Financial Statement Analysis for Handles Plus: Insights and Recommendations

The report provides insights about the financial performance of Handles Plus, a sole proprietorship firm engaged in selling door handles in East Tamaki, Auckland. Financial analysis is carried out using ratio analysis and recommendations are made to improve financial health.

Running Head: Financial Statement Analysis
Financial Management

Financial Statement Analysis 1
Introduction:
The basic objective of this report is to provide insights about the financial performance of
Handles Plus which is a sole proprietorship firm. The firm is engaged in the business of
selling door handles in East Tamaki, Auckland. Financial analysis of Handles Plus is carried
using the key technique of financial management, Ratio analysis. As a part of ratio analysis
various ratios in relation to entity’s financial statements for the years 2016, 2017 and 2018
are calculated and the results of firm’s financial ratios are compared with the industry ratios
so as to determine the financial position of Handle Plus’s business in the market. Financial
performance has been analysed using different aspects such as profitability position, financial
stability and asset utilisation efficiency. On the basis of the financial results derived from the
use of ratio analysis tool various recommendations have been made to improve the financial
health in the subsequent periods of the business so as to enable it to achieve the competitive
edge in the market.
Financial analysis:
Part a
A financial analysis can be undertaken on both inter-firm and intra-firm basis. Under inter-
firm basis the financial results of the firm are compared with its competitor’s results or with
the average results of all the firms operating within the same or similar industry. However, in
intra-firm’s financial analysis, the financial results achieved in one period by the firm are
compared with that of other year’s results so as to assess whether the financial performance
of the business has improved or degraded over the last few years.
Part b: Analysis of profitability of the business:
2016 2017 2018 Industr

Financial Statement Analysis 2
y
Gross Profit Margin Gross Profit / Sales 60.50% 61.73% 68.00% 65%
Net profit Margin EBIT/ Sales 0.53% 14.34% 28.89% 20.68%
Return on equity Net profit after/Average
shareholder's equity -1.79% 10.93% 46.16% 38.98%
The profitability business of the firm is achieved when it has sufficient amount of earnings
left after meeting all the business expenses and costs. The profitability of the business can be
analysed using various ratios such as gross profit ratio, net profit ratio and the return on
equity (Penman & Penman, 2007). The gross profit ratio of the firm is showing an increasing
trend since 2016 till 2018. The reason for the increase in the gross margin of the business of
Handle Plus is its increasing sales. In 2018, the firm has also beaten the industry average and
hence its profitability position in terms of gross profit margin can be said as sound. Further,
with the increasing market share the net margin of the business of Handles Plus is also
improving. In 2016, the net losses were reported as result of normal business operations of
the firm. However, the net margin ratio has improved significantly in the subsequent periods
i.e. 2017 and 2018. The increasing trend in the net profit margin reflects the improving
profitability state of the business and as a result of this Handles Plus has even outperformed
the average industry performance. The return on equity ratio shows the quantum of profits
earned by the firm for its shareholders. It reflects the returns offered to the shareholders in
consideration of the investments made by them in the firm to provide it required financial
assistance (Zimmerman & Yahya-Zadeh, 2011). The ROE has continuously improved over
the last three financial years and also Handles Plus has crossed the average industry
benchmarks.
Part c: Analysis of financial stability position of business:

Financial Statement Analysis 3
2016 2017 2018
Indust
ry
Current ratio or working
capital ratio
Current Assets/Current
Liabilities 2.81 1.51 1.25 1.8
Quick ratio or acid test ratio
Quick Assets/Current
Liabilities 2.19 1.03 0.85 1.1
Equity Ratio
Shareholder's Equity/ Total
Assets
79.39
%
68.12
%
51.78
%
58.30
%
However since the repayment of mortgage is due in 2019, it will also be included in the
current liabilities of the business while calculating current and quick ratios.
201
6
201
7
201
8
Industr
y
Current ratio or working capital
ratio
Current Assets/Current
Liabilities
2.8
1
1.5
1
0.8
3 1.8
Quick ratio or acid test ratio
Quick Assets/Current
Liabilities
2.1
9
1.0
3
0.5
6 1.1
The stability position of business is achieved when it has sufficient current assets and other
assets to meet its normal business financial obligations. To assess the stability of business of
Handle Plus various ratios such as current ratio, quick ratio and equity ratio have been
calculated for the last three financial years. Current ratio measures the firm’s ability to meet
its current financial obligations by merely utilising its current assets without requiring
disposing off its fixed assets. Current obligations are those obligations which are due for the

Financial Statement Analysis 4
payment within the next one year. The ideal current ratio is generally considered at 2:1
(Higgins, 2012). In 2016, the business of Handle Plus enjoyed strong liquidity position but
after that the liquidity position of the business has declined and in 2018 the firm could not
even meet the average industry standards. Although the balance of current assets has
increased over the last 3 years but at the same time the balance of current liabilities has also
increased significantly which has tightened the liquidity position of the business of Handle
Plus. Further, the results of quick ratio show that there is lack of such currents assets in the
business which can easily be convertible into cash as and when required to meet the current
liabilities. The liquidity position of business was satisfactory till 2017 but after that the firm is
facing high instability in terms of its liquidity state. The equity ratio is the good indicator of
financial leverage faced by the business (Huang, et. al., 2004). It shows the quantum of total
assets that are financed using the equity sources as against the debt financing. The equity
ratio of Handle Plus had continuously declined over the last three financial years. This
indicates that the firm is facing more financial risk in the years that are ahead of 2016.
Part d: Analysis of asset utilisation efficiency:
2016 2017 2018 Industry
Inventory
turnover ratio COGS/ Average Inventory Ratio 9.29 7.13 4.40 6
365/Inventory Turnover Ratio (Days) 39.27
51.1
9 82.93 60.83
Debtor’s
turnover ratio Sales/ Average Accounts Receivable 5.56 7.69 6.49 8
365/Receivables Turnover Ratio (Days) 65.7 47.4 56.27 45.63

Financial Statement Analysis 5
5
The inventory turnover ratio shows the number of days taken by the business to convert its
inventory into sales (Higgins, 2012). There is an increasing trend in the inventory turnover
period over the last 3 reported years. The increasing number of days of inventory turnover
shows that Handle Plus is inefficiently managing their inventory holding which is resulting in
prolonged duration of conversion of inventory into sales. In 2016 and 2017, the firm could
meet the average industry benchmarks in respect of inventory turnover but in 2018, it could
not even meet the industry targets. Further, Debtor turnover ratio in days measures the time
taken by business to turn down its trade receivables to the cash. The receivable turnover is
fluctuating over the last 3 years but it was always higher than the average industry ratio in
this respect. It clearly reflects that firm is not maintaining its cash cycle properly (Foster,
2004).
Recommendations:
 Handle plus must improve its working capital management practices by making
further investments in current assets to meet the short term financial obligations of the
business.
 It must design such trade credit policies which could encourage the trade customers of
the business to pay-off for the purchases made from the firm.
 Further, the inventory management practices must be improved by implementing Just
in Time technique so as to control the cost of inventory holdings.
 The proportion of debt must be reduced from the capital structure of the company so
as to reduce the risk of financial insolvency of the business.
Conclusion:

Financial Statement Analysis 6
The above report can be concluded with the main points that Handle Plus has sound
profitability position but it does not have strong financial stability in the market because of
liquidity crunch and also it can be said that the firm is not managing its assets efficiently
which is resulting in disturbed cash cycle for its business.
Apart from ratio analysis, the other advanced techniques of management accounting have
such as variance analysis and customer profitability analysis also been used to assess the
financial performance of the business.
Requirement 2: Preparation of Budgets
Budgeted
Amount in
$
Sales 656250
Cost of Goods Sold 251125
Gross Profit 405125
Selling Expenses
Sales Bonus and
Delivery 24500
Advertisement 65625 90125
Administration
Expenses
Wages and others 183862.125
Insurance 14000
197862.12
5
Financial Expenses
Bad Debts 16800
Interest 19268 36068
Profit 81069.875
Requirement 3: Variance analysis:
Part a and b
Amount in $

Financial Statement Analysis 7
Budgete
d Actual
Varianc
es
Varianc
es as a
percent
age
Sales 656250
84000
0 183750 F
Cost of
Goods
Sold 251125
26880
0 17675 U 28%
Gross
Profit
40512
5 571200 166075 7.04% 41%
Selling
Expenses
Sales
Bonus and
Delivery 24500 29400 4900 U
Advertise
ment 65625 90125 70000 99400 4375 9275 U 20.00% 10%
6.67%
Administr
ation
Expenses
Wages and
others
183862.
125
16476
3
-
19099.
1 F
Insurance 14000
19786
2.125 14000 178763 0 -19099.1
-
10.39%
-
9.65%
0.00%
Financial
Expenses
Bad Debts 16800 50400 33600 U
Interest 19268 36068 28088 78488 8820 42420 U
200.00
%
117.6
1%
45.78%
Profit
81069.
875 214549 133479.1 F
164.6
5%
Workings:
Results Calculations
Cost of Goods Sold % 38.27% 200900/525000
Sales bonus and
delivery % 3.73% 19600/525000
Wages and others
Fixed 81716.5 163433*50%

Financial Statement Analysis 8
Variable 15.57% 81716.5/525000
Variable portion 102145.625 656250*15.57%
Total Wages 183862.125
81716.5+102145.6
3
Part c
The variance analysis has shown that the actual performance of the business and its budgeted
performance did not match and there are some instances where positive (favorable) variations
are reported but in certain areas, negative variances (unfavorable) are reported. When the
actual cost of the business exceeds the budgeted cost, then negative variances are reported but
when the lesser cost is actually incurred than the budgeted cost then favorable variances are
reported. The situation is vice-versa in case of profits or incomes of business. The two major
areas where investigation is required are:
 Bad debts: As there is no increase in the bad debts even with the increase in sales.
 Interest: As the financing cost of the business did not increase with the widened
business operations and increased debt structure of business.
Requirement 4: CVP Analysis
Part a: Categorization of expenses
Variable Sales Bonus and Delivery
Advertisement
Fixed Interest
Insurance
Bad Debts
Semi Variable Wages and others

Financial Statement Analysis 9
Part b:
Total Variable Expenses Expenses Total
Cost of goods sold 251125
Sales Bonus and
Delivery 24500
Advertisement 65625
Wages and others 102145.6 443395.6
Total Fixed Expenses
Interest 19268
Insurance 14000
Bad Debts 16800
Wages and others 81716.5 131784.5
Part c: Breakeven Point Determination
Sales 656250
Less: Variable Cost 443395.6
Contribution Margin 212854.4
Less: Fixed Cost 131784.5
Profit 81069.9
Contribution per unit Total Contribution/Number of units 26.61
Contribution Margin Contribution /Sales 32.43%
BEP( UNITS)
Total Fixed Cost/Contribution per
unit 4953
BEP ($)
Total Fixed Cost/Contribution
Margin 406303.97
Part d:
Number of Units to be
sold Total Fixed Cost + Desired Profit 331784.5
Contribution per unit 26.61
Units to be sold 12470

Financial Statement Analysis 10

Financial Statement Analysis 11
References
Foster, G. (2004). Financial Statement Analysis, 2/e. Pearson Education India.
Higgins, R. C. (2012). Analysis for financial management. McGraw-Hill/Irwin.
Horngren, C. T., Bhimani, A., Datar, S. M., Foster, G., & Horngren, C. T.
(2002). Management and cost accounting. Harlow: Financial Times/Prentice
Hall.
Huang, Z., Chen, H., Hsu, C. J., Chen, W. H., & Wu, S. (2004). Credit rating analysis with
support vector machines and neural networks: a market comparative
study. Decision support systems, 37(4), 543-558.
Penman, S. H., & Penman, S. H. (2007). Financial statement analysis and security
valuation (p. 476). New York: McGraw-Hill.
Schmidgall, R. S., & DeFranco, A. L. (2004). Ratio analysis: Financial benchmarks for the
club industry. The Journal of Hospitality Financial Management, 12(1), 1-14.
Zimmerman, J. L., & Yahya-Zadeh, M. (2011). Accounting for decision making and
control. Issues in Accounting Education, 26(1), 258-259.

Financial Statement Analysis 12
Appendix
2016 2017 2018
Gross Profit
Margin
Gross Profit / Sales
60.50% 61.73% 68.00%
211750/350000
324100/52500
0 571200/840000
Net profit
Margin
EBIT/ Sales
0.53% 14.34% 28.89%
(-10500+12338)/
350000
(56000+19268)
/525000
(214550+28088)/
840000
Return on
equity
Net profit /Average
shareholder's equity -1.79% 10.93% 46.16%
2016 2017 2018
Current
ratio or
working
capital ratio
Current Assets/Current
Liabilities 2.81 1.51 0.83
78750/28000 122850/81200
258300/
(206850+105000)
Quick
ratio or acid
test ratio
Quick Assets/Current
Liabilities 2.19 1.03 0.56
(78750-17500)/
28000
(122850-
38850)/81200
(258300-83300)/
(206850+105000)
Equity Ratio
Shareholder's Equity/
Total Assets 79.39% 68.12% 51.78%
546000/687750
491400/72135
0 438200/846300
2016 2017 2018
Inventory
turnover
ratio
COGS/ Average
Inventory Ratio 9.29 7.13 4.40
138250/
((12250+17500)*0.
5)
200900/
((17500+38850
)*0.5)
268800/
((38850+83300)*0
.5)
365/Inventory
Turnover Ratio 39.27 51.19 82.93
365/39.27 365/51.18 365/82.93
Debtor’s
turnover
ratio
Sales/ Average
Accounts Receivable 5.56 7.69 6.49
350000/
((73500+52500)*0.
5)
525000/
((52500+84000
)*0.5)
840000/
((175000+84000)*
0.5)

Financial Statement Analysis 13
365/Receivables
Turnover Ratio 65.7 47.45 56.27
365/65.7 365/47.45 365/56.27