| Financial Health of the American Furniture Industry
Corporate profitability can be measured in different ways. Each method has its
advantages and disadvantages. Three widely used gauges are:
- Profits before tax expressed as a rate of return on sales.
- Profits before tax expressed as a rate of return on shareholders' equity.
- Profits plus interest payments on debt expressed as a rate of return on assets.
The later is considered by many as the most reliable measure as it gauges an industry's
capacity to generate both profit and interest payments on borrowed funds. As such, it is
not influenced by the method of capital finance chosen by the industry (e.g., equity or
debt capital).
Using any of these three ratios, the American furniture industry
compares favorably to the overall manufacturing industry in the USA.
As of 2001, on the basis of profits as a percent of sales, the furniture industry
achieved a rate of 5.6% versus 4.3% for manufacturing overall. When profits are expressed
as a return on shareholder's equity, furniture achieved a rate of 17.6% compared to 10.0%
for manufacturing overall. Finally, the ROI for furniture stood at 8.8% in 2001 compared
to 3.9% for manufacturing as a whole if the basis is profits plus interest payments
expressed as a rate of return on total assets.
The rate of return for total manufacturing and for furniture producers - measured as
profit before taxes as a percent of shareholders' equity - has been rising until 1998 but
dropped steeply in the years thereafter. In 2001 it stood at 17.6% for the furniture
industry, down from 31.9% in 1999. The rate for overall manufacturing fell from 32.0% to
10.0% between 1998 and 2001. It is interesting to note that the rate of return for
furniture is often lower than for manufacturing as a whole during boom years, but it has
been above the one for manufacturing overall during the recent economic downturn.
The rates of return prevailing in furniture and throughout the manufacturing sector as
a whole also compared favorably with the rates of return prevailing on typical financial
instruments (90-days commercial papers, long-term government bonds) during the past ten
years. This is a sign that furniture manufacturing, and manufacturing in general, are both
on a sound economic footing in the U.S.A.
It comes as a surprise that the rate of return in the furniture industry was higher for
small furniture companies (less than $ 25 million in assets) than for large companies
(over $ 25 million in assets) in 2001. The rates achieved by small firms averaged 27.1%
compared to 14.4% among larger firms. However, on a long-term historic perspective, there
is no significant difference in the degree of profitability by size of company.
Statistical data for 2002 is not yet available but we believe they are very similar to
those in 2001. However, researchers at the AKTRIN Furniture Information Center anticipate
a noticeable improvements next year.
The American furniture industry not only fares well in regards to its profitability,
the industry's balance sheet ratios also look healthy.
Clearly a high debt level is a risk factor while a high equity level is a stabilizing
one. The equity ratio -- which calculates the ratio of shareholders' equity to total
liabilities plus equity -- provides a gauge of the degree to which a company or an
industry is at risk. An equity ratio of 40 percent or higher is generally considered to be
comfortable.
comfortable.
Over the last ten years for total manufacturing as a whole the equity ratio fluctuated
between 37 percent and 47 percent. For the furniture industry the ratio fluctuated between
38 percent and 50 percent; however, in each of 1999 and 2000 it fell below 40 percent. As
of 2001, the ratio improved again to the very healthy rate of almost 50 percent. This is
10 percent better than for total manufacturing.
Yet another measure of a firm's equity base is determined by calculating its shareholders'
equity position as a percentage of the firm's fixed asset base. This ratio shows the
degree to which the firm's fixed asset base is financed with equity capital. A ratio of
100 percent indicates prudent financial management as it means that the fixed asset base
is fully financed by equity.
The equity to fixed asset ratio for manufacturing as a whole has hovered between 131
and 156 percent between 1992 and 2001. In comparison, the ratio in the furniture industry
ranged between 83 and 197 percent. Thus the fixed asset base of the furniture industry as
well as total manufacturing is adequately covered by its equity base.
The equity ratio (equity as a percent of assets) among firms with assets of more than
$25 million in the furniture industry tends to exceed that of the smaller firms.
The generally healthy equity ratios in the industry should not hide the fact that some
companies are highly leveraged. When demand sags, an inadequate capital foundation is one
of the most frequent causes of business failure. Even under favorable business conditions
a thin capital base and a high debt load can jeopardize otherwise lucrative investment
opportunities.
Source:ITTO |
