Financial Decision Making
VerifiedAdded on 2023/01/12
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AI Summary
This report discusses the role of accounts and finance function in an organization and its impact on financial decision making. It covers topics such as bookkeeping, management of tax and other laws, setting budgets, advising and sourcing financing, analyzing cost and financial performance, and developing business strategy. The report also includes a ratio analysis of a manufacturing company in the UK.
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TABLE OF CONTENTS
INTRODUCTION......................................................................................................................3
TASK 1......................................................................................................................................3
Role of accounts and finance function in an organization.....................................................3
TASK 2......................................................................................................................................5
Ratio analysis.........................................................................................................................5
Interpretation and analysis of the performance......................................................................7
CONCLUSION..........................................................................................................................9
REFERENCES.........................................................................................................................10
INTRODUCTION......................................................................................................................3
TASK 1......................................................................................................................................3
Role of accounts and finance function in an organization.....................................................3
TASK 2......................................................................................................................................5
Ratio analysis.........................................................................................................................5
Interpretation and analysis of the performance......................................................................7
CONCLUSION..........................................................................................................................9
REFERENCES.........................................................................................................................10
INTRODUCTION
The financial; decision making is crucial part of every organization as it decides the
future of the business. It is mainly related to the financial mix of the organization. It includes
decisions to be taken in 3 aspects which are investment decisions, financing and dividend
decisions. It focuses on deciding borrowing and allocation of funds. The main purpose is to
optimise the capital structure of the organization. It helps in better decision making which
contributes to the overall success of the organization. In this report, ALPHA Ltd is taken as
an organization which is a manufacturing company in UK started in the year 1954. This
report presents critical evaluation of about the roles of accounts and finance functions in an
organization. It also covers the ratio analysis of the organization and identifying its financial
position for the investment purpose.
TASK 1
Role of accounts and finance function in an organization
The contribution of accounts and finance department can positively affect the
performance of the business with respect to the extent owner and managers involves
themselves (Ekpo, Etukafia and Udofot, 2017). Organizations requires money to remain in
the business and also to properly control and manage it. Some crucial roles and
responsibilities are stated below.
Bookkeeping
Bookkeeping the most basic function of accounts departments it involves recording
the day to day transaction of the business along with analysing and interpreting it. It helps in
tracking all the expenses with respect to purchases, sales, payments etc. In big organizations,
this work is given to more specialized payables and receivable clerks. In Bentley motors,
bookkeeping work is done by people who are specialized in it. It also helps it in the proper
management of the business financial resources by monitoring and tracking all the business
transactions. The finance and accounts department are also responsible for maintaining
proper records which can be used at the year-end for carrying out the audit. Apart from this,
the accounts department is also responsible for filling payroll, income tax and worker’s
compensation. But it requires maintenance of proper documents which can be used as proof
for the happening of the transaction otherwise transaction cannot be recorded.
Management of tax and other laws
Laws and regulation defer from business to business and state to state. Thus, it
requires proper accounting systems which can help in ensuring that proper compliance to the
statutory requirement is fulfilled or not. Implementing good and standard accounting
practices has its own advantage with respect to complying with the laws. If the proper
accounting system is not maintained then it may lead to violation of number of laws such as
not paying the right amount of tax (Schroeder, Clark and Cathey, 2019). Also, poor
management will result into overlook of many minor details which can collectively affect the
business functioning at a certain level. Also, at the time of scrutiny, poor financial records
will lead to unnecessary trouble. In Bentley motors, which is a British car manufacturer,
needs to maintain the proper record of the accounts which can assist it in effective
management of business and also in timely compliance of the laws. In the event of audit, the
finance department will help in providing numbers and answering the questions of auditors.
The financial; decision making is crucial part of every organization as it decides the
future of the business. It is mainly related to the financial mix of the organization. It includes
decisions to be taken in 3 aspects which are investment decisions, financing and dividend
decisions. It focuses on deciding borrowing and allocation of funds. The main purpose is to
optimise the capital structure of the organization. It helps in better decision making which
contributes to the overall success of the organization. In this report, ALPHA Ltd is taken as
an organization which is a manufacturing company in UK started in the year 1954. This
report presents critical evaluation of about the roles of accounts and finance functions in an
organization. It also covers the ratio analysis of the organization and identifying its financial
position for the investment purpose.
TASK 1
Role of accounts and finance function in an organization
The contribution of accounts and finance department can positively affect the
performance of the business with respect to the extent owner and managers involves
themselves (Ekpo, Etukafia and Udofot, 2017). Organizations requires money to remain in
the business and also to properly control and manage it. Some crucial roles and
responsibilities are stated below.
Bookkeeping
Bookkeeping the most basic function of accounts departments it involves recording
the day to day transaction of the business along with analysing and interpreting it. It helps in
tracking all the expenses with respect to purchases, sales, payments etc. In big organizations,
this work is given to more specialized payables and receivable clerks. In Bentley motors,
bookkeeping work is done by people who are specialized in it. It also helps it in the proper
management of the business financial resources by monitoring and tracking all the business
transactions. The finance and accounts department are also responsible for maintaining
proper records which can be used at the year-end for carrying out the audit. Apart from this,
the accounts department is also responsible for filling payroll, income tax and worker’s
compensation. But it requires maintenance of proper documents which can be used as proof
for the happening of the transaction otherwise transaction cannot be recorded.
Management of tax and other laws
Laws and regulation defer from business to business and state to state. Thus, it
requires proper accounting systems which can help in ensuring that proper compliance to the
statutory requirement is fulfilled or not. Implementing good and standard accounting
practices has its own advantage with respect to complying with the laws. If the proper
accounting system is not maintained then it may lead to violation of number of laws such as
not paying the right amount of tax (Schroeder, Clark and Cathey, 2019). Also, poor
management will result into overlook of many minor details which can collectively affect the
business functioning at a certain level. Also, at the time of scrutiny, poor financial records
will lead to unnecessary trouble. In Bentley motors, which is a British car manufacturer,
needs to maintain the proper record of the accounts which can assist it in effective
management of business and also in timely compliance of the laws. In the event of audit, the
finance department will help in providing numbers and answering the questions of auditors.
But this process will hamper the functioning of the business and may also affects the business
decisions.
Setting the budgets
Preparing the budget for the business is very crucial as it is more than just the
projected incomes and expenses. A master budget is with projected income and expenses will
help in creating other reports which will be very useful for business operation. After the
preparation of the accounts using proper accounting practices, budget is prepared. The budget
so prepared helps in taking better decisions with respect to the business plans, resources
available which help in maintaining and growing the business. It can be considered as the
blue print of the business plan and the direction in which organization wants to go. The
finance team of Bentley motors is very effective in timely preparation of budgets taking into
account all the accounting information made available (Athma, 2019). Through budget, it
limits the spending of the organization. The disadvantage side of preparing budget is that it
may force the organization to forgo the opportunities available as they are out of budget.
Therefore, it can be said that the budgeting and forecasting can either make the business or
break the business and this effective management of financial records plays a crucial role as
previous years data is used in preparing the budget which helps in effective management of
the business. On the other hand, it is time consuming process and requires a lot of efforts to
put in.
Advising and sourcing financing
It is key role and responsibility of finance department to give proper advice to the
companies with respect to the different sources of finance available and which one of them is
best suited for the organization (Weygandt, Kimmel and Kieso, 2019). This decision is taken
very carefully as organization is required to maintain the proper mix of debt and equity which
can help organization in yielding better profits and also finding the source of finance at a
lower cost. In Bentley motors, the finance team provides very good advice to the organization
which assists it in taking better financing decisions. Also, it makes sure that sources of
finance are not costly to the company in comparison to rate of return. The drawback of this is
that it requires highly qualified and experience personnel who has a good understanding of
different sources of finances along with its effect on the business cashflow.
Analysing the cost
The effective accounting system helps in analysing the cost associated with the
business functioning. It takes into account different cost which makes up and sells the
product. It bifurcates the costs based on overhead and production costs which help in
analysing the change in the cost (Wahlen, Baginski and Bradshaw, 2018). Most importantly
the overhead cost which includes insurance, office rent etc. as these costs will decrease with
the increase in sales. For example, in case of Bentley motors, which is having an effective
team of finance professionals, who works together on analysing the cost of the product and
helps in determining the cost and profitability associated with each and every product
separately. Analysing cost helps the business in implementing the system which will helps in
avoiding unnecessary cost and which result into increase in profitability of the business. Even
though it has multiple benefits, but conducting cost analysis is a complex process as it
requires to identify the cost based on the cost drivers. Along with that in case the present
decisions.
Setting the budgets
Preparing the budget for the business is very crucial as it is more than just the
projected incomes and expenses. A master budget is with projected income and expenses will
help in creating other reports which will be very useful for business operation. After the
preparation of the accounts using proper accounting practices, budget is prepared. The budget
so prepared helps in taking better decisions with respect to the business plans, resources
available which help in maintaining and growing the business. It can be considered as the
blue print of the business plan and the direction in which organization wants to go. The
finance team of Bentley motors is very effective in timely preparation of budgets taking into
account all the accounting information made available (Athma, 2019). Through budget, it
limits the spending of the organization. The disadvantage side of preparing budget is that it
may force the organization to forgo the opportunities available as they are out of budget.
Therefore, it can be said that the budgeting and forecasting can either make the business or
break the business and this effective management of financial records plays a crucial role as
previous years data is used in preparing the budget which helps in effective management of
the business. On the other hand, it is time consuming process and requires a lot of efforts to
put in.
Advising and sourcing financing
It is key role and responsibility of finance department to give proper advice to the
companies with respect to the different sources of finance available and which one of them is
best suited for the organization (Weygandt, Kimmel and Kieso, 2019). This decision is taken
very carefully as organization is required to maintain the proper mix of debt and equity which
can help organization in yielding better profits and also finding the source of finance at a
lower cost. In Bentley motors, the finance team provides very good advice to the organization
which assists it in taking better financing decisions. Also, it makes sure that sources of
finance are not costly to the company in comparison to rate of return. The drawback of this is
that it requires highly qualified and experience personnel who has a good understanding of
different sources of finances along with its effect on the business cashflow.
Analysing the cost
The effective accounting system helps in analysing the cost associated with the
business functioning. It takes into account different cost which makes up and sells the
product. It bifurcates the costs based on overhead and production costs which help in
analysing the change in the cost (Wahlen, Baginski and Bradshaw, 2018). Most importantly
the overhead cost which includes insurance, office rent etc. as these costs will decrease with
the increase in sales. For example, in case of Bentley motors, which is having an effective
team of finance professionals, who works together on analysing the cost of the product and
helps in determining the cost and profitability associated with each and every product
separately. Analysing cost helps the business in implementing the system which will helps in
avoiding unnecessary cost and which result into increase in profitability of the business. Even
though it has multiple benefits, but conducting cost analysis is a complex process as it
requires to identify the cost based on the cost drivers. Along with that in case the present
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value is calculated incorrectly then it will lead to wrong decision making which will result
into barriers in proper business functioning.
Analysing the financial performance of the business
Analysing and interpreting the financial statements of the organization helps in
determining the financial position and performance of the business. It is essential to have
proper records of past years data so that a comparison can be drawn which will help in
identifying the areas of improvement or nay major changes in the business performance and
the reason for the same. It will help in reviewing the performance of the business in respect to
the target set. The financial data will help businesses in identifying various aspects such as
sources of cash inflow and cash outflow, business performance for both on long term and
short-term basis (A Company’s Finance Department: 8 Key Functions. 2020). It will also
provide a clear picture of the projects undertaken and its current position or status. In Bentley
motors, which are having a well organised and proficient finance team, carries out the
performance analysis of the business. It looks into the organization’s existing liabilities in
comparison to the assets available. Conducting performance analysis is very essential at the
time when the business is looking forward for the expansion plan. The analysis will help the
organization in getting deeper insight about the total amount of debt it can take now and what
will be the impact if it exceeds the limit. It will assist Bentley motors in evaluating its assets
most importantly its inventory (Roles and Responsibilities of a Finance Department. 2020). It
involves analysing that whether the company is having too less or more inventories for
catching up with the future needs and demand of the product. It will also help in analysing the
growth trend of the business in terms of increase in sales, profits. It will also help in
determining which product should be dropped or the areas where cost can be reduced or is
unnecessary. But despite all this, the major problem companies face is the different
accounting methods used by the organizations which make changes to the reliability of the
information as accounting figures changes.
Developing business strategy
The core objective of any business is to gain higher profits and in order to get there it
is essential to build a way for it. So, after analysing the financial performance of the business,
it becomes easy to formulate business strategy in order to achieve the desired goals. As the
finance team will get all the relevant information which will be required for providing
support to the management in preparing strategy (Dicle and Meyer, 2018). The finance team
of Bentley motors is also responsible for enhancing value for the business which makes it
essential to integrate the both, that is, business plan and finance strategy. But at the same
time, it will make the process more complex and incur the need to make adjustment or
changes in the goals or targets.
TASK 2
Ratio analysis
Particulars Formula 2017 2018
EBIT 375 412.5
Total assets 2235 4035
Current liabilities 322.5 1110
into barriers in proper business functioning.
Analysing the financial performance of the business
Analysing and interpreting the financial statements of the organization helps in
determining the financial position and performance of the business. It is essential to have
proper records of past years data so that a comparison can be drawn which will help in
identifying the areas of improvement or nay major changes in the business performance and
the reason for the same. It will help in reviewing the performance of the business in respect to
the target set. The financial data will help businesses in identifying various aspects such as
sources of cash inflow and cash outflow, business performance for both on long term and
short-term basis (A Company’s Finance Department: 8 Key Functions. 2020). It will also
provide a clear picture of the projects undertaken and its current position or status. In Bentley
motors, which are having a well organised and proficient finance team, carries out the
performance analysis of the business. It looks into the organization’s existing liabilities in
comparison to the assets available. Conducting performance analysis is very essential at the
time when the business is looking forward for the expansion plan. The analysis will help the
organization in getting deeper insight about the total amount of debt it can take now and what
will be the impact if it exceeds the limit. It will assist Bentley motors in evaluating its assets
most importantly its inventory (Roles and Responsibilities of a Finance Department. 2020). It
involves analysing that whether the company is having too less or more inventories for
catching up with the future needs and demand of the product. It will also help in analysing the
growth trend of the business in terms of increase in sales, profits. It will also help in
determining which product should be dropped or the areas where cost can be reduced or is
unnecessary. But despite all this, the major problem companies face is the different
accounting methods used by the organizations which make changes to the reliability of the
information as accounting figures changes.
Developing business strategy
The core objective of any business is to gain higher profits and in order to get there it
is essential to build a way for it. So, after analysing the financial performance of the business,
it becomes easy to formulate business strategy in order to achieve the desired goals. As the
finance team will get all the relevant information which will be required for providing
support to the management in preparing strategy (Dicle and Meyer, 2018). The finance team
of Bentley motors is also responsible for enhancing value for the business which makes it
essential to integrate the both, that is, business plan and finance strategy. But at the same
time, it will make the process more complex and incur the need to make adjustment or
changes in the goals or targets.
TASK 2
Ratio analysis
Particulars Formula 2017 2018
EBIT 375 412.5
Total assets 2235 4035
Current liabilities 322.5 1110
Capital employed
Total assets - current
liabilities 1912.5 2925
Return on capital
employed 20% 14%
Particulars
Formul
a 2017 2018
Net profit 300 262.5
Sales 2400 3000
Net profit
ratio
net
profit /
sales *
100 13% 9%
Particulars Formula 2017 2018
Current assets 757.5 1035
Current
liabilities 322.5 1110
Current ratio
Current assets / current
liabilities 2.35 0.93
Particulars Formula 2017 2018
Trade receivables 450 600
Sales 2400 3000
Debtors collection
period (in days)
Trade
receivable
s / Sales
*365 68 73
Particulars Formula 2017 2018
Trade payables 285 1050
Purchase 1725 2250
Creditors payment
period
Trade
payables
/
purchase
*365 60 170
Total assets - current
liabilities 1912.5 2925
Return on capital
employed 20% 14%
Particulars
Formul
a 2017 2018
Net profit 300 262.5
Sales 2400 3000
Net profit
ratio
net
profit /
sales *
100 13% 9%
Particulars Formula 2017 2018
Current assets 757.5 1035
Current
liabilities 322.5 1110
Current ratio
Current assets / current
liabilities 2.35 0.93
Particulars Formula 2017 2018
Trade receivables 450 600
Sales 2400 3000
Debtors collection
period (in days)
Trade
receivable
s / Sales
*365 68 73
Particulars Formula 2017 2018
Trade payables 285 1050
Purchase 1725 2250
Creditors payment
period
Trade
payables
/
purchase
*365 60 170
Interpretation and analysis of the performance
Return on capital employed (ROCE)
It is the financial ratio which determines the profitability and efficiency of the
business in respect to the capital employed. It is calculated by dividing Earning before
interest and tax (EBIT) by the capital employed (Total assets – Current liabilities). The higher
ratio is acceptable by the business because it means more economical use of the capital. Also,
the return on capital employed should always be higher than cost of capital and if the case is
opposite it means that company is less productive, ineffective in managing its capital and
inadequately building shareholder value. It is the most important ratio which helps in
determining whether to invest in the company or not (Murtala and et.al, 2018). Both the
companies and investors expect it to be higher year on year basis. It is used as the basis for
various financial decision making. Based on the above calculations, the return on capital
employed of ALPHA Ltd has reduced by 6% in the year 2018 from 20% in 2017. This
indicates that the company is inadequately utilizing its capital resources and is also not
generating value for its stakeholders. This will affect the investors looking for investing in the
ALPHA Ltd. this is because investors are always interested in increasing and higher rate of
return. The causes for the decrease in return can be decrease in profits or increase in cost or
the increase in capital employed. Therefore, the decrease in the rate of return is a point of
concern for the organization.
Net profit margin ratio
It is a profitability metrics that measures the profitability of eth business with respect
to the sales. In other words, it refers to the net income business makes against each unit of
sales. It is calculated by dividing net profit by sales and is represented in percentage form.
Investors usually use this ratio to know how efficiently the company is managed. This ratio
helps in identifying what percentage of sales is used for paying off the operating and non-
operating expenses and also how is left to be paid to the shareholders or to retain in the
business for further business development (Williams and Dobelman, 2017). Higher the
margin better it is more the company which indicates that the company is able to convert
more sales into profits. It is a strong indicator of overall growth of the business. The net
profit margin of ALPHA Ltd. has come down to 9% in the year 2018 from 13% in 2017. This
is a huge drop which shows that ALPHA Ltd. is not effective in managing its business
operation. The drop can be because of high expenses, default in pricing strategies etc. This
ratio also indicates that the company’s financial health is not so good and needs proper and
effective management.
Current ratio
Current ratio measures the capability of the business in respect to meet its short-term
obligations. It is the liquidity and efficiency ratio which measures the company’s ability to
pay off its short-term debts against the current assets. This also means that businesses have
limited time within which they have to raise the funds for meeting its liabilities. It can be
easily calculated by dividing current assets by current liabilities (Current Ratio. 2019). This
ratio helps the investor in understanding the liquidity position of the business. The higher
ratio is more favourable to the business which indicates that the business is having enough
Return on capital employed (ROCE)
It is the financial ratio which determines the profitability and efficiency of the
business in respect to the capital employed. It is calculated by dividing Earning before
interest and tax (EBIT) by the capital employed (Total assets – Current liabilities). The higher
ratio is acceptable by the business because it means more economical use of the capital. Also,
the return on capital employed should always be higher than cost of capital and if the case is
opposite it means that company is less productive, ineffective in managing its capital and
inadequately building shareholder value. It is the most important ratio which helps in
determining whether to invest in the company or not (Murtala and et.al, 2018). Both the
companies and investors expect it to be higher year on year basis. It is used as the basis for
various financial decision making. Based on the above calculations, the return on capital
employed of ALPHA Ltd has reduced by 6% in the year 2018 from 20% in 2017. This
indicates that the company is inadequately utilizing its capital resources and is also not
generating value for its stakeholders. This will affect the investors looking for investing in the
ALPHA Ltd. this is because investors are always interested in increasing and higher rate of
return. The causes for the decrease in return can be decrease in profits or increase in cost or
the increase in capital employed. Therefore, the decrease in the rate of return is a point of
concern for the organization.
Net profit margin ratio
It is a profitability metrics that measures the profitability of eth business with respect
to the sales. In other words, it refers to the net income business makes against each unit of
sales. It is calculated by dividing net profit by sales and is represented in percentage form.
Investors usually use this ratio to know how efficiently the company is managed. This ratio
helps in identifying what percentage of sales is used for paying off the operating and non-
operating expenses and also how is left to be paid to the shareholders or to retain in the
business for further business development (Williams and Dobelman, 2017). Higher the
margin better it is more the company which indicates that the company is able to convert
more sales into profits. It is a strong indicator of overall growth of the business. The net
profit margin of ALPHA Ltd. has come down to 9% in the year 2018 from 13% in 2017. This
is a huge drop which shows that ALPHA Ltd. is not effective in managing its business
operation. The drop can be because of high expenses, default in pricing strategies etc. This
ratio also indicates that the company’s financial health is not so good and needs proper and
effective management.
Current ratio
Current ratio measures the capability of the business in respect to meet its short-term
obligations. It is the liquidity and efficiency ratio which measures the company’s ability to
pay off its short-term debts against the current assets. This also means that businesses have
limited time within which they have to raise the funds for meeting its liabilities. It can be
easily calculated by dividing current assets by current liabilities (Current Ratio. 2019). This
ratio helps the investor in understanding the liquidity position of the business. The higher
ratio is more favourable to the business which indicates that the business is having enough
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cash for settling its current liabilities. The ideal current ratio is 1. Also, it is important to note
that the much higher ratio is also not acceptable as it means that the business is having excess
cash which is not adding any value to the business. In ALPHA Ltd, the current ratio is 0.93 in
2018 as compared to 2.35 in 2017. After evaluating this ratio, it can be said that ALPHA Ltd
is required to take corrective steps which can be either to increase its current assets or for
reducing its current liabilities in order to attain the required ratio. The lower ratio is the sign
that the business is not having enough cash to pay off its current liability and is required to
work effectively in order to avoid the situation of cash crunch. Also, ALPHA Ltd needs to
ensure that its current ratio does not reaches high like 2.35 which means that company is
having more than enough cash which has remained idle adding no value.
Average receivable/collection days
The average collection period refers to the amount of time it takes for collecting the
payment from the customers for goods sold on credit. It is the average number of days
between the date when credit sale was done and the date when the amount is collected. In
this, a comparison is drawn between outstanding receivables and the total sales of the
business which helps in evaluating how long customers are taking to pay off their bills (What
is the accounts receivable collection period? 2020). It is derived by dividing the average
receivables by net sales multiplies by 365 days. The lower number of days is better for the
company as les amount of money is blocked in account receivables which can be utilized for
other business purposes. ALPHA Ltd has seen an increase in the debtor collection period
from 68 days in the year 2017 to 73 days in 2018. There can be many reasons for this
increase such as loose credit policy, also economic slowdown can be affecting the customers
in paying back on time. There can be another reason which is ineffective collection team who
are not able to collect the payment from receivables on time. Thus, ALPHA Ltd is required to
take actions for improving the situation.
Average payable days
It is a solvency ratio which measures the number of days it takes for the business to
pay off its dues to the vendor and suppliers. It occurs when business purchases materials on
credit which is required to be paid at a certain future date. It calculated by dividing average
accounts payable by total credit purchase multiplied by 365 days. Companies mostly prefer to
have high payable days so that it can use the available cash for other use like investing it in
short term investment and also increasing its working capital. But at the same time, it not
desirable to take too long to make payment to the creditor because it can hamper the relation
with the suppliers and other creditors (HAYES, 2020). This can lead to refusal to offer
attractive trade discounts and credit terms which can turn into less favourable to the business.
In ALPHA Ltd, the average payable period has increased from 6 days to 170 days in the year
2018. This ratio can be considered as favourable in one aspect because now the business can
retain the amount for longer time which can be used for other business activities. Along with
that it requires to take into account the negative side of it which is taking long time to make
payment may disappoint the supplier which can cause or affect its relation with the suppliers.
It also indicates that business is not having enough cash to pay off its creditors.
Thus, based on the above analysis, it can be said that the financial position of ALPHA
Ltd is not that good and it is not feasible to make investment in the company.
that the much higher ratio is also not acceptable as it means that the business is having excess
cash which is not adding any value to the business. In ALPHA Ltd, the current ratio is 0.93 in
2018 as compared to 2.35 in 2017. After evaluating this ratio, it can be said that ALPHA Ltd
is required to take corrective steps which can be either to increase its current assets or for
reducing its current liabilities in order to attain the required ratio. The lower ratio is the sign
that the business is not having enough cash to pay off its current liability and is required to
work effectively in order to avoid the situation of cash crunch. Also, ALPHA Ltd needs to
ensure that its current ratio does not reaches high like 2.35 which means that company is
having more than enough cash which has remained idle adding no value.
Average receivable/collection days
The average collection period refers to the amount of time it takes for collecting the
payment from the customers for goods sold on credit. It is the average number of days
between the date when credit sale was done and the date when the amount is collected. In
this, a comparison is drawn between outstanding receivables and the total sales of the
business which helps in evaluating how long customers are taking to pay off their bills (What
is the accounts receivable collection period? 2020). It is derived by dividing the average
receivables by net sales multiplies by 365 days. The lower number of days is better for the
company as les amount of money is blocked in account receivables which can be utilized for
other business purposes. ALPHA Ltd has seen an increase in the debtor collection period
from 68 days in the year 2017 to 73 days in 2018. There can be many reasons for this
increase such as loose credit policy, also economic slowdown can be affecting the customers
in paying back on time. There can be another reason which is ineffective collection team who
are not able to collect the payment from receivables on time. Thus, ALPHA Ltd is required to
take actions for improving the situation.
Average payable days
It is a solvency ratio which measures the number of days it takes for the business to
pay off its dues to the vendor and suppliers. It occurs when business purchases materials on
credit which is required to be paid at a certain future date. It calculated by dividing average
accounts payable by total credit purchase multiplied by 365 days. Companies mostly prefer to
have high payable days so that it can use the available cash for other use like investing it in
short term investment and also increasing its working capital. But at the same time, it not
desirable to take too long to make payment to the creditor because it can hamper the relation
with the suppliers and other creditors (HAYES, 2020). This can lead to refusal to offer
attractive trade discounts and credit terms which can turn into less favourable to the business.
In ALPHA Ltd, the average payable period has increased from 6 days to 170 days in the year
2018. This ratio can be considered as favourable in one aspect because now the business can
retain the amount for longer time which can be used for other business activities. Along with
that it requires to take into account the negative side of it which is taking long time to make
payment may disappoint the supplier which can cause or affect its relation with the suppliers.
It also indicates that business is not having enough cash to pay off its creditors.
Thus, based on the above analysis, it can be said that the financial position of ALPHA
Ltd is not that good and it is not feasible to make investment in the company.
CONCLUSION
It can be concluded that financial decision making has an important role to play in
business. Also, the role of accounts and finance functions cannot be neglected which assists
in better decision making essential for future growth of the business. The ratio analysis of
ALPHA Ltd has helped in identifying the current position of the business based on liquidity,
profitability and solvency. Based on which it can be said that ALPHA Ltd is not stable and
from investors perspective it is not the right company to invest the money.
It can be concluded that financial decision making has an important role to play in
business. Also, the role of accounts and finance functions cannot be neglected which assists
in better decision making essential for future growth of the business. The ratio analysis of
ALPHA Ltd has helped in identifying the current position of the business based on liquidity,
profitability and solvency. Based on which it can be said that ALPHA Ltd is not stable and
from investors perspective it is not the right company to invest the money.
REFERENCES
Books and Journals
Athma, P., 2019. Advances in Finance and Marketing (Doctoral dissertation, Department of
Commerce Organising Committee UGC SAP DRS–III Department of Commerce,
Osmania University Hyderabad).
Dicle, M. F. and Meyer, J., 2018. Financial Statement and Ratio Analysis: A Classroom
Perspective. Available at SSRN 3223965.
Ekpo, N. B., Etukafia, N. and Udofot, N. E., 2017. Finance manager and the finance function
in business sustainability. International Journal of Business, Marketing and
Management. 2(1). pp.31-38.
Murtala, S. and et.al, 2018. Capital structure and return on capital employed of construction
companies in Nigeria. African Journal of Accounting, Auditing and Finance. 6(1).
pp.1-20.
Schroeder, R. G., Clark, M. W. and Cathey, J. M., 2019. Financial accounting theory and
analysis: text and cases. John Wiley & Sons.
Wahlen, J. M., Baginski, S. P. and Bradshaw, M. T., 2018. Financial Reporting, Financial
Statement Analysis, and Valuation: A Strategic Perspective, Cengage Learning.
Weygandt, J. J., Kimmel, P. D. and Kieso, D. E., 2019. Financial accounting. Wiley.
Williams, E. E. and Dobelman, J.A., 2017. Financial statement analysis. World Scientific
Book Chapters. pp.109-169.
Online
A Company’s Finance Department: 8 Key Functions. 2020. [Online]. Available Through:<
https://saplingfinancial.com/blog/company_finance_department/>.
Current Ratio. 2019. [Online]. Available Through:< https://xplaind.com/464202/current-
ratio>.
HAYES, A., 2020. Days Payable Outstanding – DPO Definition. [Online]. Available
Through:< https://www.investopedia.com/terms/d/dpo.asp >.
Roles and Responsibilities of a Finance Department. 2020. [Online]. Available Through:<
https://www.pharmapproach.com/roles-responsibilities-finance-department-
pharmaceutical-industry/>.
What is the accounts receivable collection period? 2020. [Online]. Available Through:<
https://www.accountingcoach.com/blog/accounts-receivable-collection-period>.
Books and Journals
Athma, P., 2019. Advances in Finance and Marketing (Doctoral dissertation, Department of
Commerce Organising Committee UGC SAP DRS–III Department of Commerce,
Osmania University Hyderabad).
Dicle, M. F. and Meyer, J., 2018. Financial Statement and Ratio Analysis: A Classroom
Perspective. Available at SSRN 3223965.
Ekpo, N. B., Etukafia, N. and Udofot, N. E., 2017. Finance manager and the finance function
in business sustainability. International Journal of Business, Marketing and
Management. 2(1). pp.31-38.
Murtala, S. and et.al, 2018. Capital structure and return on capital employed of construction
companies in Nigeria. African Journal of Accounting, Auditing and Finance. 6(1).
pp.1-20.
Schroeder, R. G., Clark, M. W. and Cathey, J. M., 2019. Financial accounting theory and
analysis: text and cases. John Wiley & Sons.
Wahlen, J. M., Baginski, S. P. and Bradshaw, M. T., 2018. Financial Reporting, Financial
Statement Analysis, and Valuation: A Strategic Perspective, Cengage Learning.
Weygandt, J. J., Kimmel, P. D. and Kieso, D. E., 2019. Financial accounting. Wiley.
Williams, E. E. and Dobelman, J.A., 2017. Financial statement analysis. World Scientific
Book Chapters. pp.109-169.
Online
A Company’s Finance Department: 8 Key Functions. 2020. [Online]. Available Through:<
https://saplingfinancial.com/blog/company_finance_department/>.
Current Ratio. 2019. [Online]. Available Through:< https://xplaind.com/464202/current-
ratio>.
HAYES, A., 2020. Days Payable Outstanding – DPO Definition. [Online]. Available
Through:< https://www.investopedia.com/terms/d/dpo.asp >.
Roles and Responsibilities of a Finance Department. 2020. [Online]. Available Through:<
https://www.pharmapproach.com/roles-responsibilities-finance-department-
pharmaceutical-industry/>.
What is the accounts receivable collection period? 2020. [Online]. Available Through:<
https://www.accountingcoach.com/blog/accounts-receivable-collection-period>.
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