Finance Training and Team Building - Literature review Example

Running Head: ASSIGNMENT   Assignment Student Name: Student Number: Course Code: Instructor: Question Two Most businesses record their business transactions on balance sheets for various reasons. These range from having to track the flow of cash in and out of the business. More often than not, this serves as a means to knowing how the business spends on its core goals and objectives. As such, this can come in handy when trying to judge whether the business is making profits and meeting its objectives, or it is making losses, hence fizzling out as a viable venture. Further, financial statements are a very critical means through which investors may be able to judge the health of a business before deciding to put some money in it. The main means through which these important decisions can be made are through the use of ratios in analyses which lay bare facts about the business. For instance, the quick ratio is a short route to finding out if a company is able to finance its ventures in the foreseeable period ahead (Brown, 2012). Financial ratios give out what may be seen as percentages or probabilities of certain occurrences becoming a reality. Ratios are a better way of understanding why a business is responsive to strategies being used to ensure longevity. Take for instance the DuPont Equation. When used together with a number of ratios like the asset turnover, we can judge whether the business has sufficient assets that do not burden the sales. In this way, the future may be better if an analysis of the equation alongside the mentioned ratios points to a possibility that the assets outweigh the sales turnover. This means that the assets may actually be more than needed. Ratios, in this regard, help to point out an anomaly that can be corrected and things made to work easily for the business since there may be assets that do not favor the financial standing of the business (Berry & and Shabrough, 2013). Following the aforementioned, fact, it only follows that if we can surmise that a business has more assets than it should or than are necessary for its survival, hence impeding strategies to improve sales, then a business that does not have enough assets may also need to stock up on assets as opposed to selling them for businesses that have more assets than sales. This means that the use of DuPont Equation may have a two-pronged solution: Selling the surplus assets, or acquiring assets to match sales turnover. When using ratios, more often than not, analysts find themselves using figures for specific points or financial periods without caring to do a keener analysis of trends. This means that projections are thrown into figures that are not really the correct ones that may be exactly good for investors. In accordance with careful use of financial ratios, it is advisable that an average of figures be used. This gives a good spread of a probable figure that rounds out the figures to a more accurate possibility (Damodaran, 2016). Financial ratios are said to be a pointer to what a business looks like on the inside without taking a physical peak into what stocks or similar information one may need to access. Time and again, this may prove to be a difficult endeavor, especially when business people intentionally use wrong information on their books of accounts to deceive investors. The IFRS has set out standards that should restrict businesses from reporting wrong figures for their businesses. However, there are instances when financial ratios may not really point out exact figures. The case of depreciating assets is a good one. As such, it is prudent to keep noting the asset depreciation of the business time and again. Waiting for information on such assets and taking an assessment after a long period, say 12 months, may give a deceptive figure, leading to refusal by investors to sink money in projects associated with the business (Johannes et. al., 2014). Markets are exposed to a lot of volatilities that may not be directly harmful to the business, but may well set a dangerous trend if not observed. Analyses always take care of such volatilities by using assumptions. However, just like stochastic processes use assumptions, financial ratios, more often than not, use some assumptions that may correct anomalies that arise as a result of uncertainties that cause volatility in the market. For instance, when using hypothetical portfolios, one can calculate the health of an imagined business and offer projections as a means of trying to explain some form of ideas on an investment. This is great since it can be used as a suggestion on how real businesses are run and how projections may be made using hypothetical portfolios (Dhillon et. al., 2016). Net profit margin is a ratio that is very critical in showing how profitable a firm is. Having established this, it is important to note that many businesses are not meeting the goals they set out in their mission and vision statements. Effectively, they do not make profits as they should, and a simple use of the net profit margin may easily expose the business as an entity that does not meet the important consideration of being profitable. Businesses are run solely for the purpose of making profits, otherwise most would not be in existence. However, there are instances when the net profit margin ratio may not exactly be a pointer to the health of a business. The period between starting up and breaking even always marks a period when a business experiences challenges, hence the net profit margin may not really be important as a tool of measuring the viability of a business. This is because a trend has not yet been established to ascertain that this business is likely to fail in the future (Heikal et. al., 2013). Question Three Businesses in the same industry probably use the same set of code of conduct to keep from practicing and engaging in malpractices that may spell doom for smaller players that are yet to be established. Even more important is the fact that industries must be protected so that there is an even playing field for all competitors. However, when businesses have a lower financial muscle, their bigger rivals may be tempted to exercise some untowardly behavior meant to shut down any upcoming company or business. Be that as I may, financial ratios come in handy in evaluating the performance of each competitor against the other, hence creating a situation where each and every business has its financial health laid out bare for all investors to see and choose where to invest. Once in a while, well-meaning analysts take data from competing companies and make comparisons with that of their company. This is very critical in measuring how an entity compares to its peers, or even the bigger companies. Financial ratios are a great way of forming a solid comparison between the aforementioned companies. For instance, the quick ratio is, as intimated before, a great way of finding out how liquid a company is. Liquidity issues may result in a company winding down since it cannot settle immediate liabilities just in case this is necessary. When this is apparent in a comparison between two competing companies, it is more than obvious that investors are likely to shy away from companies that may not be able to meet their immediate obligations by selling a few assets. Without mincing words, this means that a business is actually insolvent. Insolvency exposes a business to many risks, including closing down. When measured against its peers and found to be insolvent, it goes without saying that a business is likely to fare poorly in the said industry (Wolf et. al., 2014). Competition between industry players is really healthy. Having noted this, it is important to look into ways through which a business may be able to stand up to bigger rivals and still perform fairly well against such robust and financially buttressed entities. The price earnings ratio is one important ratio that helps place the value of a company’s stock to investors. Alongside this, the price/ earnings ratio (PE ratio) makes for a very common way through which the market value of a company’s stock may be determined. The PE ratio basically points out to how much a company’s stock is valued in the market. In essence, a high PE ratio shows that the stock is highly valued, meaning that when compared against each other, the company with a higher stock value is likely to be one that performs better than the other, despite the various challenges in definitions associated with the PE. While some quarters would easily use reported figures to calculate the PE ratio, others use forecasted figures, hence the challenges (Drechsler, 2013). Comparison of financial ratios, as has been noted, helps judge a company’s performance against its peers as well as its bigger rivals. However, after ascertaining a firm’s standing in the industry, it is necessary that the said ratios guide the management team on what to do. This means that ratios are important for management teams to craft strategies against competition. An example would suffice in the manner of a company that has just reported a growth in PE ratio, but a decline in net income. One reason may point out to the need to cut costs in order to come up with a higher profit margin. As such, two firs, when compared using financial ratios, may display profitability, yet still need a strategy that may be very important in helping to increase profits. Reduction of debt ratio while increasing asset management besides the usual increase of sales are also strategies that may be needed to increase PE ratio while keeping the net profits intact or even higher (Brigham & Ehrhardt, 2013). Ratios like the gross margin are very pivotal in showing how much a business is making. However, there is god reason to have fairly low projections when using gross margin, simply because when projections soar high above those of competitors, then one may be cheated that the projections are a true representation of what the business will meet. Actually, things do not work this way. Therefore, the gross margin should be calculated while tampering all the projections with realistic figures that prevents a business from indicating unrealistic figures. It is better to have lower expectations that are met, than have high expectations that are not likely to be met, hence create a situation where competitors appear weak when they are not necessarily weak (Jaimovich et. al., 2015). Trend analysis in a firm using formerly obtained figures is important. Comparisons with other companies is equally important since it pits a company with its peers and helps a business to create strategies on how to beat the competition. However, the former comparison is a better indicator on how good a firm is doing since different companies use different strategies to achieve their goals as stated in their mission and visions statements. This means that while a business model works for a company, say X, the same may never apply in a company Y. this is apparent due to the fact that each company is unique in structure and operations, hence glaring differences in strengths and weaknesses. While a company A may have an advantage in economies of scale, a second one may have its strengths in a different strategies, meaning that the financial ratios may not point out to these realities. As such, it is important to tamper use of ratios with reason so as not to come across undefined challenges that are unique to specific businesses in their industry due to business models and structure. In addition to the abovementioned fact, it is prudent to note that one weak ratio may be offset by a second strong one. These figures differ too in different business, indicating that comparison of businesses in the same industry is indeed a tricky affair. References Berry, S. G., & Sharbrough, W. C. (2013). Finance Training and Team Building: An Example of Finance Training Leading to Team Building. Journal of Executive Education, 10(1), 4. Brigham, E. F., & Ehrhardt, M. C. (2013). Financial management: Theory & practice. Cengage Learning. Brown, R. (2012). Analysis of investments & management of portfolios. Damodaran, A. (2016). Damodaran on valuation: security analysis for investment and corporate finance (Vol. 324). John Wiley & Sons. Dhillon, J., Ilmanen, A., & Liew, J. (2016). Balancing on the Life Cycle: Target-Date Funds Need Better Diversification. The Journal of Portfolio Management, 42(4), 12-27. Drechsler, I. (2013). Uncertainty, Time‐Varying Fear, and Asset Prices. The Journal of Finance, 68(5), 1843-1889. Heikal, M., Khaddafi, M., & Ummah, A. (2014). Influence Analysis of Return on Assets (ROA), Return on Equity (ROE), Net Profit Margin (NPM), Debt To Equity Ratio (DER), and current ratio (CR), Against Corporate Profit Growth In Automotive In Indonesia Stock Exchange. International Journal of Academic Research in Business and Social Sciences, 4(12), 101. Jaimovich, N., Rebelo, S., & Wong, A. (2015). Trading down and the business cycle (No. w21539). National Bureau of Economic Research. Johannes, M., Korteweg, A., & Polson, N. (2014). Sequential learning, predictability, and optimal portfolio returns. The Journal of Finance, 69(2), 611-644. Wolf, F., Carlo, H. G., & Peters, W. M. (2014). Stress Testing for Insolvency. Read More