing on efficient distribution channel to lower the cost structure of the business. Then, as discussed by Lowe and Wrigley (2009), Tesco has been adopting new innovation to better manage the supply chain. Effectively, the supply chain is managed from a customer centric philosophy, whereby customers spending or tastes are incorporated into the supply chain management of Tesco.

Given that Tesco is having goof customer services as well as the ability to provide competitive pricing to the customers, the reputation of Tesco as a low price and high customer satisfaction is enhanced (Strategic Direction, 2005). This is not hard to comprehend, as ability to provide good services with high degree of customer satisfaction will definitely entice consumers to buy from Tesco stores. As more people experience the competitive pricing offered by Tesco, while being treated nicely by the employees in Tesco, they are likely to stick to Tesco in their purchasing behaviors.

Financial Analysis of Tesco and Wal-Mart

Having understood the different competitive strategies and achievements of Tesco and Wal-Mart, the financial statements of the firms will be analyzed. An analysis of the financial statements of these firms will complement the previous analysis on the strategic direction and key success factors of Tesco and Wal-Mart, and provide more objective quantification of the financial performance and profitability analysis on the companies in the later section.

Reformulated Financial Statements of Tesco and Wal-Mart

Table 1 below shows the reformulated balance sheet of Tesco compared to Wal-Mart. The analysis of the reformulated balance sheet of these companies will be focusing on the trend on the changes of the items in the balance sheet. Firstly, it is found that the net receivables of Tesco have been increasing suddenly from year 2008 to 2009. This is a bad sign, whereby it suggests lose or weak cash collection of Tesco. In comparison, the net receivables of Wal-Mart have been increasing steadily from year 2007 to 2010. There is no sudden increase of net receivable in Wal-Mart. The rise of net receivable in Wal-Mart can be attributed to the rising revenue throughout the years. However, this is not the case for Tesco, as the revenue growth cannot match the sudden spike of increase in net receivable in Tesco. Then, the inventories held by both the companies have been relatively constant and stable. Then, one striking difference between Tesco to Wal-Mart is that Tesco is having long term receivables from the customer, while there is none for Wal-Mart. Obviously, Wal-Mart is having greater stricter cash management policies. Revenue of Wal-Mart is not contributed by allowing credit to customers, while for Tesco; it is likely that the firm is relying on extending credits to customers for higher revenue. Generally speaking, there is a general uptrend in total operating assets of Tesco and Wal-Mart, consistent with the picture that these companies are growing bigger and larger in size.

Then, the net operating assets of Tesco and Wal-Mart are already increasing under the financial years being reviewed. This is against consistent with the picture that both the companies are growing bigger and larger in size. However, interestingly, both the firms have net financial liabilities. The net financial liabilities of Wal-Mart have been relatively constant under the financial years. However, for Tesco, the net financial liabilities had jumped suddenly in financial year 2009. The abrupt increase of use of debt by Tesco is contributing to such a situation. Holding everything constant, this suggests that business risks of Tesco had increase due to higher gearing of the firms.

Then from another perspective being placed great importance by investors, the trend of shareholder equity for both the firms are crucial indicators of the relative profitability of the firms. Both the firms are indeed successful and respectable firms, having the ability to post consistently increasing shareholder equity throughout the years from 2007 to 2010. Apparently, the firms are not seriously affected by the global Great Recession happened in year 2009. In such period, many firms struggled and make losses and hence, recorded a reduced in shareholder equity. The findings that both the firms able to achieved stable and steady increase in shareholder equity suggest that they are outstanding companies, managed by competent management team. Besides, it also suggests that retailing industry is a relatively defensive industry, and less volatile or affected by the economic climates.


Table 1: Reformulated Balance Sheet for Tesco and Wal-Mart


Source: Adjustment to Original Data from Thompson One Banker


In Table 2 below, the reformulated income statement for Tesco and Wal-Mart is shown. Again, it is observed that there is a rising trend of the revenue generated by both the companies (under the financial year being reviewed). Then, it is also found that purely from revenue perspective, Tesco is relatively small when compared to Wal-Mart. From year 2007 to 2010, the revenue generated by Wal-Mart is approximately 8 times larger than the revenue generated by Tesco. From such findings, it is shown that Wal-Mart indeed deserves the title of market leader in retailing industry in the world. Another element with interesting trend is about the net interest payment of Tesco and Wal-Mart.    For Wal-Mart, the net interest payment has been steadily increasing from 2007 to 2010. The net interest payment of Tesco is increasing as well. However, there is a sudden increase of net interest of Tesco in year 2009 (i.e., net interest payment doubled from 2008 to 2009). The use of debt by Tesco is contributing to such a phenomenon. This suggests that Tesco is indeed a riskier firm, as higher leverage will definitely increase the risks of financial distress for the firm. Another observation is that the ratio of net interest to revenue of Tesco is much higher than the case of Wal-Mart. Again, this strongly suggests that Wal-Mart growth is less dependent on usage of debt for expansion purposes. Anyway, both the companies are doing well, from the net income perspective. Despite global Great Recession in 2009, both the firms able to delivered steadily rising trend of net income, which suggest a strong competitive position of the firms in the retailing industry.


Table 2: Reformulated Income Statement for Tesco and Wal-Mart


Source: Adjustment to Original Data from Thompson One Banker


In table 3 below, the key financial statistics are summarized. Overall, as discussed above, the two firms are found to be growing larger under the financial years being reviewed. Revenue and net income has been increasing, despite global recessionary pressures. In order to understand the key drivers of the profitability of both the firms, financial decomposition analysis will be performed in the later section.


Table 3: Key Financial Data for Tesco and Wal-Mart


Source: Adjustment to Original Data from Thompson One Banker


Financial Decomposition of Tesco and Wal-Mart

In this section, financial profitability ratios of both Tesco and Wal-Mart will be analyzed. As discussed before, ROCE will be decomposed into the different components, representing the different drivers contributing or describing the profitability picture of the ROCE figure. The formula of the financial decomposition method is presented as follow.


  = (OI/NOA) + [FLEV * SPREAD]
  = [(OI/Sales)(Sales/NOA)] + [FLEV * SPREAD]
  = (PM)(ATO) + [FLEV * SPREAD]


The calculation and each of the components consisting of ROCE figure for Tesco and Wal-Mart is presented in Table 4 below. For the ATO figure, it is found that Wal-Mart is indeed more efficient in utilizing operating assets in generating sales. The ATO figures of both the firms are relatively steady between 2007 and 2010. The ATO figure for Wal-Mart is approximately 3.8 while it is 2.6 for Tesco. Unfortunately, Tesco is having a slight decreasing trend for ATO, which indicate that Tesco is becoming less efficient throughout the years. From another perspective however, the PM of Tesco is steadily around 5%, while it is 4% for Wal-Mart. This suggests that Tesco indeed enjoy higher margin, probably due to the more loyal customer base. In contrast, consistent to the Everyday Low Price strategy adopted by Wal-Mart, the 4% profit margin is justifiable. Apparently Tesco is doing well when compared to Wal-Mart, but it is uncertain if Tesco can sustain such margin when the competition intensifies and price war happens in the future. Then, from the ROA figure, it is obvious that Wal-Mart is a better company, with increasing ROA performance from 2007 to 2010. In contrast, the ROA of Tesco has been decreasing. Obviously, Tesco is facing some subtle challenge to maintain its profitability under the highly competitive industry structure. Then, the profitability picture of both the firms can also be analyzed through the ROE figure. Both ROA and ROE figure paint the similar picture for Wal-Mart and Tesco from year 2007 to 2010. To reiterate, Wal-Mart is a better company, with increasing ROE performance from 2007 to 2010. In contrast, the ROE of Tesco has been decreasing. Not only is that, the ROE of Wal-Mart is high, within the range of 20% while it is only 17% for Tesco. Overall, despite the many success stories and being praised as a emerging reputable and challengers to the market leader, Tesco is not performing well (as would be expected by investors), as suggested by the comparison yield from the financial comparisons between Tesco to Wal-Mart. Indeed, Tesco has also become a more risky company, due to being more dependent on financial leverage by the firm. A review of the financial leverage to equity ratio of Tesco suggested that the firm sudden increase of debt in the firm’s capital structure paints unfavorable picture. The constantly increasing gearing for Tesco will likely to put the firm under financial distress, when the recessionary pressure set in, or if any unforeseen issues creating troubles to the firm. On the other hand, Wal-Mart is a relatively stable firm, whereby the use of debt in capital structure is maintained around the range of 25%.


Table 4: Financial Ratios for Tesco and Wal-Mart


Source: Adjustment to Original Data from Thompson One Banker


In Figure 2 below, the graphical representation on RNOA between Tesco and Wal-Mart is being presented and compared. From the figure, it is obvious that RNOA of Tesco and Wal-Mart is diverging. RNOA of Wal-Mart is improving, while for Tesco, it is deteriorating.


Figure 2: Comparing RNOA between Tesco and Wal-Mart



In Figure 3 below, the graphical representation on FLEV between Tesco and Wal-Mart is being presented and compared. From the figure, it is obvious that Tesco has been highly geared in the past few years. However, Wal-Mart is reducing its dependent on gearing slightly. Wal-Mart had become a less risky firm, while Tesco had become a more risky one.


Figure 3: Comparing FLEV between Tesco and Wal-Mart



In Figure 4 below, the graphical representation on SPREAD between Tesco and Wal-Mart is being presented and compared. From the figure, it is obvious that SPREAD for Tesco has been decreasing. This is contributed by the rising net borrowing costs of Tesco. Overall, with higher debt burden, it may become harder for Tesco to service interest payment from operating income.


Figure 4: Comparing SPREAD between Tesco and Wal-Mart



In Figure 5 below, the graphical representation on ROCE between Tesco and Wal-Mart is being presented and compared. From the figure, it is obvious that Tesco ROCE has been deteriorating from 2007 to 2010. Although the magnitude of the decrease may not be serious, the trend of the deterioration is obvious. For Wal-Mart however, ROCE has been improving. Overall, from the analysis, it is shown that Wal-Mart truly deserves the market leader position in the retailing industry. Despite its already big size, it is improving in the past few years. In contrast, Tesco performance is not truly encouraging.


Figure 5: Comparing ROCE between Tesco and Wal-Mart



Financial Ratios, Peers and Trend Analysis

In this section, the performance of Tesco and Wal-Mart will be compared to the industry average of the respective country. Specifically, ROCE, as well as the drivers of ROCE, namely RNOA, SPREAD and FLEV for Tesco, Wal-Mart to the industry average will be compared. Such an analysis is necessary to understand if the respective firms still dominate and lead the retailing industry in the respective country.

In Figure 6 below, the graphical representation on RNOA between Tesco and other retailers in United Kingdom is being presented and compared. From the figure, it is obvious that RNOA of Tesco is above average, but the competitors are fast to close the competitive gaps to Tesco in the recent years. The dominance of Tesco in United Kingdom, is indeed, weakened.


Figure 6: Comparing RNOA between Tesco to UK Firms



In Figure 7 below, the graphical representation on FLEV between Tesco and other retailers in United Kingdom is being presented and compared. From the figure, it is obvious that Tesco had become the most leveraged firm in United Kingdom. The financial leverage employed exceeds the industry average significantly. Indeed, the financial leverage of Tesco since 2009 had increased, but for the other competitors, had decreased.


Figure 7: Comparing FLEV between Tesco to UK Firms



In Figure 8 below, the graphical representation on SPREAD between Tesco and other retailers in United Kingdom is being presented and compared. From the figure, it is obvious that the increasing relying on debt in capital structure is causing the SPREAD of Tesco to fall from above average to below industry average in United Kingdom.


Figure 8: Comparing SPREAD between Tesco to UK Firms



In Figure 9 below, the graphical representation on ROCE between Tesco and other retailers in United Kingdom is being presented and compared. From the figure, it is obvious that despite the high usage of debt, ROCE of Tesco is not truly encouraging. The used of debt, or put in bluntly, the increased of risks, is not compensated from the profitability perspective. Then, competitors are found to be fast in closing the competitive gap, from profitability perspective. At the moment, Tesco is still enjoying above average ROCE performance, but the trend facing Tesco is negative and could affect the company adversely if nothing is done to enhance the profitability of the firm significantly.


Figure 9: Comparing ROCE between Tesco to UK Firms



In Figure 10 below, the graphical representation on RNOA between Wal-Mart and other retailers in United States is being presented and compared. From the figure, it is obvious that Wal-Mart RNOA is improving, and stays slightly above industry average in United States.


Figure 10: Comparing RNOA between Wal-Mart to US Firms



In Figure 11 below, the graphical representation on FLEV between Wal-Mart and other retailers in United States is being presented and compared. From the figure, it is obvious that Wal-Mart is used to be a highly leveraged firm, but in 2010, the used of leverage is reduced, consistent with the trend in industry average in United States.


Figure 11: Comparing FLEV between Wal-Mart to US Firms



In Figure 12 below, the graphical representation on SPREAD between Wal-Mart and other retailers in United States is being presented and compared. From the figure, it is obvious that Wal-Mart’s SPREAD is slightly above (or move below) industry average.


Figure 12: Comparing SPREAD between Wal-Mart to US Firms



In Figure 13 below, the graphical representation on ROCE between Wal-Mart and other retailers in United States is being presented and compared. From the figure, it is obvious that from ROCE perspective, Wal-Mart significantly outperform the many retailers in United States. Despite being the market leader, Wal-Mart such significant degree of outperformance is indeed outstanding.


Figure 13: Comparing ROCE between Wal-Mart to US Firms



Future Outlook of Tesco and Wal-Mart

Having discussed the competitive stories regarding Tesco and Wal-Mart as well as having analyzed the financial profitability ratios and its drivers for the firms, it is ready to form better prediction and comments on the share prices and future outlook of Tesco and Wal-Mart.

Purely from the discussion presented above, it is understood that despite the many success stories and being praised as a emerging reputable and challengers to the market leader, Tesco is not performing well (as would be expected by investors). From various perspectives, Tesco underperform Wal-Mart. In the recent years, not only the profitability of Tesco has been decreasing, while for Wal-Mart, it is increasing. Then, it is also uncovered that Tesco has also become a more risky company, due to being more dependent on financial leverage by the firm. A review of the financial leverage to equity ratio of Tesco suggested that the firm sudden increase of debt in 2009 in the firm’s capital structure paints unfavorable picture. The constantly increasing gearing for Tesco will likely to put the firm under financial distress, when the recessionary pressure set in, or if any unforeseen issues creating troubles to the firm. On the other hand, Wal-Mart is a relatively stable firm, whereby the use of debt in capital structure is not changing abruptly as in the case of Tesco. Then, by comparing Tesco and Wal-Mart to the industry average of the respective country, it is also uncovered that competitors of Tesco are fast to closing the competitive gap with Tesco. Overall, this strongly suggests that Tesco is operating under an adverse trend of losing competitiveness in the industry. Having to say that, both Tesco and Wal-Mart is good company. The ability of the firms to deliver good track records, despite global Great Recession in 2009, is indeed admirable. However, it is obvious that Wal-Mart is a much better company, when compared to Tesco, from a review of the historical performance of these firms.

In Figure 14 below, the stock prices of Tesco is shown. The stock prices of Tesco are trading in a range. The stock prices plummeted lowest during the Great Recession (probably due to fear of the long recessions expected to affect the world). Then, the stock prices recovered starting 2009. However, in the last two years, there is significant weakness in stock prices of Tesco. It is probably investors are wary of the unfavorable trend affecting Tesco.


Figure 14: Stock Prices for Tesco in the Past 5 Years


Source: Yahoo Finance


In Figure 15 below, the key investment metrics of Tesco is shown. In 2011, Tesco is trading at a Price to Earnings ratio of 11.45x. The dividend yield is 3.83%. Apparently, such a valuation is justified, given the company track records and its dominance position in United Kingdom. Overall, Tesco is still a good company, as the company is relatively resilient to volatility of the economy climate, as proven itself in 2009 during the worldwide recessions.


Figure 15: Key Investment Metrics of Tesco


Source: Financial Times (


In Figure 16 below, the key investment metrics of Wal-Mart is shown. Similar to the case of Tesco, the stock prices is trading in a range. There is no excitement in the stock prices, and indeed, the stock prices have yet to recover the high achieved during market peak in mid 2008.


Figure 16: Stock Prices for Wal-Mart in the Past 5 Years


Source: Yahoo Finance


In Figure 17 below, the key investment metrics of Wal-Mart is shown. Similar to Tesco, the stock is trading at a Price to Earnings ratio of 11.92. However, the dividend yields on the stock are only 2.85%, a figure lower than that of Tesco.


Figure 17: Key Investment Metrics of Wal-Mart


Source: Financial Times (


Overall, the valuation of both Tesco and Wal-Mart, as in the discussion above, is same. This is surprising, as from the previous analysis, Tesco is proven a more risky companies (from higher dependency on financial leverage) as well as deteriorating financial performance in the recent years. In contrast, Wal-Mart performance has been resilient and improving. One possible reason causing the undervaluation of Wal-Mart is perhaps due to the fear of weakening of USD in the long run, which may affect global investors’ profitability from investing in Wal-Mart. Thus, it is found that the stock market is roughly efficient in pricing these companies. Nevertheless, investors in Tesco must be careful, due to the obvious trend of deterioration of efficiencies, higher risks and lower profitability achieved by the firms in the ever increasingly competitive business environment. The deterioration may be due to consumers’ preferences over cheaper products. When consumers become more price sensitive, loyalty program is no longer sufficient. Should the economic climate continue to remain gloomy, Tesco will need to change its focus to instead enhancing the efficiencies of the supply chain, instead of playing with marketing tricks to lure consumers.


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