Financial Management Analysis and Limitations

This report discusses the concept of financial management, its significance, and various methods used to analyze and make decisions. The Net Present Value (NPV) method is explained, along with its limitations, including sensitivity to discount rates and inability to determine project size. The importance of financial management in reducing debt and increasing profit is highlighted, as well as its role in risk reduction through forecasting consumer demand.

Financial Management

Table of Contents
INTRODUCTION...........................................................................................................................1
TASK ..............................................................................................................................................1
A)............................................................................................................................................1
B)............................................................................................................................................9
c. Recommendations regarding improvement of the financial performance poorly performing
business.................................................................................................................................10
d. limitations of relying on financial ratios to interpret firm performance...........................11
limitations of using investment appraisal techniques to aid long-term decision-making....11
CONCLUSION..............................................................................................................................12
REFERENCES..............................................................................................................................14

INTRODUCTION
Interpretation of the financial statement is important in order to know overall
performance of a company. With the help of this, company can make an effective decisions.
However, this can be said that the financial manager is able to make long term strategy which
would be helpful for achieving sustainable development (Brigham and Houston, 2012).
However, this has been seen that the company can make their tools in an effective manner so that
they can make their tools so effective manner. Under this report, this is observed that by
analysing the annual reports of the JD sports fashions plc and sport direct international plc.
financial manager of the Madhouse Retail Ltd is able to make decisions so that the sustainability
can be achieved.
TASK
A).
Financial statements of sport direct international plc:
Income Statement 2015 2016
Fiscal Year Ends 26/04/15 24/04/16
Turnover 2832.56 2904.3
Expenses 2536.98 2681.1
EBITDA 373.36 412.7
EBIT 297.71 317.1
Operating Profit
(reported) 295.58 223.2
Operating Profit
(adjusted) 290.5 168.2
Investment Income 13.02 154.3
Extra-ordinary Items 5.08 55
Net Interest 9.7 -11.9
Profit before tax 313.45 361.8
Tax 72.09 82.8
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Profit after tax 241.35 279
2015 2016
Fiscal Year
Ends 26/04/15 24/04/16
Assets
Non Current Assets
Intangible 255.36 208.6
Tangible 422.74 585.9
Investments 38.13 16.6
Other 179.15 237.3
Total 895.39 1048.4
Current Assets
Inventory 517.05 702.2
Debtors 162.21 186.4
Cash and
cash
equivalent 199.03 422.9
Total 878.3 1311.5
Held for
Disposal 0 0
Total Assets 1773.68 2359.9
Liabilities and Equity
Liabilities
Current 382.62 540.7
Non-Current 229.51 434.5
Total 612.13 975.2
Equity
Share Capital 938.36 938.4
Reserves 226 448
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Shareholders
Funds 1164.36 1386.4
Minorities -2.81 -1.7
Total 1161.55 1384.7
Total
Liabilities
and Equity 1773.68 2359.9
Net
Borrowings 31.22 99.7
Financial statements of JD sports fashion plc:
Income
Statement 2015 2016
Fiscal Year
Ends 31/01/15 30/01/16
Turnover 1522.25 1821.65
Expenses 1429.61 1688.25
EBITDA 146.26 206.11
EBIT 101.02 157.33
Operating
Profit
(reported) 92.65 133.41
Operating
Profit
(adjusted) 102.31 160.33
Investment
Income -0.54 -7.28
Exceptional
Items -7.03 -26.92
Net Interest -2.15 -1.78
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Pre-tax
Profit 90.5 131.63
Tax 20.74 31
Net Profit 69.76 100.63
Minority
Interests 1.29 3
Profit For
Financial
Year 52.68 97.63
Ordinary
Dividends 13.26 13.82
Non Equity
Dividends 0 0
Retained
Profit 39.42 83.81
Balance sheet of JD sport fashion plc:
2015 2016
Fiscal Year
Ends 31/01/15 30/01/16
Assets
Non Current Assets
Intangible 101.08 73.61
Tangible 147.93 173.32
Investments 0 0
Other 32.4 33.67
Total 281.41 280.6
Current Assets
Stock 225.02 238.32
Debtors 53.92 56.38
Cash and 121.32 216
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Securities
Total 400.26 510.7
Held for
Disposal 0 0
Total Assets 681.67 791.3
Liabilities and Equity
Liabilities
Current 326.75 348.15
Non-
Current 44.93 42.32
Total 371.68 390.47
Equity
Share
Capital 14.09 14.09
Reserves 282.4 368.33
Shareholde
rs Funds 296.49 382.42
Minorities 13.5 18.41
Total 309.99 400.83
Total
Liabilities
and Equity 681.67 791.3
Net
Borrowings -84.23 -209.42
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Ratios plays an important role for analysing the financial information. However, under
this report, this has been observed that various ratios are used in order to make an effective
decisions regarding investments. However, this is the most effective tool for evaluating the
financial performance of the firm (Higgins, 2012). There are certain ratios which are calculated
on the basis of the financial statements. Some of them are mentioned hereunder:
Current Ratio: This is the ratio which is used by the financial analysts in order to know
about the company's liabilities are able to pay by using the current assets of the company. It is
known the ideal ratio of the company is 2:1 which reflects the current assets should be twice of
the current liabilities. This is calculated by using the under mentioned formula:
Current assets/ current liabilities.
Current ratio of sport direct international plc:
2015 2016
Current Ratio Current Ratio
878.3/382.62=2.3 1311.5/ 540.7=2.43
Current Ratio of JD sports fashion plc:
2015 2016
400.26/326.75=1.22 510.7/ 348.15=1.47
From the above mentioned report, this is observed that the company can use its ratios,
there is a need to make certain strategy in order to make these tools in an effective manner.
However, this can be said that the sport direct international plc's Current ratio in 2015 is 2.3
which has been increased to 2.43 in the year 2016. which reflects the great sign form the firm
and it also reflects the firm is performing well (Chandra, 2011).
While on the other hand, the Current ratio of the JD sports fashion plc in 2015 was 1.22
which has been increased to the 1.47. which indicates a good sign.
If we compare the firm performance on the basis of current ratio, then it is evaluating that
the both companies are performing well and in 2016 they were having almost same current ratio.
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Quick ratio: This is the most effective tool by which firm capabilities can be recognised
for paying their current liabilities. This is the ratio under which financial manager would get to
know that the firm viability to pay their current liabilities by using their liquid assets.
This is calculated by using: Liquid assets/ current liabilities. The ideal ratio is assuming to be
1:1. both of the companies quick ratio is calculated hereunder:
Quick ratio of sport direct international plc:
2015 2016
361.24/382.62=0.944 609.3/540.7=1.12
Quick ratio of JD sport fashion plc:
2015 2016
175.24/326.75=0.53 272.38/348.15=0.78
From the above cited calculation, this is observed that the company can use this tool so
that the company can make decisions effectively. Quick ratio of sport direct international plc in
2015 was 0.944 which was increased to 1.12 in the year of 2016..
While on the other hand, this quick ratio of the JD sport fashion plc in 2015 is 0.53 which was
raised to 0.78 in the year 2016 (Madura, 2011).
From the above mentioned quick ratio of two companies, this has been observed that the
sport direct international plc is having higher quick ratio as compare to the JD sport fashion plc.
This reflects that the sport direct international plc is more efficient to pay their current liabilities
than JD sport fashion plc:
Gross profit margin: This is the tool which is used by the firm in order to know the
gross profits earned by the firm. This is calculated by divided gross profits by net sales.
Gross profit margin of JD sport fashion plc:
2015 2016
144.26/1522.25*100=9.60% 206.11/1821.65*100=11.31%
Gross profit margin of sport direct international plc:
2015 2016
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373.36/2832.56*100=13.18 412.7/2904.3*100=14.21
From the above written gross profit ratio, this is observed that the JD sports fashion plc
current ratio is calculated in 2015 is 9.60% which is increased to 11.31% in the year of 2016.
while sport direct international plc is having 13.18% in 2015 which was raised to the 14.21 in the
year 2016. which reflects the good sign for the firm performance.
Net profit ratio: Net profit ratio is the ratio which is calculated by using the formula: Net
sales/net profit after tax*100. With the help of this, firm can know about the net profit ratio.
Net profits ratio of JD sport fashion plc:
2015 2016
4.58 5.52
Net profit ratio of sport direct international plc:
2015 2016
241.35/2832.56*100=8.52% 279/2904.3=9.60%
From the above mentioned calculation, this is observed that the net profit ratio of the sport direct
plc is greater than JD sport fashion plc. Which represents higher than the others (Faccio, 2010).
Gearing ratio: This refers to the fundamental analysis ratio of an organisation's level of
long term debt compared to its equity capital. With the help of this, company can get to know
about its long term debts and its equity (Petty and et. al., 2015).
Gearing ratio of JD sport fashion plc:
2015 2016
-28.41 -54.76
Gearing ratio of Sport direct fashion plc:
2015 2016
2.68 7.19
From the above mentioned calculation, this is rightly stated that the sport direct fashion
plc have strong outcome which indicated its inefficiency. While JD sport fashion plc reflecting
the negative results which shows its efficiency and have enough amount of net cash. This simply
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means that the cash is more than its debts. From this gearing calculation, this reflects that the JD
sport fashion plc company is having enough cash to pay its long term debts which reflects the
great sign of the firm as compare to the sport direct fashion plc (Molina and Preve, 2012).
Earnings per share: This is crucial tool for measuring profitability of the company. This
is calculated by dividing organisation's net income with its total number of outstanding shares.
Earnings per share of JD sport fashion plc:
2015 2016
4.14 59.43
Earnings per share of sport direct international plc:
2015 2016
34.47 -4.42
From the above mentioned calculation, this is observed that in 2015, the sport direct
international plc had good EPS than JD sport fashion plc. But, in 2016, JD sport fashion plc EPS
was unexpected and it pays £59.43. while this was higher than the sport direct international plc.
Return on capital employed: This ratio is used by the firm to measures the firm's
profitability and the effectiveness with which its capital is employed . ROCE is measured as:
Profit Before Interest and Tax/ Capital Employed.
Return on capital employed of JD sport fashion plc:
2015 2016
41.3 47.91
Return on capital employed of sport direct international plc:
2015 2016
27.73 19.54
In this calculation, this is observed that the ROCE of JD sport fashion plc in 2015 was
41.3 which has been increased to almost 1.5 times higher than the sport direct fashion plc.
However, this has been observed that in the year 2016, Sport direct fashion plc went reduced and
come to 19.54. however, on the other hand, JD sport fashion plc gain return on capital employed
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in an effective manner. Which reflects that JD sport fashion plc is much higher than sport direct
international plc.
Average inventory turnover ratio: This reflects an efficiency ratio which measures the
number of times per period as an organisation offers and replaces its entire batch of stocks. This
is the ratio of cost of goods sold by a firm during an accounting period to the average stocks of a
firm at the period (Lins, Servaes and Tamayo, 2011). This helps the company to manage its
inventory in an effective manner. This is calculated by using: cost of goods sold/ Average
Inventories.
Cost of goods sold= Opening Inventories +Cost of goods manufactured-closing inventories.
Dividend pay out ratio: This is the ratio which reflects the dividend payment on per share.
However, this is the most important tool which is used by JD sport fashion plc and sport direct
international plc which reflects an effective tool that can be used by both of the cited
organisation in an effective manner.
B)
The financial performance can be used by analysing the financial statements of the firm.
this is the most effective tool that can be used by an investor in order to take investment
decisions in an effective manner (Parker, 2012). however, this can be seen that the company can
use its effectiveness in an efficient manner.
To evaluation of the performance of companies financial statement, ratios and their
balance sheet are used. This helps in collection of information in actual figures which depicts the
financial performance and their investment capability.
Sports direct international Plc
This is the largest sports goods retailer in UK. This company has more than 670 stores
worldwide which deals in diversified products, brands, fitness products and fashion goods. From
the financial statement of company it is observed that profit of company after tax in 2015 is $
241.35 million and in 2016 it is increased to $279 million. This shows that company is doing
good and it financial performance is increases with effective rate.
JD sports fashion plc
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This is also sports company which operate their business activities in UK, Ireland, France
(Dew and Xiao, 2011). This company has more than 800 stores in which 200 can be acquired
after 2002. This shows that it is the growing company which has great position in market. The
financial statements of company shows that in 2015 company earns the profit of $ 39.42 million
and in 2016 company earns $ 83.81 million. This shows that company is growing financially
with very fast growing rate.
Comparison of the financial statements of both companies
To identify the financial performance of the both the companies required to compare their
financial statements, rations and balance sheets which shows their profits and assets which are
posses by both companies. From the comparison it is easily observed that which company is
doing better.
To compare the performance of both the companies the figures of 2016 are compared
which are mentioned below:
Basis Sports direct international
Plc
JD sports fashion plc
Profit $279 million $ 83.81 million
Assets $2359 million $791.3 million
Net profit ratio 9.60% 5.52%
From, the above comparison of the figures of profit, assets and net profit ratio of 2016, it
is observed that financial performance of Sports direct international Plc is much better in
comparison of the JD sports fashion Plc. As the profit making ability of Sports direct
international Plc is three times from JD sports fashion Plc (Michalski, 2013).
c. Recommendations regarding improvement of the financial performance poorly performing
business
There are many tools and techniques are used to improve the financial performance of
poorly performing companies. These tools which can be used by the management of
improvement of financial performance of poor performing company are define below:
 To improve the financial performance of poorly performing company needs to follow the
strategic decisions taken by the top management. This helps in improvement of the
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motivation and social well being because that can not be substituted through their
machineries and functions. As this is the important factor which helps in improving the
financial performance of company.
 It is important for manager to critical evaluate their financial statements, as this helps in
collection the information which helps in the preparation of budgets which are working
as standard and guides employees in performance of their functions.
 Key performance indicators are such indicators which are fix by the management of
company which are required to achieve by employees through their functions. Such
indicators are also helps in the appraisal of the performance of employees as per such
indicators and provide solutions.
d. limitations of relying on financial ratios to interpret firm performance
Financial ratios are used by the companies regarding measurement of the financial
performance and identification of the financial resources which are available to them. These
ratios can be mainly used to provide the information regarding profitability and direction of the
wealth of company (Loh, 2010). But they have many limitations which restrict such ratios
regarding interpretation of the actual performance of companies. Sports Direct International Plc
and JD Sports Fashion Plc both faced many limitation regarding determination and interpretation
of the performance of their companies with the helps of such financial rations. The limitations
which are faced by the management of both the companies are define below:
 All the financial ratios are based on the financial statements and it is true that financial
statements have some deficiencies and approximation which never shows the actual
value. This means that the financial ratios also not depicts the actual results. This will
have the major disadvantage that doesn't helps the management in interpretation of their
actual performance of company.
 The major inherent problems which is faced regarding use of financial ratios is
comparison of the performance of company with other companies. As different methods
are used by the company in calculation of their ratios which effects comparison process.
 The major problem which is faced with the financial ratios that they are based on book
value which are historical cost. This will not reflect current reality of the different assets
of company. So, such ratios presenting the performance of company on the basis of
historical cost and in actual wealth of company is too low (Moutinho, 2011).
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 Financial ratios are based on the financial statements of company and doest not provide
all the important information regarding company. This will have effects on the decisions
making of the shareholders as they not getting the information regarding how business is
doing in actual.
limitations of using investment appraisal techniques to aid long-term decision-making
There are many investment appraisal techniques are used by company which helps the
management regarding long term decision making. These techniques also contributes in
determination of viability of the different investments and identification of the project which is
most profitable. The techniques which are used by the company in appraisal of their investments
are pay back period, Net Present Value and Internal rate of return. This provides the opportunity
to company to effectively evaluate their investment options and choose the best one. There are
many limitation which are faced by the company while using these methods. Limitations of such
different techniques are define below:
Pay back period: This technique helps in calculation of the time period which is
required to earn back the amount which is invested in such project. The major assumption of this
approach is that the cash should be received and accrued within the year (Dudin and et. al.,
2014). There are many limitations of such techniques which restrict the management in decision
making are define below:
 The major limitation of this technique is not consider time value money and not adjusting
the cash flows.
 Another limitation which is faced on the application of such method on investment
appraisal is under this method cash flows after payback period are not considered.
 Under this method, only consideration is given to the time period in which their initial
investment is recovered and there is not consideration is given on the length of
investments. This methods affect the ability of the management of company regarding
long term decision about their investment.
Net present value: This is the another method which is used by the management of
company regarding appraisal of the investments which are made by the company. NPV means
the present value of future cash flows minus cost. Under this method, amount received later is
less valuable in comparison to the amount which is received today. The limitation of this method
are define below:
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 This method doesn't helps the management of company in determination of the size of
project. This will affect the decision making power of manager of company.
 The another major limitation of the NPV is its sensitivity regarding different discount
rates. Only small increase and decrease in the such discount rates have major impact on
the results and outputs.
CONCLUSION
From the above report it can be concluded that financial management is related to
managing, recording and analysing financial statements. It consist of different ledgers, ratios,
Profit or loss account. The importance of financial management has increased because it assist
companies in reducing their debt and increase their profit by managing financial accounts in
proper manner. Problems relating to fulfilling needs of accounting standards can get resolved by
having effective financial management. Along with this, it supports in reducing risk by
forecasting consumer demand.
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