Financial & Economic Literacy: Market Dynamics and Finance Report

This report delves into financial and economic literacy, examining the interplay of internal and external environments within businesses. It utilizes the SWOT and PESTEL frameworks to analyze factors influencing organizational success, with a focus on a supermarket chain example. The report further ...Read More

FINANCIAL & ECONOMIC LITERACY
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Contents
Question 1..................................................................................................................................1
Question 2..................................................................................................................................6
Question 3..................................................................................................................................7
References..................................................................................................................................9

Question 1
(a) With regards to any business, both the internal and external environment tend to be
pivotal. The internal factors primarily relate to those factors which are specific to the
company and not necessarily to the industry as a whole. Further, the internal factors are to a
large extent within the control of the firm. This is in stark contrast with the external factors
which are outside the control of the firm and tend to be applicable to the industry as a whole
may be to varying degree depending on their ability to cope (Mintzberg, Ahlstrand and
Lampel, 2014).
Consider for an instance a supermarket chain. The internal environment would relate to the
staff, process particularly related to supply chain and backend integration, suppliers,
organisational culture along with the management. These are the key factors which are under
the control of the firm to a large extent and play a crucial role in the organisational failure or
success. As a result, within the strategic framework named SWOT, strengths and weaknesses
essentially refer to the internal environment. For instance, if the staff is trained and motivated
then exemplary customer service would be delivered which would be a strength for the
business. Additionally, a well-developed relationship with suppliers coupled with complete
backend integration and inventory management system would be a big strength for the
company. Similarly, unethical management or a poor organisational culture would be a
weakness for the company and would adversely impact the performance of the firm. Clearly,
these factors would not impact the performance of other firms in any direct manner
(Haberberg and Rieple, 2015).
Additionally, there are external factors, which may be captured by the acronym PESTEL
which tend to indicate the political, economic, social, technological, environmental and legal
factors that can potentially impact the business. An example of social cultural factors is the
shifting preference of the consumers towards online shopping owing to the underlying
convenience. Further, economic factors would include the economic performance of the
economy which also can have significant impact in the business especially in case of retail
business where consumer spending is clearly driven by the underlying economic
performance. Additionally, legal factors may also be important owing to the change in the
laws (Mintzberg, Ahlstrand and Lampel, 2014).

An example could be tightening of immigration laws which can tighten the supply of
immigrants which would result in higher wage cost. Additionally, political factors may also
impact the business considering the policy change that government may make with regards to
restrictions on foreign companies entering the domestic market. It is pivotal to note that the
impact of these factors would not be limited to a particular firm but would be felt by the
industry as a whole. Also, these factors are outside the control of the firm and hence are
denoted by opportunities and threats which the firm has to adapt for maximising the wealth of
the shareholders (Haberberg and Rieple, 2015).
(b) One of the global retail companies is Walmart which is based in US but has operations
globally. The landscape of retail is changing as the online retailors tend to enhance their
penetration not only in the developed countries but also in the developing countries. Also, in
case of developing nations, the penetration of organised retail is on the increase which
provides an exciting opportunity to a global giant such as Walmart. In the current year,
Walmart has reported a strong performance with best sales figure in the last decade which are
fuelled by the growth in the US economy backed by the tax cut introduced by the Trump
administration. As a result, the consumer confidence is quite high in the US and therefore the
sales have swelled (Domm, 2018).
Also, a significant reason for stellar show in the company’s sales and earnings is the e-
commerce push which traditional retailers such as Walmart are taking in order to successfully
compete with changing retail landscape and the proliferation of e-retailers. The company was
able to increase the e-commerce based sales by 33% in the current year (Hirsch and Rogers,
2018). Further, the performance of the company over the last five years in terms of sales is
indicated below.

In the above sales trend, the only anomaly is 2016 which is the first year in the last 35 years
when Walmart has reported a decline in the sales. Otherwise in all the other years the
company has witnessed an increase in the worldwide sales. This was primarily on account of
lacklustre performance in international markets particularly Brazil, China where the company
had to close a number of stores (Whipp, 2016). Owing to the challenging times that the
company has been facing during the last five years, it has taken a host of initiatives in order
to ensure improved performance which is responsible for the increase in sales (Watrous,
2018).
One of these measures is acquisition of various e-commerce platforms in order to enhance the
online presence. A noticeable acquisition in this regards was that of Jet.com for a
consideration of $ 3.3 billion. The company has also made purchases of some native online
brands in order to expand the product portfolio and enhance online sales. Another measure
taken by the company is to raise the wages of employees in order to ensure that the customer
experience would improve and the corporate image would improve owing to labour issues in
the past. Yet another measure taken by the company is to repurpose the stores in order to
enhance the overall relevance of stores and their underlying formats so as to align better with
the evolving consumer needs (Bowman, 2018).
(c) In accordance to the economic theory, the market prices are based on the underlying
demand and supply and any significant changes in either of these would lead to automatic
adjustment in price. An underlying assumption is that the other firms existing in the market
cannot fulfil the incremental demand or incremental shortfall. The theoretical discussion of

“disequilibrium” in the market can be understood on the basis of the following situations and
the associated graphical illustrations.
Consider that demand of a particular product or service increases while the supply remains
the same. Owing to the higher demand of the underlying product or service and limited
supply, there would be an apparent shortage which would lead to higher price as consumers
would be willing to pay a higher amount for procuring the same. This situation is captured
using the following diagram (Mankiw, Mankiw and Taylor, 2014).
In the above situation, the increased demand by consumers is indicated in the shift of demand
curve from D0 to D1. However, there is no change in the supply. It is apparent that if the price
is retained at the original price of P0, then the demand is QD while the supply is much lower at
Q0 thereby leading to a shortage. In order for the demand and supply to meet, in the short run
the prices have to increase which is apparent from the shift in price to a higher level P1
(Nicholson and Snyder, 2015).
Consider the supply of good decreases while the demand remains constant. Owing to lower
supply but constant demand, there would be an apparent shortage which would lead to higher
price as consumers would be willing to pay a higher amount for procuring the same. This
situation is captured using the following diagram.

In the above diagram, it is apparent that owing to decrease in supply, there is a shift from S to
S2 while the demand curve remains constant at D. As a result, there is an upward shift in price
from P to P2. Owing to the demand supply mismatch created at the original equilibrium
point E, the new equilibrium is marked by E2 (Nicholson and Snyder, 2015).
The above theoretical discussion can be applied to consumer facing businesses such as Asda
and McDonalds. Considering the significant market share that supermarkets such as Asda
possess especially in the grocery segment, hence any disruption in the supply at these stores
would leave unmet demand and hence would cause a temporary disequilibrium. In order to
correct the same, the prices on various commonly used grocery items would increase.
Similarly, any increase in demand of any particular product which is available only in select
supermarkets would cause a shortage of the same in the short term which again leads to
potential disequilibrium and hence a shift in the prices becomes inevitable. Increased prices
in the above context would enable restoration of the original equilibrium in the long run.
Another example of a consumer facing business is McDonalds. If there is an unexpected
increase in the demand, then the same would not be able to be fulfilled and hence there would
be a shortage since the demand remains unmet. In such a scenario, the market equilibrium
would be disrupted and there would be an increase in the price so as to allow for matching of
the demand and supply. Further, the price increase would also be witnessed in case there is
any disruption in the supply from McDonalds. This is on account of the significant market

shares that these companies have that which make it difficult for any other firm to fill in
when there is changes in demand and supply that are unexpected.
Question 2
Financial intermediaries tend to play a significant role with regards to providing financial
resources to various companies from the depositors and thereby tend to provide a key linkage
between the borrower and depositor. One of the most common examples of financial
intermediaries in UK is the bank which tends to attract deposits from bank and tends to lend
it to various retail and corporate borrowers and tends to earn a net interest margin in the
process (Parrino and Kidwell, 2014). However, there are various other financial
intermediaries in UK that are also active which tend to complement the banks and provide
both competing and complementary services. One of these is credit union which tends to
extent loans to both public as well as small businesses. This is considered a suitable option by
many small businesses that find credit being difficult to obtain from traditional sources such
as bank primarily because of the underlying formalities involved coupled with the small
ticket size that the banks may not be willing to entertain (Damodaran, 2015).
Another type of financial intermediary that is active in the UK is in the form of collective
investment schemes. These schemes tend to attract money from high net worth individuals
and sophisticated investors and these tend to then offer money to various businesses so that
returns can then be earned which is then passed on the to the investors who provided the
money. These schemes can potentially invest in various financial instruments such as equity,
debt or property. As a result, this can be a funding source for a business whereby debt can be
sold to an investment scheme. Yet another example of financial intermediary in UK is
insurance companies. These companies tend to attract insurance premiums from public and a
portion of these proceeds are invested in equity and debt market and thereby provides funding
to the corporates (Brealey, Myers and Allen, 2014).
With regards to a business operating in the retail segment, the above financial intermediaries
can prove to be significant sources of finance. Retail businesses especially those having
presence in the form of brick and mortar stores tend to have high capital requirements for
expansion besides working capital needs for inventory stocking. Banks are a significant
source of debt funding both in terms of working capital and also long term loans for
expansion. However, banks as a funding mechanism may be more suitable for larger

companies that have lesser risk associated with them (Parrino and Kidwell, 2014). For
smaller retail businesses which have limited presence or run in franchise model, critical
support is provided by credit unions. This is especially in the form of working capital
particularly when a particular franchise is being run by an individual owner. Credit union is
not considered as a significant source of long term capital that can be used for expansion in
the form of opening new stores (Damodaran, 2015).
With regards to long term funding through debt and equity for a business in the retail
industry, the viable financial intermediaries are collective investment schemes along with
insurance companies. Collective investment schemes have the mandate to invest in debt and
equity and hence money can be raised by providing these with bonds or shares of the
business. It would be preferable if there is an exit option and hence a secondary market exists
for the trading of the financial instruments. This lowers the liquidity risk and makes
investment attractive. Debt or equity based financing can also be raised from insurance
companies that tend to have significant long term investments in the financial markets. These
sources of finance can act as a alternative to bank loan and enable raising of capital through
issue of securities (Petty et. al., 2015).
Question 3
a) With regards to liquidity position, there does not seem to be any significant change
considering the fact that current ratio for both the years is the same. Even though the quick
ratio has seen a slight decline but it does not pose any risk of the company not being able to
meet the current liabilities. In regards to efficiency ratios, the debtors’ payment period
remains the same for both the years. The stock turnover period for the company has
decreased by 2 days in 2018 which essentially would shorten the cash cycle and lower the
working capital requirements of the company (Brealey, Myers and Allen, 2014). The key
concern for the company is that the turnover has declined in 2018 which has lowered the
operating profits generated. In order to improve the performance in 2019, the company ought
to take measures for topline growth which would result in higher profits. Also, the company
should aim to bring the stock turnover period even lower which would enable lesser working
capital and hence lower the interest cost for the company (Petty et. al., 2015).

b) The amount that Alice needs to deposit today would be equal to the present value of the
annuity of three cash inflows starting from next year. The relevant formula for computing the
present value of the annuity is indicated as follows (Damodaran, 2015).
Based on the given information, P = £ 1,550, n = 3 years, r= 3.75% p.a.
Hence, present value = 1550*(1-1.0375-3)/0.0375 =£ 4,321.88
Thus, in order to accomplish her goal, Alice needs to deposit £ 4,321.88 today.
c) The objective is to find the NPV of the given two projects so as to select the superior
project. The required return on each of these projects is 6.75% p.a.
NPV (Greenford Project) = -150,000 + (30000/1.0675) + (25625/1.06752) + (26000/1.06753)
+ (30000/1.06754) + (75000/1.06755) = - £ 831.86
NPV (Greenwich Project) = -175,000 + (60000/1.0675) + (30000/1.06752) + (25000/1.06753)
+ (20000/1.06754) + (40500/1.06755) = - £ 27,299.7
It is apparent from the above computations that NPV of Greenford Project is higher than the
NPV of Greenwich Project. However, neither of the projects should be chosen for investment
considering the fact that the NPV for both the projects is negative and hence investment in
either of the projects would erode the wealth of the shareholders (Parrino and Kidwell, 2014).

References
Bowman, J. (2018). How Walmart has changed in the last 5 years. Available from:
https://www.fool.com/investing/2018/01/29/how-walmart-has-changed-in-the-last-5-
years.aspx [Accessed 12 November 2018].
Brealey, R. A., Myers, S. C. and Allen, F. (2014) Principles of corporate finance, 6th ed. New
York: McGraw-Hill Publications
Damodaran, A. (2015). Applied corporate finance: A user’s manual 3rd ed. New York:
Wiley, John & Sons.
Domm, P. (2018). Walmarts best sales in a decade show US consumer may be strongest in
years because of the tax cut, jobs growth. Available from:
https://www.cnbc.com/2018/08/16/walmarts-best-sales-in-a-decade-show-us-consumer-is-
alive-and-well-because-of-the-tax-cut-jobs-growth.html [Accessed 12 November 2018].
Haberberg, A. and Rieple, A . (2015), Strategic Management: Theory and Application, 2nd
ed., New York: Oxford University Press

Hirsch, L. and Rogers,K. (2018). Walmart beats on earnings and revenues as US e-
commerce push pays off. Available from: https://www.cnbc.com/2018/05/17/walmart-
earnings-q1-2018.html [Accessed 12 November 2018].
Mankiw, G.N., Mankiw, G.N. and Taylor, P. (2014) Microeconomics 5th ed.
Sydney:Cengage Learning.
Mintzberg, H., Ahlstrand, B. and Lampel, B.J. (2014), Strategy Safari: The Complete Guide
Through the Wilds of Strategic Management. 4th ed., New Jersey: Prentice Hall
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Cengage Learning.
Parrino, R. and Kidwell, D. (2014) Fundamentals of Corporate Finance, 3rd ed. London:
Wiley Publications
Petty, J.W., Titman, S., Keown, A., Martin, J.D., Martin, P., Burrow, M. and Nguyen, H. (2015).
Financial Management, Principles and Applications, 6th ed.. NSW: Pearson Education, French
Forest Australia
Watrous, M., (2018). Walmart sales boosted by strong grocery performance. Available
from: https://www.foodbusinessnews.net/articles/12364-walmart-sales-boosted-by-strong-
grocery-performance [Accessed 12 November 2018]
Whipp, L. (2016). Walmart suffers worst sales performance in 35 years. Available from:
https://www.ft.com/content/cbcb3f9e-d640-11e5-8887-98e7feb46f27 [Accessed 12
November 2018].