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Present Value of an Annuity
Find the present values of the following ordinary annuities if discounting occurs once a year:
$300 per year for 10 years at 10 percent.
$150 per year for 5 years at 5 percent.
$350 per year for 5 years at 0 percent.
Annuities are contracts issued and distributed (or sold) by financial institutions where the funds are invested with the goal of paying out a fixed income stream later on. They are mainly used for retirement purposes and help individuals address the risk of outliving their savings. Upon annuitization, the holding institution will issue a stream of payments at a later point in time.
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Yield to Call
Five years ago, XYZ Inc. issued 20-year bonds with a 12 percent annual coupon rate at their $1,000 par value. The bonds had 5 years of call protection and an 8 percent call premium. Yesterday, XYZ Inc. called the bonds.
For this problem, imagine that the investor who purchased the bonds when they were issued held them until they were called. Considering this, compute the realized rate of return. Should the investor be happy with XYZ Inc. calling the bonds? Why or why not?
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Uneven Cash Flow Stream
Use the table below to answer the following:
What are the present values of the following cash flow streams if they are compounded at 5 percent annually?
What are the PVs of the streams at 0 percent compounded annually?
0
1
2
3
4
5
Stream A
$0
$100
$400
$400
$400
$300
Stream B
$0
$300
$400
$400
$400
$100
The concepts of cash-flow instances and cash-flow streams are used to describe the business perspective of a proposal. A cash-flow instance is a specific amount of money flowing into or out of the organization at a specific time as a direct result of some proposal.
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Distance Influence on Foreign Direct Investment
Berry, Guillén and Zhou, 2010 Opines that FDI commonly has two general characteristics. It entails a 10 % ownership value as an ordinary matter. FDI also consists the opening transaction that liquidates investments and also the proceeding transactions done by the direct investor together with the investment company that focuses on maintenance, expansion, and reduction of the expenses. In the definition of FDI, there are three distinct features, flows of the new foreign equity, intra-enterprise debt transactions and the reinvested income.
Emerging countries are rapidly growing as primary and significant sources of foreign direct investment flow to the lead economy countries. Most enterprises from developing countries have become key, foreign investors in the international market. However, the bilateral FDI flow between countries has been affected by several factors. Part of this paper is an investigation on how various concepts of distance influence the flow of bilateral FDI between the global economies.
The different distance concepts are introduced and discussed in detail. Another concept, Liability of foreignness (LOF), is also introduced, and its impact on the trade balance highlighted as well. Lastly, the reader will find useful information on the benefits of the firm’s acquisition over a green field venture. The criteria of a business location selection are also illustrated in conclusion.
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Distance has become a hindrance to economic activities across the borders in international trade and markets. There is a dire need for any multinational enterprises to consider all concepts of distance before commencing their transactions in any country. The significant distance features to look encompass of spatial and institutional features. Geographic distance has over time been related to the costs of transport incurred in remote locations business transactions as well as the LOF.
Non-geographic distance factors have also been linked to the explanations in the respective businesses across the borders. Such features include; social, cultural, economic and normative differences. According to studies in business management, the emphasis has been laid on cultural and psychic distances that are regarded the greatest determinants in the FDIs location.
International trade research recommends that the institutional and social features be considered in the business theory so as to cab the broad range of hindrances that have been linked to geographic distance. Longer geographic distances could result in the increment of transport costs, challenges while dealing with different regulations and institutions. It is likely going to be a difficulty in understanding markets with another level of economic development (Berry et al., 2010).
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The density of distance concepts and their effects on the FDIs may be best appreciated if viewed across the regions, functions and firms. The evaluation across the region signifies a separation point from the traditional methods of analyzing location decisions of FDI. Cultural differences refer to the disparities in norms and values between the host and the home country. It is very significant since the national values among employees and countries affect how individuals act and hence have an impact on the establishment of a firm.
To understand the cultural distance as a determinant of FDI flow, it is necessary to measure it by the aid of Schwartz’s orientation of gender and culture equality. Two known orientations are embeddedness and autonomy. Embeddedness characterizes people more collectively thus social relationships with groups of people are highly regarded as individuals work towards common goals. In autonomy, people value the uniqueness of each person, and one is entitled to their feelings and ideas.
Another important aspect is the gender equality, which is not only a social factor but has an impact on the economic development of any country. Women form a significant part of the workforce in several sectors of growth. There tends to be a positive relationship between the level of human capital, other economic conditions and the women rights (Siegel, Licht and Schwartz, 2012)
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The liability of foreignness as the total of costs comprises of the unseen costs associated with the engagement with new legislatures and cultures when doing business abroad unlike home. Elango (2009) asserts in his definition of LOF that it results in a disadvantageous competition for any multinational company. Generally, according to Elango, the costs incurred by an enterprise abroad would not be incurred by a similar local company. The genesis of such costs could be cultural, geographical, economic and institutional distances that lead to an increment in costs and makes it hard to succeed abroad.
LOF majors on the social expenditures of transactions overseas. Such costs are gotten from the relational, unfamiliarity and discrimination challenges faced by the foreign companies, unlike their domestic counterparts. They are innately uncertain and may be incurred even in future. Unfamiliarity costs are a reflection of poor experience or knowledge in the foreign country hence a setback to the foreign companies as likened to the local enterprises. There is a tendency for the foreign investors to pay handsomely for what the locals acquire cheaply or at zero cost.
For instance, local banks in Germany are likely to have a sigh of relief if the Bundesbank lowers the interest rates in a day’s time but British-based banks in the country may have nothing to celebrate. Such an LOF is related to the durability of its existence in the host nation. Short-term resolutions in the foreign country result to unexpected challenges that are covered in the additional costs incurred by the multinational company to realize a similar level of host-market awareness as the domestic company.
Unfamiliarity hazards result in a rise in the average cost of the foreign company, but the production level remains constant. Such as building market awareness costs should be gotten rid of with time, although they may persist if the multinational corporation managers continue adhering to the global strategy and fail to involve themselves in the civic learning (Barnard, 2010).
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A green field venture means starting off an enterprise from scratch, which is from a green field (Klimek, 2011). Acquiring an existing company as opposed to Greenfield venture has several merits. Firstly, it is faster. If the investor wanted the company to take a shorter time for their presence to be noted as well as compete well at entry level in the market, then this would be the best option. Greenfield ventures demand a longer period of physical construction and developing the company. The acquisition is one of the cost-effective means for the investment to realize a competitive mileage in technology, brand name, distribution and logistical advantages as it gets rid of the local competitor.
International political, economic and foreign exchange state may cause imperfections in the market thus causing the target companies to be underestimated. Several MNEs in Asia have been targeted in the recent past due to the economic crisis in the region that consequently impacts on their financial wellbeing. This has left many companies in a state of desperation for capital injections to survive competitively. The acquisition is the best strategy to solve such challenges as maneuvering through the local distribution channels, recruitment of the local employees, and it also creates a platform with a readily established market with a customer base.
Such factors shorten the time needed for the venture to break even. On the other hand, cross-border acquisitions have their shortcomings that the investor needs to consider before making the bold step. The costs of acquisition and financing are relatively too high. It can be difficult to mesh diverse corporate cultures. It may force the management to consider slimming down in order to up the economies of scale. The outcomes of such a step may not be productive to the firm since there is a tendency for individuals to try saving their jobs.
Other difficulties may emanate from the host nation’s interference with financing, pricing, market segmentation; employment guarantees favoritism and overall nationalism. An investor may decide on acquiring a joint venture. In such a form the investor accesses the local partner’s experience and skills, the government contacts and the knowledge about the local market. A joint venture is thus regarded the best way of investment (Becker & Fuest, 2011).
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The business location is critical for any venture to realize growth as well as experience successful operations. Choosing a business location requires precision in market research and planning. It is imperative to put into consideration several factors when making a choice for the company’s location. Several aspects are involved such as assessment of the supply chain, observation of the demographics, understanding state legislature, staying on budget and scoping the competition.
Some other factors to focus on in the research include; the company needs, employees, customers, the equipment required to deliver services among others. Talking of the company needs, most enterprises make a location choice that gives them accessibility to their customers. On this note, it is vital to consider the brand image and ask whether the location is going to be consistent with the intended brand. Establish whether the companies around are complementing or competing for the venture.
It is very necessary mostly where shopping comparisons are common. If the competitor is likely to make the environment tougher then it is advisable to shift the location. There is a need to find out whether the target area has potential employees and the rates of labor. If the business has a prospect of growth, then one should look for a building that offers room for expansion.
The business should also be located at a place where suppliers can quickly find you. One has to think also of safety too, thus, questions about the crime rate in the select area need be asked. Zoning regulations; these help determine whether one may conduct their type of venture in a given building or location. This may be found out through holding the local planning agencies (Cavusgil et al., 2014).
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The business location should be consistent with one’s style of operation. There is a need to determine whether the intended operation is going to be formal or informal. In cases where the customer base is local one is required to find out whether the population matches the customer profile for the business support. Find out whether the community has a stable economy for the company’s well-being.
It is vital to be cautious with a community that solely dependent on a particular company for their economy since this could lead to a downturn that is not healthy for any business. Having the knowledge about the legislature on businesses in a given location is very essential. Look into hidden costs because not many spaces are business ready thus requiring a lot of initial work be done before start-up. Determine also whether the select location qualifies you to access the government economic incentives (Hair Jr et al., 2015).
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Becker, J. and Fuest, C., 2011. Tax competition—Greenfield investment versus mergers and acquisitions. Regional Science and Urban Economics, 41(5), pp.476-486.
Cavusgil, S.T., Knight, G., Riesenberger, J.R., Rammal, H.G. and Rose, E.L., 2014. International business. Pearson Australia.
Elango, B., 2009. Minimizing effects of ‘liability of foreignness’: Response strategies of foreign firms in the United States. Journal of World Business, 44(1), pp.51-62.
Hair Jr, J.F., Wolfinbarger, M., Money, A.H., Samouel, P. and Page, M.J., 2015. Essentials of business research methods. Routledge.
Klimek, A., 2011. Greenfield foreign direct investment versus cross-border mergers and acquisitions: the evidence of multinational firms from emerging countries. Eastern European Economics, 49(6), pp.60-73.
Siegel, J.I., Licht, A.N. and Schwartz, S.H., 2012. Egalitarianism, cultural distance, and FDI: A new approach. Organization Science, Forthcoming.
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Distance concepts and their effects on bilateral FDI flows
Definition of distance
Distance is an important aspect to note in business. It is the difference in perspective of several aspects between two or more parties in any business. Distance is more significant in an international business platform than in a local or domestic set up. As developed by Pankaj Ghemawat (2011), the CAGE framework is used to define the different concepts of distance between countries in international business. CAGE, an acronym standing for Cultural, Administrative, and Economic distances. The definitions of this concept in the perspective of bilateral factors are as follows below.
Cultural distance
Whenever a pair of countries is involved in the trade, there is a likelihood to have distinguishing factors based on the diverse cultures of each party. This may include differences in; languages, ethnicities (this includes lack of social or connective ethnic networks), religious beliefs, norms, dispositions and values. Cultural distance is also often characterized by the lack of trust. The cultural background of customers affects their tastes and preferences that maybe much more significant especially when it comes to consumer goods.
Choices are often determined by individual’s social norms, for instance in the Chinese have a liking copyright violations, and this is deep in their history. Ceteris paribus, trade between two countries with a common language, e.g., the USA and Canada is likely to boom unlike where there is no common language. The cultural aspects also create a distance through impelling the decision made on substitute goods. Research reveals that tastes and colour are also linked to culture. Japan natives have a preference for small house appliances and automobiles, and this is their social norm (Berry et al., 2010).
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Administrative distance
Administrative distance is characterized by hostility in politics, lack of a common regional trade bloc, the disparity in the currency, differences in colonial history and other administrative matters. Policies created by individual governments may create a barrier to their cross-border trading. In the USA, bribery is illegal for companies and individuals, this has impacts the nation’s multinational business.
Barriers may also be raised through the creation of trade quotas, tariffs, restrictions on FDI and local enterprises preference regarding favoritism, subsidies, and regulations. A target nation’s institutional stability also influences their trade activities across the borders. Corporations shun from investing in corrupt nations (Siegal et al., 2012).
Geographic distance
It encompasses the physical distance between countries. How far a country is from another physically really impacts their trading activities. Differences may include lack of a clear land border, different zones in time due to the longitudes and different environments, whether and climatic conditions. The physical distance directly affects the transportation cost of goods and services.
For instance, the cost of oil in America may be higher if it was being imported from the Middle East. Geographic distance has a direct impact on the trade and FDI flows between any two given countries. It is, therefore, vital for an enterprise to consider the transport networks and information before engaging in any trade (Siegal et al., 2012).
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Economic distance
Every country in business has its unique economic factors. The poverty/ rich levels between countries are never similar. The more prosperous a country is, the more their involvement in the cross-border economic activities, unlike their poorer counterparts. Other differences may include the quality of the resources as well as their cost, for instance financial, natural and human resources.
The infrastructure, knowledge or information levels may also differ between two or more countries. Corporations tend to invest in foreign countries with similar economic patterns to that of their home country a good example is Indonesia and south Korea where Nike inc. and Reebok have heavily invested (Berry et al., 2010).
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Business Operations Decision
This paper aims at presenting low-calorie microwavable foods to support the firm’s continuous operational decisions. The paper will assess the results of supply chain since it demonstrates the existing market structure while putting into consideration the expected changes to sell environment and some of the factors that may lead to such a change. Also, the paper will assess the main short run as well as long-term production and cost functionalities as used to new cost information to establish whether there are conditions that can result in discontinuation of business operations decision.
Because there are changes in the market structure, it is important to examine the pricing structure to increase profits. In the end, the paper will present two strategies the firm should implement to enhance profitability while maximizing shareholder value.
Market Structure and Its Effectiveness for the Company
Each firm in a competitive market is the plays an important role in determining the price while the equilibrium cost as well as productivity in the industry are due to supply and demand. Low-calorie microwavable food market demonstrates the way in which demand and supply produced in perfect competition; regulate total productivity and the cost clients are ready to part with. In this case, the equilibrium cost and quantity are 407.65 and 24,335 respectively.
QD = 65,100 -100P
Qs = -7909.89 +79.0989P.
Companies in the purely competitive market have no power regarding the cost of their goods. Nevertheless, it may determine the quantity supplied to the market. Success or failure relies mainly on a pure competitive selling environment and the manner in which the firm identifies production expenses and depicts its products. The capacity of productivity revolves around the revenue the company will generate by producing goods (McGuigan, Moyer & Harris, 2014).
The company should implement strategies of conducting operations to make sure that it increases profits and output in the long run. An effective strategy is necessary when it comes to defining the efficacy of selling environment the firm operates. Furthermore, a proper plan will mainly highlight the availability of products, some enterprises participating, pricing patterns and powerful methods of brand promotion.
Business Operations Decision
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2. Changes in market structure and reasons that have caused changes from the market structure specified in Assignment 1.
Market survey shows that variations in the market structure are based on perfect and the imperfect market systems (Bragg, 2012). In an imperfect competitive oligopoly environment, the organization has the power to determine the price of its products. Information on competing organization demonstrated that there about 15 firms competing for low-calorie microwavable foods’ market share, out of which three companies control 75% of the market.
When it comes to sells, the firm is position 2 with approximately 77% of low-calorie microwavable foods, which reflects market concentration share, which is simply a measure of total market main players in the sector possess. For that reason, it may be necessary to assume that the firm is currently operating in the oligopolistic market, which is a competitive selling environment with relatively a few firms offering comparable brands as well as services (Routledge, 2008). The primary cause of such market is the withdrawal of rivals or increases or declines in the product costs (Bragg, 2012).
These changes mostly impact the operations of the company in different ways. To start with, there is likely to be significant output because the market share grows due to increases operation expenses influencing advertisement and labor costs. It is clear that labor costs may decline in the long run since the companies are controlling new firms are solidifying while redundant positions are eliminated (McGuigan, Moyer & Harris, 2014). Moreover, these changes can make an organization to modify its operations and adopt modern technologies in the operations.
Business Operations Decision
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3. Short and long-run production and cost functions for the frozen, low-calorie microwavable food company.
TC = 160,000,000 + 100Q + 0.0063212Q2
VC = 100Q + 0.0063212Q2
MC= 100 + 0.0126424Q
From assignment 1 QD = 350,000 -100 P
QS = -7909.89 + 79.0989P
ATC = TC/Q
= (160,000,000/Q) + (100Q + 0.0063212Q2)/Q
= (160,000,000/Q) + 100 + 0.0063212Q
AFC = 160, 000, 000/Q
AVC = 100 + 0.0063212Q
To determine production level for minimizing average total price, it is necessary to compute the average total cost to minimum cost.
This to say; the cost of Q =159,096.35 exemplifies production level, which reduces the average total cost. Meanwhile, when production level = 159.096.36, it is easier to fabricate optimum average collective price.
To determine the time it takes manufacturing at the lowest average total cost (ATC):-
This presents per-unit price of production, especially the proficient echelon. In the long-run, if the market varies, a company is forced to generate at the lowest total average price.
Business Operations Decision
4. Circumstances under which a firm should cease operations.
The association between ATC, average variable cost (AVC), and minimal costs (MC) can be illustrated well using a graph. The MC curvature transects the ATC and AVC curves at their lowermost points. Subsequently, price plummets with MC beneath AVC; however, price rises when the MC is above the average cost. While MC represents price of fabricating the last production unit, MC curve escalates with the measure of production, as such, the MC curve intersects ATC and AVC curves underneath their lowest points and increases.
The form of Minimal Cost curve is informed by the Rule of Shrinking Earnings. Shrinking proceeds in the fundamental logic come about in the event that marginal product flows an increasing measure of a parameter with a corresponding input is smeared to a fixed one (McGuigan, Moyer & Harris, 2014).
In this regard, the closure point is where the minimum AVC overlaps the MC. The firm can contemplate shutting down operations, when the cost plummets below the lowest point b as indicated on the graph. Implicitly by closing down the business can avoid running into more losses. It is only prudent for the organization to close down operations instead of accruing losses.
Business Operations Decision
However, the company can only go about with services by putting in place contingency measures and a strategy that allows it to change tactic and curtail losses (McGuigan, Moyer & Harris, 2014). This may be realized by changing production to a different SRATC curve through several capital alternatives.
When it comes to the breakeven point, the MC transects the ATC. Nonetheless, if the market price falls beneath $21.11, represented by point C on the chart, and above point b, the business may proceed with activities in the short-term. Largely, this may be because the price at the lowest point takes care of variable and fixed cost. Nonetheless, in the long-term under competitive setting, the firm has to quit the industry. As recapped by Stokes, the company’s administration has to play an integral role when it comes to market issues, putting market research individuals and being at the forefront dealing with market costs (Stokes, 2008).
Business Operations Decision
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5. The pricing policy that will allow frozen, low-calorie microwavable food company to capitalize on profits.
With regards to increasing profitability, I suggest cost profit maximization method, whereby the marginal revenue is equal to marginal cost. In this procedure, the firms examine the suitable output with the price levels with the goal of increasing returns. Quantity q* is illustrated by the convergence of MR and MC curves. The price that matches the amount is obtained by increasing q* with the demand curve to find p*.
There is another useful price rule that will be effective at a high rate will reduce the sales below q* while a lower price is likely to increase sales above q*. With the demand function, QD=350,000- 100P, inverse demand function can easily be calculated;-100P =350,000-Q.
P= (350,000/100) – Q/100
= 3,500 – 0.01Q
Total Revenue (TR) = P*Q
= (3,500 – 0.01Q)*Q
= 3,500Q – 0.01 Q2
MR = TR/Q
= 3500-0.02Q
Therefore, to increase earnings, marginal revenue should be compared to marginal cost.
MR = MC
3,500 – 0.02 Q = 100 + 0.0126424 Q
3,400 = 0.0326424Q
104,159.01 = Q
Q denotes return optimizing production that is beneath the output at the lowest average total yield. Therefore, realizing the actual cost for the fabricated unit, to enhance profit, the quantity in the profit is substituted as follows:-
P = 3,500 – 0.01Q
= 3,500 – 0.01Q (104,159.01)
= 2,458.41 = $ 24.58
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Business Operations Decision
6. To evaluate its financial performance.
Based on this computation, production permutation of 104, 159.01 units and with $24.58 as the retailing price puts us at the apex of our profit activity. Owing to our market power, the amalgamation puts the company in the changeable position of the demand curve. Any increase in the price will culminate in the loss of market share and a price fall that lead to higher profit realization. The computation below evaluates the fiscal performance with a fabrication quantity of 104,159.01 units
Products retailing at $24.58 and nevertheless, it take $22.95 to manufacture, generating earnings to the tune of $1.63 per unit. This is a monetary profit.
In this case, short-range earnings would be computed as; T R – TC
Where; TR = P *Q
Therefore; $24.58 * 104,159.01
= $2,560,228.47
TC = ATC * Q
$22.95 * 104,159.01
$2,390,449.28
Profit = $2,560,228.47 – $2,390,449.28
$169,779.19
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Business Operations Decision
7. Two (2) ways the firm can improve profitability and deliver more value to its stakeholders.
The significant costs to the firm are increasing energy costs, and raw material. Much as the organization has broadened the operations through brand innovations; the fixed as well as variable costs keep on increasing. The organization should search for strategies of reducing fuel, raw material and packaging expenses (Bragg, 2012). With regards to reducing fuel costs, the firm can use a direct delivery structure regarding scheduled sales and online orders by each client. Consequently, the company may put into consideration other external delivery channels.
Because the firm handles individual client orders, it should it account the use of direct to customer sales as a campaign to fund learning institutions or other entities. Again, the company needs to consider the techniques of minimizing packaging expenses by either converting the material to cryogenic freezing or suitable packaging methods (Routledge, 2008). By and large, the organization should allow employee participation, especially in the identification of reducible expenses and strategies of conducting such identifications.
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Long-term Investment Decision
From the previous assignments, it was determined that the demand for low-calorie microwavable food is inelastic. The market for the product is also competitive meaning that the price of the commodity fluctuates from time to time. Therefore, the price of the low-calorie microwavable food can be made less responsive to market fluctuations or less price elastic in two ways. First of all is by making the product become more of a mass product that niche.
Secondly is to make its market rigid so that the clients for the product will have no alternative. This is because the customers will find no substitutes for the commodity and thus stick to it regardless of fluctuations (Brigham & Ehrhardt, 2013). The low-calorie microwavable food is healthy and convenient. To emphasize on these two main aspects, it is imperative to market and advertise the product with no close substitute by the two key attributes.
Government policies have both positive and negative impact on production and employment in the market. Governments always put in place rules and regulations that guide the way business is done in the market (Mason & Brown, 2013). These policies have an influence on profitability and competitiveness of business enterprises. Government policies act as market catalysts by changing the social behavior in the business environment.
By exempting some companies or particular sector in the economy from tax and duty, the government will be able to trigger investment and generate growth. On the same note, government policy helps to create political stability and hence promote local businesses as well as attract foreign investors.
Long-term Investment Decision
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Government spending also has an effect on businesses, increased spending result in increased taxes that might discourage investment. Similarly, the government can influence the interest rates. An augment in interest rates add to the cost of borrowing. Therefore, it will discourage business because the entrepreneurs and business enterprises will not be in a position to obtain enough capital at a low price (Tricker, 2015). Low-interest rates, on the other hand, encourage investment.
Trade regulations also have an impact on business activities. Regulations such as the requirement for permits, federal minimum wage among others affect business practices. However, fair and effective regulation tends to promote business growth.
In our case, the government policies help to ensure that there is fairness in the microwavable food industry. Government involvement in the low-calorie, frozen microwavable food industry has led to fairness in the following ways.
Fair Competition: Government involvement in the industry has let to fair competition among the key players in the industries. Some firms often use unfair competitive strategies that may be of harm to other key players in the industry. For instance, use in predatory pricing strategies where firms set low prices to attract more customers and drive out other competitors who do not enjoy the economies of scale.
Large companies with high economies of scale can maintain low prices while small and medium-sized firms may not be in a position to maintain such low prices without incurring losses. Therefore, such small companies may end up quitting the market making the remaining large corporations enjoy monopoly power. As such, these strategies are unfair to small companies and thus the government comes in to regulate prices and protect small infant firms.
Long-term Investment Decision
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Minimization of corruption through regulations: Government regulations often prohibit firms from taking advantage of their positions to ask for special treatment that can lead to their success in certain commerce or market economy. For example, some firms may bribe auditors to avoid scrutiny. Such practices are often illegal and unethical and result in unequal distribution of resources.
Undue advantage by some firms in the industry: Firms that are large and powerful often manipulate individual to gain favors at the expense of other firms. It is the requirement of the government to come up with regulations and rules that will ensure that there is an equal distribution of resources in the industry. The government should intervene and prosecute firms that take advantage of their position to make companies avoid such behavior. Therefore, it will enable companies in the low-calorie, frozen microwavable food to embrace legal and fair strategies that may not end up being unfair.
Therefore, government regulations have enabled the low-calorie, frozen microwavable food firm to enjoy fairness. Government regulations have enabled the company to have an equal opportunity of achieving tremendous success as long as it is in a position to develop legal and effective business strategies.
Similarly, government involvement in the industry helps to shield consumers from exploitation. It is the responsibility of the customer to ensure that products and services available to consumers are safe for consumption. In the same way, government develops rules that help ensure market efficiency and govern international trade.
Long-term Investment Decision
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Some of the major complexities that would arise under expansion via capital projects include:
Uncertainty: The process of capital budgeting is primarily based on future cash flow estimates. However, in the real situation, there are some uncertainties that can make a project fail. Capital budgeting analysis also utilizes multi-period model which lay down costs and benefits of more than one year. During this period, the cost or benefits factor may drastically change. Therefore, use of estimates and uncertainty, realities may result in complexities in capital budgeting (Kardes et al., 2013).
Discount factor: The process of capital budgeting is time-weighted. The future cash flow is often discounted using the present time discount rate. It is also difficult to choose a discount rate. Each project assumes a unique risk associated with itself making it difficult to approximate a discount rate for a project
Indivisibility: It is hard to divide a project. Therefore, a project must be taken up either in entirely or not at all.
Evaluation is also a big challenge: There are different techniques that are used such as discounted techniques and non-discounted technique, when evaluation techniques conflict, business acumen, and manager’s prudence takes over the capital budgeting decision (Healy & Palepu, 2012).
In the case of low-calorie, frozen microwavable food company the big issue is the agency problem. This problem is because of the conflict of interest between the managers and the stockholders. Therefore, the microwavable food company can take the following steps to help bring convergence between the firm’s managers and stockholders.
First of all, the firm should align some part of the compensation package to the sales and profitability growth of the firm. Similarly, the firm should plan for stock options with the requisite T & C and provide it to the management to make them feel that they are part of the company (Grant, 2015). This way, the managers will be able to think for the betterment of the firm. Finally, the firm should develop a profit sharing plan that is linked to the performance of the managers.
Long-term Investment Decision
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By employing the above strategies, the firm will be able to motivate managers to work towards achieving the organization goals (Tricker, 2015). This is because the managers will begin perceiving their owned align with organization goals. Due to their hard work the firm will achieve growth in profitability, sales and profitability of the company. Increased sales will result in an increase in the compensation of managers. On the same note, it will increase the share price of the low-calorie, frozen microwavable food company. Therefore, both the managers and stockholders will mutually benefit.
The name of the firm should not be used as an initiative of converging manager’s interest with those of the stockholders. The reason is that such strategy may result in copyright related issues. Be as it may, an organization with good HR practices can align the interest of managers, employees, and the stockholders. Performance management linked and motivation strategies such as bonus payment will also helps to converge the manager’s interest with those of the stockholders.
In conclusion, the low-calorie microwavable food can make its commodity less price elastic by making the product more of a mass product and making its market rigid. The government, on the other hand, helps in the regulation of the industry to ensure fairness in the low-calorie, frozen microwavable food industry (Mason & Brown, 2013).
When it comes to capital expansion, firms face complexities because of uncertainty, discount factor, abandonment options, indivisibility and conflict between evaluation techniques. Finally, the low-calorie, the microwavable food company can converge the company managers and stockholders interest by making the managers feel like they are part of the company and linking compensation schemes with the performance of the managers.
Kardes, I., Ozturk, A., Cavusgil, S. T., & Cavusgil, E. (2013). Managing global megaprojects: Complexity and risk management. International Business Review, 22(6), 905-917.
Healy, P., & Palepu, K. (2012). Business Analysis Valuation: Using Financial Statements. Cengage Learning.
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Venture Capital and Private Equity
Background
One major question that clicks into the mind is how the private equity and venture capital is different. Mere because both are used to refer firms that sell their investment in equity financing after they have invested in an organization. For the matter of facts, there exists a significant difference between these two; first, it is the way the firm performs their duties when involved in the two types of investment.
Secondly, the funds are used to purchase a different sizes and types of companies, and thus, claim a different percentage of equity in their invested companies, Cumming, (2013). In a technical way, Metrick, (2011), defines the term private equity as the money or cash invested in a company that becomes a private company through the investment. At the same time, these scholars state that sometimes, this term is used to refer companies that other firms through leveraged buyouts (LBOs). On the other hand, VC is an investment in business in the concept, start-up or during the early years of their establishment.
The paper will look into the Skylock Enterprise, which is a company that deals with clothing products. Frankly, speaking this is a fascinating company to be part of since established two years ago. Each and every day there a new opportunity present itself to build the great legacy we dream of. This company has grown into an integrated manufacturer of the highest quality clothes. This company operates one big plant located in the United States, seven outlets that provide retail services to our business.
In total, there are 543 employees for this company and walk home with over $100 million annual revenue, plus other health benefits (notably, the paper will work with US dollar unless otherwise stated). This company has a stellar reputation since its establishment in those two operational years. Its strongest suites being cotton clothes, women’s wear, men’s wear, as well as the children’s clothes.
Despite its good starting, this company is faced with a lot of challenges in the future. Skylock, manager Stanley White sees impending danger as there is a great competition from the large multi-national companies like Nike, Ralph Lauren among others. Great scholars like Ahlers, (2013), competition in most cases theoretically results in lowering the prices of the commodities, hence if this happens it can narrow the marginal revenue of the company.
Thus, this may limit the development and expansion of this great visional company. This makes the manager question whether this company will remain as innovative as it is, or does it need to adopt some changes. Thus, the major question remains, where Skylock Enterprise will focus its effort.
Due to the market condition in the United States, our company is a price taker, and we need to work on the set market price. In particular, we operate in a free market where no firm or entity has the ability to influence the prices in the market, Dix‐Carneiro, (2013). To succeed, we have to work with the price constraint and at the same time deliver the best quality goods. In fact, quality products always win the customer’s heart. This is in accordance with the factors that affect the demand for a commodity one being the quality (which affect the taste), the price among others Mankiw, (2014).
The Skylock company has excellent structure and one general manager who overlooks all the activities of the enterprise. Figure 1 is a management structure which portrays the general overview of the management team.
The primary focus of the firm in two years has been in the sales department since it plays an import role in advertising the company’s product. The core aim of this department is to increase the sale by two digit percent. Critical to note, in the two years of operation, the company revenue has risen by 5% and 8.6% consecutively. Thus, we are aiming at increasing this percentage to about 13%, this seems impossible, but through the proper financing of our sales, for appealing the commercial market is more oriented to the direct marketing than mass advertisement Danaher, (2011).
The statistics indicate that the firm used almost the same amount in direct marketing and advertisement. Hence, it will be ideal to adopt the direct marketing. Furthermore, the database used to target our marketing indicates that there has been an increase from 500 to 2500. This database includes suppliers and persons targeted specifically.
Skylock Enterprise also is also planning to produce newsletters and brochures that feature new designs and clothes in the market. This will be supplied free to opened outlets and any other targeted market, newsletters will also if there is, recent studies carried out by the firm. This will ensure that the customers are in the know what is going on with the company. Involving the company to the progress of an organization creates trustworthy and thus the customers feel more welcomed Mankiw, (2014).
Nevertheless, as compared to the main competitors to our company, we advertise less often. Taking into consideration that most of these firms have been in business for a long time. Thus, we need to advertise more often so that people can know about our existence. The aim is to raise the expenditure by 20% and target some of the new television series, which will quite improve company’s sales. The advertisement will majorly focus on all the brands in our store.
One of the greatest challenges that faces Skylock Enterprise is that it does not have many retail outlets as compared to its competitors. The location of the seven stores is in the main cities in the US. It is vital to operating our own retail shops since most of the larger firms (our competitors) control retailers. This has limited our sales as we solely depend on that seven retail for the entire revenue generation. The risk that the company faces the reputation risk, if it were to be damaged, the customers will become wary of doing business with us.
This will have not only an effect on the losing the customers, but also the revenue, and worst the sponsors and advertisers may turn their back on us. That is the reason we have a technical director that work with research and design team (R&D team) and the quality control department to ensure that all is well. The R&D department, more importantly, needs to be trained well, so as to keep the company with the trending fashions and also the market structure.
A second risk that this company may face is the financial risk. In particular, the cash that is flowing in and out of the organization, and the possibility of sudden financial loss. Our firm extends credit to some of the largest clients, hence, if they fail to pay on time or fails totally, then we are prone to incur a significant financial risk. To reduce the risk, the firm intends to operate at minimum credit services, and if it happens, it will be extended only to the few trustworthy customers, and it will only be a short-term credit. This is as suggested by the great economics scholars like Horcher, (2011).
Value Enhancement
As stated earlier, there are some of the strategies that the company is planning to undertake so as to improve the business performance, especially increasing sales volume. The firm first has prioritized the strategies and noted the objectives of each plan. First is the direct marketing strategy, which aims at increasing the sales, exploring the market and at the same time take the commodities to customers at their convenience places. Danaher, (2011) stipulates that direct marketing is convenient and also increases sales, especially when the products are unique and of high quality.
In fact, this is as a result of the impromptu purchase of the customers. The key measure that will be used to evaluate the success of this strategy is the use of consumption metrics. This is one of the many methods used to measure the content market success Parmenter, (2015). Importantly, they help in understanding the consumption behavior of customers to a particular piece of content. Thus, this will help Skylock to understand which design has high demand. The set strategy primary mandate is to increase sales by 10 percent.
The second strategy that Skylock will take to improve returns is increasing the number of retail outlets in different parts of US cities. This will be a way of ensuring that we expand the channels through which we reach our esteem customers. Furthermore, it is a method of increasing our market (through geographical coverage). This will increase the sales by about 50-77 percent.
The key performance indicator that will be employed to evaluate the success of this strategy is through data collection and analysis. As stipulated, the core purpose of data analysis is to understand their meaning, so as the firm can understand where the improvement opportunity lies Parmenter, (2015). Analysis will encompass all the sales made through all the Skylock’s retail outlets so as to determine whether the objectives have been fully met.
It is vital to note, before adopting any strategy, the firm will evaluate and decide the frequency at which they will collect relevant data on the achievement of the plan. At the start, the first step will be to assess the market effectiveness, which will be done weekly, and then can go to monthly to reduce the evaluation cost and so on. This is important since it also ensures that the marketing goals are set, KPIs are defined, and people to collect and analyze data are determined.
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Management Structure and Incentive Scheme
The incentive scheme in the firm will be (a must) transparent, for all the staff members understand all the mechanism involved in the calculation. Simply because, a well-designed scheme has a powerful and positive effect, increasing the productivity, quality, and importantly efficacy of an institution Brealey, (2012). Conversely, a poorly designed staff incentive scheme will have a detrimental effect on the overall company performance.
Thus, the main objectives of this scheme will be achieved, which is increasing performance level, change the attitude and/or change the behavior of the staffs. Key to note, the introduction of incentive program results in an increase in revenue as well as boost the company’s reputation (which is one of our risks).
Staff incentive is paramount for the development of an institution and at the same time exciting. Some of the most benefiting parties of this strategy are the shareholders (owners), clients, employees as well as the creditors Brealey, (2012). To start with the owners, this includes even the Venture Capital and Private Equity investors, since the firm’s performance increases drastically through these measures. This aligns with the objectives of the owner, that is, to improve the achievement to a certain degree, and also reducing the standard financial performance. In other words, reducing the financial risks.
In addition, incentives should be directed to the management team of the institution. This is because the success of this organization and its reputation entirely depend on the managers. In other words, they have been delegated the duties of ensuring the firm’s objectives are met. Sometimes, this separation of management and ownership can be problematic as owners may lack means to make the managers perform their best to achieve the firm’s goals.
Further, the managers give the employees some duties, and they are supposed to make a decision and take actions. Thus, it is vital to ensure that incentives are designed in a way that even employees execute their duties are the top management will want.
The incentive scheme will motivate the whole team to work on achieving the organization’s goal. This will, on the other hand, increase the revenue return which in turn increases the cash the stakeholders receive for their capital contribution. To sum all up, the best strategic plans that Skylock Enterprise can adopt for their success have been well illustrated. This will make them more competitive, build a high reputation, and more importantly, increase their revenue, of which it is the core principle of establishing a business.
References
Ahlers, R., Schwartz, K. and Guida, V.P., 2013. The myth of ‘healthy’competition in the water sector: the case of small scale water providers. Habitat international, 38, pp.175-182.
Brealey, R.A., Myers, S.C., Allen, F. and Mohanty, P., 2012. Principles of corporate finance. Tata McGraw-Hill Education.
Cumming, D.J. and Johan, S.A., 2013. Venture capital and private equity contracting: An international perspective. Academic Press.
Danaher, P.J. and Rossiter, J.R., 2011. Comparing perceptions of marketing communication channels. European Journal of Marketing, 45(1/2), pp.6-42.
Dix‐Carneiro, R., 2014. Trade liberalization and labor market dynamics. Econometrica, 82(3), pp.825-885.
Horcher, K.A., 2011. Essentials of financial risk management (Vol. 32). John Wiley & Sons.
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Performance Analysis
Business Analysis Report:
Abstract
This report provides an exhaustive comparative appraisal of the fiscal position, cash flows, performance, and evaluation of Bellway PLC and Redrow PLC. These are two companies that both operate in United Kingdom’s real estate industry. The report sought to answer the following questions: Is Bellway in a better financial position than Redrow? Which company is more profitable for investors between Bellway and Redrow? Which of these two companies is better positioned to exploit the opportunities in its environment? The results indicate that Bellway is better positioned fiscally than Redrow in case an emergency situation comes up. All the same, Redrow is better positioned to exploit the opportunities in its environment than Bellway.
Business analysis report
Introduction
This report provides an in-depth comparative appraisal of the fiscal position, cash flows, performance, and evaluation of two companies that operate within the same industry. In analyzing the main financial statement of the two companies, the researcher uses ratio analysis, vertical analysis, and horizontal/trend analysis. The selected firms are Bellway PLC and Redrow PLC. Both of these companies operate in the United Kingdom’s home construction industry. This appraisal comprises SWOT analysis for both Bellway and Redrow.
The two selected companies are described briefly in the introduction section and a fuller description is found at the Study section. Redrow PLC is an organization that is based in Britain and is involved in residential development. Redrow PLC own’s Harrow Estates, which is focused on property and land solutions (Redrow 2016; Cahill 2012). Bellway PLC is a holding company also based in Britain. It owns subsidiary undertakings and it mainly engages in building houses in Britain (Bellway 2016).
Research questions
Is Bellway in a better financial position than Redrow?
Which company is more profitable for investors between Bellway and Redrow?
Which of these two companies is better positioned to exploit the opportunities in its environment?
Literature Review
The selected companies: Redrow PLC and Bellway PLC
Redrow PLC is a firm that is based in the United Kingdom. It is engaged in residential development. Redrow PLC own’s Harrow Estates, which is focused on property and land solutions (Redrow 2016). Redrow PLC is involved primarily in construction and building of residential properties. It provides its services only within the United Kingdom. Redrow PLC has a land bank of over 12,000 development lots giving the firm about 4-year supply of buildable land, which provides a buffer against abrupt increases in land prices (Redrow 2016).
Bellway PLC is a holding company that is based in the United Kingdom. It owns subsidiary undertakings and it largely engages in contructing houses in the United Kingdom (Bellway 2016). Bellway PLC has quite a few subsidiaries the main one being Bellway Properties Limited. Bellway PLC operates in England, Scotland and Wales only. It does not have operations in Northern Ireland. The land bank owned and controlled by Bellway PLC is roughly 34,070 plots (Bellway 2016).
In the 2015 financial year, Bellway sold in excess of 7,760 houses at an average price of roughly £224,000; about eighty percent of which were sold privately and the remainder being sold as social housing. Bellway PLC gives emphasis to sales volume growth and it frequently buys land particularly at low-cost at locations where it can develop (Bloomberg 2016).
Industry: Home Construction / Real Estate
Bellway PLC and Redrow PLC both operate in the United Kingdom’s home construction industry. This is because both companies are engaged in the construction of buildings: that is, they build and develop houses and homes. They construct and develop houses and homes of different types and sizes for diverse markets (Cave 2015; Lai 2013). The housing market in the United Kingdom has been growing steadily (Willer 2016). This steady growth is largely attributed to the aging UK population which increases demand for property overall (Everett & Duval 2010; Stewart 2013).
The long-term trend for house prices in Britain is upwards, although changes in the prices of houses are very cyclical (Cave 2015; Brennan 2013). In the housing market of the United Kingdom, about 250,000 new homes are needed to be built annually in order to stay abreast of the demand (Bourke 2012; Elliot 2013). Even though the construction sector in general in Britain has slowed down, the homebuilding sub-sector has seen a rise in the construction of new homes (Canocchi 2016; Cunningham 2012; Roxburgh 2011).
SWOT analysis
SWOT – strength, weakness, opportunity and threat – analysis is utilized in evaluating a company’s position and guide strategy going forward. Strengths – these are the qualities which determine a company’s success. Strengths allow an organization to attain its mission. Strengths could be intangible or tangible and include qualities and traits that staff members have as well as their flair which offers the company consistency (Everett 2014). Examples of strengths include no debt, workers who are committed, and huge monetary resources.
Weaknesses – these refer to the qualities which impede the productivity of a company preventing the company from attaining its mission and achieving its full potential. Even so, weaknesses can be controlled and the impact and magnitude of the damage could be decreased. SWOT analysis helps not just to identify the weaknesses of a company, but also provides a chance of reversing those weaknesses (Everett 2014).
Opportunities – there are an extensive range of opportunities present in the environment where the company operates. An organization could always benefit from such opportunities, which could arise out of the market, technology or competition. It is notable that existing opportunities could be the utilization of novel technology, exploiting the company’s untapped resources, and failure of a competitor (Fine 2011).
Threats – these are the elements of vulnerability which could jeopardize the organization’s profitability and reliability. They are unavoidable and cannot be controlled. They have to be addressed so as to find a practicable solution (Pickton & Wright 2014).
Fine (2011) noted that a SWOT analysis is a vital part of the strategic planning process of an organization as offers a good all-round perspective of the forward-looking and current situation of the business. The Weaknesses and Strengths sections provide a look at the current position of the company whereas the Threats and Opportunities sections help in projecting challenges as well as possibilities going forward (Bensoussan 2013). SWOT analysis is a suitable tool for strategic planning.
As a result of the analysis, the business owner would be able to set organizational goals and objectives and obtain a clearer picture for basing his decisions on (Lu 2010). In addition, SWOT analysis helps the business owner to utilize a strategy to match the company’s opportunities and threats, and utilize those strategies to convert the threats and weaknesses of the company into its opportunities and threats (Bensoussan 2013). Although a SWOT analysis allows a business owner to identify and understand important issues that affect the company, SWOT analysis does not essentially provide solutions (Fine 2011).
Ratio Analysis Theory
This theory is relevant to the present research paper. Analysis of fiscal reports necessitates skill of statistical tools, accountancy, and mathematics. There are several fundamental ratios that could help anyone in analyzing an organization’s Profit & Loss Account and Balance Sheet for instance current ratio, provisioning coverage ratio, credit deposits ratio, debtors turnover ratio among others. A wide range of fiscal data could be obtained from Annual Reports, Profit and Loss Account, Audit Report, Balance Sheet, Bank Loan Statement, Bank Account Statement, and Income Tax Return.
Financial Statements
Common fiscal statements include cash flow statement, balance sheet, and income statement, and they are all interconnected. The cash flow statement explains cash outflows as well as cash inflows, and it reveals the amount of money which the business has available on hand, which is reported in the balance sheet also. The income statement is used in describing the way liabilities and assets were utilized in the stated accounting period (Routh 2014).
Every financial statement by themselves only offer a portion of the story of the fiscal condition of the business. When taken together however, the fiscal statements offer a more comprehensive picture (Putra 2015). Potential creditors and stockholders usually analyze the fiscal statements of a business organization and compute several fiscal ratios with the data they contain with the aim of identifying the fiscal weaknesses and strengths of the company and establish whether or not the firm is actually a good investment/credit risk (Kumara 2012). In addition, the fiscal statements of a company are usually utilized by the managers as it aids them in making decisions (Routh 2014).
One particular significant way in which the three fiscal statements are utilized together is in calculating free cash flow (FCF). Investors who are smart prefer business organizations which generate lots of FCFs. This is primarily because it signals the ability of the firm to pay off its debt as well as dividends, facilitate the company’s growth, and buy back stock – all vital undertakings from the perspective of an investor (Routh 2014). Even so, whilst free cash flow is an essential gauge of the health of the business, it actually has its limits; as Lan (2014) pointed out, free cash flow is really not immune to accounting trickery.
Financial Statement Analysis
Financial analysis or financial statement analysis is the process in which the fiscal statements of a company are reviewed in order to make better financial decisions. Financial analysis focuses on analyzing a company’s income statement and balance sheet to interpret the business as well as the company’s fiscal ratios for fiscal forecasting, business evaluation, and even fiscal representations (Grimm & Blazovich 2016).
The main fiscal statements include Statement of Cash Flows, Balance Sheet, and Income Statement (Routh 2014). Financial analysis is a process or technique that involves certain methods for assessing fiscal health, performance, risks, as well as the company’s future prospects.
Financial statement analysis is utilized by many stakeholders including equity and credit investors, decision-makers with the company, the public, and even the government. These different stakeholders have various interests and they apply dissimilar techniques in meeting their needs (Lan 2014). Creditors, for example, want to ensure the principal and interest is paid on the debt securities of the organization whenever due. Equity investors are interested in the organization’s long-term earnings power and the growth and sustainability of dividend payments. Some of the common financial analysis methods include DuPont analysis, fundamental analysis, vertical and horizontal analysis, as well as the use of financial ratios. To project performance of the future, historical information combined with several adjustments and suppositions to the fiscal information might be utilized.
Methods of financial analysis
Ratio analysis
Financial ratios are essential tools for performing analysis of financial statements quickly. There are 4 different classifications of financial ratios: leverage, activity, profitability, and liquidity ratios. These financial ratios are usually analyzed across competitors within the industry and over time (Routh 2014). In analyzing the financial statement of a company using the ratio analysis method, various types of ratios are used.
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Liquidity Ratios: these are utilized in determining how fast an organization is able to turn its assets into cash in the event that the business faces insolvency or fiscal challenges. In essence, liquidity ratios are a measure of the capacity of an organization to remain in business (Routh 2014). Some of the liquidity ratios include the liquidity index and the current ratio.
Current ratio is used to measure the current assets of an organization against the organization’s current liabilities (Altman 2012). The current ratio is used in measuring the amount of liquidity that is available to pay for liabilities (Lan 2014). It is notable that the current ratio indicates whether or not the corporation is capable of paying off its short-term liabilities during a situation of emergency through liquidating its current assets (Lan 2014).
A low current ratio means that the company might find it difficult to pay its current liabilities within the short run hence it should be investigated more. If the current ratio is less than one for example, it indicates that even when the firm liquidates its entire current assets, it will still not be able to pay off its current liabilities (Routh 2014).
Quick ratio helps to compare the accounts receivable, short-term marketable securities, and the cash to the company’s current liabilities. If quick ratio is 0.55 for example, it means that the firm is only able to cover 55 percent of current liabilities by monetizing accounts receivable, liquidating short-term marketable securities, and utilizing all cash-on-hand (Lan 2014).
Cash ratio is computed as cash and short-term marketable securities divided by organization’s current liabilities. It is worth mentioning that a cash ratio of 0.31 will mean that the firm could only pay off 31 percent of its current liabilities with the use of its short-term marketable securities as well as cash.
Liquidity index is also one of the liquidity ratios although is not very popular. It is used to measure the period of time that is needed for converting assets into cash (Batta, Ganguly & Rosett 2014).
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Activity Ratios: these ratios essentially demonstrate how well the company’s top executives are managing the resources of the organization. Accounts receivable turnover and accounts payable turnover are some of the common activity ratios. They show the period it takes for an organization to get payments and how long it takes for an organization to pay off its accounts payable (Routh 2014). Other activity ratios include sales to working capital ratio, fixed asset turnover ratio, working capital turnover ratio, and inventory turnover ratio.
Profitability Ratios: these are ratios which show how profitable an organization is. The gross profit ratio and the breakeven point are some of the common profitability ratios. The breakeven point is used in computing the amount of money which the organization has to generate in order for it to break even with its start up costs (Knežević, Rakočević & Đurić 2011). The gross profit ratio shows a quick snapshot of the anticipated revenues.
Leverage Ratios: these show how much an organization depends on its debt in funding its operations. The debt-to-equity ratio is a popular leverage ratio utilized in analyzing financial statements (Johnson 2013). The debt-to-equity ratio depicts the degree to which the company’s top executives are willing to utilize debt in funding the company’s operations. It is computed as follows: (Leases + Short-term debt + Long-term debt) / Equity (Lan 2014).
Vertical analysis
Besides ratio analysis, the other method that can be used to analyze financial statements is the use of vertical and horizontal analysis. Vertical analysis, as Lan (2014) pointed out, reiterates every figure in the income statement as a percentage of net sales. Vertical analysis is important as it allows the top managers to understand if expenses such as Cost of Goods Sold (COGS) are very high in comparison to sales (Andrijasevic & Pasic 2014).
In essence, vertical analysis is the proportional analysis of a fiscal statement in which every line item on the fiscal statement is listed as a percentage of another item (Routh 2014). This essentially implies that each line item on the balance sheet is stated as a percentage of total assets whilst on the income statement, each line item is stated as a percentage of gross sales (Teodor & Radu 2013). All in all, vertical analysis brings about common-size fiscal statements. Boyd et al. (2014) noted that common-size income statements present each of the amount in the income statement as a proportion of sales.
This is used to compare ratios and account balances over various periods of time. It can be used, for instance, in comparing a company’s sales in 2012 to the company’s 2013 sales (Boyd et al. 2014).The financial analysis for the two companies is illustrated exhaustively in the Study section. The analysis includes the horizontal/trend analysis, vertical analysis, and ratio analysis (Monea 2013). The horizontal analysis entails comparing fiscal information over a number of reporting periods. Horizontal analysis is therefore the review of the results of several periods of time (Luypaert, Van Caneghem & Van Uytbergen 2016).
Financial statement analysis is important due to several advantages it presents to an organization. Firstly, financial analysis offers an idea to investors about deciding on investing their money in a certain business organization (Damjibhai 2016). Secondly, various regulatory authorities such as IASB could ensure that the business organization is in fact following the necessary accounting standards (Routh 2014).
Therefore, the analysis enables the company to remain compliant (Ednlister 2012). Thirdly, the analysis of financial statements helps government agencies to analyze the taxation that is owed to the company (Beutler 2014). Fourthly, financial statement analysis enables the company to analyze its own performance over a certain period of time (Routh 2014).
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