Analysis of the Debenhams 2018 Annual Report

Debenhams 2018 Financial Report
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Debenhams Financial Analysis
Debenhams was a United Kingdom company founded in 1778 by William Clark. Debenhams started with a single store but later grew into 178 stores spread across Britain. By the time the company was wound up, its headquarters was in Oxford Street, London. The company also owned the Danish departmental store, Magasin du Nord. The company's merchandise included clothes for both the high-end and middle-market, furniture, and household goods. The company went into receivership twice in 2019 and the following year, 2020. The company's collapse was brought about by the bankruptcy of the main concession operator, Arcadia, and the failure of Debenhams to secure a rescue deal with JD Sports and Frasers Group, eventually leading to the company's liquidation.
Income Smoothing
Then income statement shows that income declined from $2,335 million to $ 2,277 million from 2017 to 2018, representing a 2.5 percent decline (Debenhams, 2018, pp. 90-96). The decline represents a slightly high drop, considering that since 2014 the decline has been steady within less than 1 percent decline rate. This revelation suggests that no income smoothing or earning management took place. According to Fincash (2022), income smoothing is the practice of decreasing earnings fluctuation. Cohn (2019) argues that income smoothing happens when company managers want to portray an optimistic or positive view of a company's performance by reporting steady earnings improvement. Managers may as well alter expenses to portray a better performance. However, in the case of Debenhams financial performance, the sales show a decline. If there could have been income smoothing, we could expect a steady recovery of sales which is not the case. In addition, the cash flows analysis reveals a decline in free cash flows from 65.3 million to -8.2 million, a 112 percent decline. Cash flows from operating activities also dropped from -67.8 million to -136.4 million in 2018. Therefore, Debenhams appears to have no earnings management. Although, from 2014 to 2017, the change in revenue has been steady. In addition, vertical analysis of the gross profits margins reveals a steady decline in the cost of sales while the gross margin improves gradually. As a result, income smoothing may not have happened between 2018 and 2017, but 2014 to 2013 could have had income smoothing.
Going Concern
According to Anthony and Grigg (2022), going concern is used to describe a company that is likely to continue in operations in the foreseeable future, at least the next twelve months. Thus, a going concern company is not expected to default on arising obligation or file for liquidation. However, Debenham's history indicates a worrying trend, Kilcourse (2020) suggests that the financial woes of Debenhams company started in the year 2003 when the company reported an outstanding debt of £100 Million. The company was later bought by a private equity firm at 600 million. By 2006 the company had a debt of £1 Billion, while the private equity firm exited the investment through a floatation in the public stock exchange (Kilcourse, 2020). Later the company did not manage to pay off the debt. A series of misfortunes, including the 2008 recession, hit the company, coupled with poor strategic decisions that led to the company to bankruptcy in 2020. Anthony and Grigg (2022) claim that low current ratio, inability to secure funds, loss of employees, and a decline in the market share are the outward red flags of a company's going concern at risk. In retrospect, Debenhams had started showing signs of non-going concern.
Furthermore, Debenhams is not a going concern. The profitability ratios show poor performance, even in comparison with the industry’s performance. The company posted a dismal -21.14 percent gross profit margin way below the industry benchmark of 13.62 percent (Investing.com, 2022). The net profit as well performed dismally, registering -20.21 percent against the industry's 9.48 percent (Investing.com, 2022). The revenue per share was 1.85 against the 18.11 benchmark. As a result, Debenhams is not able to generate profits for its shareholders. Moreover, Butler (2019) suggests that the company lost market share as expressed through the absence of ques in their outlets. As a result, sales kept declining.
The company had a return on assets of -65.42 percent in 2018 compared to the industry benchmark of 59.01 (Singh, 2018). Return on equity shows the company’s efficiency in utilizing its shareholders' equity to generate revenue. Therefore, for every dollar share, the company generated a 0.6542 loss (Financial Ratios, n.d.). The return on assets stood at -21.74 percent against the 11.47 percent benchmark, meaning for every dollar asset, the company earned a loss of $ 0.21. At the same time, the return on investment stood at -34.11 percent against the 15.58 percent benchmark. The return on capital employed ratio is used to measure the company's ability to generate income on capital invested. Thus, a dollar invested generated a $0.34 loss in Debenhams company in 2018. In general, the efficiency ratios do not give a going concern company confidence.
The current ratio is a financial measure used to measure the company's ability to meet the arising short-term obligation. Debenhams had a current ratio of 0.65 against the industry benchmark of 1.53 (Investing.com, 2022). The quick ratio is a similar measure as the current ratio; only that is it is a more conservative measure since it does not take into consideration stock items. Debenhams had a 0.16 against an industry score of 0.93. Kibet (2021) argues that a current ratio below 1.5 is not a good score for a company. Therefore, Debenhams current and quick ratio indicate that the company is in financial distress, suggesting that Debenhams is not a going concern. The total debt to equity ratio is a financial measure used to evaluate the proportion of debt against equity. Debenhams registered a debt-to-equity ratio of 74.38 percent compared to the industry benchmark of 234.23 percent (Investing.com, 2022). A 74.38 percent score means for every dollar equity, the company has accumulated $0.74 in debts. Kosinski (2021) argues that a score below one should not be of great concern for a company. However, the debt is way below the industry benchmark, indicating that the company is nearing insolvency. In conclusion, Debenhams is not a going concern.
References
Anthony, L., & Grigg, B. (2022). Going Concern Definition, Principle, and Red Flags - NerdWallet. NerdWallet. Retrieved 22 March 2022, from /article/small-business/what-is-the-going-concern-assumption.
Butler, S. (2021). The problem with Debenhams – it’s not just indebted, it’s dull. the Guardian. Retrieved 23 March 2022, from /business/2019/apr/13/debenhams-problem-not-just-indebted-dull-too.
Cohn, M. (2019). Corporate income smoothing tied to CEO stocks and options. Accounting Today. Retrieved 22 March 2022, from /news/corporate-income-smoothing-tied-to-ceo-stocks-and-options.
Debenhams. (2018). Debenhams plc Annual Report & Accounts 2018 (pp. 90-96). Retrieved from /debenhams/debenhams-ar-2018.pdf
Financial Ratios. Mercury.webster.edu. Retrieved 23 March 2022, from http://mercury.webster.edu/westedou/financial_ratios.htm.
Fincash. (2022). What is Income Smoothing?. Fincash.com. Retrieved 22 March 2022, from /l/basics/income-smoothing.
Investing.com. (2022). Debenhams (DEB) Income Statement. Investing.com. Retrieved 23 March 2022, from /equities/debenhams-income-statement.
Kibet, L. (2021). Current ratio: A liquidity measure that assesses a company's ability to sell what it owns to pay off debt.. Business Insider Africa. Retrieved 23 March 2022, from https://africa.businessinsider.com/personal-finance/current-ratio-a-liquidity-measure-that-assesses-a-companys-ability-to-sell-what-it/r5sxe57.
Kilcourse, B. (2020). The UK’s Debenhams: A Cautionary Tale. Retail Systems Research. Retrieved 22 March 2022, from /research/the-uks-debenhams-a-cautionary-tale.
Kosinski, J. (2021). The Debt-to-equity Ratio | What It Is and How to Use It. Patriot Software. Retrieved 23 March 2022, from /blog/accounting/debt-to-equity-ratio/.
Singh, P. (2018). Debenhams reports record annual loss of 491.5 million pounds, to close 50 stores. FashionUnited. Retrieved 23 March 2022, from https://fashionunited.uk/news/business/debenhams-reports-record-annual-loss-of-491-5-million-pounds-to-close-50-stores/2018102539614.
Appendix
Table 1: Income statement vertical analysis
Period Ending:

2018

2017

2016

2015

2014

2018

2017

2016

2015

Revenue

2277

2...