Financial Analysis Of Unsinkable Kayaks Ltd In An Essay.

Jason Liafo has a company called Unsinkable Kayaks Ltd selling advanced kayaks.  The kayaks have a flotation system which it almost impossible for them to sink – a little bit like the Titanic.  Jason imports the kayaks from Vietnam and sells them through local water sports shops and through his website.

Unsinkable Kayaks pay cash up front on the imported kayaks.  The online customers pay cash, whereas Jason provides credit terms to the retail stores operators.  These stores pay on the 20^th of the month following invoice.

Unsinkable Kayaks does not have premises but stores the kayaks in a storage facility.

Jason has one salesperson who he employs to increase the number of retail outlets and an office administrator who works part time.  Unsinkable Kayaks pays Jason a salary and a dividend payout is made based on profits available.  

The business has been running very successfully for several years as the popularity of these kayaks has been growing. He has managed to pay off most of the loan that he took out to start the business.

Early in the financial year 2018 a customer purchased a kayak online and upon the kayak arriving the customer immediately set off for cruise down a sixty km stretch of a river. Tragically, the customer was drowned after being swamped by a flash flood which originated following heavy rainfall in a canyon adjoining the river.  As a result, Unsinkable Kayaks Ltd is under police investigation as to whether they provided sufficient information about the operation of the kayak in extreme conditions.  Jason Liafo has engaged the services of a lawyer.  There has been a lot of media attention and many social media comments about the dangers of so-called ‘unsinkable kayaks’.

As a result of this negative publicity the numbers of sales declined significantly in the 2018 year. As an accountant at ‘Every Solution Accounting’ you have been hired by Jason to analyse Unsinkable Kayak Ltd’s last three (3) years of financial statements.  

He would like you to present your report to him no later than 1.00 pm on Thursday 18 October 2018.

Required

Use the Schedule of Statistics and the Financial Statements supplied on the following pages for the three (3) years to create your Report

Purpose of Financial Analysis and Interpretation

The financial data of a company can be used in many ways to aid to the development and progress of an organisation. The data can be used in many ways. In our report below we have discussed about the financial data of Unsinkable Kayaks.

Purpose of Financial Analysis and Interpretation

The financial analysis of an organization can be useful to both the management and the stakeholders of an organisation in many ways. We have discussed below few purposes of the financial analysis and interpretation:

• Financial analysis helps the management evaluate the profitability of the business over the years. It helps in trend recognition, which helps the management evaluate the best conditions to work in order to maximize the returns
• Analysis of financial information helps the management have a look in the working of the organisation. This helps in recognition of weak areas which are then taken care of.
• Financial analysis helps the management improve the efficient in the organisation. It helps in recognition of wastages, which can be controlled in order to minimise cost and result in efficiency.
• Financial analysis helps the investors and stake holders read into the financial performance of the organisation. This provides for basis to the investors to invest in the organisation.

Limitations of Financial Analysis

Though the financial analysis of the data of an organisation can be useful in many ways, there are certain limitations to it:

• Financial analysis only pertains to financial data. This fails to identify the weaknesses within the organisation which fail to affect the profits immediately.
• The analysis is based on past data, the value of the elements involved in the analysis change over time. Thus, financial analysis fails to incorporate these changes in the values, which might result in improper outcomes.
• The long term assets which are presented are not adjusted with the high inflation rates, which give wrong interpretation of data.
• The economy is ever changing; the result of financial analysis form economy of one period cannot be compared with that of another period. The market factors affect the results of an organisation to a great extent.

Profitability

The profitability ratios of an organisation help us analyse the margin earned. Studying these ratios will help us understand the factors affecting the profit position of Unsinkable Kayaks.

Gross Profit Margin: the gross profit margin is calculated by deducting all expenses directly related to the production of the product from the revenue (Alvarez, 2013). The gross profit analysis helps in evaluation of production cost and efficient in the method of production. Decline in the revenue does not affect the gross profit. It is affected by changes in the prices and cost of factors of production.   For Unsinkable Kayaks we see decline in the gross profit margin of the company over the period of three years. The decline in gross profit margin indicates production inefficiencies and increased cost of production. The management should take in to consideration the prices and methods of production in order to improve the efficiency of production processes which will increase the gross profit margin. The decline in the GP margin for the organisation has been for about 45% over three years. Hence the company should take in to consideration these factors to improve its GP margin.

Net profit margin: the net profit of a company is calculated by deducting all expenses incurred by an organisation from the revenues earned. The net profit analysis helps in evaluation of overall profitability of the organisation (Easton, 2010). It is similar to gross profit except for the inclusions of all costs. Just like gross profit margin the net profit margin is not affected by the changes made to the revenues figures. The net profit margin for the company has declined from 32% to 15%. The decline in profit margin indicates increase in costs. The management should make sure to incur costs which are only necessary for running the operations of the entity. There has been considerable increase in bad debt expenses for the company. Measures should be opted in order to minimise the bad debts for the company.

Limitations of Financial Analysis

Return on equity: the return on equity calculates the return generated on the investments made by the equity shareholders fund (Elaine, 2015). There has been a decline in the return on equity for the company from 100% to 23%. This is due to increasing equity fund and declining profit margins of the company. This margin indicates that the company was earlier earning $1 for every dollar invested as equity, but in the period of three years the company has reduced its earnings to 23 cents on every equity dollar invested. Increase in this margin can be made only when the investments and profit increase hand in hand. The funds invested should be efficiently used and invested in order to earn maximum returns.

Asset Utilisation

The asset utilisation ratios focus on the assets usage and turnover. This helps us analyse the application of assets in the organisation.

 Inventory turnover ratio: the inventory turnover ratio calculates the number of times the inventory is moved by the organisation (Fridson & Alvarez, 2012). Higher the ratio better is the production cycle of the company. The inventory turnover of the company has declined from 5.19 times to 3.44 times. This is due to decline in the internet sales of the company. Due to the accident, the internet sales have declined, which have reduced the inventory turnover of the company. Lower inventory turnover indicates increased in hand stock which indicates increased invested funds which cannot be recovered. The inventory turnover should be increased in order to keep the cash flowing within the organisation.

Age of accounts receivable: the age of accounts receivable helps the company analyse the average number of days within which the amount from the debtors are recovered. Lower the number of days better it is for the company (Ittelson, 2009). Increased turnover of cash received from the debtors helps in better cash position of the company. This results in improved liquidity of the company which helps in sooth running of the operations. The debtor turnover has increased from 41.98 days to 77.72 days. This is in increase in debtor turnover for more than one month. Steps in order to ensure early recovery of amounts form the debtors are taken. High debtor’s turnover ratio may result in liquidity crunch for the company.

Financial Stability

The financial stability ratios of the company help the management and the other stakeholders analyse the stability in the financial position of the company.

• Liquidity ratios:the liquidity of the company plays a very important role in the success of the company. High liquidity indicates proper movement of cash, which results in better functioning of the various departments of the company (Penman, 2012). The liquidity of the company has declined from 3.90 times 3.33 times.  Though the liquidity of the company it still is in a good position. Steps in order to maintain this level of liquidity should be taken.
• Interest coverage ratio:the interest coverage ratio of the company calculates the profits earned by the company are sufficient enough to cover the interest expenses of the company. Higher the ratio better it is for the company (Simpson, 2012). There has been a decline in the interest coverage ratio of the company. Even though the debt used by the company has declined, the interest coverage ratio has not improved. This is due to lower profits earned by the company in the current year. The capital structure of the company should be efficiently designed in order to ensure lowest cost of capital for the company.

The following has been observed form the financial analysis of Unsinkable Kayaks:

• Decline in the revenue of the company over three years: due to the accident the decline in sales of the company from internet sales has been for about 34% and form that of retail sales is 18% as compared to last year. The management should opt for the following measures in order to ensure better revenue generation:
• The management should focus more on retail sales till the current situation comes in control. The retail sales are not as affected as the internet sales. This provides the management with the chance to build back there reputation
• The management should also make sure to include all necessary information in the entire inventory still in hand in order to avoid future liabilities. This will help in improved sales for the company.
• Decline in gross profit and net profit margins of the company: due to increased import duty and other administrative expense the margins of the company earned have declined.
• The management should take steps in order to reduce cost per unit in the production process. This will result in lowered cost.
• Cutting unnecessary expenses is important. Though the sales of the company have declined there has been a considerable increase in selling and distribution expenses. This should be taken care of.
• Decline in the operational efficiency of the company: due to decline in efficiency of the operations of the company, the company is facing issues of reduced margin and increased cost:
• Management should use its assets in a more efficient manner so as to increase the output with the existing resources. This will result in efficiency in production processes.
• Recognising the areas with major wastages will also help the management to improve the efficiency of the management.

Internal control refers to the processes of the organisation which ensures to provide reliable and correct data of the organisations working.

Internal Control Process

The internal control of the company makes sure that all the processes within the organisation are being carried in such a manner so as to provide correct information. Also it is checked if they are in compliance with all applicable laws and regulations (Skonieczny, 2012). It is important to have proper internal control processes implemented in order to have a healthy working organisation.

Internal Control for Accounts Receivable

We see that the company has reported a major expense for bad debts in the current financial year. Also, the debtor’s turnover ratio of the company has increased considerably. In order to have smooth functioning of the business it is important that the cash flows be regular (White, 2015). There are certain internal control checks which should be made in order to minimise the losses from debtors. These internal control checks include methods such as credit approval before making the sale, verification of contract terms with the parties, proper authorisation of credit memos, restricted access to billing software, audit of invoice packets, etc (Siciliano, 2015). Therefore, if the management puts these internal checks in place it will help hem reduce the losses from bad debts and also help increase the cash flows.

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Easton, P. (2010). Financial statement analysis & valuation. Cambridge, UK: Cambridge Business Publishers.

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