debenhams analyst report
DESCRIPTION
The aim of this report is to analyse the past performance and the future prospects of Debenhams plc in order to provide an investment recommendation on the company’s stocks. This project starts with a two pages analyst’s report, which summarizes the detailed analysis conducted in the main body of the work. It also provides a Buy or Sell recommendation based on this overview and highlights the risks embedded in the firm’s stocks. The main body of the report initiates by presenting an outlook on the nature of Debenhams’ business and later develops into a detailed analysis by evaluating the company’s strategy and financial performance. Finally, the company’s future earnings are forecasted for estimating the intrinsic value of Debenhams’ equity to determine whether the stock is fairly valued. This work is then concluded by summing up all the information obtained from the analysis to provide investors with a clear picture of Debenhams’ performance and assisting them in making informed investment decisions.TRANSCRIPT
MA International Financial AnalysisDissertation 2013
Financial Analyst’s Report
Kaveh Salehzadeh Nobari070622373
My gratitude goes to all my lecturers for their support throughtout the course. Special thanks to Professor Hussain, Dr. Bathia and Dr. Che who always kindly assisted me with my queries and provided me with sound and thoughtful advices. I am also very grateful of my family and my partner for their constant support and encouragement.
Acknowledgments
The aim of this report is to analyse the past performance and the fu-ture prospects of Debenhams plc in order to provide an investment recommendation on the company’s stocks. This project starts with a two pages analyst’s report, which summarizes the detailed analysis conducted in the main body of the work. It also provides a Buy or Sell recommendation based on this overview and highlights the risks em-bedded in the firm’s stocks. The main body of the report initiates by presenting an outlook on the nature of Debenhams’ business and later develops into a detailed analysis by evaluating the company’s strategy and financial performance. Finally, the company’s future earnings are forecasted for estimating the intrinsic value of Debenhams’ equity to determine whether the stock is fairly valued. This work is then con-cluded by summing up all the information obtained from the analysis to provide investors with a clear picture of Debenhams’ performance and assisting them in making informed investment decisions.
Executive Summary
Analyst’s Report
1. BASIC FACTuAl INFoRMATIoN
1.1 Nature of the Business
1.2 History and Development
1.3 Segmental Breakdown
1.4 Basic Statistics
2. CoRPoRATe STRATegy
2.1 Introduction
2.2 Macro-environment Analysis
2.3 Industry Analysis and Competitive environment
2.4 Analysis of Debenhams’ Business Strategy
2.5 Debenhams’ Competitive Advantages
2.6 Debenhams’ Market Choices
3. FINANCIAl ANAlySIS
3.1 Introduction
3.2 Accounting Adjustments
3.3 Debenhams’ Common-Size Trend Analysis
3.4 Time - Series Ratio Analysis
3.5 Cross - Sectional Ratio Analysis
3.6 Analysis of the Retail Specific Ratios
3.7 Credit Worthness and Distress Prediction
3.8 economic Value Added
4. FoReCASTINg AND VAluATIoN
4.1 Introduction
4.2 Forecasting earnings
4.3 equity Valuation
Concluding Remarks
Bibliography
Appendices
ii
1
2
3
5
7
9
10
11
19
25
28
36
37
38
39
40
45
57
61
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Contents
DeBeNHAMS plc. lSe: DeB
22nd August 2013
Current Price: 108.50p Mean Target Price: 144.48p Recommendation: BUY
Investment Highlights:
• Insignificant growth of 0.9% in revenue in 2012
• Strong sales performance in the Danish and “The Rest of the World” segments
• Bearish earnings forecast for 2013
• Significant increase in the trailing and for-ward P/E multiples over the past five years
• Considerable decline in the company’s level of gearing and financing costs
• High expected growth in dividend yield, as a result of the recovery of the company’s re-tained earnings
• Relative and intrinsic valuation of the compa-ny, along with positive economic and industry outlooks suggest that the company’s stock price is undervalued; hence, a buy recommen-dation has been given.
Risks:• High Beta implies that Debenhams’ share
prices are volatile• liquidity ratios of less than 1.0 and bearish
bankruptcy scores highlight the possibility of financial distress in the case of a market downturn
• Debenhams’ non-current assets include high levels of intangibles, which could put the com-pany in a vulnerable position should they re-quire writing down
Key Market Dataestimated Beta: 52 Week Range: Market Capitalization:Average Daily Volume:Trailing P/e Ratio:Forward P/e Ratio:P/S Ratio:Dividend yield:Market Short-Selling Activity:
1.4794.75 - 108.50 p
£ 1.38 bn4.6 m 11.0311.35
0.624.11 %
Low
Growth of £100
Business Description
Debenhams is a uK based retailer that trades across 239 stores in 28 countries. The core activity of the company is the sale of fashion clothing, cosmetics, ac-cessories and home products. Debenhams operates as department stores in the uK, Denmark and the Repub-lic of Ireland and as franchise stores in the other regions of the world.
Strategic Outlook
Debenhams’ main objectives are the modernisation of its uK stores and expanding within the uK market by opening 70 new stores. They believe this will lead to economies of scale and maximize cost efficiency. They further intend to increase investments in multi-channel as a response to increased demands and higher sale’s growth in e-commerce. Moreover, Debenhams is ex-panding its brand internationally by opening franchise stores in the emerging markets. It is further attempting to increase awareness of the Debenhams brand by im-proving its products and own-bought participation, and increasing expenditure on marketing and advertising.
2010 2011 2012 2013(E) 2014(E) 2015(E)2,199.90
0.00215.96202.10
7.5-
2,209.80-0.30
184.72117.20
9.121.33%
2,229.801.60
195.43125.30
9.87.69%
---
122.419.56
-2.45%
---
125.219.77
2.20%
---
129.7910.133.68%
Revenue (£m)Like for Like Sales (%)
NOPAT (£m)Adjusted Net Income (£m)
Basic EPS (in pence)EPS Growth
% Return
201020112012YTD
-10.11-18.9489.433.98
Debenhams Industry FTSE 350 -4.52
-12.8330.2430.10
8.98-8.224.402.51
£180160140120100
80604020
0
2010 2011 2012
DebenhamsFTSe 350FTSe 350 gen Retail
2013
Debenhams plc. Analyst’s Report 2013i
Industry Overview
The retail industry is generally very competitive due to the availability of many close substitutes and lack of product differentiation. Furthermore, the slow industry growth in the uK’s retail environment has led to the intense rivalry of the existing players. However, high economies of scale of incumbents, their access to favourable geographical locations and restrictive governmental policies such as the planning regulations of 1996, all to some extent act as barriers to entry.
Share Price Performance
Debenhams’ share price movement in the years 2010 to 2012 remained relatively stable and fol-lowed a similar trend to that of the company’s in-dustry peers and the overall market. However, the development of an upward trend in May 2012, led to the major out-performance of the FTSe 350 and the FTSe 350 general Retail indices, doubled the share prices and resulted in the significant increase of the company’s price multiples. In 2013, both Debenhams and the uK retail industry have out-performed the FTSe 350 Index. The anticipated in-dustry growth based on positive economic outlooks along with the desirable uK climate in the summer of 2013, suggests that the upward trend of Deben-hams’ share prices may continue in the foreseeable future.
SWOT Analysis
Strengths
In the uK, Debenhams has a leading position in health and beauty, top four market share in mens-wear and womenswear and it is the 11th largest online retailer. Debenhams’ strong and long-lasting relationship with its suppliers has enabled it to en-joy high levels of flexibility and allows the company to negotiate favourable terms with its suppliers. Moreover, Debenhams has been able to sustain its brand value and quality reputation over the years and has offered a differentiated range of products and a strong portfolio of brands to its customers.
Weaknesses
Debenhams has defined its target market too broadly, which has prevented it from positioning its products more effectively. Furthermore, the operat-ing profit margin of the company has been follow-ing a downward trend in the recent years. Research has further shown that the internal architecture of the company is weak, despite the company’s many efforts in improving the employees’ satisfaction. Finally, there have been concerns raised by Deben-hams’ internet customers regarding the company’s poor customer service.
Opportunities
The good performance of the Danish and the rest of the world segments of the company indicates that Debenhams has the opportunity to invest more in the international markets. Furthermore, the compa-ny’s internet sales have been more profitable than its street sales, which suggest that more emphasize should be put on this line of the business.
Threats
Due to the cyclical nature of the retail industry, the company is vulnerable to economic downturns. Furthermore, Debenhams is susceptible to adverse weather conditions, which have historically resulted in losses or decreases in its sales. The slow industry growth has further increased Debenhams’ competi-tion with other retailers. Finally, if the Chinese gov-ernment’s proposed policy for increasing minimum wages is enacted, Debenhams’ costs of sales would increase considerably.
Forecasting
The forecast result obtained in this report suggests that Debenhams’ earnings in 2013 would drop by -2.45% to 9.56 pence per share, which is a signifi-cant fall in comparison with the growth in previous years. This figure was obtained by averaging the outcomes of many different forecasting methodolo-gies. Coincidentally, this estimate is very close to that reported by Reuters, which is ranged from 8.78p to 10.09p with an average of 9.68 pence per share. The forecasts for 2014 and 2015 on the other hand show signs of positive growth. It is important to note that many forecasting methods use statistical models in estimating future earnings and are not adequate for analysing the company’s future performance.
Valuation
The relative valuation of Debenhams has indicated that the trailing and forward P/e multiples are sig-nificantly above its historical average. Furthermore all price multiples of Debenhams are considerably below the industry average and at a premium. The intrinsic value of Debenhams’ stock was calculated by the means of discounting the expected future div-idends and the expected future abnormal returns of the company. Both models should theoretically give the same results, however, due to the assumptions made on the Roe in the residual income valuation, the results were different. According to the dividend discount model the target price of Debenhams is 119.40 pence, which is at the upper range of the Reu-ters’ analysts forecast. The residual income model, however, gave a target value of 169.56 pence, which is out of the analysts’ range. The target price in this report was calculated by taking the average of the two models, which gave the value of 144.48 pence per share.
Debenhams plc. Analyst’s Report 2013 ii
Debenhams plc. Analyst’s Report 20131
Debenhams plc. Analyst’s Report 2013 2
Debenhams plc is a multination-
al retail chain of British origin,
which trades under the symbol
“DeB” in the london Stock ex-
change and is a constituent of the
FTSe 250 Index.
The Debenhams brand is inter-
nationally recognized and is trad-
ed out of 239 stores, across 28
countries. The retail chains are
in the form of department stores
in the united Kingdom, Ireland
and Denmark, with 68 stores
operating as franchises in other
countries. There are currently
over 29,000 individuals in full-
time and part-time employment
at Debenhams.
Debenhams offers a wide vari-
ety of products such as fashion
clothing, shoes, accessories,
home and furniture and a range
of other goods. It currently leads
the uK market in health & beau-
ty and home & furniture, and
has respectable market shares
in Menswear, womenswear and
childrenswear.
1.1 Nature of the Business
BASI
C FA
CTUA
L IN
FORM
ATIO
N
Debenhams plc. Analyst’s Report 20133
1778 – 1818: The Establish-ment of Clark & Debenham
In 1778, William Clark estab-
lished a whole sale clothes store
at 44 Wigmore Street in the West
end region of london, in which
he sold “expensive fabrics, bon-
nets, gloves and parasols”. The
shop was later named “Clark &
Debenham” following the invest-
ment of William Debenham in
the business in the year 1813. In
1818, a replica of the store on the
Wigmore Street was opened in
Cheltenham. (Debenhams, 2013)
1851: Debenham & Freebody
In 1851, Clement Freebody in-
vested in the company and as a
result the name of the business
was changed to Debenham &
Freebody. The business was then
further expanded to a wholesale
business in which items such a
cloth were sold to other retailers.
In the 19th century the business
was involved in the acquisition
of many businesses of retail,
wholesale and manufacturing
and it opened offices in Australia,
Canada, China, and South Africa.
(Debenhams, 2013)
1905 – 1928: From Debenhams Ltd to Debenhams PLC
The acquisitions that took place
in the late 19th century and
continued into the 20th century
resulted in the incorporation
of Debenhams ltd in 1905. In
1919, Debenhams ltd merged
with Marshall & Snellgrove and
in 1920 it acquired Harvey Nich-
ols. By the year 1928 the business
went public. (Debenhams, 2013)
Figure 1. William Debenham(Source: Debenhams, n.d.)
Figure 2. Debenham & Freebody(Source: The Courtauld gallery, n.d.)
1.2 History and Development
Debenhams plc. Analyst’s Report 2013 4
1950 – 1977: The Expansion of UK’s Largest Department Store
The fast growth of Debenhams
led it into becoming the largest
department store in the uK by
the year 1950. By this year the
company was the owner of 84
companies and 110 stores and
it further continued to grow un-
til 1966, when for the first time
central buying was introduced
to the market. In 1977, all the
stores acquired by Debenhams
were rebranded from their orig-
inal names with the exception of
Brown’ of Chester. (Debenhams,
2013)
1985 – 1998: Debenhams as a Part of the Burton Group
From the years 1985 to 1998,
Debenhams PlC was a part of a
multinational British retail store
called the Burton group (current-
ly known as Arcadia PlC). During
this time the business strategy
of Debenhams was altered and
“more exclusive merchandise”
was introduced by Debenhams.
Furthermore, there was a signif-
icant rise in the number of the
Debenhams stores. Finally, in
1997, Debenhams’ first franchise
opened in the Middle eastern
country of Bahrain. (Debenhams,
2013)
Figure 3. Debenhams in Bahrain(Source: Retail Week, 2012)
1998 – Present: Debenhams in the Past Decade
upon demerging from the Burton
group, Debenhams got listed in
the london Stock exchange. In
2003, following the acquisition
of Debenhams by Baroness Retail
ltd, the company was removed
from the lSe, but was later re-
turned in May 2006.
In 2007, Debenhams purchased
nine stores in the republic of Ire-
land, which was followed by the
further acquisition of Magasin du
Nord , a leading department store
chain in Denmark. in the Novem-
ber of 2009. (Debenhams, 2013)
Debenhams plc. Analyst’s Report 20135
Lines of Business
Debenhams has identified retail
as its only reportable segment.
However, the company offers a
wide range of products within this
segment, which have been sum-
marized in the graphs below.
The products sold by Debenhams
constitutes their own brands, (cat-
egorized as core and designer that
account for about half their sales),
international brands and their
concession brands, with some-
what equal shares of total sales.
The largest percentage of the
company’s annual sales in their
own-bought brands includes
Health and Beauty and womens-
wear. on the other hand, Food Ser-
vices, Sports & leisure and Home
& Furniture only take up about
4% of the total own bought sales.
Geographical Segments
Debenhams’ segmental reports
have only been available from the
August of 2009, when the compa-
ny adopted the IFRS 81. This was
following the acquisition of the
Danish chain Magasin Du Nord,
which was added to Debenhams
portfolio in 2009. Hence, the seg-
mental analysis can only be con-
ducted for the past three years.
Figure 7 indicates that the majori-
ty of the sales has been generated
by the uK segment. The underly-
Figure 5. Own Bought Sales by Category (2012)Figure 4. Sales by Brands (2012)
WomendwearMenswearChildrenswearlingerieAccessoriesHealth & BeautyHome & FurnitureSport & leisureFood Services
own bought core brandsown bought designer brandsown bought international brandsConcessions / Consignments
1.3 Segmental Breakdown
23%
12%
3%1% 0%
18%
14% 6%
10%
14%
1IFRS 8 requires the disclosure of operat-ing segments.
Debenhams plc. Analyst’s Report 2013 6
ing reason is that Debenhams has
only recently initiated its expan-
sion within the international mar-
kets, therefore, the company’s
main development took place in
the united Kingdom. As shown in
figure 8, the performance of the
uK segment is of high importance
as it is responsible for over 80%
of the total revenue earned by the
company annually. Furthermore,
table 1 illustrates that over 95%
of Debenhams Non-current as-
sets are held by the uK segment.
Table 2. Segmental Revenue
Figure 7. Segmental Revenue
Denm
ark
Repu
blic
of
Irel
and
uK
Rest
of t
he W
orld
£m
2000
1800
1600
1400
1200
1000
800
600
400
200
0
Country № of Stores
15411668239
uKRepublic of IrelandDenmarkRest of the WorldToTAl
Revenue, £m
Revenue, £m
Revenue, £m
Change, %
Change, %
Change, %
2010 2011 2012
1,799.80
150.40
103.60
66.10
2,119.90
+6.47
-7.10
N/A
+4.42
+10.67
1,851.80
144.10
136.90
77.00
2,209.80
+2.89
-4.19
+32.14
+16.49
+4.24
1,860.30
136.50
142.70
90.30
2,229.80
+0.46
-5.27
+4.24
+17.27
+0.91
Figure 8. Segmental Share of the Total Revenue (2012)
Table 1. Segmental Non-Current Assets
uKRepublic of Ireland
DenmarkRest of the World
ToTAl
2010(in £m) 2011 20121,469.60 1,436.00 1,476.10
40.80 39.20 32.10
29.10 35.20 33.30
N/A 0.60 4.30
1,539.50 1,511.00 1,545.80
84%
6%
6%4%
Figure 6. Debenhams Stores Concentration
Debenhams plc. Analyst’s Report 20137
Size
The market Capitalisation is a
good indication of a company’s
size. It is calculated by multiply-
ing the number of shares out-
standing with the market value of
the company’s stock. Debenhams’
current market capitalisation
of £1.3bn places it at the lower
end of the FTSe 250 index. As it
can be seen in graph 9, the mar-
ket capitalisation of Debenhams
has increased significantly in
the recent years from only about
£400m in 2008 to £1.2bn in 2012.
The company’s total assets have
increased considerably in the
recent years while its total lia-
bilities have decreased by about
20%. This has led to a major
increase in the company’s net
assets by over 500%.
Financial Performance
The analysis of Debenhams’ sales
in the past five years shows that
revenue increased each year.
However, from 2011 this growth
slowed down and in 2012 the
company’s sales grew by only
0.9%. Furthermore, The com-
pany’s operating profit has not
changed in these years, while
the net profit of the company
increased significantly. This is
an indication that the company’s
financing costs have decreased
by a large margin in the past five
years.
As shown in Figure 13, the ePS
trend has been somewhat vol-
atile. It had a peak of 10 pence,
which was followed by a rather
massive decline, however it was
later increased over a two year
period.
(in £m) 30 Aug 2008 29 Aug 2009 28 Aug 2010 03 Sept 2011 1 Sept 2012 1,984.301,859.00125.30383.65
2,135.801,710.50425.30690.12
2,087.301,583.90503.40690.66
2,018.201,358.60659.60648.52
2,091.201,430.20661.00
1,199.04
Total AssetsTotal liabilities
Net AssetsMarket
Capitalisation
Table 3. Assets and Liabilities
Figure 9. Market Capitalisation
2008
2009
2010
2011
2012
£m
1,400
1,200
1,000
800
600
400
200
0
1.4 Basic Statistics
Debenhams plc. Analyst’s Report 2013 8
2008
2009
2010
2011
2012
pence12
10
8
6
4
2
0
Figure 10. Trend of the Balance Sheet Indicators
earnings per Share
(in £m) 30 Aug 2008 29 Aug 2009 28 Aug 2010 03 Sept 2011 1 Sept 2012 1,839.20176.1077.109.00
1,915.60182.2095.1010.00
2,119.90189.7097.007.50
2,209.80183.70117.20
9.10
2,229.80175.00125.30
9.80
RevenueOperating Profit
Net Profitearnings per Share
(In Pence)
Table 4. Key Financial Indicators
Figure 13. Debenhams EPS TrendFigure 12. EBIT and Net Profit Trends
Figure 11. Revenue Trend
2008
2009
2010
2011
2012
£m
2,500
2,000
1,500
1,000
500
0
2008
2009
2010
2011
2012
£m200
180
160
140
120
100
80
60
40
20
0
2008
2009
2010
2011
2012
£m
2,500
2,000
1,500
1,000
500
0
Operating ProfitNet Profit
Total AssetsTotal liabilities Net Assets
Debenhams plc. Analyst’s Report 20139
Debenhams plc. Analyst’s Report 2013 10
Corporate strategy is a manage-
ment practice utilized by com-
panies and enterprises around
the globe with the aim of im-
proving the firm’s competitive
strategy and adding value to the
business (Porter, 1980). Porter
(1980) identified activities such
as “industry analysis, competitor
analysis and strategic position-
ing” as the major disciplines of
competitive strategy. He further
formulated the competitive strat-
egy of a company by identifying
the key factors, which “determine
the limits of what a company can
successfully accomplish.”
When evaluating Debenhams’
strategy, it is important to con-
sider both micro-environmental
and macro-environmental fac-
tors that affect its performance.
Micro-environmental factors are
those, such as the relationship of
the company with its customers,
suppliers, shareholders, com-
petitors, media, and employees.
Macro-environmental factors on
the other hand, attempt to ana-
lyse the effects that political, eco-
nomic, regulatory, and industrial
changes have on the performance
of the company (McDonald &
Christopher, 2003).
The method by which Deben-
hams’ strategy is analysed, is the
Top-down approach. The reason
for this choice lies behind the
cyclical nature of the retail indus-
try. The retail and wholesaling
sectors have particularly been
extremely sensitive to economic
cycles in the past. They were hit
hard during financial recessions
and recovered as the economy
picked up (oFT, 1997). The top-
down analysis enables looking at
the big picture before analysing
the specific characteristics of the
individual company.
Figure 14. Top-Down Analysis (Source: www.online-stock-trading-guide.com)
2.1 Introduction
CORP
ORA
TE S
TRAT
EGY
Debenhams plc. Analyst’s Report 201311
A retailer’s ability in generating
long-run profits is heavily influ-
enced by the macro-environmen-
tal conditions. Therefore, analys-
ing Debenhams’ strategy requires
the examination of the external
environment surrounding the
company and the forces that have
direct or indirect impacts on its
performance. For conducting
this analysis, the PeSTle meth-
odology has been used, which
examines the political, economic,
social, technological, legal and
environmental factors that affect
the company’s performance.
Political and Legal Interventions
Changes in Regulation
Any intervention in retailing by
the uK government in the last few
decades has been with the aim of
de-regulation and the objective of at-
taining a free market economy. Some
examples are removing the restric-
tions on the stores opening hours in
the year 1994 and the amendment
of the resale price maintenance in
the book trade in 1995 (Burt et al,
2010).
In 2011, the government’s Plan for
growth policy aiming to stimulate
the economy by reducing bureau-
cracy and promoting the growth
of small businesses was put into
effect (BBC, 2011). According to the
uK government’s website (2013),
many regulations on uK businesses
are “ineffective and unnecessary”
and “complying with them costs
businesses time and money, and can
restrict growth”. As a result, in 2013
the effectiveness of regulations are
being assessed and the government
is running a “one in, two out” rule
for new business regulations. The
examination of the new regulations,
which were put into effect in the
April of 2013 (such as the extension
of unpaid parental leave from 13 to
18 weeks), indicates that these new
laws do not have any material im-
pact on the performance of the uK
retailers.
2.2 Macro-Environment Analysis
Debenhams plc. Analyst’s Report 2013 12
Impact on the Economy
In March 2013, upon the announce-
ment of the 0.6% UK growth fore-
cast, the revised budget plan was
delivered to the uK parliament
(BBC, 2013). According to the
2013 budget, capital spending will
be increased by £3bn a year from
2015 to 2016 by cutting current
spending (uK government, 2013).
Furthermore, in order to promote
growth and help uK businesses
in creating jobs, the main rate of
corporation tax is reduced to 20%.
This decrease in corporate taxes
would result in the higher profit-
ability of the uK retailers such as
Debenhams.
A possible risk for Debenhams is
the increase in the supplier costs.
According to BBC (2013), China
has approved a plan that increas-
es the Chinese minimum wage to
40% of average urban salaries by
2015. If this plan is put into effect,
the higher Chinese labour costs
will in turn increase Debenhams’
costs of goods.
Political Stability
With regards to political stability
in 2013, the world map in the
next page reveals that Britain,
Republic of Ireland and Denmark
have very low political risks,
while China on the other hand is
shown to have a relatively high
risk. The political risks in China
range from “nationalisation of
industries, through asset confis-
cation and onto contract repudi-
ation with respect to government
entities” (China Risk Manage-
ment, n.d.). one of the major
political risks, which affect the
suppliers and may have adverse
effect on Debenhams is the battle
between the local and central
governments, meaning that often
the suppliers do not know which
rules to follow.
In 2013, the credit rating agency
of Moody’s (2013) downgraded
uK’s domestic and foreign cur-
rency government bond ratings
from Aaa to Aa1. This resulted
in the increase of the country’s
political risk premium. Moody’s
(2013) justified this downgrade
by highlighting the risks that may
arise from the execution of uK’s
fiscal plans. A higher risk premi-
um means that when calculating
the cost of equity of the company,
a Country Risk Premium needs to
be added to the equity risk pre-
mium as follows:
Ke=rf+β(ERP+CRP)
Debenhams plc. Analyst’s Report 201313
FINLA
ND
AUST
RIA
ITALY
SPAIN
SWED
ENNO
RWAY
GERM
ANY
FRAN
CE
ANDO
RRA
PORT
UGAL
HUNG
ARY
ROMA
NIA
BULG
ARIA
DENM
ARK
POLA
NDBE
LARU
S UKRA
INECZ
ECH
SLOV
AKIA GR
EECE
CYPR
US
NETH
.BE
LGIUM LU
X.
IRELA
ND
SERB
IA
MONT
ENEG
RO ALBA
NIA
MOLD
OVA
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The
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© M
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For m
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e ww
w.m
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roft.
com
or c
onta
ct in
fo@
map
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Polan
d Ma
croec
onom
ic En
viron
ment
Index
: 6.98
Mexic
oHu
man
Sec
urity
Ri
sk In
dex:
2.09
Tanz
ania
Politi
cal V
iolen
ce
Inde
x: 7.
12
Indo
nesia
Reso
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Nati
onali
sm
Index
: 3.86
Peru
Regim
e St
abilit
y In
dex:
7.58
Chile
Corru
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Risk
In
dex:
6.72
Nige
riaRe
mitta
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Risk
In
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5.02
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aRe
sour
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ation
alism
In
dex:
5.35
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iaRe
gime
Stab
ility
Inde
x: 6.
37
Indi
aCo
nflict
and
Poli
tical
Vi
olenc
e In
dex:
2.12
Viet
Nam
Socie
tal F
orce
Reg
ime
Ch
ange
Inde
x: 3.
83
Braz
ilBu
sines
s and
Mac
roec
onom
ics
Index
: 5.48
Arge
ntin
aRe
sour
ce N
ation
alism
In
dex:
4.06
Po
litic
al R
isk
(Dyn
amic
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ex 2
009-
2013
: BR
ICs
10 8 6 4 2 020
0920
1020
1120
1220
13
Braz
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China
India
Russ
ia
Political Risk (Dynamic)
Polit
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k (D
ynam
ic) I
ndex
:To
p 20
Gro
wth
Mar
kets
Coun
tryRa
nkRa
ting
1Ch
ina61
High
2In
dia35
High
3In
done
sia60
High
4Vi
et N
am70
Med
ium5
Bang
lades
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High
6Br
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109
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ium7
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pines
29Hi
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ria16
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9So
uth
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1Lo
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Mala
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123
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12Ta
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ia83
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177
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15Pe
ru97
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ium16
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and
63Hi
gh17
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t27
High
18Co
lombia
49Hi
gh19
Turk
ey71
Med
ium20
Uzbe
kista
n43
High
Polit
ical
Ris
k (D
ynam
ic) I
ndex
:To
p 20
hig
hest
risk
Rank
Coun
tryRa
ting
1So
mali
aEx
trem
e2
DR C
ongo
Extre
me
3Su
dan
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me
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ghan
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me
5M
yanm
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e6
Libya
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me
7Ira
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C.A.
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me
10Ye
men
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me
11So
uth
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trem
e12
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13No
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abilit
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dex:
4.60
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ce: M
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Extre
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aplec
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Data
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dex
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Extre
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calis
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Colo
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Poli
tical
Viole
nce
Inde
x: 0.
74
Prin
cipa
l Pol
itica
l Risk
In
sura
nce
Cov
erag
esCo
vera
ge
Type
Prot
ects
Again
st:
Expr
opria
tion
Host
Gove
rnme
nt ac
ts int
erfer
ing
with
funda
menta
l own
ersh
ip rig
hts
of the
inve
stor’s
inter
est in
a Fo
reign
En
terpr
ise, in
cludin
g con
fisca
tion,
natio
nalis
ation
, sele
ctive
disc
rimina
tion
and “
creep
ing ex
prop
riatio
n”.
Politi
cal
Viole
nce
Phys
ical d
amag
e los
s to a
ssets
loca
ted
over
seas
caus
ed by
politi
cal v
iolen
ce
(war,
civil
war,
revo
lution
, insu
rrecti
on,
strike
s, rio
ts, sa
botag
e and
terro
rism)
.
Forc
ed
Aban
donm
ent
Aban
donm
ent o
f a F
oreig
n Ente
rpris
e as
a res
ult of
advic
e by t
he di
rect
inves
tor’s
home
gove
rnme
nt to
evac
uate
key
expa
t per
sonn
el fro
m the
Hos
t Cou
ntry
beca
use o
f Poli
tical
Viole
nce.
Busin
ess
Inte
rrupt
ion
Loss
of bu
sines
s inc
ome b
y the
Insu
red
resu
lting a
s a co
nseq
uenc
e fro
m
busin
ess o
pera
tions
in th
e Hos
t Cou
ntry
havin
g bee
n inte
rrupte
d by P
olitic
al Vi
olenc
e or E
xpro
priat
ion.
Curre
ncy
Restr
iction
s
Delay
or in
abilit
y of a
For
eign E
nterp
rise
to ex
chan
ge lo
cal c
urre
ncy i
nto ha
rd
curre
ncy (
incon
vertib
ility)
or to
repa
triate
hard
curre
ncy f
unds
outsi
de th
e Hos
t Co
untry
(Non
-tran
sfer).
(Sou
rce:
Mar
sh, 2
013)
Debenhams plc. Analyst’s Report 2013 14
Economic Environment
Global, EU and The British Economic Growth
The uK economy witnessed a
0.3% growth in GDP in the first
quarter of 2013 and it was fol-
lowed by a 0.6% growth in the
second quarter. The graph below
shows uK’s historic gDP trends
and the future prospects for the
economy as forecasted by PwC
(2013). The most likely estimat-
ed scenario is rather positive,
with an expected growth of 1%
in 2013, and a growth of 2% in
2014.
A survey conducted by PMI
indicated that in the past few
months all the major uK sectors
had shown signs of recovery. The
retail sector’s growth in sales in
May 2013 has further improved
Debenhams’ prospects (PwC,
2013).
In the second quarter of 2013,
the Eurozone grew by 0.3% after
18 months of economic contrac-
tion, which led into its emergence
from recession. This growth was
ahead of the forecasts mainly due
to the 0.7% GDP growth of the
german economy (BBC, 2013).
These figures all indicate that
the prospects for the Irish seg-
ment of Debenhams, which had
experienced negative growth in
sales in the past few years may be
positive, as there are hopes of im-
provements of the sales growth.
Figure 15. GDP Growth Scenarios
Debenhams plc. Analyst’s Report 201315
The forecasts of the uK consumer
spending are similar to that of
gDP, but somewhat weaker due
to the negative growth in the real
earnings. Positive real growths
are forecasted to occur from 2015
onwards.
According to The economist
(2013), the global GDP in the first
quarter of 2013 grew by only 2.1%,
when this figure at the same time
in 2012 was at a reasonable 3.1%
rate.
Figure 16. EU GDP Growth (Source: BBC, 2013)
Figure 17. World GDP (Source: The economist, 2013)
Debenhams plc. Analyst’s Report 2013 16
tative easing (Qe) performed by
the government. However, it is
believed that the investor’s atti-
tude towards risk will return to
its normal level and it is estimat-
ed that by 2025 the 10 year gilt
rates will be around 4 – 5.5%.
Housing Prices
The house prices are expected
to recover based on figure 18.
House prices have been fore-
casted to reach their peak in real
terms (i.e. adjusted for inflation)
by 2021. This would, however,
affect Debenhams negatively, as
they will have to purchase new
stores at higher prices. Hence,
any plans for domestic expansion
has to take effect immediately.
Inflation
The consumer price index has
been rather unstable in the
past few months and PwC’s
(2013) economic outlook sug-
gested that the inflation could
go as high as 3% over the sum-
mer period, which is above the
target rate of 2.7%. The figures
released in August 2013 indi-
cate the inflation rate had been
at a moderate 2.8%, which is
close to that of the target (BBC,
2013). Based on the estima-
tions, the inflation rate in 2014
is expected to be above the tar-
get of 2.4% (PwC, 2013).
High levels of inflation mean that
there will be further declines
in the real earnings growth and
no positive growth is expected
until the years 2015 – 2017. on
the positive side, the uK em-
ployment growth has had an
upward trend and the improved
employment rates could increase
the household income. Further-
more, following the government
spending cuts, the non-employ-
ment incomes are also expected
to continue growing until 2016
(PwC, 2013). All this may result
in increased growth in the retail
sector, which in turn would bene-
fit Debenhams.
Interest Rates
government bond rates in the re-
cent years have been rather low
mainly due to the risk aversion
of the investors and the Quanti-
Figure 18. UK real house price projections to 2023 with high and low growth scenarios (Source: PwC, 2013)
Debenhams plc. Analyst’s Report 201317
Social Trends and . The Environment
Age distribution
According to figure 19 Deben-
hams’ main customers are the
middle aged segment of the pop-
ulation. The projections for 2033
show that the highest proportion
of the uK population comprise of
middle aged individuals, which
benefits Debenhams in the long-
run.
Consumer confidence
According to Reuters (2013), the
British consumer confidence has
reached its highest in more than
three years. With the gDP dou-
bling to 0.6% in the second quar-
ter of 2013 and increased growth
in the retail sector, it is evident
that the uK economy is showing
signs of recovery.
Climate
The performance of retailers
is often influenced by weather
conditions. The British climate
was rather volatile in 2013 with
a cold start to spring in April,
which hit the retailers hard and
slowed down the growth of large
department stores such as De-
benhams. However, according to
British Retail Consortium (BRC),
from May 2013 the retailers en-
joyed increased sales, with July
experiencing a 2.2% growth. The
growth in July, which was the
highest in seven years, was due
to that month’s heat wave (BBC,
2013). BRC further reported that
online sales grew only by 7.9%,
which is relatively lower than
other months. This shows the
positive impact of a good weather
on consumers, which encourages
them to leave houses and visit
high street shops.
Figure 20. The Changing Shape of the UK Population (Source: oNS, oeCD, 2009)
Figure 19. Debenhams’ Market Share By Age(Source: Debenhams’ Annual Report, 2012)
Debenhams plc. Analyst’s Report 2013 18
Technological Advancements
The retail industry in the recent
years experienced rapid growth
in sales through multi-channel
and e-commerce. Department
stores such as Debenhams have
first-hand witnessed the rapid
growth in online sales, which at
times were at rates of around
200%, over only a one year peri-
od.
Some of the modern technologies
currently used by many retailers
include “interactive televisions,
in-store technologies, augmented
reality, image recognition and
smart devices“ (The guardian,
2013). Companies such as Aruba
have designed networking infra-
structures to improve mobility
by Mobile point-of-sale and some
other devices, which improve in-
ventory management, customer
services, and the company’s se-
curity (Aruba, 2013).
According to a forecast, all these
new technologies stated above
are expected to contribute
£2.4bn to the total sales in retail
by the end of 2013 (The guardi-
an, 2013).
Figure 21. UK Consumer Confidence(Source: gFK, 2013)
Debenhams plc. Analyst’s Report 201319
The industry in which a company
competes is a major element in
understanding the company’s
environment. The industry can
be described as a group of com-
panies which produce goods that
are close substitutes of one an-
other. The structure of the indus-
try determines the competition
rules, as well as the strategies
available to the companies (Por-
ter, 1980).
Porter further discussed that
in an industry the state of the
competition is dependent on five
competitive forces. These five
forces put together determine the
potential profitability of the com-
pany in the industry. By utilizing
Porter’s five forces, the competi-
tive environment of Debenhams
is analysed.
Economies of Scale – High
In the past few decades there has
been a decrease in the number
of independent retailers. The in-
creased size of many uK depart-
ment stores and their vertical
organizational structures has
enabled them to enjoy maximised
cost efficiency and economies of
scale, which in turn has resulted
in the reduction of the prices of
their goods. While it is not impos-
sible to break the entry barriers,
the competitive advantages of
incumbents due their cost ad-
vantages make entry virtually
impossible.
2.3 Industry Analysis and Competitive Environment
Figure 22. Porter’s Five Forces (Source: Porter, 1980)
Capital Requirements – Moderate/High
entering the retail industry may
require relatively high capital
investments. The entrant has to
incur costs for advertising, mar-
keting, set-ups, licensing, product
registration and contracts with
suppliers in an attempt to gain
market share.
An article by the office of fair trad-
ing noted that although it has yet
not been proven whether capital
requirements constitute barriers
to entry, they definitely slow it
down. Incumbent retailers ap-
pear to raise capital relatively eas-
ier than the entrants (oFT, 1997).
Threat of Entry - MODERATE / LOW
Debenhams plc. Analyst’s Report 2013 20
0 1 2 3 4 5
Economies of Scale
Capital Requirements
Cost Advantages Independent of
Scale Legal Barriers
Access to Retail Sites
Threat of New Entrants Figure 23. Threat of New Entrants
Cost advantages Independent of Scale - High
Factors such as long-term rela-
tional contracts with suppliers,
having first move advantages in
accessing favourable geograph-
ical locations and steep experi-
ence curves have given incum-
bents absolute cost advantages
and have resulted in deterrence
of entry (oFT, 1997).
Legal Barriers - Moderate/Low
government policies such as the
planning regulation of 1996, and cer-
tain licensing and emission standard
requirements may deter entrance
into the retail industry. However, in
2011, the British government put
into effect its “plan for growth” policy,
which resulted in the removal of 130
out of the 257 restrictive regulations,
and the simplification of some 30
other regulatory policies. This was in
an attempt to promote the growth of
small businesses, decrease bureau-
cracy and stimulate the economy
(BBC, 2011).
Access to Retail Sites – Moderate
For retail stores such as Deben-
hams, having access to “prime
geographical locations” is of vital
importance (oFT, 1997). Access
to retail sites is often considered
a barrier to entry, when there
have been governmental and
regulatory interventions, which
set restrictions and limitations
on the entrants (oFT, 1997). For
instance in 1996, the implemen-
tation of planning regulations by
the British government resulted
in the rapid decline of planning
grants to large retailers. This
policy required retailers, which
were planning on opening stores
that were over 2,500 square me-
ters in size, to pass a “sequential
test” and a “test of need” (Sadun,
2008).
Figure 24. Planning Regulations of 1996(Source: Sadun, 2008)
Debenhams plc. Analyst’s Report 201321
Rivalry Amongst Existing Competitors HIGH
Concentration – Moderate/High
In 1980s, following the relaxation
of the restrictions on uK retailers,
many companies took advantage
of the growth cycle by increasing
their sizes and market concen-
trations. Department stores such
as Debenhams, Marks & Spencer,
John lewis and House of Fraser
have increased significantly in
size and have taken a considera-
ble share of the overall market.
Industry Growth – Slow
As discussed earlier, in July 2013
the high street sales increased
by 2.2%. This rapid growth has
been mainly due to the desira-
ble climate in this month. The
average growth in the retail
industry for the year 2013 has
been forecasted to be rather flat,
at a rate of 0.3% in real terms,
which is similar to the growth in
2012. However, the street retail
sales are expected to continue
declining, with total sales having
been estimated to fall by -1.9%
for the fourth subsequent year
(Retail Research, 2013). The slow
growth in the uK retail industry
means that companies must com-
pete fiercely in order to be able to
capture market share.
Ratio of Fixed to Variable Costs – Moderate/High
The major fixed costs of retailers
are the land and store fitting out
costs. Furthermore, the rental
costs are not linked with the sales
performance of the company and
rents generally increase regard-
less of the overall performance
of the market (Burt, Sparks, &
Teller, 2010).
on the other hand, the major
variable cost of retailers is their
labour force. However, according
to a study, 60% of the UK retail
employees are part-time and
64% are female, 70% of which
also work part-time. This gives
flexibility to the retailers and
allows them to reduce their var-
iable expenses (Burt, Sparks, &
Teller, 2010). Therefore the ratio
of fixed to variable costs is rela-
tively high.
Debenhams plc. Analyst’s Report 2013 22
Switching costs – Moderate
Department stores such as De-
benhams and Marks & Spencer
have managed to reduce consum-
ers’ search costs by providing a
“one-stop shopping service” and
offering a wide range of relatively
similar products (oFT, 1997). Ac-
cording to the office of fair trad-
ing (1997) search costs and shop-
ping costs have both contributed
to the reluctance of consumers
in switching from their regular
retailers. Furthermore, as long as
the quality of consumers’ retail
services do not decrease signifi-
cantly, individuals would rather
stick to their usual retail stores
and avoid incurring search costs.
Exit Barriers – Moderate/Low
The assets of retailers are often
not specialised and can be easily
moved to more profitable regions
or get liquidated. Furthermore,
the retail industry is not highly
intervened by the government
and hence, there are limited
regulatory barriers from exiting
the industry. However, there are
some social aspects to this. For in-
stance, exit from the industry by
giants such as Debenhams, which
have over 30,000 employees
would result in many job losses
and may have an adverse impact
on the overall well-being of the
economy. There is further the is-
sue of emotional barriers and the
management’s “unwillingness to
make economically justified exit
decision” (Porter, 1980). Figure 25. Rivalry Among Existing Competitors
Debenhams plc. Analyst’s Report 201323
Threat of Substitute Products - HIGH
Bargaining Power of Buyers - LOW
Substitute Products – High
There are many substitute prod-
ucts offered by retailers with
similar functions and purposes.
Fashion clothing, accessories
and home furniture are easily
replicable and can be produced
at relatively low costs and sold at
reasonable prices.
Substitute Services – High
The growth in the retail industry
in 2012 was around 0.5%, howev-
er, most of this growth was main-
ly due to the rapid increase in
the sales of online retail services,
which contributed to only 3% of
the total retail sales in 2007 and
increased to over 10% of the total
sales by 2012. The sales’ growth
of street retailers has been neg-
ative in the past four years. The
rapid growth in e-commerce and
online services is expected to cre-
ate many substitute services and
strip a large share of the market
from physical retailers.
Figure 26. Average Internet Retail Sales (£million) (Source: oNS, 2013)
According to the office of fair
trading (1997) the end-consumer
of retail stores can be described
as “Small, Immobile and Unin-
formed”. Customers have been
characterised as being small,
since their purchases constitute
only a fraction of both the cus-
tomers’ total expenditures and
retailers’ total sales. Consumers
have been further regarded as
being immobile, since they prefer
avoiding search and shopping
costs and are therefore not will-
ing to travel far distances in the
pursuit of finding appropriate
products. Finally, consumers are
uninformed, as they do not have
any knowledge about the avail-
ability of products, their prices
and their qualities. Due to all
these characteristics, it is clear
that the consumers have little to
no bargaining power (oFT, 1997).
Debenhams plc. Analyst’s Report 2013 24
Bargaining Power of Suppliers - LOW
uK retailers desire to sell high
quality products and they often
do this by carrying inspections
and conducting quality controls
or by managing the manufactur-
ing process in order to ensure that
the products meet the required
standard. When there is asym-
metry of information between
the suppliers and retailers, the
retail companies may intervene
by managing the supply process.
Furthermore, a retailer such as
Debenhams, which is concerned
about its reputation and wants to
maintain its perception on exclu-
sivity, may require its suppliers
to avoid supplying to any other
retailers (oFT, 1997).
Retailers as the sellers of fi-
nal goods are closest to the
end-consumer and have detailed
information about products.
Therefore, the market power has
been shifted towards retailers
and away from the suppliers, as
the supply chain management is
often carried out by the retailers
(oFT, 1997).
Figure 27. Analisys of Porter’s Five Forces
Figure 28. Five Forces of the Retail Industry
Threat of EntryMODERATE / LOW
Industry CompetitionHIGH
Industry ProfitabilityMODERATE
Buyer’s Bargaining PowerLOW
Supplier’s Bargaining PowerLOW
CoMPeTITIVe THReATS
BARgAININg PoWeR oF SuPPlIeRS/BuyeRS
Threat of SubstitutesHIGH
Debenhams plc. Analyst’s Report 201325
2.4 Analysis of Debenhams’ Business Strategy
Strategic Objectives
This section briefly outlines De-
benhams’ strategic objectives
and the actions which have been
undertaken by the firm’s man-
agement in the pursuit of these
goals. It is important to compre-
hend the direction, at which the
company is aiming at, as this will
enable understanding whether
the goals of the company are in
line with the maximisation of the
shareholders’ value.
The majority of this information
has been retrieved from the 2012
annual report and the company’s
website, which merely summa-
rize the company’s strategic
plans. Where necessary, the com-
pany’s objectives are evaluated
by referring to external sources
to identify, whether Debenhams’
plans have been helpful in im-
proving the firm’s overall perfor-
mance. external sources are also
the means of providing outside
perspective on the company’s
strategy.
Figure 29. Four Objectives of Debenhams Corporate Strategy (Source: Debenhams’ Annual Report, 2012)
Debenhams plc. Analyst’s Report 2013 26
Focusing on UK retail
The first objective of Debenhams
(2012) has been the modern-
isation of 30 of its 154 stores,
which had remained un-invested.
Debenhams claims that the sole
purpose of this modernisation
is meeting the demand of its
customers for a modern shop to
improve customer’s perceptions
on the Debenhams brand. They
further aim at improving the
choice offered in their stores so
that it meets the local demands.
Debenhams is further attempting
to increase the number of the uK
stores by opening and operating
70 new stores, which they believe
will increase their sales by £1
billion and result in economies of
scale. The new stores that were
opened in 2011 increased sales
by 5.8% and created 350 jobs
(Debenhams, 2011).
Delivering a compelling cus-tomer proposition
Debenhams (2012) is planning
to offer its customers a unique,
differentiated and exclusive col-
lection of brands. They have also
been attempting to improve per-
formance by raising the stand-
ards of visual merchandising and
product differentiation as well
as increasing the marketing and
advertising expenses in 2012,
which have supposedly increased
their sales.
Debenhams has shown its pride
on the company’s own-bought
sales participation, which in 2011
constituted 80.4% of their total
sales. However, in 2010, the City
traders were shocked by a “fore-
cast-busting” 18.6% increase in
the pre-tax profit to £123.6m,
when the like-for-likes were
only raised by 0.3% (Shields,
2010). Debenhams explained
this “modest” increase with the
company’s attempts in shifting
store space “to its higher margin
own-brand offer at the expense
of concessions” (Shields, 2010).
This justification may have been
reasonable, as in 2013, Deben-
hams’ like-for-like sales rose by
3.1% (Internet Retailing, 2013).
Increasing availability and choice through multi-channel
Debenhams’ focus in 2013 is on
increasing the choice of brands,
products and categories, which
are sold online and offering a
better range of delivery options.
This is a wise objective, as in the
first half of 2013, Debenhams’ in-
terim statements showed a 46%
growth in e-commerce sales to
£194.4m. Furthermore, 12.7% of
Debenhams sales› are generated
online (Internet Retailing, 2013).
Debenhams is hoping to increase
the e-commerce turnover to
£600m in the medium-term.
one of Debenhams’ other focuses
is to develop its mobile strategy.
An investigation conducted by the
company showed that in 2012,
27% of all the store visits were
from mobile devices, which is
higher than the industry average
of 15%. In the first half of 2013,
Debenhams’ mobile phone sales
increased by 265% in comparison
with 2012 (Internet Retailing,
2013).
First objective Second objective Third objective
Debenhams plc. Analyst’s Report 201327
Expanding the brand interna-tionally
Debenhams (2012) believes
that opening franchise stores is
a “low-cost, low-capital” way to
expand the brand in distant and
emerging markets. In 2012, De-
benhams entered two new mar-
kets of Russia and Pakistan and
they further opened new stores
in India, the Philippines and Iran.
In 2013, they plan on opening
new stores and entering new
markets.
Debenhams owns eleven stores
in Ireland and six in Denmark,
which trade as Magasin du Nord.
Debenhams (2012) believes that
Magasin du Nord , which had a
32.14% increase in sales in 2011,
has been performing well and
has increased margins. This has
been achieved through Deben-
hams own brands and Magasin’s
branded volume lines. The Irish
segment, which has suffered in
the previous years due to the
volatile economic environment
is expected to stabilise. Table 2
indicates that although Ireland
had negative growth in sales
every year, it also showed signs of
recovery.
Debenhams (2012) has further
noted that there has been expan-
sion in their international online
retail. Their strategy is said to
be “two-fold”. For their major
markets, they plan on developing
country specific websites. These
are to be designed in such way
that the websites are presented in
the local language and trades oc-
cur in local currency. The smaller
markets however, will have to
use overseas delivery from the
uK. Debenhams has further stat-
ed that during the course of the
year, the number of countries
they delivered products through
their website Debenhams.com
has increased from 7 to 66. They
further plan on expanding in 30
more countries.
Fourth objective
Debenhams plc. Analyst’s Report 2013 28
Distinctive Capabilities
In a world with an ever so com-
petitive business environment, it
is not surprising that many firms
have attempted to create distinc-
tive capabilities in the pursuit
of competitive advantages. Kay
(1993) identified these distinc-
tive capabilities as architecture,
reputation, and innovation.
Architecture
Kay (1993) identified architec-
ture as one of the main sourc-
es of distinctive capability. He
explained that the companies,
which have created “organiza-
tional knowledge and routines”
and as a result enhanced the flex-
ibility of the business by sharing
and exchanging information in
volatile circumstances have cre-
ated valuable architecture.
An architecture which adds value
to the firm is the result of rela-
tional contracts. These contracts
are implicit and in contrast with
the classical ones do not have
each and every expectation and
responsibility written in the
terms of the contract.
“Architecture therefore de-
pends on the ability of the firm
to build and sustain long-term
relationships and to establish
an environment that penalizes
opportunistic behaviour” (Kay,
1993).
Internal
Employees
External
Suppliers & Customers
ARCHITECTURE
Networks
Collaborating Firms
Figure 30. Corporate Architecture Structure by Kay (1993)
2.5 Debenhams’ Competitive Advantages
Debenhams plc. Analyst’s Report 201329
Debenhams’ Internal . Architecture
Many successful firms have man-
aged to create a set of routines,
styles and structures, by which
they consistently performed well
regardless of the economic envi-
ronment. They have done this not
by employing the most talented
employees, rather by utilizing
ordinary employees in achieving
extra-ordinary performance. This
has been the result of creating
organizational knowledge and
routines and setting a co-opera-
tive ethic (Kay, 1993).
Debenhams is a large enterprise
with over 30,000 employees.
Creating and sustaining a co-op-
erative ethic in such a large or-
ganization, especially one which
is based on deep relationships2 is
often a challenging task. In order
for an organization to sustain
such co-operation, there should
be a sense of common purpose
and goal among all employees
(Kay, 1993).
Debenhams has adopted certain
strategies within the organiza-
tion with the aim of creating a
sense of common purpose among
its employees and promoting or-
ganizational knowledge, as well
as individualistic excellence. The
points in figure 31 outline the
nature of the relationship of De-
benhams with its employees and
overview the schemes and plans
developed by the management,
which aim at improving the over-
all performance of the company.
It is clear that Debenhams en-
courages both team work and
individual perfectionism by the
means of incentive schemes and
personal development plans.
They have created a consummate
co-operative ethic by acknowl-
edging employees that their
opinions matter and influence
the strategic direction of the firm.
Debenhams further condemns
opportunistic behaviour by hav-
ing set a business code of conduct
and promoting whistle-blowing
against unethical behaviour.
The information regarding De-
benhams’ internal architecture
was mainly retrieved from sourc-
es published by Debenhams and
therefore, it is somewhat biased.
Reviews by former employees
of the company revealed that
although Debenhams has es-
tablished the above strategies,
they may have not been able to
implement them as efficiently as
possible. A sample of 28 former
employees rated Debenhams
2.9 out 5 stars, while the former
employees of Marks & Spencer
gave M&S a rating of 3.4 stars.
Furthermore, while 82% of re-
viewers recommended M&S as
a desirable work environment,
only 52% recommended Deben-
hams (glass Door, 2013).
2A consummate co-operation as opposed to a perfunctory one.
Debenhams plc. Analyst’s Report 2013 30
Figure 32. Debenhams (left) and M&S (right) Ratings (Source: glass Door, 2013)
Figure 31. Debenhams’ Employee Scheme
good performance of the teams and individuals are rewarded through employee recognition scheme and cash. In 2008, the company devel-oped the Share Incentive Plan, which is an unapproved plan operated by the company, directed towards the company’s senior managers
Debenhams’ personal development plan, allows any employee to grow their careers. According to Debenhams in 2011, 89% of retail manag-ers and 69% of senior executives were appointed internally
Debenhams values the opinion of its employees and the senior man-agement team is obliged to “listen and act on feedbacks” (Debenhams Annual Report, 2012).
employees are encouraged to express their talents. This is a good in-dication that relational contracts exist within the internal structure of Debenhams. expressing talent is an act, which is complex in nature and difficult to define in the terms of the employment contract.
In order to create a sense of common purpose among the employees, Debenhams attempts to highlight the importance of each individual and the role they play in the overall success of the company. This is done by sharing business information regarding the Debenhams per-formance, and by recognizing the teams and individuals who contrib-uted to this success.
In order to confront opportunistic behaviour, Debenhams has devel-oped “the code of business conduct” and the “anti-bribery and corrup-tion policy”. It encourages its employees to report acts of unethical be-haviour by any individual.
Debenhams enables its employees to invest in their future by giving access to defined contribution pension scheme with Legal & General.
Finally some other benefits offered to the employees are employee dis-counts, holiday packages and flexible working hours.
Rewards & Incentives
Growth Opportunities
Valuing Opinions
Recognition of Talents
A Sense of Common Purpose
Opportunistic Behaviour
Pension Schemes
Other Benefits
Debenhams plc. Analyst’s Report 201331
Debenhams’ External . Architecture
The external architecture of
Debenhams concerns its rela-
tionships with its suppliers and
customers.
“External architecture is found
where firms share knowledge
or establish fast response
times, on the basis of a series of
relational contracts between
or among them (Kay, 1993).”
Developing relational contracts
with suppliers is of high impor-
tance as it promotes the “sharing
of product knowledge and en-
courages flexibility of response”
(Kay, 1993). The benefits of
relational contracts are particu-
larly valuable in fashion retailing,
where the needs of the customers
changes frequently and there is
“strategic posturing by both par-
ties” (Kay, 1993).
A firm to sustain its architecture
needs to create long-standing re-
lationships. Debenhams has been
direct sourcing for a long time en-
abling it to create long-standing
relationships with its suppliers
around the globe.
Access to large number of sup-
pliers in different regions of the
world and long-standing rela-
tionships with them has enabled
Debenhams to share product
knowledge more flexibly and stay
aware of changes in the custom-
ers’ fashion tastes in different
areas of the world. Hence, the
sourcing strategy of Debenhams
based on the “right product, right
country” slogan, combined with
its relational contracts with the
suppliers has been translated
into an effective external archi-
tecture. Debenhams believes
that long-standing relationships
with the suppliers would further
allow the company to improve
the management of input costs.
Furthermore, these relationships
mutually benefit both parties as
they both have the goal of “opti-
mising sustainable fulfilment and
costs” (Annual Report, 2012).
unfortunately, in 2013, Deben-
hams was criticized for “bullying”
its suppliers and forcing them to
cut prices by 2%. Furthermore,
there have been reports that De-
benhams was taking advantage of
some of its suppliers by delaying
payments up to 120 days instead
of 90. If such opportunistic acts
are continued by Debenhams, it
could result in the destruction of
its long-standing relationships
with the suppliers, which would
adversely affect the company’s
performance (loveless & Craven,
2013).
Debenhams plc. Analyst’s Report 2013 32
With regards to the relationship
with customers, Debenhams
has been improving its ability in
meeting the demands of the local
markets by offering more flexible
ways of shopping (through mul-
ti-channel) and by responding
fast to any changes in the tastes of
the consumers through enhanced
communications. Debenhams has
been able to increase online sale
by 265% from 2012 to 2013.
Networks
A group of businesses, which
have created relational contracts
with one another are referred as
networks. There are 26 interna-
tional designer brands that are
sold by the Debenhams stores
across several countries. They
have created relational contracts
with these designers with the
aim of better understanding the
demands of the local markets and
improving their product knowl-
edge. Fast response times be-
tween these collaborating stores
has allowed all parties to improve
performance.
Figure 33. Direct Sourcing (Source: Debenham’s Annual Report, 2012)
Debenhams plc. Analyst’s Report 201333
Reputation
Kay (1993) regarded reputation
as the second source of distinc-
tive capability. Reputation is the
mean by which information about
a business is transferred to the
consumers. Reputation is of high
value in the markets where the
quality of products is important
and can only be realized over a
long period of experiencing those
products. Debenhams has been in
existence for over two centuries
and its ability in sustaining the
business over such a long period
may have had a positive impact
on its reputation. However, the
longevity of the business may not
be a good indicator for assessing
its reputation. Debenhams has
gone through dramatic changes
in the past decade. It has expand-
ed the business considerably
in the recent years by opening
new stores and franchises in the
different regions of the world. It
has further introduced many new
designers to the business and has
increased marketing and adver-
tising in multichannel. All these
changes appear to have had pos-
Figure 34. Value Chart (Source: yougov, 2013)
Figure 35. Quality Chart (Source: yougov, 2013)
Debenhams plc. Analyst’s Report 2013 34
itive impacts on the company’s
reputation. The introduction of
diverse selection of Debenhams’
own brands, uK brands and inter-
nationally recognized designers
has improved Debenhams’ repu-
tation for “contemporary quality
fashion and furnishing (Best-CD-
Price Shopping, 2013).”
Furthermore, Debenhams’ “profit
scare” in the first half of 2013, which
caused its share prices decline rap-
idly, did not change the perception
of consumers on Debenhams’ repu-
tation. The yougov brand index in-
dicated that the brand perception of
Debenhams for its quality and value
has remained stable in the past few
years. This shows that Debenhams
has been able to sustain its repu-
tation in a rather volatile market
environment.
Debenhams has established a sys-
tematic approach of identifying, as-
sessing, analysing and managing the
risks the company faces on a day to
day basis that could adversely affect
its reputation and cause a loss of
stakeholders’ trust. Below some of
these risks have been identified and
courses of action have been defined
in response to these risks.
Figure 36. Management of Reputational Risk (Source: Debenhams Annual Report, 2012)
Debenhams plc. Analyst’s Report 201335
Innovation
Innovation is usually considered
as a source of competitive advan-
tage, only when it is accompanied
by other distinctive capabilities.
Kay (1993) noted that often
times the rewards of the architec-
ture of a company are mistakenly
credited to innovation.
In recent years, Debenhams expe-
rienced high levels of innovation
and development in e-commerce
and multi-channel. In September
2011, Debenhams claimed that
it had developed an innovative
smart-phone technology by
which printed advertisements
were brought to life3. They fur-
ther launched a virtual shopping
innovation, which allows custom-
ers to “try on” range of clothing
in an augmented reality, simply
by downloading an application
(MacDonald, 2013).
At a recent presentation in lon-
don, Debenhams’ head of digital
operations discussed the recent
innovations of the company in
e-commerce and multi-channel
and its effects on the company’s
performance. Debenhams has
developed what is referred as
an “agency like” innovation. This
new approach adopted by the
company, is simply the means of
testing a new product or technol-
ogy in a small scale before devel-
oping it further. This has enabled
the company to develop new
technology and innovation at half
the previous time scale. However,
this approach has resulted in the
fragmentation of the company’s
architecture and the enhance-
ment in the innovation in the past
few years has been somewhat at
the cost of the company’s flexibil-
ity. (Payne, 2012)
Strategic Assets
The strategic assets of a firm, as de-
scribed by Kay (1993) are sources
of competitive advantage, which
concern the company’s dominance
or market position as opposed
to its distinctive capabilities. De-
benhams’ strategic assets in 2012
included the acquisition of licenses
and trademarks for a total value of
£7.2 million. Furthermore, Deben-
hams has incurred expenses on the
marketing and advertising division
of the business. Debenhams has
also invested over £5m on mul-
ti-channel and e-commerce, which
have allowed it to capture a larger
portion of the market. Finally, their
ability in opening and operating
75,000 square feet department
stores has enabled to increase
economies of scale and operate
more cost effectively.
All these strategic assets to some
extent act as barriers to entry, as
Debenhams as an incumbent has
incurred sunk costs, which need to
be made by entrants who are aim-
ing at capturing some share of the
market. The size of Debenhams, its
economies of scale and the compa-
ny’s large investments in acquiring
licenses and capturing market
share all may deter entry.
3 Pointing the phone at printed advertisements in magazines would open Debenhams’ website and play the advertisement on the smart phone.
Debenhams plc. Analyst’s Report 2013 36
In order for a company to take
full advantage of its distinctive
capabilities, it needs to choose
the appropriate markets. This is
an issue, which is often faced by
companies, as the market choice
needs to be made by taking both
the geographical and product
dimensions into consideration.
For distinctive capabilities such
as reputation and architecture,
the appropriate market is iden-
tified by the “nature of demand
for that product” (Kay, 1993). For
innovation on the other hand, the
“technical characteristics of the
product” determines the appro-
priate markets in which innova-
tion translates into a competitive
advantage.
While supply factors define the
industry, the markets are defined
by demand. Debenhams, which
once was a part of the Burton
group has been known for de-
fining its target market rather
too broadly. Debenhams has
been aiming at individuals of all
ages and both sexes. The figure
below shows the segments of the
market targeted by Debenhams
in comparison to some other uK
stores. The Burton group has
targeted a much smaller segment
of the market. In fact, their main
objective in the past few decades
has been targeting a specific,
single gender market. In 1980s,
The Burton Group started defin-
ing segments for the market and
Figure 37. Debenhams Target Market (Source: Irwin, 1998)
profiling their customers. They
found this to be a more efficient
way of running the stores. By
1993, apart from the Debenhams
department stores (which at the
time were a part of the Burton
group), all Burton shops targeted
a specific segment (Irwin, 1998).
This was the main reason that the
Burton group de-merged from
Debenhams, as they believed
Debenhams defined their target
markets too widely. The main de-
mand for Debenhams’ products
is by males and females of 33 to
55 years of age, who are not nec-
essarily interested in designer
labels, but do respond to brand
names (Koenig, 2013).
Even though it is often difficult
to extend reputation outside the
geographical region in which the
market was created, Debenhams
has opened stores and franchises
in other areas of the world. This
however, could be due to econ-
omies of scale, as a firm with a
competitive advantage in one
market could benefit from serv-
ing other markets even if it does
not have competitive advantages
in those markets.
2.6 Debenhams’ Market Choices
Debenhams plc. Analyst’s Report 201337
Debenhams plc. Analyst’s Report 2013 38
This section of the report analy-
ses Debenhams from a financial
perspective. It attempts to de-
termine whether the company’s
performance is in line with its
“stated goals and strategies” (Pa-
lepu, Healy, &Peek, 2010).
A company’s performance can
extensively be examined by
conducting Ratio and Cash flow
analysis. Ratio analysis examines
the relationship between the
various line items of Debenhams’
financial statements, while the
Cash flow analysis on the other
hand attempts to assess Deben-
hams’ liquidity and how the firm
manages its operating, investing
and financing activities (Palepu,
Healy, & Peek, 2010). Before con-
ducting the ratio and cash flow
analysis common-size statements
will be produced with the aim
of providing an overview of the
company’s overall performance.
Finally, some other financial
measures will aid understanding
the company’s health, credit wor-
thiness and its ability in sustain-
ing long run profitability.
Due to the limitations that have
been set upon this assignment,
the accounting policies of the
companies could have not been
discussed in the main body of the
text. A discussion of the impor-
tant accounting policies adopted
by the companies can be found in
the appendices.
FINA
NCI
AL A
NALY
SIS
3.1 Introduction
Debenhams plc. Analyst’s Report 201339
In order to make the analyses
more accurate and the compa-
nies more comparable, some
adjustments need to be made.
Fortunately, Debenhams’ peers
operate in the united Kingdom
and have all adopted the IFRS
and the company act 2006; as a
result no adjustments are needed
to converge from one standard to
another4. However, some items
on the financial statements re-
quired adjustments.
Goodwill
Although goodwill is not amor-
tized in the income statement,
tests are carried out annually to
determine whether it has been
impaired. If the goodwill is in-
deed impaired, it will not have
any effects on the cash flow anal-
ysis; however some ratios such as
return on assets, return on equity
and asset turnover are affected,
as they would show improved
performance in the periods after
the write down. Thus:
• goodwill has been complete-
ly eliminated in performing
the analysis
• goodwill impairment charg-
es have also been removed
from the income statement
Nonrecurring Items
Nonrecurring items have been
excluded from the analysis as
they are one-off in nature and
distort the analysis. These are
items such as profit and loss on
the disposal of properties, im-
pairment of assets and fair value
adjustments to financial instru-
ments.
Inventory Valuation
Although three of the companies
use the retail method in deriving
their costs of goods sold, the N
Brown group uses the FIFo meth-
od of inventory valuation. Con-
verting this method of inventory
valuation to that of its peers may
aid the analysis, however due to
the limitation of this report, no
adjustments were made.
3.2 Accounting Adjustments
4 For instance, while the lIFo method of inventory valuation is not allowed under the IFRS, the uS gAAP allows the use of this model. Furthermore, there are some discrep-ancies between the treatment of items such as finance income in producing cash flow statements and these distortions require adjustments.
Debenhams plc. Analyst’s Report 2013 40
Common-size statements nor-
malise the balance sheets and
income statements, and provide
information that are more easily
comparable across firms as well
as for a single firm over time.
Common-size statements further
allow the quick identification of
some financial ratios such as the
gross profit, net profit, and the
operating profit margins. Due to
the complex nature of the com-
mon-size balance sheets and the
confusions that they may cause
in comprehending the analyses,
only the common-size income
statements have been produced
in this section.
Vertical Trend Analysis
The vertical common-size analy-
sis of Debenhams’ consolidated
income statements attempts to
determine the company’s perfor-
mance in the past five years. The
vertical common-size income
statements express each line item
as a percentage of the company’s
total revenue. In 2010, there were
a total of £5.4m exceptional costs
that were deducted from the
operating profit. Due to non-re-
curring nature of these expenses,
they were added back to the net
income and the operating profit
figures.
3.3 Debenhams’ Common - Size Trend Analysis
Table 5. Debenhams’ Vertical Common-Size Income Statement
Debenhams plc. Analyst’s Report 201341
Financial ratios such as the gross
profit, operating profit and net
profit margins have been cap-
tured by the vertical analysis.
Firstly, it is evident that the items
on the common-size income
statements remained rather sta-
ble. Furthermore, even though
the net profit margin has been
increasing consistently, the oper-
ating profit and the gross profit
margins gradually decreased
over the five year period. Further
analysis of the common–size in-
come statements indicates that
this decrease has been due to
the drop in the percentage of net
finance cost in these five years.
Although the operating profit
margin dropped by 1.72% from
2008 to 2012, the net finance
costs decreased more rapidly by
3.07%, reducing this ratio from
3.82% to 0.75%. Figure 39 indi-
cates that the most substantial
change has occurred in the com-
pany’s net finance costs.
Gross Profit MarginOperating Profit MarginNet Profit Margin
Gross Profit MarginOperating Profit MarginNet Profit MarginNet Finance Costs (%)
Figure 38. Profitability Ratios Figure 39. Vertical Analysis
Debenhams plc. Analyst’s Report 2013 42
Table 6. Debenhams’ Horizontal Common-Size Income Statement
Horizontal Trend and Cross-sectional Analysis
Horizontal common-size analysis
is similar to vertical with the dif-
ference that the divisors are the
first years items of Debenhams’
income statements. In this sec-
tion cross-sectional common-size
analysis has also been conducted.
The main competitors of De-
benhams are Marks & Spencer,
House of Fraser and John lewis
Partnership, of which only Marks
& Spencer is a public compa-
ny. unfortunately, performing
a cross-sectional analysis with
only Marks & Spencer identified
as a competitor is rather biased.
As a result, a thorough research
revealed that Ted Baker and N
Brown group are also considered
Debenhams’ peers.
Debenhams’ gross profit has re-
mained rather stable in the past
five years. Furthermore, although
the company’s distribution costs
have increased by 1.6 times its
value in 2008, the operating
profit has remained almost un-
changed. Finally, the net finance
costs have decreased significant-
ly and the net profit attributable
to shareholders had a steady
growth in these five years.
When the vertical common-size
income statements were pro-
duced, cross-sectional analysis
was not conducted. This is be-
cause the main ratios captured by
the vertical analysis (e.g. net prof-
it margin) have all been analysed
extensively in the ratio analysis
section of this report. However,
for identifying the trends of rev-
enue, operating profit and net
profit across all the firms, the
horizontal trend analysis is of
high value, as it shows the move-
ment of these items regardless of
the sizes of the companies.
Debenhams plc. Analyst’s Report 201343
2008
1.01.01.01.0
DebenhamsM&S
N Brown groupTed Baker
1.6
1.4
1.2
1.0
0.8
0.6
0.4
0.2
0.02009
1.01.01.11.1
2010
1.21.01.11.2
2011
1.21.11.21.3
2012
1.21.11.21.5
2008
1.01.01.01.0
DebenhamsM&S
N Brown groupTed Baker
1.4
1.2
1.0
0.8
0.6
0.4
0.2
0.02009
1.00.71.00.9
2010
1.10.81.10.9
2011
1.00.81.11.1
2012
1.00.71.11.2
Figure 40. Revenue
Figure 42. Net Profit
Figure 41. Operating Profit
2008
1.01.01.01.0
DebenhamsM&S
N Brown groupTed Baker
1.6
1.4
1.2
1.0
0.8
0.6
0.4
0.2
0.02009
1.01.01.11.1
2010
1.21.01.11.2
2011
1.21.11.21.3
2012
1.21.11.21.5
Debenhams plc. Analyst’s Report 2013 44
From figure 40 it is evident that
apart from Ted Baker, which expe-
rienced a 50% growth in sales, all
other companies increased reve-
nue by only a margin of 10 – 20%.
later on, when the share prices of
these companies are analysed, it
will be shown that the movements
of their share prices appear to be
somewhat correlated with the
growth of their sales.
Marks & Spencer’s operating profit
fell by 30% in five years. However,
the largest drop occurred in 2009
where it fell by 30%. Ted Baker
also experienced a 20% drop in the
same year, but this drop was later
on reversed and by 2012 Ted Baker
took the lead. Finally, it is evident
that the growths in the operating
profits of Debenhams and N brown
group remained rather stable in
these five years. The stable operat-
ing profit of Debenhams along with
its increased revenue inidcates
that the company’s operating costs
have increased in this period.
Figure 42 shows the net profit
growth of the four companies. De-
benhams had a consistent growth
in net profit and grew to 160% of
its value in 2008. This growth in
Debenhams’ net profit, which has
been much higher than its peers
has been due to the company’s
ability in reducing finance costs.
In conducting the analysis adjust-
ments were made to the net prof-
its and the operating profits of N
Brown group, Ted Baker and Marks
& Spencer. These adjustments
were made due to the existence
of some non-recurring expenses
on the companies’ accounts, such
as exceptional items, profit and
loss from disposal of assets, fair
value adjustments, and non-gAAP
adjustments. Apart from some of
the exceptional costs incurred by
Marks & Spencer, many of these
expenses did not have any material
impacts on the analysis. An exam-
ple is as shown below.
Figure 43. Marks & Spencer’s Exceptional Costs(Source: M&S Annual Report, 2011)
Debenhams plc. Analyst’s Report 201345
3.4 Time - Series Ratio Analysis
The value of a firm is determined
by its growth and profitability
achieved by quality operational
management, investment man-
agement, financial strategy and
dividend policy (Palepu et al,
2010).
Ratio analysis attempts to deter-
mine whether the policies and
the strategies implemented by
Debenhams in the past five years
have been effective in creating a
profitable and growing compa-
ny. Conducting ratio analysis on
Debenhams is initiated by the
means of time-series analysis,
which will provide a picture of
the company’s performance.
Profitability
Profitability ratios are of high
importance and are regularly
watched by investors. The value
of the firms and their stock prices
are affected almost immediately
by unexpected changes to these
ratios. The main ratios for profit-
ability include the net profit mar-
gin, gross profit margin, return
on capital employed and return
on shareholder’s equity (Cornett
et al, 2012).
The net profit margin shows the
percentage of the sales remain-
ing after all expenses have been
deducted. This ratio is affected
by consumers, industry and the
general economic climate.
The net profit margin of Deben-
hams has increased in the past
five years. The trend has been
generally upward (with an insig-
nificant drop in 2010) and over
a five year period this ratio had
increased by about 2%. As it was
shown earlier, the operating prof-
it margin had a downward trend.
Therefore, the underlying reason
for this increase is the rapid drop
in financing costs.
2008 2009 2010 2011 20124.19%
14.55%17.32%61.53%
4.96%13.83%18.71%34.54%
4.82%13.70%23.57%21.99%
5.30%13.43%25.37%20.15%
5.62%13.56%19.29%18.98%
Net Profit MarginGross Profit Margin
RoCeRoe
Table 7. Debenhams’ Profitability Ratios
2008
%
6
5
4
3
2
1
0
2009 2010 2011 2012
Figure 44. Net Profit Margin
Debenhams plc. Analyst’s Report 2013 46
The Gross profit margin relates
gross profits to the sales. This
ratio is specifically of high value
to retailers who desire to know
how much the company profits
by buying and selling, before any
other costs have been taken into
account. Debenhams’ gross profit
margin has dropped by about 1%
in the past five years, which tells
of its stability.
Return on capital employed is a
major financial ratio in determin-
ing Debenhams’ profitability as it
indicates whether the company
has been able to generate profits
using the capital that it had em-
ployed. The capital employed by
a company includes long term in-
terest-bearing debt and the total
shareholder’s equity, which has
been adjusted for any distortions.
In comparison to the previous
two ratios, the RoCe experienced
significant changes. The return
on capital employed increased by
about 10% from 2008 to 2011,
before dropping in the year 2012.
Figure 47 reveals that the vola-
tility of RoCe has been due to a
rapid increase of operating profit
2008
%
30
25
20
15
10
5
02009 2010 2011 2012
Figure 47. Capital Employed and Operating Profit
Figure 46. ROCE
Figure 45. Gross Profit Margin
2008
%
14.6
14.4
14.2
14
13.8
13.6
13.4
13.2
132009 2010 2011 2012
2008
£m
1200
1000
800
600
400
200
0
£m200195190185180175170165160
2009 2010 2011 2012
Capital employedOperating Profit
Debenhams plc. Analyst’s Report 201347
in the years 2008 to 2010, which
was later followed by a sudden
decline.
Return on equity shows the re-
turn to the company’s investors
and the common equity share-
holders. Shareholders have in-
vested in the company’s assets
and need to know whether they
are getting any returns from their
investments. In short, this ratio
shows the relationship between
the net profit and the sharehold-
ers’ funds. The return on compa-
ny’s common equity has dropped
rather rapidly in the past five
years. In 2008, the return on
equity was 60% and by 2012 it
dropped to about 20%.
Management Efficiency
Asset management ratios at-
tempt to determine how effi-
ciently Debenhams has used
its assets. They further aim at
analysing Debenhams efficiency
in managing its accounts payable
(Cornett et al, 2012). Asset and
the inventory turnover ratios are
two important ratios in analysing
the efficiency of companies with-
in the retail industry. The inven-
tory turnover ratio determines
how many pounds of sales were
produced by one pound of inven-
tory (Cornett et al, 2012). The
asset turnover ratio is similar
to the inventory turnover ratio,
with the difference that instead
of the inventory, the assets of the
company are taken into consid-
eration. The inventory turnover
trend in the past five years has
been downwards; nevertheless
this change has not been signifi-
cant. The asset turnover ratio had
increased slightly by 2011, before
experiencing a drop in 2012.
Average inventory turnover
period measures the number
of days that the company holds
the inventory before selling it to
the customers. It is in the best
interest of the company to have
a low figure for this ratio, as it
is an indication of quality inven-
tory management (Cornett et al,
2012). The trend in the average
inventory turnover period has
been upwards, which could mean
that the company’s inventory
management has deteriorated in
the past five years. However, it is
important to highlight that a very
small figure is not necessarily a
good sign, and is often considered
a red flag, as it may mean that the
company does not have sufficient
inventory (Cornett et al, 2012).
Trade receivables collection pe-
riod measures the length of time
2008
%
70
60
50
40
30
20
10
02009 2010 2011 2012
Figure 48. ROE
Debenhams plc. Analyst’s Report 2013 48
that takes the company to collect
its accounts receivable. A low fig-
ure is preferred as the company
should attempt to collect receiv-
ables as fast as possible in order
to reduce its financing costs. It
is evident that this figure has
remained unchanged in the past
five years. A very small figure
for the average collection period
could simply mean that the com-
pany has a very strict receivable
policy, which may result in cus-
tomers buying products from
competing firms.
The trade payables settlement pe-
riod is the length of time it takes
the company to pay its creditors.
The management often prefers
the company to pay its account
payable as slowly as possible.
This is because the company will
be able to delay obtaining higher
cost sources of financing (Cornett
et al, 2012). This measure has de-
2008 2009 2010 2011 20125512
109-42
5612
103-34
561295-26
591294-23
621296-22
(in days)Average inventory turnover periodTrade receivables collection periodTrade payables settlement period
Cash conversion cycle
Table 8. Debenhams’ Management Efficiency Ratios
2008
1.81
6.62
Asset turnover ratio
Inventory turn-over ratio
x
7
6
5
4
3
2
1
02009
1.97
6.49
2010
2.56
6.46
2011
3.05
6.21
2012
2.46
5.90
2008
days
64
62
60
58
56
54
52
502009 2010 2011 2012
Figure 49. Average Inventory Turnover Period
Figure 50. Asset and Inventory Turnover Ratios
Debenhams plc. Analyst’s Report 201349
2008
days
115
110
105
100
95
90
852009 2010 2011 2012
2008
days
-15
-20
-25
-30
-35
-40
-45
2009 2010 2011 2012
Figure 51. Trade Payables Settlement Period Figure 52. Cash Conversion Cycle
creased by about 15 days in the
past five years (see fig. 51). There
were however signs of improve-
ment in 2012. A very high figure
could be due to the company
abusing its credit terms, which
could result in suppliers revoking
the company’s ability in purchas-
ing on an account (Cornett et al,
2012).
All the above measures are useful
in deriving what is referred to as
the cash conversion cycle, which
is a measure of the company’s
liquidity and is also useful in un-
derstanding the company’s effi-
ciency in managing its inventory,
accounts receivable and accounts
payable.
Debenhams’ cash conversion
cycle is negative, which is an in-
dication of quality management.
However, it is important to high-
light that negative cash cycles are
not sustainable in the long run,
which explains its increase in the
past five years. This is because a
negative cash cycle implies that
the suppliers are paid only after
all collections have been made
from the customers.
As it was seen earlier the trade
payables settlement period had
decreased over the years, which
may have been due to stricter
credit terms by Debenhams’
suppliers. Furthermore, the av-
erage inventory turnover period
appears to have deteriorated in
these years. These in turn have
increased Debenhams’ cash con-
version cycle.
Debenhams plc. Analyst’s Report 2013 50
Figure 53. Liquidity Ratios
2008
0.540.160.07
Current Ratio Quick Ratio
Cash Ratio
x0.90.80.70.60.50.40.30.20.1
02009
0.880.420.31
2010
0.410.130.06
2011
0.590.140.04
2012
0.630.160.06
Liquidity
liquidity ratios measure the
company’s ability in meeting
its short term obligations. They
attempt to determine the rela-
tionship between the company’s
current assets and current lia-
bilities (Cornett et al, 2012). In
the previous section, the cash
conversion cycle revealed that
the company’s liquidity has been
decreasing in the past five years.
However some other ratios will
better aid understanding the
trend in the company’s liquidity.
The first ratio analysed in this
section is the current ratio, which
is the broadest of all liquidity
measures, as it includes all the
company’s current assets. Quick
ratio is another measure for eval-
uating the firm’s liquidity, which
excludes inventories5 from the
current assets and as a result
give a better view of the com-
pany’s liquidity. Finally the cash
ratio measures liquidity by only
including cash and marketable
securities, which are the most
liquid assets of the company.
5 The least liquid of current assets
All three ratios indicate that De-
benhams’ liquidity increased sig-
nificantly in the year 2009, which
was followed by a major drop in
the 2010 (see fig. 53). The trend
following the year 2010 was
stable without any significant
changes in the cash and quick
ratio. However, the current ratio
increased from 0.4 to 0.6 before
experiencing only a marginal
growth in 2012. The most im-
portant issue to consider is that
all ratios are below 1.0, which
means that Debenhams does not
have enough current assets to
meet its short-term obligations.
It is important to note that even
though high levels of liquidity
guard the company against li-
quidity crises, they come at the
cost of lower profits. This is be-
cause liquid assets do not gener-
ate much revenue for the compa-
ny. Higher levels of liquidity could
be a major signal of inefficient
management of the firm.
Debenhams plc. Analyst’s Report 201351
2008
x16141210
86420
x0.50.450.40.350.30.250.20.150.10.050
2009 2010 2011 2012Cash coverage ratioInterest coverage ratioCash generated from opera-tions to maturing obligations
2008 2009 2010 2011 20120.441.932.74
0.391.892.73
0.282.214.23
0.372.667.84
0.363.45
14.62
Cash generated from operations to maturing obligationCash coverage Ratio
Interest Coverage Ratio
Table 9. Debenhams’ Analysis of Liquidity Using Cash Flow Ratios
Some other measures for exam-
ining the liquidity are cash flow
ratios. Since cash flow statements
are not prone to manipulations,
cash flow ratios are very popular
among analysts, as they are more
reliable. Therefore, to get a better
view of the company’s liquidity,
a few other ratios have been an-
alysed.
The cash coverage and the in-
terest coverage ratios have in-
creased in the past five years.
Specifically, the interest coverage
ratio has grown significantly in
these years and this has been
mainly due to the reduced cost of
financing of Debenhams.
Capital Structure and Debt Management
This section analyses Debenhams
capital structure, in order to give
an understanding of the extent
to which the company has been
financed with debt. The capital
structure employed by Deben-
hams’ management, influences
its viability as a long-term entity
(Cornett et al, 2012). A company
which has been financed with
high levels of debt may be able
to provide higher cash flows to
its stockholders; however, this
increase in cash flows may come
at the cost of company’s bank-
ruptcy. often companies in the
industries, which are not very
profitable, are the ones that have
been financed with high levels of
debt.
In order to analyse Debenhams’
capital structure, the trend in the
levels of the company’s total debt
and its total shareholder’s equity
have been examined as shown in
figure 56. Only long and short-
term interest bearing debts were
included in the calculation of the
total debt.
Figure 54. Cash Flow Analysis of Liquidity
Debenhams plc. Analyst’s Report 2013 52
Total DebtTotal equity
Figure 55. Debenhams’ Total Debt in 2011 & 2012(Source: Debenhams Annual Report, 2012)
Debenhams had the highest level
of debt financing in 2008. Follow-
ing this year the company became
less geared and the level of total
shareholder’s equity increased.
As it was shown earlier, the fi-
nancing costs of Debenhams de-
creased dramatically in the past
few years, which can be credited
to the decrease in the company’s
levels of debt. Furthermore, the
underlying reason for growth in
shareholder’s equity is the de-
crease of the negative retained
earnings of the company and the
increase in its merger reserves.
2008
£m
1200
1000
800
600
400
200
02009 2010 2011 2012
Figure 56. Capital Structure
Debenhams plc. Analyst’s Report 201353
2008 2009 2010 2011 201287.68%
2.3561.73%
2.917.46%3.45
27.05%6.73
27.39%9.78
gearing RatioInterest Coverage Ratio
Table 10. Debenhams’ Debt Management Ratios
2008
75176.1
Finance costs Operating profit
£m250
200
150
100
50
02009
62.7182.2
2010
56.5195.1
2011
27.3183.7
2012
17.9175
As shown in table 10 Debenhams’
gearing decreased significantly
in the past five years, with the
lowest level being in 2010. At the
same time the level of interest
coverage ratio increased from
2.35 to 9.78. This means that in
2012 for each pound of interest
payment there has been 9.78
pounds of operating profit avail-
able to cover the interest obli-
gation (Cornett et al, 2012). This
increase in the interest coverage
ratio has been mainly due to the
decrease in financing costs in the
past five years, as the operating
profit remained stable in the
years of the analysis.
Market Value Ratios
In order to determine whether
Debenhams’ share prices reflects
the market’s view on the compa-
ny’s future profitability, market
value ratios have been used. An
important ratio to investors is
the return on equity; however,
return on equity does not show
the increased risks that may be
embedded in higher returns. For
instance, the company may be
highly geared and the high re-
turns may arise from increased
levels of debt financing. This in-
formation can be easily observed
in the firm’s market prices, as
they are a reflection of the mar-
ket’s view on the company’s fu-
ture performance.
Figure 58 shows the share price
performance of Debenhams from
September 2008. In 2008 the
share prices were at their lowest
range, having hit figures as low as
20 pence per share. This decrease
Figure 57. Operating Profit and Finance Costs
Debenhams plc. Analyst’s Report 2013 54
Figure 58. Debenhams’ Share Price Movement(Source: Financial Times, 2013)
in prices has been mainly due the
increased level of investors’ risk
aversion following the financial
crisis and their reluctance in
taking positions in cyclical firms
such as Debenhams. In 2009, the
prices increased significantly to
about 100 pence per share and
from that date until 2012 the
share prices experienced a mod-
erate downward trend. Following
the year 2012, Debenhams’ share
prices increased significantly,
reaching a peak price of 120
pence per share before dropping
to a support level of 80 pence.
generally the increase in Deben-
hams’ share prices in 2012 shows
the market’s positive sentiment
regarding the future profitability
of Debenhams. This increase is
also somewhat correlated with
the positive economic growth
forecasts. However, a “profit
scare” report that was released in
March 2013, led into the decline
of the share prices. An analysis
conducted by yougov, indicat-
ed that the profit scare had not
changed the consumers’ percep-
tion on Debenhams, and hence,
an upward trend in share prices
ensued.
Debenhams plc. Analyst’s Report 201355
2008 2009 2010 2011 20129
4.6317.20%
107.27
0.48%
7.57.16
0.00%
9.15.33
2.76%
9.89.69
4.11%
EPS(pence)P/E
Dividend yield
Table 11. Investor Ratios
2008
12
10
8
6
4
2
02009 2010 2011 2012
2008
m
1400
1200
1000
800
600
400
200
0
£m
140
120
100
80
60
40
20
02009 2010 2011 2012
Shares outstandingNet income
Debenhams’ ePS has been rela-
tively stable in the past five years
with the exception of a decrease
in 2010. The stability of ePS has
been due to the consistency of the
growth in the net income and the
number of shares outstanding
(see fig. 61). The reason for the
ePS drop in 2010 lies behind the
disproportionate growth of these
two items.
The price-earnings ratio relates
the market price of a stock to the
earnings per share of the com-
pany. This ratio measures the
amount investors are willing to
pay for each pound that Deben-
hams earns per each share of its
stock (Cornett et al, 2012). Figure
60 shows a rather volatile Pe
ratio for Debenhams in the past Figure 61. Shares Outstanding and Net Income
2008
12
10
8
6
4
2
02009 2010 2011 2012
Pence Figure 59. EPS
Figure 60. P/E
Debenhams plc. Analyst’s Report 2013 56
2008
%1816141210
86420
2009 2010 2011 2012
five years. However in 2012 there
has been a significant increase
in this measure, which reflects a
generally positive sentiment to-
wards the future profitability of
the company.
Dividend yield shows the cash
flow returns on investments on
Debenhams’ stock. It is a useful
measure in analysing the amount
of cash flow an investor receives
for purchasing a stock. Deben-
hams’ dividend yield decreased
significantly in 2009, dropping
from 17.20% in 2008 to 0.48% in
2009. The author believes there
have been two contributing fac-
tors, which led to this decrease.
Figure 62. Dividend Yield
• The first reason may have
been the company’s expan-
sion into Denmark and the
acquisition of Magasin du
Nord in 2009. Many firms
that are in a stage of growth
do not pay dividends; rather
they reinvest the capital in
the business.
• The second reason may have
been due to the company’s
large negative retained earn-
ings in 2008 and 2009. An
explanation may be that fol-
lowing the financial crisis the
company decided to recover
its losses, as opposed to pay-
ing dividends.
Du-Pont Analysis
In the profitability sections it was
shown that in the past five years
Debenhams’ Roe declined expo-
nentially. Due to the importance
of Roe, the Du-Pont Corporation
invented a method by which the
Roe was broken down into three
to five components, and each
component was analysed individ-
ually. The Du-Pont Corporation
established that the Roe is a
product of the net profit margin,
total assets turnover and the eq-
uity multiplier ratios.
The return on equity is broken
down into three components,
each of which measures the
company’s profitability, manage-
ment efficiency and its capital
structure. Table 12 shows that
the company’s profitability and
management efficiency have
remained rather stable in the
previous years. The component
which led Debenhams in having
a high ROE of 61.53% in 2008,
and then decrease exponentially
over five years to 18.98%, has
been the decrease in the equity
multiplier, which is a measure of
leverage. This is consistent with
the previous findings, which
showed that although in 2008
Debenhams was highly geared,
the debt financing was decreased
significantly by 2012.
2008 2009 2010 2011 20124.19%
1.818.12
61.53%
4.96%1.973.54
34.54%
4.82%2.561.78
21.99%
5.30%3.051.25
20.15%
5.62%2.461.37
18.98%
Net Profit MarginTotal Asset Turnover
Equity MultiplierROE
Table 12. Du-Pont Analysis
Debenhams plc. Analyst’s Report 201357
In the previous section, time-se-
ries ratio analysis of Debenhams,
aided to some extent the un-
derstanding of its performance
over a five year period. However,
time-series analysis on its own
only gives a limited picture of the
company’s performance. There-
fore, conducting cross-sectional
analysis is necessary for obtain-
ing a more precise image of the
company’s financial health.
The aim of cross-sectional anal-
ysis is to compare the perfor-
mance of Debenhams with “sim-
ilar companies, which compete in
the same markets, have similar
asset sizes, and operate in the
similar manner to the firm being
analysed” (Cornett et al, 2012). It
is often very difficult to identify
identical firms that compete in
the same market. Hence, the au-
thor has used his best judgement
in choosing suitable companies
for conducting the analysis.
3.5 Cross - Sectional Ratio Analysis
Profitability
According to the retail owner
institute (2013) a key ratio for
comparing the profitability of
companies that operate in the
retail industry is the Return on
Capital employed.
Ted Baker had a significantly
higher RoCe in comparison to
its peers. Furthermore, Deben-
hams’ profitability from 2009
to 2011 increased by about 5%,
while in comparison, its peers all
sustained a somewhat stationary
RoCe. By 2011, Debenhams had
already outperformed Marks &
Spencer and N Brown group.
However, in 2012, Debenhams’
ROCE declined by about 6%,
which brought back its RoCe to
roughly the same level as the N
Brown group and Marks & Spen-
cer.
2008
17.3227.9818.4239.74
DebenhamsM&S
N Brown groupTed Baker
%4540353025201510
50
2009
18.7118.9418.0732.15
2010
23.5719.4417.7131.98
2011
25.3718.2018.6633.93
2012
19.2918.3516.9633.60
Figure 63. Profitability (ROCE)
Debenhams plc. Analyst’s Report 2013 58
Management Efficiency
The inventory turnover ratio is
a suitable measure for assessing
the management efficiency of the
companies. This ratio has been
regarded as a key efficiency in-
dicator for firms operating in the
retail industry.
A very high inventory turnover
ratio may mean that the company
has not sufficient inventory or
that the inventory is obsolete. A
very low inventory turnover ratio
on the other hand could be due
to inefficient management of the
inventories. Debenhams invento-
ry turnover ratio had remained
stable in the past five years and
furthermore, it is evident that in
comparison to its competitors,
this ratio not too high or too low.
2008
6.6211.324.012.03
DebenhamsM&S
N Brown groupTed Baker
2009
6.4911.104.501.90
2010
6.4610.304.961.80
2011
6.219.274.721.89
2012
5.909.044.411.77
Figure 64. Management Efficiency
12
10
8
6
4
2
0
x
2008
0.540.594.342.24
DebenhamsM&S
N Brown groupTed Baker
2009
0.880.604.861.93
2010
0.410.804.522.36
2011
0.590.743.352.14
2012
0.630.735.111.98
Figure 65. Liquidity6
5
4
3
2
1
0
x
Liquidity
The current ratio is the main
measure for examining the li-
quidity of the companies in the
retail industry.
As it is evident from the graph
below, both Marks & Spencer and
Debenhams are illiquid as their
current ratios are less than 1.0.
A current ratio of less than 1.0
indicates that the company will
not be able to meet its short-term
obligations should such obliga-
tions arise. Both N Brown and
Ted Baker appear to be very liq-
uid, however as discussed earlier,
high liquidity may come at the
cost of profitability, as liquid as-
sets do not generate much profit.
Debenhams plc. Analyst’s Report 201359
Capital Structure
For analysing the capital struc-
ture across firms, the gearing
ratio had been used. The graph
below indicates that Debenhams
had the most volatile gearing
ratio, whilst Marks & Spencer
and the N Brown group had only
fluctuated by a 10 - 12% margin
in the past five years. Debenhams
had the highest gearing ratio in
2008, however, by 2010 it be-
came the least geared company.
Ted Baker has been excluded
from the analysis, as it has no
long-term interest bearing debts.
Market Value Ratios
Figures 68 and 69 show the price
movement of Debenhams in
comparison to its peers and the
general retail industry. The share
price performance of N Brown
group, Debenhams and Marks
and Spencer have been similar
in the past five years. Ted Baker
on the other hand diverged from
the rest of the group in 2012 and
its share prices experienced a
relatively large growth in 2013.
Figure 68 further shows that De-
benhams has consistenlty been
able to outprform the general
retail industry in the five years of
the analysis.
2008
87.6849.6550.69
Debenhams M&S
N Brown group
%100
80
60
40
20
02009
61.7350.2148.82
2010
7.4651.0341.89
2011
27.0541.8134.52
2012
27.3941.2138.33
Figure 66. Capital Structure
2008
4.635.969.68
11.11
DebenhamsM&S
N Brown groupTed Baker
1816141210
86420
2009
7.276.657.29
10.39
2010
7.169.467.54
13.33
2011
5.338.759.19
14.71
2012
9.6910.257.51
17.02
Figure 67. Price to Earnings
Debenhams plc. Analyst’s Report 2013 60
Figure 68. Debenhams’ Price Movement In Comparison to FTSE 350 General Retailing(Source: Financial Times, 2013)
Figure 69. Debenhams’ Price Movement In Comparison to Peers(Source: Financial Times, 2013)
The P/e ratio trend shows that
Debenhams’ price to earnings
was lower than its peers in 2010
and 2011; however, this multiple
picked up significantly in 2012,
following the increase in Deben-
hams’ share prices from about
60 pence to over 100 pence per
share. Nevertheless, in 2013 the
company’s P/e ratio of 11.03 has
remained consistently below the
industry P/e ratio of 15.27.
Debenhams plc. Analyst’s Report 201361
3.6 Analysis of the Retail Specific Ratios
The cross-sectional and time-se-
ries analysis of Debenhams has
also been conducted using retail
specific ratios. While common fi-
nancial ratios are good measures
for understanding the overall
performance of the company,
the retail specific ratios attempt
to analyse some specific factors
which may have not been cap-
tured by the earlier analyses and
are important to the survival of
the retailers.
unfortunately, there are a few
limitations to this analysis. Some
companies do not report many
of the items that are needed in
calculating these ratios. Hence, at
times only two or three compa-
nies were used in conducting the
cross-sectional analysis.
Like for Like Sales
Figure 71 shows Debenhams’
trend in like fore likes and unad-
justed sales increase in the past
five years. Like for like shows the
growth in sales from one year to
the next after excluding the effects
of expansions, acquisitions or any
other events, which may have re-
sulted in artificially inflated sales.
It is evident that the like for like
sales of Debenhams and Marks
& Spencer have followed a some-
what similar trend. Both compa-
nies had negative trends in 2008
and 2009, which may have been
due the financial turmoil of 2008.
After 2009, they showed signs of
growth and by 2012 Debenhams
and N brown group reached the
same level of like for like sales.
It can generally be said that the
growth in Debenhams’ like for
likes has had an upward trend.
Furthermore, due to the cyclical
nature of retailers, this upward
trend is expected to continue
since the uK economy is on the
verge of recovery.
Figure 70. Like for Like Sales
2008
-0.9-0.512.5
Debenhams M&S
N Brown group
%15
10
5
0
-5
-102009
-3.6-5.910.7
2010
00.93.3
2011
-0.32.91.3
2012
1.60.31.6
Debenhams plc. Analyst’s Report 2013 62
Gross Margin Return on Inventory
This ratio shows the average re-
turn generated by the inventory
over its cost. A ratio of more than
1.0 is an indication that the com-
pany is selling its inventory more
than its cost. It is evident that
Debenhams’ g.M.R.o.I has been
below 1.0 in 2011 and 2012 and
in the the past five years it has
never been significantly above
1.0. The competitors on the other
hand were able to generate re-
turns well above the cost of their
inventories.
Sales per Square Foot
This measure shows the manage-
ment’s efficiency in creating rev-
enue for each square foot of the
shop floor. Debenhams and Marks
& Spencer retained a stable ratio
during the five year period. On
the other hand, Ted Baker’s trend
in sales per square foot followed
a u shaped pattern.
2008
%1210
86420
-2-4-6
2009 2010 2011 2012
Figure 71. Sales Growth
2008
1.137.134.962.82
DebenhamsM&S
N Brown groupTed Baker
8
7
6
5
4
3
2
1
02009
1.046.585.112.68
2010
1.036.305.482.82
2011
0.965.745.513.05
2012
0.935.494.972.80
2008
171.82590.74912.62
Debenhams M&S
N Brown group
£100
80
60
40
20
02009
173.42547.94824.74
2010
170.97556.36778.10
2011
177.59559.81831.16
2012
178.08554.26895.40
Figure 72. G.M.R.O.I
Figure 73. Sales Per Square Foot
unadjusted growthlike for likes
Debenhams plc. Analyst’s Report 201363
3.7 Credit Worthiness and Distress Prediction
There are many reasons as to
why firms use debt as a source of
financing. Companies with high
rates of marginal tax find debt
financing very attractive, as they
are able to deduct the interest as
an ordinary business expense.
This source of financing further
motivates the company’s manage-
ment to create value for the firm,
which reduces conflicts of interest
between the shareholders and
managers. (Palepu, Healy, & Peek,
2010)
In order to analyse the credit wor-
thiness of Debenhams, it is im-
portant to evaluate the likelihood
of this company experiencing
financial distress. Analysing the
credit worthiness of a company,
simply by relying on a specific
model is naïve (Palepu, Healy, &
Peek, 2010). A thorough analysis
requires the assessment of the
company’s strategy, accounting
policies, financial ratios and some
other factors. Nevertheless, these
models aid the analysis by giving
an overall view on the company’s
probability of experiencing finan-
cial distress.
For analysing Debenhams’ finan-
cial health, the Taffler’s Z-Score
model, a popular model in pre-
dicting financial distress for UK
companies, has been used. In this
model four variables are assigned
weights and the sum of the prod-
ucts of each coefficient with its
corresponding variable produces
a unique Z value. If the Z-value de-
rived is less than zero, the model
predicts financial distress.
Z=3.2+12.18(X1 )+2.5(X2 )-10.68(X3 )+0.0289(X4 ) (1)
6 This ratio is defined as:
Table 14. Accuracy of Bankruptcy Models(Source: Fedorova, gilenko, & Dovzhenko, 2012)
Table 13. Taffler Z-Model Analysis
Debenhams plc. Analyst’s Report 2013 64
According to the the analysis in
table 13, the Taffler model pre-
dicts bankruptcy for Debenhams.
However, in order to have a more
accurate analysis, a different
bankruptcy model has also been
used. Table 14 shows the accu-
racy of the forecasts of different
bankruptcy models across 3,505
medium-sized Russian enterpris-
es (Fedarova et al, 2012). The
Fulmer’s model appears to have
the highest overall efficiency in
predicting financial distress and
is the most accurate in identifying
healthy companies. Therefore,
if Debenhams is indeed healthy,
there is a higher probability it will
be identified by this model. The
Fulmer model predicts bankrupt-
cy when H < 0, which is the case
for Debenhams. Both Bankruptcy
model have predicted financial
distress for Debenhams.
There are many problems asso-
ciated with using the bankruptcy
models. Firstly, the ratios are
often calculated using historical
information, which in case of De-
benhams is represented by 2012
annual report as the latest data
have not been released yet. even
with the most recent data, there
is no theoretical explanation for
justifying the use of these mod-
els and, therefore, there is no
evidence that these models have
been specified correctly. Moreo-
ver, the model only predicts two
scenarios of bankrupt or no bank-
ruptcy, which is rather simplistic.
It is also important to point out
that these models predict bank-
ruptcy one year in advance. It has
been over ten months since the
release of the annual reports and
the company appears to be oper-
ating normally.
H=5.528(V1 )+0.212(V2 )+0.073(V3 )+1.27(V4 )-0.120(V5 )
+2.335(V6 )+0.575(V7 )+1.083(V8 )+0.894(V9 )-6.075
(2)
Table 15. Fulmer H-Model Analysis
Debenhams plc. Analyst’s Report 201365
eVA was developed in 1982 by
the corporate advisory firm of
Joel Stern and g. Bennett Stewart
III as a measure of the economic
profit, as opposed to the ac-
counting profit of an entity. The
difference between this method
of measurement and some “tra-
ditional methods” of measuring
profit is that EVA determines the
residual income of the company
“net of both the direct cost of debt
capital and the indirect cost of eq-
uity capital”. (grant, 2003)
3.8 Economic Value Added
There are two different methods
of defining the EVA namley the
accoutning and the finance ones.
This section concentrates on
evaluating Debenhams’ eVA by
using the acounting definition.
The accounting measure of eVA
is calculated as the Net operating
Profit After Tax less the weighted
average cost of capital.
Calculating NOPAT
The Net Operating Profit after tax
shows the ability of a company
in generating earnings when the
company in not geared. In deriv-
ing at NoPAT, certain adjustments
were made to the earnings before
interest and tax (eBIT) in order
to obtain a more accurate figure.
These adjustment were made as
shown in table 16.
EVA=NOPAT-£ Cost of Capital (3)
Table 16. NOPAT Calculations
7 Calculations are shown in the appendix
Debenhams plc. Analyst’s Report 2013 66
been conducted in deriving the
cost of equity and the weighted
average cost of capital required
certain assumptions to be
made. Furthermore, relying on
the standard form of the CAPM
model is rather limited as this
model makes many assumptions
in measuring the cost of equity.
In order to assess the accuracy
of the results sensitivity analysis
needs to be conducted.
Figure 74. EVA
8 Debenhams does not issue any bonds. So the Market value of the company’s loans had to be calculated by a specific relationship, which has been shown in the appendices. 9 Cost of Debt has been estimated by taking the weighted average of the company’s interest rates. The calculations have been shown in the appendices. 10 The return on the market has been calcu-lated for each year, by taking the geometric average return of the previous 11 years of the FTSe 250 Index. A big sample size was needed for each year’s calculation in order to get a positive value for this variable.
Cost of Capital
Since Debenhams does not is-
sue any preferred shares, the
weighted average cost of capital
is calculated by using the below
relationship:
D = Market value of Debt8
E = Market value of Equity (Annual Market Capitalization)
V = Total Market Value (D+E)
Kd = Cost of Debt9
Ke = Cost of Equity
τ = Corporate tax rate
The cost of equity of the company
has been calculated using the be-
low equation:
Rf = risk free rate (10 year UK govern-ment bond yields)
Β = systematic risk (Retrieved from Financial Times)
Rm = Return on the market10
CRP = UK’s average country risk pre-mium
ke=rf+β[(rm-rf )+CRP)] (5)
WACC=D⁄V .kd .(1-τ)+E⁄V .ke
(4)
EVA Calculations
The table and the bar chart below
show the trend of Debenhams’
EVA measure in the past five
years. As it can be seen, in the
years of the analysis, Debenhams
has been able to generate eco-
nomic profit.
Limitations in Deriving EVA
It is important to note that many
of the calculations, which had
2008
£m200
160
120
80
40
02009 2010 2011 2012
Table 17. EVA Calculations
Debenhams plc. Analyst’s Report 201367
Debenhams plc. Analyst’s Report 2013 68
FORE
CAST
ING
AND
VAL
UATI
ON
4.1 Introduction
The aim of this section is the val-
uation of the company’s equity.
Pinto et al (2010) defined the five
necessary steps in valuing a com-
pany’s stock. These steps are the
understanding the nature of the
business, forecasting company’s
earnings, selecting the appropri-
ate valuation model, converting
forecasts to a valuation and final-
ly applying the valuation conclu-
sions. The strategy of Debenhams
has already been extensively an-
alysed in the corporate strategy
section of the report. Therefore,
this section of the project aims
at taking the steps remaining in
valuing the company’s equity.
Debenhams plc. Analyst’s Report 201369
In this section of the report, De-
benhams’ future earnings have
been forecasted using various
methodologies. The purpose of
forecasting the future earnings is
so that the obtained results can
later be used in the valuation of
the company’s equity. The most
effective way by which forecasts
are conducted combines quanti-
tative forecasting methods, with
good judgement based on past
experiences. It is important to
avoid the total reliance on either
quantitative or judgmental meth-
ods (Reitsch, 1998). In general,
analysts’ reliance on data manip-
ulation techniques tends to be
greater, as the publicly available
information regarding the com-
pany’s overall performance may
be rather biased and therefore,
not a reliable benchmark for
judging the company’s future
profitability.
4.2 Forecasting Earnings
Data Collection and Trend analysis
Data collection
The earnings data for Debenhams
has been captured from DATA-
STReAM for the past ten years, as
shown in table 18. The author has
deliberately chosen this number
of observations for a number of
reasons. Firstly, choosing a long-
term horizon, one that spans
over several decades, requires
the use of judgmental forecasting
methods. According to Reitsch
(1998) Quantitative forecasting
techniques such as the moving
averages, exponential smoothing
and Box-Jenkins methodologies
are not good predictors of the
economic turning points and
their use is not appropriate for
long time-horizons. Secondly,
the author’s aim was to incorpo-
rate enough observations in the
analysis so that trends in the data
could have been identified.
Furthermore, some of the issues
encountered in the data selection
process were as follows:
• The author’s initial intent
was to use quarterly earnings
for conducting the analysis.
This was with the aim of hav-
ing a larger sample data and
performing a more accurate
analysis. However, quarterly
reports were not released by
Debenhams and the author
had limited access to interim
reports.
• Finally, due to the unavail-
ability of financial reports
prior to 2006, adjustments
for non-recurring expenses
have only been made for the
past five years.
Table 18. Debenhams’ Historical Earnings
2003 20082004 20092005 20102006 20112007 2012108.4 77.1-28.3 95.164.3 102.143.7 117.279 125.3
yearNet Profit
Debenhams plc. Analyst’s Report 2013 70
Trend Analysis
A quick glance at figure 75 indi-
cates a rapid drop in earnings in
2004, which was later followed
by an upward trend. However,
the visual interpretation of this
graph is of little value in correctly
identifying patterns. A method,
which is often used in examining
data patterns, is the autocorrela-
tion analysis. Time-series data is
frequently correlated with itself
when lagged one or more peri-
ods, hence, autocorrelation anal-
ysis is a useful tool for examining
this data (Reitsch, 1998).
The appropriate number of time
lags for conducting this analysis
is N/4, where N is the number of
observations. Hence, in this case,
three time lags were used for pro-
ducing a correlogram. This graph
reveals that the correlation coef-
ficients of the three time lags are
close to zero. Furthermore, the
t-statistics obtained by Minitab
for each correlation coefficient
suggests that none of the coeffi-
cients are significantly different
from zero. According to these
results, the autocorrelation anal-
Figure 75
Figure 76
Debenhams plc. Analyst’s Report 201371
ysis suggests that the data is ran-
dom. However, by looking at the
time-series analysis an upward
trend can clearly be observed.
It may be that the results from
correlogram are not statistically
significant due to the small sam-
ple size.
Another method of analysing the
data is by using Minitab’s Trend
Analysis function. This function
attempts to describe the trend
in the time-series by the means
of least squares method. This is a
method by which, a line that best
fits the observations is comput-
ed. The trend analysis function
has confirmed the existence of an
upward trend in the time-series.
This is consistent with the earlier
visual interpretations. However,
note that the MAPE is 41.94%,
which is a quite large percentage
error; hence, the trend identified
may not be statistically signifi-
cant.
Figure 77
Figure 78
Debenhams plc. Analyst’s Report 2013 72
In order to explain Minitab’s re-
sults in a more formal manner,
the findings of the trend analysis
function have been replicated by
conducting regression analysis.
The aim is to regress earnings
against time and find a line func-
tion in the form of:
Figure 78 shows the fitted line
plot, which has been obtained by
the regression analysis. The olS
plot is similar to that of the Trend
Analysis as both models use the
Ê=b0+bt (6)
Table 19. Regression Analysis
least squares measure in com-
puting the fitted line. As it can
be seen the equation of the best
fitted line is:
A snapshot of the regression
analysis from Minitab is shown
in table 19. By looking at the
student’s t-table at 8 degrees of
freedom it can be seen that at
10% level of significance, the
slope coefficient is significantly
different from zero. Furthermore,
the R2 measure shows that only
Ê=27.99+9.163t (7)
38% of the changes in earnings
are explained by the variations in
time.
Thus, it can be concluded that
the results of the autocorrela-
tion analysis is consistent with
the lack of explanatory power of
the olS regression. Thus, even
though there appears to be an
upward trend in the data, the
statistical measures indicate that
the data is random and this trend
is not statistically significant.
Debenhams plc. Analyst’s Report 201373
Forecasting Methodologies
OLS Method
one method of forecasting the
earnings is by using the olS meth-
od. The regression analysis for
Debenhams’ earnings has already
been conducted in the previous
part. Hence, all is needed is to plug
the numbers 11, 12 and 13 in the
equation to obtain the forecasts
for the years 2013 to 2015. Fortu-
nately the Trend Analysis function
in Minitab is capable of making
this calculation. The results are
shown in the table 20.
Moving Averages
Moving averages is a forecasting
method by which a specified set
of earnings are averaged and
used in forecasting the future
period profits. The assumption
is that the past fluctuations in
the earnings are due to “random
departures” from a smooth earn-
ings curve. Hence, the averaging
of past observations smoothens
out the past fluctuations and aids
short term forecasting (Reitsch,
1998).
generally this model gives more
accurate results when it is used on
stationary data. However, when
the Augmented Dickey Fuller test
(ADF) was conducted in Stata, it
was shown that both the original
data and the first differences are
non-stationary. Nevertheless, this
model has been used in forecast-
ing Debenhams’ earnings, as it has
been suggested that it yields better
results than the simple average
forecasting models. (Reitsch, 1998)
Year201320142015
Year201320142015
Forecasted Earnings (£m)
128.79137.95147.11
Forecasted Earnings (£m)
103.36108.61111.31
Figure 79
Table 20. OLS Forecast Results
Table 21. MA Forecast Results
Figure 80
Debenhams plc. Analyst’s Report 2013 74
It is important to note that the
moving averages only take into
account the earnings in the past n
periods. Hence, choosing a small-
er number of periods means that
more weight has been put on the
most recent periods. In order to
put more emphasize on the re-
cent years only 5 earnings data
have been chosen as the number
of observations to be averaged.
As shown in figure 80, Minitab is
capable of performing Moving av-
erages forecasts. This graph only
shows the forecasted earnings of
2013. Due to the limitations of
Minitab, forecasts for the years
2014 had to be made by re-en-
tering the forecasted value for
2013 back into the time-series
and then re-running the function.
The same process had to be done
for 2015. The results have been
shown in table 21.
Random Walk Model
Many empirical researches have
shown that the earnings of a com-
pany exhibit a “random walk” or
“random walk with a drift” behav-
iour. According to this model, the
best benchmark for forecasting
the future earnings of a company
is its prior year’s earnings. A study
suggested that in comparison to
the simple random walk model of
forecasting earnings, the forecasts
conducted by professional analysts
are only 22% more accurate. (Pa-
lepu et al, 2010)
The Simple Random Walk model
is mathematically expressed as
follows:
The term ui is a noise term, which
has mean of zero and variance
of σ2. Therefore, E(Et+1) = Et and
var(Et) = tσ2. Thus, it can be said
that the mean of the random walk
process is expected to remain the
same, with its variance increas-
ing as t increases. If the earnings
follow a random walk with a drift,
then the relationship is as follows:
In this case, the d term is the drift
in the model. Therefore E(Et+1) = Et
+ td and var(Et) = tσ2.
The initial trend analysis indicated
that there is an upwards trend in
the time-series. Therefore, in con-
ducting the forecast using the ran-
dom walk model, it is important to
include the drift term to the model.
This drift term can be calculated by
taking the average of the first dif-
ferences of the time-series. Table
21 shows that the mean of the first
differences is 1.88. using this in-
formation the forecast of the years
2013 to 2015 can be made by for-
mula 9. Furthermore the standard
deviation can be measured by the
relationship sqrt(t)*σ.
Year201320142015
Forecasted Earnings (£m)127.18129.06130.94
E(t+1)=Et+ut (8)
E(t+1)=d+Et+ut (9)
Table 22. Descriptive Statistics
Table 23. Random Walk Forecast Results
Debenhams plc. Analyst’s Report 201375
Segmental Forecasting
Another method of forecasting
the future earnings of Debenhams
takes advantage of the compa-
ny’s segmental information. The
forecast of the future earnings
of a company is often aided by
analysing its segmental perfor-
mance, or as Arnold and Moizer
(1984) highlighted, by utilizing a
“break-down-and-build-up” ap-
proach. Furthermore, in a study
conducted by Kochanek (1974),
he observed that the stronger the
segmental reporting practices of
a company, the more accurate the
forecast of the future earnings of
that company.
Although Debenhams has re-
ported its sales for each seg-
ment, there are no records of the
company’s segmental earnings.
Hence, a specific model that
forecasts earnings based on the
regional sales and the consoli-
dated net profit has been used in
this section. This model, which
had been introduced by Roberts
(1980) is as follow as shown in
fromula 10.
The expected segmental growth
is calculated based on the growth
in sales in the previous years. The
growth in sales for the segments
were shown earlier in the Basic
Statistics section of the report.
The geometric average of the
growth of the segments has been
used as the expected segmental
growth element of this model.
Table 24 shows the forecasted
earnings for 2013.
The segmental forecast has only
been made for the year 2013.
The author attempted to forecast
for the years 2014 and 2015 by
assuming that the sales growth,
level of sales and segmental sales
are fixed. However, these are very
unrealistic assumptions as they
would imply that the net profit
margin of the company increases
while it sales is never changed.
E(X(t+1)│seg) is one year ahead forecast of consolidated earnings,and seg refers to the use of geographical segment information.
St is consolidated sales in period t.
Sj,t is sales in period t for segment j.
Xt is consolidated earnings in period t.
E(GWTHj,t+1 ) is the expected growth from period t to t+1 for segment j.
cons
cons
seg
cons
seg
E(Xt+1│seg)=∑[1+E(GWTHj,t+1 )].Sj,t.( ) (10)cons segcons
consseg
t
j=1
Xt
St
Table 24. Segmental Forecast Results
Expected growth
Consolidates Sales, £m
Consolidated Earnings, £m
Segmental Sales, £m
Segmental Earn-ings Forecast , £m
3.24%-5.53%17.36%12.57%
2229.82229.82229.82229.8
125.3125.3125.3125.3
1860.3136.5142.790.3
107.927.259.415.71
130.29
Segments
uKIreland
DenmarkRest of the World
Consolidated Earnings
Debenhams plc. Analyst’s Report 2013 76
Table 25. Average of Forecast Results
Figure 81
Comparing Forecasting Results
In forecasting Debenhams’ earn-
ings different methodologies
were used, which gave various
results (see fig. 81). The high
MAPes that were often shown
on the graphs were indications
that these forecasting results
are far from accurate. The lack
of data availability (i.e. quarter-
ly earnings) prevented the use
of more advanced forecasting-
ing methodologies such as the
Box-Jenkins technique. The use of
quarterly data would have been
more appropriate for forecasting
using smoothing and averaging
techniques, as these models
smoothen the seasonality effect
embedded in monthly and quar-
terly data.
Another issue concerns the ac-
tual nature of the data. The ADF
test conducted on Debenhams’
earnings showed both the origi-
nal data and the first differences
were non-stationary. The mov-
ing averages methodology gives
more accurate results when used
on stationary data. Also the use
of a long time-span of ten years
in conducting the analysis may
have prevented obtaining more
accurate forecast results, as the
economic cycles may have dis-
torted the data and resulted in a
shift in the time-series. Access to
five years of quarterly data would
have resolved this issue by pro-
viding a larger sample size within
a shorter time-span.
The data obtained for conducting
this analysis was actual data from
Debenhams’ income statements,
which shows that such issues are
faced by analysts on a day to day
basis. With regards to identifying
the most accurate forecasting
method Makridakis and Winkler
(1983) stated:
“In an extensive study of the
accuracy of forecasting meth-
ods, Makridakis et al., (1982,
1983) found that a simple av-
erage and a weighted average
of forecasts from six methods
outperformed virtually all or
perhaps even all of the individ-
ual methods, including the six
methods being combined as
well as the other sixteen indi-
vidual methods included in the
study”
Thus a single forecast was pro-
duced by averaging the results of
all methodologies.
OLS Moving Averages Random Walk Segmental Average128.79137.95147.11
103.36108.61111.31
127.18129.06130.94
130.29N/AN/A
122.41125.21129.79
(in £m)201320142015
Debenhams plc. Analyst’s Report 201377
A crucial assumption that needs
to be made in the valuation of a
company’s equity is that the in-
trinsic value of the equity differs
from its market price. The intrin-
sic value of the assets assumes
that the investment characteris-
tics of those assets are clearly un-
derstood. Therefore, the intrinsic
values that are often calculated
by investors reflect their views
on the stock’s actual worth (Pinto
et al, 2010).
Another assumption that has
been made in the valuation of
Debenhams’ equity is the go-
ing-concern assumption. earlier,
in the bankruptcy studies, it was
shown that two different mod-
els predicted financial distress
for Debenhams. However, the
uK economy has shown signs of
recovery in the recent quarters;
furthermore, the ratio analysis
indicated that the company’s
performance has been more on
the positive side in the past few
years. As a result the author has
made the going-concern assump-
tion and has used the going-con-
cern valuation techniques.
4.3 Equity Valuation
Equity Valuation Using Appropriate Models
The going-concern valuation
models are divided in to two
groups as shown in figure 82.
The absolute valuation models
attempt to estimate the intrinsic
value of the equity. These esti-
mates can then be compared with
the actual stock prices to judge
whether the stock is fairly priced.
Absolute valuation models usu-
ally discount the expected future
cash flows of the company in
order to estimate the value of the
company’s stock. Models such as
the dividend discount model, free
cash flow model and the residual
income fall within this category
(Pinto et al, 2010).
The relative valuation models
on the other hand “estimate an
asset’s value relative to another
asset” (Pinto et al, 2010). These
methods of valuation, which are
also referred to as the market
based valuation models, often
use price multiples such as the
Pe, PCF, PS and PB. enterprise
value multiples also fall within
this category.
In this section some of the pop-
ular valuation techniques have
been introduced and where it
was appropriate, they had been
used in the valuation of the De-
benhams’ equity.
Relative Valuation Models
GOING-CONCERN VALUATION
Absolute Valuation Models
Figure 82. Going-Concern Valuation Techniques
Debenhams plc. Analyst’s Report 2013 78
Relative Valuation of Debenhams
Price multiples are popular ratios
for assessing the value of a com-
pany’s stock. The main reason un-
derlying their popularity is their
simplicity. using price multiples,
allows investors to determine
whether a company’s stock is
fairly valued. In studies conduct-
ed by Arnold and Moizer (1984),
Barker (1999) and a few other
scholars, it was shown that the
Pe ratio is one of the most impor-
tant methods of valuing a compa-
ny’s stock. Barker (1999) showed
that in general analysts prefer the
use of the P/e ratio over P/CF
as the accrual information of the
companies provides them with
valuable knowledge. The trailing
P/e ratio is calculated simply by
dividing the current stock price
by the last year’s earnings. Some
websites also report the forward
P/e ratio, which is calculated by
dividing the current stock price
by the forecasted earnings.
There are limitations to the Pe ra-
tio, as the earnings of a company
can be volatile or even at times
negative. Therefore, other mul-
tiples such as Price-to-cash flow
and price-to-sales have also been
calculated in this section11.
Debenhams’ price multiples have
been calculated as demonstarted
in table 27 along with the average
multiples of the industry. It is
evident that the price multiples
of Debenhams are lower than the
industry average. Furthermore, a
significantly Lower price to cash
flow implies that Debenhams is
better at generating cash flow
than the average industry.
The industry’s multiples can
be regarded as a standard for
calculating Debenhams current
fair value. This is done simply by
multiplying the industry price
multiples by Debenhams’ funda-
mentals.
11 The author initially calculated the price to book value. However, in the process of adjusting the book value for intangible assets, it was realised that the book value net of intangible assets is negative. This is because the company had a net assets of £661m and intangible assets of £864.9m. 12 This figure only includes the operating cash flows.
Table 27. Debenhams and Industry Price Multiples
Table 26. The Derivation of Per Share Fundamentals
Price Multiplies Debenhams Industry AverageP/eP/S
P/CF
11.030.626.87
15.271.65
23.15
Net profitSales
Cash FlowShares outstanding
earnings per share (ePS)Sales per share
Cash flow per share12 Current price
£125.30m£2,229.8m£201.50m1281.3m
9.80p174p
15.73p108.10p
Debenhams plc. Analyst’s Report 201379
As it can be seen the fair value
of Debenhams’ equity has been
estimated to be much higher than
the current stock price. Accord-
ing to this model, the stock price
is undervalued. Finally, the share
price of Debenhams in 2014 can
also be calculated by multiplying
the industry average of the P/e
ratio by the earnings forecasted
in the previous section. It is im-
portant to note that in doing so
the industry P/e ratio is assumed
to remain stable. In other words,
assume:
( P/E )2014 = ( P/E )2013 (11)
P2014=( P/E )2013 ×Ê2013 =15.27 ×9.6p13 =146.59p (12)
Dividend Discount Model
The dividend discount model is
one of the simplest discounting
cash flow methods for measuring
the intrinsic value of a company’s
stock. A survey conducted by
Block (1999) indicated that 42%
of the respondents considered
the dividend discount model very
important for valuing the equity
of the individual companies. By
referring back to the ratio anal-
ysis section of the report, it can
be observed that Debenhams had
volatile dividend yields in the
years of the analysis. The dividend
discount model is generally not
considered a suitable valuation
technique for companies that pay
unstable dividends. However, in
this case the author believes that
this model is suitable for valuing
Debenhams’ stock. Debenhams’
dividend payments and the level
of company’s retained earnings
are shown in table 29. It is be-
lieved that following the financial
turmoil of 2008, Debenhams de-
creased and eventually stopped
paying dividends due to its high
levels of negative retained earn-
13 The weighted average number of shares outstanding has been assumed to remain the same in converting forecasted net profit to EPS.
Table 28. Valuation By Comparables
Multiplies Industry Fundamentals Debenhams Fair valueP/eP/S
P/CF
15.271.65
23.15
ePSSales per share
Cash flow
9.8p174p
15.73p
149.65p287.1p364.15
266.97Average
Table 29. Trend in Debenhams’ dividends and Retained Earnings
2008 2009 2010 2011 20125.16
-574.60.25
-546.60
-176.21
-15.13
-9.9Dividend per share (in pence)
Retained earnings (£m)
Therefore:
Debenhams plc. Analyst’s Report 2013 80
ing, in an attempt to recover it.
The considerable improvement
in the company’s retained earn-
ings appears to be correlated
with the increased levels of div-
idend payments. According to
the corporate strategy section of
the report the uK economy has
shown signs of recovery and al-
though the retail industry growth
has been slow, the government’s
expansionary policies are expect-
ed to favour this industry. There-
fore, the author believes that by
2013 Debenhams will be able to
recover its retained earnings and
as a result, Debenhams’ dividend
payments are expected to grow
to its previous level in 2008. In
other words:
However, after 2013 the company
is expected to grow at a sustaina-
ble rate of 2.4%. This sustainable
growth rate has been derived
based on PwC’s projections of
the uK gDP growth in the years
2015 to 2019. Hence, for valuing
Debenhams’ stock the two-stage
dividend discount model has
been used. The cost of equity has
already been calculated for meas-
uring the eVA and is estimated to
be 6.47%. The two-stage model is
as follows:
E(D2013 )=D2008 (13)
gs= -1= -1=72%
(14)
E(D2013 ) 5.16D2012 3
V0=∑ + (15)t=1
n D0(1+gs )t
(1+r)t
D0 (1+gs )t (1+gL )
(1+r)n(r-gL )
V2012= + = 119.4p 5.16
1.06745.28
1.0674 x 0.0434
Before making any conclusions,
it is important to note that this
estimated intrinsic value is based
on fundamentals retrieved from
the 2012 financial reports. There-
fore, unlike the relative valuation
models, the intrinsic value needs
to be compared with the market
price at the date when the finan-
cial reports were first published.
The stock price of Debenhams on
the 3rd of September 2012 was
97.95 pence, which implies that
Debenhams’ stock at that time
was undervalued. Furthermore,
comparing this result with the
current stock price of 108.10p
still shows that Debenhams’
stock is undervalued. Therefore
the dividend discount valuation
results reaffirm the findings of
the relative valuation techniques.
Debenhams plc. Analyst’s Report 201381
to justify that the Roe will indeed
decrease. Firstly, for converting
the forecasted net profit to EPS, it
will be assumed that the number
of shares outstanding will re-
main unchanged in the next two
years. Thus, the foreccasted ePS
for 2013 and 2014 are a shown
in table 31. For measuring the
book value of equity for the years
2013 and 2014, the clear surplus
relationship had been used. This
relationship is as follows:
Bt=B(t-1)+Et-Dt (17)
V0=B0 +∑ = t=1
RIt
(1+r)t B0 +∑ (16)t=1
Et-rBt-1
(1+r)t
Residual Income Model
The residual income model is
another technique for calculating
the intrinsic value of Debenhams’
stock. A company that is able to
earn profits higher than its total
cost of raising capital is generat-
ing economic profit and creating
value. The economic value added
that was calculated for Deben-
hams in the financial analysis sec-
tion showed that in the past five
years Debenhams has been able
to generate and sustain a consist-
ent flow of economic profit.
“Thus, all else equal, higher
(lower) residual income should
be associated with higher (low-
er) valuations” (Pinto, 2010).
The residual income valuation
model measures the value of the
company’s equity, by adding its
current book value to the total
present value of expected future
residual incomes. In mathemati-
cal terms, this can be defined as
follows:
For valuing Debenhams’ equity,
the multi-stage residual income
model was chosen. As it was
shown earlier in the ratio anal-
ysis section, Debenhams had
high ROE of about 60% in 2008,
which over time faded to only
20%. Based on the forecasts, it is
believed that the Roe will further
decrease. Having already calculat-
ed the forecasted dividends and
earnings for 2013 and 2014, the
book value of Debenhams’ equity
can be measured for these years
2013 2014earnings per share
Book value per shareReturn on equity
9.56p55.99p17.07%
9.77p60.18p16.23%
2013 2014Forecasted Net Profit
Shares outstandingePS
£122.41m1,281.3m
9.56p
£125.211,281.3m
9.77p
Table 30. The Forecasted Return On Equity
Table 31. The Forecasted EPS
Debenhams plc. Analyst’s Report 2013 82
RIt=Et-rB(t-1) (19)
(20)
V2014= B2014 + B2014 = 60.48 + 60.48 = 181.87p (18) ROE - r
r - g0.1544 - 0.6740.0674 - 0.024
2013 2014Residual Income 6.08 6.00
Table 32. Debenhams Residual Income
Once these figures have been es-
timated, Debenhams’ forecasted
Return on equity is derived as
shown in table 30. It is expected
that by 2014 the Roe decrease to
about 16%, which is close to the
retail industry average of 15.44%.
Therefore, after this year it can
be assumed that the Roe will re-
main stable, at a rate equivalent
to that of the uK’s retail industry.
average. The value of Debenhams’
stock in 2014 can be calculated by
relationship below:
However, this is the value of De-
benhams’ stock in 2014. The re-
sidual income for 2013 and 2014
will be calculated by the relation-
ship 19.
Finally, the value of Debenhams’
equity in 2012 can be calculated
by relationship 20.
Both the DDM and the residual
income valuation techniques
should theoretically yield the
same results. However, even
though the same growth rate
and cost of equity were used in
this section and the book values
were calculated using the divi-
dends that had been forecasted
in DDM, different results were
obtained. So far all the models
which have been used in valuing
Debenhams’ equity suggested
that the Debenhams’ share prices
are under-valued. In order to an-
alyse how sensitive the elements
in these models are to variations,
sensitivity analysis has been con-
ducted in the next section.
V0=B0 +∑ + = 51.59 + + + = 169.56p t=1
T RIt
(1+r)t0.08
1.06746
(1.0674)2181.87 - 60.18
(1.0674)2
PT - BT
(1+r)T
Debenhams plc. Analyst’s Report 201383
Sensitivity Analysis
As it was shown earlier, different
results were obtained by the re-
sidual income and the dividend
discount models. However, it is
important to note that in deriv-
ing many of the elements used in
these models assumptions had
to be made. Therefore, in this
section of the report sensitivity
analysis will be performed to
show the extent to which the re-
sults would be different, if these
elements are altered.
Residual Income Model
As it can be seen, the highest
elasticities are for the sustaina-
ble growth rate and the market
return. However, variation in
these parameters did not result
into a change in the investment
decision. Even with +/-20% var-
iations in the parameters, Deben-
hams is undervalued.
-20% Original +20%Variations in the Parameters
Parametersearnings per share in 2013earnings per share in 2014
expected Dividends in 2013expected dividends in 2014
Risk free rateMarket return
BetaCountry risk premium
Sustainable growth rateSustainable return on equity
7.657.824.134.22
1.52%3.49%1.18
0.66%1.92%
12.35%
9.569.775.165.28
1.90%4.36%1.47
0.83%2.40%
15.44%
11.4711.726.196.34
2.28%5.23%1.76
1.00%2.88%
18.53%
-20% Original +20%Equity Value Parameters
earnings per share in 2013earnings per share in 2014
expected Dividends in 2013expected dividends in 2014
Risk free rateMarket return
BetaCountry risk premium
Sustainable growth rateSustainable return on equity
164.39164.4
171.32171.42162.72242.00219.27179.88158.94131.76
169.56169.56169.56169.56169.56169.56169.56169.56169.56169.56
174.73174.72167.8167.7
177.00130.10138.01160.34182.82207.37
ElasticitiesParameters
earnings per share in 2013earnings per share in 2014
expected Dividends in 2013expected dividends in 2014
Risk free rateMarket return
BetaCountry risk premium
Sustainable growth rateSustainable return on equity
0.150.15-0.05-0.050.22-1.16-0.93-0.270.391.11
Table 33. Variations in RI Model’s Parameters
Table 34. Valuation Results From Varying RI Model’s Parameters
Table 35. The Elasticity of Parameters in RI Model
Debenhams plc. Analyst’s Report 2013 84
-20% Original +20%Equity ValueParameters
Short term growthRisk free rate
Market returnBeta
Country risk premiumSustainable growth rate
109.84114.69169.34153.57126.47107.54
119.40119.40119.40119.40119.40119.40
128.96124.5192.2497.69
113.06134.21
-20% Original +20%Variations in the Parameters
ParametersShort term growth
Risk free rateMarket return
BetaCountry risk premium
Sustainable growth rate
57.60%1.52%3.49%1.18
0.66%1.92%
72%1.90%4.36%1.47
0.83%2.40%
86.40%2.28%5.23%1.7641.00%2.88%
ElasticitiesParameters
Short term growthRisk free rate
Market returnBeta
Country risk premiumSustainable growth rate
0.400.21-1.14-0.91-0.270.62
Dividend Discount Model
From table 37 it is evident that
an increase in the market return
or the Beta by 20% would cause
the intrinsic value of Debenhams
to fall below Debenhams’ share
price on the 3rd of September
2013. This would lead to a change
in the investment recommenda-
tion.
Table 36. Variations in DDM’s Parameter
Table 37. Valuation Results From Varying DDM’s Parameters
Table 38. The Elasticity of Parameters in DDM Model
Debenhams plc. Analyst’s Report 201385
Concluding Remarks
In this report the strategy and
financial performance of De-
benhams plc was thoroughly
analysed and the value of the
company’s stock was estimated.
The analysis of Debenhams’ strat-
egy showed that Debenhams is
heavily investing in e-commerce,
increasing the number of its uK
stores and opening franchises in
emerging markets. Considering
the rapid growth in e-commerce
sales in recent years, the com-
pany’s increased investments
in multi-channel is seen as a
viable strategy. Furthermore,
the growth in the sales of Deben-
hams’ rest of the world segment
is an indication that Debenhams
may benefit from investing in
new markets and expanding its
brand internationally. on the
other hand there have been some
debates as to whether expansion
within the uK market would lead
to economies of scale. Particular-
ly, the decreased growth in the
street sales of uK retailers in the
prior years may be a signal that
opening new stores would lead
to increased costs, which may
not get compensated by signif-
icantly higher sales. Neverthe-
less, the bullish forecasts of the
economy’s growth along with
the increased momentum of the
retail industry and the improved
consumer confidence may all be
indications that such a strategy
may indeed benefit Debenhams
in the long-run.
The financial analysis of Deben-
hams indicated that this com-
pany has been able to increase
its net profits in the years of the
analysis, and the majority of the
company’s ratios showed opti-
mistic trends. Some highlights
are the substantial decrease in
the level of Debenhams’ gearing
and financing costs, which led to
the upward trend of the firm’s net
profit margin. However, the oper-
ating profit margin continues to
decline, which is an indication of
poor management of operating
costs. Furthermore, the recovery
of the company’s retained earn-
ings from about -£550m to -£9m
in the past five years resulted in
initiation of dividend payments
in 2010 and the rapid growth of
dividend pay-outs in 2011 and
2012. on the lower end of the
scale, the company’s low liquidi-
ty and bearish bankruptcy scores
all indicate that Debenhams may
experience financial distress in
the case of a market downturn.
Furthermore, the company’s
assets include high amounts of
intangibles, which pose a serious
threat should they require writ-
ing down.
Debenhams plc. Analyst’s Report 2013 86
The forecast of Debenhams’ earn-
ings showed that the company’s
net profit is expected to drop in
2013; however, this forecast has
been based on statistical mod-
els that only take historical data
into consideration. Hence, total
reliance on this data is somewhat
naive. For instance, the increased
sales of the uK retailers in the
summer of 2013 may break this
forecast and lead to the growth of
Debenhams’ earnings this year.
The valuation of Debenhams’
stock using both the relative and
intrinsic valuation techniques
showed that Debenhams’ stock is
undervalued. As discussed earlier
the intrinsic valuation techniques
gave different results, which is
most likely due to the assump-
tions that were made on the com-
pany’s Roe in using the residual
income model. Therefore, in de-
riving the target market price of
Debenhams in 2013 the average
of the two valuation techniques
was used (see table 39).
A positive economic outlook, un-
dervalued share prices, historical
improvements in the company’s
ratios and fundamentals and low
level of short selling by the mar-
ket participants all suggest that
Debenhams’ shares should be
purchased.
Dividend Discount Model Residual Income Model Average119.40 169.56 144.48
Table 39. Calculation of the Target Price
Figure 83. Debenhams’ Short-Selling Activity
Debenhams plc. Analyst’s Report 201387
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Debenhams plc. Analyst’s Report 201391
Financial Ratios
Profitability Ratios
Management Efficiency
Liquidity Ratios
Return on Capital Employed =Average(Ordinaty Share Capital+Preference Share+Reserves+Debentures)
Profit Before Interest and Tax
Quick Ratio (Acid Test) =Current Liabilities
Cash+Marketable Securities+Receivables
Cash Conversion Cycle = Inventory Turnover Period + Trade Receivables Collection Period
- Trade Payables Settlement Period
Gross Profit Margin =Revenue
Gross Profit
Operating Profit Margin =Revenue
Operating Profit
Net Profit Margin =Revenue
Net Profit
Return On Equity =Total Shareholder’s Equity
Net Income
Inventory Turnover =Average Inventory
Cost of Sales
Current Ratio =Current Liabilities
Current Assets
Asset Turnover =Total Assets
Sales
Average Inventory Turnover Period = x 365Cost of Sales
Average Inventory Held
Trade Receivables Collection Period = x 365Credit Sales Revenue
Average Trade Receivables
Trade Payables Settlement Period = x 365Credit Purchases
Average Trade Payables
Appendices
Debenhams plc. Analyst’s Report 2013 92
Capital Structure and Debt Management
Market Value Ratios
Retail Specific Ratios
Three-Step Du-Pont Analysis
or
Interest Coverage Ratio =Interest
Cash From Operating Activities+Interest Received+Dividends Received
Gearing Ratio =Share Capital+Reserves+Long Term Debt
Long Term Debts
ROE = + +Revenue Total Assets Total Shareholder’s Equity
Net Income Revenue Total Assets
Dividend Yield =Market Value per Share
Dividend per Share ⁄ (1-Corporate Tax rate)
Basic Earnings per Share =Weighted average number of shares outstanding
Net Profit after Tax and Preferred Dividends
Interest Coverage Ratio =Interest Payable
Profit before Interest and Tax
Return On Equity = Net Profit Margin × Total Asset Turnover × Equity Multiplier
Cash Ratio =Current Liabilities
Cash + Marketable Securitieis
Cash Coverage Ratio =Interest + Tax
Cash From Operating Activities
Price to Earnings Ratio =Earnings per Share
Market Value per Share
Gross Margin Return On Inventory =Average Inventory Cost
Gross Profit
Sales per Square Foot =Total Floor Space in Square Foot
Revenue
Cash Generated From Operations to Maturing Obligations =Current Liabilties
Cash generated From Operations
x 100
Debenhams plc. Analyst’s Report 201393
Weighted Average Cost of Capital
Weighted Average Cost of Capital – Calculation of the Variables
Cost of Debt = Weighted avearge of the Interest Rates
Cost of Equity=r f+β[(rm-rf )+CRP]
Where:
• Risk Free rate = 10 years UK Government Bond Yields retrieved from Bank of England’s Website
• β = Systematic risk obtained from Financial Times
• Rm = Geometric Average of the Annual Market returns (The average of the 10 years prior to each Year of the analysis)
• Annual Return on the Market = Holding Period Return =
• Country Risk Premium = Retrieved from BBCRt-1
Rt - Rt-1
Market Value of Equity = Weighter average Number of Shares Outstanding × Current Share price
Table 40. The Calculation of Cost of Equity
Table 41. The Calculation of Makret Value of Equity
Table 42. The Calculation of the Market Value of Debt
14 Since Debenhams did not have any bonds the market value of the debt had to be es-timated by converting book value of Debt to Market value of Debt by treating the book value of Debt as one coupon bond.
Debenhams plc. Analyst’s Report 2013 94
Economic Value Added Calculations
Tax Subsidy on Deductible Expenses
Accounting Policies
This section outlines the key accounting policies adopted by Debenhams PlC, which have material impacts
on the analysis. These are policies such as revenue recognition methods, inventory valuation and method of
deprecation. If appropriate, some of these policies will further be compared with Debenhams’s peer group,
which include the retail companies of Ted Baker, N Brown group and Marks & Spencer.
Debenhams’s financial statements have been prepared on a going concern basis, which means that the
company operates for the foreseeable future, without the threat of liquidation. Debenhams has adopted
the International Financial Reporting Standards (IFRS) including International accounting standards (IAS)
and International Financial Reporting Interpretations Committee (IFRIC), in preparing its financial state-
ments. The financial statements have further been prepared in accordance with the Company Act 2006.
This Act is applicable to the companies which have adopted the standards required for reporting in the eu.
Debenhams’s peers all operate on the going concern basis. They have further all adopted the IFRS and the
company’s act 2006, which means fewer adjustments were required for conducting the analysis.
Weighted Average Cost of Capital
Table 43. The Calculation of WACC
Table 44. The Calculation of Tax Subsidy on Deductible Expenses
Debenhams plc. Analyst’s Report 201395
Revenue Recognition
Accrual method of accounting recognizes revenue when it has been earned, and expenses when they have
been incurred. Companies can recognize revenue before the delivery, at the time of delivery or after the
delivery has taken place. These revenue recognition methods are outlined in the notes to the companies’
financial statements. Understanding a company’s revenue recognition method is very important as they
may use particular approaches with the aim of manipulating the financial statements.
Debenhams measures revenue at the “fair value of the consideration received or receivable”, for the goods
and the services it provides in the normal course of the business (Debenhams’ Annual Report, 2012). Rev-
enue is recognised net of any sales-related taxes (e.g. VAT), customer loyalty schemes and staff discounts.
There is a variety of ways by which Debenhams generates its sales. In the notes to the financial statements,
Debenhams has outlined the revenue recognition method for each method of sale. As it is evident from the
table 45, Debenhams (2012) recognizes the revenue at the time of the delivery. It is also important to note
that the company has a return policy, which allows its customers to return the items they have purchased.
Debenhams (2012) further claims that the total amount of returns is estimated based on the “accumulated
experience” of the company. A minor red flag which needs to be brought to the surface is that it appears that
Debenhams recognizes revenue without deducting the expected returns from the sales. The wordings of
the notes to the financial statement regarding this matter is rather vague in comparison to that of the peers,
which could mean that the company is somewhat aggressive in recognising revenue.
Table 45.
Department store goods and the “commission on concession and con-signment” sales are recognized as revenue, the instance the goods are sold to the customers, regardless of the method of payment.
Sales made through the internet are recognized as Revenue the in-stance the goods have been dispatched to the customers.
Sales which have been made by gift cards or gift Vouchers are rec-ognised as revenue, when they have been redeemed.
Revenue from the sales to franchisees is recognised when the goods have been dispatched.
Store Sales
Internet Sales
Gift Card Sales
Sales to franchisees
Method of Sale Revenue Recognition
Debenhams plc. Analyst’s Report 2013 96
Expense Recognition
Depreciation
Tangible assets with the exclusion of land are depreciated with the aim of allocating the asset’s cost over
its useful economic life. Debenhams depreciates its property, plant and equipment (PPE) at specific rates as
shown in the table below. The depreciation is written off the cost of PPe, less residual value, on a straight
line basis from the point that they were first brought into use.
Freehold landFreehold buildings
long leasehold land and buildings15
Short leasehold land and buildingsRetail fixtures and fittings
Office equipmentComputer equipment
Vehicles
Not depreciated1%
1% or life of lease if shorterlife of lease
4% - 25%10% - 12.5%
12.5% - 33.5%25% or life of lease
Table 46.
The Cost of the PPe is determined by its purchase price and the cost required for bringing the asset to its
working condition. Furthermore, the assets’ useful economic lives and residual values are estimated at the
end of each financial year end. The change in any of the estimates is put into effect prospectively.
The depreciation rates above were compared to those reported by Debenhams’s peers. They all appear to
use similar rates in depreciating similar assets. However, as an example Ted Baker depreciates fixtures and
fittings at a rate of 20% - 25%, while Debenhams is using rates which range from 4% to 25%. Once again,
this could be a red flag as the company may be recognizing less depreciation costs and hence report higher
profits.
Cost of Goods Sold
In estimating the cost of goods sold (CogS), Debenhams measures inventory at lower of cost or net real-
izable value utilizing the retail inventory method. The retail method takes into consideration stock loss or
items which were sold below cost. Furthermore, concession inventories are not included in the inventory
reported by the group.
All Debenhams’s peers report inventory at the lower of cost or net realizable value. However, while two
of the peers use the retail method for calculating costs, N Brown group calculates costs on the First-in-
first-out basis. In order to make this data comparable to the other three companies, making an adjustment
to the inventory valuation method of this company is necessary. This will be discussed in the accounting
adjustments section.
15 Included in both long and short leasehold land and buildings is the landlord’s fixtures and fittings
Debenhams plc. Analyst’s Report 201397
The Amortization of Goodwill
Goodwill by definition is the purchasing price of the company’s subsidiaries less the fair value of the ac-
quired subsidiary’s net identifiable assets. At Debenhams, Goodwill is not amortised but annual reviews at-
tempt to determine whether it has been impaired. In the case goodwill is indeed impaired, the accumulated
losses are deducted. Debenhams goodwill “represents the goodwill for a portfolio of sites, which has been
allocated to groups of cash generating units (“Cgus”) split on a regional basis according to the level at which
management monitors that goodwill”.
This allocation was mainly the result of the acquisition of Debenhams stores by Debenhams plc in December
2003.
An impairment review conducted indicated that as at 1 September 2012 no impairment of goodwill was
necessary.
The Amortization of Other Intangible Assets
Debenhams is in possession of some other intangible assets such as licenses and trademarks, internally
generated software and purchased software. These are all recognized on the Balance sheet at cost less the
accumulated amortization and any provisions for impairment.
Software development costs under both the uS gAAP and IFRS are treated as expenses unless the product’s
“technological feasibility has been established”. In this case the expense is capitalised as it is expected to
bring future economic benefits.
Debenhams intangible assets include “assets in the course of construction”, which are primarily web devel-
opment projects, which include costs needed to bring the assets in to use.
The rates at which Debenhams’s intangible assets16 are amortised are as shown below:
These amortizations are carried out by writing off the above rates from the cost of the intangible assets, less
residual value on a straight line basis from the date that they were brought to use.
16 excluding goodwill
Table 47.
Acquired licenses and trademarksInternally generated software
Purchased Software
Up to 10%12.5% to 33.3%12.5% to 33.5%
Table 48.
Debenhams plc. Analyst’s Report 2013 98
Finance Lease Expenses
Finance leases transfer all the risks and rewards of the ownership to the lessee, which in this case is the De-
benhams group. According to the IAS 17at the inception of the lease, the finance lease should be recorded as
both a an asset and a liability at the lower of the fair value of the asset and the present value of the minimum
lease payments and depreciated over the shorter of the useful economic life or the period lease.
The lease payments have been “apportioned between the finance charges and reduction of the lease obliga-
tion” with the aim of obtaining a constant interest rate on the remainder of the liability balance.
Operating Lease expenses
Any lease, which does not fall into the category of finance lease, is referred to as operating leases. The rental
payments net of lease incentives are recorded on the income statement on a straight line basis over the
leasing period.
Retirement Benefit Costs
The Debenhams group operates both a defined contribution plan and a stakeholder scheme. The contri-
bution plan is specific to the countries of Denmark and Republic of Ireland, while the stakeholder scheme
is aimed at Hong Kong and the uK. The contributions to these schemes are recognized as expenses in the
income statement when they “fall due”. The contribution scheme for instance can be identified as employee
benefit expense on the income statement.
Debenhams PlC recognizes actuarial gains and losses in full in the period in which they occur in the state-
ment of comprehensive income.
Past service costs incurred by Debenhams are immediately recognised in the income statement with the
exception of the situation in which the changes in the pension plans are conditional on the “employees
remaining in service for a specific period of time (the vesting period)”. In this case the services cost is amor-
tised over the vesting period.
Debenhams plc. Analyst’s Report 201399
Critical Accounting Estimates
Many estimates are made by Debenhams and its peers regarding the future. For instance, as earlier de-
scribed, the economic useful life and residual value of assets in the calculation of depreciation requires the
judgement of the management. However these estimates rarely represent the actual results. Debenhams
makes many of these estimates based on the historical accumulated experience of the company17. Further-
more, by analysing historical and expected future events the company analyses the judgements it makes
frequently. Debenhams has thus outlined the estimates and judgements, which may have material impact
on the future financial statements of the company. Some of these estimates and the judgements are made in
the following cases.
• Testing goodwill for impairment using the value-in-use method requires the estimates of the future
cash flows and the appropriate discount rate for discounting those cash flows.
• The level of vesting for expensing the fair value of share – based payments needs to be estimated and
requires annual reviews by the management.
• Actuaries in measuring the defined benefit obligations employ many assumptions into their calcula-
tions such as return on plan assets, discount rates, mortality rates, inflation, future salary and pension
costs. These estimates may differ to the actual outcomes.
• Debenhams estimates the useful economic life of PPE at the end of each financial year and assesses for
impairment when necessary.
17 As with the case of estimated number of annual returns