Table of Contents
Introduction
Financial management is an important aspect for any company that intends to make better returns on the investments. With increasing business opportunities many companies may find themselves wanting to expand into new markets to tap in an identified market. However, the financial implications involved in such huge investments like expanding in totally new environment and new markets can be taunting even to a medium sized company (Fridson & Alvarez, 2011, p. 6). As such, it is important that company management evaluates the available sources of finance, both internally and externally to be able to benefit tap into the identified markets. The financial resources thus are important and vital areas that need to be carefully considered as they can open the potential for newer opportunities and investments. This paper discusses issues that are related to financial resources and how J. Brown Ltd can source for finance for the expansion of production and operational sites within the country.
Task 1
1.1
From the information provided, J. Brown Ltd minimum of 24 months to complete the project and this means that the company has numerous opportunities to make both internal and external sources of finance available for the project without incurring huge losses in the long term. The first available sources of finance for the project are the internal sources. The company can use the funds held in the private funds amounting to £600,000 and the £150,000 held in the company’ bank account as their first source of internal finance. The company may also source for funds by selling some of its assets which it owns and which may necessarily be on use at the moment when it wants to start a project. Since J. Brown Ltd intends to take over 24 months to complete the project it may dedicate a substantial percentage of its annual or monthly profits towards the project and reduce the dividends paid to the shareholders. In essence, J. Brown Ltd will be ploughing back the profit as an investment into the business by funding the project.
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The external sources available for the project include the bank loans that the company can access from financial institutions in the country, the mortgage loans that will enable it to access the required finances and repay back over an agreed period of time by the mortgage lender. In addition, the company can use grants and loans from other institutions within the country who wants to invest their money in the company. This will require a long term agreement with the loaners over the amount of money they will be receiving back and for what period once the project is up and running. In addition, the company can also raise funds through hiring of manpower and other equipments that are needed for the project and in the process reserve the finances that would be used for purchasing such equipments for other purposes in line with the project. The company can also raise fund externally by leasing some of its assets and properties to financiers who may need the properties for their own businesses and in the process be able to raise funds for the project. Since the project is going to take close to 24 months for it to be completed, the company can consider the loans to ascertain whether it will go for short terms agreements with the external financiers or long term agreement owing to the calculated cost of such sources in terms of interest rates. The company also source external funds from the venture capitalists who want to invest in the company and become partners.
1.2
Businesses need to have a variety of sources for their projects if they are surviving. According to Fridson & Alvarez (2011, p. 16), most of the mostly successful companies have relied on various finance products available for in the market. One of the finance products available for J. Brown Ltd is the loan provided by financial institutions in most cases banks. Various loans facilities are available in the market for businesses and companies that want to expand their businesses. The loans are broadly classified as either short term of long term and each presents its own advantages and disadvantages. Loans also vary in interest rate, interest rate type whether it is fixed or variable, fees and security involved in the acquisition of the loans. It is therefore important for J. Brown Ltd to have a proper scrutiny of the available disclosure information before deciding to apply. For J. Brown Ltd, it will be prudent for company accountant to look into the implication of each type of loan that the company wants to borrow from the lenders and be able to identify which one is going to suit the company’s needs and model of doing business.
The other finance product available is the overdraft. This includes an overdraft limit to which the company may make drawings from the financial service provider. The company will however require a security and a credit assessment report over its viability of accessing the product. Through overdraft, the management at J. Brown Ltd can be able to raise working capital for the company before actual incomes are realized from the investment. This product is available for both long-term and short-term projects and thus J. Brown will have to evaluate the attached interest rates to be able to come up with a suitable overdraft on its accounts (Hansen, Mowen & Guan, 2007, p. 10).
1.3
J. Brown Ltd has a number of lending products available for financing its project. The company can decide to go for bank loans of make an overdraft on its bank account. Since the amount required for the project is high, J. Brown Ltd can opt to go for long term bank loan which is can pay the interest rates in an agreement by the financial institution. It can also make agreement with the financial institution to make payments in installments so that the company can have enough time to furnish its financial accounts and statements in the wake of the new project. Loans have also the advantage of having long period of repayment in accordance with the terms and conditions of the bank. This will be advantageous for J. Brown Ltd because it will not be expecting to make returns as soon as the project is completed. Therefore, the company will have enough time to consolidate its finances before embarking on repayment of the loan from the bank. Loans are also provided by the venture capitalists and this may make the company to have non interest sources of finances provided through venture capitalists (Hansen, Mowen & Guan, 2007, p. 17).
Task 2
2.1
The type of business organization is an important factor when it comes to rising of finances for various projects. For sole proprietor the owner must be able to raise the capital for the business and use his or her personal saving for the expansion of the business. The owner of a sole business can also access bank loans and overdrafts to expand business and offer their properties for security and bond. However, the available financial sources available are limited since the owner cannot raise funds from the public through public offers. On the other hand, a limited company can be raise finances through share capital and depending on the volume of the share capital the company can be listed a public company thus making borrowing and accession to loan facilities much easier as compared to sole trader. Partnerships can source their finances from the savings of the partners and also from banks by borrowing. The amount of loans available for partnerships can be huge compared to sole trader since the security for the loans might be more credible than with the sole trader (Tulsian, 2002, p. 12)
2.2
Businesses require having a proper management of their finances given that finances are scarce and costly whenever they are found. The proper management of finances is done through financial planning, which implies that there is a deliberate long term process of carefully employing sound accounting rules and mechanisms in controlling the use of business finances with the ultimate view of achieving clearly defined goals and objectives. Financial planning helps a business to handle the barriers that are met during the process of doing business and which must be confronted at all stages of growth. As such, financial planning takes a well defined process that has checks and balances to ensure that everything goes as planned. Business financial planning is preceded by identifying the goals that must be met at the end of the business of after a given period of time. The next thing is to gather the relevant information that will be required in the implementation of the process followed by the analysis and evaluation of the present financial status. There should also development of a clear plan over the management of available and expected finances. The implementation stage follows thereafter and the monitoring and adjustment of the present process to ensure that everything in the finances goes as planned.
2.3
Financial information forms the backbone on which businesses thrive. Decisions in business are majorly based on the availability of finances because without finances impeccable and creative plans cannot succeed. The financial information is thus important to decision makers in the business because it will enable to make decisions that are not only rational but achievable especially with regard to the available finances. Financial information is also important for decision makers because it can help in making adjustments to the existing plans so that they are tuned towards the required outcomes (Thukaram, 2007, p. 21). For instance, in the case of the J. Brown Ltd, the management would not have settled on the decision of expanding the production and manufacturing sites for the business if they realized that the financial status of the company, having factored in all the internal and external sources, cannot support such a huge project. From the analysis of the available financial information, it can be argued that the decision makers in the business were of the opinion that the company could easily raise the projected amount through internal and external means available for them. it would be outrageous for a sole trader with a balance sheet of for example %u20A4 1000 to dream of starting a chain of businesses that require over %u20A4 5 million to implement. Having proper financial information is therefore important for decision makers so that they can make realistic and achievable decisions.
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2.4
a) Taking debt Finance in Order to Fund Business Projects
Financing a business project can be a difficult task especially where the business is not able to access sufficient financial products available on the market. Event with availability of such products, it is important to consider the impact that debt financing is going to have on the financial statements of the company. A business can fund its projects through debt financing by borrowing from financial institutions. The business considers when it wants long term or short term debt financing. The debt finances borrowed are reflected in the balance sheet as liabilities and are further divided into current liabilities or long term liabilities in dependence to the duration of the repayment period. Other debt finances like equipment leasing and factoring are not reflected in the financial statements of the business and may lead to a false picture of the financial statements at the end of the end. This is despite the fact that equipment leasing and factoring are not actual expenditure or income to the company and this is the reason they will not be reflected on the balance sheet. On overall, taking debt finance for funding projects make the account balance to go higher especially where higher interests are charged on the debts (Thukaram, 2007, p. 23).
b) How Debt Finance into the Business will Affect the Profit
Debt finance will reduce the final profits that a business is going to make because of the interest rates that are applicable to the debt finance that the business. Furthermore, short term and long term loans tend to have different interest rates and therefore will ultimately affect the volume of profits that are available to the business. The more debt financing the business has the lower the profitability available for the company. Financial leveraging that the ability of magnifying the profits and losses, as the risk associated with the operation of the company is made bigger (Tulsian, 2002, p. 14)
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Task 3
3.1
Financial statements help the company to have a clear understanding of the financial status of the business and can be used in the making of decisions on how the business is going to repay the debt finances that is has for the financing of the projects. Financial statements are also important in estimating the financial ratios for the business which are important in understanding the ultimate financial status of the business and help in controlling the liabilities and borrowing that are done in future to fund other projects in the business. Moreover, financial statements will be useful for investors and creditors to determine the business worthiness and consider raising the equity that can be invested in the business. The company is evaluated by investors and creditors for financial performance through the financial statements. Financial statements can also be used to communicate important information to the outside investors over the accomplishment or the challenges that the business is facing by giving information such as financial conditions, operating results, and the cash flows. J. Brown Ltd must prepare the financial statements because it has many external financiers who may want to know how the business is doing and consider increasing their investment (Bendrey &West, 1996, p. 7)
3.2
According to Albrecht & Stice (2010, p. 9), the format of the financial statement is important in capturing the whole information that need to be reflected in the business. Partnerships normally use simple t balance sheets that compare the assets and liabilities, capital and credit that are all available for the business. On the other hand public limited companies have detailed and long financial statements that captures all the little detail information that is available to be presented to the investors or creditors whatever the case may be.
3.3
Financial ratios are important in helping the accountant in a business to understand the extent to which the company is putting to use the borrowed finances in financing the projects that were intended. The using of such finances will reflect the financial leverage that the business is taking upon acquiring debt finance from a lender (Greenwood, 2002, p. 10). Management can also use finance ratios to hedge the percentage of the interest and estimate the available profits or losses to the business and this might help in planning for future sources of finance in case the company will need further finances.
a) Profitability Ratios
The ability to put the costs of the business under the control of the accounting principles is one of the available roots through which the company or a business can effectively manage its fiancés. The profit margins are vital factors in determining the ability of the company to leverage on the finances available through borrowing. Profitability ratios help in determining the gross profit margins, operating profit margins, and the net profit margins. This is done through comparison of gross profit with the sales, operating income with sales, and net income with sales respectively (Bendrey &West, 1996, p. 7).
b) Return on Capital Employed
Return on capital employed is a percentage of a ration which go together with the return on equity ratio through consideration of debt liabilities or debt financing to give a general reflection of the total capital employed in the business. Return on capital employed is crucial in understanding the ability of the business to generate desired returns from the available capital base. As such, return on capital employed is an important percentage that is calculated by considering the operating profits before tax and dividing by the difference between total assets and the current liabilities (Bendrey &West, 1996, p. 9).
c) Return on Equity
Return on equity represents the amount of the net income represented as a ration or a percentage of the equity from the shareholders and other investors. This ration is important in determining the level of business profitability by indicating how much profitable is the company through the invested funds. Return on equity is calculated by comparing the net income and shareholder’s equity and is calculated before a dividends are paid t the common investors and after the preferred stock holders. Return on equity is mostly referred to as return on the net worth of a business as it gives a clear a picture of the financial statements of the business and this may increase the level of confidence that investors have in the business (Bendrey &West, 1996, p. 10)
d) Rurrent Ratio
Current ratio is part of the liquid ratios that are useful in determining the extent to which short-term or liquidity of assets can be used to cover the existing short term obligations within the operations of the business. Current ratio is general defined through the division of total current assets with the total current liabilities and this definition is standard across the financial practices. This is simply considering the assets that are expected to be converted into cash within a year and those that are expected to bring in liabilities within the same year.
e) Quick Acid Test Ratios
Quick (acid test) ratio is a form of current ratio only that this is more strict that the current ratio by the fact that this considers some assets to be more fluid than the others. In most cases, the numerator for quick ratio is the current assets less the inventories while others included prepaid expenses as current assets (Greenwood, 2002, p. 10). There are several reasons why accounting practices may include or exclude inventory in the calculation of acid test ratios. Through exclusion of inventories, most businesses recognize that quick ratios are not cash holdings but they are just like any other current assets available to the business.
Conclusion
From the analysis in this paper, it is evident that financial management is an important area that can help in differentiating a successful business from the others that have failed. The business need to have credible and viable internal and external sources of finance. Understanding the rations and financial statements is also important in understanding the management and controlling of finances in a business that is implementing projects for expansion.
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