Merck & Co.'s profitability, liquidity, and financial performance analysis

Financial Analysis - Merck & Co., Inc.

Financial Analysis: Part I The publicly held company selected for financial analysis is Merck & Co., Inc. Merck is a global healthcare firm that has been operational for more than a century with an endeavor of making a difference in the world. In Canada and the US, the firm is renowned as Merck. However, in other parts of the world, the company is renowned as MSD. The primary hub of operations is in Kenilworth, New Jersey, in the US, and has business operations in over 140 nations. Merck has almost more than 71,000 employees across the globe (Merck, 2019).

Financial Analysis: Part II Identify the return on equity (ROE) and return on assets (ROA) for the company selected:
Return on equity = Net income / Shareholders’ equity
2019 = 9,777/ 25,907
= 37.74%

Return on assets = Net income / Total Assets
2019 = 9,777 / 84,397
= 11.58%

· What does this mean for the company? How would you describe their liquidity position? How did you get to this conclusion?
This shows that the firm is profitable and therefore highlights a positive and healthy financial performance for the company. Regarding liquidity, the company does not have the ideal liquidity levels but can cater to its short-term obligations. This is linked to the fact that the current ratio of the company is 1.24: 1. The ideal ratio is 2:1. However, it does imply that the company will be able to cater to its current liabilities using its current assets in the event of liquidity.
· Compare ROE to ROA. Which is the most important? Why?
The ROE of the company is 37.74%, which signifies that for every dollar of shareholders' equity, the company generates revenue of 37.7 percent. On the other hand, the ROA of the company is slightly lower at 11.58%, indicating that for every dollar of asset investment, the company generated a return of 11.58 cents. The key sigifiance is the return on equity. This is owing to the reason that the management's main objective is maximizing the shareholders' equity.
· Comment on the company's profit margin, and explain whether you feel it is good or bad in performance.
The net income profit margin for Merck in 2019 was 20.87 percent, whereas for the 2018 financial year it was 14.64 percent. This is indicative of positive performance by the company. These financial metrics indicate that in 2018, for every dollar of revenue generated, the company made a profit of 14.64 cents, whereas, in 2019, the company experienced a better performance with a profit of 20.87 cents for every dollar of revenue generated.
Analyze the balance sheet and income statements for your company for the two most recent years.
· Is the company in better or worse financial shape for the most recent year?
The company is in better financial shape for the 2019 financial year as compared to the 2018 financial year.
· Use specific details from the balance sheet and income statement to support your position
The improved financial shape and position for Merck in the 2019 financial year is perceptible from both the reported balance sheet and income statements. First of all, the revenues generated by the company increased from $42,294 in 2018 to $46,840 in 2019, signifying a 10.75 percent increase. Also, the net income generated by the company substantially increased from $6,193 in 2018 to $9,777 in 2019, signifying a remarkable 57.87 percent increase. This demonstrates that the company's performance improved and is in better financial shape than the previous year. Similarly, the total assets of the company increased from $82,637 in 2018 to $84,397 in 2019, indicating an improved financial position for the company (Merck, 2019).
Calculate the following for each year:
· Return on equity
Return on equity = Net income / Shareholders’ equity
2019 = 9,777/ 25,907
= 37.74%
2018 = 6,193 / 26,701
= 23.19%
· Return on assets
Return on assets = Net income / Total Assets
2019 = 9,777 / 84,397
= 11.58%
2018 = 6,193 / 82,637
= 7.49%
· Gross margin
Gross margin = (Total Revenue – Cost of Goods Sold) / Total Revenue
2019 = (46,840 – 14,112) / 46,840
= 69.87%
2018 = (42,294 – 13,509) / 42,294
= 68.06%
· Price to earnings ratio
Price to earnings ratio = Current Stock Price / Earnings per share
2019 = 81.75 / 3.84
= 21.29
2018 = 81.75 / 2.34
= 34.94
· Current ratio
Current ratio = Current assets / Current liabilities
2019 = 27,483 / 22,220
= 1.24
2018 = 25,875 / 22,206
= 1.17
· Debt to assets ratio
Debt to assets ratio = Total liabilities / Total assets
2019 = (22,220 + 22,736 + 1,470 + 11,970) / 84.397
= 0.69
2018 = (22,206 + 19,806 + 1,702 + 12,041) / 82,637
= 0.67
· Inventory turnover ratio
Inventory turnover ratio = Cost of goods sold / Average inventory
2019 = 14,112 / [(5,978 + 5,440) / 2]
= 2.47
2018 = 13,509 / [(5,440 + 2,632) /2]
= 3.35
Based on the ratio calculations for the 2 years, discuss the health of the corporation using the ratios you calculated to support your statements.
Based on the calculated financial ratios, it is perceptible that financial health has improved from 2018 to 2019. For example, the profitability of the company has improved, indicating better and more effective management of the company's assets and shareholders' equity. For example, the ROE of the company increased from 23.19 percent in 2018 to 37.74 percent in 2019. Similarly, the ROA of the company improved from 7.49 percent in 2018 to 11.58 percent in 2019. The firm’s gross margin is also indicative of improved profitability for Merck, with the ratio increasing from 68.06 percent in 2018 to 69.87 percent in 2019. The liquidity position of the company is improved, indicating that the company is in a better position to cater to its short-term obligations. The current ratio of the company increased from 1.17 in 2018 to 1.24 in 2019. The inventory turnover ratio of the company declined from 3.35 in 2018 to 2.47 in 2019. This shows that the firm is in a better financial position as it can turn its inventory into sales in a faster period compared to the previous year. In general, this demonstrates that Merck is in improved financial health status in 2019 compared to the preceding year. Financial Analysis: Part III Read the Chairman's letter and any information regarding opportunities and growth; there should be some percentages mentioned, if not in the letter, then in the annual report numbers.
· What is the level of growth experienced by the company?
Based on the Chairman's letter, Merck made remarkable advancement in all three of the company's business sectors in the past year, enabling the company to grow profitably. In comparison to the 2018 financial year, Merck's sales experienced a growth of 8.9 percent, amounting to 16.2 billion euros. Furthermore, the company's earnings before interests, taxes, and depreciation, which is the most significant financial indicator for the entity, was approximately 4.4 billion euros, which was equivalent to a 15.4 percent increase from the previous financial year. Moreover, the earnings per share of the company increased by 9 percent in 2019 (Merck, 2019).
· Is the organization experiencing short- and long-term economic growth, experiencing contraction, or remaining stable?
The company is experiencing both short-term and long-term economic growth. As indicated in the letter, the Chairman indicates that the shareholders of Merck were profiting from the company's good business performance. In the past year, the share prices for the company increased by 17 percent (Merck, 2019).
· Do you see potential opportunities ahead, or have they stalled? Explain.
I perceive plenty of potential opportunities ahead for Merck. Regarding the healthcare sector, Merck plans to render profitable growth and particularly with opportunities in emerging markets, with a unique emphasis on China. Merck has the opportunity to completely leverage the potential that its new medications such as Bavencio and Mavenclad and move further ahead with the company's auspicious projects. Merck can accomplish great feats in 2020 and the future. Numerous of the technologies that the company is currently working on could aid in the resolution of problems being faced by humankind. Some of these technologies include cutting-edge cancer therapies and also energy efficiency memory devices. Merck has the opportunity to advance science and facilitate human progression, and being one of the key players in this field, the company can only experience more opportunities for growth and success (Merck, 2019).
Review the balance sheet and income statement for the most recent year for the company you had selected for the Financial Analysis: Part I activity in Week 1.
Construct a pro forma income statement for the next year, and answer the following questions:
Merck pro forma income statement
 
2019
2020

Total Revenue
46,840
37472

Cost of Revenue
14,112
11289.6

Selling, general and administrative
10,615
7430.5

Research and development
9,872
6910.4

Restructuring costs
638
446.6

Other income or expenses
139
97.3

35,376
26174.4

Income before taxes
11,464
11297.6

Taxes on income
1,687
1694.64

Net income
9,777
9602.96

· Do your balance sheet and income statement match the budget estimates for that year? If not, why not? If so, why?
There is a variance with the budget estimates for that year. This is largely because there have been unforeseen and unanticipated circumstances about Covid-19 that are expected to diminish the revenues and incomes generated by the company.
· Is the next year projected to be a better performing year than the most recent year's data?
The next year is not projected to be a better performing year in comparison to the most recent year's data. In the Chairman's letter, in 2020, the company set out to utilize the great developed that was attained in 2019 and continued to experience growth profitably (Merck, 2019). However, the circumstances that have unfolded during the year are bound to have an impact on the profitability of the company. The advent of Covid-19, the pandemic's spreading across the world, and its significant adverse impact on business operations and lives have undoubtedly altered most of the plans set out. Consequently, Merck gave a warning to investors that the Covid-19 pandemic would experience a multi-billion decline in its revenue projections for the 2020 financial year. For instance, from April to June 2020, the pharmaceutical sales for Merck experienced a decline amounting to $1.5 billion. The retailing of healthcare products has declined significantly owing to lockdowns within the nations owing to the spread of Covid-19 (Sagonowsky, 2020). Financial Analysis: Part V Refer to the company you selected in the Financial Analysis: Part I activity for Week 1.
Review the annual report, and research the industry further.
Develop a paper with a minimum of 800 words regarding the types of risk exposed to your selected company.
· What is the Beta measurement for your selected company?
The Beta for Merck is 0.49
· What does this measurement mean?
Beta is a metric that measures the risk or volatility of an asset about the market portfolio. The company’s beta measures how the equity market value of a company changes the changes in the market as a whole (Khan and Jain, 2011). The Beta for Merck has been ascertained to be 0.49. Taking into consideration that the beta value for the company is less than one, it implies that the company's stock is less volatile compared to the market. Therefore, the inclusion of this stock within a portfolio makes is less risky as compared to a similar portfolio devoid of the stock (Kenton, 2020).
· How does this company's Beta compare to its competitors' Beta?
The major competitors for the company in the market include Pfizer, GlaxoSmithKline, Bristol-Myers Squibb, and Johnson & Johnson. The betas for these companies are 0.68, 0.42, 0.71, and 0.70, respectively. Apart from GlaxoSmithKline, Merck's competitors have a higher beta than the company.
· What does this indicate?
It is imperative to note that the betas for the rival companies are all less than one, which implies that these stocks move less than the market. However, it is perceptible that except for GlaxoSmithKline, all the other companies have a higher beta compared to Merck. This implies that these stocks are risker than Merck but provide potentially higher returns. On the other hand, Merck poses less risk compared to the other competing stocks, but at the same time, have lower returns (McClure, 2020).
· What risk types is your selected company exposed to? Include examples.
There are different types of risks that Merck is exposed to. One of the risks that the company faces is foreign exchange risk. Taking into consideration that the center of operations of Merck is situated in New Jersey, the company has business operations globally. It uses the American dollar as its currency for financial reporting. However, the company group is exposed to foreign exchange risk fundamentally in the currency markets in Japan, Europe, and other emerging markets. Notably, Merck enters into different business and financial transactions associated with acquisitions, financial borrowings, licensing, and others that expose the corporation to currency and interest rate risks, and this influences the company's reported revenues, income, assets, and liabilities (Benson, 2015).
A second type of risk that the company is exposed to is a legal risk. Notably, Merck is exposed to various legal risks, including patenting, product legal action, and also commercial lawsuits, in addition to inquiries by government authorities and also prescription regulations (Benson, 2015). Over the years, Merck has faced different legal predicaments owing to its marketing campaigns. For example, Vioxx, which was at one point a renowned medication for pain relief across the globe, brought about numerous legal cases against Merck when its specialists realized that the medication was also a determining factor in causing heart attacks, stroke, and even death. Consequently, the company was forced to remove the drug from the markets across the world. Just from this drug alone, Merck faced over 60,000 legal cases against them (Khamsi, 2005).
Furthermore, there are other pending lawsuits against the other healthcare products unveiled and retailed by Merck. Other firms competing in the same niche as Merck, such as Johnson & Johnson and Pfizer, experience the same risks. Nonetheless, regarding Merck, the issue of Vioxx has been the largest scandal for the company. For instance, in 2007, the company was forced to settle almost 27,000 legal cases against the company with a payout amounting to $485 billion (Wadman, 2007).
· How much of worry could this be for the organization?
This could be much of a worry for Merck as an organization. Notably, Merck operates in a very volatile market. According to Harris (2000), when the concerns over Vioxx popped up, the company's shares went down, which is an indication that in such a volatile market, investors do not require plenty of grounds to sell or buy the shares. Furthermore, reputation is a fundamental aspect of such an industry. Therefore, with news about Vioxx, Merck's reputation quickly declined. If such scandals are linked to a company like Merck, there is a worry that the company will lose integrity in the eyes of the consumers, resulting in the lack of consumer trust and deterioration in sales (Gilmartin, 2011).
There is also financial worry about such risks about the company. For example, when the problems linked to Vioxx emerged, Merck was forced to take the drug off the market. Until that point, over 20 million individuals across the globe had purchased and taken the drug since its unveiling (Holmes, 2005). Furthermore, in 2003, the sales of the company got to $2.5 billion and accounted for 11 percent of the company's global sales. Therefore, the removal of the medication from the company cost the company 20 percent of its potential profit in that financial year (Holmes, 2005). Financial Analysis: Part VII Outline and define the exchange rate risk hedging tools provided in the chapter readings. Provide an example, either one that you create or find
The foreign exchange market comprises of all the various transactions of currency exchange. It takes into account selling domestic currency to buy foreign money at a particular value or rate, for the most part, delineated by the levels of demand and supply. Movements in the exchange rate are a risk for both firms and investors with global operations (Chandra, 2011). As a result, the espouse strategies to curtail the effect of ultimate adverse moments, an approach that is referred to as hedging. This takes into account utilizing financial instruments to heighten safety against the rise and fall in the currency. Hedging facilitates greater stability and predictability of financial transactions, cost structure, and also cash flows (Chandra, 2011).
There are different tools for hedging foreign exchange risk. These hedging tools are intended to diminish the risk faced by both investors and companies. One of these tools is forward contracts. In particular, forward contracts identify an amount, a fixed date, and also an exchange rate for currency exchange for taking place between two parties. This hedging tool permits these parties to close financial transactions and plan at the prevailing currency exchange rates. Even though these forward contracts do not have any costs, there is always the risk of a lack of compliance from one party (Brigham and Houston, 2012).
A second tool for hedging is futures contracts. In delineation, a futures contract is a uniform, lawful arrangement to buy or sell an asset at a fixed price at a definite time in the future. At this fixed date, the buyer is obligated to purchase the asset, and the seller is also obliged to sell the underlying asset at the predetermined price, irrespective of the current price at the contract's date of expiry. There are long hedges where there is buying of futures contracts to protect against increases in price. There are also short hedges whereby a company or an investor sells the futures contracts in anticipation of a decline in price (Brigham and Houston, 2012).
Debt operations are another kind of hedging tool for foreign exchange risk. Typically, debt operations are financial transactions that encompass the borrowing of foreign currency. In this regard, a financial investor partakes in the borrowing of currency in the amount that they anticipate to obtain in the future. Subsequently, they exchange such borrowing into the local or home currency and make the deposit, thereby hedging against the foreign exchange risks. Consequently, when the financial investor obtains foreign currency, they capitalize on it in the payment of a debt. Nonetheless, local interest might not be sufficient in payment of the interest accrued from the loan, and as a result, this tool can be deemed to be a costly approach (Madura, 2020).
Review the annual report from the company you selected from the Financial Analysis:
Explain how that company uses or may use hedging tools. If your chosen company is not international, use the company you chose for the Multinational Corporation Discussion assignment.
Merck can capitalize on future contracts as a tool for hedging foreign exchange risk. Specifically, the forward contract for the company can be customized to its various medical products, their respective amounts, and also the different delivery dates. Therefore, the medications and other commodities manufactured by the company can be traded. Therefore, various investors and retailers can agree with Merck to purchase medical commodities at a set price in the future. Therefore, Merck can be able to hedge against the foreign exchange risk.

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