Production and Financial Performances - Essay Example

?Company’s Annual Reports and Accounts To what extent are a company’s annual report and accounts useful in understanding and analysing its market, productive and financial performance? Discuss using an extended example. For every public or private company, it is mandatory by law to maintain annual reports and accounts. The usefulness of annual reports lies in terms of decision making, getting the overall picture of the current position of the company, added by necessity of the reports for smooth and efficient running of the company. Since annual reports are attested by external auditors, the reports can help to properly guide the investors to decide on which company they can invest with expectations of high returns, as the reports reflect the financial strength of a company. This paper discusses the usefulness of annual reports in understanding a company’s market, production and financial performances. Management perspective A company needs to strive to remain in competition within the framework of several internal and external factors like political, economical and social structures. The owners delegate most of their responsibilities to the senior management thus elevating the power of the management to decide a company’s objectives and to design policies for the purpose of realisation of those objectives. It is only with the guidance obtained by studying annual reports and accounts, the management can make operational and strategic reconfigurations of resources for the purpose of consolidating the position of the company in the competitive market. The independent controlling power of the management separate from the owner ensures that the sole objective of profit optimization cannot be realised since the company’s policies and behaviours are also controlled by various other factors. Technically, profit can be maximized if the organisation can detect “marginal cost, marginal revenues and production output up to a point where marginal cost of the last unit produced just equates to the marginal revenue received from its sale.” (Haslam, et al, 2000, p.4) In fact, a set of rules and regulations of accounting helps the management to identify the production cost and sale price of each unit to determine the company’s performance in the fields of production and sales. The annual reports reflect the performance patterns of a company from one period to the other (Haslam, et al, 2000, pp.4-5). Users of accounts Annual reports and accounts can be defined as means of “communication of information about the financial position and performance of an entity to interested parties.” (Laidler & Donaghy, 1998, p.1) In any company, every year balance sheet and profit and loss account are published in a document form along with other financial statements, together known as annual reports and accounts. These accounts are useful for both internal personnel like directors and managers, and also external people like investors, creditors, customers etc. Investors are those people who invest their money by purchasing shares of a company thereby taking risks in the hope of getting dividends in due time. For this purpose they need to know the management efficiency of the company in order to determine whether their investments will be profitable. Employees and trade unions study the annual reports to become aware of the financial stability of their company to decide whether they will be continued to be employed at appropriate levels of remuneration. The annual reports are also important for the lenders like banks and individuals who lend money to a company. They need to be aware whether the company will be able to repay their money together with their interest in due time. Similarly, for creditors and suppliers, the annual reports give them the information whether they will be getting their payment at the right time. Then there are customers like other organisations who purchase goods from the company; they need to know the financial stability of the company to remain satisfied that goods and services will be supplied whenever required. The statistical data of a company are useful for the government for evaluation of corporation tax and other indirect taxes. Finally, the annual accounts can also serve interest to the local population as inward investments can create extra employment and can also increase opportunities for local suppliers (Laidler & Donaghy, 1998, pp.1-3). In a company where the ownership and the management control are separate, calculations of final accounts take place within a specific framework. In a company where the share capital has been issued to the public, the ownership generally vests in the shareholders. The control remains in the hands of the owners only in those business enterprises which have partnership or sole proprietorship. It is the responsibility of the shareholders to select the board of directors and appoint professional managers to whom the shareholders delegate operational control. Although these managers can hold substantial share values of the company, they are in no way owners of the company. It is the management body that implements calculation policies for final accounts that reflect the vested interest of the shareholders. The shareholders have a claim against profits and are not alone who are interested in the profit structure of a company. There are others like banks and other financial institutions and also individuals who provide finance with loan overdrafts and working capital; they expect a return on capital. The management body of a company is answerable to the shareholders on the matter of how the funds that the latter have invested have been utilized, and the final reports and accounts reflect a company’s profitability and its aptitude to generate a level of cash to cover all kinds of expenditure (Haslam, et al, 2000, p.140). Constituents In any company, the annual reports and accounts comprise of profit and loss, balance sheet, cash flow reports and also auditor’s reports (Haslam, et al, 2000, p.5). Although the format of cash flow reports can vary from country to country, however there is a basic common format that includes yearly net profit or loss, depreciation of fixed assets and amortization, working capital adjustments, increase or decrease in inventory, increase or decrease in the number of debtors, increase or decrease in the number of creditors and cash flows from operations. (Haslam, et al, 2000, p.37) These annual reports “reflect a complex relation between market conditions, the productive organisation of resources and forms of capitalization of a business.” (Haslam, et al, 2000, p.5) This means that profit earned, cash inflow are related to the fluctuating conditions of the market, amalgamation of resources and sources of capital of the company. In accounting terms, the total profit of a business is the difference between the total revenue which means all earnings from the market, and total cost incurred on raw materials, labour and other production activities. The overall managerial performance of a company in respect to profitability and expansion is restricted by many structural and institutional limitations that can constrain the financial performance. For example, market demand of products may fluctuate, price of products may rise or fall, quantity of sales may drop. Therefore, cost recovery and cash inflows from market are greatly influenced by “a complex series of interactions and relations.” (Haslam, et al, 2000, p.5) For all these factors, a company’s management board needs to scrutinize annual reports and accounts to comprehend the production, sales and marketing functions of a company, and also compare these functions with the functions of preceding years to understand the profitability trend of the company. Calculation of value added The annual reports and accounts can also be used for the purpose of calculating value added which can guide the managerial board to apply appropriate policies. Value added can be defined as “wealth created by a business or activity.” (Haslam, et al, 2000, p.34) It can have two perspectives – first one is subtractive, which is the difference between purchase value and sales value, and the second one is additive which is total value of profits, depreciation, interest, salaries, wages, dividends and taxations. The subtractive angle reflects the value added and the additive angle reflects the distribution of the wealth created. The concept of calculation of value in a company is same as the concept in the national economy. The calculation of value added is also the net output and it is defined as the “sales revenue minus the bought-in materials” (Haslam, et al, 2000, p.34). As an example, calculation of value added of Ford Motor Corporation is given in Table 1. Table 1: Calculation of value added using subtractive and additive methods Figures all in million of $ 199Y 199X Sales revenue 146,991 137,137 Minus: Purchase of materials and services (101,720) (94,955) Value Added 45,271 42,182 Labour costs including social charges 25,687 23,758 Depreciation 12,791 11,719 Operating Profit 6,793 6,705 Value Added 45,271 42,182 In this example, 70 percent of the revenue earned from sales has been used to make payments to suppliers of materials and services. The remaining 30 percent is the value added of the company. If this is compared with value added of other car companies, then it can be observed that “Ford is internationally more or less vertically integrated than its competitors.” The value added is then used for the purpose of salaries and wages of labour including pensions and healthcare, depreciation values and operating profit to cover government taxes, bank interests and dividends of shareholders (Haslam, et al, 2000, pp.35-36). Thus, the above table gives a clear picture of the financial position of Ford Motor Corporation. Conclusion Annual reports and accounts give a clear picture of the current competency of a company in terms of profitability to indicate the company’s ability to garner monetary profits from its various projects and activities. By comparing annual reports of several preceding years, it can be possible to know the level of consistency of the company’s growth and expansion. The balance sheet which is main component of annual reports reflects the values of assets and liabilities to indicate whether the company’s revenues can cover the annual fixed and variable costs, and also whether the company’s debts are growing. Annual reports and accounts are a good way of providing information about a company’s profitability and market relations to potential investors, clients and customers. References Haslam, C., Neale, A.D. & S. Johal (2000). Economic in Business Context, ed.3. Cornwall: Thomson Learning Laidler, J. & P. Donaghy (1998). Understanding UK Annual Reports and Accounts: A Case Study Approach. UK: Thomson Press Read More