Financial Analysis and Recommendations for Hardwood Ltd.

This assignment analyzes the financial performance of Hardwood Ltd. over two years, using various financial ratios such as return on capital employed (ROCE), operating profit ratio, gross profit ratio, operating assets turnover ratio, current ratio, quick ratio, and gearing ratio. The results show that ROCE decreased in 2014 compared to 2013, indicating a need for the company to frame competent strategies to improve its profit margin. Operating profit ratio exceeded the industry average in 2013 but decreased slightly in 2014. Gross profit ratio was higher than the industry average, reflecting sound policies and strategies. Operating assets turnover ratio was near the industry average, indicating optimal use of assets. Current ratio aligned with the industry average, showing sufficient liquidity to meet financial obligations. Quick ratio exceeded the ideal ratio in 2014, suggesting investment opportunities. Stock days were more than the industry average, indicating a need to improve sales. Gearing ratio was higher than the industry average, suggesting reducing dependence on debt for financing. The conclusion is that Hardwood Ltd. should consider taking out a bank loan to fulfill financial needs and invest in machine B.

Managing Financial Resources &
Decision making

Table of Contents
INTRODUCTION...........................................................................................................................1
TASK 1............................................................................................................................................1
1.1 Sources of finance which are available to Hardwood Ltd................................................1
1.2 Assessing the implication of identified sources of finance..............................................2
1.3 Recommending the appropriate source of finance...........................................................2
TASK 2............................................................................................................................................2
2.1 Analysis of the costs of different sources of finance........................................................2
2.2 Stating the importance of financial planning to Hardwood Ltd.......................................3
2.3 Assessment of the information need of the different decision makers.............................3
2.4 Stating the impact of finance upon the financial statement of an organization................4
TASK 3............................................................................................................................................4
3.1 Preparation and analysis of the cash budget of hardwood Ltd.........................................4
3.2 Calculating the unit cost of the furniture and make pricing decisions.............................5
3.3 Assessment of the viability of the project through investment appraisal techniques.......6
TASK 4............................................................................................................................................8
4.1 Purpose, structure and main sections of the financial statements of the company...........8
4.2 Comparison of the format of financial statements for different types of business...........9
4.3 Interpreting the financial statements of Hardwood Ltd..................................................10
CONCLUSION..............................................................................................................................11
REFERENCES..............................................................................................................................11

INTRODUCTION
Finance is the essential element of business upon which is required to implement the
policies and strategies of an organization. Finance manager of the company make effective
financial plan which facilitates optimum utilization of the financial resources to the large extent
(Brown and Petersen, 2011). By managing financial resources company is able to attain success
in the competitive business environment. This project report is based upon Hardwood Ltd who
produces or offers furniture to the retail sector or private home. The present report will discuss
the various sources of finance which Hardwood need to undertake to expand their business
operations. Besides this, it also develops understanding about the investment appraisal
techniques. This project report will provide information about the financial health and
performance of the company by undertaking ratio analysis.
TASK 1
1.1 Sources of finance which are available to Hardwood Ltd
There are several sources of finance which are available to Hardwood Ltd such as bank
loan, leasing, issuance of equity share and debentures. By undertaking such sources of finance
Hardwood Ltd. is able to expand their business operations and functions more effectively.
Various sources of finance which are available to Hardwood Ltd. are as follows:
 Bank loan: It is the more suitable source which will help Hardwood ltd in meeting their
financial needs. Company can easily meet their financial needs by approaching bank for
loan on the basis of financial security. Through this, company can also get the tax
benefits and increase their profit margin.
 Leasing: Leasing is another important source of finance which provides opportunity to
organization to make use of machinery and other asset without making huge investment
(Chavis, Klapper and Love, 2011). For this, organization requires to pay periodical rent
to the real owner of the asset and return the asset after the definite time period.
 Issuance of equity shares: Hardwood ltd can also raise their finance by issuing equity
shares to existing and potential shareholders. In this case, organization have to pay
dividend to their shareholders which imposes financial cost in front of the company
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1.2 Assessing the implication of identified sources of finance
Different sources of finance have different implications which affect the financial decisions
of an organization.
 Bank loan: In bank loan, financial institution has legal right to cease the assets of
Hardwood if they make default in the repayment of loan and interest amount. Besides
this, Hardwood ltd needs to pay interest for the financial assistance. It is considered as
expense for the company and there affects the gross profit margin of an organization.
 Leasing: If Hardwood ltd. takes resort of leasing to meet their financial needs then they
require returning the asset to its real owner after the predetermined time period. Besides
this, Hardwood ltd needs to pay rent for making use of asset (Drivelos and Georgiou,
2012). This aspect shows that leasing also imposes financial implication in front of the
company.
 Issuance of shares: As per the legal aspects company requires to pay dividend to their
shareholders to build and maintain faith of the investors. Along with it, dividend aspect
impose financial cost in front of the company because it squeezing the profit aspect of the
firm.
1.3 Recommending the appropriate source of finance
On the basis of the availability of sources of finance and their implications it is
recommended to Hardwood ltd that they needs to undertake bank loan to meet their financial
requirements. Usually, banks are always ready to give loan on the basis of collateral security. In
addition to this, bank charges appropriate interest rate as compared to the other financial
institutions (Guerrero, Maas and Hogland, 2013). Thus, by approaching bank for the loan
Hardwood ltd. can expand their business operations and functions. Through bank loan Hardwood
ltd can limits the interference of the shareholders in decision making aspect. Thus, bank loan is
the more appropriate source of finance which helps in achieving their goals and objectives.
TASK 2
2.1 Analysis of the costs of different sources of finance
Different sources of finance impose different cost in front of Hardwood ltd which is
enumerated below:
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 Bank loan: If Hardwood ltd. approaches bank for the loan then they have to pay
periodical interest to bank along with the installment. This aspect shows that bank loan
imposes high financial cost in front of the organization.
 Leasing: In leasing Hardwood ltd. is required to pay rent in return of making use of the
assets for the predetermined time period. Leasing also imposes financial cost in front of
the organization.
 Issuance of equity shares: If Hardwood ltd takes decision in relation to the issuance of the
equity shares then they have to incur both financial and opportunity cost. In the case of
shares organization needs to pay dividend to their shareholders which impose financial
cost in front of the company. Besides this, if company issue shares to meet their financial
needs then interference of shareholders are also increases in the decision making aspect
of an organization (Guest, 2011). It is the opportunity cost for the company because
inference of shareholders closely affects the business operations and functions of an
organization.
2.2 Stating the importance of financial planning to Hardwood Ltd
Financial planning facilitates optimum utilization of the financial resources to the large
extent. It provides assistance to Hardwood ltd in evolving coordination between the different
departments of an organization such as manufacturing sales etc. As per the cited scenario
Hardwood ltd. wishes to expand their business operations and functions. In this, financial
planning helps them in achieving success in the competitive business arena (Herman, 2011). By
making plan company can easily assess the expenses which they requires to incur in the
expansion of business. In addition to this, it also helps company in assessing the cash which are
available within an organization and how much they need to gather from the different sources of
finance. Thus, financial plan make vital contribution in the organizational growth and
development.
2.3 Assessment of the information need of the different decision makers
Different decision makers such as manager, shareholders, employees and financial
institution require different information which is as follows: Manager: Manger of an organization makes analysis of the financial statements of an
organization. It provides deeper insight to an organization about the effectiveness of the
policies which are implemented by them. By analyzing the financial health and
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performance manager is able to undertake effective measures which helps them in
achieving organizational goals and objectives. Shareholders: Dividend decision of an organization is highly dependent upon the
financial health and performance of them. Thus, shareholders undertake ratio analysis
before making any investment decisions.
 Financial institution: Financial institutions make assessment of income and cash flow
statement of Hardwood ltd. Through this, they are assess the liquidity or solvency aspects
of an organization (Lin and Sun, 2006). It helps them in understand the ability of the firm
they are able to repay the amount of loan within the suitable time frame (7 Users of
Financial Statements & their Information Needs under IFRS, 2015).
2.4 Stating the impact of finance upon the financial statement of an organization
Financial decision closely affects the financial statements of an organization. For
instance: Hardwood ltd takes loan of £60000 to expand their business operations and functions.
In this situation, cash element of the balance sheet will increase by £60000. Besides this, bank
loan is the liability of the organizations it will also be recorded in the liabilities side of the
balance sheet. Along with it, Hardwood ltd. also has to pay periodical interest for the financial
assistance which is provided by bank. It also imposes cost in front of the organization and
recorded in the debit side of the income statements (Love, Preve and Sarria-Allende, 2007).
Thus, it also place impact upon the gross profitability margin of the company.
TASK 3
3.1 Preparation and analysis of the cash budget of hardwood Ltd
Cash budget of hardwood ltd.
Particulars April May June July August September
Opening
balance 15000 140000 184000 227000 -446000 -420000
Sales 270000 270000 270000 270000 270000 275000
Total income 285000 410000 454000 497000 -176000 -145000
Purchase 80000 80000 95000 95000 100000
Labor 85000 85000 85000 85000 85000 85000
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Other
variable
expenses 25000 26000 27000 28000 29000 30000
Fixed
expenses 35000 35000 35000 35000 35000 35000
Machine
purchase 700000
Expenditures 145000 226000 227000 943000 244000 250000
Closing
balance 140000 184000 227000 -446000 -420000 -395000
Cash budget provides information about the income which organization will generate
over the period of time. In addition to this, it also entails the expenses which organization has
made to produce the desired level of output (Maxymuk, 2000). Above mentioned cash budget
shows that cash outflow of Hardwood ltd. is higher as compared to their inflow. One of the main
causes behind the less inflow is that sales of an organization are not increasing. It shows
consistent trend in their performance. Besides this, from the month of April to July total income
of the company is increasing. Nevertheless, in the month of August and September inflow of an
organization shows deficit in their performance. In addition to this, expenses of the company
shows increasing trend in their performance. It also the main cause of deficit balances in the cash
aspect of an organization. Thus, Hardwood ltd requires framing competent strategies and policies
to improve their cash or liquidity aspects.
3.2 Calculating the unit cost of the furniture and make pricing decisions
Calculation of unit cost
Particulars April May June July August September
Other
variable
expenses 25000 26000 27000 28000 29000 30000
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Fixed
expenses 35000 35000 35000 35000 35000 35000
Machine
purchase 116666.6 116666.6 116666.6 116666.6 116666.6 116666.6
Total 176666.6 177666.6 178666.6 179666.6 180666.6 181666.6
Total cost (From April to September) =
176666.6+177666.6+178666.6+179666.6+180666.6+181666.6
= 1075000
Budgeted units or production units= 10000
Unit cost= Total cost/number of units produced
= 1075000/1000
= £107.5 per unit cost
As per the above calculation Hardwood ltd. have to incur £107.5 to produce 10000 units.
Price refers to the summation of the cost and profit percentage. By adding the fixed percentage
of profit which Hardwood ltd wants to earn in cost of the product company can determine the
price of the furniture.
Price= Cost +Profit
3.3 Assessment of the viability of the project through investment appraisal techniques
Investment appraisal technique may be defined as a tool which helps organization in
assessing the viability of the project (Nicholson and Aman, 2012). It includes payback period,
net present value, internal rate of return and accounting return.
Calculation of NPV and IRR
Year Machine A PV @10%
Discounted
cash flow
for project
A (£) Machine B PV @10%
Discounted
cash flow
for project
B (£)
1 900 0.91 818.1 200 0.909 181.8
2 800 0.83 660.8 300 0.826 247.8
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3 600 0.75 450.6 700 0.751 525.7
4 100 0.68 68.3 850 0.683 580.6
5 50 0.62 31 950 0.62 589
Total 2028.8 2124.85
Initial investment 2000 2000
NPV (Total discounted cash flow –
initial investment) 28.8 124.85
Internal
rate of
return 10.84% 11.92%
On the basis of the above calculation it has been assessed that Hardwood Ltd needs to
make investment in Machine B. As machine B gives higher return to the company as 124.85 as
compared to machine B which gives only £28.8. In addition to this, internal rate of return is also
high in machine B rather than machine A. Thus, Hardwood Ltd should make investment in
Machine B which proves to be more profitable for them.
Calculation of ARR
Year Project A
Cumulative cash
flow for project
A Project B
Cumulative cash
flow for project
B
Initial Investment 2000 2000
1 900 900 200 200
2 800 1700 300 500
3 600 2300 700 1200
4 100 2400 850 2050
5 50 2450 950 3000
Total 2450 3000
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Average 490 600
ARR 24.5 30
As per the above calculation it has been analyzed that machine B will give higher average
return to Hardwood Ltd as compared to machine B. On the basis of this aspect, machine B is
more viable for the company in relation to the investment purpose.
Payback period:
Payback period for machine A: 2+ 300/600
= 2+ .5
= 2.5 years
Payback period for machine B: 3+ 800/850
= 3+ .94
= 3.94 years
On the basis of the above calculation if Hardwood ltd. makes investment in Machine A
then they will take 2 years and 5 months to recover their initial investment. On other hand,
machine B requires 3 years and 9 months to retrieve their investment. After such period company
is able to attain profit from such investment. Thus, Hardwood ltd. should make investment in
machine A rather than machine B. Nevertheless, net present value and returns are high in
machine B. On the basis of this aspect Hardwood ltd needs to make investment in machine B and
thereby enjoys the high profit margin.
TASK 4
4.1 Purpose, structure and main sections of the financial statements of the company
Financial statements consist of income statement, cash flow statement and balance sheet
which provide deeper insight to the organization about their financial performance. Purpose,
structure and main sections of financial statements are enumerated below:
 Income statement: One of the main purposes of the preparation of financial statement is
to assess the income and expenditures of an organization. By getting such information
Hardwood ltd is able to identify the areas of expenses upon which they require to exert
control. Through this, company is able to improve their profitability aspects. In addition
to this, income aspect helps organization in evaluating the effectiveness of their financial
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strategies and policies (Obst, Graham and Christie, 2007). Income statement has two
parts such as income and expenditures. Income side includes interest received, dividend
received etc. Whereas expenditure side contains salaries, office and other miscellaneous
expenses.
 Cash flow statement: Each organization prepares cash flow statement with the aim to
assess the inflow and outflow of their cash related activities. Cash flow statement
provides deeper insight to the company about their operating, financing and investing
activities. Through this, company can easily make further investment or financial
decisions.
 Balance sheet: The main purpose behind the preparation of balance sheet is to assess the
financial obligations and assets which are available within an organization. Through this,
organization and other stakeholders are able to evaluate the financial health and
performance of an organization. Balance sheet has two sides such as asset and liabilities
(Ogayar and Vidal, 2009). Asset side includes cash, bank, debtors and fixed assets such
as furniture, machinery etc. Besides this, liabilities side includes share capital, reserves,
creditors etc.
4.2 Comparison of the format of financial statements for different types of business
Different business organization prepares different financial statements to assess their
financial position and performance which are enumerated below:
 Public and private limited company: Public and private limited companies prepare cash
flow and income statement as well as balance sheet of an organization (Maditinos and
et.al., 2011). As per the laws and legislation public limited organization is also required
to publish their financial statements to the general public at large.
 Partnership firm: partnership firm prepares all the financial statements which are formed
by public and private limited organization (Larkin, 2011). Along with such statements,
partnership firm also prepare partner's capital account which contains information
regarding the activities of the partners.
 Sole proprietorship firm: Sole proprietorship firms are highly concerned with the profit or
loss which is generated by them during the accounting year. Thus, they only prepare
income statement to assess the effectiveness of the business operations and functions.
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4.3 Interpreting the financial statements of Hardwood Ltd.
Ratio analysis may be served as a technique which provides deeper insight to an
organization about their liquidity or solvency aspects.
Ratio analysis of Hardwood ltd. is enumerated below:
Ratios 2013 2014 Industry standards
ROCE 14.29% 7.61% 35.00%
Operating profit
ratio 14.63% 12.81% 13.60%
Gross profit ratio 49.42% 45.83% 40.00%
Operating assets
turnover ratio 6.78 9.36 1.5
Current ratio 1.65 1.98 2
Quick ratio 0.70 1.10 1.5
stock days 108.66 113.12 75
Debtor days 471.98 630.45 30
Gearing ratio 2.85 3.20 1
 Return on capital employed: It states the return which firm will get by investing their
money. In 2013 ROCE of Hardwood ltd is 14.29% whereas it is 7.61% in the period of
2014. It is lower than then industry average so organization needs to frame competent
strategies and policies which help them in improving their profit margin.
 Operating profit ratio: This ratio represents the profit which is available to the company
after paying all variable cost (Mathis and Jackson, 2011). In 2013 operating profit ratio
exceeds the industry average which proves to be more profitable for the organization.
Whereas in 2014 it decreased with the small percentage. On the basis of this aspect,
company needs to follow the strategies which they adopted in 2013. It proves to be more
beneficial for the enterprise.
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 Gross profit ratio: As per the above analysis gross profit ratio of an organization is higher
than the industry average. This aspect clearly states that policies and strategies of an
organization sound.
 Operating assets turnover ratio: It represents the firm's ability in making use of their
assets in generating to generate more revenue. Operating asset turnover ratio of
Hardwood Ltd. is very near to the industry average. This aspect clearly reflects that
company has made optimum use of their asset to generate high revenue.
 Current ratio: Current ratio of an organization aligned with the industry average. It shows
that company have sufficient amount of current assets to meet their financial obligation.
On the basis of this aspect, it can be stated that liquidity performance of Hardwood ltd. is
very sound.
 Quick ratio: In 2013, quick ratio of an organization is close to the industry average but in
2014 it exceeds the ideal ratio. Thus, organization needs to make investment their money
in the other profitable project which proves to be more beneficial for them.
 Stock days: In 2013 and 2014 stock days of an organization is more than the industry
average. It represents that company fails to sell their furniture as fast as other companies
who are operate in the similar industries.
 Gearing ratio: It shows that debt of the enterprise is increasing relative to the share
capital. Gearing ratio of an organization is higher than the industry average. Thus,
organization is required to reduce their dependency upon debt aspect for financing their
business operations and functions.
CONCLUSION
From this project report it has been concluded that Hardwood Ltd. needs to undertake
bank loan to fulfill their financial needs for expansion. Besides this, it can be concluded that
Hardwood ltd. should make investment in machine B which proves to more fruitful for the
organization. Further, it can be inferred that financial health and performance of Hardwood ltd is
very sound.
REFERENCES
Books and Journals
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