Strategic Planning for Yorkshire Building Society - Case Study Example

FINANCIAL PLAN REPORT Introduction In our endeavour to continue being the most financial services providers, we plan to diversify our line of business to home furnishings. In order to strategically approach this matter, as the Financial Director of Yorkshire Building Society, the Board asked me to prepare a financial plan for the next three years. The financial planning process I took was designed to forecast future financial results from the intended business venture and to determine how Yorkshire Building Society would best use its financial resources in pursuit of this objective. Since financial planning entails looking well into the future, the process called for a creative thinking and analytical process. From the concerted effort, I made during financial planning and subsequently presenting this report to you, presents Yorkshire Building Society with an opportunity to grow its revenues at a more accelerated pace. Through this financial plan, you have been presented with the numerical logic for decision making. In addition, it serves to show the Yorkshire Building Society’s Board where the need to employ its resources for maximum returns and costs management. Through efficient financial management, Yorkshire Building Society, through its Board, will be able to set aside enough funds for marketing this new venture, expanding its operations to bring about more growth. Through this plan, I specifically addressed the required start-up costs, breakeven analysis, forecasted profit and loss, forecasted cash flow, and projected balance sheet. Additionally, financial ratios were conducted to show the expected performance. Start-up costs Having a good financial plan is a good starting point for answering the critical and fundamental questions on how much it will cost Yorkshire Building Society to get the venture started. The plan by Yorkshire Building Society to start a new business requires that it determines its budgetary needs in a critical manner. Since every business is unique from each other, it has its particular monetary needs at various stages of it development. In estimating the initial capital outlay, I considered the size of our company since there does not exist any universal approach for estimating the start-up costs. Some investment would require considerable investment in equipment and inventory. Additionally, there will be costs involved in the acquisition of the new store in Leeds. Some of the costs that Yorkshire Building Society will incur will be one-off costs as is the case with the new store and the fee for the new venture. Other costs will be ongoing costs, such as the insurance, utilities and inventory for sale. In identifying these costs, I considered whether they were essential or optional since a realistic start-up budget should consider only those items deemed necessary to start a business. Primarily, the start-up costs can broadly be classified into the variable and fixed. Among the fixed costs include the extra administrative costs, insurance, and utilities while variable costs would include shipping and packaging costs, inventory costs, sales commissions, and agents’ fees. Breakeven analysis The break even analysis is used to predict the sales volume, given some price, required to recover total costs. At the breakeven point, Yorkshire Building Society will have covered all its costs but will not have made any profit. In other words, it is that point of sales where neither losses nor profits will be made. Among the assumptions used include: i. Units produced are the units sold but in reality, most firms maintain stock and are unlikely that the opening stock will be equal to the closing stock. ii. Volume is the only factor affecting cost and revenue, but costs and revenues are influenced by multiple factors iii. Marginal reporting is used in reporting; thus, absorption costing cannot be used iv. There is a linear relationship between cost/ revenue and volume, costs, and revenue functions are no strictly linear as in economic they are curvy linear v. Total costs can accurately be classified into fixed and variable components, most costs are mixed. vi. The unit selling price and the variable cost remain constant – the SP is influenced by competitors prices, inflation while VC is influenced by material prices, labour rates, etc. vii. The fixed costs remain constant at any level of activity or decision period, even though, budgeted fixed costs cannot be the same as actual costs. viii. A single product is produced and if more, then a constant sale ratio/sales mix is maintained – most firms produce more than one product and not necessarily at a constant ratio. ix. There is certainty in future i.e. costs, sales and volumes can reasonably be estimated in advance, but in reality, the future is inherently uncertain. Projected profit and loss While projecting the profit and loss that the Yorkshire Building Society is likely to realize after executing its plan to start the new venture, I started by forecasting the sales over the course of the three year. The sales were estimated by multiplying the estimated units’ sale for each product by its respective price. Equally important under this category is the cost of these sales and which are direct costs. This was necessary in order to establish the gross margin and would be a useful item for comparing with different benchmarks. An educated guess was involved because the home furnishing market will be a new line of business for Yorkshire Building Society. Therefore, some past data from the market was relied upon in making these forecasts. The underlying assumption is that there will be no inflation that would influence the purchasing power of the pound and consequently the acquisition costs and selling prices with a significant magnitude. To run this business venture efficiently, other expenses are inevitable. As a result, I estimated the expenses to be incurred. Among these expenses are those that would be incurred in supporting the forecasted sales. Both fixed and variable costs will be incurred. Among the variable costs are the advertisement and promotional expenses, administrative costs, and sundry expense would vary in the same proportion as sales while the interest expense costs would depend on the outstanding debt amount and the corporate taxes would depend on the operating incomes made by Yorkshire Building Society. The projected amounts are presented in the spreadsheet. Projected cash flows The physical pounds movement in and out of our new business was also estimated. While projecting these cash flows, the forecasted sales and balance sheet items were factored in. The forecasted profit and loss could be viewed as the heart of our business while the cash flows will be its blood. The availability of the cash will enable Yorkshire Building Society to pay its bills. The start-up costs, preliminary expenses, and operating expenses are included in this part of our financial plan. In addition, any required reserves, borrowings, and cash balances were also forecasted. However, the projected cash flow statement should regularly be updated and used afterward. Through these projections, Yorkshire Building Society will be able to foresee shortages in time and take the necessary actions upfront. Among the available options would be to negotiate for a loan or perhaps cut expenses. The operating activities form a large part of these projections and include the inventory purchases and sales. The cash flows were also projected in a manner that would ensure that Yorkshire Building Society will have adequate working capital. The presentation of this is in the spreadsheet, projected cash flows. Projected balance sheet The balance sheets were prepared by projecting the assets and liabilities. Through these projections, the net worth of Yorkshire Building Society is projected. This report assumed that, Yorkshire Building Society would only have two non-current assets, the storehouse, and a van to be purchased for transportation efficiencies. Its current assets would only be the cash and inventory balances, and it would not have accounts receivable in the short-term as its sales would be on cash. In the same context, Yorkshire Building Society would not have short-term liabilities. Yorkshire Building Society will, however, borrow some loan to supplement its equity capital. This has been presented in the spreadsheet, projected balance sheet. Ratio analysis This report conducted ratio analysis, which involved the act of quantifying and comparing relationships that subsists between the variables in the statement of comprehensive income and the statement of financial position among other financial statements. The ratios computed were the profitability ratios, short-term solvency ratios, long-term solvency ratios, and efficiency ratios. Profitability ratios These ratios are used to evaluate entity’s earnings in relation to a given level of assets, a given level of sales, owners’ investment or share value. Table 1: Profitability ratios Ratios 2016 2017 2018 Return on net sales = operating income/sales *100 = 300/10,000*100 = 3% =1130/11000 = 10.27% = 1283/12100 = 10.6% Net profit margin = net profit/sales *100 = 35/10,000*100 = 0.35% =616/11000 = 5.6% = 723/12100 = 6% Gross profit margin = (sales-cost of sales)/sales*100 = 4000/10,000*100 = 40% =4050/11000 = 36.82% = 4445/12100 = 36.73% Return on equity (ROE) = net profit/ common shareholders equity*100 = 35/5035*100 = 0.7% =616/5651 = 10.9% = 723/6374 = 11.34% Return on total assets = operating income/ average total assets*100 = 300/6,000*100 = 5% =1130/6,000 = 18.83% = 1283/6,000 = 21.38% Figure 1 Graphical presentation of profitability ratios From table 1 and figure 1 above, it can be seen that all profitability ratios are increasing except the gross profit margin. The return on net sales is anticipated to be 3%, 10.27% and 10.6% in 2016, 2017 and 2018 respectively. Over the same period, the net profit margin is projected to increase from o.35% in 2016, 5.6% in 2017 and to 6% in 2018. The return on equity will be 0.7%, 10.9%, and 11.34% while the return on total assets will be 5%, 18.83% and 21.38% in 2016, 2017 and 2018 respectively. The gross profit margin is however expected to drop slightly and will be 40%, 36.82%, and 36.74% in 2016, 2017 and 2018 respectively. Efficiency ratios Efficiency ratios are used to establish how efficiently the management uses an entity’s assets and other resources to generate sales revenue. Table 2: Efficiency ratios Ratio 2016 2017 2018 Inventory turnover = cost of sales/average inventory = 6,000/ 2000 = 3 = 6950/(2000+1500)/2 = 3.97 = 7655/(1500+1000)/2 = 6.12 Inventory turnover in days = 365 days/inventory turnover = 365 days/ 3 = 121.67 days = 365 days/3.97 = 91.94 days = 365 days/6.12 = 59.64 days 2018 6.12 2018 Figure 2 Graphical presentation of Inventory turnover 2018 59.64 Figure 3 Graphical presentation of Inventory turnover in days The inventory turnover is used to establish the number of times an entity sold its inventory during the fiscal period. From the forecasted results shown above, the inventory turnover will be 3, 3.97, and 6.12 times leading to inventory turnover in days of 121.67 days, 91.94 days and 59.64 days in 2016, 2017 and 2018 respectively. Short-term solvency ratios These ratios measure a firm’s ability to meet its short-term maturing obligations as and when they fall due. From the forecasted results, Yorkshire Building Society will not experience liquidity problems as it will not have short-term liabilities during the forecasted period. The assumption was that Yorkshire Building Society will have enough liquidity to make its purchases on cash. Long term solvency ratios These ratios are used to measure the entitys capital structure, and they show the extent to which the business has borrowed to finance its assets and other resource acquisitions for it to efficiently carry out its normal operations. From the forecast done, Yorkshire Building Society will require to borrow some long-term loans to finance its operations. It will borrow £5,000,000 in 2016, and £1,000,000 in 2017 but no borrowings in 2018. Over these years, Yorkshire Building Society will be required to make an interest payment of 5% of the outstanding loan balance and a principal repayment of £1,000,000 per year. Table 3: Gearing ratios Ratio 2016 2017 2018 Debt ratio = (total debt/ total assets) *100 = 4,000/9035* 100 = 44.27% = 4,000/9651*100 = 41.45% = 3,000/9374 32% Debt to total equity ratio = Total liabilities x 100 Equity capital = 4,000/5035* 100 = 79.44% = 4,000/5651*100 = 70.78% = 3,000/6374 = 47.07% Figure 4 Graphical presentation of gearing ratios From the projected debt to total equity ratio as illustrated by table 3 and figure 4 above, the relationship between Yorkshire Building Society’s debt and equity financing will continue to improve as it continues its operations. This is illustrated by the increasing capital/owners’ equity while the debt is decreasing. This is also shown by the debt ratio that indicates an improving trend. It indicates that the less and less debt will be used to finance its assets as it continued its operations. This implies that, in the long run, Yorkshire Building Society could be able to finance its operations without using debt. References Tracy, A., 2012. Ratio Analysis Fundamentals: How 17 Financial Ratios Can Allow You to Analyse Any Business on the Planet. RatioAnalysis.net. Read More