Accounting: Business Reporting for Decision Making - Assignment Example

Name: Institution: Professor: Date: Option two Introduction In this report, we will use the financial statements for the year ending 2012 in ascertaining the financial position of Woolworth limited and Wesfarmers limited. Comparison between the two companies will also be carried out by use of the financial ratios. Financial ratios include profitability, efficiency and financial leverage ratios. Methodologies used in financial reporting for the two companies will be compared and contrasted. Methodology The annual statements have been prepared on the basis of the historical cost except in cases where otherwise stated. Uses of Financial Ratios Basically, there are two uses of financial ratios. To begin with, they are useful in determining the firm’s performance and its financial position. Growth in the business is ascertained by analyzing the trends over time. For instance, observing changes in ratios between two accounting periods. Trend analysis concerns issues such as increasing average collection of receivables, decline in profitability or liquidity status of the firm. Therefore, ratios are a benchmark for measuring overall performance of a firm. Secondly, ratios are used in making relative performance comparisons of a firm with another. For example, a firm can compare itself with a competitor. These comparisons of financial ratios are useful to both the internal and external users as they use the information to make judgments. External users include competitors, government, potential investors, lenders and security analysts. They use the information in identifying any opportunities and threats facing the firm. For example, lenders use the gearing ratios to ascertain the balance sheet position of the firm before lending out money. If the gearing ratio is high, they decline the firm’s request of being given financial assistance. On the other hand, internal users such as managers and employees use the information in identifying any strengths and weaknesses in the organization. for example, the managers may decide to cut down operational costs if the net profit margin is very low. Employees can be downsized as a way of reducing operational costs. Comparison of Ratios for Wesfarmers Limited and Woolworths Limited   WESFARMERS LTD WOOLWORTHS Financial leverage ratios 2012   Debt ratio = Total debt/Total assets 0.09 0.43 Debt equity ratio= Total debt/ Total owners equity 0.17 0.93 Equity multiplier= Total assets/Total owners equity 1.82 2.20 Interest coverage ratio = Income before interest & tax/ Interest expense 22.14 75.53 Turnover ratios     Assets turnover ratio=Income/total assets 1.32 5.71 Accounts receivables turnover ratio=income/accounts receivables 23.45 91 Days receivables turnover ratio=365/accounts receivables’ turnover 15.57 4.01 Liquidity ratios     current ratio 1.02 1.31 quick ratio 0.55 0.74 Net working capital ratio 0.00 0.12 Profitability ratios     Profit margin 0.04 0.08 Return on assets 0.05 0.22 Return on Equity 0.09 0.48 Earnings per share 184.20 269.2 Financial leverage ratios The financial leverage ratios are used to calculate the solvency of the firm in the long term. This is contrary to the liquidity ratios which are concerned with the short term solvency of the firm. They measure the extent to which a firm is financed through debt and how well the firm’s income can cover debts interest payments. Debt ratio for Wesfarmers is 0.09 while that of Woolworths is 0.43. The debt ratio for Wesfarmers is less; therefore the capital structure is not at a risk. In future the company is legible to borrow funds with ease from lenders. The interest coverage ratio for Wesfarmers is 22 while that of Woolworth is 75 .therefore Woolworths is in a safe position as it can cover its interest payments. Turnover ratios The turnover ratios are used to measure how well a firm utilizes its assets The average collection period Wesfarmers is 15 days while that of Woolworths is 4 days. This is a favorable indicator that Woolworths is taking shorter time to collect its receivables. The accounts receivables turnover for Woolworths is 91 while that of Wesfarmers is at 22.14. The assets turnover ratio for Wesfarmers is 1.32 while that of Woolworths is 5.71. This means that Wesfarmers is not utilizing maximally its assets to generate income. When assets are fully utilized together with other resources, then more income is generated. Woolworths has higher revenue than Wesfarmers. This means its assets are well used in generating the income. Profitability ratios Profitability ratios measure the degree to which a firm is successful in generating profits. From the above workings, profit margin of Woolworths is more than that of Wesfarmers by 0.04. This maybe as a result of higher revenue for Woolworths compared with Wesfarmers. Woolworths has revenue of 57,417M while Wesfarmers has revenue of 55,897M. Other operating expenses for Wesfarmers are higher than those for Woolworths. Normally, when a company is expanding you find out that the operational costs increase. The higher the profits, the higher the earnings per share and dividend per share. From the tabular above the EPS of Woolworths are 269.2 while Wesfarmers EPS is 184.2.This means the shareholders did not get any distribution. The Return on assets and equity are also high in the case of Woolworths compared to Wesfarmers Liquidity ratios Liquidity ratios are used to measure the firm’s ability to meet its short term financial goals The current ratio for both companies is above one although that of Woolworths is higher than that of Wesfarmers. This means that the liquidity position is good. The quick ratios are below one. An indicator that the companies are not in a good position in meeting their short term goals. The difference has been brought about by inventories. The net working capital of Wesfarmers is Zero an indicator that the company has no or minimum working capital in the short term. On the other hand, Woolworth’s net working capital is 0.12 an indicator that it is in a better position than Wesfarmers. Key tax compliance areas Both companies are legible to the income tax on profits. The income tax payable for Wesfarmers limited is $455 million while that of Woolworths is 1,289 million. Woolworths has deferred tax of 475 million which has been calculated at the corporate tax rate. Deferred tax is a future income that is taxable that is the reason why it an asset. Mineral recourses rent tax (MRRT) and Petroleum resource rent tax (PRRT) in Australia are charged on iron ore and coal projects in the case of Wesfarmers. These two taxes were introduced in March 2011 after legislation was passed by the senate. Conclusion The performance of the two companies is good as they have profits. As a result, the earnings per share are also high for the shareholders. This will attract investors and also maintain the existing ones. There are also other aspects used in measuring the performance of companies such as the level of customer’s satisfaction, corporate governance and corporate social responsibility. It is recommendable for both companies to strive towards achieving these needs. Reference Birt and Gregory Boland (2010). Accounting: Business Reporting for Decision Making. Wiley and sons publishers. Read More