Financial Statements Elements and Financial Statement Analysis

This document provides an in-depth analysis of financial statements elements and financial statement analysis. It covers topics such as financial ratios, income and revenue, and comparing balance sheets. The analysis is based on the case of Big Bang Private Limited. The document includes calculations, explanations, and recommendations for each topic.

Running head: FINANCIAL STATEMENTS ELEMENTS AND FINANCIAL STATEMENT
ANALYSIS
Financial Statements Elements and Financial Statement Analysis
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1FINANCIAL STATEMENTS ELEMENTS AND FINANCIAL STATEMENT ANALYSIS
Table of Contents
Part A: Financial Ratios and Financial Statement Analysis..............................................2
Requirement a:...............................................................................................................2
Requirement b:...............................................................................................................3
Part B: Income and Revenue............................................................................................3
Part C: Comparing Balance Sheet....................................................................................4
Requirement a:...............................................................................................................4
Requirement b:...............................................................................................................4
Requirement c:...............................................................................................................4
References:........................................................................................................................5

2FINANCIAL STATEMENTS ELEMENTS AND FINANCIAL STATEMENT ANALYSIS
Part A: Financial Ratios and Financial Statement Analysis
Requirement a:
Current ratio: It is a liquidity ratio that aids in gauging the ability of an organisation to
settle its short-term dues falling within a year. It provides an idea to the analysts and
investors the way an organisation could increase its current assets on the statement of
financial position for fulfilling its short-term debt as well as other payables (Berk and
DeMarzo 2016).
Quick ratio: Quick ratio is a liquidity ratio, which refines the current ratio through
measurement of the level of most liquid assets present to cover short-term dues. It is
more conservative compared to current ratio due to the exclusion of inventory as well as
other current assets that are more difficult to be converted into cash (Brigham et al.
2016).
Accounts receivable turnover: This ratio is used to compute the effectiveness of an
organisation in terms of collecting debts and extending credits. It could be computed by
dividing net credit sales by average accounts receivable and it is typically computed
annually (DeFusco et al. 2015).
Inventory turnover: Inventory turnover ratio could be defined as an efficiency ratio,
which gauges the way through which inventory is managed effectively. It could be used
for ascertaining whether the inventory level is in excess compared to sales.
The detailed calculations of these ratios for Big Bang Private Limited for the
years 2018 and 2019 are represented in the form of a table as follows:

3FINANCIAL STATEMENTS ELEMENTS AND FINANCIAL STATEMENT ANALYSIS
Requirement b:
Short-term solvency analysis:
In accordance with the above table, even though there is decline in current ratio
from 2.74 in 2018 to 2.08 in 2019, it is well above the ideal benchmark of 2 and thus, it
is satisfactory. However, the more stringent liquidity ratio is lower than the ideal
standard of 1. In case of Big Bang Private Limited, the ratio is observed to decline
further to 0.84 in 2019 from 0.89 in 2018. This denotes less than satisfactory position for
the organisation. In other words, the organisation would fail to settle its short-term
obligations at short notice. Hence, the overall short-term solvency position is not
satisfactory for Big Bang Private Limited.
Efficiency analysis:
The asset management efficiency is indicated by accounts receivable turnover
and inventory turnover in opposition to the norms of the organisation or the industrial
benchmarks (Loughran and McDonald 2016). In terms of receivable turnover days, the
number is seen to be higher compared to the credit period of 30 days allowed by the
organisation to the customers. However, in 2019, considerable improvement could be
observed owing to decline in the same from 51 days in 2018 to 38 days in 2019. On the
other hand, the inventory turnover of Big Bang Private Limited is significantly high in
contrast to the industrial benchmark of 101 days, even though it has declined from 2014
days in 2018 to 176 days in 2019. This implies that the organisation has made over-
investment in inventory, which has resulted in increased financing and expense related
to stocking additional inventory. Thus, it has not adopted sound inventory management
policy and immediate action is required. The high inventory turnover in days clearly
implies the reason behind the high current ratio and lower quick ratio.
Part B: Income and Revenue
Based on the provided information, it could be stated that Green Apple Limited is
involved in selling anti-virus software and certain financial events took place during the
year. The sale of software could be classified as revenue, since its main business is to
engage in the sale of the particular software. The renewal of anti-virus policies could be
identified as main income, since maximum of the organisation would be earned from
this activity only (Maaloul and Zéghal 2015). The investment made in the short-term
money market could be categorised in the form of income, as the organisation has
received $50,000 in the form of interest. Therefore, this could not be classified in the
form of income or revenue; instead, it needs to be categorised in the form of cash
outflow.
The shares issued further for $500,000 is the cash inflow, which is not the
pertinent item, since the funds are exchanged only in this case. The main reason to
issue shares is with reference to cash. The revenue items are categorised out of which
a profit is arrived or the issues are deemed to have active relationship with the
organisation (Nobes 2014). Therefore, they are considered in the form of operating
profits. The revenue from operations for Green Apple Limited is computed as follows:

4FINANCIAL STATEMENTS ELEMENTS AND FINANCIAL STATEMENT ANALYSIS
Part C: Comparing Balance Sheet
Requirement a:
From the perspective of a banker, XYZ Company would be chosen to provide
loan amount of $6,000, which is to be repaid within six months. After thorough analysis
of the balance sheet statements of both ABC Company and XYZ Company, it could be
stated that XYZ is a cash rich organisation and thus, its liquidity position would be
strong in contrast to the other organisation (Robinson et al. 2015). Even after settling its
current obligations, XYZ Company would have adequate liquid assets on hand, which
could be used for loan repayment. On the other hand, the liquidity position of ABC
Company is not strong and it lacks funds to settle its short-term obligations and
therefore, it has to sell its non-current assets for business survival. As a result, from the
viewpoint of a banker, the organisation having lower risk would be preferred, which is
XYZ Company in this case.
Requirement b:
From the perspective of a businessperson, higher price could be paid for XYZ
Company, since it has lower short-term dues than the ABC Company and the liquidity
position is quite strong for business survival (Wang 2014). Moreover, since ABC
Company is found to be on crisis and if lower price is offered to the organisation, it
would have to take into account the proposal for business survival.
Requirement c:
In case; the current owners take the accountability for all existing liabilities, ABC
Company could be preferred over XYZ Company owing to the fact that it has more non-
current assets and net assets in comparison with the ABC Company.

5FINANCIAL STATEMENTS ELEMENTS AND FINANCIAL STATEMENT ANALYSIS
References:
Berk, J. and DeMarzo, P., 2016. Corporate Finance, GE. Pearson Australia Pty Limited.
Brigham, E.F., Ehrhardt, M.C., Nason, R.R. and Gessaroli, J., 2016. Financial
Managment: Theory And Practice, Canadian Edition. Nelson Education.
DeFusco, R.A., McLeavey, D.W., Pinto, J.E., Anson, M.J. and Runkle, D.E.,
2015. Quantitative investment analysis. John Wiley & Sons.
Loughran, T. and McDonald, B., 2016. Textual analysis in accounting and finance: A
survey. Journal of Accounting Research, 54(4), pp.1187-1230.
Maaloul, A. and Zéghal, D., 2015. Financial statement informativeness and intellectual
capital disclosure: An empirical analysis. Journal of Financial Reporting and
Accounting, 13(1), pp.66-90.
Nobes, C., 2014. International classification of financial reporting. Routledge.
Robinson, T.R., Henry, E., Pirie, W.L. and Broihahn, M.A., 2015. International financial
statement analysis. John Wiley & Sons.
Wang, C., 2014. Accounting standards harmonization and financial statement
comparability: Evidence from transnational information transfer. Journal of Accounting
Research, 52(4), pp.955-992.