Financial Decision Making: Industry Review, Business Performance Analysis, and Investment Appraisal

This document provides an overview of financial decision making, focusing on the industry review of the UK coffee house industry, business performance analysis of Roast Ltd, and investment appraisal. It includes information on the key players in the industry, financial statements analysis, and investment opportunities.

Financial Decision making

TABLE OF CONTENTS
EXECUTIVE SUMMARY.............................................................................................................1
PART 1............................................................................................................................................1
Industry review............................................................................................................................1
Part 2: Business performance analysis............................................................................................2
2.1 Statement of profit and loss...................................................................................................2
2.2 Statement of financial position..............................................................................................4
2.3 Statement of cash flow...........................................................................................................6
PART 3............................................................................................................................................8
3.1................................................................................................................................................8
3.2 Sources of funds....................................................................................................................9
REFERENCES..............................................................................................................................12
Table 1Performance analysis of income statement.........................................................................2
Table 2Percentage change in elements of operating expenses........................................................3
Table 3Change in assets and liability..............................................................................................4
Table 4Inventory turnover ratio.......................................................................................................6
Table 5Receivable turnover ratio.....................................................................................................7
Table 6 operating cycle period 2018...............................................................................................7
Table 7Operating cycle 2017...........................................................................................................7

EXECUTIVE SUMMARY
Financial decision making is the process which is responsible to take all the decision
which are related with the liability as well as stockholder's equity. Moreover, it is another crucial
decision which is further made by the financial manager of the company in order to financing
financing mix of an organization. The current study is based upon the case study of Roast Ltd
which is an independent coffee house chain in UK and with the emerging of modern age,
company also provide free WiFi and mobile devise to their local cafe that helps to boost its
performance.
The report will describe top- line review of the current UK coffee house industry which
includes key players i.e. Costa Coffee, Starbucks and Caffe Nero. In addition to this, study
shows that Coffee shops helps in the growth of economy and its market share also increased
from last many years. Further, report will describe business performance analysis that includes
statement of Profit and Loss, financial position, Cash flows. Such that data reveals that company
have good financial performance because in 2018, profit raise just double from 2017 to 2018. its
Lastly, report critically evaluate the investment appraisal through management forecast,
investment appraisal techniques, and then it provides two alternative source of finance for further
investment. Further, the GPM of the company is good which shows that Starbucks may acquire
Roast Ltd.
PART 1
Industry review
 In UK, branded coffee shops helps in the growth of economy such that it robust around
8.7% of the outlet growth in 2018 but it also reaches to around 8000 stores in UK. Even
through secondary research, it is also analyses that around 45% of the marketing is done
through social media but all the customer prefer to have a good quality which plays a
biggest factor behind the cafe success.
 But on the other side, due to UK's future relationship with EU which also leads to
frustrate the coffee industry in opposite way such that it leads to labor shortage, sudden
increase in prices of product, changing in customer preferences. This also affect the
overall market in opposite way (Coffee industry of UK, 2018).
 In addition to this, Costa Coffee, Starbucks and Caffe Nero are the key players of coffee
industry in UK with have more than 2500 outlets, around 990 and approximately 650
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stores at world level. But in future, the industry also wants to expand around 10000
outlets in 2023 so that it also helps to increase the economy of the country up to 5%.
 It has been analyzed that in year 2018, Coffee industry has been on boom. They have
contributed highest to gross domestic product of United Kingdom. Coffee industry has
also generated huge amount of employment opportunities. This has supported united
kingdom in increasing the economic lifestyle of people. It has also enhance living
standard of people. The indirect multiplier impact that arise through the activities
stimulated in the supply chains of those engaged directly in the production, supply and
serving of coffee. It has also been interpreted that the contribution of GVA is pound 9.1
billion in the year 2017. Coffee industry in year 2017 has raised tremendously. IT has
also made use of many advancing technology.
 Coffee shop in United Kingdom has increased and it has reached up to 8000 stores. The
largest branded coffee chain has also so many numbers of outlets. Like for example
Starbucks have 2655 outlet in United Kingdom. This sector has shown tremendous
growth. They have also contributed large amount to gross domestic product of United
kingdom. It has impacted the economy in a positive way. The industry have also been
impacted by Brexit. It has laid positive impact on the industry.
 From the above, it has been concluded that due to high growth from 2017 onward, coffee
sector also develop many investment opportunities such that it reach up to 8000 stores
and also contribute its best for the growth of economy. Moreover, by 2023, the company
also increases its growth up to 8% by increases the economy of the country.
Part 2: Business performance analysis
2.1 Statement of profit and loss
Table 1Performance analysis of income statement
2018 2017 Difference
Revenue 2534 2022 25%
Less: Cost of sales 1990 1505 32%
Gross profit 544 517 5%
Other operating income 60 0
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Operating expenses 477 466 2%
Operating profit and
loss 127 51 149%
Finance cost 26 6 333%
Profit/Loss before tax 101 45 124%
Income tax expense 20 9 122%
Profit/Loss for the
period 81 36 125%
On basis of results obtained it is identified that firm earn more profit in the FY 2018 relative to
2017. It can be seen from the table given above that profit in year 2017 was 36 and same in the
year 2018 was 81. Thus plunge of 125% is observed in the profitability in the year 2018 in
comparison to 2017. COGS increase by 32% and revenue only increased by 25% which reflect
that cost increase at fast pace then revenue which is matter of concern for the firm. Gross profit
increase slightly from 517 to 544 in the year 2018. Thus, gross profit also increased relative to
previous year but growth is only 5% which is quite low. This reflect that firm have less control
on its direct expenses or production expenses. Due to less control elevation happened in cost of
production then required. Ultimately, this lead to decline in the business profit. At more granular
level it can be observed that cost of goods sold increased by 32% in year 2018 relative to 2017.
In the year 2017 value of cost of goods sold was 1550 which increased to 1990. This reflect that
company management is not working properly and due to this reason cost is increasing at rapid
pace in the business. Revenue of the business firm rise from 2022 to 2534 in the year 2018. Here
also plunge of 25% is observed in the overall revenue. 25% increase in revenue can be
considered excellent performance but rate of growth of cost of goods sold tarnish firm
performance. Finance cost increase by 333% from 6 to 26 which indicate that firm take huge
amount of loan in its business for expansion purpose. This percentage must reduce otherwise
debt burden may affect company profit. Income tax also increase from 9 to 20 and 122%
increase happened. This happened because revenue in the business increase on yearly basis.
Thus, it can be said that firm need to take strict actions to control cost. In this regard varied
methods can be used like process reengineering, innovation of business operations and just in
time approach. By doing so cost can be reduced substantially and resources can be used in
efficient and effective manner in the business.
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Table 2Interest coverage ratio
2018 2017
EBIT 127 51
Interest 26 6
Interest coverage
ratio 4.884615 8.5
Interest coverage ratio value decline from 8.5 to 4.8, it become almost half which reflect that
firm capability to pay interest reduce. Thus, effort must be made to reduce debt burden on
business.
Table 3Percentage change in elements of operating expenses
2018 2017 Difference
Operating expenses
Employee expenses 227 269 -16%
Directors remuneration 35 51 -31%
Bad debt charges 7.9 5.3 49%
Utility cost 22.8 26.2 -13%
Legal and professional fees 3.6 28.7 -87%
Depreciation charges 31.7 20.9 52%
Store maintenance 72.2 27.6 162%
Distribution cost 29.2 8.9 228%
Marketing and advertisement
cost 46.8 26.7 75%
476.2 464.3 3%
Employee expenses decline by 17% in FY 2018 relative to 2017 which reflect that firm reduce
its workforce so that cost can be controlled in the business. Director remuneration reduced by
31% in the year 2018 relative to 2017 which reflect that either any of Director leave its position
or they reduce their remuneration so that burden on the company can be reduced to maximum
possible extent and bring it on growth track. However, bad debt charge increase by 49% which is
high and it raise serious concern for the firm because in future if bed debt increase at same rate
then in that case interest burden on the firm will also increase substantially. Legal and
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professional fee decline sharply by 87% which is huge decline. This indicate that any of legal
case that was pending in the court now closed and everything is sorted out. Store maintenance
cost increased by 162% which means that coffee house open its new branches or in existing
branches do some renovation. It is very important for the firm to make investment in systematic
way so that maximum profit can be gained. Distribution cost also increase by 228% which is
huge and this need to be control so that profit can be increased to the higher level. Firm must
evaluate its supply chain system. Marketing expenses increased by 75% which means that if
marketing will be done in proper manner then in that case huge plunge can be observed in the
sales in next financial year. Overall it can be said that firm need to do lot of work in order to
improve its performance in multiple areas.
2.2 Statement of financial position
Table 4Change in assets and liability
Particulars 2018 2017 Change
Assets
Noncurrent assets
Property, plant and equipment 996 670 49%
Current assets
Inventories 299 120 149%
Trade and receivables 148 93 59%
Cash and cash equivalents 0 134 -100%
Total assets 1443 1017 42%
Equity and liability
Equity
Share capital 200 200 0%
Retained earnings 660 579 14%
Total equity 860 779 10%
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Non current liability
Long term borrowing 275 100 175%
Current liability
Trade payables 235 138 70%
Bank overdraft 73 0
308 138 123%
Total liability 583 238 145%
Total equty and liability 1443 1017 42%
Fact reveal that property plant and equipment increase in the year 2018 relative to 2017 by 49%
which can be considered appropriate. Inventory also increased by the 149% in year 2018 relative
to 2017. However, cash and cash equivalent become zero in the year 2018 which means that
coffee house make investment of its entire liquid asset in the business. Consequently, total asset
increase by 42%. Retained earning also increased by 14% which is no so high. Payable increased
by 70% and bank overdraft increase by 100%. It can be said that firm take short term loan from
multiple entities and due to this reason payable rose at sharp rate. Trend indicate that overall
investment on business increased at rapid rate in 2018 and due to this reason debt is taken and
entire liquid asset is invested in the business. This is further verified from the fact that long term
borrowing increased by 175% in year 2018 and current liability also increased by 123%.
Table 5Debt equity ratio
2018 2017
Current assets 447 347
Current liability 308 138
Current ratio 1.451299 2.514493
Sales 2534 2022
Total assets 1443 1017
Asset turnover 1.756064 1.988201
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ratio
Debt 275 100
Equity 860 779
Debt equity ratio 32% 13%
 Current ratio: Current ratio of the firm decline which reflect that firm capability to pay
current liability decline by using current assets. Currently, current ratio value is below
standard 2:1. To some extent current situation is matter of concern. Profit increase but CR
decline which reflect that firm use current assets to finance its business operations and
due to this reason current ratio decline. Value of ratio in 2018 is nearby to standard value
and due to this reason current situation only to some extent is matter of concern.
 Asset turnover ratio: Value of the ratio decline from 1.98 to 1.75 which means that firm
capability to make use of asset to generate return in the business decline to some extent.
Decline is minor and due to this reason, it is not matter of concern.
 Debt equity ratio: Debt equity ratio value increase from 13% to 32% which means debt
proportion is increasing. It can not be considered bad because raised amount of debt will
be used for business expansion and it is less then 50% in capital structure. Hence, capital
structure is good.
2.3 Statement of cash flow
Cash flow statement reflects cash inflow and outflow from operating, investment and
financing activity in the business. Operating activity refers to the normal business operations and
investment operations reflect activities wherein investment is made in varied business operations
and financial securities. Cash flow from financing activity reflect sources from which business
operations are financed by the business firm. It also include income and expenses earned and
made in respect to financial security (Williams and Dobelman, 2017). Fact indicate that
inventory and receivables increase relative to previous year. Increase in inventory is greater than
receivables. Inventory increase to 179 and receivable increased to 55. Elevation in inventory
reflect that firm increase its business operations at fast pace. Receivables also increase which
reflect that firm is selling more quantity on credit basis in comparison to previous year so as to
create more and more customers in the business. Cash flow from investment activity indicate that
firm make moderate investment in the business as just 3,58,000 of amount of cash outflow
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happened on plant and property. In case of cash flow from financing activity long term
borrowing increased which again indicate that Roast limited is making huge investment in the
business. Same thing is indicated by the balance sheet of the firm or statement of financial
position (Minnis and Sutherland,. 2017). Borrowing increased to 175000 in year 2018. Hence,
overall it can be concluded that firm is focusing on making investment in its business at wide
level. Due to this reason firm is taking long term borrowing and payables on big level. This is
further verified from the fact that there is zero cash and cash equivalent in the firm balance sheet.
Operating cash cycle refers to the time gap that is between acquiring inventory and selling
inventory and collecting cash from selling inventory (Berger, Minnis and Sutherland, 2017).
Thus, it can be said that operating cash cycle indicate how fast company is converting inventory
into sales in the business. Formula of operating cash cycle is given below.
Operating cycle: Inventory period + Account receivable period
Here inventory period indicates amount of time inventory remain in warehouse. On other hand,
account receivable period reflect duration within which business firm is covering or converting
receivable into cash.
Inventory period = 365/Inventory turnover
Table 6Inventory turnover ratio
COGS 1990
Inventory 299
Inventory turnover
ratio 6.655518
Table 7Receivable turnover ratio
Sales 2534
Account
receivable 148
Receivable
turnover 17.12162
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Table 8 operating cycle period 2018
Account
receivable
period 21.31807
Inventory
period 54.84171
Operating cycle 76.15978
Table 9Operating cycle 2017
2017
COGS 1505
Inventory 120
Inventory turnover
ratio 12.54167
Sales 2022
Account receivable 93
Receivable turnover 21.74194
Account receivable
period 16.78783
Inventory period 29.10299
Operating cycle 45.89082
It is clear that operating cycle in year 2018 is 76.15 and same in year 2017 was 45.89. On
this basis it can be said that Roast coffee is taking more days to convert inventory into sales.
Thus, it can be said that on this front firm need to improve its performance.
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In year 2018 no dividend is paid relative to 2017 and this decision is made because
company plan to make heavy investment in its business. If firm will declare dividend then in that
case it will have less surplus to invest in the business. Hence, by considering this point in mind
firm does not declare dividend for its shareholders. Roast ltd was right to not make dividend
payment in year 2018.
PART 3
3.1
(a)Management forecast
It is estimated that in the upcoming time period Roast limited business will grow at fast
rate as it is making heavy investment in its business. Firm is making investment of its entire cash
and equivalents in its business. Apart from this, on large scale firm is making use of long term
loan and short term borrowing to make investment in this business. Thus, in long term huge
growth is expected to be seen in respect to Roast limited. Roast Ltd manage good control on its
operating expenses in the business as its operating expenses only increased by the3% which is
very low. Thus, it can be said that management of Roast Ltd is very efficient but still it need to
improve its performance as cost of goods sold still increase at high rate. This is one of area
where mentioned firm need to do a lot of work to improve its business performance. Overall, it
can be said that management is working aggressively and effectively but attention need to be
paid on some business areas. Forecast is robust as it can be observed from the table that in the
first year earned profit will be equal to 60 then it increased to 224 in year 5. Management assume
that pressure of the variable expenses will be high. This reflect that forecast is correct because in
the new market less revenue is gained and conditions are different due to which it become hard
to prepare cost control strategy in the business. Hence, low profit is estimated by the firm
management and it can be said that forecast is robust. In year 3 and 5 there is almost stability in
the growth rate which indicate that management expect right thing. This is because there are
already well-established players in the Romania and due to this reason it will take few years to
accelerate growth at fast pace.
(b)Investment appraisal techniques Payback: This method indicate that firm can cover investment amount in 4 years out of 5
years. Project is not viable for the firm. Main merit of the payback period method is that
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it is easy to apply this method as one that does not have technical knowledge can also use
this method to evaluate project (Jiao and et.al., 2016). Demerit of this approach is that
present value concept is not used to evaluate project viability. ARR: ARR refers to the average rate of return of the project. ARR of the project is 18%
which is very low and this reflect that project is not profitable for Roast ltd. Advantage of
the ARR approach is that it indicate return that can be gained on average basis if
investment is made (Kilic and Kaya. 2015). Demerit of this approach is that it is hard to
determine standard ARR value for evaluating project. Hence, every time accurate
decision cannot be taken by using this approach.
 NPV: NPV refers to the net present value and under this approach cash flows are
estimated and then present value factor is calculated and both are multiplied to compute
present value of cash flows. From the present value initial investment amount is deducted
to compute viability of the project. NPV of the project is 110 which is very low and this
also reflect that project is not viable for Roast Ltd.
3.2 Sources of funds
As due to having good financial position., company wants to invest £400 k into Italy and
for that, it is recommended to Roast Ltd that it may uses two sources of finance which are as
mention below:
Issuing of share: As Roast Ltd occupy the good position in market place therefore,
Issuing of share is consider a good alternative that helps to generate fund to invest into another
country. Thus, through this method company may sell the shares in a market so that people may
invest and purchase the share (Pan and et.al., 2019). Through this method, shareholder also
obtain the returns on this investment and as a result, company use the method in order to increase
the value of a firm. For instance, Roast Ltd may use this method in order to raise long term
capital and that is why, company may generate equity share.
Advantages: It is consider one of the most easiest way to generate or raise money. Further, this
method also provides credit worthiness to the firm and also did not create any charge on the
assets as well. Therefore, it is consider free to mortgage for borrowing as well.
Disadvantage: The drawback of using this method is such that it require more formalities and
procedures which leads to delay the entire process at the time of raising funds and that is why,
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most of them did not uses this method (Kandilov, Leblebicioğlu and Petkova, 2017). Moreover,
there is no control of owner while using issue of shares as a source if finance.
Bank Loan: It is consider another alternative that helps to generate funds for the
company in which company may get loan from bank. Thus, a bank loan is an amount of money
that is further borrowed for the specific period of time with a commitment to repay the same as
per schedule prescribe by the bank. Therefore, many large businessman consider this method as
a best source because it is suitable for the financial structure. Bank loan is consider one of the
quick and simple method that is mostly used to raise fund.
Advantages: this method is consider one of the best way to provide source of funding
because it is suitable for medium, long term borrowing needs and bank also provide repayment
holidays to the users. On the other side, this method deduct interest and arrangement fees which
are normally tax deductible (Leone, Moreira and Oriani, 2015). Therefore, opting Bank loan as a
source of finance helps the firm to make timely loan repayment which will further improve the
business credit in front of customers. Moreover, through this method, business is guaranteed the
money for the certain period till then it did not breach the loan conditions. Thus, it is clearly
reflect that this type of borrowing usually made a lower rate of interest which is quite flexible as
compared to other methods.
Disadvantage: This method is not suitable for short term solution because it may takes
additional fees as well. As Company require £400 k to invest into Italy, therefore, the lender did
not grant whole money but it can be consider after observing financial position of the company.
Security is consider another disadvantage for opting this method as a source of finance such that
some amount has to be given to a bank over the assets (Lin and Chou, 2015). On the other side,
another drawback is such that the loan is not flexible and it did not provide the best use of capital
for a business because of fluctuating financial requirement. Therefore, most of the large business
did not use this method as it require too much time to spend for preparing management accounts
and to monitor the same as well.
Therefore, both bank loan and issuing of share helps Roast Ltd to generate finance and as
a result, it creates optimal capital structure so that it will helps to invest £400 k into Italy. It is so
because, the financial performance of the company is strong and that is why, it is appropriate in
this case to take more on debt. Further, it is also easy to issue the shares for the firm and acquire
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Roast Ltd because of having good financial performance which will help the business to generate
better sources by issuing shares.
Statements of Cash Flow
Cash flow statements are the statements recording only cash inflows and outflows of a company.
It helps in recording the transactions involving actual cash flows of the company for the given
period. They are required for generating the actual cash left with the company after carrying out
all the cash expenses. It only records cash transactions and all the on cash transaction are
excluded for getting the net cash left with the company at the year end. It allocates cash expenses
and incomes under different headings that are operating activities that are related to the expense
for carrying out the daily operations. Investment activities include the purchases and sale of fixed
of fixed assets and interests on the investments. Last financing activities records the transaction
related to funds raising , payment of interests and dividends and repayment of debentures and
loans.
Cash flow from operating activities of the company gives negative cash flows of 24000 pounds.
Operating profit of the year is 127000 pounds it is related to the company profits that are
generated. It has added the depreciation back to the operating profits of the company. Inventories
have been deducted, trade & other receivables and increase in trade payables by 97 are added
back to the operating profit. Interest expenses and income tax are deducted from the operating
profits of the result.
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REFERENCES
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low-cost sensor performance in a suburban environment in the southeastern United
States. Atmospheric Measurement Techniques. 9(11). 5281-5292.
Kandilov, I. T., Leblebicioğlu, A. and Petkova, N., 2017. Cross-border mergers and acquisitions:
The importance of local credit and source country finance. Journal of International Money
and Finance. 70. pp.288-318.
Kilic, M., and Kaya, İ. 2015. Investment project evaluation by a decision making methodology
based on type-2 fuzzy sets. Applied Soft Computing. 27. 399-410.
Leone, M. I., Moreira, S. and Oriani, R., 2015. Financial constraints in Markets for technology:
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1, p. 15091). Briarcliff Manor, NY 10510: Academy of Management.
Lin, T. T. and Chou, J. H., 2015. Trade credit and bank loan: Evidence from Chinese
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Minnis, M., and Sutherland, A. 2017. Financial statements as monitoring mechanisms: Evidence
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Pan, X. and et.al., 2019. A Cross-Sectional and Comparative Study on Chinese A-Share and H-
Share Stock Markets. International Research Journal of Applied Finance.10(2). pp.84-
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Williams, E. E., and Dobelman, J. A. 2017. Financial statement analysis. World Scientific Book
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Online
Coffee industry of UK. 2018. [Online]. Available through:
<https://www.worldcoffeeportal.com/Latest/News/2019/UK-coffee-shops-achieve-20-
years-of-sustained-grow>.
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