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MATRICULATION NUMBER: 40190077___________________________________

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MODULE TITLE: SUSTAINING ORGANISATIONAL PERFORMANCE__________

MODULE NUMBER: SOE11728 2014-5 TR3 002____________________________

NAME OF MODULE LEADER: CLAIRE LINDSAY__________________________

DATE OF SUBMISSION: 24th August 2015________________________________

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Sustaining Organizational Performance

Coursework 2

40190077

Executive Summary

This report discussed on financial analysis, divided into three main parts which

includes financial ratio study and financing method for client/investor in funding MDM

plc. In the first part, investigation on which ratio to be reviewed in company

profitability (profitability ratio and all of its components) is executed, and in the

second one all ratio that contributes to company riskiness (Efficiency, Solvency,

Liquidity and Solvency ratio along with its element) is examined. These ratios is

obtained by calculation utilising a ratio equation provided in appendix A. On the first

and second parts, example from existing company (balance sheet and ratio

calculations) is provided for the purpose of easier explanation to client meaning of

ratio number and these ratio effect. Finally in third part financing methods for MDM

plc project are suggested, it is mainly divided into two, which is Debt and Equity.

Both method advantages and disadvantages are supplied in this essay, along with

preferred method according to company assumed situations. These method can

only be chosen in real world once client has obtain data on MDM ratio analysis,

since these ratios are very useful in determining company conditions, both its

profitability and risk, before deciding on which method to execute in funding MDM

project and its operations.

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IndexPage

1. Introduction 4

2. Financial Analysis 4

2.1 Ratio of Profitability 7

2.2 Risk Ratio Analysis 11

2.3 Financing Method 14

3. Conclusion 19

4. References 20

APPENDIX A 22

APPENDIX B 25

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1. Introduction

It is financial consultant duty to monitors, analyse, and manage client

financially to achieve financial objective, through guidance and planning. In this

report as financial consultant, analysis on company investment has been requested,

detail discussion on company profitability and riskiness ratio will be discussed, and

including possible financing company project methodology will be examined.

2. Financial Analysis.

Example financial statement:

Table 1.1 Dell Balance sheet statement 2012 to 2013 (Assets) (Dell Inc., 2013)

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Table 1.2 Dell Balance sheet statement 2012 to 2013 (Liabilities and Equity) (Dell Inc., 2013)

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Table 1.3 Dell income statement 2012 and 2013 (Dell Inc., 2013)

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Example Ratio:

Table 1.4 Dell Financial analysis ratio

2.1 Ratios of profitabilityTo define company profitability, Profitability ratios is used, providing

company degree of success in generating incomes/attaining profits, along with

efficiency/risk ratio, related to successfulness/profitability level in managing

resources to generate sales/business activity (McLaney and Atrill, 2013).

The ratio calculation is shown in table below (see Appendix A for equations

and Ratio definition in Appendix B):

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Table 2.1 Dell Inc. Profitability ratio

1. Profitability ratio analysis:

Return on equity: high percentage is better showing the company

successfulness. There are drop in 2013 (39.2% to 22.2%) indicating

that investment being employed ineffectively (escalation in equity but

lower net income), decreasing investor interest in Dell. Investor

should consider that unbalanced company debt will influence assets

structure (since most company assets are funded by equity and debt)

causing smaller stockholder equity (denominator), meaning with lower

net income (numerator) will still attain high ROE.

Return on Assets: higher percentage express high company assets

profitability. In 2013 Dell ROA drop to 4.9% from 7.8% in 2012

pointing an unfavourable position for investor due to less effective

management on assets (increase in assets but lower net income).

ROA is correlated to ROE as it reveals company successfulness

before leverage consideration. In company growth, ROA is used in

deciding internal growth rate and also for measuring sustainable

growth rate.

Return on capital employed: Higher ROCE illustrate more efficiency in

managing capital invested, considered as company long term

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profitability indicator and more useful in determining company

longevity over ROE. Showed in Dell case there is ROCE drop from

19.7% to 12.5% (assets increment but lower EBIT and higher current

liabilities) which is disadvantageous since investor prefer rising or at

least stable ROCE percentage in a company.

Gross profit margin: Higher percentage exhibit better cost control,

which excess capital can be used to pay other expenses. In 2012 Dell

margin was at 22.3% falling to 21.4% which does not fluctuate much,

showing reasonable financial conditions, due to Dell capability in

decreasing cost of sales and using the excess capital to cover other

expenses (shown in drop of total operating expenses) although net

sales is the main decrement cause in gross profit margin.

Operating margin: High percentage display company capability in

earning more per sales, low cost operations and sales progress faster

than operating cost. Dell operating margin drop from 7.1% to 5.3%

(because of sales reduction although operating expenses is lower

than previous year) which show company minor instability and non-

sustainability.

Net Profit margin: Higher number means the company has been

executing effective expenses control, correct product pricing, and

attaining high profit on sales. Dell Net margin decline slightly from

5.6% to 4.2% affected by drop in sales (affected possibly by

inclination in pricing) triggering lower net income although there are

small decrease in total sales cost and operating expenses. To

increase net profit margin cutting expenses is more reasonable as it is

more controllable factor than sales (what dell possibly trying to

execute).

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Table 2.2 Efficiency/Activity Dell Inc. ratio

2. Activity/Efficiency ratio:

Account Receivable turnover: In dell case account receivable are

selling product by credit and credit collection. High number signify

good credit policy and collection function. Dell number drop from

9.585 to 8.589, reflected on the accounts receivable collections day

increased from 38.080 to 42.496 days, mainly caused by neither

collection department nor credit regulations but sales reduction since

account receivable shown growth in value.

Inventory turnover: High ratio imply more inventory being sold and

replaced with new stock. Dell inventory turnover declines from 28.269

to 26.543, correlated to the turnover days increasing from 12.912 to

13.751 days, caused by inventories asset drop despite the reduction

in cost of goods sold. This ratio directly related to company production

and sales department, higher sales/demand on product require higher

production capacity.

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Fixed Assets turnover: High turnover number means company is

more effective in handling its fixed assets to generate sales. In Dell

case it decrease from 29.224 to 26.782, due to the less efficient fixed

assets management in 2013, proven with similar fixed assets in 2012

Dell generate less sales in 2013. Possible solution is to use fixed

assets creating new product to stimulate sales growth.

Assets turnover: Higher ratio demonstrate company efficiency utilising

its assets to produce sales. Dell shown less sales generated despite

inclining number of assets in 2013, revealed on its ratio falling from

1.394 to 1,198. The ideal ratio for all turnover should be more than 1

as it means that invested assets or other factors is equal to sales

generated.

2.2 Risk Ratio AnalysisIn case for risk analysis, leverage/solvency, efficiency/activity and liquidity

ratio are examined. Solvency is capability to pay off all debt if the business were

liquidated (Hachfeld et al., 2011), and liquidity ratio concerns on ability of business to

meet its short term responsibilities (Atrill and McLaney, 2006). The ratio calculations

are shown in table below (See Appendix A for equations and Ratio definition in

Appendix B):

Discussion:

Table 3.1 Dell Inc. Liquidity Ratio

1. Liquidity ratio:

Current ratio: Higher ratio demonstrate company current assets is

more liquid/capable in compensating its current liabilities. Although

Dell manage to decrease its current liabilities but disproportionate

current assets drop causing current ratio falling from 1.338 to 1.193. It

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is still reasonably good results provided Dell could keep the ratio

above 1, signifying Dell current assets can cover its current liabilities.

Higher ratio liquidity is favourable for creditors showing that the

company can pay its debt.

Quick Ratio: Inventory is omitted in quick assets, considering it as the

least liquid company assets (hardly converted to cash without

depreciation and occasionally sold on credit). High ratio express

company quick assets (fast cash conversion) high availability to pay

current liabilities, without sacrificing long term assets. Dell ratio drop

slightly from 1.275 to 1.134, this decreases is cushioned by reduction

in current liabilities despite loss in current assets, inventory small

fluctuation does not affect much. Dell position is considerably good as

the ratio is above 1 (its quick assets almost similar to current assets

and can be used to cover its current liabilities).

Table 3.2 Dell Inc. Solvency/Leverage Ratio

2. Leverage/Solvency Ratio:

Debt-to-total Assets: High ratio implies company possess high

leverage and financial risk. In 2013 Dell ratio shrink lightly from 0.799

to 0.775, suggesting reduction in financial risk, and it is below 1 which

express Dell Assets are majorly funded by company profit and equity

(there are reasonable cash flow). It is correlated to liquidity ratio in

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Dell debt payment capability from assets, since it is mostly not made

from debt.

Debt-to-equity: High ratio reveal high risk since it shows that the

company is relying more on loan than shares. Higher shares indicate

more investment on company, means it is in great financial position

(low risk) attracting more investor to purchase its shares. Dell ratio fall

from 3.994 to 3.449, expressing Dell effort in trying to finance its

business more from equity than debt. In some cases having debt is

good, as it gets tax benefits and cheaper cost than equity, some

investors demand high dividend payment for the risk taken.

Equity multiplier: High ratio referring to equity contribution to company

assets less than debt, company is deemed as high risk since

company has to increase cash flow for debt compensation, and it

could also mean investor own less of company assets than creditors.

It is parallel with debt-to-equity ratio if one decrease the other will

follow, as seen in Dell case equity multiplier drop from 4.994 to 4.451

as the debt-to-equity ratio decline. This number provide insight on

investor and creditor on financing methodology the company able to

utilise in funding future assets (debt or equity).

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Table 3.3 Dell Inc. Coverage ratio

Time interest earned: High ratio dictates company ability in paying

interest and preventing bankruptcy, creditors prefer high ratio as it

means company able to pay interest punctually. In 2013 Dell earns

17.614 times of payable interest a reduction from 23.198 times

previously, due to decrease in operating income, but it is

noticeably good for Dell since it manage to keep the ratio above 1

(interest < operating income). In some cases high ratio is not

encouraging, it may represent company earning is mostly used for

interest payment than new/ current project financing which

potentially be more beneficial.

2.3 Financing Project MethodAfter reviewing business profitability and riskiness using financial ratio and

balance sheet analysis, choosing the correct method financing a project is then

possible. Financing is project funding by sponsors as separate legal body, with

project cash flows isolated for financing intent from its sponsor, thus allowing

assessment independent of participant direct support in any form. It involves

benefactors giving equity and project management including nonrecourse debt

issuance to benefactors (Shah and Thakor, 1987). Generally both method has its

own risk, for equity it may be bought by rival to gain control of project by method of

stockholders voting, so prevention alternative would be non-voting security such as

debt. However debt also may reduce the management benefits control value since it

poses bankruptcy threats, including restraining contracts which leads to monitoring

by debtholders (Chemmanur and John, 1996). More details on equity and debt

method benefits and threats for investor is presented below:

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Equity:

Common Stock: security form that represent company equity

ownership (Financial Web, no date). Common stockholders are

last paid by company after bonds and preferred stocks.

Table 4.1 Common stock Advantages and Disadvantages (Financial Web, no date).

Preferred stock: carry common stock equity and debt features,

unlike common stockholders although preferred stockholders does

hold some kind of ownership, excluding voting rights in company,

but they have greater claims on company assets and earnings.

Used by company which require funding but does not want to

increase debt, it is not counted as common stock and not treated

as debt too, hence not added as company debt and does not

affect earnings per share (Gitman et al., 2008).

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Table 4.2 Preferred Stock Advantages and Disadvantages (Gitman et al., 2008).

Bonds: a type of debt security, issued by corporate in raising

funds, it compensate regular interest and investors obtained.

Lower rated (by credit rating agencies) provide higher interest rate

since investor is at higher risk (Basu, no date).

Table 4.3 Bonds Advantages and Disadvantages (Basu, No date).

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Debt financing method: investor become creditors and lending funds to

company and in return loan payment assurance by business owners with interest at

arranged rate and time (Admin, 2012).

Table 5 Debt Advantages and Disadvantages (Admin, 2012).

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Equity financing for MDM plc is preferred for investor under these conditions:

Table 6 Equity financing as preference, assumptions made and expected results.

As for Debt method for MDM plc, is favoured assumed under these

conditions:

Table 7 Debt Financing as preference, assumptions made and expected results.

In choosing which investment method employed, financial ratio review is

required, as these ratio is a quick way to determine company performance and

understanding its financial statements in simplified approach, showing company

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strengths and weaknesses, making investment decision-making easier. For example

should investors prefer equity common stock financing, equity based ratio which

specifically considered alongside with other ratio of risk and profitability. Return on

equity can gives investor general idea on how invested capital is used for business

operation and profit margin offers insight on company net profit which may converted

to dividends, another substantial ratio is debt-to-equity ratio if the ratio is heavier on

debt, it could be potentially riskier for stockholders as there may not be enough

excess money for dividends payment after compensating company debt. The review

and analysis for all financing method are not limited to these ratio, others are needed

to be examined too before deciding on which investment method to execute.

3. ConclusionBoth company profitability and riskiness level are reflected in financial ratio

analysis which derived from balance sheet using equations, these ratio is more

useful, faster and simpler method in understanding company annual performance

compared to financial statement, hence it is essential for investors to understand

financial ratio analysis before choosing any type of investment. Both debt or equity

method has its own benefits and threats, utilising these financial ratio investors can

make efficient and logical decision-making which will provide higher gain.

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4. References:

1. Admin (2012). Advantages and Disadvantages of Debt Financing. Ascent

Capital. [online]. Available at: http://www.ascentcapital.net/hello-world/

[Accessed on 3 August 2015].

2. Atrill, P., & McLaney, E. J. (2006). Analysing and Interpreting Financial

Statement. Accounting and Finance for Non-specialists, pp. 167-214 Pearson

Education.

3. Basu, C. (no date). Advantages and Disadvantages of bonds. Finance by

Demand Media. ZACKS. [online]. Available at:

http://finance.zacks.com/advantages-disadvantages-bonds-2350.html

[Accessed on 3 August 2015].

4. Chemmanur, T. J., & John, K. (1996). Optimal incorporation, structure of debt

contracts, and limited-recourse project financing. Journal of Financial

Intermediation, 5(4), pp. 372-408.

5. Dell Inc. (2013). ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934. United States Securities

and Exchange Commission, Washington D.C.

6. Financial Web (no date). Common Stock- Advantages and Disadvantages.

The Independent Financial Portal. [online]. Available at:

http://info.finweb.com/investing/common-stock.html#axzz3hkki9elJ [Accessed

on 3 August 2015].

7. FSA Formulas. (no date). FSA Note: Summary of Financial Ratio

Calculations.

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8. Gitman, L. J., Joehnk, M. D., Smart, S., Juchau, R. H., Ross, D. G., & Wright,

S. (2008).Web Chapter 16 Investing in Preferred Stock. Fundamentals of

investing. Pearson Higher Education AU. [online]. Available at:

http://wps.aw.com/wps/media/objects/3853/3945845/webchapters/webchapter

16.pdf [Accessed on 1 August 2015].

9. Hachfeld, G. A., Bau, D.B. & Holcomb, C. R. (2011). Ratios & Measurement

Agricultural business management. Financial Management series, 5.

University of Minnesota.

10.McLaney, E. J., & Atrill, P. (2013). Analysing and Interpreting Financial

Statements. Accounting: an introduction, pp. 240-298 Jean Morton.

11.Shah, S., & Thakor, A. V. (1987). Optimal capital structure and project

financing. Journal of Economic Theory, 42(2), pp. 209-243.

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Appendix A

Table 8. Profitability ratios formula (FSA Formulas, no date)

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Table 9. Efficiency/Activity Ratios Formulas (FSA Formulas, no date)

Table 10. Liquidity ratios Formulas (FSA Formulas, no date)

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Table 11. Liquidity/Solvency and coverage ratio formulas (FSA Formulas, no date)

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APPENDIX B (Atrill and McLaney, 2006).

Profitability Ratio:

Return on equity: how much stockholders gained from the investment on the

company.

Return on Assets: capability of company in managing assets to create profit.

Return on capital employed: comparison on how well average invested capital

(difference between total assets and current liabilities) can generate operating

income.

Gross profit margin: profitability percentage of the remains after paying the cost of

sales.

Operating margin: showing percentage of how much revenues left after taking

account all the operating expenses.

Efficiency/Activity Ratio:

Account Receivable turnover company potency evaluation in collecting debts and

giving loan.

Inventory turnover: measurement on company inventory flow annually.

Fixed Assets turnover: capacity of company fixed assets productivity in creating

revenue.

Assets turnover: ratio calculation on firm ability in making revenue from its assets.

Liquidity ratio:

Current ratio: ratio signifying company ability in paying its current labilities with

current assets.

Quick Ratio: company indication on its ability paying the current liabilities with the

most liquid assets (excluding inventory).

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Leverage/Solvency ratio:

Debt to total Assets: company assets quantity which are being funded by debt

Debt to equity: ratio that point out the amount of debt for each dollar of equity

made.

Equity multiplier: Evaluation on company assets which are finance by its

shareholders.

Time interest earned: ratio to calculate company ability in paying the debt interest

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