This financial analysis is concerned with the liquidity position and solvency (long term debts) of the Starbucks Corporation. The analysis shows that Starbucks is in a very delicate position so far as its liquidity is concerned; and it is low geared company as very little long term debts and other liabilities have been used to finance the total assets of the company.
Liquidity position of a firm states its solvency to satisfy its short term liabilities as those become due. “Liquidity in business refers to availability of cash in times of uncertainty or in times of unwanted cash outlay. It is the capacity of any business to be prepared for any cash disbursement without any burden on where to get some money. This aspect is very important in any kind of business.” (Clive Green, 7 May, 2006)1.
To judge liquidity of a business Current ratio and Quick ratio are the most common and widely used tools. “Generally the current ratio shows the ability of the business to generate cash to meet its short term obligations. A decline in this ratio can be attributable to an increase in short term debts, a decrease in current assets, or a combination of both. Regardless of the reason, a decline in this ratio means a reduced ability to generate cash.” (Small business guide)2. Current ratio of 2:1 is considered optimum in any type of industry unless special circumstances exist. Quick ratio is also similar in nature as current ratio except that it takes into account the least current assets in its calculations. In fact inventories are not considered for calculations of quick ratio. Quick ratio of 1:1 is considered suitable for most of industries. The current ratios and Quick ratios of Starbuck corporations is calculated as under:
The liquidity position of Starbucks is very precarious, as in both 2007 and 2006 the ratio is 0.79:1, and that is much lower than any standard. Its current ratio is also so delicate that its liquid assets are just in ratio of 0.47:1 in 2007 and 0.46:1 in 2006 when compared to current liabilities. This shows that Starbucks is certainly facing a liquidity crunch. Starbucks is not in a position to meet its current liabilities as those become due. Some drastic measures are required to improve the situation. Loans from banks or financial institution will deteriorate the situation further. It is suggested to raise equities, if possible, and use some of those funds for meeting current liabilities. This is an emergency measure as the source of funds is long term and Starbucks will not increase its current liabilities further.
Solvency (long Term Debts)
The debt position of a firm is an indication of loan funds being used to finance assets and generate profits. The debt a firm uses, the greater is risk of firm’s inability to return loans and become bankrupt. Financial leverage is also reflected from the debt position of the firm. The more debt a firm uses, the greater is its financial leverage. Debts position can better be judged from the debt ratio of the firm, which “measures the proportion of total assets financed by the firm’s creditor. The higher this ratio, the greater the amount of other people’s money being used to generate profits.”(Lawrence J. Gitman, 2006)3. The debt ratios of Starbucks are calculated hereunder:
Starbuck has only financed 16.92% of its total assets from its long term debts and liabilities in the year 2007, and this ratio was much lower at just 5.98% during 2007. It appears that Starbucks does not believe in debt financing. The ratio suggests that Starbucks is a low geared company. This is good from the point of lower fixed interest liabilities payable by the company; but the equity holders are not in a position to take benefits of high geared situations during high profitability periods as they are the residual beneficiaries.
- Clive Green, Liquidity in business, Article Alley, 2006. Web.
- Small Business Guide, Current Ratio, 2008. Web.
- Lawrence J. Gitman, Principles of managerial Finance, Eleventh Edition, Pearson Education, page 64.