FIN7040 Financial Decision Making

• Operating Profit Ratio: The operating profit of a firm presents company's net revenue minus operating costs of production. Under this, all the operating costs such as administration costs, selling and distribution costs, and other costs associated with production are deducted from the net sales of the firm. Another name of operating profit is earning before interest and tax where interest and tax amounts are not considered. In the financial years 2014 and 2015, the healthcare holding company generated good operating profits which were 14.15% and 15.43% respectively. The operating ratio increases due to proper management and reduces the operating cost of the services in the company. From this, it can be interpreted that the firm is performing well in comparison to the previous year which indicates that the firm manage operating costs effectively to produce goods and services.
• Net Profit Ratio: Net profit indicates company's outcome where all the production costs as well as tax and interest amounts are deducted from net revenue (Dalal-Clayton and Sadler, 2014). Here all the costs and expenses are covered and then the net profit of the firm is derived. It shows the actual profit of the business entity. In the years 2014 and 2015, the company is performing well because it is able to generate better net profit from business. It can be interpreted that the firm's tax and interest amounts are decreased from last year which means the debt is also reduced from year 2014 to 2015. The net profit ratio is 6.43% in the year 2014 and in the accounting year 2015 ratio is 6.79%, which means the firm takes more debt and pays high interest and tax amounts. Hence, the company's performance is better compared to the previous year.
• Interest Coverage Ratio: The ratios also show the profitability of the firm which is computed on the basis of the income statement. It shows company ability to meet interest amounts with operating profit (Hershey and Austin 2015). It considers two values for calculating the ratio such as earnings before interest and tax and interest expense of the firm. The interest coverage ratio is 2.99 in the year 2014 while in the financial year 2015, the ratio is 2.83. In the present company, the ratio is decreased from the previous year which indicates the company's ability to cover the interest amount in comparison to the year 2014. So, the company is performing poorly than the previous year.
• Return on Sales Ratio: Another ratio to interpreting the statement of profit or loss is the return on sales ratio which indicates the company's ability to cover sales in order to operating profit. It shows how much percentage of sales is covered by the operating ratio of the firm. In the accounting years 2014 and 2015, the ratio increased from 0.14 to 0.15 in the years 2014 to 2015. It indicates that the company is able to cover more amount of sales with operating profit. From this, it can be concluded that the firm is generating more operating profit which leads to increased financial performance in the market.
• Return on Equity: Return on equity is another ratio of profitability ratio which measures a company's how much able to generate profit from its shareholder's equity or shareholder's investment (Carvalho, Meier, and Wang, 2016). In the present case, the company is generating more return on equity in the year 2015 in comparison to the financial year 2014. The return on equity ratio is 0.55 in the year 2014 and in the year 2015, the return on equity ratio is 0.59. It indicates that the firm utilizes the investment of shareholders in business to generate sales and revenue which leads to increased profit for the firm. So, it can be said that the firm is able to use investments effectively to generate sales.

Hence, from the above analysis it can be concluded that the healthcare company's financial performance is better in the year 2015 in comparison to accounting year 2014. The profitability level has increased from the previous year.

Interpretation of Statement of Financial Position

A statement of financial position can be introduced as a balance sheet as well. It is another important financial statement that is used to analyse the financial position of the firm. Under this financial statement, major three headings are presented such as assets, liabilities, and shareholder's equity. The statement gives information about the assets and liabilities the firm has in its business and information about shareholder's equities as well (Gamble and Boyle 2014). A statement of financial position shows that the firm is how much able to meet its long-term and short term obligations, it measures the company's ability to use assets effectively, shows the ratio of debt and equity of the firm, and gives information about the company's efficiency that up to which extent it efficient to generate sales from different avenues of the firm it has. There are liquidity ratios, gearing ratios, and efficiency ratios are used to interpret the financial position of the mentioned company. Interpretation of the statement of financial position is as follows:

1. Current Ratio: The current ratio is a type of liquidity ratio that gives information about the firm and how it is able to meet short term debt or obligations with its current assets. The ratio shows the proportion of current assets and current liabilities that company has in its business. In the healthcare company, the current ratio is increased from last year which means the company is more able to fulfill short term loans. The ideal ratio of the current ratio is 2:1 and the company has less than the ideal ratio. The current ratio in 2014 is 1.38 and in the year 2015 current ratio is 1.46, which means the current assets and current liabilities fluctuated in positive manner in the business of healthcare services. The company is performing poorly when compared with the standard ratio but from last year it covers more amount of debt which means the profit level has also increased.

• Quick Ratio: The ratio is also another type of liquidity ratio that helps in interpreting the financial position of the firm. Under this, the ratio indicates the company's ability to fulfill short term obligations (Lakew and Rao, 2015). Here stock and prepaid expenses are not included because these are not easy to convert into liquid form. The standard ratio of quick ratio is 1:1. From below mentioned table of ratio calculation it can be identified that the firm is performing well in the industry as per the ideal ratio. Here the ratio of the mentioned firm is 1.14 and 1.2 in the years 2014 and 2015 respectively. It shows the company's ability to cover short term debts which indicates that profitability has also increased from last year.
• Debt to Equity Ratio: The ratio measures the proportion of debt and equity the company has. The ratio measures how aggressively the firm is in order to fulfill long-term debt. The ratio shows that the company is how much able to cover long term debt in proportion to total shareholder's equity. The ideal ratio is 0.5:1 which means a company has to double the equity of debt. In the present case, the firm has had a high debt ratio which means the company takes a high amount of debt and loans for long-term periods. The debt to equity ratio is 2.66 in the year 2014 and in the financial year 2015, the debt to equity ratio is 2.92. It indicates that the debt is increasing in comparison to equity. It shows company's performance is poor in the industry.
• Asset Turnover Ratio: The ratio measures a company's efficiency that firm is how efficient to generate sales with the help of the total assets of the firm (Suen and et.al., 2014). It shows that the company is in which order total assets are utilizing to generate revenue and sales. From the financial year 2014, the asset turnover ratio is decreasing in the next year. The asset turnover ratio is 1.45 and 1.31 in the accounting year 2014 and 2015 respectively. It shows that the company is not able to utilize its total assets properly and efficiently to generate sales. It means the company's financial management is not strong which affects to increase in turnover.

Interpretation of Statement of Cash Flows

Another financial statement is the cash flow statement which helps to determine the financial position of the firm. The cash flow statement shows that companies is how much able to cover their expenses within the period. The statement discloses how it spends its funds in business as well as how it raises the funds within a given period (Liesen and Figge 2013). It shows the company's cash flow such as cash inflow and cash outflow. The statement of cash flow is divided into three parts such as cash flows from operating activities, cash flows from investment activities, and cash flows from financing activities. In the present report, the cash flow statement of Healthcare Holding plc is interpreted with the help of the operating cash cycle. The calculation and interpretation of the operating cash cycle are as follows:

The operating cash cycle measures the company's operating efficiency as well as the working capital management of the organization. It indicates the time to sell inventories and recover the funds within a given time (Richards, 2016). The operating cash cycle is equal to the time taken to sell the inventories and the time taken to recover the cash from its trade receivables. In the financial year 2014 and 2015, the operating cash cycle is 33.19 days and 36.47 days. It indicates that the company has taken less time to sell inventories as well as to recover cash from trade receivables in comparison to previous years which means the company is performing well from the previous year.

Limitations of the calculation are that the data are always not available which are used to calculate the operating cash cycle. Sometimes data might be different and sometimes, the analyser have to use other relevant data in the absence of proper information. Due to using relevant data, the calculation might be different which leads to providing wrong information about the firm. Hence, the data is the main limitation of the operating cash cycle.

Interpretation of Market Segment Analysis

Market segment is a process where analysis is to be done on the basis of geographical areas which gives information about the financial performance according to the geographical area (Seshan and Yang, 2014). According to the given market segment analysis it can be interpreted that the US market gives better profit in comparison to another market segment. The US market segment's performance might be inferior in comparison to another segment in the mentioned company. There are major two reasons why the US segment might be inferior to other segments, the reasons are as follows:

The US segment might be inferior in the company due to the cost of healthcare services in the present market segment. The US is a developed country as well as a very expensive country in the world. The country charges high costs and high prices of healthcare and medicine which is not necessary for all patients to afford that price. So, it is the main reason it might be inferior and different compared to other market segments.

Another reason why the US segment might be inferior to other market segments is weak relations and terms with the suppliers (Tosun, 2013). In the healthcare business medical equipment and medicines are to be used, so the company has to make better relations with pharma companies and equipment suppliers. So, due to weak relations with the suppliers, the US segment might be inferior.

In the segmental analysis the UK country has the highest gross margin in comparison to other all countries. The gross margin of the UK was 60.05% and 61.07% in the financial year 2014 and financial year 2015 respectively. On the other hand, the net margin of the country UK is 15.00% in the accounting year 2014 and 16.75% net margin in the accounting year 2015.

PART 2

Investment Appraisal Techniques

Investment appraisal is an integral part of capital budgeting and helps to evaluate the attractiveness of the project through various techniques such as Net Present Value, ARR, and Payback period(Grant, 2016). To interpret the results of various outcomes on defined parameters are as follows:

• Payback Period: The payback period is the time period in which the initial cash outflow of the project is expected to be recovered from the resulting cash inflows in the following years. A project with a payback period lower than the target payback period assessed by the company should be accepted (Lin Chang And Chung, 2015). Since Healthcare Plc has a payback period of 4.3 years which is reasonably good as the project life is around 8 years therefore looking at the payback period it can be concluded that the project should be accepted and is beneficial and will bring profitability to the company after 4.3 years. The major limitation of Payback period analysis is that it ignores the time value of money invested and cash flows therefore it is not that accurate also it ignores the cash inflows generated after the payback period which may be misleading in certain cases. However, the inherent advantage is, it is very simple to calculate and no analytical knowledge is required also if Healthcare Plc is facing the problem of liquidity it is an efficient tool to calculate the project with early returns in terms of inflows.
• Accounting Rate of Return: The accounting rate of return takes into account the returns generated on the proposed investment. Higher ARR is desired by the company to maximize its profits after recovering the initial investment (Li, 2015). It is calculated by dividing the Average cash flows by the initial investment. If the ARR is less than expected the project must be rejected. In the case of Healthcare Plc since the ARR is 99% it should be definitely accepted. It implies that average profits from the project every year over the period of 10 years would be 99% of the average initial investment of 8 Million. Therefore, Healthcare Plc is generating excellent returns and the project sounds beneficial in terms of profitability. However, it is simple to calculate but ignores the cash flows and focuses only on the profits reaped by the entity in addition to ignoring the time value of money which is really important for project evaluation. Also, ARR does not consider the final or terminal value of the investment.
• Net Present Value: The net Present Value method helps in comparing the initial investment made today and the future cash inflows generated in coming years and discounting them by irate of return and getting the cash flows in terms of present value. It is a tool to determine the net profitability of the project (Keča, Keča and Pantić, 2012). NPV of the project undertaken by Healthcare Plc is estimated to be 128% of the initial investment that is outstanding and the project accepted. It implies that every £1 invested initially will return £1.28 in present value terms resulting in profitability. The most crucial advantage of NPV is that it considers the fact that the value of £1 is much more than what it will be in the future because of various factors such as inflation or increasing interest rates. It also evaluates whether the investment will add value to the organisation or not (Accounting Management, 2016). There is a major drawback that NPV involves estimations as the cost of capital is a guesswork and all the cash inflows for the future are also expected and not exact. The size of output by NPV is determined by the size of the input.

Non-financial Factors Considered Regarding the Expansion in the US

Although financial factors play a vital role in the expansion of business, nonfinancial factors are equally important for major decision-making. Nonfinancial factors which cannot be measured in terms of monetary value such as meeting the existing and future legislations of the US. Such as Healthcare Plc cannot import machinery which is prohibited in the US. To strive through the competition and stand out among competitors company should focus on and obey the industry's best practices maintaining quality(Hoffmann and Fieseler, 2012). Expansion can be made smooth by motivating employees and improving their morale and this way even new recruitments and training can be supported in a positive manner. Improving the relationships and renegotiating certain contracts can make the entity stand in a comfortable position and reduce the expenses budgeted for expansion. Dealing proactively with the potential threats to intellectual property rights should be assessed and dealt with appropriately. Healthcare Plc can focus on building innovative skills and knowledge for the overall development and generation of competent personnel and strengthen the management systems. Energy savings methods should be adopted to contribute towards the green office and also gain the confidence of customers in the company. Various political, technical, and social factors affect the company in an influential manner therefore emphasis should be laid thereon and focussed on the successful expansion of Healthcare Plc.

Sources Of Internal Finance

Sources of Finance refer to different methods from which funds can be raised for Business expansion whether internally or externally. External finance can be raised from bank loans, issues of debentures or bonds, and raising capital by issuing shares into the market. Bank lending is one of the major sources of external finance but has many conditions and risks attached to it such as sufficient security has to be offered against loans. Also, the loan comes with scheduled repayment installments which affect liquidity. The bank will accept and approve the loan only if the purpose mentioned in the application is accurate and the loan amount is utilised for the same purpose. Various sources of internal finance are utilising retained earnings, sale of current or fixed assets collection of debt, or effective utilisation of working capital (What Are Internal Sources of Finance? 2016). However, Healthcare Plc can extract the funds internally from various sources such as:

• Retained Earnings: Retained earnings are those part of earnings or profits that are not distributed as dividends and are plowed back into the business. Retained earnings add value to the shareholder's wealth and therefore give financial stability to the business which ultimately increases the market price per share of the company (Farag, Harland, and Nixon, 2013). For the expansion of Healthcare Plc retained earnings are the best source of raising funds as it have no costs to the company. Retained earnings do not involve any acquiring costs and no future obligation to pay anything in respect of retained earnings. However retaining the earnings in business generates dissatisfaction among the shareholders as they are paid less amount of dividends (Hermes and Lensink, 2013). Also, if expansion does not turn out to be successful it will add to the costs of the company and shareholders will lose faith. The company has a cash to do investment is the some profit margin or some percentage of the profit value. The company can use the profit to make the investment.
• Sale of Fixed Assets: Fixed assets are those assets that are not easily convertible into cash. Disposing of the fixed assets for expansion of further business is a very good option. However, sales should be only of assets that are not in use or have become obsolete and do not generate benefits for the company. However, the company can sell the investments and deploy the amount recovered toward expansion(Minsky, 2015.)As the sale of business assets does not involve any cash outflow to the business and no future obligation therefore it should be considered and discussed by management. Also, the sale of fixed assets does not add to the cost and is a feasible solution for Healthcare Plc. The board should consider and conduct physical verification of fixed assets to evaluate their performance and the selection of fixed assets to be disposed of. It is the best alternative among all other sources of internal finance and carries no liquidity issues. The healthcare holding plc company is using the portion of fixed assets. The company has a scope to sell assets in the plant or equipment. The firm is getting finance from selling the plant and equipment which are not used in the production process.

CONCLUSION

From the above analysis it can be summarized that for making financial decisions in the company it is necessary to analyse the financial statements of the firm which gives information regarding the financial performance of the business in the market and industry. It can be concluded that the financial performance of Healthcare Holding Plc is that the company is performing well in the year 2015 in comparison to the financial year 2014. The company's financial ratios such as profitability and liquidity are increased from the previous year. It can be concluded that on the basis of the investment appraisal technique, the projects are analysed.

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