CASE ANALYSIS - CARREFOUR, S.A.

BACKGROUND:
Carrefour was in the Retail Business and opened their first store in France
in the summer of 1960. The concept of one-stop shop with discount prices
proved to be very successful in France as retail distribution at that time
was highly fragmented and product lines in individual stores were very
narrow. Visits to up to four separate shops were required in order to
purchase all retail food item and merchandise. Carrefour facilitated the
process of buying food items by creating a store where the consumer
could find almost every food product he needs.
Non-food products were later added to Carrefour line of products. In 1963
Carrefour opened its first hypermarket in France outside Paris, selling food
and non-food products at discount prices, and providing parking for 450
cars. The high degree of consumer acceptance can be attributed to
convenience and price. The hypermarket strategy proved to be very
successful and from 1965 and 1971 sales grew in excess of 50% and nonfood items accounted for 40% of total volume. In 1970 new stores were
opened with selling area as large as 25,000 sq m.
Carrefours strategy was to build its store outside of towns in location
where highways provided easy access and land could be acquired very
inexpensively. The combination of low-cost land and inexpensive
construction gave Carrefour a total investment per square meter of selling
space equal to about one third of traditional supermarkets.
Another strategy was a decentralized management. Each store manager
had high decision-making power to operate their stores, which make
decisions faster, more dynamic, and the daily store management more
efficient. Plus, manager could customize its store to suit local needs
better. The decentralized operations were a key success factor underlying
Carrefours national achievements.
As a rapidly growing company, Carrefour had great opportunities to be
accepted by its customers as a convenient and one-stop shopping center
with its cheaper price compare to other available stores. This lead to a
number of 40% of other small retail shops or approximately 80,000 stores
had closed down in 1971. In order to solve this issue, French Government
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to some extend decided to make tighter regulations to slowdown the

significant enlargement of hypermarket, such as Carrefour by limiting the
number of new opening store each year (maximum of two stores per
year). However that solution was not enough to keep small retailers in
business, so in 1972 legislation was passed to tax retail stores in order to
provide pensions for small shopkeepers who were unable to continue in
business.
All these factors were obstacles for Carrefour growth, nonetheless
Carrefour managed to get two new construction permits each year from
1960 and early 1970s. However, in order to achieve a more rapid
expansion Carrefour did joint ventures and franchises agreements, which
it offered to share its retailing know-how, trademark, and consumer
goodwill with potential partners both in France and elsewhere in Europe.
Carrefour offered its expertise in exchange for either an ownership
interest in stores under construction or franchise fees. Carrefour was very
successful in adding selling area under the Carrefour name using this
strategy. The combination of those partnerships and low construction
costs made Carrefour ability to grow 50% a year without going for massive
funding through equity selling or debt financing.
Carrefour was facing an increased competition in France and the future
growth was beginning to look limited. Although Carrefour was the leader
in the French market other firms were becoming big competitors. It was
estimated that 50% of market saturation had already been taken.
Furthermore, it was expected in the next few years, the market for
hypermarket stores would be completely saturated at current growth
rates. Therefore, Carrefour considered expanding their strategy by
investing in others countries. As a result, Carrefour needed to observe
several possible ways to set up stores outside France.
KEY ISSUES

OF THE

FIRM:

The Exhibit 2 of the case reveals that Carrefour had been maintaining a
negative net working capital which was growing over the years from 1965
to 1971. Negative Working Capital is good as long as the firm has the cash
adequacy to meet the liabilities. In case of Carrefour, the firm may not be
able to pay the long-term and short-term debts through its current assets
including cash, accounts receivable and inventory if there is a temporary
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recession. The statement of Free Cash Flow of Carrefour as shown in the

following table indicates that the Company was not generating enough
cash to meet its liabilities.
TABLE 1: FREE CASH FLOW

OF

CARREFOUR

Working capital represents operating liquidity available to a business. The

goal of working capital management is to ensure that the firm is able to
continue its operations and that it has sufficient cash flow to satisfy both
maturing short-term debt and upcoming operational expenses. Cash flow
in operating working capital could be measured by Cash Conversion Cycle
(CCC). CCC measures how quickly a company can convert its products
into cash through sales. The shorter the cycle, the less time capital is tied
up in the business process, and thus the better for the company's bottom
line. Maintaining a short CCC was therefore a good thing for Carrefour.
However, Carrefour had generated cash so quickly they actually have a
negative working capital. This is not uncommon on retailer business. This
happens because customers pay upfront and that to so rapidly, that the
business has no problems raising cash. In these companies, products are
delivered and sold to the customer before the company even pays for
them. However in a long run that is a risky strategy because a delaying
payment to suppliers may lead to the loss of cash discounts and other
price breaks.
Further, as a part of its Capital Management strategy, Carrefour created
two types of businesses besides its wholly owned stores - one in form of
joint ventures and the other were in a franchise type of businesses. Each
type of business generated different net income in which joint ventures
gave Carrefour a profit between 10-50% of the ownership, while
franchises provided a fee of 0.2% of total store sales. The main concern of
Carrefour was to create maximum returns and minimize risks as low as
possible by combining these three types of businesses. However, the risk
seems to be not fully mitigated as the Debt-to-Equity (D/E) ratio showed
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an increasing number over a period of time and it was relatively higher

than other competitors. A higher debt-to-equity ratio means that the more
debt that is used thereby imposing higher risk. Carrefour financed its
capital mostly by using a non-interest bearing Trade Notes. Consequently,
Carrefour indeed should find a way to make a slightly higher net working
capital and reduce its debt-to-equity ratio.
WHY THE NEGATIVE WORKING CAPITAL
CARREFOUR?

NOT

GOOD STRATEGY

FOR

Exhibit 2 shows that the composition between investment activities and

financing activities. The composition between these two activities was
mismatching. Carrefours fund was more than enough to support their
operating activity. Mostly its fund was covered by short-term debt from
external parties. Ideally, a short-term investment should be supported by
a short-term debt and a long-term investment through a long-term debt.
However, the Balance Sheet indicates that Carrefour kept increasing its
Net Fixed Asset (NFA) through investments in land and buildings. The
investment in building such NFA was financed mostly through non-interest
bearing Trade Notes which is a type of short-term debt. Net fixed asset is
again categorized as a long-term investment. Therefore Carrefour had
been funding long-term investment through short-term financing which is
evident from the firms growing negative working capital.
TROUBLE

WITH

DEBT-EQUITY RATIO

Another major problem with Carrefour investment strategy was that the
Debt-Equity ratio kept increasing and it showed a 4.6 ratio at the end of
1971. The debt was 4.6 times its equity. However, the composition of the
debt mostly consisted of short-term debt as explained above. This could
cause a problem for Carrefour since its equity would not cover its debt in
case of debt maturity. Hence the result of a negative working capital
would also be futile for Carrefour in this respect.
CONCLUSION:
Based on the analysis above, it has been observed that the following two
main factors have raised several issues in Carrefour working capital
management:
1. Maintaining a negative net working capital
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2.

High Debt-to-Equity Ratio

These two conditions are considered as a risky financial management.

Negative net working capital could be a sign for a company facing a
bankruptcy or serious financial problem. This is due to the higher current
liabilities compare to its current assets. If Carrefour in case of any
temporary recession cannot generate enough cash, it will end up with
having higher amount of debt that cannot be covered by its equity.
Carrefour therefore should adjust its negative net working capital by
reducing its current liabilities.

SUBMITTED BY:
Shubhayu Sanyal MP13056
Ankan Mitra MP13012
V Satish MP13066
Kunal Ranjam MP13027
Jasbir Singh MP 13032