Financial Analysis of a Business Venture

This assignment involves a detailed financial analysis of a proposed business venture. Students are tasked with creating a cash budget, calculating key financial metrics such as payback period, ARR, and NPV, and comparing the venture's potential profitability to other business structures like sole trading and partnerships. The assignment emphasizes the application of fundamental financial concepts in evaluating investment opportunities.

UNIT 2
MANAGING FINANCIAL RESOURCES
AND DECISIONS
NAME: GABOR FEHER
ID: 13825
COURSE: HND IN BUSINESS
TUTOR NAME: RANSFORD GREY
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CONTENTS
INTRODUCTION …………………………………………………………………………………………. 3
TASK 1 ……………………………………………………………………………………………………… 3
1.1 Identify the sources of finance available to a.)unincorporated and b.) incorporated business
……………………………………………………………………………………………………………….. 3
1.2 Assess the implications for using a.) internal and b.) external sources of finance …………………. 4
1.3 Evaluate the most appropriate sources of finance for Clariton Antiques Ltd. …………………….. 7
TASK 2 ……………………………………………………………………………………………………… 8
2.1 Analyse the cost of the two sources of finance under consideration with reference to: a.) dividends, b.)
interest and c.) tax. …………………………………………………………………………………………. 8
2.2 Explain the importance of financial planning for Clariton Antiques Ltd. With reference to: a.)
budgeting, b.)implications of failure to finance adequately and c.) overtrading. ……………………… 8
2.3 Give an assessment of the information that will be needed to make decision on financing the takeover
by: a.) the partners, b.) venture capital [We Finance Limited] and c.) finance broker.
……………………………………………………………………………………………………………….. 9
2.4 Explain the impact on the financial statement if Clariton Antiques Ltd. Choose to go with: a.) venture
capitalist, b.) financial broker. ……………………………………………………………………………. 9
TASK 3 ……………………………………………………………………………………………………. 10
3.1 Prepare an analyses of the cash budget for Clariton Antiques and advice on decision that can be taken
to improve their financial position. ……………………………………………………………………… 10
3.2 Explain how unit costs will be calculated to make pricing decision giving suitable example. …… 11
3.3 Assess the viability of the projects using investment appraisal techniques and state whether the
options satisfy Peter’s criteria for investment. ………………………………………………………….. 12
TASK 4 …………………………………………………………………………………………………….. 13
4.1 Discuss the key components of financial statement. ………………………………………………… 13
4.2 Compare the format used by Clariton to presenting their financial statement with that of a sole trader
or partnership or both. …………………………………………………………………………………… 14
4.3 Interpret the recent financial statement of Clariton using appropriate ratios and making comparison
with the previous year. ……………………………………………………………………………………. 15
CONCLUSION …………………………………………………………………………………………… 16
REFERENCES ……………………………………………………………………………………………. 17
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INTRODUCTION
Finance is a fuel of business. Managing financial resources in terms of time efforts and money is a
crucial task for success and accomplishment of goals for the business. Every Business organisation whether
small or large, incorporated or unincorporated requires finance at every stage to excel. Finance can take the
business from ice cream's van to dragon den. Finance can be raised through various internal and external
sources of finance. Various sources comes with distinct risks and costs associated with it. In order to make
efficient choice of funds or source options should be critically evaluated on basis of length of available funds,
risk of control and costs involved in the same. Clarion Antiques being a partnership accommodating 4 partners
is an excelling firm and growing at good speed. However finance sources vary for partnership firm and
company, influenced by various factors. Financial planning including preparing budgets and capital budgeting
plays a major role in presenting a clear picture of the project and its future profitability. Budgeting gives a
portray of company's liquidity and cash status in future. Capital Budgeting techniques such as NPV, IRR and
payback period offers a comparison of various projects and their selection and rejection based on it.
TASK 1
1.1
Finance being one of the major functions of the organisation. It is a crucial business decision to be taken on
from where to raise the funds to fulfil the business requirement. Also feasibility of various sources depends
upon the type of business such as incorporated or unincorporated. (Caglayan and Demir, 2014).
a.) Unincorporated business/sole traders and partnership: this the business where individual comes together
to perform the operation to earn profits. This does not have its own legal entity. Therefore all the risks and
liabilities of business belong wholly to the persons and individuals who are owner of the business(Bishop,
2015). These firms can raise finance from undermentioned sources:
 Venture Capital / New Partner: Unincorporated firms who are not legally registered as a separate
entity can raise funds in form of investments from venture capitalist who are interested in the idea of
business. Venture capitalist are individuals or group of individuals who have surplus funds and want to
invest them in some profitable business to multiply the savings. These are risk takers and by investing in
business reap profits therefrom. Also capital of the business can be raised by admitting a new partner
who in turn will bring cash as charge against goodwill and finance into the business in return of sharing
profits.
 Bank Loans: Raising of funds by receiving a bank loan is also a good option available with the
business. Long term loans can be raised from banks or financial institution. Loans involve interest cost
and scheduled repayments at particular intervals. However loans affect the financial risk and liquidity of
the business.
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 Retained earnings: Business can use the undistributed parts of profits retained by owners in the
business and this is best internal source as does not involve any cost and scheduled repayments.
 Reduction in Working Capital Cycle: Short terms funds can be raised by reducing the working capital
cycle in terms of reducing the credit period extended to debtors or better stock selling activities for
improving liquidity.
b.) Incorporated Business/ Private or Public Limited Companies: It is the form of business that have their
individual legal status. All the risks and liabilities associated of the business are only responsibility of the
business and business and owners have separate legal entity. Some of the following sources of incorporated
business are as follows.
 Issuing Share capital: can raise funds by issuing share capital to the public and receiving funds on the
same. Equity shares are financial instruments which transfers the ownership of the business to the
shareholder and appropriation of profits against them. Shareholders have right over the profits of the
business and business distribute the profits in the form of dividends.
 Issuing bonds or debentures: can raise funds against floating debt instruments such as debentures or
bonds in the market and receiving debt against the same from public. Debentures are financial debt
instrument that acknowledges the company against debt provided by the debenture holder.
 Retained earnings: it is that part of profits which are not distributed as dividends to the shareholders
and instead plough back into the business to multiply the amount by using as source of finance. It does
not involve any financial costs or risk associated with them.
 Raising loans from Banks or Financial Institution: can raise funds by applying and receiving loans
from Banks and financial institution for longer period of time. However loans have fixed rescheduled
payment of interest and principal which affects the liquidity of the company. Dividends which are
appropriation of profits.
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1.2
a.) Internal sources of finance:
Financial implications
& legal formalities
Bankruptcy /
dilution of
control
Advantages Disadvantages
Retained
earnings
These are undistributed
parts of profits and
carries no cost (Gilchrist,
Sim, and Zakrajšek,
2013). Retained earnings
have no legal formalities
to be complied with.
Since this part of
business profits.
In case of
liquidation of
companies
retained earning
does not have
any
implications.
It has inherent
benefit that no cost
is involved in and
also no obligation to
repay. However
appropriate returns
are to be generated
on the retained
earnings to do
justice to the owners
of capital.
Major limitation is
that retained
earnings are limited
and cannot be
regarded as single
source therefore it
can be preferred
only in combination.
Sale of
Fixed
Assets
It is a good source of
finance and cost attached
to it such as selling costs
or commission cost paid
to the intermediary for
sale or disposal cost,
transport cost,
advertisement cost etc.
Involves legal
agreements and
contracts.
No implications
at the time of
liquidation
Sale of fixed assets
already held by the
entity can be sold
therefore creating
the huge funds and
also removal of
unwanted assets.
Moreover it does
not carries financial
cost.
This sources is not
available with all
the firms. As sale of
fixed assets can be
possible only when
assets are held
merely as
investment such as
land, building etc.
Owners
capital
It is the capital invested
by partners or owners. It
carries cost in the form of
interest on capital and
share in profits in the
profit sharing ratio. For
At the time of
liquidation
owners have last
preference over
the residual
assets of the
Owners capital is
trustworthy source
and no liability
attached for
repayment. Also no
legal compliance is
Introducing owners
capital in the
business increase
the liability side of
balance sheet and
therefore
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raising owners capital
internally there are no
such legal formalities.
However deed or
agreement is entered for
the provision of profit
sharing ratios or interest
in capital.
firm. If more
partners are
admitted into
firm for the
funds in form of
capital it dilutes
the control of
existing partner.
required and interest
on capital is a tax
deductible expense.
unbalancing the
debt equity ratio.
Further amount is
not sufficient
generally to support
big projects.
b.) External source of finance:
Financial
implications & legal
formalities
Bankruptcy/
dilution of
control
Advantages Disadvantages
Equity
Share
Capital
It does not have
particular costs
involved as the
dividends are
appropriation against
profits. However
floatation cost and
underwriting
commission forms
major part of issue.
Issue of equity shares
needs strict
compliance of
Companies act (Mina,
Lahr, and Hughes,
2013).
In case of
liquidation of
companies
equity
shareholders
will have last
preference and
will have all the
rights over the
residual part left
after
distribution to
all other
stakeholders.
Equity share capital is
best source of finance
if the amount required
is huge and profits are
not ascertainable.
Equity is payable only
at the time of
liquidation.
Equity has risk
attached with it
therefore higher
rate of return is
expected by the
equity shareholders
in the form of
dividends or bonus
shares.
Long term
loans
It carry interest as the
financial cost. As
scheduled interests
In case of
liquidation debt
issuers have
Long term loans is the
cheapest source of
finance and also
It have risk of
failure no repaying
capital or interest.
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and capital repayments
are fixed it affects for
firm liquidity
first preference
over the assets
of the business.
provides tax benefit
on the interest
payments.
Scheduled
repayment affects
the liquidity
adversely.
Hiring and
Leasing
These have attached
cost in the form of
hiring and lease
rentals payable in
instalments. The legal
contracts entered by
the agency and client
for hiring the asset or
leasing.
In case of
liquidation
hiring and
leasing rentals
will be paid
with high
priority.
Leasing or hiring the
asset avoids huge
spending on the fixed
assets which requires
huge cost. Lease
rentals are tax
deductible.
Hiring and leasing
are costly and
depreciation is not
allowed. Further
Lease rental
payments at fixed
intervals affects the
cash flows of the
company.
Overdraft It has interest as its
financial cost. It is
payable for the
duration of drawing
overdraft. It is based
on relationship and
past records of
customer with bank.
In case of
liquidation
overdraft will
be paid at
preference.
Overdraft is a cheap
source of finance and
satisfies the urgent
financial requirement.
It is for short term
and also affects the
reputation of
company in eyes of
banks and further
once taken cannot
be drawn time and
again.
Governmen
t grants
It carries no financial
cost as they are the
financial assistance
from the government
to promote business. It
has specific conditions
to be fulfilled for
receiving the grant.
No effect at the
time of
liquidation.
Government projects
are of great help to
finance huge projects.
Government grants
are attached with
complex conditions
which are to
strictly complied.
1.3
Clariton is a partnership firm however thinking of conversion into Public Limited Company. If examine
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the possible internal source can be seen that none of them good enough. The Retained earnings: no cost but the
amount is too low for the investment. The Owners capital: is also low because of only two owner and no
vendible fixed assets as well. If examine the external sources can be seen that the Government grants here is not
an option, the Overdraft: is good for short term goal and urgent cases with limited amount. Hiring and Leasing:
is can good for buying assets but not good for increase capital and cash flow. Therefore, best sources of finance
available for Clariton is selling shares and raising the finance. The required amount be obtained and the
liquidity is provided. The next best alternative for raising funds are long-term borrowings from the bank.
Since the Clariton is operating from quite a long time they don't have issue regarding liquidity therefore can
easily pay of the scheduled repayments on time.
TASK 2
2.1
As stated the most appropriate sources of finance for the company are Issue of Equity Shares or
borrowing funds from bank. Both these sources allow long term funds and amount involved may be large.
Therefore for major financial decision such as expansion or in terms of product diversification these sources
should be preferred.
In raising finance, clariton is face with the choice of debt finance vs equity finance . debt finance refers
to the borrow cost, this normally cheaper, the major cost to debt financing is interest , this normally refer to as
the after tax interest (1-t), this is because interest on business borrowings exempt from tax, this makes
borrowing cheaper for business purposes, in the case of clariton.
a) Dividend: It is the cost which is attached with venture capitalist source of finance. As per the case “
We Finance limited” is the venture capitalist and entity wants 20% stake in the business against its investments.
It is kind of equity financing in which Clariton will have to pay dividend of 20% to the investor and capitalist
will get rights to influence decisions of cited firm. Every year 20% dividend will increase economic burden on
the entity and it will reduce profit as well.
(Cost of Equity = (Next Year's Annual Dividend / Current SHARE Price) + Dividend Growth Rate)
For instance:
Cost of equity=(25/60)+3%
Cost of equity=3.4%
b) Interest: It is associated with the bank loan and kind of debt financing. As if Clariton takes loan from
financial institutes then it will have to pay interest on it. Bank charges 2% annual interest and 1% brokerage
charged by broker, that would increase cost of the cited firm. For instance; Clariton is taking loan of 5,00,000
then cost of interest would be calculated as below:
=500000*2%+1%*500000
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=10000+5000
=15000 cost of interest would have to be beard by Clariton if it goes with bank loan.
c) Tax: It is another cost of source of finance in which cited firm will have to pay corporate tax on its
income. For instance currently tax is 30% then cost of tax would be:
=2%*(1-0.2)*£5,00,000
= £7000 +1% of £500000 admin fees
=£7000+£5000
=12000 would be cost of tax which has to be beard by Clariton antiques Ltd.
 Loans from Bank: it is a long term obligations for the business to be repaid in fixed repayment
schedule agreed between the parties. Clariton if took loan from banks at 2% interest rate for the term of
10 years it will be liable to pay 1% broker fee. Also interest paid is tax deductible for the business and
tax benefit is generated by business on the same. But interest is charge against profits unlike dividends
which are appropriation of profits. It implies that company will have to pay interest on loans.
 THE COST OF EQUITY FINANCE REFERS TO THE RETURN INVESTORS WILL NEED
FROM INVESTING IN THEBUSINESS , THIS IS SIMPLE SENSE REFERES TO DIVIDEND ,
TO MEASURE THIS THERE ARE DIFFERENT MODELS USE , THE MOST COMMON IS
THE DIVIDEND GROWTH MODEL (Cost of Equity = (Next Year's Annual Dividend /
Current SHARE Price) + Dividend Growth Rate) , THIS MODEL CALCULATES THE COST
OF EQUITY BY ASSUMING THAT DIVIDEND WILL GROW AT A CONSTANT RATE , THIS
BECAUSE INVESTORS WILL REQUIRE THEIR INVESTMENT TO GROW OVER TIME .
 Equity Share Capital: Finance can be raised by issuing equity shares to the public. We Finance is
providing 5 Million towards 20% ownership in the business. Owners of the equity shares becomes the
owners of the company and has rights over the assets and residual profits of the company.
Dividends are distributed to the shareholders as return to their investment. Dividends are appropriation
of profits which implies that if profits are earned by the company, dividends will be declared otherwise
not. Company do not to pay tax on dividends. Therefore We Finance invest for 20% ownership in the
business it will be paid dividends out of the profits earned by Clariton.
◦ From the above discussion it can be said that all financial sources have some cost so organizations
need to select most appropriate source which has less cost and can give long term benefit to the
entity.
2.2
Financial planning is a major function of the business organisation to manage its functions smoothly
and in orderly manner. FINANCIAL PLANNING HAS MANY POSITIVE EFFECTS ON A BUSINESS , AS
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PART OF FINANCIAL PLANNING THE BUSINESS WILL CARRY ON BUDGETTING :-
a.) Budgeting is detailed plan to forecast expenses and incomes to be incurred in future (Board, 2015).
Budgeting is an important functions incorporated in financial planning which will assist Clariton in depicting
the expected future inflows and outflows or sales and revenue and all other financial aspects which helps the
organisation to determine the future surplus and deficit. Further Clariton is planning to open a new branch
which will have projected sales and related expenses which are to be considered in budgeting. Financial
planning is very important and supports firm in preparing budget by this way issues related to inadequacy of
funds can be minimized. It gives positive results to entities by this way unnecessary expenditures can be
minimized and firm can achieve its economic goal.
b.) Implications of failure to finance adequately: Financial Planning helps in allocating the financial and non-
financial resources effectively and efficiently for proper utilisation. It will help Clariton to focus on availability
of cash and effective utilisation of all the hard and soft assets of the business in form of intellectual property
rights or human resources. (Babajana, and Phillips, 2015) Through focussed and concentrated efforts, failure of
inadequate finance can be detected and actions can be taken to improve the situation and reverse the decision at
the initial stage of branch opening.
c.) Overtrading refers to trade affected over and above the budgeted or planned. In case of it Clariton will have
to allocate the resources effectively and convert the threat of over trading into opportunity of making higher
profits. Overtrading can be effectively managed by financial planning. Overtrading generally leads to excessive
trade payables or trade receivables therefore causing crunch of working capital (Hope, and Fraser, 2013). This
situation can be handled by financial planning of transactions and setting appropriate limits for all the
operations and functions.
2.3
a.) The Partners: In order to finance the takeover decision if the partners are approached by business it
will be a favourable decision. Partners of Clariton can finance the decision by bringing into additional capital
for long terms and utilising their personal savings, without much procedural delay and implications. Partners
can easily pinch in the capital into the business and interest on capital is to be paid on the same (Hull, 2014).
For making effective financial decisions partners need information like profitability ratio, assets value, total
liabilities, sales revenues, total employees and customers in the firm etc. By getting all these details they will
get to know the real position of the firm and accordingly then will make plan and will invest their own capital in
the business.
b.) Venture Capitalist (We Finance Limited): Venture capitalist are risk takers and always ready to
invest in innovative projects therefore venture capitalist can aid the takeover by providing financial assistance
against the share in ownership and profits in the Clariton (Ozmel, Robinson, and Stuart, 2013). Venture
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capitalist receive dividends and control over the working of the business as proposed share is 20 % which is
substantial enough to have influence on decisions of the company. Also venture capitalist will charge sitting fees
for participating in Board Meetings. Venture capitalist need information related to profit history, solvency ratio,
future income, dividend policy, cash management strategies etc. BY this way they can assume returns on their
investment. It will help them in taking better decision and they will be able to get high revenues on their
invested amount.
c.) Finance Broker: Finance Brokers are the persons who organise finance for the company financial
requirements. Once the agreement is done with financial broker company Clariton is not required to worry
about legal and procedural compliances. Everything will be taken care by financial Brokers. Finance Brokers
charge handsome amount of commission for delivering such services. In case of Clariton it is charging 1% as
broker fee for arranging loans at the rate of 2% for ten years. Further due to high competition in financial sector
Clariton will have bargaining powers to renegotiate the quotes offered. Brokers need information related to
assets and liabilities of the firm, solvency ratio, repay capacity, market worthiness, interest bearing capacity,
creditability of each partners, profitability ratio etc. By this way they will be able to make good decision.
2.4
Various financial decisions has distinct impact on the financial statements of the company. Some of them
are illustrated below:
a.) Venture capitalist (We Finance Limited): If funds are raised from Venture capitalist it will affect the
Financial Statement in a substantial manner. Share capital of the Clariton will increase therefore affecting the
Liabilities side of the Position statement of the company (Paeglis and Veeren, 2013). Venture capitalist will
earn dividends which will be affect for income of Clariton. Since it is acquiring 20% ownership it will
charge sitting fees which will be shown in Income Statement of Clariton.
b.) Finance Broker: it arranging loan at 2% for ten years. Loan will be reflected in the liabilities side of the
Position Statement of Clariton and interest thereupon as a charge against profits in the Income Statement of
Clariton. Also commission of 1% charged by finance broker will have to be reflected in Income Statement.
Commission and interest will reduce the profits of the Clariton.
TASK 3
3.1
Table 1: Cash budget from January to July
Particulars January February March April May June
Amounts in Amounts Amount Amounts Amounts in Amounts
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£ in £ s in £ in £ £ in £
Cash balance in
start of month 110000 -382250 290500 860750 738500 1051250
Revenue 300000 450000 600000 300000 300000 75000
Trade Receivables 15000 360000 90000 15000 240000 11250
Total cash receipt 425000 427750 980500 1175750 1278500 1137500
Payment 807250 137250 119750 437250 227250 219750
Total outflow 807250 137250 119750 437250 227250 219750
Balance at end of
month -382250 290500 860750 738500 1051250 917750
Interpretation
Fluctuation can be observed in the cash balance at end of each month. In the month of January payment were in
excess to the revenues and trade receivable. However in February situation improved as the sales were raised by
adopting the marketing strategies to improve the same. Moreover trade receivables were collected in shorter
duration. In the month of March Payment have declined despite the fact that sales improved since February due
to application of cost control techniques by Clariton. This fluctuation is observed because sales of the firm
declined in the month of April and May. Due to this reason cash balance for months get fluctuate. In the month
of April firm payment liability skyrocketed and due to this reason cash balance decline sharply. Hence, it can be
said that firm needs to prepare strong cash management strategy for its business.
To improve the financial performance of the Clariton and maintain the liquidity in the business. Clariton will
have to take appropriate measures. Receivable collection period can be shortened by offering discounts to the
debtors who makes the payment on early basis. Further sales can be significantly raised by either improving the
quality or initiating the advertising campaign through social media or sources which have least cost. Further
since it is involved in antiques marketing and influencing the customers will play major role to affect and
increase the sales positively.
3.2
Clariton is engaged in the trading business of antique items. Since it deals into products which attracts
customers therefore additional cost is incurred to add beauty to its products. Clariton will determine the cost
price per unit by adding the purchase cost of items, other variable cost incurred such as transportation,
packaging, labour cost etc..Fixed costs such as depreciation, rent and insurance will also form part of total cost
to be allocated to units. Sum of all the three items is divided by number of units purchased from the supplier.
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DM £25000
DL £15000
DE £10000
PRIME COST £ 10000
For instance Clariton wants to produce 5000 units then unit cost will be calculated as below:
=£25000+£15000+£10000+£10000/5000
= £60000/5000
=£12
On the bases of this pricing decisions can be made by cited firm. For instance it wants to earn profit of
20% then
Selling price= Unit cost* cost per unit* desired profitability
Selling price=£12*12*20%
Selling price=£12+2.4
Selling price=£14.4
www.cliffnotes.com
Clariton can divide all the cost on the number of units and apportion them accordingly.
For illustration: Suppose that Clariton buys 100 units worth £ 50000 and incurs £ 2500 for transport and
packaging and further £ 3000 for labour cost and fixed cost summing up to £ 15000.
Cost per unit for Clariton = (Fixed cost + Variable cost)/No of units
= (15000+50000+2500+3000)/100
= £ 705
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3.3
Table 2: Calculation of Payback period.
Investment 1 Amounts in £m Investment 2 Amounts in £m
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
Payback period 3.22 3.08
Formula:
Clariton stated that investments will be accepted if the payback period is less than or equal to 3.5 years. Both
Investment 1 and Investment 2 are under 3.5 years, both investments can be adopted but Investment 2 is
favourable. As per the investment appraisal techniques Payback period states that in how many years the initial
investments will be recovered through inflows of cash in coming years.
Table 3: Calculation of ARR
Investment 1 Investment 2
Amounts in £m Amounts in £m
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 19.6 11.5
Average 3 2
ARR 37.98% 43.56%
ARR is the great calculative method which helps in comparing two projects on behalf of profitpercentage. But it
ignores risk and time factor completely.
Formula:
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As per Clariton's criteria if the ARR earned on projects is 35% or more the project is to be accepted.
Both Investment 1 and Investment 2 are over 35%, but Investment 2 is more favourable ARR refers to
accounting rate of return which implies that at what rate initial investment will be recovered from cash inflows
in the future years.
Table 4: Calculation of NPV
Investment 1 PV @ 14% Present value Investment 2
PV @
14% Present value
Amounts in
£m
Amounts in
£m
Amounts in
£m
Amounts in
£m
Initial investment 8.6 4.4
1 1.6 0.877 1.40 0.8 0.877 0.70
2 2.8 0.769 2.15 1.4 0.769 1.08
3 3.4 0.675 2.29 2 0.675 1.35
4 3.6 0.592 2.13 2.4 0.592 1.42
5 4 0.519 2.08 2.3 0.519 1.19
6 4.2 0.456 1.91 2.6 0.456 1.18
Total 11.98 6.93
NPV £3.38m £2.53m
According to Clariton if NPV of the projects is £2m or more than that the projects are acceptable. Both projects
are over £2m but Investment 1 which is feasible and should be accepted. NPV represents the net present values
of cash inflows and cash outflows (What is NPV?,2016). If the NPV is positive it implies that discounted cash
Inflows are greater than initial investment and therefore project is acceptable(Baum and Crosby, 2014).
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TASK 4
4.1
Financial statements are the structured reports that depicts the financial information of the business in
organised manner. These are prepared at the end of financial year and reflects impact of all the activities
undertaken by entity throughout the year. Some of the following financial statements re as follows:
 Income Statement: This statement is also known as profit and loss statement for the year. It
incorporates all the income earned and expenses incurred during the year following the accrual basis of
Accounting. It depicts information relating to Operating expense and income, tax interest charges etc.
All the direct and indirect income or expenses accrued during the period of one year constitutes the
Income Statements. The key components of profit and loss account are cost of sales, gross profit, net
earnings etc.
◦ COST OF SALES : It is the direct cost which is incurred by the entities to sale goods. That includes
material, salaries to staff, other resources etc.
◦ GROSS PROFIT: It defines the total difference between cost of sold goods and revenues received.
◦ Operating expenditures and operating income: Operating expenses such as patent, good will, cost
for research and development are included in it. Operating income is the earning before interest and
tax paid.
 Cash Flow Statements: This statements depicts the clear picture of cash inflows and outflows during
the relevant period. It is prepared by classifying all the activities broadly into three parts namely Cash
Flow from Operating Activities, Cash Flow from Investing Activities and Cash flow from Financing
activities. Cash inflow and cash outflow are main parts of this statement, it includes operating activities,
investment activities, financial activities.
 Statement of changes in equity and gains: This is in equity and gains reflect the exact position
changes in ownership during the year. It reflects the exchange of shares occurred and clear picture as on
the last day of the Financial year. Also reflects the payments made to shareholders in form of dividends.
Retained earning and equity share are two main key components of this statement.
 Statements of Financial Position: It is also known as Balance Sheet states the assets and liabilities as
on the date of preparation that is generally last day of the financial year. All the additions and deletions
of the assets and liabilities whether short term or long term are presented in Balance sheet. Major
components are Assets and Capital and Liabilities. Assets include current and non current and liabilities
include long term and short term liabilities. Assets , liability and share holder equity are three main key
component of balance sheet. Assets make financial position of company sound, liabilities are kind of
debt which are taken by firm for development of business. Equity shows retained earnings of the cited
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firm.
 Notes to Financial Statements: These are supportive documents that present the working of the items
presented in the balance sheet. Notes to provide great help to understand the additions and deletions of
the assets and liabilities whether short term or long term which are presented in Balance sheet.
4.2
Table 5: Comparison of Sole Trading, Partnerships and Clariton
Basis Of
Difference
Sole Trader Partnership Firms Clariton Antiques
Meaning Sole trader is a type
of business entity
which is owned an
controlled wholly by
single natural person.
Partnership firms are the
business entities by
different natural
individuals coming
together for conducting an
activity mutually and
share profits and
liabilities of the business
in the pre determined
profit sharing ratio.
Company is a form of business
which has a separate legal entity.
Further company has many owners
through shareholding and business
and owners are treated as separate
entity. Companies have perpetual
succession and also known as
artificial person. Since Clariton has
decided to go for Public company it
can issue shares to public.
Preparatio
n of
Financial
statements
It prepares only
Income Statements
specifically to
determine the
amounts of profits
generated during the
year. However if
willing can prepare
other financial
statements such as
balance sheet and
cash flow statements
Partnership needs to
prepare following
financial statements
mandatory:
 Income
Statements
 Balance sheet
However it can prepare
partner's capital accounts
and cash flow statements
as per the requirement
and magnitude of
Clariton will have to prepare and
file with regulatory authorities
following financial statements:
 Income Statements
 Balance Sheets
 Cash flow Statements
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as well(Financial
Statements of a Sole
Proprietorship,2016).
business.
Legal
Status
Separate legal entity
is not present.
Partnership firms have
separate legal entity from
individual partners.
Separate legal entity concept.
THE DIFFERENCE IN THE FORMAT OF THE FINANCIAL STATEMENTS CAN BE AS FOLLOWS:
 SOLE TRADERS ACCOUNTS DO NOT NEED A SET FORMAT: As sole traders are not legally
registered so they need not to follow international accounting standards. That is why they can follow
random formats just for their own understandings. Whereas, partnership firms have to follow some
norms of internal accounting system.
 PARTNERSHIP ACCOUNTS SHOWS HOW PROFIT IS SHARED BETWEEN THE TWO PARTIES
BUT COMPANIES DOES: In the income statement of sole traders they need not to show profit of all
partners because owner is the single person who get benefit of profit. But in partnership firms it is
necessary to show profit of all partners in the income statements.
 COMPANIES ACCOUNTS HAVE TO FOLLOW SET FORMATS AND SPECIFIC ACCOUTS
INFORMATIONS E.G CASHFLOWS, CHANGES IN EQUITY: Partnership firms has to disclosed
changes in equity in the equity side of balance sheet. As because all partners invest their money so their
capitals is necessary to show in the balance sheet account, whereas it is not necessary to include equity
side in balance sheet by sole traders.
 COMPANIES HAVE TO PREPARE THEIR ACCONNTS IN ACCORDANCE WITH
INTERNATIONAL FINANCIAL ACCOUNTING STANDARDS (IFRS) , SOLE TRADERS CAN
USE GENERAL ACCEPTED ACCOUNTING PRINCIPLES (GAAP) ETC: Both firms follow specific
norms sole traders can prepare their statement by following norms of GAAP but IFRS norms has to
followed by incorporated partnership business.
4.3
Table 6: Ratio analysis
Formulas 2016 2015
Gross profit 178 175
Net sales 1255 1220
Gross profit ratio Gross profit/ net sales*100 14% 14%
Net profit 33 23
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Net sales 1255 1220
Net profit ratio Net profit/ net sales *100 3% 2%
Trade receivables 3.49 3.89
Trade payables 100 95
2015 2014
Current ratio
Current assets/ current
liability 0.33 0.23
Current liabilities 317 309
Debt 317 309
Equity 301 276
Debt equity ratio Total debt/ total equity 1.05 1.12
Interpretation
If compare the Clariton’s current year from the previous can see that altogether the company developed but
there are also few warning sign. It can be seen from the table that gross profit ratio is 14% in both years.
Hence, it can be said that firm maintain control on its direct expenses. However, some improvement is observed
in the net profit ratio which is not up to satisfaction level. It can be said that firm needs to further reduce its
expenses. Although the debt equity ratio improved there are too high the debt to equity compared to. It would
be desirable drops below 1. The current ratio grew from 0.23 to 0.33. Higher current ratio can be sign of
problem in managing working capital. The Trade receivables days pleasingly improved this means that the
customers take to pay back earlier for purchase. Unlike than at the Trade payable days case, here growth has
occurred. This means that Clariton pay later for the suppliers than previous year. It is good for the firm’s cash
liquidity but can cause problem about dissatisfied suppliers.
CONCLUSION
From the above mentioned report it can be concluded that Finance is the fuel of Business and is
necessary for smooth functioning of business. Further more finance can be obtained from various sources
broadly classified as Internal sources and external sources. However sources of finance for Incorporated and
Unincorporated business vary significantly as per the requirements and legal compliance. For earning profits
and reaping benefits major function of business is to plan the activities and controlling them through budget
preparation and evaluation. Moreover acceptance of new project should be based on Capital Budgeting decision
of the financial planning for positive impacts in the future. Investment appraisal techniques such as NPV,
Payback period and ARR are effective tools to measure the viability of the project and deciding whether to
accept or reject the project.
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 Table 1: Cash budget from January to July
 Table 2: Calculation for Payback period
 Table 3: Calculation of ARR
 Table 4: Calculation of NPV
 Table 5: Comparison of Sole Trading, Partnerships and Clariton
 Table 6: Ratio analysis
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