Financial Statement Analysis for Business

The assignment delves into the crucial role of financial statements in evaluating business performance and understanding various financing options available to businesses. It emphasizes analyzing financial data from statements like income statements, balance sheets, and cash flow statements to assess profitability, liquidity, solvency, and overall financial health. The focus also extends to examining different sources of finance, including debt and equity, and their implications for small and medium-sized enterprises (SMEs). Students will apply these concepts through case studies, demonstrating a practical understanding of financial analysis in real-world business scenarios.

MANAGING
FINANCIAL
RESOURCES AND
DECISIONS

Table of Contents
INTRODUCTION......................................................................................................................1
TASK 1......................................................................................................................................1
a) Preparation of cash budget................................................................................................1
b) Surplus or Deficit of cash budget .....................................................................................1
TASK 2......................................................................................................................................2
a) Calculation of selling prices and determining business profits ........................................2
1) Selling price per unit.........................................................................................................2
2) Profits at sales of 800 units...............................................................................................2
b) Selling price and profit determination...............................................................................3
1) Selling price per unit.........................................................................................................3
2) Profit at additional production of 400 units......................................................................3
TASK 3......................................................................................................................................3
a) Application of investment appraisal techniques................................................................3
b) Critical evaluation of financial appraisal methods and report to MD...............................5
TASK 4......................................................................................................................................6
a) Explain the purpose of main financial statements and their formats in different..............6
organizations .........................................................................................................................6
b) Assessing the information need of different users of the financial statements.................6
c) Calculation, comparison and analysing the financial ratio of Hotel and Beauty Salon...7
TASK 5......................................................................................................................................8
a) Finance sources, implication, cost and impact on financial statements............................8
1) Sources of finance.............................................................................................................8
2) Implication of financial sources........................................................................................8
3) Cost of financial sources...................................................................................................9
4) Impact on financial statements..........................................................................................9
5) Financial planning...........................................................................................................10
CONCLUSION .......................................................................................................................10
REFERENCES.........................................................................................................................11
Books and Journals .............................................................................................................11

Index of Tables
Table 1: Cash budget of Perry bar Window Product..................................................................1
Table 2: Total cost of the product..............................................................................................2
Table 3: Calculation of Profits at sales of 800 units...................................................................3
Table 4: Calculation of selling price per unit at additional production .....................................3
Table 5: Calculation of Profits at sales of 1200 units.................................................................3
Table 6: NPV of project A.........................................................................................................4
Table 7: NPV of project B..........................................................................................................4
Table 8: payback period of Project A.........................................................................................5
Table 9: payback period of Project B.........................................................................................5
Table 10: Computation of ratios for Hotel and Beauty Salon....................................................7

INTRODUCTION
Finance plays a crucial role in every business organization because without having
adequate funds, company will not be able to operate efficiently. Perry Barr window Ltd is
producing a range of quality doors and windows for customers and builders. In the present
market, demand for quality windows products has been increasing at exponential rate.
Therefore, company's MD decided to expand its production sites across various cities. This
expansion will contribute to high growth in sales, revenue and market share. In the present
report, various financial as well as managerial tools will be discussed for taking effective
business decision.
TASK 1
a) Preparation of cash budget
Cash budget: It is a summarized statement of predicted cash revenues and
expenditures for the future period (Kemp and et.al, 2015). As per the scenario, cash budget is
prepared here for Perry Bar windows product.
Table 1: Cash budget of Perry bar Window Product
Particular June July August September
Revenues
Cash sales 150000 156000 135000 190000
Total cash revenues 150000 156000 135000 190000
Expenditures
Cash purchases 55000 46000 86000 74000
Credit purchases 28000 36000
Rent 45000 45000
Other expenses 22000 24000 30000 38000
Loan instalment 9000 9000 9000
Total cash expenses 131000 79000 153000 193000
Net cash balance
(Surplus or Deficit) 19000 77000 -18000 -3000
Opening bank balance 18000 37000 114000 96000
Closing cash balance 37000 114000 96000 93000
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b) Surplus or Deficit of cash budget
Cash budget helps to estimate net cash balance by comparing total cash revenues and
expenses (Amoako and et.al, 2013). Excess of cash incomes over the expenses is called
surplus while lower the incomes than payments will imply deficit balance. As per the
scenario, Perry Bars cash budget indicate that in the month of June and July, company has
surplus cash balance,. It means that cash revenues are comparatively higher than cash
payments. In both the months, total cash incomes are 150000£ and 156000£ while payments
are 131000£ and 79000£. . However, in the subsequent months, budget posses deficit balance
of 18000£ and 3000£. It is because higher cash payments than incomes. In this months, cash
revenues are 135000£ and 19000£ while payments are 153000£ and 193000£ respectively. In
the month of August, the adverse net cash balance has been resulted due to lower the sales
and high purchases. Therefore, MD has to make efforts to enhance company's sales and
effective control over the expenses. On contrary, in the month of September, company
improve its sales and lower the cash purchases. However, due to increased credit purchase,
other expenses and rent payment get increased. Thus, it can be recommended that MD should
effectively control the business payments through regular monitoring. Further, previous
period surplus can be reinvested further to earn return on it provide assistance to to improve
business cash revenues and contribute to have favourable bqalance.
TASK 2
a) Calculation of selling prices and determining business profits
1) Selling price per unit
Fine Food Ltd. Produces Product A in their production plant in Kent. The cost per
unit of producing it is hereunder:
Table 2: Total cost of the product
Particular Amount
Variable cost 55£
Fixed cost 40£
Total cost 95£
Selling prices: It can be determined through adding an appropriate or required mark
up percentage to the cost (Neto, Bloemhof and Corbett, 2016.). As per the indicated business
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scenario, Fine Food Ltd. decided30% mark-up cost. Thus, selling prices is calculated here as
under:
Selling price per unit = Cost price per unit + Mark up percentage
= 95£ + (30% of 90£)
= 95£ + 28.5£
= 123.5£
Thus, company should decide its selling price per unit to 123.5£ for its customers.
2) Profits at sales of 800 units
Table 3: Calculation of Profits at sales of 800 units
Particular Calculation Total amount
Sales 800*123.5 98800
Less-variable cost 800*55 44000
Contribution (98800-44000) 54800
Fixed cost 40*800 32000
Profit (54800-32000) 22800
Fine Food Ltd will get earn profit of 22800£ at the sales of 800 units. Company
revcover its fixed cost of of 32000 at this sales volume.
b) Selling price and profit determination
1) Selling price per unit
Present scenario indicated that additional production after 800 units will not impose
any fixed cost. For instance, Fine Food Ltd produces 900 units then selling price can be
determined as follows:
Table 4: Calculation of selling price per unit at additional production
Variable cost 900*55 49500£
Fixed cost 800*40 32000£
Total cost 49500£+32000£ 81500£
Mark up percentage (30%) 81500£*30% 24450£
Required sales 81500£+24450£ 105950£
Selling price per unit 105950£/900 units 117.72£
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2) Profit at additional production of 400 units
Fine Food Ltd produces 400 additional units thus, total business production will be of
1200 units. Total profits are calculated here as under:
Table 5: Calculation of Profits at sales of 1200 units
Particular Calculation Total amount
Sales 1200*117.72 141264£
Less-variable cost 1200*55 66000£
Contribution (141264-66000) 75264£
Fixed cost 800*40 32000£
Profit (75264-32000) 43264£
TASK 3
a) Application of investment appraisal techniques
Net present value: This method assumes that money has time value hence, all the cash
flows are discounted using a discount factor. The excess of initial cash outlay over the
discounted cash inflow is known as NPV (Baum and Crosby, 2014). The selection criteria
says that investment project which have positive or high NPV will be preferred by the
organization and vice versa. As per the current scenario, UK Automobile Ltd is considering
two capital investment project which require initial investment of 260000£ and 320000£
respectively. The discounted factors also have been given for the period of five years. Thus,
NPV can be computed here as under:
Table 6: NPV of project A
Year Project A Discounted value
Discounted cash
flows
0 -260000 1 -260000
1 140000 0.87 121800
2 120000 0.76 90720
3 80000 0.66 52640
4 50000 0.57 28600
5 50000 0.5 24850
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Total 58610
Table 7: NPV of project B
Year Project B Discounted value
Discounted cash
flows
0 -320000 1 -320000
1 80000 0.87 69600
2 110000 0.756 83160
3 130000 0.658 85540
4 190000 0.572 108680
5 140000 0.497 69580
Total 96560
The NPV of both the projects A and B are 58610£ and 96560£ respectively.
Pay back period: It indicates the required time period that the project will take to get
its initial investment (Stevanović and Pucar, 2012). Lower the payback period is good for the
company while high pay back period will not be prefer by the organization,.
Table 8: payback period of Project A
Year Project A Cumulative cash flows
0 -260000 -260000
1 140000 -120000
2 120000 0
3 80000 80000
4 50000 130000
5 50000 180000
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Table 9: payback period of Project B
Year Project B Cumulative cash flows
0 -320000 -320000
1 80000 -240000
2 110000 -130000
3 130000 0
4 190000 190000
5 140000 330000
The payback period of both the projects A and B are 2 year and 3 year respectively.
b) Critical evaluation of financial appraisal methods and report to MD
To
Managing Director
UK Automobile Ltd
Date: 9th February, 2016
Two investment projects A and B are available to UK Automobile at an investment
of 260000£ and 320000£ but company can select only one of them. Investment appraisal
techniques is the best way to determine most viable project for the business. According to
the NPV method, project A and B have NPV of 58610£ and 96560£ respectively. On the
basis of NPV, it can be recommend to MD that the company should invest funds in project
B as it has high NPV than project A. The net present value is the most appropriate technique
that can be used to take effective investment decision. The most important benefit of NPV
method is that it considers the time value of money and help in making correct estimation
about future project yield. However, the success of the decision is based on decided cost of
capital appropriately. On contrary, payback period indicates simply the time period needed
by the project to get back their initial investment. Project A and B have payback period of 2
year and 3 year respectively. It is lower in case of project A implies that UK Auto-mobile
Ltd should invest their funds in this project. But decisions can not be made only on the basis
of pay back period because it ignores both the time value and post pay back profitability.
Therefore, it cannot be considered as a good method and do not analyse overall return from
the project. Thus, it can be advised that MD of UK Automobile company should invest their
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funds in project B because it will be more profitable for the company.
TASK 4
a) Explain the purpose of main financial statements and their formats in different
Organizations
Financial accounting is the process of recording all the business transaction in an
appropriate manner. It consists of preparing necessary statements to determine business
performance. Profitability account and balance sheet are two main statements which have
been prepared by every organization.
Profitability statement: Each and every enterprise do operating function with the aim
of getting maximum profits. Businesses earn incomes through selling its products into the
market and incurred necessary expenditures. Therefore, it became necessary for them to
determine their operational performance in terms of profits and losses as well. They prepare
profit and loss account to determine their operational results. According to the statement,
excess of incomes over the expenses will indicate profits and vice versa (Healy and Palepu,
2012). Small and medium sized enterprises such as sole trader prepare this statement
according to their convenience whereas large organization such as company prepares this
statement as per the legal requirement. They prepare the statement according to the
company’s act.
Financial position statement: Along with the profitability statement, organization also
prepare balance sheet. It is a summarized statement of companies’ assets and liabilities. The
main purpose of preparing this statement is to determine the financial position of the business
(Ormiston and Fraser, 2013). Fixed assets comprise of plant and machinery and land and
building while current assets include cash, inventory, debtors and accounts receivable. On
contrary, liability involves both the short term and long term liabilities such as overdraft,
debentures, bank loan and creditors. Moreover, the statement also helps to determine the
proportion of owners' share on total assets. Large scale organization such as companies
prepare balance sheet in the prescribed format by the company act (Fuchs and Colyvas,
2013). It is because of the legal obligations to publish their audited financial statements.
However, other SMEs do not require to follow any specific format they can prepare it as per
their convenience.
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b) Assessing the information need of different users of the financial statements
Every organization has variety of internal and external users who can make use of
financial statements for their own purpose. They need varied information need from each
other, described hereunder:
Owners: Corporation owner have an objective to maximize profitability and earn
good financial position. Therefore, they need information of overall business function and
analyse both the financial and operational performance (Xavier and et.al, 2015). Controlling
cost, enhancing sales and good financial health are their main objectives.
Debt holder: Lenders invest their own funds in the organization and take risk. Thus,
they need information regarding business profits, cash generating capacity, solvency position
and interest bearing ability and take effective decisions.
Creditors: Suppliers or creditors provide credit facility to the company henceforth,
they analyse liquidity position of the company (Zager and Zager, 2006). Good
creditworthiness company will be able to extent their credit period and attract large number
of creditors.
Government: They need information about profits in order to ensure their tax income.
Further, they analyse the operating functions to eliminate illegal activities. Government take
necessary decisions in developing industries and make economic development.
c) Calculation, comparison and analysing the financial ratio of Hotel and Beauty Salon
Table 10: Computation of ratios for Hotel and Beauty Salon
Ratio Formula
Hotel Beauty Salon
Calculation Result Calculation Results
Gross profit
ratio
Gross profit/Net
sales*100
(10400)/
40870*100 25.45
12430/26540*
100 46.84
Net profit
margin
Net profit/Net
sales*100
(5850)/
(40870)*100 14.31
(2950)/
(26540)*100 11.11
Current ratio
Current
assets/Current
liability (2510)/(1950) 1.29 (5070)/(2950) 1.72
Quick ratio
(Current assets-
stock)/(current
liability)
(2510-2420)/
1950 0.05
(5070-2370)/
(2950) 0.92
Gearing ratio (Debt/Equity) (2000)/(3000) 0.67 (3170)/(5500) 0.58
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1) Gross profit margin: Hotel's gross profit ratio is 25.45% while Beauty Salon is earning
gross profit of 46.84%. It is higher in case of Beauty Salon indicate that it is performing well
compare to Hotel.
2) Net profit margin: Hotel and Beauty Salon's net profit ratio are 14.31% and 11.11%
respectively. The ratio shows that Hotel's operational performance is quite good as compared
to Beauty Salon. It may be because of high operating expenses of Beauty Salon.
3) Current ratio: It indicates a relationship between current assets and current liabilities. It is
higher in case of Beauty salon to 1.72 shows that it havergood liquid availability in the
business. Thus, Salon is able to discharge their short term liabilities effectively.
4) Quick ratio: Inventory is a very liquid asset that can be converted into cash very quickly.
Beauty Salon has high quick ratio as 0.92 while hotel have only 0.05. Therefore, it can be
said that Beauty Salon is comparatively more able to pay off their short term obligations.
5) Gearing ratio: Hotel's debt equity ratio is 0.67 greater than Beauty Salon 0.58. It is
because hotel is using high debts of 2000£ which impose high financial risk to the company.
TASK 5
a) Finance sources, implication, cost and impact on financial statements
1) Sources of finance
An organization can collect funds from various sources for expanding its operations,
it has been described below:
Internal sources: This kind of sources is available inside the corporations. Retained
profits, disposing off the company assets and cash squeezing operations are the internal
sources. Organization can use their undistributed profits for expansion purpose, called
retained earnings (Peirson and et.al, 2014). Further, unused assets can be resale in the market
to collect required funds. In addition to it, cash squeezing operation means business should
negotiate their payments and receive promptly from the debtors. By doing this, companies
will be able to have more cash availability and fulfil their financial need.
External sources: Bank borrowings, issuing share capital and overdraft are the
external sources. Bank provides loans for different time duration helps to accomplish
organizational financial need to a great extent(Khan, 2015). Further, company can issue
equity and preference shares and gather funds in the form of share capital. On contrary,
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overdraft is a credit facility provided by the bank. Bank allows the organization to withdraw
some extent amount than the available account balance.
2) Implication of financial sources
Ploughing back of company's profits at excessive rate may create dissatisfaction
among the employees. They can demand high dividend from the businesses. However,
company managers are required to make necessary efforts for disposing off of assets. It
includes attorney fees and expenses to remove assets from the factory (Romani and Stern,
2013). Another, in case of making delayed payments to creditors; it might be possible that
supplier do not provide credit in the future period and that affect operations adversely.
On the amount of loan, companies are legally obliged to pay timely instalment. Thus,
it impose financial burden on the business. Moreover, organization has to provide collateral
security against the loans (Růčková, 2015). However, the benefit of using bank loan is that it
does not diversify the entrepreneurs control to lenders. Further, interest is a deductible
expenses for tax calculation thus, it reduces company's tax obligation. Another, business have
to pay dividend to the shareholders and dilute the business control to the shareholders in the
way of voting rights (Van Auken, 2015). On contrary, overdraft imposes high interest
obligations to the firms. Moreover, it is available to a limited extent henceforth, cannot be
used as a long term source.
3) Cost of financial sources
Retained earnings impose opportunity cost to the business, it refers to the loss of
profits which can be earn through investing it in any alternative purpose. However,
disposable of assets impose cost of attorney charges, permits and handling charges for
removing assets from the production plant. The cost of borrowing involves interest
obligations to the company. Thus, excessive borrowings may impose high financial risk to
the company. Moreover, in case of any defaults in payments, bank has legal right to discharge
business security for receiving the loan amount (Managing Financial Resources and
Decisions, n.d.). It creates negative impact to the corporate image. On contrary, the cost of
share capital includes the dividend payments. Furthermore, diluted voting rights to the
shareholders results in control diversification. In addition to it, the cost of overdraft
comprises high interest obligations to the corporations. Moreover, regular overdraft reported
in the balance sheet impact business image in an adverse direction.
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4) Impact on financial statements
The amount of used retained earnings will be shows in the statement of changes in
retained earnings. Further, disposable of company's assets will decline the fixed assets and
enhance cash balance. However, the payments will be shows in the profit and loss account.
Hence, it reduces the profitability. Further, creditors’ payments and receipt from debtors will
shows in the current assets and liabilities. Payment to suppliers will reduce cash while receipt
from debtors will improve it.
Under the external sources, interest payments will be shown in profit and loss account
as expenditures. This in turn, profits will be reduced. Moreover, it affects the company's
financial position because borrowing will be presented in the liability side and improves cash
balance (Akhtar, 2015). However, share capital will be shown on liability side as equity and
in assets side it will enhance cash availability. Furthermore, dividend payments will be shows
in profit and loss account as expenses and reduce business profits. On contrary to it,
overdraft will be shows as short term liability and increase cash while interest on overdraft
will be shown in profit and loss account and lowering the business profitability.
5) Financial planning
Organization's CFO plays a major role in constructing financial plan for the business.
Deciding the financial goals and making strategic business plans to achieve these targets is
known as financial planning. Initially, it helps to determine funds requirement and identify
various available finance sources. It provides huge assistance to collect funds at minimum
cost. Further, budgetary system is also a part of financial planning. Through forecasting the
probable incomes and expenses, company can manage operational functions through
reducing cost and maximize incomes. Thus, it helps in making optimum allocation of
resources and administrate funds effectively (Danes, Rodriguez and Brewton, 2013). Further,
it assists to have surplus cash availability and assist managers to run operations successfully.
It reduces uncertainties and ensures long term survival of the business. This in turn,
companies will be able to make business development.
CONCLUSION
The present report concluded that budgetary tools are a very important instrument that
helps to manage business operations effectively. However, investment appraisal techniques
such as NPV and payback period are the methods through which company can determine the
most viable project and maximize their profitability. Furthermore, ratio analysis is a
technique that helps in making comparative analysis of the business performance. In addition,
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this report explained the available finance sources, implication and their cost to the business.
This analysis greatly helps to identify the most appropriate funding sources and mitigate
financial need of the companies.
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REFERENCES
Books and Journals
Akhtar, J., 2015. A comparative study of institutional sources of industrial finance in India.
Amoako, K.O. And et.al., 2013. Cash Budgetan Imperative Element of Effective Financial
Management. Canadian Social Science. 9(5). p. 188.
Baum, A.E. and Crosby, N., 2014. Property investment appraisal. John Wiley & Sons.
Danes, S.M., Rodriguez, M.C. and Brewton, K.E., 2013. Learning context when studying
financial planning in high schools: Nesting of student, teacher, and classroom
characteristics. Journal of Financial Counseling and Planning. 24(2). p. 20.
Fuchs, C.D. and Colyvas, A., 2013. Improving financial statements quality prior to
submission for audit. IMFO: Official Journal of the Institute of Municipal Finance
Officers, 14(2). pp.10-11.
Healy, P. and Palepu, K., 2012. Business Analysis Valuation: Using Financial Statements.
Cengage Learning.
Kemp, A. And et.al., 2015. The Usefulness of Cash Budgets in Micro, Very Small and Small
Retail Enterprises Operating in the Cape Metropolis. Expert Journal of Business and
Management. 3(1). pp. 1-12.
Khan, M.M., 2015. Sources of finance available for sme sector in Pakistan. International
Letters of Social and Humanistic Sciences (ILSHS). 6. pp. 184-194.
Neto, J.Q.F., Bloemhof, J. and Corbett, C., 2016. Market prices of remanufactured, used and
new items: Evidence from eBay. International Journal of Production Economics. 171.
pp. 371-380.
Ormiston, A. and Fraser, L.M., 2013. Understanding financial statements. Pearson
Education.
Peirson, G., Brown, R., Easton, S. and Howard, P., 2014. Business finance. McGraw-Hill
Education Australia.
Romani, M. and Stern, N., 2013. Sources of finance for climate action: principles and options
for implementation mechanisms in this decade. International climate finance. pp. 117-
134.
Růčková, P., 2015. Dependency of return on equity and use finance sources in building
companies in V4 countries.
Stevanović, S. and Pucar, M., 2012. Investment appraisal of a small, grid-connected
photovoltaic plant under the Serbian feed-in tariff framework. Renewable and
Sustainable Energy Reviews. 16(3). pp. 1673-1682.
Van Auken, H., 2015. The familiarity of small technology-based business owners with
sources of capital: Impact of location and capitalization. Journal of Small Business
Strategy. 11(2). pp. 33-47.
Xavier, A. and et.al., 2015. Management of Mediterranean forests—A compromise
programming approach considering different stakeholders and different objectives.
Online
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