Financial Information for Business Decisions

TASK 1

Financing the Theories and Models to Business Decisions: the Analysis of Financial Business

Management decisions and evaluation theories are mainly associated with framing financial growth and development plans. There is a type of economic theory that is mainly based upon optimum position and maximizing the magnitudes revolution, which is mainly associated with analyzing the trend and evaluation of financial theories. In this synthetic world of the economic model, the imagination of new businesses depends on the sustainability and reliability of financial plans. These are the main theories and aspects considered essential in terms of managing and deriving the strategies in the direction of effective use and analysis.

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Financing theories and models provide a path to assist the decision-making and strategic planning procedure There are types of financing theories that exist and are followed by finance managers in financial planning (Laudon and Laudon, 2016). Some of the major financial theories are described as follows:

Modern Portfolio Theory

It is a mathematical framework that consolidates and assembles the assets and compares the expected returns parallel to market risk. This theory is beneficial for investors in terms of analyzing the associated risks and uncertainties. Overall analysis based upon the capital and financial structure of the organization. This is one of the essential financing portfolio theories, which is mainly associated with analyzing the market position and market cap for the existing business and organization. This theory diversifies the management risk and extends the diversification in investment and ideas from different tasks. Financial assets are measured with the possible risk factor. This analysis majorly affects the return contribution made by organizers for developing market capital. There is a proper use of price variances in this approach, which also works as a proxy for the plans (Cassar, Ittner, and Cavalluzzo, 2015).

MPT theory assumes that capitalists are risk-averse, which defines the associated risk with returns. It is considered that investors are attracted to investment plans and offers that contain lesser risk and high returns. This is the main reason which increased the fluctuation rate and compensated for the expected return. As per this theory, an investor who wants higher returns should adopt an investment proposal that contains lower risk. The rigorous trade-off remains the same for all investors but it differs as per the expectations and assumptions of different investors. Trade-offs differently based upon individual risk aversion characteristics. This theory contains the following formula as

Expected return = E(Rp) = ∑ wi E(Ri).

Where Rp is the return on the portfolio, Ri is the return on assets I and wi is the weighting of component assets.

Tobin Separation Theorem

This theory also roams around the risk and returns for potential investors. This theory is separated into two major parts: one is finding the efficient portfolio of risky assets and the second is the optimum fraction to invest in the efficient portfolio of risky assets and the risk-free assets. The main objective of this theory is to derive the risky portfolio from the risk-free portfolio. This theory mainly helps to confine tangent slope, maximum slope, optimum portfolio choice, and expected utility maximization. As per Tobin, it is required to choose the same portfolio of non-safe assets regardless of how risk-averse you are. If an investor wants to change the risk portfolio, then it is required to change the amount of the safe assets. This theorem contains two main mean variances, as one is there are no risk-free assets and the second is one risk-free asset (Chen et al., 2014).

In No-Risk Free Assets

The market cap and analysis are calculated with the matrix algebra as σ2 and the variance of the portfolio return, which is denoted by μ, defines the level of expected return upon the market portfolio. r is considered as a vector of expected returns on the available assets X is considered as an amount to be placed in the available assets, and W is considered as a wealth to be allocated in the portfolio. The overall theory works around minimizing the return variance to a given expected portfolio return, which can be stated as

X^T r = μ and X^T 1 = W.

In One Risk-Free Asset

When there is one risk-free asset remaining available, then the two-find separation theory applies, but in this case, the funds might be chosen to be very simple funds that contain risk-free returns only. The other funds can be chosen to be one of the zero holdings of the risk-free assets. Thus, a mean-variance efficient portfolio can be formed as the accumulation of risk-free assets and holdings of a particular efficient fund that contains only risky assets. It can be set up as follows:

Minimising σ² subject to (W - X^T1)rf + X^Te = μ

Equilibrium Theory

This is the theory, which is a macroeconomics theory that contains how supply and demand of an economy affect the current market position and interact dynamically and eventually in an equilibrium of prices. It explains the behavior of demand, supply chain, and price in several markets. As per the modern concept of this theory, the general equilibrium remains associated with the commodities bifurcated as per price and demands. This model was developed by Kenneth Arrow, Gérard Debreu, and Lionel W. McKenzie in the 1950s. From an investor's perspective, this theory provides an overview of different commodities and plans with return and associated risk (Frias-Aceituno, Rodríguez-Ariza, and Garcia-Sánchez, 2014).

Arbitrage Pricing Theory (APT)

This is also one of the general theories of asset pricing, which contains the expected return of a financial asset. This theory is formed as a linear function of various factors and market indices, which remain changes in each factor. This is also represented by a factor-specific beta coefficient. This model is considered an alternative version of the capital asset pricing model. As per assumption under arbitrage pricing theory, return on assets remains dependent on such macroeconomic factors as inflation, exchange rate, market indices, production measures, market sentiments, changes in interest rates, and movement of yield curves. This model also remains helpful for investors who estimate the required rate of return in risky securities. APT considers risk premium based on a specified set of elements in addition to the correlation of the price of the asset with expected extra return on the market portfolio. There are three major assumptions are considered in this approach, which are as follows:

• Principles of capital market efficiency and all market participants trade with the motive of profit maximization.
• It adopts no arbitrage exists and if this occurs, then participants will pursue the benefits out of and bring back the market equilibrium levels.
• It contains market frictions, and there are no transaction costs and taxes that exist when an infinite number of securities remain available.

This theory helps to bifurcate the aim of investment plans with the limitations of one of the factor models and CAPM that provides different sensitivities to different markets. It is calculated by the following formula:

Arbitrage Pricing Theory Formula = E(x) = rf + b1 * (factor 1) + b2 * (factor 2) +... + bn * (factor n)

The Efficient Markets Hypothesis

This theory provides a vast overview and analysis of the market Hypothesis and EHM definition, which mainly helps to determine and standardize the price of securities as stocks, commodities, and securities. It is considered that the amount of analysis can give an investor an edge over other investors. EMH does not require the investors to be rational, which acts randomly in the market as always (Edwards, 2014). There are types of forms contained in EMH as

• Weak form EMH: It is advised that, as per the past information about fluctuations and variations in the price of securities, Investors have information to produce a return that involves the market average in the short term. There is no specific form in terms of assisting the structure and form of business at the next level. The fundamental analysis provides an overview rather than a clear picture of the analysis.
• Semi-strong Form EHM: In this form, the fundamental analysis provides an advantage of new information that is instantly priced into securities.
• Strong Form EHM: In this form, the information remains related to both private and public stock and no investor would become eligible for capturing abnormally high returns, which is outlined in the average.

TASK 2

Critical Approach to Using the Financial Theories and Models in the Analysis of Corporate Finance

Capital structure theory, which is also one of the common structural theories, plays a vital role in making capital structure and planning. This theory is also considered a Modigliani and Miller approach. This approach defines the structure of the organization and provides critical factors that remain associated with analyzing the financial plans and making a strong capital structure. This approach owes 2 main components of organization: one is an equal mix of both debt and equity. The main objective of this approach is to elaborate and consolidate the capital structure of organizations in different forms. It relates the financial leverage of the organization with the organization's debt-equity position and the market value of the organization (Cassidy, 2016).

Modigliani and Miller's Approach

This approach was introduced in the 1950s to analyze the capital structure of business and approach and resemble the net operating income approach. It advocates the capital structure and irrelevancy theory. It helps to evaluate the value of an organization with the capital structure of the organization, whether it is highly leveraged or has a lower debt component in the financing mix. It has no bearing on the value of a firm. This defines the rate of fluctuation in the existing market of the organization and assists the financial decision of the firm. It is an organization that contains high growth prospects with a market value that remains higher than the stock price, which remains high in various forms. Organization have been analyzed in terms of attractive growth and development rather than a great market. This approach contains certain assumptions, which are as follows:

• There are no tax rates.
• Transaction costs for buying and selling securities as well as bankruptcy costs remain nil.
• There is a proportion of information that contains an investor who will have access to the same information, and investors would represent rationally.
• The cost of borrowing must remain the same from the investor's perspective.
• Debt financing does not affect the company's EBIT.

This approach mainly assists investment decisions and helps finance managers make dividend policies and management strategies for effective management plans.

TASK 3

Analysis of Financial Statements for Bathroom Outfitters Ltd

a) Key Ratios Analysis

Profitability ratio: This is the ratio that relates the sales and gross profit of an organization within an organizational context. With the help of these ratios, managers will be able to understand how much gross profit is earned by organizations for a particular time duration. It is utilized as a suitable measure that an organization uses to decide the general adequacy and profit they are producing for add-up to deals and speculations (Storey, 2016).

Gross profit margin: this is calculated with the following formula as per the financial statement of Bathroom Outfitters: Gross profit margin for the year 2017 was recorded as £115210, sales for the year 2017 were made at £350328, gross profit for the year 2016 was recorded at £123276, and sales for the year 2016 were recorded at £369557.

Gross profit / Total sales

Net profit margin: As per the financial statements of Bathroom Outfitters, the net profit was recorded as £23822 for the year 2001, and the net profit was recorded as £18,735 for the year 2017. It is calculated as per the following formula: Net profit / total sales.

Liquidity ratio: this ratio mainly defines the liquidation position of the organization. It is one of the viable financial position-related examinations that is being utilized to inspect an organization's general capacity to make payments of daily expenses and liquid expenses. Mainly, the more extreme the estimation of proportions, the greater the edge of security that an organization has to cover mid-term liabilities.

• Current ratio: this is the key ratio that defines the relationship between the current assets and the current liabilities of the organization in terms of managing the daily operations and functions in a smooth way (Soomro, Shah, and Ahmed, 2016). This directly affects the process of decision-making. This is calculated by dividing the current assets by the current liabilities. As per the financial statements, Bathroom Outfitters has current assets of 482795 for the year 2017 and 420037 for the year 2016.
• Liquid ratio: this is one of the essential aspects in terms of managing the functions and operations that fall upon the same day. As per the above analysis, there are some essential aspects considered while calculating the liquid ratio, which is to only consider those items that are of core liquid nature. This is calculated as a proportionate of liquid assets and the current liabilities. The organization has liquid assets of 195000 for the year 2017 and 129081 for the year 2016.

Debt-equity ratio: This ratio mainly defines the debt-equity position of an organization and how total liabilities and shareholder equity are capable of maintaining the capital structure of the organization (Beshears et. al.,2015). It mainly correlates the relation between the total debts and loans taken by the organization and the total shareholder's equity. This is calculated as per the following formula:

Total liabilities / Total shareholder equity

As per financial information given under the financial statements of Bathroom Outfitters, the total shareholder's equity fund given for the years 2017 and 2016 was £405034 and £609137 subsequently. It is seen that the debt-equity capacity increased in comparison to the last financial year.

Assets turnover ratio: This is the ratio that mainly defines the relation between the total assets and the sales for the year. As per the analysis of financial statements, total sales for the years 2017 and 2016 were recorded as £350328 and £369557 subsequently, and the total assets were calculated as £639943 and £609137 for the years 2017 and 2016 subsequently. This is calculated as per the following formula: sales / average total assets.

b) Analysis of Working Capital Requirements Which Affect the Decision-Making

There are types of factors that affect the decision-making in terms of managing the working capital requirement and liquidity. There are types of factors that affect the concept of maintaining the working capital requirement (Epstein, 2018). Evaluating the rate of interest in terms of evaluating sustainability and analyzing the cost-effective factors within the organization.

Management of current assets and current liabilities is one of the major elements considered to maintain the level of working capital requirement. Debtor management, which mainly remains involved in managing the balance and requirements of business effectively and adequately. Interest rates also affect the decision-making. Management of current assets to fulfill the requirements of working capital management is the main objective, which elaborates the essential aspect to determine the cost.

c) Evaluation of Customers, Competition, and Change in an International Business Environment

This mainly helps to derive the functions and the business environment in terms of evaluation of customer competition and change in internal business processes. The adequate financial position of the organization affects the business process, which is mainly associated with analyzing the market plans (Drexler, Fischer, and Schoar, 2014). The internal business environment mainly depends upon the formation of task and project subjects to define and retain reserves and surpluses for the relevant financial years. Profitability plays a vital role in terms of exploring the business structure and base of business at the next level.

d) IFRS 16 and IFRS 17

As per the case scenario, Kitchen Warehouse Ltd. currently has 35 million in operating lease agreements for the next 5 years, and there is an analysis done to analyze the potential aspect for budgeting and publishing the data related to financial planning.

IFRS 16

This is one of the important financial rules that is mainly associated with management, recognizing, measuring, presenting, and disclosing lease agreements. The standard provision of IFRS provides a single lease accounting model and requires leases to recognize assets and liabilities for more than 12 months. The main objective of IFRS is to establish the principles for the recognition and presentation of leases and ensure the transactions.

IFRS 17

This financial reporting standard is mainly associated with analyzing, measuring, and analyzing the agreements and contracts related to contracts. The main objective of IFRS 17 is to manage insurance contrary to standards (Yakovleva, 2017). There is a use of financial information and support of financial records of the organization taken to assist the financial plans. Financial position subject to equity shareholders, equities, reserves, and cash flows are the essential aspects to elaborate the financial standards.

Importance of IAS:

International accounting standards are the globally accepted guidelines that are followed by every organization. These standards play a significant role in an organization and are mentioned below:

• These standards facilitate an organisation by providing transparency in accounting practices, which ultimately results in an efficient flow of capital. Fair financial statements help investors and other related parties too.
• These standards are globally accepted, due to which financial statements that are prepared using IAS can be used for international business purposes. It facilitates the ease of understanding accounting reports.
• These guidelines improve the quality of financial reporting systems.

CONCLUSION

The above report considers how financial information and data affect the process of financial decision-making and strategic planning The financing models and theories can be implemented, solve the financial issues, and enhance the stakeholders interest in investing in the organization. By adopting the financial approaches and models for financial data for assisting the business decisions are defined in this context. A critical approach mainly helps to determine the essential aspect in terms of maintaining adequate capital structure and financial performance measurement. How financial issues and conflicts can be operated by implementing the financial rules and international accounting standards.

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