Financial Leverage Analysis of Walmart, Costco and Target

Topics: Financial ratios, Generally Accepted Accounting Principles, Rate of return Pages: 2 (783 words) Published: April 25, 2011
Financial Leverage Analysis

Typical nonfinancial firms have debt ratios at or below 50%. Each of these three companies has debt ratios above this mark, with Target having the highest at over 65%. This is surprising given the enormous success of these companies. A large portion of each company’s debt lies within their accounts payable, meaning that these companies owe large amounts of money to their suppliers. This is not surprising though due to the quick inventory turnover that is common in this service sector. For all three companies, the accounts payable and inventory figures are similar, so one can assume that a majority of their inventories have not been paid for. Another reason that a company might have a high debt ratio is to thwart a takeover, something that seems highly unlikely in the case of these three companies.

All three companies also have high debt to equity ratios compared to all industries in general but companies in this sector tend to have higher debt to equity ratios. This usually means that the companies are trying to finance their growth by issuing new debt. This would make sense with the industry that they are in. A lot of their debt is related to accounts payable, which they are most likely using to build up their inventories. Even though they all have large amounts of debt, it is mostly debt that is a result of their inventory. The times interest earned ratio is a much better indicator of each firms financial leverage. Since a lot of these three firms debt is from accounts payable they do not pay much interest, resulting in higher ratios. Costco has very low amounts of debt that it pays interest on, resulting in the highest times interest earned ratio of 16.45. This gives the shareholders a lot of confidence that Costco will be able to cover its interest expense in the future years.

Profitability

Gross profit margin is an important measure in the merchandising sector of business. It tells managers...
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