Accounting principles and practices for managerial decision-making

Accounting for Managers

Liquidity ratios

The current ratio gradually grew throughout the analyzed 5-year period, reaching 0.78. Two conclusions can be drawn from this fact: (a) the company has consistently followed a policy aimed at consolidating the ratio between its current assets value and the current liabilities and (b) the company still needs to increase its current ratio, as values around 1 are recommended. At this point, although the figure does not show an imminent threat to the short-term solvability, it is still something that needs to be further improved.

Profitability ratios

All profitability ratios show that the peak on this segment was in 2007, when all these ratios, including the profit margin, were at the highest level in the 5-year period. At the same time, most of the profitability ratios (including the key return on total assets, which shows the efficiency with which the company is using its assets to generate profits) are at the same or lower levels than in 2005, which means that the company decreased in its profitability performance over this period of time.

3. Operating ratios

The operating ratios show the capacity of the company to use the available assets in order to generate sales and, subsequently, profits. The two most important ratios in this category, the net assets turnover and the fixed assets turnover, showed a similar trend to the profitability ratios previously discussed. After peaking in 2006-2007, both ratios decreased and show that the company is not managing its assets as well as it could.

4. Debt ratios

In terms of the debt ratios, the most important one here is the interest coverage ratio. This ratio has significantly decreased in value from 2008 to 2009, and a lower value shows a lower capacity of the company to cover its interest payments from the earnings it generates. This can also be associated with the decreased performances in terms of asset management and profitability. If this continues over the medium-term, the company may become more burdened with debt expenses.

Overall, 2009 has marked an overall decrease in the performances of the company in all areas, notably in terms of profitability and asset management.

b) The previously analyzed case shows the potential limitations of ratio analysis in the fact that this type of analysis only shows a particular moment in the company's business development process. For example, the significant decrease in the interest coverage ratio may in fact hide the fact that the company has taken an extra loan to improve its equipment and that this new equipment is expected to generate higher earnings at a later period.

Section B

3. The business life cycle involves, similarly to the product life cycle, five different stages, namely the establishment of the business, the growth period, the expansion, the maturity and the decline. All these stages have different impacts in terms of business risks, sales volumes, cash flows and profits. The first two stages imply high business risks, as well as high costs that are associated with the development of a new project or service, the marketing costs associated with its launch on the market, as well as any additional costs aimed at making the company better known on the market. This also means that the profits are significantly low in this period, even negative.

With the expansion and maturity periods, the costs are stabilized and the company starts to become profitable. A successful product or service on the market means higher earnings and the capacity to further develop the business. Lower costs and higher revenues also increase the profit margins. At the same time, business risks are lower than in the first two periods. With the decline period, one is likely to see a decline in profits, along with the overall decline of earnings.