Financial Analysis: Methods and Sources of Finance

This document provides an overview of financial analysis methods, including payback period, net present value, and internal rate of return. It discusses the advantages and disadvantages of each method and explores different sources of finance for business expansion. The document also highlights the importance of financial analysis in achieving organizational objectives and managing resources efficiently.

Financial Analysis
Management &
Enterprise

Table of Contents
INTRODUCTION...........................................................................................................................1
TASK 1............................................................................................................................................1
Advantage and disadvantage of different methods .....................................................................1
TASK 2............................................................................................................................................5
Source of finance ........................................................................................................................5
CONCLUSION ...............................................................................................................................8
REFERENCES ...............................................................................................................................9

INTRODUCTION
Financial analysis help the organization in achievement of the specific task and objective
with efficient use of the resources. Their key task is to mange all the long term and short term
objectives by taking various approach cost control and cost benefit analysis. Their aim is to
create profitability for the company and interpret the financial statements to know better about
the entity. Financial analysis management is divided into four types which are forecasting,
budgeting, reporting and analysis (Baytimerova, 2018). There are many software and
applications are made for the analysis of the financial data in the company. In simple terms it is
the interpretation of the balance sheet, profit and loss account and other financial statements to
know the strength and weakness of the corporate. In this report there is the evaluation of the
different methods which is available ate the time of selecting the project and various sources of
funds that is used to finance the project which is selected by the entrepreneur.
TASK 1
Advantage and disadvantage of different methods
Capital budgeting refers to the investment techniques for determine the project which is
accept of which is declined. In simple terms it is used to evaluate the project or investments.
Their is the use of cash inflow and outflow in making decisions for the long term assets. It helps
in increasing the shareholder's value. There are various technique is used for determine the
project are Payback period, Net present value and Internal rate of return for investment appraisal.
Year 0
Expenditure
£m
Year 1 to
perpetuity
P.V. of
rentals £m
Payback
(years)
NPV (£m) IRR (%)
Small 2 6 3.33 4 30
Medium 4 10 4 6 25
Large 6 13.5 4.44 7.5 22.5
Payback period- It refers to the period that take by the cash flow of the incomes of
different project to cover the investment. In simple terms, it refers to the length of the time that
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an investment is require to come at break even point where there is no loss and profit. This help
the organization in selecting between projects whose payback period is low that project is
acceptable (Guang, Wang and Wang, 2016).
From the above data of the payback period of three company, it is interpreted that small
development has lower period than the medium and large. Their payback period is 3.33 in small
and in medium and large it is 4 and 4.44 respectively. So, from this interpretation property
company have to develop their sites in the small part because they cover the investment in less
cash flow.
Advantages of payback period
 Simple to use and Easy to understand- This method is easy to use because this method
require less input and it is easy to calculate than other techniques. In this there is no
assumption require which is require in all other methods. It is also easy to understand
because managers have to check only the period of different project which is lower.
 Quick solution- This method is very quick in providing the solution and quick analysis
is also done by taking fewer inputs and manager is able to take fast decisions for the
company with limited resources (Kanishcheva, 2019).
 Lower risk- In this method, there is the low risk is associated with the project because
business can recover their cost in smaller period of time and reinvest in some other
project.
Disadvantages of the payback period
 Ignores time value of the money- it is the most important disadvantage of the payback
period because there is no use of the cost of capital in finding the present value of cash
flow. In this cash flows are already given, there is need to use the formula and calculate
it. There is no use of discounted payback period.
 Not realistic- In the finding of the payback period there is use of the simple method in
which normal business is not consider. In this investment are not for one year they have
to consider the further investment also.
 Ignores profitability- It means the project of the smaller period is not sometime
profitable because if the cash flow from the projects is stop and not come then project
become unprofitable after the end of the payback period.
Net present value
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It is another technique of the capital budgeting which is the difference between the present value
of cash inflow and cash outflow over the specific period of the time. It is used in the capital
budgeting for the analyse of the profitability of the particular project. In this it is assumed that
company select that project which has positive NPV because it is profitable and project which
has negative NPV result is net loss (Hamdamov, 2016).
From the above analysis it has been seen that NPV of all three project is positive which
means that the project which has greater Net present value should be consider because through
this the result is high earning of the project. There is increase in the shareholder's wealth,
manager choose the Large project for building of the sites. The NPV of this project is high which
is 7.5.
Advantages of Net present value
 Time value of money- The main benefit of the Net present value is use of the concept of
the Time value of money for worth the dollar today and tomorrow which is more. There
is the use of the discounted net cash flow for determine the feasibility.
 Decision making- It help in the decision making process by evaluate the project of same
size and also help in identify the different projects whether it is profitable or loss making.
 Considerations of all cash flow- In finding of the Net present value there is the use of
each and every cash flow of all the project because without it company is not able to find
the discounted cash flow of all project.
 Good measure of profitability- Among all techniques it is the best measure of
profitability by selecting the small project with high internal rate of return is consider
good for the shareholders.
Disadvantages of the Net present value
 Estimation of the opportunity cost- In the Net present value there is difficulty in
finding the opportunity cost because this cost is considered in initial outlay which bring
conflict in the result.
 Difficulty in determining the required rate of return- In the NPV, there is the
determination of the rate of return for finding the discounted cash flow. Because if
company find wrong rate than result is lower NPV (Liu, Shen and Zhang, 2019).
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 Ignoring sunk cost- In the NPV, sunk costs is not included which is Research and
development, because these costs are high and not taken this cost in the investment
sometime is very difficult for the entity (Yeganegi, 2018).
INTERNAL RATE OF RETURN
Internal rate of return is the financial metric used in the financial analysis to compute the
profitability of the potential investment. In simple terms, it refers to the discount rate that make
the NPV of cash flow equal to zero.
From the above calculation, it is analyse that all project have positive Internal rate of
return. But the small project have higher Internal rate of return which is 30 because as the higher
IRR is there which makes the Net present value equal to zero. The high the IRR there is high
weightage average cost of capital.
Advantage of the Internal rate of return
 Simplicity- The most important thing for this it is very simple to analyse after the IRR is
calculated, because if it is greater than cost of capital then accept the project (Pererva,
2016).
 Required rate of return is not required – In the IRR, there is no requirement for
finding the IRR hurdle rate, because it is not dependent on the hurdle rate. The risk of the
wrong use of the discounting rate is harmful for the firm. In the profitability index there
is require of the discounting rate.
 Required rate of return is a rough estimate- In the IRR, manager make rough estimate
for the required rate of return, then it is compare with the hurdle rate. If the IRR is far
from the expected rate of return then they make easily the decision for removing the
estimation errors.
 Time value of money- there is the use of the time value of money for discounting the net
cash flow for the required capital investment because their advantage is that each cash
floe is giving same weight by apply discounting factor in the cash inflow.
Disadvantage of the Internal rate of return
 Economies of scale- In this there is the ignorance of the actual dollar value, there is no
need of depth analysis (Popovskaya, Barsukova and Moon, 2018).
 Ignores size of the project- It is the another disadvantage in the IRR as the they are not
consider the project size when there is the comparison of the project occur. There is the
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trouble when there is the comparison of the three project but smaller one gain higher
IRR.
 Ignore future costs- In the IRR method there is the ignorance of the future costs that will
affect the profit in the future. For example in the car future price of the fuel and
maintenance cost affect the fuel prices and budget of the person.
 Ignore reinvestment rates- In the IRR, there is the requirement for the calculation of
future cash flow. There is assumption that they are reinvested in the same rate but it no
possible in the practical life (Voitolovsky and Yutlandova, 2017).
TASK 2
Source of finance
For the organization there are various sources of finance is used for the expansion of the
business and for the contribution towards economy (Rebonato, 2017). capital by selling shares of
an organization to general public, financial institutions as well as institutional investors.
Individuals that purchase shares of an enterprise is termed as 'shareholders'. Shareholders of an
organization gains ownership right over company. Method of equity financing is utilized by an
organization for various reasons such as meeting the requirement of liquidity. Process of raising
funds through equity is governed by regulations implemented by local as well as national
authorities of security. Purpose of designing this regulation is protection of public interest which
are investing in company. While focusing on advantages of equity funding it can be analysed that
raising fund through equity reduces the risk associated with business. Because, equity
shareholders are termed as owners of an organization hence, company is not obliged to pay
dividend to this shareholders in case of loss. Further, equity financing increases firm's potential
of earning profit and limits its liability. Equity share turns out as a source of increasing credit
worthiness of an entity. It reduces obligations incorporated with firm for compulsory payment of
dividend and there is no interest charges on amount paid. On the contrary, drawbacks of equity
as a source of fund is that, equity does not provides company any deductibility on tax. Further,
market price associated with equity shares is highly fluctuating. If dividend are not paid to
shareholder in accordance to their expectations than negative impact is imposed on brand value
of an enterprise. Additionally, equity financing involves sharing of ownership hence, controlling
power of company reduces (Vladimirovich, 2017).
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 Selling old business assets: Company can earn funds by selling its unnecessary or not
so useful assets. It pertains various advantages such as, selling of old or obsolete assets
reduces maintenance costs associated with that assets and expenditure of an organization
is reduced. This method serves as a fast way of receiving fund for business and legal
procedures are minimal in this financing source. Additionally, it provides opportunity for
quick disposal of assets. In addition to it, selling of old or surplus equipment increases
cash flow of business and enables firm to allocate that fund to any other profitable
sector. It promotes sustainability of an organization as unwanted maintenance cost is
eliminated. Hence, selling of old assets enables business to recover its capital invested.
Obsolete assets are also the reason for high wastage in an organization. Further,
elimination of old assets and its replacement with advance equipments improves
capability and efficiency of company. Also profitability is improved as unnecessary
costs is eliminated and its also ensure achievement of higher economies of scale. On the
other hand, limitations of asset sale is that selling of assets is a complex process. In this
era of constantly changing technology, entity or individual do not easily prefer to buy old
assets. Further, it may be case that despite of being old still equipment is of great use to
business. Along with it, earning fund by selling of assets is a temporary method and is
not useful for longer period of time. Also, sales tax is imposed on selling of assets and
equipments (Roy, 2020).
 Crowd funding: In this source of finance, firm generates fund by collecting small
amounts of money from various number of people for the purpose of financing a venture.
It provides easy accessibility to finance, hence, serves as a platform for business to
achieve its funding goals. There are various types of crowdfunding available for
companies, such as, reward based, debt based, litigation, donation based etc. It serves as
a quick way for raising of funds without any upfront fees included. It is also a effective
way of marketing project carried out by an organization as data of large customer base
can be acquired by company with the application of crowdsourcing approach. It validates
a company to raise finance with decrement in risk factor associated with fund raising
process. Reason is that crowdsourcing provides opportunity for risk diversification,
hence, financial risk is minimized. While considering disadvantages of this financing
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source it can be evaluated that crowdsourcing is a complex process because in this
methods funds are approached by various individuals. If projects for which business
seeks fund fails due to some reasons than it imposes negative affect on reputation of an
organization. Further, confidentiality of business strategies or ideas cannot be maintained
if entity utilized source of crowdsourcing for the purpose of fund raising and therefore
risk of idea or concept stealing is incorporated with it (Shalygina and Ershova, 2017).
 Loans: This is the most used source of finance by the company as loans are the best way
of taking the money. Loans are given by the bank for the starting up of the business so
that the person have the money to invest in. Most of the people used loans for the
funding because no interest has to be paid and have time to recovered that cost if the
business earns the profit in the near future. The loan can be of short term, medium term
and long term depending on the type of business you are doing. The financial institution
and the bank asked for the protection as the security if the amount in case the loan is not
repaid the bank keep that security as a protection money. If the company take overdraft it
is totally the brief and time taking plan. Overdraft money charges high rate of interest
and fees on the loan provided. Bank loans are the long term source of finance and in the
bank loan the institution has to specify the loan tenure. Low interest rate is charged by
the bank in bank loan so that the people can afford it. Supermarket can take the loans
from the banks easily because the tenure is high and the supermarkets is a long chain the
loan taken by the company is for long term and can be repaid with in duration provided.
Supermarket requires enough money for the inventories and the expenses (Ting-ting,
2018).
 Savings: This is also the most used source of finance as person can use their personal
savings for invest in different types of business. They do not want to take the money
from others and do not have the burden regarding the payment of the money in future.
But while using the personal saving people are aware of the risk of not keeping the
money during the time of the emergencies. The person should save some money and do
not spend the entire money in the business because after sometime the money may
required for other things or during the time of emergencies we can use it. It is the cheap
source of finance and always available as they are save from the past to meet the future
requirements of the business. If the person is using an personal saving it has a complete
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control on the business and looking after business in a proper manner without having any
interest burden on them. Using the personal savings helps in creating the strong bonds
and the commitments towards the bank and the investors who are investing in the
business and have confidence in business. It is the most cost effective way to use the
personal savings for starting up the business. Supermarket can use the personal savings
for the production in the small unit and can generate the profit from it and having no risk
and no burden of the repayment of the loan or interest in the future (Wang and Wang,
2018).
CONCLUSION
From the above report it has bee concluded that financial analysis management is the
manage of all financial data for the internal and external users for showing the good image of the
company in the market and the interpretation of the financial statements to attract the investors.
In this report there is the description of the advantage and disadvantage of different techniques of
the capital budgeting and analysis of the different sources of funds which is the requirement of
all business organization for its expansion.
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REFERENCES
Books and journals
Baytimerova, A. I., 2018. Management Of Financial Results Of Activity Of The Enterprise (By
The Example Of Jsc  «Jv Urozhayâ»). Business Strategies.
Guang, Z., Wang, Y. and Wang, Q., 2016, December. Enterprise financial audit modeling
research based on data mining. In 2016 International Conference on Intelligent
Transportation, Big Data & Smart City (ICITBS) (pp. 497-500). IEEE.
Hamdamov, O., 2016. Financial Risk Management at the Enterprise: Methods and Models.
Voice of Research. 4(4).
Kanishcheva, N. A., 2019. COMMERCIAL ENTERPRISE FINANCIAL RISKS
MANAGEMENT. In The European Proceedings of Social & Behavioural Sciences (pp.
253-261).
Liu, R., Shen, W. and Zhang, M., 2019. Analysis and Application of Port Enterprise
Management Mode Based on Profit Mode Analysis. Journal of Coastal Research.
94(SI). pp. 722-729.
Pererva, P. G., 2016. Crisis management mechanism of the financial condition of industrial
enterprise (Doctoral dissertation, NTU" KhPI").
Popovskaya, S. A., Barsukova, N. V. and Moon, D. E., 2018. ANALYSIS OF SYSTEMS OF
ENTERPRISE RESOURCE MANAGEMENT. In Professional English in Use (pp.
182-184).
Rebonato, R., 2017. Financial Enterprise Risk Management.
Roy, S., 2020. Concept of risk identification, analysis, retention and application of enterprise risk
management with reference to indian industries. ZENITH International Journal of
Multidisciplinary Research. 10(4). pp. 1-11.
Shalygina, N. V. and Ershova, N. B., 2017. THE METHODS FOR ASSESSMENT AND
ANALYSIS OF ENTERPRISE FINANCIAL STABILITY. Modern Science, (5-1). pp.
85-88.
Ting-ting, L. I., 2018. The Innovation of Enterprise Financial Management Mode in Internet+
Environment: Analysis of Innovation Management of Accounts Receivable in City Gas
Enterprises. Value Engineering. 2018(22). p. 29.
Vladimirovich, P. M., 2017. Methodological approaches to the management of enterprise energy
efficiency. Современные технологии управления, (3 (75)).
Voitolovsky, N. V. and Yutlandova, S. A., 2017, May. Decision-making when choosing a
Development strategy for an enterprise. In 2017 XX IEEE International Conference on
Soft Computing and Measurements (SCM) (pp. 771-773). IEEE.
Wang, D. and Wang, J., 2018. Research on Enterprise Strategy Based on Financial Statement
Analysis——Take ZHONGLU. CO., TLD as an example. Economic Management
Journal. 7(1).
Yeganegi, K., 2018. Evaluating the Importance of Strategic Human Resources Management in
Enterprise. Research Journal of Social Sciences. 11(1). pp. 25-31.
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