Analysis of the Operation and Financial Condition of the Enterprise

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Analysis of the Operation and Financial Condition of the EnterpriseLong-term liabilitiesLoans 120.000Current liabilities ?Trade accounts payable 155.000Short-term loans 140.000Balance of accounts receivable and accounts payable was maintained equal in the entireyear.1. Estimate the following ratios for Enterprise ‘ABC’:- average stock turnover period;- average debt collection period;- average term of payment for creditors’ debts by assuming a 360 day year.Solution to Exercise 61. Debt collection period (debtors in days) – how many days on average it takes for thecash from sales of goods to arrive in the enterprise.accounts receivable x number of days in the periodturnoveror(opening accounts receivable + closing accounts receivable)xnumber of days in period2 x turnover2. Stock turnover period (stock in days) – this measure reflects the number of days onaverage for which the amount of existing stock is sufficient for the enterprise.Stock x number of days in the periodProduction costsor(Opening stock balance + closing stock balance) x number of days in the period2 x production costs3. Debt payment period (accounts payable in days) – this figure reflects the averagenumber of days it takes for the enterprise to pay for the purchases made and otherenterprise expenses.Accounts payable x number of days in the periodProduction costsor(Opening accounts payable + closing accounts payable)xnumber of days in the period2 x production costsExercise 7.‘New Star’, SIA, has recently prepared its financial statements for the current year.The directors of the company are concerned that the return (profitability) on the capitalemployed (ROCE) has fallen from 14% to 12% compared to the preceding year. At theiropinion any decrease in ROCE could be due to the following factors: increase in gross profit; decline in the volume of sales; increase in overheads;124
Analysis of the Operation and Financial Condition of the Enterprise increase in stock; repayment of accounts payable at the end of the year; increase in the average debt collection period.Please, analyse all six reasons one by one and state if these reasons could lead to adiminishing ROCE.Solution to Exercise 7It is not always easy to predict the impact of each of these changes on ROCE. Increase in the gross profit margin could lead to a diminished ROCE in certainconditions. If the increase in the profit margin is because of increased priceswhich also led to the reduction in sales volume, this could incur a decrease inROCE. The reduction in the sales volume can lower the net profit amount (anumerator in the ROCE equation), if the corresponding decrease in the overheadvalue is not achieved. Reduction in the sales volume may result in a decrease of ROCE due to the abovestated reasons. Any increase in the overhead expenses would reduce the net profit amount, which,on its turn, may result in a diminished value of ROCE. Increase in stock would raise the amount of capital employed (denominator in theROCE equation), if any long-term capital is invested in stock. This, on its turn,would lead to a decrease in the value of ROCE. Repayment of the loan at the year end would reduce the amount of capitalemployed, which would increase the ROCE figure on a condition that the loanrepayment does not affect the scope of company operations. Increase in the debt collection period would result in the increase of the amount ofcapital employed, if long-term capital is used for the financing of accountsreceivable. This increase in the amount of long-term capital would, on its turn,result in a diminished value of ROCE.Exercise 8.Two companies are in the retail sales business, but their performance results are different,which is evidenced by the following data:Financial performance ratio Company A Company BReturn on capital employed (ROCE) 20% 17%Return on ordinary share financing (ROSF) 30% 18%Average debt collection period 63 days 21 daysAverage debt payment period 50 days 45 daysGross profit margin 40% 15%Net profit margin 10% 10%Average stock turnover period 52 days 25 daysPerform the analysis of these data and describe the differences between these twocompanies. It is known that in one of them the work with consumers is well organised,125
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