Example Answers to Questions on Strategic Financial Management

Q. 1. Many concerns fail through hapless hard currency flow, even whilst their published histories show a net income on trading activities. Explain why this might be the instance and explicate what directors can make to avoid going insolvent through periods of high gross revenues growing. A

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Many people are incognizant that describing a good net income on the balance sheet is non the same as a good hard currency flow. While a batch of concern is done on recognition, hard currency is ne’er the lupus erythematosus, needed for running the twenty-four hours to twenty-four hours activities of the concern endeavor. The hard currency flow statement shows how hard currency has flowed in and out of the concern during the twelvemonth, and hard currency spendings for operating, funding and puting activities ( www.thefreedictionary com )

The fiscal statements of an endeavor, viz. the balance sheet and income statement or net income and loss statement give merely a historical value of the province of the concern on the shutting day of the month of the accounting rhythm. While the balance sheet is a record of the assets, liabilities and stockholders equity as at the stopping point of the twelvemonth, the income statement gives a image of the grosss earned, cost of goods sold and net income or loss on trading and overall activities of the house. There is another group of statements viz. the statement of maintained net incomes or the financess flow statement and the hard currency flow statement that have been the focal point of attending for comptrollers, shareholders and fiscal analysts over the old ages. These statements give a image of the influx and escape of financess due to trading activities, funding activities, investing activities and ten activities. The statement of maintained net incomes shows the net net income and appropriations from the same towards droping financess and militias for other eventualities.

The ground why hard currency flow is of import is that there must be sufficient hard currency for day-to-day disbursals, purchasing some portion of little stock list points, transporting out fixs to machinery, paying wages and the similar. The liquidness ratios, the acerb trial ratio and the debt ratio are of import indexs of whether or non hard currency degrees are sufficient. Of class this besides depends on the type of industry we are in. Those industries holding big graduated table investings and being capital intensifier would hold less demand for hard currency. A hard currency budget is a good manner to look at what hard currency is required for current and future disbursals on a monthly footing. We can besides amend our recognition policies both to clients and loaners in order to acquire more hard currency in the concern. Sometimes a concern in demand of hard currency is forced to give price reductions or extra inducements to creditors. There should be a balance between the gross revenues that are allowed on hard currency and recognition so that some hard currency is ever fluxing in to be used when needed. A reappraisal of the hard currency budget will set up monthly forms over the old ages. This per centum should be adhered to even in times where gross revenues are high, because it is no point in holding good recognition gross revenues figures when the concern is enduring from a terrible hard currency deficit. The ground the hard currency state of affairs is different from what is on the balance sheet is because of the accrual system of accounting which matches grosss with disbursals of the period in which they were earned instead than when hard currency is received.

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Q. 2. You have been asked to analyse the fiscal place of three companies that operate in the nutrient retail industry. The ratios for the last fiscal twelvemonth were: A

Company

A

Bacillus

C

Gross net income border %

15

22

40

Net net income border %

A 9

10

12

Tax return on capital employed %

15

13

16

Tax return on stockholders ‘ financess % A

20

13

12

Stock yearss

18

25

45

Debtor yearss

A 9

32

65

Creditor yearss

A 9

42

55

Net incomes per portion

15p

A A 20p

A A 25p

Price net incomes ratio

16

12

19

Dividend Yield %

7A A A

A 8

A 4

A

Required:

a ) A A A A Comment on the companies ‘ profitableness

B ) A A A Comment on the companies ‘ working capital direction

degree Celsius ) A A A A Comment on the investing ratios. If you were traveling to purchase one of these companies ‘ portions, which one would you take? Explain your grounds.

a ) Remark on Profitability Ratios:

In footings of gross net income borders, Company A has earned 15 per centum on gross revenues, Company B 22 per centum and Company C 40 per centum. While it might look that Company C is the best of the three here, it besides helps to look at the industry norm for nutrient retail. If it is close Company C figures it means that Company B and Company A have a job commanding elements of their cost of goods sold ( Heitger & A ; Matulich, 1985, 177 ) .

In footings of net net income borders, we see that Company A, B and C have earned 9 per centum, 10 per centum and 12 per centum severally. It means that whatever advantage Company C had in its gross net income per centum difference has been washed off here, as the companies are more or less equal. It could intend that either Company A and Company B have a better control over their disbursals or that Company C has less rigorous control. For the best rating, it is better that the net net income border be compared to the industry norm. But it would besides depend on the size of the company, recognition policy, stock list rating method and a whole batch of other things that could hold an impact on the points of grosss, disbursals and cost of goods sold.

Overall, I would state that Company C has the best public presentation of the three in footings of profitableness.

B ) Remark on Working Capital Management:

In footings of the rates of Return on Capital Employed, Company A has earned15 per centum, Company B 13 per centum and Company C 16 per centum. This means that Company A and C are about every bit good in working capital direction, nevertheless Company A needs to go a small more efficient in this respect ( investopedia.com ) .

In footings of rate of Return on Shareholders Funds, we see that Company A has achieved 20 per centum, Company B 13 per centum and Company C 12 per centum. This reflects the fact that Company B and C are about neck and cervix but a long manner behind Company A ‘s efficiency in pull offing shareholders financess.

Overall, Company A rates the best of the three from the point of view of good working capital direction.

degree Celsius ) Remark on Investment Ratios:

A In footings of Net incomes per portion or EPS we see that Company A, B and C have each earned 15p, 20p and 25p severally. It looks like Company C is giving stockholders the best value, but a expression at the shareholding construction and size of the company and capital employed are besides factors to be taken into consideration.

In footings of Dividend Yield, Company A, B and C have figures of 7 per centum, 8 per centum and 4 per centum severally. Dividend output is given by dividend per portion divided by market monetary value per portion ( Meigs & A ; Meigs, 1993, 946 ) . It shows you what per centum of the market monetary value paid for the portion was returned to the investor in the signifier of dividends. It is clear that Company B has given the best overall return to the investor, closely followed by Company A. Company C ‘s low return of 4 per centum may intend that the stock is overpriced, and in that instance we will be seeing a decrease in the market monetary value of Company C portions one time the stock market investors offload this less profitable point from their retentions.

Last, Price Earnings Ratio is non a really good index of value, except when compared to industry norms. The monetary value ernings ratio is the stock monetary value divided by per portion net incomes ( www.curiouscat.com ) Company A has a P/E ratio of 16 significance that the monetary value of its portions in the market are 16 times its net incomes per portion ; Company B has a P/E ratio of 12 and Company C has a P/E of 8.

If I had to take between Company A, B and C for investing intents, I would take Company C. The short term investor would look at dividend output, but a long term investor would be interested in the P/E ratio of 8, the EPS of 25p and the good gross and net net income borders that Company C has at nowadays.

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