Analyzing Financial Statements & Ratios

The assignment requires in-depth analysis of a company's financial statements. Students must identify essential ratios to evaluate the company's financial health and performance, comparing them with the previous year's data. A clear explanation of the financial picture derived from the analysis is expected.

SOURCES OF FINANCE
STUDENT NAME:
STUDENT ID:
PROFESSOR’S NAME:
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Table of Contents
Task 1............................................................................................................................................3
1.1 Identify and evaluate the available sources of finance to the incorporated entities and the
incorporporated entities respectively.............................................................................................3
1.2 What are the implications of utilising the internal and the external sources of finance?.........4
1.3 Identify the most beneficial sources of finance........................................................................5
Task 2............................................................................................................................................6
2.1 Analyse the cost of the available sources of finance taking into consideration the cost of
Dividends, Interest and Tax...........................................................................................................6
2.2 Discuss the essential of proper financial planning with reference to the organisation Clariton
Antiques Ltd...................................................................................................................................6
2.3 By utilising the given data assess the decision making in regards to the financing of the
takeover by the Partners, the Venture Capitalists and the Finance Broker...................................7
2.4 Discuss how the financial statements will be affected if the financing is made by the Finance
Broker and the Venture Capitalists respectively............................................................................7
Task 3............................................................................................................................................8
3.1 Present a Cash Budget for the entity Clariton Antiques Ltd. based on the given data and
thereby analyse the decision making in order to improve their financial position..........................8
3.2 Please mention the appropriate method of costing for the entity Clariton Antiques Ltd. and
thereby decide the pricing model...................................................................................................8
3.3 Please select the appropriate project to be undertaken in respect to the data given for
Clariton Antiques Ltd. by using the techniques of capital budgeting.............................................9
Task 4..........................................................................................................................................10
4.1 Please explain the essential components of the financial statements..................................10
4.2 Please compare the financial statements as presented by the Clariton Antiques Ltd., a sole
trader and a partnership firm.......................................................................................................11
4.3 Please make an interpretation of the financial statements by utilising the essential ratios and
also compare them with that of the preceding year.....................................................................12
Reference List:.............................................................................................................................13
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Task 1
1.1 Identify and evaluate the available sources of finance to the incorporated
entities and the incorporporated entities respectively.
There are different sources of finance that are available to different kinds of business entities.
The availability of the sources of finance can be discussed for the two category of entities. They
can be:
● Unincorporated entities.
● Incorporated entities.
Unincorporated entities: The unincorporated entities refers to those entities which are not
incorporated under any act of corporation in any of the territories. The unincorporated entities
mainly refers to the sole traders, partnership firms, co- operative societies and the self employed
persons respectively. But nowadays many of the co- operative societies are incorporated under
respective Corporate Law of any of the territories around the globe. Many of the partnership
Firms are also getting registered as Limited Liability Partnership Firms under the relevant
corporate laws (Lowenstein, 2014)
Now we are to judge the available sources of finance to the unincorporated entities. The
available sources of the finance to an unincorporated concern can be listed as follows:
1. Owner’s Fund: The unincorporated entities can easily avail the capital from the owners.
Owner’s capital is the least risky source of fund for an unincorporated entity as most of
these unincorporated entities are not recognised as a separate legal entity.
2. Loan from relative: The unincorporated concern can also easily get the required loan
from the relatives of the owners. These are also less risky source of capital.
3. Loan from the Banks and Financial Institutions: The sole traders and the partnership
firms and also the other unincorporated entities can avail Loan from Bank but this is
restricted to the amount of the fixed assets available to the entity. This is a risky capital
for the unincorporated entities since most of them are not recognised as Separate Legal
Entity. The banks also keeps the fixed assets of these business as mortgage prior to
sanctioning of Loan. This is also a costly source of capital since interest is also charged
on these source.
4. Cash Credit Loan: Cash Credit Loan is type of Loan which is offered by the Banks in
order to meet the working capital requirement of the business. Cash Credit Loan is easily
available to all the category of entities depending on the position of the working capital
and the operational efficiency of the enterprise.
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Incorporated Entities: The Incorporated entities refers to those entities which are registered under
the corporate law of any of the territories of the globe. Mainly the companies are the
incorporated entities but in the current days many of the co- operative societies and the
partnership firms (LLP) are getting registered under the act of corporation in many of the
territories around the globe (Henning, 2015).
The sources of finance that are available to the incorporated entities can be the following as
hereby mentioned:
1. Equity Capital: The Incorporated Entities can issue equity capital to the members as well
as in the market. Equity Capital is the least risky capital for the entity as there is no
obligation of dividend as well as no obligation of repayment except in the case of
liquidation.
2. Preference Capital: The company can easily raise funds through issuing of the preference
shares in the market since there is a fixed rate of dividend on these shares.
3. Debentures: Debentures are also an efficient sources of finance to the company if the
company is desirous of raising debt capital. The cost of debenture is also low compared
to the cost of equity and preference since there is a tax benefit on the interest on the
debentures.
4. Loan from Financial Institutions: Those companies which are unable to issue debentures
in the market can avail the facility of the loan from the financial institutions in order to
raise debt capital. But this is a very risky capital for the company since these capital
involves the floatation costs and also the assets of the company are secured against the
loan.
5. Trade Finance: The companies can also avail the facility of the trade finance though the
issuing of the Letter of Credit to the banks and thereby can avail export loan.
6. Government Aid: The Incorporated entities gets aid from the Government from time to
time with respect to subsidies, tax relief, etc.
It is to be noted that in addition to the above mentioned sources of finance the incorporated
entities also can avail all the facilities that are available to the unincorporated entities except for
Loan from Relative but the company can also avail Loan from the Director’s Relative after
proving for Explanatory Statement (Egger et al. 2014).
1.2 What are the implications of utilising the internal and the external sources
of finance?
There are ample of financial resources that are available to the entities. But it is essential for the
management of the company to decide an appropriate source of finance prior to opting them in
order to decide their impact in the financial statements of the entity as well as to ensure the
optimum utilisation of the resources.
The implications of utilising internal and the external sources of finance can be discussed in the
following contexts. They are herein mentioned:
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1. Risk: If we consider from the viewpoint of risk, it can be said that the internal sources of
finance are the least risky in nature since the company is not liable to pay dividends or
interest on these sources each year. The company is also not liable to repay these internal
source of capital except in the event of liquidation. Whereas the external sources of
finance are quite risky in nature since the company has a burden of repayment as well as
burden of interests and dividends (on Preference Shares) even in any of the accounting
year the company is unable to make profits.
2. Control: If we are considering from the viewpoint of control then it is better for the
companies to opt for Debt Capital and undergo external financing. At the time of
incorporating the debt capital the control structure of the company is not diluted.
Therefore the existing shareholders can enjoy their control and also the promoter’s share
of the company is protected.
3. Cost: From the viewpoint of Cost it is better for the company to incorporate debt capital
in its capital structure. By utilising of the debt capital the company can enjoy tax benefit
since the interest payable on loans are deductible from the income of the company
whereas no deduction is available for the dividends paid to the Equity and the Preference
Shareholders. Also the cost of Debt is lower than the Cost of Equity (ke), Cost of
Preference Capital (kP) and the cost of Retained Earnings (kr). Therefore it can be said
that the Debt Financing is Less costly for the organisation. The company can also able to
enjoy Trading on Equity and can operate on favourable financial leverage if the returns
are higher than the Cost of Debt.
1.3 Identify the most beneficial sources of finance.
We can see that the company has a favourable debt equity ratio which is less than 2:1, we can
say that Clariton Antiques Limited can opt for Debt Financing (Obreja, 2013).By using the Debt
Financing the company can enjoy trading on Equity as well as operate on Financial Leverage. It
also has a good Proprietary ratio so it is better for the company to select Debt Capital (Amess,
Stiebale and Wright, 2016).
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Task 2
2.1 Analyse the cost of the available sources of finance taking into
consideration the cost of Dividends, Interest and Tax.
Please refer to the below screenshot for the above solution.
2.2 Discuss the essential of proper financial planning with reference to the
organisation Clariton Antiques Ltd.
The essential of the financial Planning can be discussed as follows:
a) Budgeting: Budgeting refers to the pre analysis of the activities of the business prior to
commencing of the financial year. Budgeting set the standard in which the business needs
to operate. Budgeting also helps to ensure the appropriate cash flows from a project prior
to its commencing (Baiocchi and Ganuza, 2014).
b) Implications of failure to Finance: The firm can at any time not be able to procure the
appropriate finance at the time of commencing of a project. At this time the company
needs to evaluate all the available sources of finance by which the expansion can be
made.
c) Overtrading: Overtrading refers to the concept of expansion of the business. It may be
merger and Acquisition, or commencing of a new project in the existing premises. The
effect of the overtrading should be analysed thoroughly prior to moving for overtrading
and expansion.
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2.3 By utilising the given data assess the decision making in regards to the
financing of the takeover by the Partners, the Venture Capitalists and the
Finance Broker.
Please refer to the below screenshot for the above solution.
2.4 Discuss how the financial statements will be affected if the financing is
made by the Finance Broker and the Venture Capitalists respectively.
Please refer to the below screenshot for the above solution.
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Task 3
3.1 Present a Cash Budget for the entity Clariton Antiques Ltd. based on the
given data and thereby analyse the decision making in order to improve their
financial position.
Please refer to the below screenshot and the related excel File for the above solution
Here in this contexts we can say that the firm can opt for overdraft facilities from the banks in
order to facilitate the management of working capital.
3.2 Please mention the appropriate method of costing for the entity Clariton
Antiques Ltd. and thereby decide the pricing model.
Any organisation with no production activities can be mainly be either a service organisation or a
trading organisation.
If Clariton Antiques Limited is a Service Entity then it will be required to follow the technique of
operating costing in order to decide the price of its services. The operating Costing model is
model of cost sheet for the service entities, where all the related costs in providing of the services
like administration charges, charges for Depreciation, Electricity, transport expenses and all
other expenses specific to the service are included to decide the entire cost of the service.
Thereafter the percentage of profit is added to determine the total revenue and then the total
revenue is then divided by the No. of Clients or Passenger Km. in case of the transport
companies.
If Clariton Antiques Limited is a trading concern then it can follow the normal Cost Sheet but the
following items will be excluded as compared to the manufacturing entities:
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● Cost of Work in Progress.
● Prime Cost.
● Cost of Production. etc.
The Examples of both the Operating Costing and the Cost Sheet for the trading concern is being
given in the Following screensahot:
3.3 Please select the appropriate project to be undertaken in respect to the
data given for Clariton Antiques Ltd. by using the techniques of capital
budgeting.
Please refer to the below screenshot and the related excel File for the above solution.
It can be seen that both the projects meet the criteria for Net Present Value and the Average Rate
of Return but they failed to meet the criteria for Payback Period of 3.5 years. Hence none of the
projects to selected by the company.
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Task 4
4.1 Please explain the essential components of the financial statements.
The key components of the financial statements can be discussed as under:
1. Income Statement: Income Statement refers to the statement of Profits and Losses of an
entity. This statement is a detailed statement of the revenue and the expenses of the
organisation. This statement depicts the areas from the revenue has been generated and
the areas from where there is revenue leakage in disguise. This statement provides a base
for evaluating the operating efficiency of the concern (Lee et al. 2017).
2. Statement of Cash Flows: The Cash Flow Statement depicts the activities of from where
the cash has been generated and the activities where the cash has been used. It mainly
contains three divisions. They are Cash Flows from Operating Activities, Cash Flows
from Investing Activities and Cash Flow from Financing Activities ( Miao, Teoh and
Zhu, 2016). The Cash Flow Statement depicts the picture of how the business has
efficiently utilised its cash as well as how the operations of the business have been
effective in generating appropriate cash flows to the organisation.
3. Statement of Changes in Equity and Gains: Ball, Li and Shivakumar (2015) Stated that
Statement of changes in Equity refers to the changes affected in the equity structure of
the company at the end of the accounting year as compared to the preceding accounting
year. It may be affected due to increase in the Paid - up Capital or for increase or
decrease in the reserves and surplus. It can also happen as a result of buy back.
Statement of changes in the Gains refer to the statement which shows all the changes in
the Profit and Loss balance and General Reserves.
4. Statement of Financial Position: Statement of Financial Position refers to the statement of
Assets and Liabilities. It can be also be termed as the Balance Sheet of the entity. It
shows the entire financial position of the enterprise. The banks and the financial
institutions grant loans based on the picture of the Balance Sheet (Gupta, Mills and
Towery, 2014).
5. Notes to the Financial Statements: Notes to the Financial Statement is also termed as
Notes to Accounts. These notes provides the details about all the items of the financial
statement of the entity. Based on these notes a detailed and a wider picture of the Balance
Sheet can be determined (Brochet, Jagolinzer and Riedl, 2013).
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4.2 Please compare the financial statements as presented by the Clariton
Antiques Ltd., a sole trader and a partnership firm.
We are well aware of the fact that in the modern world in the era of cross border flow of capital
different types financial statements has to maintained by different organisations based on their
structure, type, legal status, etc. Law requires the companies and some of the other categories of
entities are required to maintain a separate form of financial statements in order to comply with
the legislations as well as in the context of Audit Compliance. The Auditor is required to verify
the reliability of the financial statements and report on the transparency and the fairness of the
financial statements.
So the comparison between the financial statements of the entity Clariton Antiques Ltd. and that
of a sole trader and a partnership firm can be framed as we proceed. We are aware that Clariton
Antiques Ltd. is a registered company and therefore has to follow the Statement Format in the
preparation of its Balance Sheet. First comes the analysis of the format of the Statement of Profit
and Loss. Here, the Statement of Profit and Loss can also be termed as the Income Statement.
Here, the company terms the sales as the Revenue from Operations. The operating expenses viz
the cost of goods sold, Cost of Sales as determined from the Cost Sheet, the administrative
expenses, the cost of production and all the other operating expenses are deducted to arrive at the
Operating Profit. Now from the operating profit all the other or the non- operating income and
expenses are adjusted in order to derive the Income before the Interest and Taxes. Now the
Interest Expenses is deducted to arrive at Profit before Tax. From Profit before Tax the Tax
Expenses are deducted to finally arrive at the Figure of Profit After Tax. Now the Preference
Dividend if any is paid out of these Profit after Tax and then we could get the figure of Profit
available to the Equity Shareholders (PAFESH). Now this PAFESH will determine the Basic and
the Diluted EPS and this PAFESH is also available to be distributed as dividends to the Equity
Shareholders.
Now If we at the picture of the partnership firms and the sole trader they prepare two respective
accounts relating to the Profit and Loss. Firstly they prepare the Trading A/c where the direct
expenses viz Purchase of Raw Materials, Inventories, Wages and Opening stock are debited and
is credited with Sales to arrive at the Gross Profit. Now from this Gross Profit we are required to
pay all the indirect expenses in the Profit and Loss Account. All the Indirect Incomes are also
credited in the Profit and Loss to arrive at the figure of Net Profit. This Net Profit is directly
transferred to the owner’s fund and the general reserves. In Partnership Firms one more extra A/c
is created i.e The Profit and Loss Appropriation A/c where all the expenses of the partners are
debited and credited with the charge on the partners to derive at the Distributable Profits which is
either transferred to the Reserves or is shared among the capital accounts of the partners.
So it can be said that the Profit and Loss Statement of the company is much more significant to
the performance of the company compared to that of the Partnership Firm or the Sole Traders.
Now coming to the Statement of Financial Position or the Balance Sheet we can see that both the
sides of the Balance Sheet viz the Assets and the Liabilities are divided into two groups i.e Non-
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Current and Current Assets and Liabilities. In the Equity and Liabilities Section there is one
more group i.e Shareholder’s Fund where all the credits of the shareholders i.e Paid Up Capital,
Reserves and Surplus are recorded. Whereas in the Balance Sheet of the Sole Trader and the
Partnership Firms , there are generally two halves of the Balance Sheet i.e the Assets and
Liabilities. Only appropriate marshalling of the Assets and the Liabilities are done. It can also be
said that the picture of the Balance Sheet is more clear and relevant in case of a company.
4.3 Please make an interpretation of the financial statements by utilising the
essential ratios and also compare them with that of the preceding year.
The Effective financial ratios in order to evaluate the performance and the financial performance
of the entity are hereby given in the below screenshot and the related Excel File.
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Reference List:
Loewenstein, M.J., (2014). Reflections on Teaching Business Associations: The Case for
Teaching More Agency and Unincorporated Business Entity Law. . Louis ULJ, 59, p.641.
Henning, J.J., (2015). Identifying the structure envisioned for closely held incorporated business
entities under the new statutory dispensation. Journal for Juridical Science, 40(1_2), pp.19-34.
Egger, P., Keuschnigg, C., Merlo, V. and Wamser, G., (2014). Corporate taxes and internal
borrowing within multinational firms. American Economic Journal: Economic Policy, 6(2),
pp.54-93.
Amess, K., Stiebale, J. and Wright, M., (2016). The impact of private equity on firms׳ patenting
activity. European Economic Review, 86, pp.147-160.
Obreja, I., (2013). Book-to-market equity, financial leverage, and the cross-section of stock
returns. Review of Financial Studies, 26(5), pp.1146-1189.
Baiocchi, G. and Ganuza, E., (2014). Participatory budgeting as if emancipation mattered.
Politics & Society, 42(1), pp.29-50.
Lee, B.B., Shin, H., Vetter, W. and Kim, D.W., (2017). Management of Income Statement
Variables to Report Small Positive Earnings Numbers. Asian Review of Accounting, 25(1), pp-
147-158.
Miao, B., Teoh, S.H. and Zhu, Z., (2016). Limited attention, statement of cash flow disclosure,
and the valuation of accruals. Review of Accounting Studies, 21(2), pp.473-515.
Ball, R., Li, X. and Shivakumar, L., (2015). Contractibility and transparency of financial
statement information prepared under IFRS: Evidence from debt contracts around IFRS
adoption. Journal of Accounting Research, 53(5), pp.915-963.
Gupta, S., Mills, L.F. and Towery, E.M., (2014). The effect of mandatory financial statement
disclosures of tax uncertainty on tax reporting and collections: The case of FIN 48 and multistate
tax avoidance. The Journal of the American Taxation Association, 36(2), pp.203-229.
Brochet, F., Jagolinzer, A.D. and Riedl, E.J., (2013). Mandatory IFRS adoption and financial
statement comparability. Contemporary Accounting Research, 30(4), pp.1373-1400.
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