Financial Basics for Managers

This assignment focuses on providing non-financial managers with a foundational understanding of key financial concepts. It delves into topics such as ratio analysis, its limitations, and how it can be used to assess a firm's performance. The assignment also examines capital structure decisions, the motivations behind them, and the impact of these decisions on a company's financial health. Additionally, it explores the role of accounting in providing relevant information for managers to make informed decisions.

ACCOUNTING AND FINANCE FOR
MANAGERS

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................1
QUESTION 1 & 2. PERFORMANCE ANALYSIS USING CHARTS.........................................1
QUESTION 3. RECOMMENDATIONS TO IMPROVE THE FINANCIAL POSITION............8
QUESTION 4. LIMITATIONS OF RELYING ON FINANCIAL RATIOS.................................9
QUESTION 5. INVESTMENT APPRAISAL TECHNIQUES....................................................10
QUESTION 6. LIMITATIONS OF USING THE INVESTMENT APPRAISAL TECHNIQUES
........................................................................................................................................................13
CONCLUSION..............................................................................................................................14
REFERENCES..............................................................................................................................15

INTRODUCTION
Accounting and finance for managers lays a significant impact on the overall business
operations of a company. The organization operates its business on money, and if it fails to
manage and control its money, the company with no doubt loses its competitive position along
with the financial strength in the global business environment. In this regard, appropriate
accounting of the organization's income and expense is essential which helps to manage and
control the inflows and outflows of money thereby providing the organization with a strategic
direction to conduct its business operations. The present report analyzes the importance of
accounting and finance for the managers within an organization. Furthermore, it also examines
the link between theoretical knowledge as against practical applications. It helps to gain an
insight knowledge about different financial and non financial ratios along with the overall
financial interpretation of companies which helps in the decision making process.
QUESTION 1 & 2: PERFORMANCE ANALYSIS USING CHARTS
Comparative performance analysis of company's financial strength creates a tremendous
impact on the decision making process of the organization. It assists the investors along with the
employees and the management of the company to compare its overall competitive position in
the line of global business environment (Patra, 2006.). In the report, we have analyzed the
financial strength of two large fashion retail firms named Next Plc and H&M in order to analyze
its performance in the competitive market and to examine its investment appraisal techniques.
Comparative analysis of an organization is done by observing, examining, analysing and
finally interpreting the performance of some major financial and non financial ratios in the
following manner. In context with the present case file, company makes use of various financial
and non financial ratios to evaluate its business performance.
Financial ratios- These ratios are broadly segmented into the following categories-
Liquidity ratios- The organization makes use of this ratio to measure the short term credibility of
the firm. It serves the information of meeting the short term financial barriers by a company. The
two most commonly used liquidity ratios are-
1

 Current ratio-It measures the ability of the firm to pay its debts in the near future from its
existing resources. This ratio compares the company's current assets with its current
liabilities. In the present case, the current ratio of Next Plc has tremendously increased
from 1.28 to 1.82 over the past five years. However, the current ratio of H&M has
marked the downfall from 2.96 to 2.11 over the past 5 years. As a result, Next Plc
possesses good ability to pay off its debts from the existing resources because higher the
ratio, better it would result in company's liquidity position (Pavett and Lau, 2013).
 Quick ratio-Also known as acid test ratio, is one of the alternative of current ratio which
does not include inventory in its current assets. It simply compares the total of accounts
receivables, cash and marketable securities with the total of its current liabilities. The
quick ratio of Next Plc has shown an increasing phenomenon from 0.72 to 1.16 over the
past five years (Eiteman and et.al., 2012). Conversely, H&M faces the decrement of its
quick ratio from 2.06 to 1.07 over the last five years. From this context, Next Plc
maintains greater liquidity position as compared to H&M.
The comparative analysis of CR &QR of Next Plc and H&M is discussed as below with
the help of a bar diagram-
COMPARATIVE ANALYSIS OF CR AND QR OF NEXT PLC
YEAR CR QR
2011 1.28 0.72
2012 1.54 0.91
2013 1.48 0.97
2014 1.76 1.18
2015 1.82 1.16
2

COMPARATIVE ANALYSIS OF CR AND QR OF H&M
YEAR CR QR
2010 2.96 2.06
2011 2.71 1.69
2012 2.66 1.49
2013 2.25 1.22
2014 2.11 1.07
3
03/07/1905
04/07/1905
05/07/1905
06/07/1905
07/07/1905
0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2
1.28
1.54
1.48
1.76
1.82
0.72
0.91
0.97
1.18
1.16
COMPARATIVE ANALYSIS OF LIQUIDITY RATIOS OF
NEXT PLC.
QR
CR
02/07/1905
03/07/1905
04/07/1905
05/07/1905
06/07/1905
0 0.5 1 1.5 2 2.5 3 3.5
2.96
2.71
2.66
2.25
2.11
2.06
1.69
1.49
1.22
1.07
COMPARATIVE ANALYSIS OF LIQUIDITY RATIOS OF H&M
QR
CR

Profitability ratios- To measure the overall profitable aspect of business firm, mentioned
companies make use of its profitability ratio to measure its business performance in the
competitive environment. It is broadly segmented into-
 Gross profit ratio- It measures the total gross profit which is earned by the company on
its sales. The gross profit margin of Next Plc has considerably increased from 29.27% to
33.59% over the past five years which shows the company's greater extent to beat its
competitors. However, the ratio tends to decline in case of H&M from 62.93% to 58.81%
for the same time period which reflects a negative aspect on the mind of investors. Operating margin ratio- It measures the operating income of the company with its net
sales. The operating margin of Next Plc has significantly increased from 17.19% to
20.62% from 2011-2015. Conversely, the same has been declined in case of H&M from
22.73% to 16.90% for the same period. As a result, Next Plc generates sufficient money
through its existing operations in order to pay its fixed cost and the variable cost in
comparison to H&M (Tayles, Pike and Sofian, 2007).
 Net profit margin- It compares the net income of the company with its net sales. It also
measures the company's overall management of expenses in relation to its net sales. Next
Plc is marked with increasing profit margin from 11.93% to 15.87% and H&M suffers
from declining profit margin from 17.22% to 13.19%. Consequently, Next Plc possesses
the ability to generate higher revenues by keeping its expenses low (Limitations of ratio
analysis, 2010).
The comparative analysis of profitability ratios of both the firms is explained with the
help of diagram-
COMPARATIVE ANALYSIS OF NET MARGIN RATIO
YEAR Next PLC H&M
2010 17.22%
2011 11.93% 14.38%
2012 12.62% 13.96%
2013 14.34% 13.30%
2014 14.79% 13.19%
4

2015 15.87%
COMPARATIVE ANALYSIS OF GROSS MARGIN RATIO
YEAR Next PLC H&M
2010 62.93%
2011 29.27% 60.13%
2012 30.38% 59.50%
2013 31.48% 59.13%
2014 33.16% 58.81%
2015 33.59%
5
03/07/1905
04/07/1905
05/07/1905
06/07/1905
07/07/1905
0 0.02 0.04 0.06 0.08 0.1 0.12 0.14 0.16 0.18
11.93%
12.62%
14.34%
14.79%
15.87%
14.38%
13.96%
13.30%
13.19%
COMPARATIVE ANALYSIS OF NET MARGIN RATIO
H&M 17.22%
Next PLC

Efficiency ratios- It analyzes the efficiency of the company in managing its internal assets and
liabilities in an effective manner. It is further categorised into-
 Asset turnover ratio- It measures the company's net sales with its average total assets.
Higher the ratio, higher would be the efficiency of the company in managing its assets
and generating higher sales. In the present case, Next Plc generates a lower ratio of 1.89
in 2015 as compared to H&M (2.14). Inventory turnover ratio-It measures the effectiveness of the company in managing its
inventory with relation to the cost of goods sold. Next Plc has shown a minor fall in its
ratio from 6.89% to 6.62%. Along with it, H&M also shows the same magnitude of fall
from 3.70% to 3.46%. As a result, this shows that both the companies maintain a liquid
inventory (Roe, 2012).
 Receivables turnover ratio- It measures the ability of the firm to quickly gain its accounts
receivables. It compares the net credit sales with the average account receivables. The
receivable turnover of Next Plc has declined from 6.14 to 5.45. However, the same ratio
has considerably increased from 32.92 to 33.12 in case of H&M. It shows that H&M is
collecting its receivables in an effective basis.
The comparative analysis of asset turnover ratios of both the firms is systematically
explained by using a bar chart-
6
03/07/1905
04/07/1905
05/07/1905
06/07/1905
07/07/1905
0 0.1 0.2 0.3 0.4 0.5 0.6 0.7
29.27%
30.38%
31.48%
33.16%
33.59%
60.13%
59.50%
59.13%
58.81%
COMPARATIVE ANALYSIS OF GROSS MARGIN
RATIO
H&M 62.93%
Next PLC
Y Axis Title

COMPARATIVE ANALYSIS OF ASSET TURNOVER RATIO
YEAR Next PLC H&M
2010 1.91
2011 1.89 1.84
2012 1.89 2.01
2013 1.89 2.04
2014 1.85 2.14
2015 1.81
Management effectiveness ratio- Next Plc and H&M makes use of this ratio to measure and
analyze the overall effectiveness of its management. This ratio is analyzed by calculating the
following ratios- Return on assets- It compares the net income of the company in relation to its average
total assets (Merchant, 2006). Next Plc has marked a considerable increase in the said
ratio from 22.55% to 28.68%. Conversely, H&M faces a major decrease from 32.91% to
28.28% for the past five years.
 Return on equity- It is computed by measuring the net income with the shareholder's
equity. Next Plc has a significant downfall in the said ratio from 214.98% to 208.75%.
Also, H&M is nevertheless lies in the same segment where its ratio decreases from
44.07% to 41.27%. This shows that the companies are not effectively utilising the money
from its shareholders in order to develop the overall structure.
7
03/07/1905
04/07/1905
05/07/1905
06/07/1905
07/07/1905
1.6 1.7 1.8 1.9 2 2.1 2.2
1.89
1.89
1.89
1.85
1.81
1.84
2.01
2.04
2.14
COMPARATIVE ANAYSIS OF ASSET TURNOVER RATIO
H&M 1.91
Next PLC

Financial Ratio Next Plc H&M
Current ratio Good Worse
Quick ratio Good Worse
Inventory turnover Good Worse
Inventory days Good Worse
Debt/equity ratio Good Worse
Gross margin Good Worse
Net margin Good Worse
ROA Good Worse
ROE Good Worse
Non financial ratios- There are number of non financial ratios which creates a significant impact
on the overall financial strength of the business in the hyper competitive environment. These are
not recorded in the financial statements of company (Droms and Wright, 2015). Non financial
ratios broadly comprise with the staff turnover ratios, customer and employee satisfaction level
along with the degree of developing creative and innovative products. Company makes an
effectual use of analyzing its non financial ratios in order to predict its future business
performance and to gain high market share. As per the present report, mentioned companies
analyze its non financial ratios in order to get a strong sense of commitment from its employees
to produce high quality products and to render the best services. According to the given case, it
can be seen that Next Plc is working on a sound track with regard to its competitive product
range, high market growth, qualitative rendering of products and services along with quicker
deliveries which helps the said company to contribute higher level of customer satisfaction.
Furthermore, the manufacturing of its cost effective products tends to attract a huge audience
thereby creating customer trust and loyalty which ultimately helps the entity to gain a worldwide
corporate image. As a result, it can be interpreted that Asol Ltd, should opt for Next Plc in order
to purchase the shares.
Here, it is found that staff turnover ratio in Next is increased from 0.17 to 0.21 and same in
the case of H&M, it increased from 0.17 to 0.22. This is the situation due to absenteeism. In
8

Next, absenteeism has risen to 9855 from 7300 and in H&M it is 12045 from 8030. Based on
these states, it can state that Next is operating in effectual manner as compared to H&M.
QUESTION 3: RECOMMENDATIONS TO IMPROVE THE FINANCIAL
POSITION
In context with the above financial analysis of Next Plc and H&M, it can be seen that the
overall financial position of Next plc is far better than H&M. H&M needs to focus its main
attention to increase its sales which in turn leads to increase in revenue thereby tuning an
increment in its overall profit margin. Significant recommendations in order to improve the
overall financial position of H&M and Next PLC are discussed as below-
 Company should emphasize on its criteria to first recover the outstanding debts. Before
making a sale, the company should make sure that it maintains the sale agreement in
writing in order to ensure the time period in which its debtors settle the debts.
 The said company should start to analyze the expenses which it incurs in the course of
manufacturing and production. It should implement major cost effective techniques in its
plan of action. Along with it, H&M should also focus to switch to cheaper alternatives
for production process. For larger expenses, the company should arrange a deferred
payment plan. Further, it should manage and control its expenses and try to get it
minimized (Healy and Palepu, 2013).
 Leasing its main assets or selling the unwanted assets also serve as one of the
recommendation which helps the cited company to minimize its storage cost and helps to
generate maximum cash flows.
 Company should introduce new marketing techniques to attract a huge crowd of
audience, which as a result helps the company to attain a worldwide exposure leading to
increased sales and revenue.
QUESTION 4: LIMITATIONS OF RELYING ON FINANCIAL RATIOS.
Financial ratios serve as one of the major tools which help the firm to analyze its
financial performance. However, relying on the same is not a good thought to analyze the overall
financial position of the company in the global environment. The major reasons of not relying
only on the financial ratios are discussed below-
9

 Ratios provide the information subject to the accounting assumption and standards
followed by the company. If the company tends to work on wrong principles, the
accounting ratios will provide information on the basis of such principles and concepts as
adopted by the organization, which is wrong (Warfield and Wild, 2015).
 Analysing the ratios becomes preferable if the company adopts a narrow line of its
services and products. In case of complex and large companies, observing the ratios will
be more difficult. As a result, the company should focus its attention to analyze its
investment appraisal and other techniques to examine the overall position of the
company.
 The problem related to inflation distorts the balance sheet and as a result such distortion
is then delivered to the ratios which create a negative impact on the entire performance of
the company.
 Usually, it becomes difficult to analyze the financial strength of a company by simply
observing the ratios. This is because some ratios draw a perfect picture of the company
and some creates a negative impact. Consequent to this, it becomes difficult as to which
ratio to consider and which is not to be considered to analyze the company.
QUESTION 5: INVESTMENT APPRAISAL TECHNIQUES
Investment appraisal in a broader sense refers to the capital budgeting and planning
process which helps to determine whether the organization's long term investments are worth of
its capital structure (Myers, 2014). There are various techniques adopted by Hilltop in order to
identify its investment appraisal plan between project A and project B. Some major techniques
which help the company to identify the suitable projects are discussed below-
Net cash flows-
NCF can be identified by evaluating and examining all the cash related transactions
as against the non-cash related affairs. It will be eliminated from such calculation like
depreciation.
Table 1: NCF of project A (In £)
Year Profits Depreciation Cash inflows
through sales
Cash outflow
to purchase
Net Cash
inflow
10

new machine
2016 40000 33000 73000
2017 40000 33000 73000
2018 40000 33000 21000 -50000 44000
2019 30000 10000 40000
2020 30000 10000 40000
2021 20000 10000 30000
Total 200000
Table 2: NCF of project B (In £)
Year Profits Depreciation NCF
2016 10000 20000 30000
2017 20000 20000 40000
2018 30000 20000 50000
2019 60000 20000 80000
2020 70000 20000 90000
2021 55000 20000 75000
Total 245000
Working note:
Depreciation = (Initial investment of the project-scrap value)/ life of the machinery
Project A(In £000's) Project B(In £000's)
Old machinery (£120-£21)/3= £33 £120/6 = £20
New machinery (£55-0)/5= £11
Calculating Net Present Value
This particular method is used to identify the excess or shortfall of cash inflow after
specific time period. Here, discounted rate is used to identify the future value of cash flows based
on which its validity and acceptability is judged. In this regard, high value of NPV reflects that
project is feasible to make investment.
11

Table 3: NPV Calculation for Project A
Year Project A DV of 1
@20% DCF
2016 73000 0.833 60809
2017 73000 0.694 50662
2018 44000 0.579 25476
2019 40000 0.482 19280
2020 40000 0.402 16080
2021 30000 0.335 10050
Total 300000 182357
Less:
Project
cost
120000
NPV 62357
Table 4: NPV Calculation for Project B
Year Project B DV of 1
@20% DCF
2016 30000 0.833 24990
2017 40000 0.694 27760
2018 50000 0.579 28950
2019 80000 0.482 38560
2020 90000 0.402 36180
2021 75000 0.335 25125
Total 365000 181565
Less:
Project
cost
120000
NPV 61565
Payback Period
It can be stated as a method of identifying the time in which initial investment made on
particular project gets realised. Lower the payback period, better will be the proposal.
Year Project A Cumulative
Freq.
Project B Cumulative
Freq.
12

2016 73000 73000 30000 30000
2017 73000 146000 40000 70000
2018 44000 190000 50000 120000
2019 40000 230000 80000 200000
2020 40000 270000 90000 290000
2021 30000 300000 75000 365000
Payback period for project A:
= 1 + (£120-£73)/£73
= 1.643 years
Payback period for project B:
Cumulative Freq. of 3rd year = £120
Average Rate of Return
It helps in measuring the potential accounting profit rate on initial project investment. In
this, high ARR is more preferable over lower ARR.
ARR= Average accounting profits/Initial investment*100
ARR for project A:
= (£200/6 yrs.) / (£120)*100
= 27.78%
ARR for project B:
= (£244/6 yrs.) / (£120)*100
= 33.89%
Recommendations to Hilltop based on Investment Appraisal Techniques
Based on the above analysis, it is highly recommended that manager of Hilltop Ltd. must
invest in project A as it has higher NPV of 62357 and lower payback period of 1.643 years as
compared to project B. This signifies that machine A is more beneficial to company as it aids in
recovering initial investment in less time frame. However, project B has higher ARR of 33.89%
than that of project A, but it will not take into account because it depicts the accounting profit
and not cash inflows. Hence, project A will be fruitful for Hilltop Ltd.
13

QUESTION 6: LIMITATIONS OF USING THE INVESTMENT
APPRAISAL TECHNIQUES
There are numerous limitations of using the investment appraisal techniques. Each
method works on its own assumptions and certain limitations. Starting with the payback period,
it does not consider the cash received subsequent to the payback period. The technique works on
the short term phenomenon by ignoring the future value of cash. Along with it, the company
finds it difficult to develop a target period of the payback (Gul, Chen and Tsui, 2003).
Then comes the average rate of return, according to this method, the manager finds it
harder to calculate since it is a time consuming techniques which does not takes into
consideration the future time value of cash.
While computing the NPV, the major challenge which the company face is that the
interest rates are based on an arbitrary choice which creates a negative impact on the overall
financial statements of company.
CONCLUSION
From the above report, it can be concluded that the concept of accounting and finance is
of utmost significant to the said organizations. Without this, company fails to survive in the long
run in such a intense competitive market. The report also helped to gain an insight knowledge
about the various financial and non financial ratios which aids the organizations, its employees
along with its potential investors and the government to clearly examine and analyze the overall
financial strength of the company in the global business environment. The report also
emphasized about the various investment appraisal techniques along with its major limitations
and advantages in analysing the overall performance of the organization.
14

REFERENCES
Books and Journals
Droms, W. G. and Wright, J. O., 2015. Finance and accounting for nonfinancial managers: All
the basics you need to know. Basic Books.
Eiteman, D. K. and et.al., 2012. Multinational business finance (pp. 574-575). Reading, MA:
Addison-Wesley.
Gul, F. A., Chen, C. J. and Tsui, J. S., 2003. Discretionary accounting accruals, managers'
incentives, and audit fees*. Contemporary Accounting Research. 20(3). pp.441-464.
Healy, P. M. and Palepu, K. G., 2013. The effect of firms' financial disclosure strategies on stock
prices. Accounting Horizons. 7(1). pp.1.
Merchant, K. A., 2006. Measuring general managers' performances: Market, accounting and
combination-of-measures systems. Accounting, Auditing & Accountability Journal.
19(6). pp.893-917.
Myers, S. C., 2014. The capital structure puzzle. The journal of finance. 39(3). pp.574-592.
Patra, K., 2006. Accounting and finance for managers. Sarup & Sons.
Pavett, C. M. and Lau, A. W., 2013. Managerial work: The influence of hierarchical level and
functional specialty. Academy of Management journal. 26(1). pp.170-177.
Pierce, B. and O'Dea, T., 2003. Management accounting information and the needs of managers:
Perceptions of managers and accountants compared.The British Accounting Review.
35(3). pp.257-290.
Roe, M. J., 2012. Strong managers, weak owners: The political roots of American corporate
finance. Princeton University Press.
Tayles, M., Pike, R. H. and Sofian, S., 2007. Intellectual capital, management accounting
practices and corporate performance: perceptions of managers.Accounting, Auditing &
Accountability Journal. 20(4). pp.522-548.
Warfield, T. D., Wild, J. J. and Wild, K. L., 2015. Managerial ownership, accounting choices,
and informativeness of earnings. Journal of accounting and economics. 20(1). pp.61-91.
Online
Limitations of ratio analysis. 2010. [Online]. Available through:
<http://accountlearning.blogspot.in/2010/03/limitations-of-ratio-analysis.html>.
[Accessed on 17th March 2016].
15