Questions in Financial Management - Essay Example

Accounting Questions al Affiliation Accounting Questions Question A. Current ratio increases from one period to the next Current ratio is also known as working capital ratio or liquidity ratio and shows the proportion of current asses that a business have with respect to its current liabilities. An example of a time when the underlying circumstances may be such that the current ratio is unfavorable is when the accounts receivable increase from current credit sales only rather from other sales. This means that the debtors of the company or business are not paying their debt meaning that the business goes into a bad debt situation. An example of when the underlying circumstances may be such that the current ratio is favorable is when a business realizes cash increase from sales or from payment of debts. Here, issues of bank overdraft are nonexistent and the business is in a good business shape. b. Accounts receivable turnover increases from one period to the next An example of when underlying circumstances may be such that the accounts receivable turnover increases one period to the next and is favorable is when the accounts receivable turnover has a high value, which shows that there is an improvement in the process of collecting cash on credit sales. An example of when underlying circumstances may be such that the accounts receivable turnover increases one period to the next and is unfavorable is when the accounts receivable turnover has a lower figure that indicated inefficiencies in collection of credit sales. c. Accounts payable turnover increases from one period to the next. A example of when the underlying circumstances may be such that the accounts payable turnover increases from one period to the next is favorable is when a company is paying its suppliers longer than it should take. This means that the company is taking advantage of discounts that come with early payment. However, an example where it is unfavorable is when a company is paying its suppliers very quickly not because of the discounts but because suppliers are demanding the payment terms to be very fast. Question 2 Basics of Credit Analysis Credit analysis refers to the method used to investigate whether a company has the financial ability to repay its obligations. It is done through the development of classification-based approach that seeks to differentiate potential defaulters from non-defaulters. The basics of credit analysis can be understood through five C’s that include character, capacity, capital, collateral and conditions. The first C, character, refers to the general impression the customer has on the prospective investor or lender. The lender comes up with a subjective opinion regarding whether the company or client can be trusted to repay a loan or generate a return from the funds that are invested into the firm. The background of the company and the experience in its particular field of business are issues that must be considered including issues of employee experience, and the quality of the references given (Halpin, Senior & Wiley InterScience, 2009). The second C, capacity, is the most important out of the five C’s. This is the main source of the repayment of the loan or invested funds because it captures the cash inflows and cash generated by the company. The prospective investor or lender will need to know how the funds will be repaid and by doing this, the lender has to look at the cash flow from the company, the timing of the repayment as agreed or suggested, and finally the probability that the loan will be repaid in full. To know whether the customer/ client has capacity, factors such as payment history on past loans and other sources of repayment will be looked at. The third C, capital, refers to the funds that the client (borrower) invests into the business. This helps to show how much the shareholder has in case the business fails to grow as expected. Lenders and investors expect the borrower to provide a contribution to show an undertaking of personal financial risk to establish the business before committing funding to the project. The funding shows an aspect of commitment from the borrower because it is considered as proof. The fourth C, Collateral refers to additional forms of security that the customer provides to the lender. This functions as a repayment incase the borrow fails to pay from established sources agreed in the terms and conditions of the financing. The first C, condition, describes the intended purpose for loan and the circumstances under which the credit or loan will be given. Here, the lender considers local and macro-economic conditions within the industry of the borrower’s business as well as other industries that could affect the payment of the loan (Halpin, Senior & Wiley InterScience, 2009). Question 3 The key issues that should be considered for cash flow analysis. There are several key issues considered when carrying out a cash flow analysis. First, the working capital is an important aspect of a cash flow analysis, and refers to the amount of funds required to facilitate business transactions and operations. It is calculated as current assets and less current liabilities. The computation of the amount of working capital provides a quick analysis of liquidity of the business in the future accounting period. Another important factor in cash flow analysis is the operational cash flows that represent the cash received or used because of the company’s business activities. It includes earnings and the changes to the working capital. A thorough understanding of company operations is also essential to reasonably capture the nature and timing of cash inflows and outflows and ensure that they are correctly reflected in the cash budget. The cash budget is also an important inclusion in cash flow analysis because they act as strategic issues that must be considered in the cash flow analysis. the cash budget can show the overall projected cash requirements of a company for a given period. Therefore, it acts an essential aspect in cash flow analysis. ratio analysis is also significant because it provides insights regarding the relationship of numbers that would readily be available from mere speculation of the individual numerator or denominator. They enable comparisons to be done with previous year scores of the same company and with other companies (Halpin, Senior & Wiley InterScience, 2009). Reference Halpin, D. W., Senior, B. A., & Wiley InterScience (Online service). (2009). Financial management and accounting fundamentals for construction. Hoboken, N.J: Wiley. Read More