Applied Business Finance: A Comprehensive Analysis of Financial Management and Financial Statements

Module Number: BMP3005

Module Name: Applied Business Finance

Year/Trimester: 2024-25/ Semester 2/ January 24 Cohort

Module Tutor/s:Vincentia Mawuewoe Boham/Babatunde Felix Fatunwase/ Nicolia Nanayakkara/ Raju Saginala/ Adewale Adeniji

Assessment Number	Assessment 1
Assessment Type (and weighting)	Individual Report – 100% (2000 words)
Assessment Name	Importance of Financial Management
Assessment Submission Date	Sunday 22 September 2024 at 23:59

Student Name:

Student ID:

Table of Contents

Introduction

Effective financial management transcends industry, sector and types of business, thereby making it one of the primary responsibilities of business directors and leaders. It has a pivotal role in all businesses starting from enhancing their profitability in addition to enlarging their economic stability and financial planning. This report revolves around the significance of financial management along with financial management is a concept in business. There is going to be an evaluation of how financial statements are important for a business’s financial management alongside the determination of how ratios help in financial management. On the other hand, the various ways in which the results of the analysis of financial ratios can be useful for the enhancement of a business’s financial performance will be observed.

Section 1

(i) Define and discuss the theory behind financial management and its importance.

The financial success that a firm accomplishes depends largely on the effectiveness of its financial management activities and financial management strategies. Finkler, Calabrese and Smith (2022) has defined financial management as a set of processes that a firm follows to plan and organise its financial resources and activities alongside ensuring their control and management. It assists in the ascertainment of how the financial goals and objectives of a firm are accomplished. Financial risk management, financial performance reporting and cash flow management are the few main elements related to the financial management of a firm. It also deals with decision-making on investments along with budgeting and forecasting.

Strong financial management in businesses are helpful for attainment of specific goals and objectives so that their long-term sustainability can be ensured and shareholders’ wealth can be maximised. The theory of financial management emphasises on accomplishment of financial stability and mitigation of financial risks in addition to optimisation of financial resources. In this context, Shapiro, Hanouna and Sarin (2024) stated that financial management is accomplished within businesses based on different objectives. Meeting the capital needs of a firm and maintenance of a sound capital structure is one of the main objectives of financial management. Other than this, maximisation of firm profitability and enhancement of shareholders’ wealth is also one of the primary objectives of financial management within businesses.

In this context, Vernimmen, Quiry and Le Fur (2022) stated that financial management is of great importance in all business organisations or firms. One of the main reasons due to which financial management is important in a firm is that financial management activities are advantageous for planning and forecasting expenditures while controlling them efficiently. It also helps in ensuring if there is adequate cash present in hand for the execution of day-to-day activities. Financial management is also important to oversee the cash flowing into firms and flowing out from them to ensure the presence of effective cash management. Maintenance of balance in income and expenses and ascertainment of sound financial health is also one of the most important elements of financial management in companies.

(ii) Describe and discuss the major financial statements in financial management.

Different factors need to be considered for the accomplishment of effective financial management in firms. Financial statements are one of these most important elements. In the following section, there has been a description and discussion on the primary financial statements that are used for the financial management of firms –

Income statement

In every firm, income statements are one of the most important financial statements prepared and presented for public use. This is a specific financial statement, which helps in tracking the revenues, expenditures, gains and losses of businesses over a set period (Bragg, 2024). However, this statement is also useful for the financial management of a firm. This is because an income statement enables firms in the evaluation of their profitability, thereby helping in developing strategies and making decisions on managing revenues and costs.

Cash flow statement

Another important financial statement created in businesses is the cash flow statement. This is a specific financial statement, which helps in determining the cash moving into a business and moving out of it over a set period (CFI, 2024a). However, this statement is also useful for the financial management of a firm. This is because a cash flow statement enables firms in the identification of their total cash and cash equivalents at the ending of a particular accounting period. Based on this, the firm’s liquidity can be analysed and its growth opportunities can be determined, thereby enabling effective financial management.

Balance sheet

In every firm, balance sheets are also one of the most important financial statements prepared and presented for public use. This is a specific financial statement, which helps in measuring the value of its liabilities, equity and assets at the end of a specific period (Jeenas, 2023). However, this statement is also useful for the financial management of a firm. This is because a balance sheet enables firms to assess their solvency, liquid position and capital structure. Based on this, developing strategies and making decisions on management of financial position is accelerated.

Section 2

Section 2(a)

Income statement for the year ended 30th September, 2023
		£	£
Revenue			80000
Cost of Sales			30000
Gross Profit			50000
Expenses
Sundry expense		1000
Wages		1500
Gas & Electricity Bill		250
Profit from Operations			47250
Finance cost			500
Profit before tax			46750
Tax			9350
Profit for the year			37400

Section 2(b)

Statement of Financial Position as at 30th September, 2023
		£
ASSETS
Non-Current Assets
Intangible Assets		47080
Tangible Assets		537900
		584980
Current Assets
Inventories		59070
Trade and other receivables		53350
Cash and cash equivalents		469590
		582010
Total Assets		1166990
EQUITY AND LIABILITIES
Current Liabilities
Trade and other payables		57200
Tax liabilities		27060
		84,260
Working Capital		497,750
Total assets less current liabilities		1,082,730
Non-current liabilities
Bank Loan		170665
Total liabilities		254,925
Equity
Share capital		618200
Reserves		239965
Retained Earnings		53900
Total Equity		912,065
Total Equity and Liabilities		1,166,990

Section 2(c)

Profitability ratios

1. Operating profit margin

Formula = Operating profit ÷ Net sales turnover * 100

2022 = £ 48 ÷ £ 800 * 100 = 6%

2023 = £ 48 ÷ £ 600 * 100 = 8%

2. Return on capital employed (ROCE)

Formula = Operating profit ÷ Total assets – Current liabilities * 100

2022 = £ 48 ÷ £ 242 – £ 78 – £ 4 * 100 = 30%

2023 = £ 48 ÷ £ 230 – £ 38 * 100 = 25%

Liquidity ratios

1. Current ratio

Formula = Current assets ÷ Current liabilities

2022 = £ 52 + £ 67 + 0 ÷ £ 78 + £ 4 = 1.4512 = 1.45: 1

2023 = £ 56 + £ 75 + £ 8 ÷ £ 38 = 3.6578 = 3.66: 1

2. Quick ratio

Formula = Current assets (Excluding inventories) ÷ Current liabilities

2022 = £ 67 + 0 ÷ £ 78 + £ 4 = 0.8170 = 0.82: 1

2023 = £ 75 + £ 8 ÷ £ 38 = 2.1842 = 2.18: 1

Efficiency ratios

1. Accounts payable period

Formula = Accounts or trade payables ÷ Cost of Goods Sold (COGS) * Total working days

2022 = £ 78 ÷ £ 624 * 365 days = 45.625 = 45.63 days

2023 = £ 38 ÷ £ 450 * 365 days = 30.82222222 = 30.82 days

Section 2(d)

There is a range of methods and techniques applied in business organisations for the measurement and interpret of their performance secured for a timeframe along with their financial position (Palepu et al., 2020). As stated by CFI (2024b), one of the most important techniques or methods used for this purpose is horizontal analysis. One can define horizontal analysis as a technique useful for financial analysis, which helps to compare the financial information of organisations over time for the determination of patterns and trends in performance. It is performed usually through the compare and contrast of the financial results of organisations from one accounting period to another, generally a recent year to a prior year. This helps in understanding how business organisations are performing. Horizontal analysis is beneficial for understanding what is affecting the financial performance of business organisations through the determination of efficiency and opportunities. It also turns out to be effective in the identification of the financial position and growth of business organisations relative to that of competitors. The section below shows a detailed horizontal analysis depending on the data available –

Detail	2023	2022	% Change
Net Income for the year	£ 564,494	£ 469,317	20.28%
Gross profit	£ 4,875,459	£1,563,480	211.83%
Interest Expense, net	£ 52,208	£ 65,388	-20.16%
Cost of sales	£ 14,439,706	£ 13,588,612	6.26%
Total revenue	£ 19,315,165	£ 15,152,092	27.48%
Selling, general & Administrative expenses	£ 9,626	£ 8,466	12.05%

As per the data and information determined above, a good performance can be identified for the company due to its positive trends in performance. Firstly, it can be observed that this company’s total revenue has increased by 27.48%. This change is a positive change and reflects good improvement in its total revenue. On the other hand, it can be observed that the company’s cost of sales has increased by 6.26%. This is a negative aspect of the company’s performance. However, despite the increase within cost of sales, it can be observed that its gross profit has undergone an increase of more than 211%.

Such huge increase in gross profit also helps to identify that the performance of the company has enhanced substantially. In the selling, administrative and general expenses of the company, there has been an increase of about 12%. This is a negative element in the company’s performance. However, the positive aspect of the company’s performance is that there has been a huge reduction in its interest expenses by an average of 20%. Therefore, on an overall basis, it can be observed that the company’s net profit has increased by an approximate 20%. Thus, the overall findings of the horizontal analysis assist to observe positive trends in the company’s performance.

Section 3

Financial statements could be identified as one of the most effective tools that are useful for a business’s financial management. However, other than financial statements, financial ratios are also a useful tool for the financial management accomplished in a firm (Rao, 2021). The financial ratios of a firm are calculated by determining fractions by the comparison of its financial statement figures to identify diverse aspects of its performance. In a firm, the term liquidity reflects its capacity of being able to address various kinds of short-term obligations without the disruption of operations (Markonah, Salim and Franciska, 2020). Whenever businesses have an absence of liquidity, financial failures and difficulties are encountered. The liquidity ratios calculated for a firm assists in the derivation of how well it can pay off its short-tem debts timely. However, in between the two firms, Jill shows a poorer liquidity in terms of the current ratio as well as the quick ratio. The current ratio determined for Jill shows a stable liquidity of the firm. However, the quick ratio derived for the firm is poor. Hence, it can be opined that the liquidity existing in Jack relatively much better as compared to that of Jill.

Profitability ratios

The profitability ratios are defined as the class of financial ratios of a firm, which help in the identification of how much income is being generated in its context over a specific timeframe (Kadim, Sunardi and Husain, 2020). Both Jack and Jill show the presence of good profitability, as both the firms have stable profitability ratios. In between the two firms, Jill shows a poorer profitability in the case of operating profit margin. However, the ROCE is better in the case of Jill than Jack.

Efficiency ratios

According to Hedija and Kuncová (2021), efficiency ratios are defined as the class of ratios, which help to measure and determine the efficiency present in firms for the management of their assets and debts. Both Jack and Jill show the presence of good efficiency, as both the firms have an account payable period lesser than that of 2 months. However, in between the two firms, Jill shows a poorer liquidity than Jack, as its accounts payable period is higher by a span of 15 days.

However, all the findings of the analysis of the ratios for Jack and Jill show that Jill not only has a poor profitability but also a poorer liquidity and efficiency as compared to Jack. To enhance its profitability, Jill is recommended on adopting extensive marketing activities while focusing on effective pricing of its offerings. On the other hand, to improve its efficiency, an automated credit control system is recommended to be adopted in the firm. Apart from this, to improve its liquidity, Jill is recommended to focus on the increase of sales, decrease of overhead costs, increase the efficiency of cash flow forecasts and pay off debts quickly.

Conclusion

Therefore, depending on the discussions and findings of the report, it can be identified that effective financial management has a pivotal role in all companies. The importance of financial management and the financial management concept could be identified. Varied important functions of financial management, for example, financial performance analysis and management, accomplishment of business objectives and others could be observed. The roles played by financial statements such as income statements and others could be determined as well. On the other hand, the horizontal analysis assisted in determining positive trends in the company for which the horizontal analysis has been conducted. Apart from this, in between Jack and Jill, Jack’s performance could be identified as better while ratios turned out to be advantageous for effective financial management in businesses.

Reference List

Bragg, S. (2024) Income statement definition, AccountingTools. Available at: https://www.accountingtools.com/articles/the-income-statement#:~:text=An%20income%20statement%20can%20be,or%20loss%20divided%20by%20sales). (Accessed: 10 September 2024).

CFI. (2024a) Balance sheet, Corporate Finance Institute. Available at: https://corporatefinanceinstitute.com/resources/accounting/balance-sheet/ (Accessed: 10 September 2024).

CFI. (2024b) Horizontal analysis, Corporate Finance Institute. Available at: https://corporatefinanceinstitute.com/resources/accounting/horizontal-analysis/ (Accessed: 10 September 2024).

Finkler, S.A., Calabrese, T.D. and Smith, D.L. (2022) Financial management for public, health, and not-for-profit organizations. CQ Press.

Hedija, V. and Kuncová, M. (2021) Relationship between efficiency and profitability: The case of Czech swine sector. Spanish journal of agricultural research, 19(1), p.102.

Jeenas, P. (2023) Firm balance sheet liquidity, monetary policy shocks, and investment dynamics. Universitat Pompeu Fabra, Department of Economics and Business.

Kadim, A., Sunardi, N. and Husain, T. (2020) The modeling firm's value based on financial ratios, intellectual capital and dividend policy. Accounting, 6(5), pp.859-870.

Markonah, M., Salim, A. and Franciska, J. (2020) Effect of profitability, leverage, and liquidity to the firm value. Dinasti International Journal of Economics, Finance & Accounting, 1(1), pp.83-94.

Palepu, K.G., Healy, P.M., Wright, S., Bradbury, M. and Coulton, J. (2020) Business analysis and valuation: Using financial statements. Cengage AU.

Rao, P.M. (2021) Financial statement analysis and reporting. PHI Learning Pvt. Ltd.

Shapiro, A.C., Hanouna, P. and Sarin, A. (2024) Multinational financial management. John Wiley & Sons.

Vernimmen, P., Quiry, P. and Le Fur, Y. (2022) Corporate finance: theory and practice. John Wiley & Sons.

Appendix

Section 2(a)

Formula and calculations of income statement

Section 2(b)

Formula and calculations of statement of financial position

Section 2(c)

Formula and calculation of financial ratios