Managing Financial Performance and Managerial Finance - Assignment Example

? MBA Managing Financial Performance/ MSc Managerial Finance Resit Assignment Contents Topic Page no. Question 3 Question 2 6 Question 3 10 Appendix 1 11 Appendix 2 12 Appendix 3 13 Appendix 4 14 Appendix 5 15 Appendix 6 18 Appendix 7 19 Appendix 8 19 References 20 Question 1: Financial Analysis of Dunhelm Group Plc: For the purpose of financial analysis of the company, two forms of analysis have been used in this study. The first includes the vertical and horizontal analyses of the financial data converting them into common size statements. The second is the ratio analysis, ratios being computed from the financial data provided in the case. Common Size statements: Numerical figures of financial statements can be expressed as percentages of other figures on the same statement. When the income statement is considered, the items of income and expenses are expressed as percentages of total sales. Considering the balance sheet, the items of assets and liabilities are expressed as percentages of the total assets and total liabilities respectively (Pratt, 2010, p.189). In common size statements, the monetary amounts are converted and expressed in percentages. These statements arranged for one company for a few years “highlight the relative changes in each group of income, expenses, assets and liabilities” (Khan & Jain, 2007, p.6.38). Appendix 1 shows the vertical analysis of the items of the income statement for the company from the year 2008 to 2010. The revenue has been considered as 100 percent and the other items have been expressed over the revenue. From the figures it can be understood that the percentage of net profit has been increasing over the three years from 8.59% in 2008 to 11.04% in 2010, which can be considered as a symbol of improvement for the company. If the gross profit is considered, the percentages are very high being 44.61% in 2008 and increasing over the years to 46.79% in 2010. The percentages of operating costs can be seen to be quite high ranging from 31-32% which may be a reason for the net profit to be comparatively low. Another reason for lower net profits may be the financial incomes being as low as 0.28%. Thus the company requires focusing on minimization of its costs and maximization of its incomes. Appendix 2 represents the vertical analysis of the balance sheets from which it can be analysed that the total non-current assets have increased in the three years particularly with respect to plants and equipments from 51.32% in 2008 to 54.94% in 2010. On the other hand, current assets have shown decrease in the inventories from 39.31% in 2008 to 31.89% in 2010, which may indicate that the company’s sales are improving which have lessened the inventory level. The cash level has however reflected a fluctuation over these three years moving up from 1.84% in 2008 to 12.83% in 2009 and again declined to 7.84% in 2010. Thus the company should have its focus on the cash level. Considering the liabilities, loans and borrowings fell to 0% in 2009 and 2010 from 14.40% in 2008, which reflects lesser dependency of the company on external funds. However the total current liabilities of the company have shown an increase over the years from 84.60% in 2008 to 99.82% in 2010 which may be owing to increasing trade payables and taxations. Appendix 3 and 4 represent the horizontal analysis of the income statement and balance sheet that reflect the improvement of the company over the three years considering 2008 as the base year, reflecting increases in net profits, incomes and assets, although liabilities have also increased over the three years. Ratio Analysis: Appendix 5 shows the calculations of ratios for ratio analysis. Net working capital is the difference between the current assets and the current liabilities (Gallagher & Andrew, 2007, p.479). This is a measure of a company’s liquidity. It can be analysed from the financials of the company that the net working capital that was ?16,769,000 in 2008 increased to ?18,285,000 which implies that the company is in a good position to pay its liabilities; but in the year 2010 the figure decreased to ?5,039,000. Although the amount is sufficiently high, yet a decreasing trend may create concerns for the company. The current ratio, which measures a firm’s ability to pay current liabilities with current assets (Harrison, 2008, p.135) also, shows a decline from 1.29 in 2008 to 1.06 in 2010, which may indicate lesser efficiency of the firm in payment of its current liabilities. Thus the company needs to take measures accordingly. The inventory turnover ratio shows how many times the inventory has been “turned over” during a particular year (Brigham & Houston, 2009, p.89). The turnover ratio has shown an increase over the three years from 3.57 in 2008 to 4.35 in 2010, which implies that inventory, is turned over in a greater number of times which may be owing to greater sales of the company. Net profit is calculated as net profit divided by net sales (Gitman & McDaniel, 2008, p.393) and the gross profit is calculated by dividing the gross profit by total sales (Reimers, 2007, p.306). Considering the profitability ratios of the company, it can be analysed that the net profit and the gross profit have increased over the years; with gross profit increasing from 44.61% in 2008 to 46.79% in 2010 and the net profit increased from 8.59% in 2008 to 11.03% in 2010. The figures of net profit are low implying greater operating costs and other financial expenses. However the trend showing increase in the percentages reflect a good and improving position of the company. ROCE implies the returns made to all financers of a company (Cooper, 2004, p.103) and ROA signifies how well a company utilizes its assets in profit generation (Epstein, 2011, p.282). The returns on capital employed and on assets have shown fluctuations; however, there is an overall increase in the figures with the 2010 figures being 68.11% (ROCE) and 39.11% (ROA) which are highly satisfactory results. The debtors’ collection period shows a decrease from 11 days in 2008 to 8days in 2010 which imply greater efficiency of the company to collect its debts. The creditors’ payment period shows a fluctuation and an overall increase implying the company having enhanced credibility than before. Therefore, looking at the overall financial analysis of the company, it can be realized that the company is in a good position with respect to its performance; however, certain factors like increasing expenses and liabilities are the issues that the company should keep its focus on. Question 2: (a) Determination of the limiting factor in direct operative hours availability for the forthcoming period: As the given question mentions that there would be a shortage of direct operatives in the following period, therefore, it can be clearly understood from this fact that the limiting factor that may prevent the company from achieving its sales targets is the shortage of direct operatives that has been provided as 26,400 direct labor hours being available. The direct labor hours requirement for product Alpha is 7,920 hours, for product Beta is 12,000 hours and for product Omega is 9,120 hours. Thus, the total direct operative hours essential to accomplish the desired sales targets is 29,040 hours. Since the availability of direct operatives given is 26,400 hours, therefore, it can be understood that the number of direct operative hours that is less available is 2,640 hours (Appendix 6). (b) Contribution of three products – Alpha, Beta, Omega: Contribution per unit is calculated as the sales per unit less the variable costs per unit (Atkinson, 2007, p.281). Particulars Alpha (?) Beta (?) Omega (?) (A) Sales per unit 100.00 69.00 85.00 (B) Variable costs: Production 51.60 35.00 42.40 Non-Production 5.00 3.95 4.25 Total Variable cost per unit 56.60 38.95 46.65 (C) Contribution per unit 43.40 30.05 38.35 Thus based on the contributions per unit, product Alpha is at the highest rank with ?43.40 contribution, followed by product Omega with ?38.35 and lastly by product Beta with ?30.05. (c) Marginal cost income statement without the limiting factor: (per unit) Particulars Alpha (?) Beta (?) Omega (?) Sales 100.00 69.00 85.00 Less Variable costs 56.60 38.95 46.65 Contribution 43.40 30.05 38.35 Less Fixed costs 34.30 25.70 27.20 Net profit 9.10 4.35 11.15 (d) Contribution per limiting factor: The contribution per limiting factor can be determined by two different methods. Method 1: This would determine the contribution per unit as ? contribution per hour of direct operative. Then, product Alpha would be ?19.73 per direct operative hour; product Beta would be ?20.03 per direct operative hour; and product Omega would be ?23.97 per direct operative hour (Appendix 7). Method 2: This method would determine contribution as ? contribution per ? cost of direct operatives. Then, product Alpha would be ?1.793 per ? cost of direct operatives product Beta would be ?1.821 per ? cost of direct operatives and product Omega would be ?2.179 per ? cost of direct operatives (Appendix 8). Thus ranking the limiting factors based on their contributions, Omega ranks first followed by Beta and then followed by Alpha. Contribution per unit of a limiting factor assists in the allocation of limiting resources and can be used to determine optimum production schedule (Pizzey, 1989, p.294). (e) Limiting factor revised production schedule: Determining the contributions of the limiting factors, it would be preferred to manufacture or produce product Omega at the beginning which has the highest contribution per unit (?23.97 per direct operative hour or ?2.179 per ? cost of direct operatives). Product Beta should follow next (?20.03 per direct operative hour or ?1.821 per ? cost of direct operatives) and then by product Alpha (?19.73 per direct operative hour or ?1.793 per ? cost of direct operatives). The allocation of the limiting factors can be based on this production schedule that has taken into consideration the contributions of the limiting factors. If the contributions of the product are taken, the results would be different since contribution of product Alpha is the highest followed by Omega and Beta. Product Omega has the highest priority and its direct operatives would be utilized at first to achieve its target sales of 5700 units. Production of Beta and Omega would be followed thereafter. The allocation of the direct operative hours available (26,400 hours) can be as follows: For product Omega’s production of 5700 units, requirement would be 9120 hours For product Beta’s production of 8000 units, requirement would be 12,000 hours. Hours left will be 5280 hours that will be utilized by product Alpha for production of 2400 units. Thus following this production schedule would provide the company to maximize the contribution and profits. (f) Marginal Cost Income Statement for the following period with the limiting factor: (per unit) Particulars Alpha (?) Beta (?) Omega (?) Sales 100.00 69.00 85.00 Less Variable costs 80.27 48.97 61.03 Contribution 19.73 20.03 23.97 Less Fixed costs 34.30 25.70 27.20 Net profit (14.57) (5.67) (3.23) Question 3: The financial standards issued by International Accounting Standards Board are referred to as International Financial Reporting Standards (IFRS) (Rao, 2011, p.195). IFRS has been used by the United Kingdom in its public companies since 2005. A recommended “three-tier reporting framework” would let the companies in the UK to apply complete IFRS. However certain advantages and disadvantages lie with the adoption of IFRS (IFRS for SMEs, 2009). The shift of UK from GAAP (Generally accepted accounting principles) to adoption of IFRS may cause differences in measurement procedures in financial statements. This might have an impact on the cash flow with changes in tax payments, reserves may be less distributed, or “breach of bank covenants” may take place. Also, with the changes needed to be incorporated within the management systems, huge amounts of tasks would be required in converting the accounting systems and details of records, and prepare new statements (PWC, 2011). However IFRS has advantages as well. Adoption of IFRS provides the “equity investors” with several advantages by promising more precise, complete and appropriate information of financial data. It reduces the cost to investors to gather information as IFRS reduce several financial adjustments that are made internally. Lesser global differences in accounting standards facilitate in cross border mergers and acquisitions also. A firm’s cost of capital is also expected to reduce with the adoption o IFRS as higher quality information reduces risk factors thus providing investors with greater assurance of a company. Another major characteristic of IFRS is its fair value accounting as it provides fair value option for plants and equipments, destructions of assets are valued to fair value, and so on. Thus, adoption of IFRS, particularly with respect to UK, has both its advantages and disadvantages (Ball, 2006, pp.11-12). However a company or a country while adapting to IFRS should make detailed research to exploit its benefits to the greatest extent. Appendices Appendix 1. Vertical Analysis: Common Size Income Statement: Dunhelm Group Plc for the years 2008 to 2010 (in percentages) Particulars Year 2008 Year 2009 Year 2010 Revenue 100 100 100 Cost of Sales (55.39) (55.13) (53.21) Gross Profit 44.61 44.87 46.79 Operating Costs (31.99) (32.46) (31.48) Operating Profit 12.62 12.41 15.31 Financial Income 0.27 0.37 0.28 Financial Expenses (0.35) (0.16) (0.01) Profits Before Taxation 12.54 12.62 15.58 Taxation (3.95) (3.74) (4.54) Profit 8.59 8.88 11.04 Appendix 2. Vertical Analysis: Common Size Balance Sheet: Dunhelm Group Plc for the years 2008 to 2010 (in percentages) Particulars Year 2008 Year 2009 Year 2010 Non-current assets: Intangible assets 1.36 3.12 2.65 Property, Plants and equipments 49.96 47.40 52.29 Total non-current assets 51.32 50.52 54.94 Current assets: Inventories 39.31 30.92 31.89 Trade & Other Receivables 7.53 5.73 5.33 Cash & Cash equivalents 1.84 12.83 7.84 Total assets 100.00 100.00 100.00 Non-current liabilities: Deferred tax liability 1.00 0.17 0.18 Loans and borrowings 14.40 0 0 Total Non Current Liabilities 15.40 0.17 0.18 Total Current Liabilities 84.60 99.83 99.82 Total Liabilities 100.00 100.00 100.00 Appendix 3. Horizontal Analysis: Income Statement: Dunhelm Group Plc for the years 2008 to 2010 (in percentages) Particulars Year 2008 Year 2009 Year 2010 Revenue 100 108.16 125.79 Cost of Sales 100 107.65 120.84 Gross Profit 100 108.79 131.93 Operating Costs 100 109.74 123.76 Operating Profit 100 106.40 152.66 Financial Income 100 145.39 126.60 Financial Expenses 100 48.86 4.76 Profits Before Taxation 100 108.85 156.19 Taxation 100 102.58 144.83 Profit 100 111.73 161.41 Appendix 4. Horizontal Analysis: Balance Sheet: Dunhelm Group Plc for the years 2008 to 2010 (in percentages) Particulars Year 2008 Year 2009 Year 2010 Non-current assets: Intangible assets 100 278.64 248.07 Property, Plants and equipments 100 115.05 132.97 Total non-current assets 100 119.38 136.02 Current assets: Inventories 100 95.36 103.08 Trade & Other Receivables 100 92.29 89.97 Cash & Cash equivalents 100 841.78 538.69 Total assets 100 121.24 127.04 Non-current liabilities: Deferred tax liability 100 20.03 23.97 Loans and borrowings 100 0 0 Total Non Current Liabilities 100 20.03 23.97 Total Current Liabilities 100 127.27 142.71 Total Liabilities 100 107.86 120.95 Appendix 5. Financial Ratio Analysis: Liquidity ratios: (I) Net Working Capital (NWC): Net Working Capital = Current Assets – Current Liabilities Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Current assets 75,199 92,650 88,422 (B) Current liabilities 58,430 74,365 83,383 (C) Net Working Capital = A-B 16769 18285 5039 (II) Current Ratio: Current Ratio = Current assets / Current liabilities Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Current assets 75,199 92,650 88,422 (B) Current liabilities 58,430 74,365 83,383 (C) Current Ratio = A/B 1.29 1.25 1.06 (III) Quick Ratio: Quick Ratio = Quick assets / Current liabilities Quick assets = Current assets – Inventories Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Current assets 75,199 92,650 88,422 (B) Inventories 60,710 57,895 62,583 (C) Quick assets = A-B 14489 34755 25839 (D) Current liabilities 58,430 74,365 83,383 (E) Quick Ratio = C/D 0.27 0.47 0.31 Turnover Ratios: (I) Inventory turnover ratio: Inventory turnover ratio = Cost of goods sold / Average inventory Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Cost of sales 217,018 233,628 262,253 (B) Opening inventory 60,657 60,710 57,895 (C) Closing inventory 60,710 57,895 62,583 (D) Average inventory = (B+C) / 2 60683 59302 60239 (E) Inventory turnover ratio = A / D 3.57 3.93 4.35 Profitability Ratios: (I) Return on Capital Employed (ROCE) (in %) ROCE =(Net Profit before tax and interest / Capital Employed)* 100 Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Capital Employed 85,389 112,772 112,688 (B) Profit before tax 49,141 53,491 76,756 (C) ROCE = (B/A)*100 57.55 47.43 68.11 (II) Return on Assets (ROA) (in %) Return on Assets =(Profit before tax and interest / Total Assets)* 100 Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Total assets 154,453 187,264 196,223 (B) Profit before tax 49,141 53,491 76,756 (C) ROA = (B/A)*100 31.81 28.56 39.11 (III) Gross Profit Ratio (in %) Gross Profit Ratio = (Gross Profit / Revenue) * 100 Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Gross profit 174,777 190,155 230,586 (B) Revenue 391,795 423,783 492,839 (C) Gross profit ratio = (A/B)*100 44.61 44.87 46.79 (IV) Net Profit Ratio (in %) Net Profit Ratio = (Net Profit before tax and interest / revenue) * 100 Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Net profit 33,671 37,621 54,350 (B) Revenue 391,795 423,783 492,839 (C) Net profit ratio = (A/B)*100 8.59 8.88 11.03 Efficiency: (I) Debtors (Receivables)collection period (in days) Debtors (Receivables)collection period = (Trade receivables / Revenues or Sales) * 365 Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Trade Receivables 11,636 10,739 10,470 (B) Revenue 391,795 423,783 492,839 (C) Debtors collection period = (A/B)*365 11 9 8 (II) Creditors / Payables period (in days) Creditors / Payables period = (Trade payables / Cost of Sales or Purchases) * 365 Particulars Year 2008 ?000’s Year 2009 ?000’s Year 2010 ?000’s (A) Trade Payables 54,570 65,550 71,638 (B) Revenue 391,795 423,783 492,839 (C) Creditors period = (A/B)*365 51 56 53 Appendix 6: Direct operative hours for product Alpha per unit = ?24.20 per unit / ?11 per hour = 2.2 hours per unit Therefore, total hours = 2.2 hours per unit * 3600 units = 7,920 hours Direct operative hours for product Beta per unit = ?16.50 per unit / ?11 per hour = 1.5 hours per unit Therefore, total hours = 1.5 hours per unit * 8000 units = 12,000 hours Direct operative hours for product Omega per unit = ?17.60 per unit / ?11 per hour = 1.6 hours per unit Therefore, total hours = 1.6 hours per unit * 5,700 units = 9,120 hours Thus, the total direct operative hours = 7920+12000+9120 = 29,040 hours Direct labour hours available = 26400 hours. Therefore, shortage = 29040-26400 = 2,640 hours. Appendix 7: Product Alpha = ?43.40 per unit / 2.2 hours per unit = ?19.73 per direct operative hour Product Beta = ?30.05 per unit / 1.5 hours per unit = ?20.03 per direct operative hour Product Omega = ?38.35 per unit / 1.6 hours per unit = ?23.97 per direct operative hour Appendix 8: Product Alpha = ?43.40 per unit / ?24.20 per unit = ?1.793 per ? cost of direct operatives Product Beta = ?30.05 per unit / ?16.50 per unit = ?1.821 per ? cost of direct operatives Product Omega= ?38.35 per unit / ?17.60 per unit = ?2.179 per ? cost of direct operatives References 1) Atkinson, A. (2007), Management Accounting, 5/e, India: Pearson Education India 2) Ball, R. (2006), International Financial Reporting Standards (IFRS): pros and cons for investors, International Accounting Policy Forum, available at: http://www.passmagazine.co.uk/abr/pdf/005-028.pdf (accessed on August 16, 2011) 3) Brigham, E.F. & J.F. 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