Financial Management Report: Ratio Analysis and Finance Sources

This financial management report provides a comprehensive analysis of a company's financial performance. It begins with an introduction to financial management and its importance, followed by a detailed evaluation of Fridge Freeze Plc. This evaluation includes a thorough ratio analysis, covering profitability, liquidity, and gearing ratios, along with their interpretations. The report then delves into the calculation of the working capital cycle. Furthermore, it presents break-even point calculations and margin of safety analysis, offering insights into cost structures and profitability. Finally, the report explores various sources of both internal and external finance, crucial for sustaining business operations. The report incorporates calculations, interpretations, and evaluations, making it a valuable resource for understanding key financial concepts and their practical applications. The report also includes limitations of using ratio analysis for both cross-sectional and time-series comparisons.

Financial Management

Contents
INTRODUCTION...........................................................................................................................3
PART – A Fridge Freeze Plc ..........................................................................................................3
PART B ........................................................................................................................................6
Calculations of break even point and margin of safety:.........................................................6
PART C............................................................................................................................................8
CONCLUSION..............................................................................................................................11
REFERENCES..............................................................................................................................12
APPENDIX....................................................................................................................................13

INTRODUCTION
Financial management is essential for a business organisation as its provides a way to
such company for managing its finance related activities ((Dewulf, Blanken and Bult-Spiering,
2012). It helps an entity in raising the funds from various sources at cheaper rate and such funds
are used by company for running its several business operations. Management of money raised
by company is necessary to avoid wastage of money and to put the available funds to the best
benefit by considering long term view. In this report, three different task is given which is
completely different with each other; first task is provides details about the various types ratios
along with evaluation of financial statement of an organisation. There are defined different types
of ratio such as Quick ratio, current ratio, assets turn over ratio and many other which is defined
actual position of company and also define that which factor influence of performance of
company. Break even point and margin of safety concepts are clearly explained in this report by
solving a practical issue of a company. Such report provides different sources from where a
company can obtained finance which include internal as well as external sources.
PART – A Fridge Freeze Plc
1. Evaluation of performance of FridgeFeeze:
Ratio Analysis:
It is a analysis where comparison of line items in the financial statements of a business.
Ratio analysis is utilised to determine a number of issues with an entity like liquidity, efficiency
of operations and profitability. Through trend lines estimate about the direction of future ratio
performance.
Profitability Ratios: These are specific measures used by management and accounting
officials to evaluate the business entity's profitability level and actual potentials to make profits
in near future (Wuttke and et. al., 2013). Most considerable profitability ratios are operating
profit margin and net-profit margin ratios. Following are the calculation of such ratios along with
interpretations:
Net-Profit Margin: It's a widely used ratio which defines entity's actual profit making
efficiency (Stead and Stead, 2014). This ratio provides how much company ultimately earned
after providing all its expenses from aggregate amount of revenue. In FridgeFreeze Plc, company
has reported net profit of £4895000 in year 2018 and £7805000 in year 2017. Company's net
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profit margin is 12.69 % and 26.06 % in year 2018 and 2017 respectively which exhibiting that
company's capabilities of generating net income has been declined during the period. It is
required for company to increase their net profit by optimising overall expenses.
Operating Profit: It is ratio which not only defines profitability position of organisation
but also describes operational efficiency over a particular period (Cheng and Humphreys, 2012).
Company's operating profit margin is declined from 33.74% to 19.41% in year 2018 whereas
company's overall sales is increased from £29950000 to £38550000. It indicates that company's
efficiency to generates profits from its core activities is decreased. Company should minimise
their operating expenses in order to improve margin of operating profit.
Liquidity Ratios: This ratios evaluates an business entity's current liquidity situation.
These ratios shows how much liquid funds are available in entity to meet their short-term
obligations (Beaver, Correia and McNichols, 2012). Key liquid ratios are current and quick ratio
which covers entire aspects of entity related to its liquidity position. Following is interpretation
of liquidity ratio of FridgeFreeze Plc, as follows:
Current ratio: It shows how efficient company is to pay its current obligations though
utilising current assets (Fitó, Moya and Orgaz, 2013). A standard ratio is 2:1 below which
indicates that company's liquidity position is not so good as company's current assets are below
the twice of entity's current obligations. HereFridgeFreeze Plc's current ratios are below the
specified criteria but company current ratio has been improved from 1.40 to 1.43 in year 2018.
Quick ratio: It more accurately defines an entity's liquidity position as here in this ratio,
quick assets are taken instead of current assets. A standard criteria of quick asset ratio is 1:1. As
per calculations Fridge Freeze Plc's quick ratios are .69 and .79 in year 2018 and 2017
respectively, which are below the specified criteria (Amaechi and Nnanyereugo, 2013). A
decline in quick ratio has been analysed from comparison of two year ratio indicating that
business's efficiency to pay all its short-term obligations from quick assets has been decreased.
Gearing Ratio: Gearing ratios compares owner's equity or capital invested by owners or
shareholders to company's debts and funds borrowed (Bhargava and Shikha, 2013). Gearing is
indeed a metric of the financial leverage of the organization, which shows the extent to which
operations of a business are financed by the resources of the owners opposed the funds of lender.
Financial leverage and debt to equity ratios are considered as most effective ratios for assessing
an organisation's gearing efficiency.
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Debt to Equity ratio: It exhibits relationship and proportion between company's external
liabilities and funds employed by shareholders and company's owners (Barua and Saha, 2015).
Generally equity two time of the value of external liabilities is considered as favourable position
for a business enterprise. Here company's debt to equity ratio is 0.15 and 0.05 in year 2018 and
2017 respectively, indicating improvement in company's debt to equity ratio. However company
is required to improve their ratio to 2:1 to achieve favourable position.
Financial Leverage ratio: Financial leverage implies to company's dependence upon
debts. It is similar to debt to equity ratio but here in total debt amount is taken instead of only
external obligations (Issah and Ngmenipuo, 2015). Company's debt to equity ratios are 0.44 and
0.30 in 2018 and 2017 respectively.
Fixed Asset Turnover Ratio = Net Sales / Average Total Fixed Assets
2018
(£000)
2017
(£000)
Net Sales 38550 29950
Average Total Fixed Assets 30870 24130
Fixed Asset Turnover Ratio
1.24878
52284
1.24119
3535
Investor Potential: Investor ratios are being used to assess a corporation ' capacity to gain the
company ' owners an appropriate yield. In the company, the owners have money wrapped up and
will need a return proportionate to the danger concerned (Shahbazi Alenjagh, 2015).
EPS = Net Profit / Number of outstanding shares
2018 2017
Net Profit 4895 7805
Number of outstanding shares 26035 24330
EPS: It exhibits that how much a single shareholder will receive as part of company's net from
upon each of it's share. Company's EPS has been declined from 0.32 to 0.18 in year 2018
indicating that company's capabilities to provide return on each share issued has been decreased.
EPS = Net Profit / Number of outstanding shares
2018 2017
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(£000) (£000)
Net Profit 4895 7805
Number of outstanding shares 26035 24330
EPS 0.18 0.32
2. Calculation of Working Capital Cycle:
Working Capital Cycle: Working Capital/ Sales * 365 2018(£000) 2017(£000)
Working Capital 3645 2560
Revenue 38550 29950
Working Capital Cycle in Days
34.5116 or 34
days approx
31.198 or 31
days approx
3. Evaluation of the limitations of using ratio analysis for both cross-sectional and time-
series comparisons:
limitations of using ratio analysis for both cross-sectional and time-series comparisons
are as follows:
 One of the key disadvantage of the ratio analysis is that it neglects the difference of price
level.
 Along with the ratio analysis does not provide accurate results for making comparison of
financial analysis of companies.
 As well as the budgets are calculated by different methods and techniques this lead to
more conflicts.
PART B
Calculations of break even point and margin of safety:
Calculation of break even and contribution
Particulars Amount (£)
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Sales 13500000
Less: Variable cost
Direct material @ £ 125 per unit 5625000
Direct labour @ £5 per unit 225000
Variable manufacturing expenses @ £20 per unit 900000
Variable administration expenses @ £10 per unit -450000
Variable selling expenses @ £15 per unit -675000 5625000
Contribution 5625000
Fixed cost
Fixed manufacturing cost -1650000
Fixed selling and distribution -2850000
Fixed administrative -930000 -5430000
Profit 195000
Break even calculations:
Particulars 2017 2018
Variable cost per unit:
Direct material in £ 125 125
Direct Labour cost (Time – 20 min to make one unit)
in £
5 5
Variable manufacturing overhead in £ 20 20
Variable selling expense in £ 15 15
Variable administrative overhead 10 10
Total variable cost per unit 175 175
Fixed cost
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Fixed Manufacturing cost in £ 1650000 1650000
Fixed selling & Distribution cost in £ 2850000 2850000
Fixed administrative cost in £ 930000 930000
Additional Fixed cost in £ 0 1450000
Total Fixed cost in £ 5430000 6880000
Products produced in Units 45000 45000
Selling price per unit in £ 300 360
Particulars
Unit contribution margin (sales per unit – variable
cost per unit)
= 300-175
= 125
=360-175
= 185
Contribution margin ratio = Unit con. Margin /
sales
= 125/300*100
= 41.67%
= 41.67% (Note 1)
Break even points in units (Fixed costs / Unit
contribution margin)
= 5430000 / 125
= 43440 units
= 6880000 / 185
= 37190 units
Break even points in revenue (Fixed cost /
Cont. margin ratio)
= 5430000 /
41.67%
= 13030957.52
= 6880000 / 41.67%
= 16510679.15
Margin of safety in units (total sales units –
B.E.P. Units)
= 45000-43440
= 1560 units
= 45000-37190
= 7810 units
Margin of safety in revenue (Total sales –
Break even revenue )
= (300*45000) -
13030957.52
= 469042.48
= (360*45000) –
16510679.15
= −310679.15
Note 1: In year 2018, same contribution margin ratio as calculated in year 2017 is to be taken
because this is the requirement of such question.
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PART C
1. Evaluation of single source of both internal and external finance.
This is necessary for companies to have enough fund to operate various kind of activities.
For this purpose there are a wide range of sources to gather funds. As well as these source of
funds are categorised into two parts which are internal and external (McConnell, 2012). Herein
below, sources of internal and external finance are mentioned below such as:
Internal source of finance- The internal source of finance are raised in the organisation. Below
the main source of internal finance is mentioned that is as follows:
Sale of assets- This is one of the important source of internal finance which is related to
getting fund by selling of any fixed assets. In other words, whenever a business sells its
assets then cash is generated that acts as a source of finance. Along with by this source of
finance, managers make further plans regarding to investment.
Advantage of generating fund by sale of assets-
 The sale of assets is useful for getting fund because it acts as source of short or long term
finance. It depends on type of assets which is going to be sell. For example if a business
sells land and buildings then it acts as long term source of fund. On the other hand, if
company sells any vehicle then a little amount of cash is generated that acts as short term
source of fund.
 As well as this source of finance is useful because a company can get the funds by selling
those assets which are not in use or useless for companies (Froud and et. al., 2014).
Disadvantage of generating fund by sale of assets-
 The main disadvantage of this source is that selling an assets before its useful life can be
cause as a loss.
 Along with, it results as capital loss for companies because assets are sold as per the
scrap value.
External source of finance- The external source of finance is mentioned below that is as
follows:
Bank loan- It is a kind of external source of fund in which companies get financial
assistance from financial institutions such as bank. Under this, a fixed amount of money is
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borrowed by organisations from bank for a particular fixed period of time. Mostly organisations
use the bank loan as an important source of finance because it is less costly. As well as
companies can get huge amount of fund by this external source that can help in further
investment planning (Cheridito and Kromer, 2013).
Advantages:
 In this source of fund, companies have option to pay interest payable amount as per their
capability. So this source of finance provide flexibility to companies.
 As well as it is cost effective. This is so because of lower interest rate as well as this
source of finance is cheap in compare to other source of finance.
Disadvantages:
 The repayment burden is a main drawback because if companies fail to pay instalments
on time then banks have right to take ownership any assets on which loan is granted.
 Along with requirements to get loan from bank are too strict which takes time and cost of
organisations.
2. Evaluation of budget and interrelation among budget, strategic objectives and plans.
The term budget can be defined as an estimation of future income and expenses for a
particular time period. Generally, budgets are prepared for one year. There are a wide range of
budgets such as static budget, flexible budget, zero based budget, incremental budget etc.
Basically, the preparation of budget is important for organisations because it provides a
systematic framework to use financial resources in an effective manner. Apart from it, a budget
has below mentioned advantages and disadvantages such as:
Advantage-
 The budgets are helpful in keeping the record of various organisational activities.
 The budgets coordinates all the activities of various department of organisation.
 As well as these are important for effective resource allocation.
Disadvantage:
 The drawback of budget is that it minimize innovation and creativity. This is so because
organisations work as per the pre plan of budget without making any change (KhanI and
Guruli, 2015).
 Due to lack of participation of employees in budget making can cause to demotivation of
employees.
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Demonstration of interrelation among budgets, strategic objectives and plans:
The budgets are interrelated with strategic objectives and plans. This is so because of
following reasons:
Interrelation of budget with strategic objectives- The budgets are linked with strategic objectives
because organisations make budget as per their goals and objectives. If objectives of any
organisation are achievable in long time period then budgets are prepared accordingly for long
time period. It shows that budgets are interrelated to strategic objectives.
Interrelation of budget with strategic plans- Along with the budgets are aligned to the strategic
plans because companies make further plans as per the budget. In other words, companies make
plans as per the various activities of budget to check the allocation of fund to each activity.
3. Process of budgeting and interrelation of budgets with various business activities.
The term budgeting can be defined as a process of budget making. Herein, below process of
budgeting is mentioned that is as follows:
 Set realistic goals- This is the first step of budgeting process in which companies set their
goals and objectives which they want to achieve.
 Identification of income and expenses- Another step of budgeting process is to
identification of future income and expenses. This is being done with the help of previous
activities.
 Designing of budget- In this step budget is designed as per the following previous year's
budgets.
 Putting plans into action- This is one of the important activity in which all plans and
policies are being put into action.
 Look ahead- It is the last step of budget making which is related to the making
modification in prepared budget.
So these are main steps of budgeting process which are being followed by companies to prepare
various kind of budgets.
Interrelation of budgets with business activities:
The budgets are linked with various kind of business activities. This is so because
budgets are prepared on the basis of level of business activities. For example if in a business
there is small range of activities then budgets are prepared for short time period. While if
business activities are performed at a large level then budgets are prepared for long time period.
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Along with, companies make their plans and policies as aper the activities of budget. It is so
because budgets consist proper allocation of financial resources.
CONCLUSION
Financial management is important for every organization to arrange financial activities
in efficient manner. Through the management identify actual position of company in present
time and proper utilize of financial resources. There are defining ratio analysis that can help to
understand previous and current items of the company and analysis them. There are defining
about the budget which is prepared by every organization to prepare planning and formulate their
strategic objectives. Through break even analysis understand contribution and net profit of the
company. The sources of funds internal and external finance which is utilized in efficient way.
Margin of safety technique applied by company to know extra profit rather than to BEP.
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