Business & Management - Managing Financial Resources.
HND Business & Management Year 1
Unit 2: Managing Financial Resources
Assignment 3
Tutor: Juliette Marsh
Author: Jamie Sythes
Version: Final
Date: 15.12.03
The work submitted has been produced by myself.
Any assistance, references and research sources are clearly identified and listed in the bibliography.
Any false declarations will automatically result in the work being discounted and possible exclusion from the award.
Signature............................................... Date.....................
Task 1.
Financial statements are produced by businesses for a number of reasons, these include;
* To comply with the companies Act 1985
* To help management to evaluate and manage
* To provide information for interested parties (i.e. potential investors)
The main financial statements are made up of the following; A Profit and Loss account (also known as a P&L), a Balance sheet and a Cash flow statement. These three statements are normally accompanied with a section called Notes to the accounts.
It is important to remember that the financial statements are normally out of date by the time investors receive them and they are also not audited in full.
Profit and Loss:
The Profit and Loss statement show's the income that a business has generated and its expenditure during a given period, this is usually a full financial year. The profit and loss statement normally only uses the operating costs of the business and the sales of the business. It ignores the assets and long-term liabilities of the business as it's aim is to show the profit that the company makes from its sales.
Balance Sheet:
The Balance sheet shows the assets, capital and the liabilities of a business. The Balance sheets information is only for a given moment in time, unlike a Profit and Loss account statement which spans a given period. The sheet shows the assets and liabilities of the business, it can also show the uses of the businesses cash and also the source of it.
A Balance sheet can also be known as a 'Position statement', this is due to it showing the exact financial position of a business at the time it was produced.
Cash Flow Statement:
The Cash Flow statement shows the differences between profit and cash. It also shows where the business gets its capital from and how it uses this capital.
The Cash Flow statement is similar to the profit and loss account, as it is prepared for a given period (i.e. full financial year when thinking in terms of year end accounts). Where as the profit and loss statement take into account depreciation and intangible assets, the Cash Flow statement just shows the flow of cash in the business through out the given period. It can be used to show how much actual money the business has, as well as how well the business has managed its income and outgoings. The cash flow statement can also be used to give an indicator of how capable the business is of meeting its financial commitments.
Notes to the Accounts:
The Notes to the Accounts, is an important part of any set of accounts, as they help show the full picture because of the detailed information they contain. The information included in the Notes to the Accounts is generally that which can't be shown in the major financial statements (this is often due to the size and detail).
Normally there are two different kinds of Notes:
Accounting Methods - This kind of Note, will explain the companies accounting policies and the dates of its financial year.
Disclosure - This ...
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Notes to the Accounts:
The Notes to the Accounts, is an important part of any set of accounts, as they help show the full picture because of the detailed information they contain. The information included in the Notes to the Accounts is generally that which can't be shown in the major financial statements (this is often due to the size and detail).
Normally there are two different kinds of Notes:
Accounting Methods - This kind of Note, will explain the companies accounting policies and the dates of its financial year.
Disclosure - This kind of Note, generally includes the more detailed information, i.e. maturity dates for long-term debts and interest rates for debt.
Assets:
"The standard definition of an asset is 'a right or access to economic benefits controlled by an entity as a result of past transactions or events'
Outright ownership is not necessarily required for a company to classify some items as assets on its own balance sheet." - ¹
There are different types of assets, the main two that are present are Fixed Assets and Intangible Assets. Fixed Assets can include buildings/property that the business might own as well as machinery. An Intangible Asset is something that is not physical but is owned by the business, a good example of this would be a brand name, where the business can add to revenue/sales through use of the brand, these can also include patents, trademarks and rights to IP's. Intangible assets are not necessarily shown on the balance sheet.
Liabilities:
"The standard definition of a liability is 'an entity's obligation to transfer economic benefits as a result of past transactions or events'" - ²
Liabilities can include long-term loans, debentures, rent, tax, wages, etc. Liabilities that are due to be paid within one year are normally referred to as short-term liabilities, where as liabilities which have to be paid over a number of years are referred to as long-term liabilities.
Task 2
Trading and Profit and loss accounts for the year ended 30 March 2003
Fowler PLC
Slater PLC
£000
£000
£000
£000
Sales
2069.30
2506.60
Less cost of sales
Opening stock
673.10
521.60
Purchases
581.30
743.40
2254.40
2265.00
Less closing stock
828.80
425.60
564.20
700.80
Gross profit
643.70
805.80
Wages and salaries
211.00
264.90
Directors salaries
63.60
34.70
Rates
40.00
21.40
Heat and light
22.10
24.10
Insurance
26.00
37.50
Interest payments
27.20
38.40
Postage and telephone
6.80
22.30
Audit fees
5.20
7.20
Depreciation
Freehold building
2.30
8.10
Fixtures and fittings
24.80
459.00
31.90
610.50
Net profit before tax
84.70
95.30
Corporation tax
44.80
48.70
Net profit after taxation
39.90
46.60
Add Retained profit brought forward
65.50
455.90
204.40
602.50
Dividends proposed
89.90
33.00
Retained profit carried forward
6.40
469.50
Balance Sheets at 30 March 2003
Fowler PLC
Slater PLC
£000
£000
£000
£000
Fixed assets
Freehold land and buildings at cost
610.00
861.00
Less Accumulated depreciation
06.00
504.00
47.00
714.00
Fixtures and fittings at cost
242.80
272.40
Less Accumulated depreciation
21.00
21.80
44.70
27.70
625.80
841.70
Current assets
Stock at cost
828.80
564.20
Debtors
247.20
450.70
Cash at bank
40.80
52.60
216.80
167.50
Creditors due within one year
Trade creditor
379.90
253.00
Dividends
89.00
33.00
Corporation tax
44.80
48.70
613.70
434.70
603.10
732.80
228.90
574.50
Creditors due beyond one year
Debentures
266.00
350.00
962.90
224.50
Capital and reserves
£1 ordinary shares
448.00
350.00
General reserves
498.50
405.00
Retained profit
6.40
469.50
962.90
224.50
Notes:
. All purchases and sales are on credit
2. The market value of the share in each business at the end of the year were £9.01 and £8.20 respectively.
Ratios
Return of Capital Employed (ROCE):
The ROCE shows the return from the long term capital invested within the business, this is one of the most important ratios.
Fowler PLC =
Slater PLC =
Profit Margin:
Gross Margin:
The Gross margin shows the comparison between sales and expenses.
Fowler PLC =
Slater PLC =
Net Margin:
The Net margin shows the comparison between sales (after tax) and expenses.
Fowler PLC =
Slater PLC =
Stock Turn Over:
This figure relates to the average number of days the business holds on to its stock.
Fowler PLC =
Slater PLC =
Debtor's Collection Period:
This is the average amount of time that the business takes to collect its debit.
Fowler PLC =
Slater PLC =
Creditor's Collection Period:
This is the average amount of time that the business takes to pay its outstanding credit.
Fowler PLC =
Slater PLC =
Current Ratio:
The Current Ratio (also known as the Working Ratio) compares the current assets against the current liabilities.
Fowler PLC =
Slater PLC =
Acid Test:
The Acid test is very much like the current ratio, with one crucial difference, it does not take into account the stock that the company has. This is due to the time that it could take to sell the stock.
Fowler PLC =
Slater PLC =
Gearing Ratio:
The Gearing Ratio shows the contribution of long-term investments to the capital structure of a business. There are different advantages for the different levels of Gearing.
Fowler PLC =
Slater PLC =
Interest Cover Ratio:
The Interest Cover Ratio shows how many times the business is able to cover the amount of interest it owes on its liabilities from its Net Profit.
Fowler PLC =
Slater PLC =
Earning Per Share (EPS):
The Earning Per Share Ratio shows the potential amount each share could earn during the year. This is not necessarily the amount that the business will pay per share. It is worth noting that this ratio can be used to help determine if it is worth investing in a company, although using a minimum of 5 years data is recommended.
Fowler PLC =
Slater PLC =
P/E (Price / Earnings) Ratio:
"P/E is short for the ratio of a company's share price to its per-share earnings. As the name implies, to calculate the P/E you simply take the current stock price of a company and divide by its earnings per share (EPS):" - ³
Fowler PLC =
Slater PLC =
Investment Proposal:
It is important to note that the following conclusion has come from one years data. A review of the last five years of financial data is recommended to establish any trends and help to make a prediction of future performance.
Looking at the ROCE, we can see that Fowler PLC is higher than for Slater PLC during the year, this shows that Fowler PLC is making more profit from the business's capital. The Gross Margin calculation shows that Slater PLC is making a larger (1.04%) margin (32.15%) than Fowler PLC (31.11%), however, looking at the Net Margin we can see that Slater PLC is lower than Fowler PLC, 9.32% and 10.24%. Looking at the absolute figures we can see that Slater PLC have a to pay a larger amount of interest (£37,500) than Fowler PLC (£26,000), as well as a generally higher liabilities, this is why the Net Margin is lower for Slater PLC.
Looking at the efficiency of the two companies we can see that Fowler PLC has a higher stock turnover rate (192 days) compared to Slater PLC (117 days). Fowler PLC however looks like it has a more efficient cash flow, taking 43 days (average) to collect its debits and 88 days (average) to pay its creditors, comparing to Slater PLC which takes 66 days (average) to collect its debits and 53 days (average) to pay its creditors - we can see that Slater PLC could possibly run into cash flow problems, where as Fowler PLC is holding on to its cash for longer.
To look at the risks involved with investing in either company we can look at the short-term solvency ratios. Starting with the current ratio we can see that Fowler PLC is running at 2 times where Slater PLC is running slightly higher at 2.68 times. Although Fowler PLC is running at estimated optimal, neither are drastically bad. The Acid test however (liquidity of the business not including closing stocks) presents a different picture, Fowler PLC running at 0.63 times and Slater PLC running at 1.39 times. This means that Fowler PLC would not be able to cover its liabilities immediately if it went into solvency (this is a part reflection of its long stock turn over time) - this could cause a problem if the reason for the solvency was due to low demand for its product.
Looking at the long-term solvency ratios we can see that Fowler PLC is running a Gearing Ratio of 21.65% where as Slater PLC is running at 22.23%. This shows that Fowlers PLC has a higher chance of producing higher dividends for its investors, but at a higher risk than Slater PLC who are more likely to offer safety of dividend payments which may not increase. Looking further into the long-term solvency ratios we can see that Fowler PLC is able to cover its interest payments 7.79 times, and Slater PLC only 6.09 times, this indicates higher interest payments by Slater PLC (as stated above)
Moving on to the Investment Ratios, we can see that Fowlers PLC earning per share (31.23p) is 10.66p less than Slater PLC (41.89p). The price earning ratio for Fowlers PLC is higher at 28.85times than Slater PLC at 19.58 times.
Reviewing the data above I would invest in Slater PLC, this is due to the fact that they are a less risky investment and the earnings per share has been higher this year. Although Slater PLC may suffer from possible cash flow problems its stock turnover time is more efficient.
Bibliography:
Books used:
HND Business Core Unit 2 ISBN: 0 7517 7060 4
Business for Higher Awards 2nd Edition: ISBN: 0-435-45314-9
Frank Wood's Business Accounting: ISBN: 0-273-65557-4
Internet Resources used:
http://www.economics.ag.utk.edu/pubs/farm/pb1583.pdf
http://www.investopedia.com/university/peratio/peratio1.asp
http://www.accounts-explained.co.uk/
References:
-¹ Reference taken from:
http://www.accounts-explained.co.uk/cgi-bin/hy_display.cgi?psid=5&sid=24&aid=39
-² Reference taken from:
http://www.accounts-explained.co.uk/cgi-bin/hy_display.cgi?psid=5&sid=24&aid=40
- ³ Reference taken from:
http://www.investopedia.com/university/peratio/peratio1.asp
Record of Evidence
Outcomes
Assessment Criteria
Evidence Reference
4. Explain the use of finance as a resource within the Business
Define the different types of assets and liabilities owned by the business
Task 1 - assets & liabitlities page 3
5. Analyse the financial performance of business
Explain the main financial statements, their purpose and use
Task 1 - page 2 - 3
Analyse financial performance using relevant accounting ratios
Task 2 page 6 - 8
Make comparisons between two different businesses and compare their results to industry standards
Task 3 page 9 - 10
HND Business & Management Unit 2: Assignment 3
HND Yr1 Unit2 ass3.doc Page 1 of 11 08/05/2007