# Accounting Principle: 1340728

Case 1: Preparation of Income Statement and calculation of ratios

Part A: Income Statement of Franco Furniture store

 Franco Furniture Store Income Statement For the year ending on 31 December Particulars Amount Amount Revenue Sales revenue \$  113,040.00 Less: Cost of goods sold \$  (71,280.00) Gross Profit \$    41,760.00 Add: Other income Interest Revenue \$          870.00 Total income \$    42,630.00 Less Expenses Selling and distribution expenses Rent expense \$  2,160.00 Sales salaries expense \$  9,840.00 Depreciation expense: sales equipment \$  2,880.00 Total \$    14,880.00 Administrative expenses Office supplies expense \$     720.00 Depreciation expense: office equipment \$  1,920.00 Office salaries expense \$  4,800.00 Total \$      7,440.00 Profit before interest \$    20,310.00 Less: Interest expense \$        (300.00) Profit after tax \$    20,010.00

(Damodaran, 2011)

Part B: Calculation of Gross profit ratio and comment on the performance of the business as compared to industry

Gross profit ratio of company: Gross Profit/Net Sales = \$41760/\$113040 = 36.94%

• Gross profit: \$41,760.00
• Net Sales: \$113,040.00

Gross profit of industry (Given): 25%

Comment:

The gross profit ratio of Franco Furniture Store is 36.94% that reflects company has earned 36.94% of revenue in form of gross profit and such level of gross profit reflects strong control of the company on the cost of goods sold expenses and there is high possibility to earn high level of net profit from the remaining sales left after the cost of goods sold. The industry average is 25% that reflects that gross profit of this company was above average reflecting strong financial performance of the company (Davies and Crawford, 2011).

Part C: Calculation of Net profit ratio and comment on the result

Net profit ratio of company: Gross Profit/Net Sales = \$20010/\$113040 = 17.70%

• Net profit: \$20010.00
• Net Sales: \$113,040.00

Comment:

Net profit margin ratio provides percentage of net profit earned on total sales and Franco Furniture Store has earned 17.70% as net profit margin in last year. It was highly satisfactory profit margin looking at the required return or expectation of the shareholders or owner of the company (Krantz, 2016).

Case 2: Preparation of Balance Sheet and report to Bank Manager

Part A: Preparation of Balance Sheet

 Euro Kitchens Balance Sheet For the year ending on 31 December 20X1 Particulars Amount Amount ASSETS Current Assets Accounts receivable \$28,950.00 Cash \$9,150.00 Inventory \$19,800.00 Office supplies \$4,050.00 Prepaid insurance \$1,350.00 Marketable securities \$4,500.00 Total Current Assets \$67,800.00 Non-Current Assets Building (net) \$55,500.00 Office equipment (net) \$35,400.00 Investment in government bonds \$45,000.00 Land \$6,000.00 Total Non-Current Assets \$141,900.00 Total ASSETS \$209,700.00 Liabilities Current Liabilities Accounts payable \$22,050.00 GST Liabilities GST Collected \$4,500.00 GST Paid -\$3,000.00 PAYG tax payable \$3,000.00 Salaries payable \$1,650.00 Interest payable (current year) \$300.00 Unearned revenue \$1,500.00 Total Current Liabilities \$30,000.00 Non-Current Liabilities Mortgage payable (due 1/7/20X8) \$33,750.00 Notes payable (due 31/12/20X5) \$22,500.00 Total Non-Current Liabilities \$56,250.00 Total Liabilities \$86,250.00 NET ASSETS \$123,450.00 EQUITY Euro Kitchens, capital \$123,450.00 TOTAL EQUITY \$123,450.00

(Moles and Kidwekk, 2011)

Part B: Report to Bank Manager on Liquidity and Solvency of the Business of Euro Kitchens for assessing its potential to take short-term loan from ABC Bank

Liquidity Analysis

Current Ratio: The ratio assesses the performance of a company to meet its short-term obligations that are due within a year.

Current Ratio=Current Assets/Current Liabilities

Current Ratio= \$67,800.00/ \$30,000.00

Current Ratio=2.26

Quick Ratio: This ratio measures the efficiency of a company to meet its short-term obligations with the use of most liquid assets.

Quick Ratio=Current assets-Inventory/Current Liabilities

Quick Ratio= (\$67,800.00- \$19,800.00)/ \$30,000.00

Quick Ratio=1.6

Solvency Analysis

Debt to Assets ratio: This ratio indicates the extent of financial leverage that a company has by indicating the relative proportion of total assets that are financed by creditors.

Debt to Assets ratio= (Total Liabilities/ Total Assets)

Debt to Assets ratio= (\$86,250.00/ \$209,700.00)

Debt to Assets ratio=0.411

As depicted from the liquidity and solvency analysis of the company, it is having a sound liquidity performance and thus there is reduced financial risk of not able to meet its financial obligations. Also, the solvency analysis has revealed that it is having lower financial leverage and it have stable financial performance to meet its financial obligations. Thus, it is recommended to the ABC bank to grant loan to the business based on the financial ratio analysis results.

Case 3: Preparation of cash flow statement and recommendation on additional funding requirement

Part A: Cash flow statement

 Blackburn Irrigation Supply Cash flow Statement For the year ending on 31 December 20X1 Particulars Amount Amount Cash flow from operating activity Collections from the customers \$     158,000.00 Payment to suppliers \$     (32,000.00) Payment to employees \$     (56,000.00) Payment of rent \$     (12,000.00) Net cash flow from the operating activity \$         58,000.00 Cash flow from investing activity Purchase of equipment \$     (60,000.00) Sale of land \$     100,000.00 Net cash flow from the investing activity \$         40,000.00 Cash flow from financing activity Receipts from bank loan \$        40,000.00 Withdrawal by owner \$        (2,500.00) Net cash flow from the financing activity \$         37,500.00 Net Cash flow from activities \$      135,500.00 Add: Beginning cash \$         12,000.00 Closing cash balance \$      147,500.00

(Arnold, 2013)

Part B: Review of cash position of the company to advice on whether bank can provide additional funding to this company

The cash position of the company is very strong as reported by the cash flow statement of previous year. The closing cash balance is \$147,500 that indicates company has enough cash to pay any liabilities that will arise after the additional bank loan. Also the current debt to equity position is 8.89% (\$40000/\$450000) that reflects very low leverage capital and possibility to attract more debt capital. It means bank will definitely offer additional loan to this company as it has strong cash position and very low debt to equity capital ratio (Baker and Powell, 2010).

Scenario 4:

Part A: The various types of business forms that are available to Mr. Warner should be discussed as follows:

Sole Ownership

This is the most common type of business structure which is most easy to be established and the owners have the benefit of having a complete control over the profitability position of a business. The major advantages and disadvantages of different forms of business to Mr. Warner can be stated as follows:

• It is easiest to be established as it does not require filling of any type of papers
• The owners have the complete control over the business operations and makes all the relevant decisions
• The tax forms of such business are not complicated

• The business owner is exposed to high legal liabilities
• There is also difficulty faced by the businesses in borrowing money from different sources such as loans and others
• This type of business form also fails to accept any capital from the outside investors (Bragg, 2010)

Partnerships

Partnerships can be regarded as an arrangement where two or more parties that are known as business partners agrees to cooperate for achieving the mutual interests. The major advantages and drawbacks associated with this type of business structure as follows:

• The partnership form of organization can be developed without legal formalities and there are no formal documents are required in case of this type of partnership
• This type of organization invests large amount of resources and thus the scale of operations can be enlarged for realizing benefits of the economies of scale
• This business type is also largely flexible, mobile and elastic and the partners can introduce any changes as per their requirements (Cunningham and Nikolai, 2014)

• There is always likelihood of harmony among the partners due to difference of opinion that often results due to lack of management
• There is limited amount of capital that can be raised with the use of this type of partnership

Proprietary Limited Company

The proprietary limited company means that there is presence of limited number of shareholders who own the shares within the company. This type of company does not offer its shares to the general public. The major advantage and drawback associated with this type of business structure are discussed as follows:

• The liability of shareholders is restricted only to the share capital and the debts that have been personally guaranteed
• There is no threat to the personal assets of shareholders in case a company realized any type of financial losses or debts (Weygandt, Kieso and Kimmel, 2010)

• The establishment of a proprietary company can be regarded as complicated task requiring lot of legal paperwork
• These types of companies must largely adhere to the regulations as per the Corporations Act
• There is high requirement of keeping financial and other business records

Part B: Examination of the Business Structure as per the Wish of Mr. Warner

As given in the scenario, Mr David Warner, a new start up business client appointed as a client service officer in a business consulting firm is not able to decide whether to start the business operations as a sole owner, in partnership or as a proprietary limited company. However, as per the discussion in the scenario he prefers full control over the business and does not want to have the risk of losing his personal assets and is also taking advantage of the tax benefits realized from the business. Thus, as discussed above neither of the business form such as sole owner, or in partnership and proprietary limited company fits into the requirement (Arnold, 2013).

Part C: Advice to Mr Warner on Type of Ownership Structure Best Suited for the Preferences

The proprietary limited company is best type of ownership structure that is best suited for meeting the business preferences. This is because as stated above in this type of business firm there is no risk of losing the personal assets and the owner has larger control over the business activities. Also, this limited company is very tax efficient business structure as limited companies pat corporation tax on the profits attained (Arnold, 2013).

References

Arnold, G., 2013. Corporate financial management. USA: Pearson Higher Ed.

Baker, K. and Powell, G. 2010. Understanding Financial Management: A Practical Guide. USA: John Wiley & Sons.

Bragg, S. 2010. Business Ratios and Formulas: A Comprehensive Guide. US: John Wiley & Sons.

Cunningham, B., and Nikolai, L. 2014. Accounting: Information for Business Decisions PDF. Australia: Cengage Learning Australia.

Damodaran, A, 2011. Applied corporate finance. USA: John Wiley & sons.

Davies, T. and Crawford, I., 2011. Business accounting and finance. USA: Pearson.

Krantz, M. 2016. Fundamental Analysis for Dummies. USA: John Wiley & Sons.

Moles, P. and Kidwekk, D. 2011. Corporate finance. USA: John Wiley &sons.

Weygandt, J., Kieso, D. and Kimmel, P. 2010. Financial Accounting: IFRS. US: John Wiley & Sons.