Company: Wesfarmers Limited & Woolworths Limited Using MorningtonStar DatAnalysi

Question

Company: Wesfarmers Limited & Woolworths Limited

Using MorningtonStar DatAnalysis, select two companies in the same industry sector that MUST
have an accounting period from 1 July to 30 June each year. Perform Strategy analysis,
including industry-level analysis and firm-level analysis, as well as an accounting analysis, using the
five years of data provided by MorningtonStar DatAnalysis for these two companies. The purpose for
your analysis is to select one of the two companies for you to invest $25,000 in via the purchase of
shares in this company.

Requirements:
1. Perform a strategy analysis, including Porter’s ‘five forces’ framework for industry-level analysis,
competitive strategy analysis of the firm-level analysis (incorporating the source of the sustainable
competitive advantage), and Corporate strategy analysis for the two selected multi-business
organisations (adding the benefits and costs to the companies separate segments) (35 marks)
2. Perform an accounting analysis that addresses the six (6) steps in performing accounting analysis
of the five components of the financial statements for the two selected companies (35marks)
3. Evaluate the quality of the financial statements of the two companies. Are you are happy with
their quality? If yes, why and if no, why not? (10 marks)
4. Choose one company (of the two selected companies) you decide to invest your $25,000 and
identify how many shares this will purchase. Construct your conclusions to support your selection
of that company. (20 marks)  

Explanation / Answer

1.Industry analysis—also known as Porter’s Five Forces Analysis—is a very useful tool for business strategists. It is based on the observation that profit margins vary between industries, which can be explained by the structure of an industry.

The Five Forces primary purpose is to determine the attractiveness of an industry. However, the analysis also provides a starting point for formulating strategy and understanding the competitive landscape in which a company operates.

Porter’s Five Forces Analysis

The framework for the Five Forces Analysis consists of these competitive forces:

Industry analysis and competition

Competition within an industry is grounded in its underlying economic structure. It goes beyond the behaviour of current competitors.

The state of competition in an industry depends upon five basic competitive forces. The collective strength of these forces determines profit potential in the industry. Profit potential is measured in terms of long-term return on invested capital. Different industries have different profit potential—just as the collective strength of the five forces differs between industries.

Industry analysis as a tool to develop competitive strategy

Industry analysis enables a company to develop a competitive strategy that best defends against the competitive forces or influences them in its favour. The key to developing a competitive strategy is to understand the sources of the competitive forces. By developing an understanding of these competitive forces, the company can:

Industry analysis and structure

The five competitive forces reveal that competition extends beyond current competitors. Customers, suppliers, substitutes and potential entrants—collectively referred to as an extended rivalry—are competitors to companies within an industry.

The five competitive forces jointly determine the strength of industry competition and profitability. The strongest force (or forces) rules and should be the focal point of any industry analysis and resulting competitive strategy.

Short-term factors that affect competition and profitability should be distinguished from the competitive forces that form the underlying structure of an industry. Although these short-term factors may have some tactical significance, analysis should focus on the industry’s underlying characteristics.

2.

For any financial professional, it is important to know how to effectively analyze the financial statements of a firm. This requires an understanding of three key areas:

There are generally six steps to developing an effective analysis of financial statements.

1. Identify the industry economic characteristics.

First, determine a value chain analysis for the industry—the chain of activities involved in the creation, manufacture and distribution of the firm’s products and/or services. Techniques such as Porter’s Five Forces or analysis of economic attributes are typically used in this step.

2. Identify company strategies.

Next, look at the nature of the product/service being offered by the firm, including the uniqueness of product, level of profit margins, creation of brand loyalty and control of costs. Additionally, factors such as supply chain integration, geographic diversification and industry diversification should be considered.

3. Assess the quality of the firm’s financial statements.

Review the key financial statements within the context of the relevant accounting standards. In examining balance sheet accounts, issues such as recognition, valuation and classification are keys to proper evaluation. The main question should be whether this balance sheet is a complete representation of the firm’s economic position. When evaluating the income statement, the main point is to properly assess the quality of earnings as a complete representation of the firm’s economic performance. Evaluation of the statement of cash flows helps in understanding the impact of the firm’s liquidity position from its operations, investments and financial activities over the period—in essence, where funds came from, where they went, and how the overall liquidity of the firm was affected.

4. Analyze current profitability and risk.

This is the step where financial professionals can really add value in the evaluation of the firm and its financial statements. The most common analysis tools are key financial statement ratios relating to liquidity, asset management, profitability, debt management/coverage and risk/market valuation. With respect to profitability, there are two broad questions to be asked: how profitable are the operations of the firm relative to its assets—independent of how the firm finances those assets—and how profitable is the firm from the perspective of the equity shareholders. It is also important to learn how to disaggregate return measures into primary impact factors. Lastly, it is critical to analyze any financial statement ratios in a comparative manner, looking at the current ratios in relation to those from earlier periods or relative to other firms or industry averages.

5. Prepare forecasted financial statements.

Although often challenging, financial professionals must make reasonable assumptions about the future of the firm (and its industry) and determine how these assumptions will impact both the cash flows and the funding. This often takes the form of pro-forma financial statements, based on techniques such as the percent of sales approach.

6. Value the firm.

While there are many valuation approaches, the most common is a type of discounted cash flow methodology. These cash flows could be in the form of projected dividends, or more detailed techniques such as free cash flows to either the equity holders or on enterprise basis. Other approaches may include using relative valuation or accounting-based measures such as economic value added.

The next steps

Once the analysis of the firm and its financial statements are completed, there are further questions that must be answered. One of the most critical is: “Can we really trust the numbers that are being provided?” There are many reported instances of accounting irregularities. Whether it is called aggressive accounting, earnings management, or outright fraudulent financial reporting, it is important for the financial professional to understand how these types of manipulations are perpetrated and more importantly, how to detect them.

3.Financial Statement Analysis is a method of reviewing and analyzing a company’s accounting reports (financial statements) in order to gauge its past, present or projected future performance. This process of reviewing the financial statements allows for better economic decision making.

4.Following are the steps to analyse which company to invest in:-

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