GiDa Ltd Analysis of financial performance - Free Essay Example

Sample details Pages: 5 Words: 1368 Downloads: 3 Date added: 2017/06/26 Category Finance Essay Type Analytical essay Did you like this example? GiDa Ltd Analysis of financial performance Don’t waste time! Our writers will create an original "GiDa Ltd: Analysis of financial performance" essay for you Create order Table of Contents 1 Introduction 2Financial Statements and ratios 2.1Income statement 3.2Balance Sheet 3Limitations 4Overdraft reduction plan 5Conclusion Bibliography Appendix 1 GiDa Ltd Income statement Appendix 2 GiDa Ltd Balance Sheet Appendix 3KPIà ¢Ã¢â€š ¬Ã¢â€ž ¢s The following report has been produced by Drake Consultancy on behalf of GiDa Ltd, a corporation that is involved in the design and manufacture of casual and leisure clothing aimed specifically at the higher-income young persons market. GiDa has been requested by their bankers to reduce their current borrowing requirements within the next six months. The intention of this report is to analyse the financial performance of the business using the key performance indicators and ratios as indicated by Atrill and McLaney (2006) and present a plan for the business that will enable it to comply with the banks requirements. Copies of the financial statements of GiDa Ltd covering the two years to 31 December 2007 are attached within appendices 1 and 2. It should be noted at this stage that these have been prepared and presented in accordance with the current reporting standards as set by the IASB[1]. One consequence of these standards is that when measuring performance, the majority of ratios used are concentrated upon the balance sheet, although as will be seen in this case these do relate to the profitability of the business (Ryan 2004, p.145). In common with standard practice, to enable a comprehensive analysis of GiDaà ¢Ã¢â€š ¬Ã¢â€ž ¢s financial performance, we have used six key performance indicators (Lee 2006), the details of which are included in appendix 3. Two of these relate to income statement activity and the remainder concentrate upon balance sheet performance. 2.1Income statement With regard to the income statement, two KPIà ¢Ã¢â€š ¬Ã¢â€ž ¢s can be seen to have contributed to the increase of the business overdraft during 2007. These are the inventory turnover period and the trade receivables. The results show that inventory has reduced from being turned over 3.14 times per year to 2.46 times. Similarly, the trade receivables in 2007 represent 16.71%, an increase of over 5% in the year. As is apparent from the income statement (appendix 1), there are no exception items in the accounts, therefore both of these events have directly put pressure on the business cash flow, increasing funding requirements (Atrill and McLaney 2006, p.204). 3.2Balance Sheet An analysis of the GiDa Ltd balance sheets for the two years (appendix 2) also reveals several areas of concern (Riahi-Belkaoui 2004), which might have precipitated the banks request. These concerns appear in four major areas. Return on investment The percentage return on investment has reduced to 22.09% in 2007 (25.27% 2006). Although this might be of minor concern, as GiDa is a private company, if investors are needed in the future its importance will increase. Current Ratio The current ratio tests the ability of the business to cover its short term or current liabilities. In this case 2006 showed a comfortable position where current assets were nearly twice the size of current liabilities, although this position has weakened considerably in 2007. Acid Test ratio However, of more importance in terms of performance is the acid test ratio. Here it is recognised that the business inventory does not have the same liquidity strength as other current assets, particularly in a forced sale environment (Atrill and McLaney 2006). Financial institutions are only comfortable when this ratio exceeds 1(Ryan 2004) and, as is apparent from the GiDa balance sheet in neither year has this been achieved. Even more concerning is the fact that in 2007 this ratio reduced to less than half. From the bankà ¢Ã¢â€š ¬Ã¢â€ž ¢s viewpoint this would raise issues relating to the security of their lending (Lee 2006). Debt/equity ratio A similar result to the acid test ratio would be required from the debt/equity ration, which is designed to indicated the solvency of the business when comparing liabilities against the equity available (Schroeder et al 2005). The review of the GiDa performance shows that in 2007 this ratio, as with the previous one, has also reduced to less than half. Despite the increased and improved performance reflected in the corporationà ¢Ã¢â€š ¬Ã¢â€ž ¢s income statements, there is little doubt that the performances in the areas indicated above have been the cause of the bankà ¢Ã¢â€š ¬Ã¢â€ž ¢s disquiet as to the future stability of the business and resulted in their requesting a reduction in current borrowings (Jones 2006 and Lee 2006). Prior to making recommendations (section 4) it should be noted that this performance analysis would have contained a more detailed appraisal had Drake Consultancy been able to access two further areas of information. The first of these is the cash flow statement, which provides future indication of continuing liquidity (Ryan 2004, p.1). In the second instance, a more detailed analysis of revenue segments might have proved useful in assessing whether performance was an issue within the male or female clothing ranges. In addition, from the information provided it has been assumed that all the profits earned by the business in 2006 have been withdrawn by the shareholders as dividends in 2007 as this amount has not been carried forward to the 2007 balance sheet (see appendix 2). The balance sheet for GiDa Ltd shows that the overdraft has increase to  £5.5 million in 2007 (2006  £600,000). To comply with the bankers request for a reduction in the overdraft levels within six months the reports authors would make recommendations for improvements in two main areas of the business performance, these being related to the inventory and trade receivables. Inventory If the inventory turnover level had been maintained in 2007 at the same ratio as 2006 it would have stood at  £4.588million instead of the balance sheet amount of  £5.820 million. This would have reduced the business borrowing levels in the full year by  £1,261 million Trade receivables In terms of trade receivables the extent of credit extended to customers has increased by 5% in 2997. Had this credit control been maintained at 2006 levels additional cash available to the business would have been  £1,161.55 million. It is therefore recommended that additional controls and monitoring be conducted upon these two areas to reduce the ratios back to 2006 levels as a matter of urgency. The cash flow benefit of taking this action will have the following positive cash inflow to the business over the course of one year:  £1,261 +  £1,161 =  £2,422 million Achieving this level of improvement would enable the business to provide the bank with a borrowing reduction of  £1,211 million with the six month period requested. Furthermore, these measures would also serve to improve the business key performance indicators, especially in relation to the current and acid test ratios. It is concluded from the review of the financial performance of GiDA that whilst the income performance has improved, the two areas of financial controls mentioned in section 4 have been allowed to become lax, which has caused the bank to become concerned about their lending. However, providing the corporationà ¢Ã¢â€š ¬Ã¢â€ž ¢s management implement the recommendations of this report it is considered that the business will be able to achieve a position that will enable it to comply with the banks request to reduce borrowing levels and, in addition, strengthen its balance sheet value at the same time. Atrill, P and McLaney E (2006). Accounting and Finance for Non-Specialists. Harlow: FT Prentice Hall Jones, M (2006). Financial Accounting. Chichester: John Wiley Sons Lee, T (2006). Financial Reporting and Corporate Governance. Chichester: John Wiley Sons Riahi-Belkaoui (2004). Accounting Theory. London: Thomson Learning Schroeder, R.G., Clark, M.W and Cathey, J.M (2005). Financial Accounting Theory and Analysis: Text, Readings and Cases. New York: John Wiley Sons Inc Ryan R (2004). Finance and Accounting for Business. London: Thomson Learning Income statementforGiDa Ltd. for theyearended31December 2006 2007  £000  £000  £000  £000 Revenue 14,006 22,410 Costofsales Opening inventory 2,330 3,140 Purchases 7,584 14,298 Closing inventory (2,418) (5,820) (7,496) (11,618) Grossprofit 6,510 10,792 Operatingexpenses (2,384) (3,700) Operatingprofit(beforeinterestandtaxation) 4,126 7,092 Interestpayable (432) (912) Profitbeforetaxation 3,694 6,180 Taxation (420) (780) Profitfor the year 3,274 5,400 Balance sheetforGiDa Ltd. as at 31December 2006 2007  £000  £000  £000  £000 Non-current assets 8,600 14,470 Current assets Inventory 2,418 5,820 Trade receivables 1,614 3,744 Other receivables 268 402 Cash 56 8 4,356 9,974 Current liabilities Trade payables 1,214 2,612 Other payables 248 402 Taxation 420 780 Bank overdraft 600 5,050 2,482 8,844 Net current assets 1,874 1,130 10,474 15,600 Non-current liabilities Long-term loan 3,600 6,600 Net assets 6,874 9,000 Equity Ordinary shares of  £0.50 each 3,600 3,600 Retained profit 3,274 5,400 6,874 9,000 Figure 1 Financial Ratios GiDa Ltd Financial Ratios Comparisons  £  £  £ 000s Dec-31 Dec-31 2006 2007 Inventory period Annual cost of goods sold 7,584 14,298 Inventory 2,418 5,820 Ratio 3.14 2.46 Trade receivables Revenue 14,006 22,410 Trade receivables 1,614 3,744 Percentage 11.52% 16.71% Return on Investment Total Assets 12,956 24,444 Net Profit after Taxes 3,274 5,400 Percentage 25.27% 22.09% Current Ratio Current Liabilities 2,482 8,844 Current Assets 4,356 9,974 Ratio 1.76 1.13 Acid Test Ratios Current Liabilities 2,482 8,844 Current Assets (Less inventory) 1,938 4,154 Ratio 0.78 0.47 Debt equity ratio Total Liabilities 2,482 8,844 Equity 3,600 3,600 Ratio 1.45 0.41 1 Footnotes [1] International Accounting Standards Board (2008)