# Financial Ratios

Accounting ACC/561.

Q1.Please post a response between 250 – 300 words to the following discussion question.

Using the financial statements Wal-Mart, compute at least three ratios from both the Income Statement and the Balance Sheet. State why you chose those particular ratios and what each tells you about the financial status of the company? If prior year numbers are available, determine if one or two of your ratios increased or decreased. What additional information does that provide about the company??

Q2. Please post a response between 250 – 300 words to the following discussion question.

What components would you include in your business plan to gain the attention of the loan officer at a commercial lending financial institution? What makes these components important?

Next, imagine you are a loan officer at a commercial lending financial institution. You have been presented with a loan package from a start-up company and one from a well-established company. What specific components would you require in the start-up company’s loan package to approve the requested loan? How do your lending requirements for the start-up company differ from those for the established company applying for a loan?

Ratio Analysis

Calculation of Ratios from the Income Statement

(Source: Yahoo Finance, 2013).

Income statement presents the profitability position of the company for a particular fiscal period. In concern to profit, it is necessary that sufficient profit should be earned on each unit of sales. It is the reason that profitability ratios based on sales such as gross profit ratio, net profit and operating profits ratios are chosen to analyze the profitability position of the company. Gross profit ratio is chosen to measure the trading effectiveness and basic profit earning potential of the company (Brigham & Houston, 2009).  On the other hand, operating profit ratio reflects the operating efficiency of a firm. Beside these ratios, the net profit ratio indicates the overall profitability and efficiency of the business.

The above table shows that gross profit ratio and operating profit ratio slightly decreased in the year 2013 over the previous year. At the same time, the net profit ratio has improved in this year, as it reached to 3.62% in this year from 3.51% in the year 2012. These ratios show that company has a good financial position in the industry.

Calculation of Ratios from the Balance Sheet

(Source: Yahoo Finance, 2013).

From the balance sheet, liquidity ratios and debt-equity ratio are chosen to calculate. Liquidity ratios such as current ratio and quick ratio are chosen because they are effective in order to analyze the ability of Wal-Mart-Inc., to meet short-term obligations. The above table shows that both the current ratio and quick ratio of the company slightly decreased in the current year over the last year. The current ratio of Wal-Mart is 0.83, which is not good from the creditor’s point of view and shows the inability of the company to meet its short-term obligations. It is because the company has more short-term liabilities in comparison of current assets that can create financial trouble for the company (Megginson & Smart, 2008).  Concurrently, the quick ratio is also very low, which indicates the inability of the company to meet short-term obligations.

At the same time, debt-equity ratio is chosen in order to identify the long-term solvency of the company (Porter & Norton, 2009). The debt ratio of the company is a low debt ratio, which indicates sufficient safety margin to the company and strengthen its ability to raise additional fund in the market. This ratio decreased over the previous year by 0.12 points, which also improves its ability to meet long-term obligations.

Thus, on the basis of the above discussion, it can be discussed that Wal-Mart needs to improve its short-term financial position in order to ensure long-term business survival.

In order to gain the attention of the loan officer at a commercial lending financial institution, different components would be included in the business plan. The main component would be the financial projections containing main financial statements such as income statement, balance sheet and cash flow statement (Peri, 2012). Additionally, a break-even analysis would also be included in the business plan in order to make sure about the business profitability to lenders. A breakeven point presents the minimum sales level in the business, which are necessary to attain the cost (Broadbent & Cullen, 2012). Through these components, the lenders are able to analyze the profitability position of the company and take a decision about granting loans. Thus, the main purpose of including these components in the business plan is to convince lenders that the firm will be able to repay the loan amount along with interest.

Commercial lending financial institutions are interested to know the credit history of the borrower, business financial projections, and collateral available to secure the loan, etc. before allowing for a loan (McKeever, 2012). If a company includes income statement, balance sheet, cash flow statement and break-even analysis in the business plan, it makes easy for lenders to assess borrower’s credit history and identify the collateral available to secure the loan. Further, lenders can easily allow for a loan to the borrower on the basis of these statements and all these make inclusion of these components in the business plan important.

Requirements of Commercial Lending Financial Institutions

There are some specific components, which would be required by the loan officer in the start-up company’s loan package to approve the requested loan. These include:

• Projected income statement and balance sheet for at least two years,
• Projected cash flow statement for a period of 12 months,
• A business plan, which defines the purpose of the loan,
• Information about personal and business tax returns for the period of last 2-3 years,
• Use of requested loan amount or types of expenditures by the company.

All this information would require by the loan officer in order to assess the ability of the company to repay the loan amount.

Loan officer lending requirements for the start-up company differ from those of the established company applying for a loan. It is because normally, a start-up company’s loans are short-term, thus the loan officer reviews the company’s cash flow and credit history before providing funds (Koester, 2010). On the other hand, established companies’ loan requirements are long-term for the purpose of business expansion and financing major plant and equipments. Therefore, loan officers require that the loan be secured by the asset being required. Additionally, the company would also assess a company’s business plan and cash flow for examining the ability to company to repay the loan amount along with interest.