Analysis of the Operation and Financial Condition of the Enterprise

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Analysis of the Operation and Financial Condition of the EnterpriseNet current assets that are at the disposal of an enterprise can convince creditors infavour of lending the resources to the enterprise. Net current assets provide a significantfinancial freedom for an enterprise in a situation of an increased rate of turnover of currentassets, impairment or loss of the value of assets.Optimal amount of the working capital depends on several factors: area of operations of an enterprise; size of an enterprise – the scope of production or sales; the terms of the enterprise crediting; speed of stock turnover; debtors collection period.4.3. Solvency measuresSolvency is one of the most significant criteria in assessment of the financialposition of an enterprise. It describes the situation when an enterprise has sufficient cashassets to settle at a short notice their open transactions with creditors, while the potentialcreditors after the assessment of these measures want to find out to what extent theenterprise is dependent on the capital borrowed or to what extent can it rely on its owncapital. These measures are especially important for assessment of the capacity to borrowof an enterprise. If the amount of liabilities is excessive an enterprise could be in danger ofinsolvency.The main features of insolvency are thus as follows: Sufficient amount of cash on the current bank account and in till; Due repayment of creditors debts.It has to be noted that the recommendable amounts should not be taken literally.There are situations when the share of equity from the total may be less than a half,however, the enterprise will still maintain high financial stability. This, first of all, is truein respect of enterprises with the operations related to a high asset turnover, permanentdemand for the goods for sale, well managed contacts with customers and sellers, the lowlevel of fixed costs (for example, trade and brokerage entities).This group of measures describes the asset structure. They are designed to: establish and describe the relationship of liabilities against the equity or thetotal amount of assets; assess the ability of an enterprise to increase its amount of debt; assist in the assessment of the ability of a firm to meet its debts on due date.The measures of this group reflect the ability of an enterprise to repay its long-termand short-term liabilities. These measures are especially important for existing and also forpotential creditors as they show to what extent the revenue of an enterprise cover theinterest and other fixed payments, as well as whether in the case of enterprise liquidationthere are sufficient assets to repay its debts. Shareholders are interested in this measure,because the accrued interest is considered to be an expense that increases the liabilities ofan enterprise. If the amount of loans and, therefore, also the amount of interest payable isexcessive, the enterprise may face the bankruptcy procedure.72
Analysis of the Operation and Financial Condition of the EnterpriseFinancial position of an enterprise is often dependent on how optimal the relation isbetween the shareholders’ equity and the capital borrowed. Development of an appropriatefinancing strategy helps enterprises to increase the efficiency of their operations.Consequently, measures of the capital structure are applied in financial analysis.These measures describe the level of protecting the interests of creditors and investors,allow identifying the relations with the shareholders’ equity or the total amount of assets,evaluation of the ability of an enterprise to increase the amount of liabilities and the abilityof an enterprise to pay for its debts when they fall due. The capital structure or solvencyratios are especially significant to creditors in order to assess the borrowing capacity of theenterprise.Percentage of shareholders’ equity from total capital structure is described byownership ratio or financial independence ratio and it can be expressed as the ratiobetween the interests of the owners and those of the creditors. The ratio is calculated asfollows:Equity capitalOwnership ratio = Total assets(4.7.)Capital is the assets required for the business operations of an enterprise that arereflected in the liabilities of the balance sheet.The ownership ratio describes the financial stability. It is considered in thepractice of the western world that this ratio should be sufficiently high, that is a feature of astrong structure of the financial assets of an enterprise. Creditors prefer such a structureupon taking their decisions for issuing of a loan to the enterprise. If the percentage of loanassets is not high, there is a leverage provided against losses during the periods ofdiminished operating activity as well as for receipt of a loan. It is assumed that the ratioshould be approximately at the level of 60% both from the point of view of creditors andinvestors. If the ratio is sufficiently high, issuance of a loan to an enterprise may beconsidered.Low level of this ratio indicates that there should be a high amount of % payableon the loans, and the enterprise may lose possibilities of receiving further loans; this meansthat the amount of liabilities should be decreased or else it is necessary to receive anadditional long-term loan in order to repay the short-term debts for which the repaymentdate is approaching.One of the most often used measures in this group is the percentage of the capitalborrowed in the balance sheet (the debt ratio); this is defined as the relationship betweentotal debts and total assets.Percentage of debt in thebalance sheet (Debt ratio)=Total liabilitiesTotal assets(4.8.)The percentage of debts in the balance sheet describes the financial dependenceof an enterprise on external loans. The higher it is, the more the enterprise is in debt, andthe more risky is the situation that may lead to bankruptcy.73
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