Analysis of the Operation and Financial Condition of the Enterprise

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Analysis of the Operation and Financial Condition of the Enterprisewhile the other one is offering competitive prices. Which of these advantages areattributable to each company?Solution to Exercise 8These ratios illustrate the following: the debt collection period for Company A is 63 days, but 21 days only forCompany B. Therefore the speed of debt collection of debts from its customers isconsiderably higher for Company B; however, the time it takes for these two companies to pay their debts isapproximately equal. Company A pays its creditors within 50 days on average,but Company B – within a 45 day period; it is interesting to compare the difference between the settlement periods foraccounts payable and accounts receivable in each of the companies. As CompanyA offers its customers a credit for 63 days on average, while it pays its creditorswithin 50 days on average, it has to invest larger amounts in its working capitalthan Company B, which is offering its customers a credit for 21 days only, whileitself pays its creditors within a 45 day period; gross profit margin for Company A is considerably higher than for Company B,but they both have equal net profit margins. This means that the proportion ofoverheads from the amount of sales is much higher in Company A than inCompany B; the stock turnover period for Company A is two times higher than the respectivevalue for Company B. This may be due to the fact that Company A maintains adiverse stock of goods in order to meet the needs of its customers. It is ratherCompany A which can boost over its well organised work with the customers; a longer average settlement period evidences a more relaxed behaviour in termsof debt collection (by allowing to maintain good relationship with the customers),while the high amount of overheads proves that the company is incurring extracosts only to satisfy the needs of its customers; the high level of stock in Company A evidences that it is maintaining the stock ofa vast range of goods in order to meet the needs of its customers.The prices of Company B are more competitive. Its gross profit margin isconsiderably lower than for Company A which evidences a lower gross profit per 1 lat ofsales revenue. However, its overheads are comparatively low therefore the net profitmargin is the same as for Company A. The fast stock turnover and the short averageaccounts receivable settlement period is a proof of minimum investment in current assetsby the company, which reduces its costs.Case Study -Crescent Quarries Ltd.You work as an assistant advisor for a firm of accountants in their businessadvisory and consultancy service.One of your clients, Crescent Quarries Ltd, have experienced an increase inturnover but a downturn in their overall financial performance in recent times.126
Analysis of the Operation and Financial Condition of the EnterpriseThe company is owner-managed by James Musgrave and a small managementteam. They are members of the Quarrying Trade Association and have recently receivedthe following summary of performance for the sector members for year X4.Quarrying Trade AssociationPerformance Indicators – Financial Ratios Year X4Return on capital employed 24%Asset turnover 1.6Net profit before interest and tax as a % of turnover 15.00%Current ratio 1.5 : 1Liquidity ratio (acid test) 1.03 : 1Debtors collection period60 daysCreditor payment period70 daysFinished goods stock in days38 daysLabour costs as % of turnover 18.1%Operating costs as % of turnover 85.00%Distribution costs as % of turnover 9.5%Admin costs as % of turnover 4.5%Value added per ‘£’ of employee costs 1.95An extract from the company’s financial statements for years ended X3 and X4 showed:Profit and Loss AccountYear X3 Year X4£m £mTurnover 5.38 6.68* Operating Costs 4.43 5.82Operating Profit before Interest and Tax 0.95 0.86Interest 0.08 0.080.87 0.78Taxation 0.30 0.27Profit after Tax 0.57 0.51Dividends 0.16 0.16Retained Profit 0.41 0.35* Includes £m £mDistribution 0.49 0.61Administration 0.22 0.27Operating Costs Comprise:Wages, Salaries and other Employee Costs 0.98 1.25Bought in Materials and Services 3.21 4.32Depreciation 0.24 0.254.43 5.82127
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