Good Essay On Financial Statement Analysis

Question 1. Introduction and General Purpose of Each of Three Financial Statements

In present age, it is a common practice among different types of businesses to present three standard types of financial statements usually on annual basis. These statements include Income Statement, Balance Sheet, and Cash Flow Statement. Income statement is the simple analysis of an entity’s financial performance through a comparison of profit and loss. It shows how revenues and expenses of past result into current profit or loss, and (basing on it) suggests future roadmap (Warren, Reeve, and Duchac, 2008; Brown, and Gutterman, 2008; Keller, 2011).
Unlike Income Statement, balance sheet refers to a company’s financial position pertaining to the balance between expenditures and income at any given time. For this purpose, it provides summarized detail of total assets, liabilities, and shareholder’s equity for a particular point of time (Barton, and Smiko, 2002; Reading 24). On the other hand, cash flow statement is the summary of total inflow and outflow of cash from/to a business over a specific period of time. A positive cash flow is indicative of increase in company’s assets and its ability to settle debts, and return money to its shareholders (Goyal, and Goyal, 2012; Reading 25) .

Question 2. Analysis of Financial Statements Prepared by Toothsome

Toothsome has issued all three financial statements mentioned above to evaluate its financial performance in different dimensions over the past one year (from 2014 to 2015). These statements are analyzed as follows:
a. Analysis of Income Statement
Many significant changes can be identified when it comes to the company’s income statement. For example, sales revenue has climbed significantly from £2604,000 to £2972,000. It indicates the success of marketing activities resulting into increase in consumer-base (Reading 23). Another important thing to be noted in this context is that corporate tax has also reduced to 25% which was 63% in 2014 (more than 100% decline). All these things have great potential to reflect in total profit after taxation (Reading 23).
Contrary to this, profit after taxation is recorded to be £10,00,000 which is marginally lower as compared to last year (£25,10,000). It is found that the change in operational costs has played massive role in this underperformance. For instance, total cost of goods sold, which was £1620 thousand in 2014, has reached above £2000 thousand undergoing an alarming change. It is good to see reduction in marketing costs, but labor costs and all other expenses have grown at high percentage over the given period of time. Total expenses, as recorded in 2015, stand £809 thousand i.e. £139 thousand up from last year. Higher increase in total expenses as compared to sales generation is has caused a loss of £151 thousand within one year. It means that the company has to improve its operational management and cost-strategy (Reading, 23).
b. Evaluation of Balance Sheet
For the sake of brevity, analysis of share holder’s equity is utilized as preferred method (which is also much reliable tool) to analyze the balance sheet of Toothsome (Reading 24; Gibson, 2012; Rao, 1989). As compared to last year, the total shareholder’s equity of the company has undergone almost 100% upward movement by reaching 213 in 2015 from 113 in the last year.
However, the major contribution has been made by the boost in current assets in this scenario, as they are calculated as 706,000 euro, almost 40% up from last year (490,000, euro). On the other hand, liabilities have also grown to 612,000 euro from 416,000 euro last year, which shows weak performance of the management in terms of controlling costs (Reading 24). Therefore, to keep the current assets in position to handle liabilities in future at any given time, it is important for the management to come up with cost-effective solutions in years to come.
c. Evaluation of Cash Flow Statement
Cash flow statement of the underlying company poses highly negative outlook. For example, operating profit has declined from £368,000 to £183,000, which is a huge reduction. Furthermore, the depreciation has risen to 105 from 84 despite the reduction in corporate tax. It is signalling the company to reform its operational management. Then, £95,000 cash has flowed out of the business for the purchase of non-current assets, which was recorded to be £75,000. Closing balance, which indicates the outflow of £184,000 from the business, is much higher than the opening balance, which was £93,000. In a nutshell, the outflow of cash is far higher than inflow. Even though the management of financing operations is remained decent over the period of time, the company has to work hard to improve its investing and operational activities, as these two areas have played the most damaging role in this context (Reading 25).
d. Cause for Concern for the Bank Manager
Income statement of the company symbolizes strong growth and stability. All three ratios are indicating further uptrend in key areas. The company is able to retain a decent portion as gross profit. Gross margin is good; TIE is solid, and a positive NPR adds to the positivity of income statement. However, the researcher could identify critical issues when it came to balance sheet and cash flow statement. It was surprising to not increasing depreciation and liabilities despite increase in sales revue resulting from growth of sales and decrease in corporate tax. Main reason behind that is found to be poor approach to cost management, because increased value of expense is mostly responsible for current situation.

Question 4. Conclusion, Potential Consequences of the Bank Manager’s Concerns and Recommendations

Certainly, Dai Jones has to take certain initiatives to improve the financial management of Toothsome. Keeping the current scenario in view, some of the recommendations are as follows:
Dia Jones should work on a comprehensive policy to collect maximum of receivables which are scheduled to be received in coming year or are exceeding due date to improve cash flow.

Logistics should be optimized by developing excellent level of communication to avoid the situations like over-stock or stock out costs.

He should manage the benefit of decreased corporate tax by paying out portion of its payables through the money saved in terms of tax-cuts. Subsequently, it will result into reduction in liabilities.

The company should employ cautious and optimized approach while purchasing any types of assets to make its deal highly cost-effective.

The management should also form a policy to control and minimize its overhead expenses.
Dai Jones can hope to come up with a better financial statement in future by putting the above recommendations into practice, because additional costs are the main hurdles for them though the generation of sales and revenue is excellent.

List of References

Barton, J., and Smiko, P. (2002). The Balance Sheet as an Earnings Management Constraint. The Accounting Review: Supplement 2002, Vol. 77, No. s-1, pp. 1-27.
Brown, R., and Gutterman, A. S. (2008). Emerging Companies Guide: A Resource for Professionals and Entrepreneurs. ABA
Fridson, M., and Alvarez, F. (2011). Financial Statement Analysis: A Practitioner's Guide. New York: John Wiley & Sons
Gibson, C. (2012). Financial Reporting and Analysis. New York: Cengage Learning
Goyal, V. K., and Goyal, R. (2012). CORPORATE ACCOUNTING. PHI
Keller, W. D. (2011). Accounting Problem Solver. New Jersey: REA
Rao, P. M. (1989). Debt-equity Analysis in Chemical Industry. Mittal
The Free Dictionary. (n.d.). Balance Sheet. Available from http://financial-dictionary.thefreedictionary.com/balance+sheet [Accessed 15 December 2015]
Warren, C., Reeve, J., and Duchac, J. (2008). Financial & Managerial Accounting. New York: Cengage Learning