Firm’sFuture Financial Health
Assessmentof a lasting monetary health of a firm is a vital duty of a managerin formulating strategies and goals for the company. Moreover,outsiders like the financiers of the business will consider theextension of their credit, long-term investment, and supply to thecompany through its equity. It is the duty of the manager and histeam to foretell future inequities in the firm`s financial system atthe early stage and deal with its severity before it reflects in thecompany`s financial records. The management team should findcorrective measures before exhaustion of resources, money and time.The manager should make sure there is a continuous flow of money torun strategically vital programs, and to that effect, avoidance ofbankruptcy alone is not enough effort for a firm success.
Acompany consists of three main components, namely marketing,operations, and accounting (finance). As the manager of the business,you must ensure that all of these three elements are balanced to makesure firm’s future is financially healthy. In this paper, I amgoing to explain procedures followed to evaluate whether the AppleCompany/enterprise can stay in balance financially for 2 to 3 years.This assessment will discuss various financial ratios as part of thecritical aspect of the step-by-step analysis process and finally givea particular example of a case study of Apple Company citing how theyhave used the nine procedures to assess the future health of thiscompany.
Thefigure1bellow gives a conceptualization of the corporate financial system,giving the suggestion of step-by- step procedures to determinewhether the firm will remain in balance for two to three year.
Step1: Goals, Strategies, and Operation Characteristics
Theassessment of the company’s future monetary health starts by theinvestigation of the company`s strategies, goals, and characteristicsof the enterprise`s operation.Fig.1
Theinquiry is carried out to determine and understand fully the goals ofthe management to the firm citing the product line chosen to becompleted. According toAlicia,operatingfeatures of a company plays a significant role in the fiscal healthof the company citing manager’s responsibility to the full use ofthe firm’s assets (Harvard Business School’ 202). Theintroduction of a new technology to the enterprise, many a timeimproves the operation efficiency and to that effect managers shouldbe vigilant on regulatory changes that interfere with the firmoperational policies and conditions.
Step2: Outlook for the Firm’s Sales
Themanagement team carries out thorough inquiries concerning the AppleCompany’s level on sales. The market should be viable – that is, itcan grow and facilitate an increase in revenue and sale in thefuture. A viable market has much competition that does not force thefirm to lower its prices to extend of cutting into margins. AccordingtoHarvardBusiness School (2002), predictability and volatility are vitalfactors to consider during evaluation. The management has the mandateto explore corporate financial system run by the company’sstrategies, goals, operating characteristics, and market conditions.Individual corporate financial system influences fiscal decisions andeventually touches on other sections of the enterprise. For instance,the company’s policy and growth of sales in its product lines helpto define the assets venture required to maintain/keep up thesestrategies of the enterprise, and it involves rejection or acceptanceof individual project considering the financial budget andconsidering uncertainties of that project (HarvardBusiness School, 2002). At this point, the Apple Company managementteam should thoroughly inquire into the following.
The administrator`s goals for the firm and each of its products in which the company provides.
The strategic plan for every product the company offers.
The position of the market regarding the price of the product, growth per unit, predictability, and validity.
The major regulatory features and risk, and the position for the company concerning sales.
Step3: Investments to Support the Product-Market Strategy
Thisstage involves the estimation of the current value of the investmentssupporting the product market strategy of the firm. According toHarvard Business School (2002), the product market strategies needsinvestments in inventories, possible acquisitions, accountreceivable, or inventories. However, the worth of assets should bedetermined for 2 to 3 years through estimation. The estimates aremade by analysing the Apple Company’s past trends.
Step4: Future Profitability and Competitive Performance
AppleCompany should have a viable profit prospect future. Many financialelements in a firm are affected by company`s level of profitability.These elements include among others firm’s ability to accessfinancial debt, the worth of the company’s regular stock and thereadiness of the company to issue it, the maintainable sales growthpending upon the profitability level. Past financial behaviour of theApple Company is used as the indicator of the firm’s futureperformance (HarvardBusiness School, 2002). The following questions are necessary whenanalysing the future profitability of the Apple Company.
Does Apple Company management team have any plan to implement any profit progress strategies? If so, what do they plan to do?
Is the Apple Compny experiencing profit currently at the expenditure of the future progress and profitability?
What are the average volatility, trend, and level of the Apple Company’s profitability?
If the levels exist, are they sustainable? What influence do regulatory guidelines and competition have on profitability? Will profitability increase when there are improvements in competition and market conditions?
Step5: Future External Financial Needs
Thefuture external finance of a firm is important for its growth. Thisexternal funding can be debt, future loans, or the sales of bonds ofstock. The Apple Company involvement in external financial assistancein the future will depend on many factors and conditions.
The future growth in the Apple Company’s sales
The duration of the Apple Company’s cash /financial cycle
The future ability of the Apple Company to make profit and its ability to retain the earned profit.
Accordingto Harvard Business School (2002), a firm that experience growth insales with a prolonged financial cycle under weak profit custody ismore likely to request for external funding in future. The rapidprogress in sales leads to a rise in the assets level. The rise inentire assets is balanced by growth in accrued expenses, an increaseof the account payable, and an increase in the owner’s equity. Thebelow table give accountability of an example of a company that islikely to need outside funding in future to sustain atwenty-five-per-cent growth in sales. The industry in which the firmexist is asset intensive. From the analysis, it is clear that thisfirm has to externally raise one hundred and seventy-two milliondollars for it to maintain twenty-five percentage growths in salesper year (Harvard Business School 2002). The manager and his teammust come up with Balance Sheets and Pro-forma income statements forthe following 2 to 3 years and will use these statements toapproximation timing, the period of the future external monetaryrequirement, and dollar amount.
However,in some cases high and quick growth in sales not necessary means thecompany will require additional external finance. A particular casegiven bellow explains such a scenario. A food vendor, who gives nocredit to his /her customers
,has eight inventory days. This business does not have any store orwarehouse to its properties. When such a company undergoes rapidgrowth in sales, it does not necessarily require supplementaryexternal financials as long as it enjoys a reasonable profit. This isbecause the asset base is very low and an increase in assets ismostly counterbalanced by a natural or corresponding increase inowned accounts and accumulated expenses. See the below table thatillustrates a business that is likely not to request externalfinances in future to sustain a twenty-per-cent increase per year insales. The industry in which the operates in is not asset intensive.
Accordingto HarvardBusiness School (2002), the step five needs the formation of thebalance sheets and income Pro-forma invoice statements for the nextperiod of two to three years in order to estimate the following
The period and the length of time the finance will be required
To determine the amount of funding regarding the dollar and the timing of the future external monetary requirement.
To be able to estimate the desirability of the fundamental the expenses when the funds cannot be collected on agreed terms and conditions.
To be able to determine the level of confidence in the predictions
Step6: Access to Target Sources of External Finance
Afterthe estimation of the Apple Company’s future outside financialrequirement in step five, it is the duty of the management team tofind the targeted sources for the company`s external financialrequirement. The target sources include among others publicborrowing, insurance bailout, banks overdrafts, and public equity. Toget funds from these sources, favorable and sound financial policiesmust be set otherwise it might prove difficult to get funds (HarvardBusiness School, 2002). Some of the questions asked by financiersbefore lending could be
At what tune is the Apple Company financed? While giving the answer to such question include cash flow, the Apple Company`s profitability, and the future requirement for financing.
What is the company’s debt ratio? What is the limit of Apple Company borrowing ability?
What is the capacity of the Apple Company to service his loan/debt? Find out about the history of the company concerning payments to its suppliers.
What is the Apple Company asset base? This is important in case the Apple Company default in payment the assets can be sold to recover the loan/debts.
Itis important to answer this question in the right way because thedecision to give credit or loan highly depends on the outcome ofthese issues.
Step7: Viability of the Three to Five Year Plan
Inthis step of assessing the Apple Company`s future monetary health,the two vital queries require proper answers. The questions are
Determine whether the Apple Company’s mix of equity and debt is acquiescent with the debt policy of the company. If this condition is not met- meaning it is not compliant with the Apple Company policy, then action ought to be taken immediately at this point (Harvard Business School, 2002).
What are the Apple Company’s venture requirement, goals, and product policies in accidence with its financial ability for the period of 3 to 5 years? If the response to this query is negative, then the first six steps taken in assessing the Apple Company’s future financial health should be re-analysed.
Step8: Current Year Financing Plan
Inthis step, the management team is expected to evaluate and determineon how the company plans to raise the current year`s finance program(HarvardBusiness School, 2002). They should also be able to balance thebenefits of future financial flexibilities through the sale ofequities currently and the possibility of waiting to sell in futurewhen the share prices are higher and therefore giving out debt now. The most important in this step is that balance must be maintainedeither way following the conditions at the market and forecasting ofthe future.
Step9: Stress Test under Scenarios of Adversity
Thestress test helps to determine whether the 3 to 5-year strategy issound. In case the movements of finance to strategic plans can beexamined in the time of difficulty. According to Harvard BusinessSchool (2002), most of the 3 to 5-year plans when exhaustivelyresearched and well prepared, always meets the company expectations.However, there are situations and events that reduce the degree ofreliability on the company`s plans. Carrying out the Stress Test candecrease the likelihood of an adverse occurrence due to diversity.
CaseStudy: Apple, Inc. Using Ratio Analysis
Appleis a company that designs, manufactures, and markets mobilecommunication and media devices, personal computers and portabledigital music players. The company’s products and services includeiPad, iPon, Apple TV, Mac, and Professional software applications. The company sells its products worldwide through its online stores,retail store and directs force, as well as through the third-partycellular network carriers, value-added sellers, wholesalers, andretailers. The tables below give Apple’s financial records used inthis analysis to calculate ratios.
Thefinancial tables are retrieved from: http://finance.yahoo.comhttp://moneycentral.msn.com/investor/research.
TheKey Financial Ratio
Thefinancial tables are retrieved from: http://finance.yahoo.comhttp://moneycentral.msn.com/investor/researc
Measurethe firm ability to meet his financial responsibilities. The currentratio is the mostly used to calculate the company solvency at a shortterm. It is calculated by dividing current asset by currents bycurrent liability. High current ratio encourages creditors to lendthe company. It shows that the firm has a lot of resources readilyconvertible to cash. 2.7853 current ratio of Apples Company isgreater than the average 2.1 set by the companies. This makes AppleCompany lucrative to most lenders.
Compareto Industry Average = 2.1
Thefinancial tables are retrieved from http://finance.yahoo.comhttp://moneycentral.msn.com/investor/research.
Theability of the Apple Company to meet its current obligations offinance is measured using Liquidity Ratios. Current Ratio theshort-term solvency of the Apple Company to measures the extent atwhich short term credits can be recovered by converting companyassets into cash.
CurrentRatio = Current Assets/ Current Liability
Generally,prefer high current ratio however, shareholders believe high currentratio means a lot such company’s many are tied up in non-productiveassets and that is not good for business. Apple’s Current Ratio =Current Assets/ Current Liability
Currentratio of 2.7 is above the set Industrial Average of 2.1. This meansApple Company looks very lucrative to creditors.
Quickor Acid Test Ratio = (Current Assets – Inventory)/CurrentLiability. Inventory is had to convert to cash hence excluded.
=1.561 As compared to Industrial set Average of 1.5
Fromthese calculations, Apple Company able to pay its Liabilities withoutconverting its Inventory to cash.
Usedto measure the effectiveness of Apple Company in managing its assetsand shows the proportionality of the property to the growth of sales.Poor utilization of assets leads to the company needing externalfunding to maintain sales growth.
AnotherAsset Management ratio is the inventory turnover – given by salesdividend over stocks. From the data above Apple Company has lowerinventory ratio below industrial set average. This means the AppleCompany is not actively turning its inventories. This can lead to lowreturns later.
=3.4932 Compared to Industrial set Average = 8.4
FixedAsset Turnover Ratio
FixedAsset Turnover Ratioiscalculated by taking sales over net fixed assets. It gives theeffectiveness of the Apple Company use of its plant and equipment.From the records and calculation Apple Company has 4.89 fixed assetturnover ratios, meaning the Apple Company is moderate in the use ofits fixed assets.
SalesNet Fixed Assets
MarketValue Ratio gives the comparison of the Apple’s Company stockprices to its incomes and book price per share. It points out how theinvestors will view the company`s initial performance and the companyprogress in future. It is given by price per share over income pershare. The Market Value Ratio should be higher for a company with theability to grow and lower for a company with poor growth prospect.From the calculation, Apple Company has poor growth opportunity andtherefore viewed as risky for investment.
Priceper share Earnings per share
Comparedto Industrial set Average = 21.3
Theuse of this Ratio shows effects of Asset management, liquidity, andDebts. Apple’s Profit Ratio = Net Income available to CommonStockholders/Sales
Thisis lower compared to Industrial Set Average of 25.60 and this meansthat Apple’s cost is very high and the company has reasonableleverage debt. The company is inefficiently operating.
Returnon Total Assets
Returnon Total Assets is calculated by net income over total assets. Theratio evaluates the return on assets after deduction of both taxesand interest. The Apple Company has a return on total assets at16.23% which well above the industry set average of 11.70%. This isaccredited to either the firm`s high BED, low-interest cost due tothe maximum use of the Apple Company`s debt or both.
NetIncome available to commonstockholdersTotal Assets
Ascompared to Industry set Average = 11.70%
“A,” HarvardBusiness School.Harvard Business School Publishing, Boston, MA. 2002.