1. Prepare a common size Balance Sheet and Income Statement Extract from the data in year as the base-year
2. Calculate the eight (8) missing ratios from Table 4 above using formulae provided on page 1.
3. Evaluate and provide your conclusions about the financial position of Viscount Ltd; using either Common Size Statements information or these eight (8) ratios in trend and comparative analyses:
a. a three-year 2014, 2015, and 2016 longitudinal trend analysis for the company
b. a 2016 cross-sectional analysis for company and the industry average.
4. Identify the means by which Viscount Ltd has funded the increase in its non-current assets and comment on how and why this means of purchasing non-current assets may affect the level of business risk of of the company. (Please note it is not intended to calculate the actual effect on the level of business risk between the year 2015 and 2016. You only need to identify how and discuss why this level of business risk effect occurs).
5. The company has increased its annual sales significantly in 2016 compared to 2015 and 2014.Identify
a. How has the company increased its production capacity to achieve its sales expansion strategy in 2016? and
b. What is the impact of its increased production capacity on the solvency position of Viscount Ltd?
On analyzing the below points, we came to a conclusion that overall the company’s financial position is satisfactory except that the company can face liquidity issues in short run.
On analysis of common size income statement, we came to a conclusion that in spite the fact that the company is increasing its sales, the profit generated is reducing. This fact is clearly evident from company’s gross margin ration which has came down from 17% to 13.17% besides the fact that company has increased its sales by 16% in year 2015 and by 73% by the year 2016. But the company’s gross margin ratio is intact.
Further, it also seems that the company has changed its policy and started following cash sales policy as in 2014 cash sales was just 4.40% of total annual sales which rose to 4.52% in year 2015 and further to 25% at the year end 2016. This will help the company in generating more cash.
Although the company’s sales are increased by nearly 73% in 2016 as compared to base year 2014, but it is quite commendable that the company’s cost of goods sold is nearly same as in 2014 with a slight change of just 1%.
However, the company has nearly doubled the interest cost which has rose from 1.74% of total sales to 3.33% of total sales from 2014 to 2016.
Moving towards balance sheet, the company’s current ratio has declined from 2.25 in 2014 to 1.84 in 2015 and to 1.49 in 2016. The reason behind this is that the company’s cash has reduced significantly, earlier in 2014 the company has a cash equivalent to 4.82% of total asset, which has came down to 3.65% and then to 1.01% respectively. Further, inventory as a % of total assets has also came down 17.55% in 2014 to 13.82% in 2016. Another reason for decline in current ratio is increase in liabilities due to increase in provision for dividend by nearly 3.77% of total liabilities and equities.
Similarly, the company’s quick ratio has declined from 0.90 to 0.75 and then to 0.65 in 3 years, i.e. 2014, 2015 and 2016 respectively. The reason is decline in cash which is discussed above.
Debt to equity ratio has also seen some significant changes, i.e. It is increased from 0.40 to 0.48 and then to 0.97, this is so because the company’s debentures has increased from 9.02% to 24.50%.
a 2016 cross-sectional analysis for company and the industry average
On analyzing the below points, we came to a conclusion that the company certainly needs to improve its current and quick ratio and return on assets by taking appropriate actions as mentioned below.
For current ratio, the industry is having an average of 2.25 whereas the company is having a ratio of 1.49. It means that in short term the company is not able to manage its current liability effectively. And the company is required to reduce its current liabilities. Similar facts applies to quick ratio as well, as the company has low quick ratio as compared to industry average.
The company is having higher debt equity ratio then industry average, as per industry average the company should have a debt of $0.6 against $1 of equity, whereas in 2016 the company is almost having equal debt and equity. The company urgently requires to reduce its debt as this situation can be dangerous for the company and can create difficulty in arranging more finances in future.
The company is having a rate of return on assets of 8% as compared to 14% of industry average. So, the company is required to improve its return on assets.
The company’s non-current assets have increased from $5,639,670 to $9,239,744 between the year 2015 to 2016 with an increase of nearly $3,600,074. This increase is funded mainly by issue of debentures, mortgages and 8% preference shares.
Due to increase in debentures and mortgages, the company’s debt equity ratio has increased to 0.97 from 0.48. Increased debt equity ratio implies that company is heavily dependent on debt and is not good for the health of the company as well. Arranging more finance from third parties, can become difficult with such a high debt equity ratio.
Further, by issuing the preference shares, the company’s liabilities toward preference dividend have been increased which has also impacted the current and quick ratio of the company. Increase in pref shares, has also diluted the stake of equity shareholders in total assets of the company, which can seriously impact the faith of third parties and shareholders amongst the company.
The company has increased its sales from $ 2,725,000 to $ 6,000,000 between years 2014 to 2016. The company has achieved its sales expansion strategy with the help of following:
Increase in production capacity by increasing machineries of the company from 33.55% of total assets in 2014 to 36.81% of total assets in year 2016.
Making more cash sales in the year 2016 as compared to year 2014 and 2015. Cash sales increased from 4.40% of total sales in 2014 to 25% of total sales in 2016.
Keeping less inventories and emphasizing on more sales and low inventory keeping. Inventory at year 2014 was 17.55% of total assets which reduced to 13.82% of total assets in year 2016.
This increased capacity has the following impact in solvency position of the company:
Decrease in inventory has reduced its current ratio from 2.25 to 1.49 which implies that the assets available for payment of current liabilities have reduced and the company needs to arrange more resources for payment of its liabilities.
Further, due to increase in working capital requirement, the company has reduced its cash availability from 4.82% of total assets in 2014 to 1.01% of total assets in 2016, this has reduced the quick ratio of the company and implies that the company can face cash crunches in short term.