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  • Published on: 14th September 2019
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Introduction

This report will be discussing the financial statement analysis of Merlin Entertainments in order to advise the head of UK equity on whether it would be wise to invest into the company. The report will be comparing, analysing and discussing the figures from the past four financial years; 2014, 2015, 2016 and 2017 in order to provide valuable information to the Head of UK Equity. Merlin Entertainments is an entertainment company specialising in family experiences. Formed in 1999 by Nick Varner after the buyout of Vardon Attractions, Merlin Entertainments now operates 123 attractions in 24 countries, making it the largest entertainment company in Europe.

“To create a high growth, high return, family entertainment company based on strong brands and a global portfolio that is naturally balanced against the impact of external factors.” (website)

Merlin Entertainment's strategy

Merlin Entertainment has always worked to strengthen and diversify geographically to attract customers whilst also producing returns on capital invested.

There are six growth drivers:

1. Growing the existing estate through planned investment cycles

Improving and expanding on current features at Merlin attractions to Increase capacity to further allow customers to have an enjoyable experience. This is funded by investment depending on its importance and relevance at the current time.

2. Exploiting strategic synergies

 Implementing e-commerce initiative and such to improve the efficiency of the company and develop   and enhancing the digital experience for consumers.

3. Transforming our theme parks into destination resorts

One of the most important aspects to further develop the Merlin Entertainment company by transforming the attractions into short break destinations. By 2020 Merlin Entertainments plan to add 2,000 rooms to accommodate for more customers.

4. Rolling out new Midway attractions

The company is planning on launching midway attractions with a focus on locations where there is an advantage of operating costs and marketing. Merlin Entertainment is planning on opening 40 new midways before their 2020 target.

5. New LEGOLAND park developments

Another strategy is to develop current LEGOLAND parks as well as opening 4 new LEGOLAND parks before 2020. By combining expertise with LEGO there is an expected increase of return on capital.

6. Strategic Acquisitions

Merlin entertainments has made their strategy clear and for this reason will need to peruse acquisition opportunity that would help achieve their strategic objectives.

Economy and sector outlook

Merlin entertainments operates in the UK economic market as well as internationally. For this reason, there are many influences on its position both internal and external factors as well as political positions that will form Merlin Entertainment's operations and business decisions.

Brexit

As of 2017 the UK's gross domestic product is 2.622 trillion USD. There are many factors that affect the country's GDP such as infrastructure and political stability. Factors such as weather and holiday seasons can also impact the country's GDP immensely. The UK's decision to leave the European union was confirmed on the 23rd June 2016 and had heavily impacted the state of the country. The Brexit vote has slowed the UK economy and according to specialists the UK Gross Domestic Product was expected to be negatively impacted with a -1.3% loss.  It was also assumed that there will be a -2.5% decrease by 2023 due to the effects of the Brexit deal. However currently statistics show a growth of 0.6% in just three rolling months from May to July which is a huge improvement from the 0.2% growth in the quarter 1 of 2018. This shows that the UK's GDP is improving regardless of the political position it is in. The rise in GDP is beneficial to Merlin Entertainments as it means a rise in consumer purchasing rate that has potential increased market value and increased sales and profit.

High inflation rates effects exchange rates which means that UK goods will increase in price more than other international goods. For this reason, demand on UK goods would fall and UK products would become less competitive. Due to the Brexit deal the UK has seen a deflation of about 13% in the value of the pound within just a year. High inflation rates would mean that Merlin Entertainments would have to pay more for raw materials and such. Although this does not have a significant impact on Merlin Entertainments this is something the company must take into consideration to remain a profitable company.

Financial statement analysis

Financial statements are produced in a orderly manner by Merlin Entertainments PLC to help their shareholders and investors to help understand the figures of the company in previous years. This gives them an insight to how well the company did and allows them to evaluate the information that will help come to their decisions. There are many categories however we will be focusing on 5 difference categories that will help analysis parts of their financial position and performance. In order to determine where Merlin Entertainments stands as a company compared to other companies, it will be compared to the industry average of both the diversified and movies/entertainment industries.

Profitability ratios

Expressions 2017 2016 2015 2014 2017 Diversified Industry average 2017

Movies and entertainment Industry average

Gross Operating Margin (Sales less cost of sales/Sales) x 100

84.00%

84.42%

84.90%

85.51%

46.02% 91.95%

Operating profit Margin (Net Profit before interest and tax/Sales) x 100

20.26% 21.96% 22.77%

24.9% 14.37% 6.51%

Net profit Margin (Net Profit after tax/Sales) x 100

13.11%

14.48%

13.3% 12.97%

8.74% 2.99%

Return on Equity (Net Profit after tax/equity) x 100

14.47%

15.09% 15.10%

15.85% 13.44% 7.66%

Return on assets (Net Profit before interest tax/Total assets) x 100

6.21%

6.42%

6.02% 5.77% 1.68% 1.77%

Return on capital employed (Net Profit before interest &tax /Equity Long term debt) x 100

9.94% 9.84% 9.99% 11% - -

Profitability ratios are monetary metrics used by forecasters and investors to measure and assess the ability of a company to produce income relative to revenue, operating costs, and shareholders' equity throughout an explicit period of time. They show how well a company consumes its assets to produce profit and value to shareholders.

There are many factors that impact profitability ratios. The ratios show records a decline in the operating profit margin, return on equity (ROE) and return on assets (ROA). These ratios are extremely important for investors as it shows the ability of the company to generate profit. Although there is a decline in these rates overall and ROE records a drop from 15.85% to 14.47% in just 3 short years the decline is not drastic and it was expected as they announced in late 2010 that they would purchase almost A$116 million worth of attractions in Australia and New Zealand. However there has been a marked increase in the net profit margin over the years, which has ultimately fed through to the operating profit margin. The Return on assets (ROA) is ranked higher than 69% of the 422 companies in the global industry (guru focus). The increase in the net profit margin may have been encouraged by increase sales revenue. The gross profit for year 2017 is 1,339,000,000 which is a solid growth from 1,068,000,000 made in 2014. This shows that Merlin Entertainments remains a profitable company despite political situations and market fluctuations which makes the company highly investable.  

In 2017 the return on capital employed was 9.94% which displays an arrangement of increased capital investment as well as finance leased assets relevant to LEGOLAND japan. ROCE is one of the most important ratios for displaying the company's financial performance. For 2015 minor amendments were made to the ROCE calculation. The profit measure used in calculating ROCE is based on underlying operating profit after tax; the change to the tax rate applied reflects the more stabilised tax position following the IPO. The capital employed element of the calculation is based on net operating assets which include all net assets other than deferred tax, financial assets and liabilities, and net debt. From 2015 we use average net assets in this calculation to better match the deployment of capital to the period over which the related income is earned. ROCE in 2015 was 9.7% (2014: 10.6%) largely reflecting the decline in underlying operating profit. Had the changes not been made the reported ROCE for 2015 would have been 9.5%.

https://corporatefinanceinstitute.com/resources/knowledge/finance/profitability-ratios/

Liquidity ratios

These liquidity ratios show whether or not Merlin Entertainments would be able to spread their short-term obligations.

Expressions 2017 2016 2015 2014 2017 Diversified Industry average 2017

Movies and Entertainment Industry average

Current ratio Current assets/Current liabilities

1.26 0.97

0.98

1.36

1.15 1

Acid test ratio Current assets-inventories/Current liabilities 1.15

0.86

0.86

1.26

0.23 0.42

Current ratios are determined by dividing currents assets with current liabilities and the higher the current ratio the more liquid Merlin Entertainments is however an increased or decreased liquidity rate doesn't mean that the company is better off although a liquidity ratio under 1 can be problematic. The current ratios have been somewhat stable from 2014 to 2017 with a slight decrease during 2015 and 2016 going down to 0.97. the average of Merlin Entertainments current ratio is 0.68 taking into consideration the past 10 years which indicates that they may have a difficulty in meeting its current obligations. Nevertheless, this is not a serious matter as the company has good long-term predictions.

this chart shows the current ratio comparison between companies alike. The chart shows that regardless of its current ratio Merlin Entertainments PLC remains the biggest competitor in the industry as of June 2018.

Efficiency ratio

Expressions 2017 2016 2015 2014 2017

Diversified Industry average 2017

Movies and Entertainment Industry average

Average Inventory turnover period

Inventories/Cost of sales x 365

52.96

57.89

56.74

56.74

14.66 24.79

Average settlement period for trade receivables

Receivables/Credit Sales x 365

32.17 24.97 29.94 25.04 10.16 12.93

Average settlement period for trade payables

Trade payables/Cost of sales x 365

62.98

101.30

77.54

62.51

- -

Total asset turnover

Sales/Total assets 0.44

0.44

0.47

0.45

0.33 0.59

Average Inventory turnover period

Average Inventory turnover period shows how effectively inventory is managed by comparing inventories by cost of sales and multiplying by 365 to show how many days it takes for the company is sold and replaced. Usually the less days the better it is for companies however Merlin Entertainments took nearly 53 days to turnover in 2017 which is significantly higher than the industry average which has been caused by market fluctuations.

Average settlement period for receivables

 Clustering our midway assets together to drive cross selling and operational efficiency.

Financial ratios

Expressions 2017 2016 2015 2014 2017

Diversified Industry average 2017

Movies and Entertainment Industry average

Gearing (Debt/ Equity) x 100

81%

81%

88%

107%

- -

Interest cover (times) Profit before interest and tax/Net interest charges

6.53 7.02

6.15 4.53

Gearing ratios expresses the point to which the business's activities are funded by owner's funds rather than creditors funds. A high gearing ratio would mean that the company is more defenceless towards the business cycle.  In this case Merlin entertainment has seen a decrease in gearing in the past four years coming down from a staggering 107% in 2014 to an 81% in 2017. This is a huge improvement however the rate is still quite high and it shows that Merlin Entertainment depends hugely in debt financing. One of the many reasons that this is occurring is because of the company's determination to expand and enhance their attractions. As Merlin entertainments is a huge business, materials and such are expensive thus the company has to seek opportunities to further differentiate their sources of funding. In 2015 the company formed a strategic partnership with the Big Bus Tours, which ultimately made an investment of £24.6 million into the company thus the gearing ratio decreased by 19%. Net interest paid were reduced by £21 million in 2015 rather than the £41 million in 2014, this was due to the company's decision to refinance its core debt facilities which significantly reduced the company's expensive borrowings. This ultimately would affect the company's credit rating; thus, the steps Merlin Entertainments are taking to ensure that they are improving their position are vital.

Investment ratios

Expressions 2017 2016 2015 2014 2017

Diversified Industry average 2017

Movies and Entertainment Industry average

Earnings per share

Net Profit after tax/Number of shares outstanding

20.5 20.8 16.8 16.0 - -

P/E ratio (PE)

Market price per ordinary share/EPS 17.71 21.69 27.14 24.94 75.23 91.65

Dividends per share Dividends/ Number of shares

7.4 7.1 6.5 6.2 - -

Dividend cover

Net profit after tax/Dividends 2.92 2.75 2.53 - - -

Dividend yield

Dividend per share/Marker price per share x 100

0.67% 1.51% 1.38% 0.51%

- -

Dividends per share:

Dividends per share shows the amount of dividend that is paid for each share. This is a measurement that is used to estimate the number of dividends an investor would expect to receive if they were to invest in the company. As the figure shows Merlin Entertainments annual dividends has increased slightly over the year which Is considered attractive to investors as means they will draw in more dividends for their investments. Merlin entertainments have a policy to maintain a suitable level of dividends per share and dividend cover. For this reason, we see an increase in dividend per share from 6.2 in 2014 to 7.4 in 2017 which is a steady increase that shows the prospects of the company as a whole which shows investors how much they are looking to earn back.

Dividend yield ratio:

This is related to the cash return from a share to its current market value. This ratio can help investors to assess the cash return on their investment in the business (peter atrill and eddie mclaney,2017).

Merlin entertainments dividend ratio history shows a steady increase after the spurt at the end of 2014. The dividend yield ratio has been steady ever since which shows investors how Merlin Entertainments…..

Merlin acquired Living and Leisure Australia in 2012 adding ten new sites to the portfolio in the fast-growing Asia-Pacific region, and creating clusters in Shanghai and Bangkok.

Merlin formed of a strategic partnership with Big Bus Tours in February 2016, the leading global owner-operator of Hop on Hop Off city tours, allowing further cooperation across many of our key city centre markets.

The LEGO Movie 2, due for release early next year, should provide a boost in 2019

We also announced in October plans to open a LEGOLAND park in New York State in 2020, and the launch of two new IP based attraction formats – ‘The Bear Grylls Adventure' and ‘Peppa Pig'.

Furthermore, we were motivated throughout 2017 to review our approach to capital allocation and reflect upon recent performance which has fallen short of our expectations in some areas. This has resulted in a number of medium term adjustments - most notably the reduction in Midway and Resort Theme Parks existing estate capex which will be reallocated towards our highly successful accommodation roll out and increased focus on the Productivity Agenda.

Merlin continues to evolve and, with attractive market fundamentals and the right strategy in place, we remain highly confident in the long-term prospects for the business.”

Dividends per share

………….

Growth Ratios

Expressions 2017 2016 2015 2014 2017

Diversified Industry average 2017

Movies and Entertainment Industry average

Sales growth (This year's sales-last year's sales)/last year's sales x 100

9%

14%

2%

- - -

Gross profit growth (This year's gross profit-last year's g.p.)/last year's g.p. x 100

9%

13%

2%

- 10.15% 3.92%

Operating profit growth (This year's operating profit-last year's o.p.)/last year's o.p. x 100

1.3%

10%

-6%

- -15.48% -13.56%

Net profit growth (This year's net profit-last year's n.p.)/last year's n.p. x 100

-1%

24%

5%

- -14.49%

or

 -53.2% -33.93%

Merlin entertainments new business development and foreign exchange movements have impacted the company's total revenue growth. The company's recent opening of LEGOLAND Japan had boosted revenue and visitors. More than 66 million visitors have been welcomed by Merlin entertainments in 2017 which is a 3.5% increase from 2016 which shows steady improvement. This also shows that Merlin entertainments have made some conscious decisions to improve their position and increase revenue. Moreover, six midway attractions have been opened in 2017 and there are nine more midway attractions that are scheduled for 2018 which we can only assume would bring in more profit and develop the company even further.

Merlin entertainments reported that although there has been a decline net profit growth and gross profit growth, this is due to series of terror attacks on the UK as well as the raise in threat level that has been implemented by the government to secure the situation. Also through 2016 and 2017 the company implemented new cost saving measures which decreased operating profit growth. 2017 has seen a revenue of £16 million from just midway attractions opened in 2016. For this reason, it's expected that the newly opened ventures such as the midway attractions and the newly opened LEGOLAND will bring a even bigger revenue in 2018 which shows Merlin entertainments growth prospective.

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