Ashtead’s Capital Structure
Ashtead Group Public Limited Company is a London-based corporation that rents industrial equipment. The company is featured in the FTSE 100 Index and is listed on the London Stock Exchange. The corporation has subsidiaries in the United States and the United Kingdom.
It exists in the US and UK as Sunbelt Rentals and A-plant. Whereas A-Plant has over 143 units across the UK, Sunbelt has more than 376 branches spread throughout the US (Kurniawan, 2021). The company’s current employee count is approximately 7,812 personnel in the US and 2,076 in the UK. As of October 31, 2021, Sunbelt had an operating revenue of $3,641 million, whereas A-plant’s net profits were estimated at $29,967 million (Cheung, Im, and Noe, 2021). This paper is based on a breakdown of Ashtead’s capital structure, its financial performance, the overall approach to managing stakeholders’ expectations, and recommendations to address the identified issues in its operational framework.
Capital Structure Alignment to Strategic Goals
Aligning a company’s capital structure with its objectives is crucial because it determines the rate at which the firm grows and expands. The capital framework summarizes the various types of funding used by the company to sustain its competitiveness, earnings, and shareholder value (Danbolt, Hirst, and Jones, 2018). In this context, Ashtead’s capital structure does not align with its goals of developing sustainable value propositions and beyond-average performance throughout the market cycle.
Although the company strategizes to maintain its rank as a dominant player in the rental industry, it faces a high gearing ratio attributed to the misalignment (Haslam et al., 2021). Ashtead’s goals are also tailored to expand market sentiments, improve operational efficiency, and enhance future growth prospects. However, as identified in the subsequent sections of this paper, the company has more debt than equity, which might affect the realization of strategic goals.
Degree of Debt and Equity
A critical analysis of Ashtead’s capital structure shows that the company has more debt than equity. The aggregate amount of debt, which is approximately 61.22% (£1,215.6 million), necessitates the company to outsource capital for development through bank notes, secured bank debt, and lease finance (Ashtead Group, 2021). As of 2019, the aggregate amount of equity was £1054.0, representing 39.58% of the capital composition (Ashtead Group, 2019). Since the debt-to-equity ratio is 3:2, it is apparent that the external borrowing option for the company is more expensive than equity financing.
Degree of Debt or Equity’s Impact on Gearing
Examining the company’s leverage ratios is crucial to understanding the impact of debt or equity on gearing. Gearing ratios draw attention to the company’s capital structure by comparing the proportion of money financed by debt and equity. Additionally, they explain how the company’s profits offset interest costs. Such ratios are crucial to a prospective financier because they reflect a company’s leverage and capacity to pay interest expenses when due. Table 1 below shows the gearing ratios for the company over the last five years.
Table 1: Ashtead’s Gearing Ratio from 2017 to 2021
The data in the table show that the overall debt-to-equity ratio is greater than two across the five years. Therefore, more outstanding debt is financed by additional debt than by the company’s equity. This negatively affects the company, as it renders it overly leveraged and unattractive to investors.
Additionally, only a negligible percentage of the capital is devoted to equity financing. The interest coverage ratio generally varies, ranging from 0.136 to 2.76. Such low ratios make it challenging for the corporation to cover financing fees (Guo & Li, 2019). For example, the business’s operating income in 2017 and 2021 was insufficient to cover its interest-related expenses.
Due to Ashtead’s high gearing, it would be risky for a potential financier to assist the business. Since the debt burden exceeds total equity, it is evident that the corporation relies more on borrowed funds than on equity financing (Pfeifer & Pikhart, 2019). The company’s use of external borrowing and lease financing is undesirable since it lowers the capital attributable to shareholders. Therefore, Ashtead is highly leveraged since its fiscal position (regarding debt and equity) is unfavorable to prospective finance providers and shareholders.
How Ashtead Views Risk and Return
Ashtead’s perspective on risk and return differs remarkably based on the primary metrics used to evaluate performance over a specific period. The most crucial variables in many contexts are the actual earnings per share, return on capital employed, and net debt, all measured at a fixed exchange rate. The company aims to establish a robust investment culture to attract and retain new investors (Haynes & McPhail, 2021). Additionally, it intends to closely monitor the total amount diversified in different project portfolios and their respective returns in each fiscal year. At the same time, it is essential to remember that Ashtead operates in a field that requires a significant amount of capital; hence, the return on investment should often exceed the risk size.
The corporation views risk and return from a conservative perspective, focusing on asset-oriented financing rather than high-risk, high-return investment ventures. Therefore, assessing the company’s returns on assets during the last five years is crucial. This would make it easier to determine whether the business employs its assets effectively to produce returns. It is essential to note that the company’s perspective on risk and returns has been shaped by primary recessionary cycles, such as the 2008 financial crisis and the COVID-19-induced recession (Ashtead Group, 2020). However, the business must sustain a capital structure and risk-reward framework to generate higher shareholder returns.
Financial Performance and Management of Stakeholders’ Expectations
Ideally, financial statements are used to highlight the company’s strengths and weaknesses. As a result, the bank reconciliation, statement of profit or loss, and cash flows can all be used to conduct financial analysis from both the perspective of the financier and the shareholder. While the former is concerned solely with the firm’s leverage, shareholders focus more on the accrued revenue and returns on investment and capital employed. Therefore, in this section, the company’s profitability and gearing ratios will be evaluated and assessed. Table 2 below shows the profitability of the company from 2017 to 2021.
Table 2: Ashtead’s Profitability for the Last Five Years
Since the profit margin ranges from 1.78% to 7.55%, the ROE from 3.65% to 8.11%, and the return on employed capital from 0.86% to 16.99%, (from the table) Ashtead’s profitability can be deemed as low. From 2017 to 2018, the company’s profit margin increased significantly. However, it was followed by a drastic drop in its financial performance. Since 2018, Ashtead’s profitability has been declining, which may be undesirable to many prospective investors.
Three-Year Forecast for Operating Profits
As the US and UK economic markets expand, Ashtead aims to sustain organic growth, which will be attributed to the demand for reconstructions and repairs in the coming years. There is a chance to achieve 20% growth because the target markets are rebounding from the COVID-19 recession (Chakraborty, Kakani, and Sampath, 2022). Furthermore, the company’s return on capital employed increased in 2020 and 2021, and this trend will inevitably last for several years (Chakraborty, Kakani, and Sampath, 2022). The corporation expects to reach 20% growth in the third year, so these projections show organic growth (Lessambo, 2021). Table 3 below shows the company’s projections and forecasts for the next three years.
Table 3: Company’s Projections From 2023 to 2025
Source: (Ashtead Group, 2019; Ashtead Group, 2020; Ashtead Group, 2021)
According to the above table, the company is expected to generate net revenues of $2123.48 million in 2023, $2399.77 million in 2024, and $2613.98 million in 2025. These projections consider the risks associated with exchange rate volatilities (Rahman, 2022). Additionally, the rental industry will likely undergo recuperation followed by a boom, given that it recently recovered from the COVID-19 epidemic. The anticipated annual operating earnings are predicated on a 95 percent confidence that they will be achieved.
Company’s Cash Flow and Funding Needs
The increased operating revenue predicted above will only be feasible through funding. Additionally, the funding should be sufficient to address the needs for operating capital and related expenditures (Driver, Grosman, and Scaramozzino, 2020). The company’s income statement shows that considerable revenue stems from rental income. Thus, the organization must spend enough money on fleet management by considering size, frequency, and efficiency. Table 4 below shows the cash flow and funding for the past five years.
Table 4: Cash Flows and Funding Between 2017 and 2021
According to the table, the company’s revenue increased by 43% between 2019 and 2021. In light of the expansion of the American market, this growth is considered moderate and attainable. Earnings Before Interest and Tax (EBIT), on the other hand, dropped from 55% to 40% from 2017 to 2021 due to the higher level of service delivery and hence revenue.
The company’s management plans to gradually lower the leverage ratio and total liabilities over time (Vilalta-Perdomo et al., 2022). The funding requirements are predicated on the idea that debt financing will decrease by 5% annually, reaching £967.61 in 2023 (Quick, Zaman, and Mandalawattha, 2022). Based on the supposition that debt will decrease while equity remains constant, working capital is expected to increase over time, lowering the company’s leverage.
This suggests that interest costs will decline significantly, boosting the company’s cash flow. Based on the current market conditions, management is hopeful about performance gains and robust growth. Although revenue could increase by 50%, this entirely depends on the expansion of the fleet and an increase in performance (Ashtead Group, 2021). The section below highlights Ashtead’s general approach to controlling its shareholders’ expectations.
Overall Approach to Managing Stakeholders’ Expectations
Ashtead Group manages shareholders’ expectations by regularly updating them about key financial information. The corporation conducts regular board meetings, where the procedures, timelines, and extent of shareholder influence over decisions are discussed (Hamim & Chowdhury, 2019). The company further provides detailed blueprints for all ongoing projects to guide shareholders through various phases of their adjustments (Amanda, 2019). Shareholders can only appreciate different transitions in the company through effective communication and the adoption of project-centric templates.
This explains why the management promotes mutual communication in which receiving feedback is given top priority. Despite the efforts above, the main challenge facing shareholders and management is controlling the firm’s level of leverage to acquire new investors (Sierra-García et al.,2019). Although the company seeks new sources of finance to support expansion, it has limited access to public equity and debt due to its high level of leverage. The section below highlights some key recommendations that Ashtead can adopt to ensure adequate financial decision-making.
Improvements and Recommendations
As highlighted previously, Ashtead Group faces a high level of leverage that negatively impacts its gearing. A company’s gearing ratio is entirely subjective compared to other businesses operating in the same sector (Johnman, Vanstone, and Gepp, 2018). However, it is possible to distinguish between favorable and undesirable ratios using a few simple thresholds. Essentially, gearing ratios above 50%, below 25%, and between 25% and 50% are considered high, low, and optimal, respectively (Kurniawan, 2021). Since Ashtead frequently uses loans to cover operating expenses, risk exposure during recessions is highly probable.
Depending on how severe the drawdown is, this could result in insolvency. Ashtead Company should therefore reduce its gearing ratio by adopting frugal spending practices (Sciarelli et al., 2020). The business should establish new subsidiaries in cyclical industrial economies. Such economies are characterized by a strong sensitivity to business cycles, enabling them to manage corporate debt levels. Therefore, businesses with high gearing ratios in these economies gain by leveraging shareholders’ equity to cover significant expenses.
Additional Methods That Ashtead Can Adopt to Reduce Its Gearing
The most recommended approach that Ashtead can adopt to reduce its leverage is repaying existing debts. This can be done in different ways, including selling ordinary and preference shares, converting debentures to shares, and reducing operational costs.
Sale of Preference and Ordinary Shares
Selling shares entails shifting a portion of the company’s ownership to the general public to raise shareholder equity, which can then be used for debt repayment. In this case, Ashtead can raise funds by selling its shares. In contrast to obtaining credit, Ashtead would benefit from equity financing since it is less expensive, thus leading to better financial decision-making for the organization.
Furthermore, unlike debt funding, the company’s financial decision to sell shares is effective since this approach does not require legal commitments (Ali, Rangone, and Farooq, 2022). However, Ashtead’s management should be aware that the issuance of shares results in losing a portion of ownership. Thus, the gain from this type of financing must be significant to be worthwhile.
Since management is not required to reimburse investors for their money if Ashtead is declared bankrupt, this strategy is strongly advised. When new investors purchase shares, they do so with the same risk of losing money. Thus, equity financing (sale of shares) reduces the risk of loss on new investments. Additionally, the business might bargain with its lenders to convert some of its outstanding debt into stock.
Reduction of Operational Costs
By minimizing expenditures and identifying redundancies and potential areas for development, Ashtead can use the accumulated funds to settle its debts. This could take the form of automating routines and repetitive tasks to reduce labor costs (Fatouh, Giansante, and Ongena, 2021). At the same time, formulating a new operational plan that boosts revenues can result in more money being made available for the company to meet its financial obligations.
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