Financial Institutions and Debt

¶ … Kohls Corp Kohls is a well-known department store with a head office based in Wisconsin (Kohls, 2016). To assess the financial performance of the organisation, including its cost of capital, the latest set of available accounts were utilise, this was the 10k issued in 2016, four financial year ending 31 December 2015 (Kohls, 2016). The paper starts by examining the cost of capital for the organisation, and then considers the value of its operations. Cost of Capital Capital within any organisation is made up of two elements; debt and equity.

Debt consists of money that has been borrowed from third parties, which will need to be repaid (Howells and Bain, 2007). Debt may be short or long-term, with the borrower paying interest and/or fees for the use of money from a third party (Elliott and Elliott, 2015). Generally, the higher the level of proportional debt carried by phone, the greater the perceived level of risk on the part of the shareholders (Bodie, Kane and Marcus, 2014). At Kohls at the end of the 2015 the total level of debt was $8,115 million.

While there is no full breakdown on the levels of interest payable, a calculation can be undertaken to assess the amount of interest paid by dividing the interest shown on the income statement, by the outstanding amount of debt. As shown in figure 1, this equates to an annual interest rate of 4.03%, which can be seen as the cost of debt (Elliott and Elliott, 2015). Equity is money invested by the shareholders, and funds that are created and generated by the firm and retained in the business (Howells and Bain, 2007).

This is money that does not need to be repaid. In 2015 this amount $5,491 million. However, just because it does not need to be repaid does not mean it comes about a cost. Shareholders make investments in order to gain returns, and in the case of Kohls, there is a payment of dividends. Therefore, by dividing the dividends made by the equity outstanding, it is possible to calculate a cost of equity, which is 6.36% as shown in table 1 below.

With the cost of debt and the cost of equity it is possible to calculate a weighted average cost of capital, by calculating the proportion of each form of capital, and then allocating a proportional level of that interest in order to gain a weighted average cost of capital (Elliott and Elliott, 2015).

Table 1; weighted average cost of capital Amount outstanding Payments made Payments as % of that capital Proportion of total capital Proportion of interest Debt 4.03% 0.596428 2.40% Equity 6.36% 0.403572 2.57% Total 13606 4.97% By taking the proportional levels of interest for each type of capital, the above calculation shows that the weighted average cost of capital for Kohls for the financial year 2005 was 4.97%.

Value of Operations However, while the weighted average cost of capital may be an indicator of the perceived risk associated with a firm, as higher returns required by both lenders and investors will include a risk premium (Nellis and Parker, 2006), investors are likely to be more interested in the actual performance of the firm. The primary performance measures are usually the profit ratios. Table 2 presents the gross profit for the years 2011 to 2015.

The gross profit of the total revenues less the direct cost of sales (Elliott and Elliott, 2015), which in the case of Kohls will be primarily the merchandise. Table 2; Gross profit margin calculation Gross profit 2015 2014 2013 2012 2011 Revenue (a) 19,204.0 19,023.0 19,031.0 19,279.0 18,804.0 Cost of goods sold (b) 12,265.0 12,098.0 12,087.0 12,289.0 11,625.0 Gross profit (c) (a-b) 6,939.0 6,925.0 6,944.0 6,990.0 7,179.0 Gross profit margin (%) (c/a x 100) 36.13% 36.40% 36.49% 36.26% 38.18% This calculation shows that the organisation has faced some difficulties, with the revenues decreasing in 2013 and 14, and showing a slight improvement in 2015.

Notably, the cost for the organisation have increased, and there is a slight decline in the gross profit margin. However, as there are many additional costs as well as the direct cost of goods sold, investors are more likely to be interested in the net profit margin. This is calculated by taking the net income and calculated as a percentage of the total revenue (Drury, 2015). This is shown in table 3 below.

Table 3; Calculation of net profit margin Net Profit 2015 2014 2013 2012 2011 Revenues 19,204.0 19,023.0 19,031.0 19,279.0 18,804.0 Net Income (before tax) 1,057.0 1,349.0 1,404.0 1,561.0 1,859.0 Net profit margin 5.50% 7.09% 7.38% 8.10% 9.89% This demonstrated is not only the cost of goods as has been increasing, but also the proportional cost of other indirect costs, as the net profit margin has nearly halved between 2011 and 2015. Therefore, there may be concerns on the part of the shareholders, especially this appears to be a trend that has been ongoing for the last five years.

While shareholders may be interested in the firm as a whole, there will also be interested in the impact will have on their proportional shareholding. For this it is possible to look at the earnings per share, which are calculated by taking the net profit and divided by the average shares outstanding. This is shown in table 4 below.

Table 4; Earnings per share Earnings per share 2015 2014 2013 2012 2011 Net profit (a) 1,057.0 1,349.0 1,404.0 1,561.0 1,859.0 Average shares outstanding (b) 3,657.22 5,719.76 5,686.20 6,509.37 7,993.70 Earnings per share (a/b) 3.46 4.24 4.05 4.17 4.30 For the decline in the firms performance may be a concern, shareholders may be pleased to see that the average number of shares outstanding have also been declining, so the.