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Part A

In the Book of DRYWALL LIMITED

Income Statement for the year ended 31.12.2014

Particulars

Amount

Amount

Revenue:

 

 

Sales

 

    323,000.00

 Total Revenues

 

    323,000.00

 

 

 

Expenses

 

 

Cost of Goods Sold

 

    202,000.00

Cost of Sales

 

    121,000.00

Depreciation

 

         5,000.00

Employee Benefit Expenses

 

       46,950.00

Other Expenses:

 

 

Rent

   40,000.00

 

Rates

     2,350.00

 

Electricity Charges

     2,900.00

 

Van Running Exp

   14,000.00

 

Bad Debts

         800.00

       60,050.00

Total Expenses

 

    435,000.00

 

 

 

Profit / (Loss)

 

  (112,000.00)

 

 

 

 

 

 

 

 

 

 

 

 

Balance Sheet as on 31.12.2014

Particulars

Amount

Amount

 

 

 

Shareholders Fund

 

 

Equity Share Capital

 

       90,000.00

Reserves and Surplus:

 

 

     Loss during the year

 

  (112,000.00)

 

 

 

Liabilities

 

 

Sundry Creditors

 

       45,000.00

Creditors for Cost of Sales

 

    121,000.00

Wages Outstanding

 

             950.00

Total

 

    144,950.00

 

 

 

Assets

 

 

Non-Current Assets

 

 

Delivery Van

   25,000.00

 

Less: Depreciation

     5,000.00

       20,000.00

Current Assets

 

 

Bank

 

         1,300.00

Rent in Advance

 

       10,000.00

Rate in Advance

 

             450.00

Sundry Debtors

   90,000.00

 

Less: Bad Debts

         800.00

       89,200.00

Closing Stock

 

       24,000.00

Total

 

    144,950.00

 

 

 

Working Note:

 

Computation of Closing Stock

 Opening Stock

                      -   

 Add: Purchases

    226,000.00

 Add: Cost of Sales

    121,000.00

 Less: Sales

    323,000.00

 Closing Stock

       24,000.00

 

 

 

 

Working Note:

 

Computation of Closing Stock

 Opening Stock

                      -   

 Add: Purchases

    226,000.00

 Add: Cost of Sales

    121,000.00

 Less: Sales

    323,000.00

 Closing Stock

       24,000.00

 

Part B:
Computation of Ratios:

Return on Capital Employed

 

 

 

 

 

Formula:

 

 

 

Return on Capital Employed

=

Net Operating Profit

 

 

 

Capital Employed

 

 

 

 

 

 

 

 

 

Particulars

 

2014

2015

 

Amount

Amount

 

 

 

 

Net Operating Profit

 

                             198.00

      145.00

Capital Employed

 

                             764.00

      825.00

 

 

 

 

Return on Capital Employed

 

25.92%

17.58%

 

 

 

 

Operating Profit Margin

 

 

 

 

Formula:

 

 

 

Operating Profit Margin Ratio

=

Operating Profit

X 100

 

 

Sales

 

 

 

 

 

 

 

 

 

Particulars

 

2014

2015

 

Amount

Amount

 

 

 

 

Operating Profit

 

                    198.00

      145.00

Net Sales

 

                1,490.00

   1,550.00

 

 

 

 

Operating Profit Margin Ratio

 

13.29%

9.35%

 

 

 

 

Gross Profit Margin Ratio

 

 

 

 

Formula:

 

 

 

Gross Profit Margin Ratio

=

Gross Profit

X 100

 

 

Sales

 

 

 

 

 

 

 

 

 

Particulars

 

2014

2015

 

Amount

Amount

 

 

 

 

Gross Margin

 

                    600.00

                    560.00

Net Sales

 

                1,490.00

                1,550.00

 

 

 

 

Gross Profit Margin

 

40.27%

36.13%

 

 

 

 

Current Ratio

 

 

 

 

Formula:

 

 

 

Current Ratio

=

Current Assets

 

 

 

Current Liabilities

 

 

 

 

 

 

 

 

 

Particulars

 

2014

2015

 

Amount

Amount

 

 

 

 

Current Assets

 

                       262.00

                    447.00

Current Liabilities

 

                       240.00

                    266.00

 

 

 

 

Current Ratio

 

                            1.09

                         1.68

 

 

 

 

Quick Ratio

 

 

 

 

Formula:

 

 

 

Quick Ratio

=

Cash+Receivables+Current Investments

 

 

Current Liabilities

 

 

 

 

 

 

 

 

Particulars

 

2014

2015

 

Amount

Amount

 

 

 

 

Quick Assets

 

                                113.00

                        181.00

Current Liabilities

 

                                240.00

                        266.00

 

 

 

 

Current Ratio

 

                                     0.47

                            0.68

 

 

 

 

c

 

 

 

 

Formula:

 

 

 

Settlement period for Trade Receivables

=

Average Amount of Receivable X 365

(Days)

 

Credit Sales

 

 

 

 

 

 

 

 

Particulars

 

 

2015

 

 

Amount

 

 

 

 

Average Amount of Receivable

 

 

                        139.00

Credit Sales

 

 

                    1,550.00

 

 

 

 

Settlement period for Trade Receivables

 

 

                          32.73

 

 

 

 

Settlement period for Trade Payables

 

 

 

 

Formula:

 

 

 

Settlement period for Trade Payables

=

Average Amount of Payables X 365

(Days)

 

Cost of Sales

 

 

 

 

 

 

 

 

Particulars

 

 

2015

 

 

Amount

 

 

 

 

Average Amount of Payables

 

 

                                               79.00

Cost of Sales

 

 

                                             990.00

 

 

 

 

Settlement period for Trade Receivables

 

 

                                               29.13

 

 

 

 

Calculation of Inventory Turnover Ratio of Apple Inc.

 

 

 

 

Formula:

 

 

 

Inventory Turnover Ratio

=

Cost of Sales

 

 

 

Average inventory

 

 

 

 

 

 

 

 

Particulars

 

 

2015

 

 

Amount

 

 

 

 

Cost of Sales

 

 

                    990.00

Average Inventory:

 

 

 

Opening Stock

 

 

                    149.00

Add: Closing Stock

 

 

                    266.00

Average Inventory {( Op St + Cl St. ) / 2 }

 

 

                    207.50

Inventory Turnover Ratio

 

 

                         4.77

 

 

 

 

Evaluation of Performance of the Goldwing Limited:

Return on Capital Employed is the kind of financial ratio that shows the profit which the organization earns per pound of capital employed. It is a kind of profitability ratio which measures the efficiency with which a company generates profits from its capital employed. A higher return on Capital Employed is preferred as it shows that more profits can be earned from the capital employed. The ideal percentage of ROCE can be decided as per the industry norms. The Return on Capital Employed of the Company has decreased since the last year. There has been a decrease in the profits and an increase the capital employed due to which there is a decline in the ROCE.

Net Profit Margin is the type of financial ratio that indicates the profitability of the company. It measures the efficiency with which the company manages its cost and production. A more efficient company has a higher net profit ratio. The ideal percentage of gross profit margin is determined by the industry norms. Although in general, a higher net profit margin ratio indicates that the company controls its costs efficiently and vice versa. The Net Profit Margin of the company has decreased since the last year. This indicates that the net margin of the company has lowered a bit.

Gross Profit Margin is the type of financial ratio which indicates the profitability of the company. It measures the efficiency with which the company manufactures and distributes its products. A more efficient company has a higher gross profit ratio. The ideal percentage of gross profit margin is determined by the industry norms. Although in general, a higher gross profit margin is a sign that the company a good profit and vice versa. The Gross Profit Margin of Goldwing Limited has decreased slightly since the last year. This shows that the gross margin of the company has lowered a bit.

Current ratio is a kind of liquidity ratio which depicts the ability of a company to pay off its current liabilities by comparing it to the current assets of the company. A current ratio of 2:1 is considered as an ideal ratio. The higher is the current ratio; the better is the operation efficiency of the company. Thus, from the above calculations we can clearly see that current ratio of the company has improved since the last year.

Quick ratio is a type of liquidity ratio which depicts the ability of a company to pay off its current liabilities by comparing to the short-term liquid assets of the company. A current ratio of less than 1 is considered to be unfavorable. It would mean that the company has no liquidity to pay off its current liabilities. If the quick ratio of a company is lower than its current ratio by a high amount then it would mean that the company is highly dependent on its inventories to pay off its current liabilities. Thus, from the above calculations we can clearly see that the quick ratio of the company has improved since the last year. But the subtraction of the current ratio and the quick ratio is very high which shows the dependency on the inventories to pay off the liabilities.

Settlement Period for Trade Receivables is the average collection Period in which the receivables of the company will be recovered. Lower is the number of days in which the amount due from the receivables can be recovered the better it is for the company. It indicates the average number of days between the credit sales date and the date of receipt of payments from the debtors.

Average amount of Receivables will be calculated using the sum of the opening and closing accounts receivable and dividing it by 2.

From the above, we can see that the average settlement period of the Accounts Receivable of Goldwing Ltd is 32.73 days which can be rounded off to 33 days.

Settlement Period for Trade Payables is the average payment Period in which the company will be able to pay its trade payables. The lower is the number of days in which the amount due to the payables can be paid the better it is for the company. It indicates the average number of days between the cost of sales date and the date of payments to the creditors.

Average amount of Payables will be calculated using the sum of the opening and closing accounts payables and dividing it by 2.

From the above, we can see that the average settlement period of the Accounts Payables of Goldwing Ltd is 29.13 days which can be rounded off to 30 days.

Inventory Turnover Ratio is a type of efficiency ratio and in that we measure the number of times the inventory of the company is sold and replaced during the financial year. It measures the liquidity of the stock in the company. Inventory turnover ratio should be compared with the ratio of the industry in which the company operates. The inventory Ratio should not be very low or very high. The inventory Turnover Ratio of the company is low which might indicate that there is overstocking of the inventory or lower sales or poor planning of the stock etc.

Thus, we can conclude that the overall performance of the company Goldwing Limited has deteriorated over the last year in terms of the profitability, liquidity and efficiency ratios computed and the analysis of the same. The company is unable to perform in the utmost efficient manner. The Board of Directors needs to take corrective actions for the same and either make new policies or change the existing policies so as to improve the overall profits, performance and efficiency of the company.

Part C

(A)

Computation of Payback Period

 

 

 

Payback Period

=

Initial Investment

(years)

 

Cash Inflow per period

 

 

 

 

=

                    24,000,000.00

 

 

                      7,000,000.00

 

 

 

 

=

                                       3.43

 

Computation of Accounting Rate of Return

 

 

 

Accounting Rate of Return

=

Average accounting Profit

 

 

Initial Investment

 

 

 

 

=

                            2,800,000.00

 

 

                          24,000,000.00

 

 

 

 

=

                                        0.1167

 

=

11.67%

 

 

 

 

 

 

Working Note:

 

 

Average Accounting Profit:

 

 

Cash Inflow

 

                            7,000,000.00

Less: Cash Outflow

 

                            1,200,000.00

Less: Depreciation

 

                            3,000,000.00

Profit

 

                            2,800,000.00

 

 

 

 

 

 

Depreciation:

 

 

Cost

 

                          24,000,000.00

Less: Salvage Value

 

                            6,000,000.00

Depreciable amount

 

                          18,000,000.00

Useful Life (years)

 

                                             6.00

Depreciation

 

                            3,000,000.00

 

 

 

 

Computation of Net Present Value

 

 

 

Particulars

 

Amount

Cash Inflow

 

                        7,000,000.00

Less: Cash Outflow

 

                        1,200,000.00

Less: Depreciation

 

                        3,000,000.00

Profit

 

                        2,800,000.00

Add: Depreciation

 

                        3,000,000.00

Cash Flows

 

                        5,800,000.00

 

 

 

Present Value of Cash Flows

=

Cash Flows X PVIFA(I,n)

 

=

5800000 X PVIFA(6%,6)

 

=

5800000*4.9173

 

=

                     28,520,340.00

 

 

 

Present Value of Salvage

=

SalvageX PVIF(I,n)

 

=

6000000 X 0.7050

 

=

                        4,230,000.00

 

 

 

Net Present Value

=

                     32,750,340.00

 

 

 

(B) Capital Investment Appraisal is also called Capital Budgeting. It may be defined as a type of process for planning which helps an organization to ascertain the investments for  long term as well as for short term. The various components which fall under the capital investment include plant, property, equipment, research and development, advertisement campaigns etc.

The investment increment factors are used and determined on the basis of the decision making management and the stakeholders of the organization. There are various techniques for the capital investment appraisal each having its own advantages and disadvantages. The various techniques are discussed below which help in the capital budgeting or capital appraisal:

  • Net Present Value
  • Accounting Rate of Return
  • Internal Rate of Return
  • Modified Internal Rate of Return
  • Adjusted Present Value
  • Profitability Index
  • Equivalent Annuity
  • Payback Period
  • Discounted Payback Period
  • Real Option Analysis

 Some of the techniques are discussed in details below:

Net Present Value:

Net Present Value Method is also called Discounted Cash Flow Method. It a widely used capital budgeting technique and it is computed taking into consideration the time value of money. Net present Value is the difference between the present value of inflows and present value of outflows from an investment project. Net Present Value can be negative, positive or nil. A positive Value indicates that the inflows from the project are more than the outflow resulting in an overall profit for the organization from the project and hence, the project should be accepted. On the other hand, a negative NPV indicates that the inflows are lower than the outflows which mean that there is an overall loss in the project and hence the project should be rejected. And lastly, a zero NPV means that the project can be either accepted or rejected depending on the other factors taken into consideration.

 Net Present Value Method has the advantage that it takes into consideration the time value of money. The disadvantage of Net Present Value Method is that it is very complex and difficult to compute. It takes the assumption that all the cash flows generated in one year are reinvested which may not hold well in all the cases.

Accounting Rate Of Return:

Accounting rate of Return is similar to the internal Rate of return. The difference is that the Accounting rate of return uses the net operating income whereas in the Internal Rate of Return we use the cash Flows of the profit. There is consideration of non-cash items of the income and expenses in the Accounting Rate of Return Method. An accounting rate of return which is greater than the desired rate of return is considered to be feasible.

The advantages of accounting rate of Return are that it is simple to compute and it also considers all the non-cash items which help the stakeholders to evaluate the overall performance of the company. On the other hand, the demerits of the Accounting Rate of Return are that it uses net operating income instead of the cash flows. Also, it does not remain stable over the years of the life of the project so it is difficult to determine the feasibility of the project from one period to another.

Internal Rate Of Return:

Internal Rate of Return is the analysis of an investment decision by the method of computation of the minimum required rate of return of the project. The internal Rate of Return of the project is also called as the yield of the project. It is the return which is generated from a project in its useful life.  The Internal Rate of Return is the discounting rate at which the Net present Value of the Project turns out to be zero. The Internal rate of return is usually computed using the hit and trail method. The management fixes the minimum required rate of return which is usually taken as the cost of capital of the company.

The advantages of internal rate of return are that it provides the accurate rate of return of the project and also it considers the time value of money. The disadvantages of IRR method are that it does not take into consideration the duration of the project, size of the project or future costs etc.

Modified Internal Rate Of Return:

The Modified Internal Rate of Return is a modification in the IRR which gives ranking to the mutually exclusive projects. The major base behind the Modified Internal Rate of Return is that cash outflows from the project are discounted at the Internal Rate of Return and the inflows are reinvested at the reinvestment rate of return of the project.  A project whose Modified Internal Rate of Return is more than cost of capital should be chosen.

Modified Internal Rate of Return has the advantage that it gives a realistic view by reinvesting all the inflows at reinvestment rates. The main disadvantage of Modified Rate of Return is that the reinvestment rate of the project is mostly lower than the cost of capital which creates a conflict with the Net Present Value of the Project.

Profitability Index:

Profitability index method is like a modified form of the net Present Value Method with the difference that Net Present Value Method is an absolute measure while the Profitability Index is the relative measure of the cash flows of the project. Profitability Index is the measure of the profits earned per one pound of initial investment. This method has the advantage that it gives the same outcomes as the NPV Method. However, for a mutually exclusive project it can give a result which us different from the NPV method.

 Equivalent Annuity:

The Equivalent Annuity method is used to rank mutually exclusive projects with unequal project life. The annuity with the project life and internal rate of return is computed and it is divided by the net present value to get the Equivalent Annuity of the projects. The Project with the highest Equivalent Annuity is considered to be feasible.  The disadvantage of the Equivalent Annuity is that it considers that the cash flow of the project is constant which is not feasible in the real life.

Payback Period:

The payback period method is the type of investment appraisal technique which shows the period within which the organization will be able to recover its initial investment made in the project from the annual cash inflows of the project. There is no involvement of the time value of money in this method. The project which gives the lowest payback period is considered to be the most feasible as it requires the minimum time period for the recovery of the initial investment made and the project will start earning profits immediately after the recovery of the investment amount.

The advantages of Payback Period Method are it improves the liquidity of the project and the business and is very easy to compute. It minimizes the risk of losses which a company might incur due to the changes in the economic conditions. On the other hand the disadvantages of the payback period method are that it doesn’t consider the time value of money and also it doesn’t considers the cash flow after the payback period.

Real Option Analysis:

A real option is the right and not the obligation of the organization to undertake a particular project or investment option. There are various kinds of real options like the option to expand, option to contract, option to abandon, sequencing option, deferment or initiation option, operating cycle option etc.

The limitations of a real option are the market characteristics are not always favorable to consider this technique and that it is very complex to understand and compute the benefits from it.

(C) There are various sources of finance which may be available to the company. Each source if finance has its own advantages and disadvantages. Hence, it is very important for the company to take into consideration the merits and the demerits before taking up any source of finance:

Debts- Bank Loans
Advantages
  • The rate of interest is fixed for the entire period of the loan
  • There is no obligation to the Bank who is the lender once the loan is repaid
Disadvantages
  • There is mortgage of assets of the company in most of the cases.
  • The rate of interests are very high
  • There is long procedures of scrutiny before the grant of loans
  • Debts- Business Angels
Advantages
  • There is no requirement of any collateral security
  • There is no repayment of amount or interest
  • There is freedom to make fast investment plans and decisions
Disadvantages
  • They take up shares of the company
  • It is very difficult to find an business angel
  • There is a lot of paperwork involved
 Debt- Debentures
Advantages
  • There is no voting rights to the debenture holders
Disadvantages
  • It is costly as it involves high cost of raising funds and very high stamp duty charges
  • The interest must be paid in full irrespective of profits and losses
  • Changes in the earnings can become very dangerous for the company
 Share Capital Issue
Advantages
  • It is useful in raising long term finances
  • It is helpful in expansion and growth of the business
  • There is no obligation on payment of dividend even in case of losses
Disadvantages
  • There is control over the business by the owners
  • The stockholders are to be reported for each decision of the company
  • Risk free plans are wanted by the stockholders
Retained Earnings
Advantages
  • It a self generated source of finance and there is no need to depend on anyone
  • There is cost savings as there is no interest costs
  • There is maintenance of confidentiality of the business records.
Disadvantages
  • The shareholders will not be distributed profits if it is used in financing
  • It can be mis-utilised by the management of the company
  • There can be over capitalization of funds which can be harmful for the business
References:
Payback Period: Formula. Website. Retrieved from

https://accountingexplained.com/managerial/capital-budgeting/payback-period

Accounting Rate of Return: Formula. Website. Retrieved from

https://accountingexplained.com/managerial/capital-budgeting/arr

Investment Appraisal: Techniques. Website. Retrieved from

https://www.capital-investment.co.uk/capital-investment-appraisal.php

Net Present Value Method. Website. Retrieved from

https://www.accountingformanagement.org/net-present-value-method/

Internal Rate of Return Method. Website. Retrieved from

https://study.com/academy/lesson/internal-rate-of-return-advantages-disadvantages.html

Modified Internal Rate of Return Method. Website. Retrieved from

https://financialmanagementpro.com/modified-internal-rate-of-return-mirr/

 Payback Period Method. Website. Retrieved from

https://www.accountingformanagement.org/payback-method/

Accounting Rate of Return Method. Website. Retrieved from

https://www.accountingformanagement.org/accounting-rate-of-return-method/

 Profitability Index Method. Website. Retrieved from

https://financialmanagementpro.com/profitability-index-pi/

Equivalent Annuity Method. Website. Retrieved from

https://financialmanagementpro.com/equivalent-annual-annuity-eaa/

 Real Option Method. Website. Retrieved from

https://en.wikipedia.org/wiki/Real_options_valuation

 Sources of Finance: Advantages and disadvantage. Website. Retrieved from

https://www.studyblue.com/notes/note/n/advantages-disadvantages-of-sources-of-finance/deck/8309037

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