Exploring Financial Statements

The provided content is a collection of resources on elementary probability theory with stochastic processes and an introduction to mathematical finance. It includes various academic papers, textbooks, and online sources that discuss topics such as corporate finance, managed competition in healthcare, personal finance, financial markets, public finance, Islamic finance, misallocation, wages and human capital, fire sales, and public-private partnerships. The content also includes figures related to income statements, balance sheets, and cash flow statements of different types of businesses, including a company and sole trader.

MANAGING FINANCIAL
RESOURCES AND DECISIONS

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................3
TASK 1............................................................................................................................................3
1.1 Sources of finance available to the business firms................................................................3
1.2 Implications of sources of finance.........................................................................................4
1.3 Appropriate source of finance...............................................................................................6
TASK 2............................................................................................................................................7
2.1 Cost of two sources of finance...............................................................................................7
2.2 Importance of financial planning for Clariton.......................................................................7
2.3 Information needs of decision makers...................................................................................8
2.4 Impact of finance on the financial statements.......................................................................9
TASK 3..........................................................................................................................................10
3.1 Cash budget for the firm......................................................................................................10
3.2 Unit cost calculation............................................................................................................11
3.3 Project evaluation method...................................................................................................12
TASK 4..........................................................................................................................................13
4.1 Financial statements of the firms.........................................................................................13
4.2 Format of financial statements.............................................................................................14
...................................................................................................................................................16
174.3 Ratio analysis...................................................................................................................23
CONCLUSION..............................................................................................................................26
REFERNECES..............................................................................................................................................27
Figure 1Cash budget for the Clariton............................................................................................11
Figure 2Calculation of per unit cost..............................................................................................12
Figure 3Income statement of the company....................................................................................16
Figure 4 Balance sheet of the company.........................................................................................17
Figure 5Cash flow statement of the company...............................................................................18

Figure 6 Income statement of sole trader......................................................................................19
Figure 7Balance sheet of sole trader..............................................................................................21
Figure 8Cash flow statement of sole trader...................................................................................22
Figure 9Income statement of partnership......................................................................................23
Figure 10Balance sheet of the partnership.....................................................................................24
Figure 11Profitability and liquidity ratios.....................................................................................25
Figure 12Solvency ratios...............................................................................................................25
Figure 13Effecinecy ratios.............................................................................................................26

INTRODUCTION
Finance is the one of the important resource that any firm required in its business. There are
many things that are related to the finance and need to be taken in to consideration in order to run
business smoothly. In the current study, varied finance sources are explained and implications of
same are discussed. Budget is prepared and comments are made on same. Along with this,
financial planning is also done and its importance is discussed in detail. At end of the study,
project evaluation method is applied on cash flows and performance of the firm is evaluated by
using ratio analysis method. Comments are made on the firm performance.
TASK 1
1.1 Sources of finance available to the business firms
Business operations at large and small scale are performed by the business firms and in
order to execute same at ground level lots of amount is required. It is usually observed that
business firm does not have sufficient amount of cash in its business and due to this reason the
firm requires fund time to time (Philippon and Reshef, 2012). Some sources of finance which are
often used by the unincorporated and incorporated business firms are as follows.
Unincorporated business
Those business organizations which are operated by the sole trader and partners are
included in category of unincorporated business. Sources of finance that comes under
unincorporated business are as follows.
 Venture capital: Unincorporated business often use venture capital as a source of finance
when they need huge amount of fund to finance large size projects which will accelerate
firm growth rate. In order to raise capital through mentioned source of finance, business
firm is required to enter in the contract with VC Company. As per contract, VC firm will
make investment in the specific sequence up to certain amount in different intervals. VC
firm in order to make decisions take peculiar interest in the firm cash flows which are
related to the current year and efficiency level of the management (Yescombe,, 2011).
Through venture capital, large size projects regular funding is ensured by the firm.
 Bank loan: There is no company in the world which does not have debt in its balance
sheet. This is because; every time the firm cannot fund its business project through
equity. If same will be done then there will be danger of imbalance in the capital structure

and fast growth in the finance cost. Hence, to meet short and long term finance needs,
organization regularly finances their projects through bank loan.
 Lease: It is another source of finance that is used by the unincorporated business firms.
Under this, Clariton take asset on lease from the owner of property. Sometimes, business
firm does not have sufficient amount of money in its business (Hyman, 2014). Thus, in
order to meet finance requirement, organization takes asset on lease and abstain from
making heavy amount of capital expenditure in the business.
 Retained earnings: It is a portion of sales revenue that remains after deducting all sorts
of cash outflows from the cash inflow amount. This source of finance is used by the firm
at the large scale.
Incorporated business
Incorporated business refers to the company which is a separate entity from its owners.
Sources of finance for incorporated business are given below.
 Shares: Equity is issued by the firms that can issue shares through the stock exchange.
Those firms who want to issue shares sign paper with stock exchange and bring their IPO
in the market. Contact is established with the underwriter and in case offer remain
unsubscribed then in that case underwriter purchase the firm’s shares. Thus, it is ensured
that specific amount will be raised in each and every condition through IPO.
 Debentures: Debentures are the long term source of finance which is issued by the firm
to obtain funds from the varied sort of investors. Under debenture, company guarantees
payment of certain amount of interest in the specific duration (Shreve, 2012). Thus, those
who wants to earn regular income make investment in the debentures.
1.2 Implications of sources of finance
Finance
implications
Legal
implications
Dilution of
control
Bankruptcy

Venture capital If Clariton is
raising fund
through relevant
source of finance
then it will need
to pay heavy
amount of cost.
VC finance is the
dearer source for
the Clariton.
In VC it is
mandatory to
allow members
of relevant firm
to participate in
the Board
meeting which is
conducted on
quarterly basis in
the business firm
(Iqbal and
Mirakhor, 2011).
Control is
reduced with
addition of new
shareholders in
the business
firm.
If firm gets
bankrupt then
payment is made
to the creditors
and then to
shareholders.
Bank loan Bank loan is
available at
stationary and
non-stationary
rate. In case of
both, it is
mandatory to
make payment to
creditors on time.
In case of
default, creditors
can sue Clariton
for non-paying
debt amount to
them.
Control remain
unchanged.
Same of venture
capital.
Lease Rent amount is
paid to the lessor.
Amount of rent
depends on the
terms of contract.
Mandatory to
pay rent amount
to the lessor on
time.
Control remain
unchanged.
Same of venture
capital.
Shares In case of shares,
dividend amount
is paid by the
business firm to
the shareholders.
It is not
inevitable to
credit dividend
amount each year
in bank account
Same of venture
capital.
Same of venture
capital.

Cost of finance
of equity is huge.
of the
shareholders.
Debentures Interest of fixed
or flexible rate is
paid to the
debenture
holders.
Like bank loan, it
is necessary to
pay interest to
the creditors.
Control remain
same.
Same of venture
capital.
Internal sources of finance
Finance
implications
Legal
implications
Dilution of
control
Bankruptcy
Retained
earnings
There is no cost
of the mentioned
source of
finance.
There are no
legal
implications of
retained earnings
(Buera, Kaboski.
and Shin, 2011).
Control remain
same.
Retained
earnings amount
is first of all used
to make payment
to the creditors
and then to the
shareholders.
1.3 Appropriate source of finance
Clariton Antiques wants to raise 0.5 million of cash amount from the market and for this
varied sources of finance are available to the business firm. Debt is the source of finance which
can be used by the firm in its business. Long term debt can be taken from the banks at cheaper
rate. It must be noted that cost of debt is lower than the cost of equity. Thus, bank loan is
assumed better for the firm. Venture capital is not considered appropriate option for the business
firm because substantial portion of the firm capital goes in hands of the VC firm and interference
of same in the decision making process increased to great extent. Moreover, cost of finance of
VC is very high and due to this reason, it is not considered as an appropriate source of finance
for the Clariton Antiques. Firm can also issue debentures in the market if it is eligible to do same.
Through debenture, any amount of money can be raised by the firm in its business (Shleifer and
Vishny, 2011). They are not required to establish contact with different banks to raise specific

amount of fund. Due to this reason, in comparison to venture capital debenture and bank loan are
assumed better for the business firm. Mentioned company is partnership business and is not
incorporated business and due to this reason it cannot issue shares in the market. Hence, equity is
not considered as an appropriate source of finance for the business firm. Lease as option can be
selected by Clariton to avoid huge amount of capital expenditure in its business. Saved amount
can be invested elsewhere in the business and good amount of return on investment can be
generated in the business. Retained earnings is the source of finance which is considered best for
the firm because for using the same firm does not have to bear any cost.
TASK 2
2.1 Cost of two sources of finance
Cost of two sources of finance is explained below. Dividend: In case of equity and venture capital dividend is the cost of the source of
finance. Dividend is often declared by the business firm when it earned huge amount of
profit in its business. Sometimes, it happened that firm earn less profit in its business and
at that time it make payment of dividend to the shareholders (Tresch, 2014). There are
large number of shareholders of the any business firm and due to this reason dividend
payment aggregate amount become so high in value. This is the reason due to which cost
of debt always remain lower then cost of equity. In case of venture capital cost of equity
further elevate. This is because management have to pay dividend amount to the VC firm
and apart from this extra amount is paid to them for the participation they done in the
firm Board meetings. Thus, cost of venture capital is much higher than cost of equity. Interest: Interest is the finance cost of bank loan and debenture. Interest may be charged
at stationary or non-stationary rate and this depends on the type of bank loan taken by the
Clariton from the bank. There are positive and negative points of both fixed and flexible
interest rate. The extent to which firm will benefit from the specific interest rate depends
on the economic condition of the nation and decisions taken by the central bank. If rate of
interest is changed by the central bank then in that case Clariton may face either profit or
loss on the bank loan that is taken at the flexible interest rate (Seydel, 2012). In case of
fixed interest rate finance cost of debt remain same. Thus, it will be better for the Clariton
to take bank loan at stable interest rate.

 Tax: Tax deduction is received by the Clariton on the bank loan not in case of equity.
This is because dividend is paid to the owners of the business firm not to external entity.
Thus, it can be said that cost in case of debt reduce relative to equity.
2.2 Importance of financial planning for Clariton
Significance of the financial planning for Clariton are as follows. Budgeting: Financial planning is used to prepare a budget for the business firm. Under
financial plan main aim of the business firm is to make best use of the cash in the
business. In order to ensure that cash will be utilized properly allocation of same is done
in the different business activities (Enthoven, 2014). Thus, financial plan reflects the
maximum amount of money that is available to perform specific business operations.
While preparing budget these maximum limits are taken in to consideration and
accordingly expenditure that can be made in the business is determined. Thus, in this way
financial planning that is prepared by the business firm is used to prepare a budget. Implication of failure to finance business adequately: There are some business firms
which have adequate amount of cash in their business and some have less cash in their
business. The level of cash that currently have in its bank account does not matter. It is
important to make best use of cash in the business so that firm need to borrow less
amount from banks. Financial plan help Clariton in making full and maximum utilization
of cash in the business. Thus, firm does not face problem of scarcity of finance in its
business and does not need to borrow huge amount of money as bank loan from the
financial institutions. Overtrading: Overtrading refers to the situation in which more than target sales is made
by the firm in its business on credit basis. Due to overtrading of goods overnight
receivables increased at rapid pace in the business. There is a high probability that some
portion of the receivables may become bad debt in the business (Cheng, Ioannou and
Serafeim, 2014). It is the financial planning which ensured that such kind of condition
will not come in existence. Under financial planning maximum amount of sales that can
be made on credit basis can be easily determined. Thus, there is a great significance of
the financial planning for the business firm.
2.3 Information needs of decision makers
Information needs of different decision makers is given below.

 Partners: Partners wants to acquire a firm and for taking wise decision it needed some
specific information. Partners chiefly needed the annual report of the firm which they
wants to acquire. Through annual report or any other internal document partners will
come to know about challenges faced by the firm and way in which it come out of same.
These reports will also provide information about the firm profitability and financial
position at end of the year. Thus, these are the information that are needed by Clariton for
making business decisions. Venture capitalist: Venture capitalist needed information that is concerned with the
Clariton and other relevant firm (Chen and Gupta, 2011). It will need both firm’s annual
reports and other documents to make decisions. On the basis of review of information
venture capital firm will judge management capability of the Clariton. On other hand, it
will also come to know about the cash flow position of the other firm. Forecast can be
done about the expected amount of cash flows that can be generated by the other business
firm. Hence, by considering management capability of Clariton and expected cash flows
of other firm VC will make investment related decisions in former firm. Finance broker: Finance broker needed information only related to the company. As per
case finance broker will arrange finance for the Clarion and in lieu it will receive fee for
providing services to the relevant firm. Thus, it will only need balance sheet of the
Clariton in order to access liquidity position of the business firm. On the basis of
assessment of the liquidity position finance broker can identify whether Clariton will be
able to pay fee amount of time.
2.4 Impact of finance on the financial statements Venture capitalist: In case fund is raised through the venture capital firm balance sheet
and income statement get affected. This is because venture capital firm in specific order
will make investment in the Clariton. Due to this reason shareholder equity will increased
in the business. On other hand, because cash is received through venture capital firm
current assets amount will increase (Deboeck and Kohonen, 2013). Thus, due to
investment that is made by the venture capital firm in the business both assets and
liability side of balance sheet will increase. As it is well known fact that there is a cost of
each source of finance. Dividend is considered to be cost of equity. Amount of same will

be deducted from the operating profit. Thus, by dividend amount net profit amount will
be reduced. Finance broker: If fund is raised from the finance broker then debt amount will elevate
in the balance sheet. At same time because money is received from the finance broker
current asset in the asset side of the balance sheet will increase. Thus, it is cleared that
balance sheet get affected by the transaction that is done with the finance broker. Fee
amount that is paid to the finance broker will be recorded in the income statement. Like
above case profit amount will be curtailed by the fee amount. Hence, it can be said that
transaction that is done with the finance broker affect financial statements.
TASK 3
3.1 Cash budget for the firm
Figure 1Cash budget for the Clariton

Interpretation
Cash budget of the Clariton reflects that total cash receipts of the business firm is
increasing from the first month to fourth one which is April. After the mentioned month cash
receipts declined sharply. This happened because in the last two months sales value declined
significantly and receivable value also reduced in the month of June. In alignment to this
payment value to the suppliers also declined in the last two months. Due to all these things cash
position decline in the last two month. It must be noted that in the first month there is a high
negative value of cash receipt which is passed to the next month as opening balance. This results
in the negative cash balance in the month of January, February and March. In the month of April,
May and June cash flow become positive. Thus, it can be said that firm give mixed performance
during relevant time period.

3.2 Unit cost calculation
Figure 2Calculation of per unit cost
Interpretation
Method of costing for manufacturing and service sector firms always remain different.
This is because in case of production firms need to purchase raw material and other things but in
case of service sector firms all these things are not required. It can be seen from the table that in
order to compute unit cost many items are considered like cost of finished antique items, salary
of employees, maintenance charges, miscellaneous expenses, travel and electricity expenses etc.
All these expenses are variable in nature. Variable expenses are those which change consistently
with increase in produced units (Hillier, Grinblatt and Titman, 2011). Total cost of product is
£307500 and antique items that are proposed to be sold are 300 in number. Unit cost for Clariton
is £1025 and margin of 20% is added on same to compute sales price. It can be seen from the

table that sales price for the product is £1230. Thus, it can be said that firm will sale its product
per unit at £1230.
3.3 Project evaluation method
Table 1Calculation of payback period
Investment
1 Investment 2
Initial
investment -8.6 -4.4
1 1.6 -7 0.8 -3.6
2 2.8 -4.2 1.4 -2.2
3 3.4 -0.8 2 -0.2
4 3.6 2.8 2.4 2.2
5 4 6.8 2.3 4.5
6 4.2 11 2.6 7.1
Interpretation
It is the one of the main method that is often used to evaluate a project (Wildasin, 2013).
This is because it indicate the duration that project will take to cover invested amount. Both
projects start earning profit from fourth year. Hence, none of alternative is viable for the firm.
Table 2Calculation of ARR
Investment
1
Investment
2
Initial
investment 8.6 4.4
1 1.6 0.8
2 2.8 1.4
3 3.4 2
4 3.6 2.4
5 4 2.3
6 4.2 2.6
Total 15.4 11.5
Average 3 2
ARR 29.84% 43.56%
Interpretation
This approach indicate the percentage that can be gained on the invested amount (Chung
and AitSahlia, 2012). It can be observed that ARR of the first alternative is 29.84% and same of
other project is 43.56%. By considering high value of investment 2 same is considered viable for

the firm. ARR of investment 2 is greater than standard value 35% and due to this reason it is
assumed profitable for Clariton.
Table 3Calculation of NPV
Investment
1
PV @
14%
Present
value
Investment
2
PV @
12%
Present
value
Initial
investment 8.6 4.4
1 1.6 0.877 1 0.8 0.877 0.70
2 2.8 0.769 2 1.4 0.769 1.08
3 3.4 0.675 2 2 0.675 1.35
4 3.6 0.592 2 2.4 0.592 1.42
5 4 0.519 2 2.3 0.519 1.19
6 4.2 0.456 2 2.6 0.456 1.18
Total 12 7
NPV 3 2.53
Interpretation
Value of project is reflected by NPV method. There is high NPV of the investment 1
and due to this reason it is assumed viable for the firm. NPV standard value is £2 which is less
than same of first proposal. Hence, relevant one is considered profitable for Clariton.
TASK 4
4.1 Financial statements of the firms Income statement: Mentioned statement is used to evaluate the firm profitability and
performance that it give in terms of expenses during a specific time period. This
statement have due importance for the business firms because by using same comparison
can be done on year on year basis and performance of the firm can be evaluated in
systematic way. Statement of cash flows: This statement reflects the overall flow of cash in respect to
varied business activities. Mentioned statement is mainly prepared to identify the amount
of cash that remain in business due to plus and minus that happened because of cash
incoming and outgoing in the business (Coles, Lemmon and Meschke, 2012). Cash
management strategy for next fiscal year is prepared by using cash flow statement.

 Statement of change in equity: This statement is prepared to reveal the amount by which
overall value of equity get changed during a year. In order to perform multiple
calculations statement of change in equity is used by the relevant entity. Statement of financial position: This statement is prepared to access the financial
position of the business firm at end of the year. Performance of the firm in the entire year
in varied domains is measured by using statement of financial position. Notes to the financial statement: These are the evidence that support the financial
statement and prove that all values in same are computed accurately.
4.2 Format of financial statements


Figure 3Income statement of the company
(Source: Ayyagari, Demirgüç-Kunt. and Maksimovic, 2010)

Figure 4 Balance sheet of the company
(Source: Midrigan and Xu, 2014 )

Figure 5Cash flow statement of the company
(Source: Garman and Forgue, 2011 )

Sole trader
Figure 6 Income statement of sole trader
(Source: Philippon and Reshef, A., 2012 )

Figure 7Balance sheet of sole trader
(Source: Yescombe, 2011)

Figure 8Cash flow statement of sole trader
(Source: Hyman, 2014)

 Partnership
Figure 9Income statement of partnership
(Source: Shreve, 2012)

There is a difference in the financial statements of the company, sole trader and
partnership. This happened because in case of company financial statements are prepared by
following principles of GAAP and IFRS. In case of sole trader and other one accountant at its
own discretion can prepare financial statements. In partnership, profit and loss as well as assets
and liabilities are shared among the partners in specific proportion. Same things does not
happened in case of company and sole trader. Thus, there is a difference in the financial
statements of the company, sole trader and partnership.
4.3 Ratio analysis
Figure 10Balance sheet of the partnership
(source: Iqbal and Mirakhor, 2011)

Figure 11Profitability and liquidity ratios
Figure 12Solvency ratios
Interpretation

 Gross profit ratio: It is very important for the firms to maintian control on the
cashoutflows that are related to the production or sevice delievery (Buera, Kaboski and
Shin, 2011). Gross profit of the Clariton Antiques is same across all years which reflect
strong command is maintained on the direct expenses.
 Net profit ratio: Net profit ratio indicate the firm caliber to curb indirect expenses. Net
profit ratio value increased and this mean that Clariton perform good. However, net profit
ratio is just 3% which is not sufficient. It can be said that firm need to improve its
business performnace.
 Current ratio: Proportion of current assets relative current liability is reflected by current
ratio. Value of ratio get increased from 0.23 to 0.33 which indicate that liquidty get
increased in the busienss. However, standard ratio value is below 2:1 and it can be said
that firm furthrt needs to improve its performance.
 Quick ratio: Quick ratio more precisely show liquidty condition of the firm. Quick ratio
value increased from 0.18 to 0.08 which is good for Clariton. But like current ratio again
quick ratio value is below 1:1 and on this basis it is concluded that Clariton needs to
improve its liquidty position.
Figure 13Effecinecy ratios
Interpretation
 Asset turnover ratio: This ratio indicate the efficiency with which asset is used
effectively in the business by Clariton in order to generate sales (Asset turnover ratio,
2016). Asset turnover ratio value increased from 1.55 to 1.60. This mean that firm
generate 1.55 times sales by using its assets which is very low number.

 Inventory turnover ratio: This ratio indicate the efficiency with which stock is turned in
to cash. Value of ratio remain unchanged. It can be said that separately in FY 2014 and
15 firm convert its stock in to sales 22 times which reflect that firm give magnificent
performance in its business.
CONCLUSION
On the basis of overall discussion it is inferred that while selecting any source of finance
multiple factors must be considered. Only by doing so best one can be selected by the business
firm. Financial plan must be prepared by the managers systematically. By doing so allocation of
resource among several business activities can be done by the manager. Project evaluation
method must be used to measure viability of any project. At own discretion never any project
must be selected by the managers. In order to evaluate business performance ratio analysis must
be used and strategy must be formulated to improve business performance. By doing so business
can be bring on right track.

REFERNECES
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corporate finance: The link between managerial ownership and corporate
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