Snead’s Dry-Cleaning Company Financial Analysis, Essay Example

Financial Ratios are crucial guides towards the health and status of a business. These ratios are indicators of the direction the business is taking in relation to the set goals, targets, mission and vision of the business. The following ratios help to gauge the overall success of the business:

Liquidity Ratios

These ratios helps to indicate how well the business can manage to take care of its short-term financial obligations, in terms of expenses and accounts payable (Lee, Lee, & Lee, 2009). The two liquidity ratios to be used are Quick Ratio and Current Ratio.

Quick Ratio

This is an integral liquidity ratio that measures the business’ ability to cover its short-term liabilities using its current assets that can readily be converted to cash.

The company depicts considerably low liquidity as it can only cover half of its current liabilities should they become due within the trading period. The company has $0.50 to cover every $1 of current liabilities.

Current Ratio

The current ratio measures the ability of a company to pay off its current liabilities using purely its current assets. Businesses aim to have a high current ratio as it shows their ability to settle current liabilities in case they are demanded by their debtor (Palepu, Healy, & Bernard, 1999)s. It ensure liquidity for the debtor, guaranteeing them full payment.

The company’s current ratio is generally poor. A current ratio of 0.5 indicates that the company is only able to pay of half of its current liabilities should they become due at any given point in time within the given financial year.

Current Liabilities to Net worth Ratio (%)

This ratio indicates the amount that creditors are risking in the business, relative to the investment made by the shareholders of the business. This is an important indicator in assessing a business’ credit risk affecting the credit rating of the business.

The company appears to have a considerably healthy relationship between its current liabilities and the shareholders’ equity. It shows investors that investors have considerably less risk in the business, relative to the risk undertaken by investors.

Total Liabilities to Net Worth ratio (%)

This ratio essentially measure the total amount of risk creditors have undertaken in conducting business with the company.

The company has a considerably healthy relationship between the total debt it incurs in conducting operations and the net worth of the business. Means that there is considerable protection for creditors by the business with a total liabilities to net worth ratio that is below 30%.

Fixed Assets to Net Worth ratio (%)

This ratio essentially depicts the amount of the business’ investment that is concentrated in fixed assets.

The company depicts an unhealthy fixed assets to net worth ratio. With fixed assets accounting for over 100% of the company’s net worth the company is highly prone to negative changes in the internal and external business environment. Such changes would potentially bring operations to a halt as most of its funds are frozen in fixed assets that are considerably difficult to liquidate within a short period of time.

Debt Ratio

This is a measure of the percentage of the total assets are provided by debtors. i.e.

This means that creditors provide less than half of the financing for Snead’s Dry Cleaning’s assets. Only 21.58% of its assets are financed by debt. . This is a depiction of the company’s solvency position. This is also known as “Gearing”, which shows the position of a company’s borrowing relative to its equity position. It looks at the company’s borrowing or liabilities relative to the total or net worth of the business

Collection Period Ratio (Days)

This ratio is important in helping to determine that rate at which the company can collect its dues on its accounts receivable, relative to sales made.

The company has a considerably healthy collection period as the business is able to increase its cash supplies in under 5 days of business operation.

Sales to Inventory Ratio

This ratio is an integral measure of how fast the business can convert its inventory into cash flows. Due to the fact that there are no records of inventory provided in the financial statements, this ratio cannot be used to gauge the business’ efficiency.

Assets to Sales Ratio (%)

This ratio measure the ability of the business to utilize investment used to generate sales relative to the actual sales realized by the company.

The business depicts the ideal assets to sales ratio as it is neither high nor is it low. This means the business that the business is aggressive enough in its sales while utilizing its assets adequately and avoiding selling more than it could safely cover using its assets.

Sales to Net Working Capital Ratio

This ratio is integral in determining the rate at which the company uses its working capital to realize sales.

The company currently realizes a negative working capital thus generating a negative sales to net working capital ratio. This indicates that the company generates revenue quickly before they can pay its accounts payable (Siegel, 1991). This is evident in the manner in which the company has a relatively small accounts receivable and nor records of inventory. The company is efficient in conducting its business on a purely cash basis.

Accounts Payable to Sales Ratio (%)

This is an indicator of how the company pays off its credit suppliers relative to the amount of sales generated by business operations.

The company depicts an efficient company as they can finance most of its business operations with other sources of revenue apart from its accounts payable.

Return on Sales (%) (Profit Margin)

This is a measure of the profits the company realizes for every dollar it generates on sales.

This is a relatively healthy return on sales, indicating reasonable profitability relative to the sales generated by business operations.

Return on Assets Ratio (%)

This essentially measures the operational efficiency of the business. This is the level of efficiency at which a given business uses the resources within its disposal (Lee, Lee, & Lee, 2009). This is integral in helping determine the extent to which the business in question can expand.

This depicts the company has considerably high operational efficiency with a return on assets of 27.54%. This means the business is considerably efficient in utilizing the assets at its disposal to realize relatively high levels of revenue and profits.

Return on Net Worth (%) (Return on Equity)

This ratio essentially measures the company’s profitability within the given trading period, relative to the net worth of the business.

The company depicts a relatively healthy return on net worth, which is above 30%. This indicates that the company is efficient at using the shareholders equity to generate profits.

Average Inventory Turnover Ratio

This is a measure of the rate at which the company realizes turnover for every unit of inventory it holds. Because there is no information pertaining to inventory, this financial ratio could not be used to conduct analysis.

Strategic Recommendations

The company generally depicts a healthy level of efficiency in conducting its operations. It can be able to increase its cash supplies within a relatively short period of time (less than 4 days) while maintaining sales at a reasonable level, coverable by its own assets. The business predominantly relies on revenues generated from its operations and investments to fund its operations as opposed to relying on suppliers who offer credit. The amount of credit it receives is relatively low compared to its equity position.

There is one major concern that surrounds its current liabilities position relative to its current assets. The company cannot cover its current liabilities should they become due in a short period of time. The company need to either increase its current assets position or reducing its current liabilities. The company is currently liquid enough.

The company needs to develop a slightly different sales approach. Despite the fact that the negative working capital indicates it generates revenue relative quick, its liquidity considerably affects its credit ratings. The company has to consider improving its liquidity position before undertaking expansion of business operations.

References

Lee, A. C., Lee, J. C., & Lee, C. F. (2009). Financial analysis, planning & forecasting : theory and application. Hackensack: World Scientific.

Palepu, K. G., Healy, P. M., & Bernard, V. L. (1999). Step-by-step business analysis and valuation : using financial statements to value any business. Cincinnati: South-Western.

Siegel, J. G. (1991). How to analyze businesses, financial statements, and the quality of earnings. Englewood Cliffs: Prentice Hall.