Importance of Financial Management and Use of Ratios in Financial Management

This report explains the concept and importance of financial management, financial statements, and the use of ratios in financial management. It also includes practical examples of profitability, efficiency, and liquidity ratios. The report concludes with recommendations to improve the financial performance of an entity.

BUSINESS FINANCE

Contents
INTRODUCTION...........................................................................................................................3
MAIN BODY...................................................................................................................................3
Section 1...........................................................................................................................................3
Concept and Importance of Financial Management...............................................................3
Section 2...........................................................................................................................................5
Main Financial Statements and Use of Ratios in Financial Management as explained below: -
................................................................................................................................................5
Section 3...........................................................................................................................................6
1.The following is the completed information in business review template:...............................6
2.Statement of Financial Performance...................................................................................7
3. Statement of Financial Position..........................................................................................7
4. Profitability, Efficiency and liquidity ratio explanation along with practical as under: -. .7
Section 4...........................................................................................................................................9
Recommendation....................................................................................................................9
CONCLUSION................................................................................................................................9
REFERENCES..............................................................................................................................11
APPENDIX....................................................................................................................................13

INTRODUCTION
Financial management is a continuous activity which handles fiscal and economic activities
in an organisation. Funds procurement through different sources and consuming the same in such
a way that it is effective for business concern in an important task (Beaumont, 2019). It deals
with certain principles that helps in fruitful utilisation of enterprise resources so that organisation
goals and purposes can be accomplished. In this assignment description of financial management
and its importance has been explained thoroughly. Along with this, it highlights financial
statements parts along with description and how ratios are significant and useful in finance. This
report also shows how profit and loss account and balance sheet is prepared by using templates
and ratios analysis for above data considering efficiency, liquidity, and profitability of company.
At the end certain recommendation has been made, suggesting certain processes that can
improve financial performance of an entity.
MAIN BODY
Section 1
Concept and Importance of Financial Management
Financial management refers to preparing, classifying, organising and controlling financial
activities of business concern. These activities can be in form of procurement and utilization of
resources for an establishment as it is significant to them. In order to run or start a successful
venture, the finance manager must possess outstanding information regarding financial
management (Dewick, Bengtsson, and Schröder, 2020). It is made up of an important element
that is financial planning. It is a process of ascertaining the amount required by an organisation
and then allocating the same so that maximum output can be addressed. In an entity, fiscal and
economic activities relating to financial management is addressed by a finance manager who
supervise finance department. This department performs various function which includes
deciding the capital structure, distribution or allocation of company’s profits to segments,
operative and resourceful administration of entity’s resources, monetary control on short as well
as long term assets and so on.
Importance of financial management are as under: -

There is an enormous importance of financial management in an establishment that ensures
monetary firmness be maintained and situation of bankruptcy be mitigated. Some of them are:
 Planning: - Business planning provides financial stability to an enterprise by ensuring
right path. It includes taking corrective and prompt actions considering concerns growth
and stability in long run. It also takes in consideration those business segments which
requires restructuring to enhance profitability.
 Safeguarding and Protecting Assets: - It simply means effective and optimum utilisation
of entity’s funds in such a way that ultimately fulfils objectives and goals (DeWitt and Koh,
2020). Overspending towards one business segment and impacting other business
segments development may result into shortage of funds.
 Apportionment of Funds: The main tool in financial management is to allocate funds in a
productive way considering organisations goals and objective. It will ultimately raise
operating efficiency of the business unit by way of reducing overspending on incomplete
projects or processes.
 Investment Opportunities: Investment opening in different sector will assist an enterprise
in generating or increasing wealth. Mergers or acquisitions with new group is the best
example of diversification. These investments can be supportive when firm is facing cash
crunch at time of liquidation or discontinuation of a particular segment.
 Growth and Stability: - Proper financial planning is an organisation results into economic
growth for an entity. Consistency is important for entity to generate goodwill in market or
sector that helps in building brand value. If financial processes are managed correctly at
top level, then it eventually leads to growth and consistency of organisation.
 Accumulate Capital Reserves: - For any enterprise, success lies when they expand their
business by entering into different product lines or expanding their business geographical
wise (Fedorova, 2020). This will accumulate multiple reserves by way of capital for an
entity that is useful in hard times.
 Valuation of Business: It will help in extending areas for variety of investors that invest
their funds in company. Extreme argument in an organisation is that how they will
achieve maximum improvement with greater productivity. Valuation of firm is increased
with growth in production or re-engineering of existing lines of product.

Section 2
Main Financial Statements and Use of Ratios in Financial Management as explained below: -
Financial statements are monetary reports prepared by management of an
establishment that shows financial position of enterprise. It contains Statement of
financial position, Statement of financial performance, Cash flow statements and Notes to
accounts briefly explained as under: -
 Statement of financial performance:
Income statements is part of financial statements that shows aggregate of
expenditure and income made by an enterprise during an accounting period. The net
result of such income and expenditure is net profit or loss for firm (Hernández-Julio,
Guerrero-Avendaño, and Bernal, 2020). They are prepared generally for 12 months but in case
of listed company's these statements can be prepared on quarterly basis as required by
their regulators. These statements reflect enterprise profitability is a logical and structured
manner starting from gross profit or loss to net profit or loss after deducting all operating
and other expenses from revenue received. This statement is useful in interpreting
multiple ratios such as sales ratio, gross profit ratio, net profit ratio, turnover ratio,
working capital ratio etc.
 Statement of financial position:
Balance sheet is a statement showing assets and liabilities of an entity as on date.
The balance sheet is prepared on the last day of financial year that is on 31st march for
every entity. The major classification in preparation of balance sheet are shareholders’
funds, non-current liability, current liability, current assets and non-current assets. It
helps in analysing financial health of entity by giving an overview of assets and
liabilities. Further it also used by various users of financial statement such as stakeholder,
government etc. in analysing liquidity and financial performance of company. It usually
prepared annually but sometimes prepared quarterly basis also, depending upon nature of
business and their governing laws and regulations.
 Cash flow statements:
Cash flow statements indicates flow of cash in an enterprise during the financial
period. It helps entity in ascertaining the amount of cash generated by business concern
and repayment of payables outstanding on regular time. In cash flow statements, cash is

generated from three types of activities that is cash flow from operating activity,
investing activity and financing activity.
Ratios are considered as a wider tool in financial management so to investigate
performance of establishment over the years. They can be used proficiently when results of
several periods needs to compare together (Ionescu, 2021). They help in analysing performance of
an entity over the period of time and identifies all signs of distress to business unit. Use of ratios
is an integral part of financial management of a business organisation.
They can be used in financial management for following purposes as under: -
 They help in evaluating the performance of entity when comparative analysis is carried
out.
 This will help an entity to compare the financial outcomes with competitors.
 Ratios support the accounting team in decision making with respect to project.
 They help in identification of Strong and week sections in business segment.
 They help in developing an understanding between financial and non-financial items of
statement of financial position.
Section 3
1.The following is the completed information in business review template:
The Net Profit for the year2016, is £43,057,000 (2015: £18,987,000).
The Company’s key financial and other performance indicators during the year were as follows:
2016
£’000
2015
£’000
Change
%
Turnover (continuing operations) 189,711 179,587 +5.6%
Profit for the financial year 43057 18,987 + 126.8 %
Shareholder’s equity 83815 63,057 +32.9%
Current assets as % of current liabilities 222.3 % 304% -82%
Customer satisfaction 4.5 4.1 +10%
Average number of employees 649 618 +5%
Turnover from continuing operations increased by 5.6% during the year, primarily due to the acquisition of the
Extinguishers business on 1 May 2015, which made a full year’s contribution in 2016.
Gross Profit = £81125

Net Profit = £43057
Net Profit increased in 2016 by 126.8% during the year.
Shareholders’ equity increased by 32.9% by £20758
The company’s “quick ratio” (Current Assets (excluding stock) divided by Current Liabilities) is 1.47 times
The company’s “current ratio” (Current Assets divided by Current Liabilities. ) is 2.22 times
2.Statement of Financial Performance
(Refer Appendix Below)
3. Statement of Financial Position
(Refer Appendix Below)
4. Profitability, Efficiency and liquidity ratio explanation along with practical as under: -
 Profitability Ratio: -
Profitability ratios are fiscal tools used by investors and financial analyst so that they can
measure and evaluate effectiveness and efficiency of an enterprise to generate profits for their
stakeholders.
The following is the calculation of profitability ratios for 2016: -
Gross Profit Ratio: -
= (Gross Profit/Sales) *100
= (81125/189711*100)
=42.80%
Net Profit Ratio: -
= (Gross Profit/Total Revenue) *100
= (43057/189711*100)
=22.70%
Interpretation: - From the above calculation it can be interpreted that company is earning
high margins in profit during 2016 which shows profitability and earning capability of
organisation.

 Efficiency Ratio: -
These ratios are also recognised as activity ratios. Efficiency ratios are used in examining the
ability of an enterprise that how effectively they are employing their funds in form of capital,
fixed assets etc. (Katelouzou and Klettner, 2020). There is a direct affiliation between efficiency ratios
and profitability ratios because if the firm perform their work with full productivity then they
will able to produce much more returns into their account. The following is the calculation of
Efficiency ratio for 2016: -
Working Capital Ratio: -
= (Current Assets/Current Liabilities)
= (84349/37928)
=2.22 times
Asset Turnover Ratio: -
= (Revenue/Total Assets)
=189711/ (69298+84349)
=1.24 times
Interpretation: From the above ratios it can be interpreted that entity’s current assets is
twice their current liability which specifies their competence to repay arrears on time at
the time of insolvency or termination of business.
 Liquidity ratios: -Liquidity ratios are monetary ratios which helps in determining
organisational ability to repay its short term debt obligation on due time. This ratio is
considered to be better when it is greater than 1 which suggests that enterprise is able to
pay their current charge on due course (Xu, Tang, and Guttman, 2019). Infect stockholders and
creditor are keen to invest their funds in those concerns which are having 2 or 3 times the
liquidity ratio because their funds are safe in those concerns. The following is the
calculations of liquidity ratios for 2016: -
Current Ratio: -
= (Current Assets/Current Liabilities)
=84349/37928
=2.22 times
Quick Ratio: -

= (Current Assets-Stock)/Current Liabilities
= (84349-28571)/37928
=1.47 times
Interpretation: From the above calculation it can be interpreted that organisation has
maintained enough liquidity to encounter their short term commitment which arise during
the financial year. Further it replicates that they are frequently making payment of creditor
on due time which surges their creditability.
Section 4
Recommendation
It is recommended that in order to improve financial position of business the establishment need
to repay their outstanding debt on due time so that financial performance improved in long run.
Further to increase profitability it is suggested that reclassify or rearrange operating expenses of
the organisation. This can be done by deferring payment of bigger expenses so that profits can be
divided evenly throughout the accounting year. To increase revenue, increase in price of
products and services is an only option to match the cost which is growing at faster rate. The
creditors and their credit period must be monitor intermittently so that it is beneficial for business
concern as it provides a better deal or larger credit period which helps in maintaining liquidity of
entity. Another important step, organisation can consider to find out idle assets or funds that can
be invested in financial market so that interest income will receive that will enhance organisation
profitability. By incorporating the above suggestion, company can withstand their business for a
long run and can maximise wealth for their investor and stakeholders that ultimately leads to
increase in value of the firm.
CONCLUSION
From the above mentioned report it can be resolved that financial management is an essential
part for sustainability of business enterprise for long run. Further it is important tool to make any
organisation profitable. This report specifies importance of financial management for an entity
and how finance supervisor can implement the same in business. It includes types of financial
statement and how ratios play a significant role in analysing the liquidity of an establishment.
Further this reports shows explanation regarding statement of financial performance, financial

position and cash flow statement. Ratio analysis is carried out in this report by way of liquidity,
profitability and efficiency ratios and their interpretation is made after considering preceding
years’ financial statement records.

REFERENCES
Books and Journals
Beaumont, P.H., 2019. Digital Finance: Big Data, Start-ups, and the Future of Financial
Services. Routledge.
Dewick, P., Bengtsson, M., and Schröder, P., 2020. Circular economy finance: Clear winner or
risky proposition? Journal of Industrial Ecology. 24(6). pp.1192-1200.
DeWitt, D. and Koh, E.H., 2020. Promoting knowledge management processes through an
interactive virtual wall in a postgraduate business finance course. Journal of Education
for Business. 95(4). pp.255-262.
Fedorova, E.P., 2020. Role of the State in the Resolution of Green Finance Development
Issues. Finansovyj žhurnal—Financial Journal. (4). pp.37-51.
Hernández-Julio, Y.F., Guerrero-Avendaño, A., and Bernal, W.N., 2020, June. Fuzzy knowledge
discovery and decision-making through clustering and Dynamic tables: Application in
Colombian Business Finance. In 2020 15th Iberian Conference on Information Systems
and Technologies (CISTI) (pp. 1-5). IEEE.
Ionescu, L., 2021. Corporate Environmental Performance, Climate Change Mitigation, and
Green Innovation Behavior in Sustainable Finance. Economics, Management, and
Financial Markets. 16(3). pp.94-106.
Katelouzou, D. and Klettner, A., 2020. Sustainable Finance and Stewardship: Unlocking
Stewardship's Sustainability Potential. An edited version of the paper will be published
as a chapter in Global Shareholder Stewardship: Complexities, Challenges and
Possibilities (Dionysia Katelouzou & Dan W. Puchniak eds, Cambridge University
Press, Forthcoming), European Corporate Governance Institute-Law Working Paper,
(521).
Xu, D., Tang, S. and Guttman, D., 2019. China's campaign-style Internet finance governance:
Causes, effects, and lessons learned for new information-based approaches to
governance. Computer Law & Security Review. 35(1). pp.3-14.

APPENDIX

The following is the working calculation of missing information shows as above: -

Current assets as % of current liability: -
=Current assets/current liability*100
=84349/37928*100
=222.3%
Increase in net profit in 2016: -
= (43057-18987)/18987*100
=126.8%
Increase in shareholders’ equity: -
= (83815-63057)
=20758
Quick Ratio: -
= (84349-28571)/37928
=1.47 times
Current ratio: -
=84349/37928
=2.22 Times