Financial Risk Analysis and Management of the British American Tobacco and the Wire and Plastic Products - Coursework Example

Risk Management Name Instructor Course Risk Management Introduction Financial risks are basically the possibility that the shareholders of a particular company may lose their money after they invest in an enterprise that is either failing to meet their financial obligations or is in debt (Xenidis and Angelides, 2005). When an organization is utilizing debt financing, then the creditors of that organization are repaid before the shareholders before it becomes insolvent. Several types of financial risks are related to the finances of a given corporation in various industries. It is, therefore, a depiction of the uncertainties of an investor regarding the potential monetary loss or their failure to collect the required returns (Xenidis and Angelides, 2005). Following this, many investors utilize various risk ratios to evaluate the prospects of their investments. These are some of the measures that they take to manage their financial risks among others. The paper will describe and compare the financial risk profiles of two companies, the British American Tobacco, and the Wire and Plastic Products, as well as assess the measures that they take to reduce their exposures to risks. British American Tobacco (BAT) BAT is a company that was started in the year 1902 and has since continued to grow thanks to their commitment to their various categories of Next Generation Products, their different leading tobacco brands, and their talented and committed staff members (Freeman and Chapman, 2010). BAT is among the leading multinational organizations with different types of brands which are sold in more than 200 markets across the world. They are market leaders in about 55 countries that they operate in and are widely known for the manufacturing of cigarettes for about one million smokers. Additionally, they have constantly been rated among the first ten companies in the London Stock Exchange (Freeman and Chapman, 2010). Apart from their conventional tobacco business, BAT is develops products which give their consumers some less risky options from the regular cigarettes which is what they term as the Next Generation Products. From this background, it is evident that BAT has had rather straight or well-thought financial competencies and has managed to be at hedge from the various existing financial risks (Freeman and Chapman, 2010). BAT Financial Risk Profile Just like many other multinational companies, BAT has had its fair share of financial risks judging from its annual financial reports (Cox, 2000). The intermediate financial risk profile of BAT depicts a reflection of their strong nature of cash-generation which is what has enabled it to be rather flexible when it comes to the allocation of discretionary cash returns to its shareholders and cash flows to their investments (Cox, 2000). Infill acquisitions, share buybacks, and dividends could absorb the various BAT’s discretionary cash flows which is what presents one of the significant financial risks for the company. Additionally, their debt leverage started to become unstable in the year 2015 because of ramping up their infill acquisitions and at the same time continued with their significant share buybacks (Cox, 2000). BAT is also experiencing some liquidity and funding risks which has the possibility of exposing the company to some shortages of cash equivalents and cash which is required for the operations of the company as well as for the refinancing of the current debt that they are in (Cox, 2000). The changes in the interest rates and the currency values pose some risks of having some detrimental impacts on the operations and the financial conditions of BAT. The cash deposits, as well as some financial instruments of BAT, have resulted to some credit risks regarding the amounts that are still pending from their counterparties (Berling and Rosling, 2005). The changes in the interest rates, salary increases, asset returns, and various other actuarial assumptions have the possibility of impacting the arrangements that the company has made regarding the retirement benefits which will, in turn, have some negative effects on the company in the long term (Berling and Rosling, 2005). Another financial risk that has presented itself for BAT is regarding legal issues. BAT has undergone its fair share of legal constraints especially lawsuits (Godsell, Birtwistle, and van Hoek, 2010). This has been the case because of its manufacturing of cigarettes as its primary product which has been made available even for young people who are not of age to take it. Other legal risks associated with BAT has been about some of its operational practices like cases of personnel issues, suspicion of fraud, the legal market shares in various countries of operation, among others (Godsell, Birtwistle, and van Hoek, 2010). For example, in one of its operational countries, Malaysia, there was a significant increase in the incidences of illegal cigarettes in the year 2014 which dampened the company significantly. There were notably high levels of illegal cigarette trade which rose up to 36.9% which was as a result of the problems of contraction of the legal market caused by the increase in excise which was unprecedented in the previous years (Godsell, Birtwistle, and van Hoek, 2010). Following the various legal matters that the company faced, it lost significantly financially because of undergoing the various legal proceedings and addressing several other legal risks that the company has been facing. BAT has also faced high societal risks mainly because it operates in different countries with different environments. Some of the societal risks are about what might happen to BAT if some significant catastrophes were to take place like wars or terrorist attacks among others (Freeman and Chapman, 2010). Other societal risks are about various cultures and societal settings which may be differing from those of the company which in turn presents these financial risks. The occurrences of some of these risks could probably result in ruining the company financially, which is what has led the company, just like many other multinational corporations to be prepared for such cases (Clark, Dixon, and Monk, 2009). These risks necessitate BAT to have some emergency savings for such risks; however, it is rather difficult to save a lot of money for what is unknown, yet there are other existing financial problems like debts that need to be addressed, and yet there is no money to do so (Freeman and Chapman, 2010). Wire and Plastic Products The Wire and Plastic Products (WPP) is a British multinational public relation and advertising organization. Its main office is located in London, and its executive office is based in Dublin, Ireland (Burke, 2000). WPP is rated the largest advertising company in the entire world by revenues as it has employed about 190,000 individuals in its about 3000 offices in the 112 countries that it operates in. WPP owns many market research, public relations, and advertising networks around the world some of which include Hill & Knowlton, IMRB, Ogilvy & Mather, Cohn & Wolfe, among others (Burke, 2000). Just like BAT, WPP also has a primary listing on the London Stock Exchange and a secondary one on the NASDAQ. Additionally, as a multinational company like BAT, it has its fair share of financial risks as well as has put forward mechanisms to reduce its exposure to those risks (Burke, 2000). One of the financial risks that WPP is facing is the market risks. As compared to BAT which operates in only 55 countries in the world, WPP is operational in 112 countries which means that is has a wider market (Saunders and Cornett, 2014). The market risks that WPP is experiencing entails the constantly changing conditions of the market in which it operates and competes. Some of its competitors are outmaneuvering one of the risks that WPP is facing regarding the market risk. Like every other company, WPP is facing significant competition in the global marketplace with some countries having higher levels of competition as compared to others (Saunders and Cornett, 2014). The highly competitive marketplace on a global scale often results in narrowing or reducing the profit margins which presents high financial risks for the company. Although over the years, WPP has offered some unique value propositions which are what has made it stand out from its competitors over the years, it is a continuous process, and competition increases as more and more companies enter the marketplace (Saunders and Cornett, 2014) Another financial risk that WPP is facing is the credit risks. These risks have occurred when the company resolves to extend some credit facilities to some of its customers. As documented earlier, WPP offers some advertising and public relations services to many organizations and large companies at that (Cheong and Leckenby, 2006). Therefore, as a way of enhancing or maintain customer loyalty to their brand, WPP offers some credit facilities to its consumers. In doing this, WPP often takes a significant financial risk when providing these credit services because of the probability of the customers defaulting payments (Cheong and Leckenby, 2006). Following this, WPP has constantly handled its credit obligations through trying to ensure that it has some adequate cash flows which they could utilize to pay their bills on time. Without doing this, the company is at high risk of entering into many debts and defaulting several of its payments as well which is detrimental to the business (Cheong and Leckenby, 2006). The liquidity risk is another financial risk that WPP is facing. This liquidity risk concerns the operational and asset liquidity risks. Regarding the asset liquidity risks, WPP uses various channels, outlets, and facilities to carry out its advertising and public relations goals (Dearlove, 2006). Therefore, since this is more of a service company, it faces high risks of failing to convert some of its assets into cash that would be beneficial for the financial status of the firm. If WPP fails to turn their services into economic gains, then they would require a substantial and sudden additional cash flow which may be difficult to obtain or even sustain its operations (Dearlove, 2006). On the other hand, WPP also faces the risks regarding their operational funding liquidity which is about their daily cash flow. WPP operates in about 112 countries each with its types of operational funding (Dearlove, 2006). There have been various times when the company has faced some seasonal and general downturns in their revenues which presented substantial risks. This is more so in the cases when the company found itself lacking enough cash to pay for their basic expenses which were necessary for them to continue operating as an enterprise (Dearlove, 2006). Just like the BAT Company, WPP has also faced the inflation and the large interest rates risks. Inflation, in one way or the other, impacts the purchasing power of the company’s clients. There have been instances when WPP faces ‘low season’ which means that the number of customers who are seeking their services has diminished (Cheong and Leckenby, 2006). After critical evaluations of the causes of this low number of customers, it was established that inflation played a significant role in it. When the inflation rates are high, many of their clients tend to be rather conservative in seeking the services of the company which impacts the finances of WPP (Cheong and Leckenby, 2006). The other financial risk was the risks regarding the interest rates. These rates have constantly been changing which affects the rate of returns of the cash which is saved in banks or seeking for financial services from the same banks (Dearlove, 2006). Financial Risk Management Financial risk management is essentially the practice of an organization to raise its economic value through the use of various financial instruments to address and manage their exposure to different types of financial risks that they are facing (Alexander, 2005). Some of the financial risks that BAT and WPP are facing include credit, legal, operational, financial, and shortfall risks, among others. Both of these companies have put in place various qualitative and quantitative measures which seek to keep the particular companies on the hedge in the management of the exposures to financial risks which are costly (Alexander, 2005). As described earlier, one of the greatest financial risks that WPP is facing are the credit risks. Following this, the company has sort to partake the credit and contract agreements to leverage itself from defaulting risks (Saunders and Allen, 2010). Through these contracts, there be lot more security since the breach of the contract will be legally offensive. Additionally, in the case that there are some suppliers involved, then the contracts will be a way of shifting the credit financial risks to the suppliers who would bear the costs if the client fails to pay (Saunders and Allen, 2010). Therefore, through formulating stable and workable contracts between the customers and the company, there is more security that the credit will be paid on time to avoid the involvement of legal cases if the contracts are breached (Saunders and Allen, 2010). Another financial risk that BAT is facing is about the legal risks. As described earlier, these risks are associated with the legal market shares, the illegal cigarette trade, fraud allegations, among others (Cox, 2000). Following this, BAT has undertaken to try as much as possible to abide by the regulations of the particular country in which they operate in. Specifically, before investing, the company strives to acquire a legal market share which will dictate how the trade of their products will be conducted (Hillier, Grinblatt, and Titman, 2011). Transparent business undertakings have enabled the company to maintain its integrity as well as maintain a good image to its stakeholders and consumers. Through various other mechanisms, BAT has avoided legal issues which have in turn led to massive financial savings that could have otherwise resulted in significant economic losses (Hillier, Grinblatt, and Titman, 2011). Another risk management strategy that WPP is implementing to address the market risks and the shortfall risk is diversification. This approach involves the company investing in more than one line of product or service. BAT is also taking the same method to buffer itself from various the market risks and other financial risks (Alexander, 2005). For example, aside from just manufacturing cigarettes, BAT has begun making Next Generation Products. On the other hand, WPP is also into advertising and public relations (Freeman and Chapman, 2010. These have been successful in both of the companies where money has been split in the various markets that the companies operate in. High investments are made in the low-risk markets while low investments are made in high-risk markets. Diversification has been fruitful in that is spreads the financial risks among the risky and safe investments regions in the different economic markets that BAT and WPP operate in (Alexander, 2005). As discussed earlier, another financial risk that both BAT and WPP is facing is the liquidity financial risks. This risk is associated with the lack of operational cash which takes place often after making significant investments in the new operational markets (Saunders and Allen, 2010). Therefore, the companies tend to make new investments using their savings account which oversees that the company has some cash at hand that they could use in the event of some emergency purposes. Having a savings account and using these saving when need be has provided a rather safe environment for making new investments while at the same time ensuring that some funds are still there for emergency purposes (Saunders and Allen, 2010). Regarding the risks of the interest rates and the inflation rates risks that both of the companies are facing, BAT and WPP have strived to minimize their financial needs as well as their loans. These rates often change and more so change at different levels in the various countries that the businesses operate in (Hillier, Grinblatt, and Titman, 2011). Therefore, to buffer the companies from these changes, the loans and the financial requirements are kept to a minimum which in turn controls the growth of the companies at a rate which they can individually finance internally. If the companies fail to pay some of their loans, they choose to keep their loans at fixed rates or change their short-term to long-term goals (Hillier, Grinblatt, and Titman, 2011). Although it has proven to be rather difficult in the changing economic world, it has proven to be effective in reducing the risks related to the changing inflation and interest rates (Hillier, Grinblatt, and Titman, 2011). Conclusion Financial risks refer to the probability of a company incurring many losses due to various risks like debt, credit defaulters, legal issues, among others. BAT and WPP are both multinational corporations in different industries which have excelled over time. However, both of these companies have experienced different financial risks like liquidity risks, operational, shortfall, legal, market, societal, and other financial risks. Since these different risks have detrimental impacts on the businesses, the organizations have undertaken to implement some strategies to reduce the risks. Some of the strategies include formulating contracts when offering credit services, using credit accounts, observing country’s regulations, and diversification among other strategies. References Alexander, C 2005, The present and future of financial risk management. Journal of Financial Econometrics, 3(1), pp.3-25. Berling, P. and Rosling, K 2005, The effects of financial risks on inventory policy. Management Science, 51(12), pp.1804-1815. Burke, D 2000, Spy TV. Slab-O-Concrete Publications, Hove. Cheong, Y and Leckenby, J.D 2006, January. An evaluation of advertising media spending efficiency using data envelopment analysis. In American Academy of Advertising. 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