Financial Analysis Of The Wonderland Construction Supplies Company

Question: Discuss about the Financial Analysis Of The Wonderland Construction Supplies Company. Answer: Introduction Wonderland Construction Supplies has started the business in July, 16 with the capital of $70,000 and prepared the financial statements after completing all the year-end adjustments. In this report financial analysis of the company has been done using the accounting ratios following with the brief interpretation of the financial statements. This report also provided information on depreciation methods used to accounts the fixed assets, methods used for inventory management and internal control mechanisms. Interpretation of the financial statements Income Statement: Income statement provides the amount of revenue generated and cost of goods used to earned that revenue. Income statement also provided the information on the various operating expenses that are incurred to carry out different operations in the company such as administration work, rent to the owner etc. At the year end on June 30, Wonderland has earned the revenue of $69,120.00 but the expenses are greater than the revenue earned that turns into a loss in the current year. Statement of Equity change: This statement provides detail on the changes that are made during the year to the capital or equity balance. Changes can occur due to addition or withdrawal of capital and also due to profit or loss incurred in the year. Profit is regarded as the increase in capital so it is added to the equity as retained earnings. On other hand loss is subtracted more resources are used to generate the same level of revenue. There has been capital contribution at the starting of year, $70,000 and $2000 withdrawal has been in the form of drawings. Further equity is reduced to loss made by the company. Balance Sheet: This statement shows the year-end balances of all the assets and liabilities that company owns at the balance sheet date. It contains value of different current assets, non-current assets, current liabilities, non-current liabilities and shareholders equity. It shows how balances of assets meet with the balances of the liabilities and equity capital (Bull, 2007). Financial Ratios Current Ratio: Current ratio helps to measure the liquidity of the company as it shows current assets divided by the current liabilities. It provides times the current assets the company has to pay its short term liabilities. Formula: Current Assets/Current Liabilities Current ratio of Wonderland: $78,247.20/ $18,227.00 = 4.29 times Current ratio of competitor: 1.5 times to 2.7 times Current ratio of the Wonderland Company is far better than the current ratio of its competitors as company has more than 4 times the current assets to pay the short term liabilities as compare to 1.5 to 2.7 times of their competitors. Gross Profit Ratio: This ratio measures the percentage of gross profit earned by the company. Gross profit is sales revenue less cost of goods sold. Formula: Gross Profit/Sales Revenue *100 Gross profit of Wonderland: $20,664.00/ $69,120.00 = 29.90% Gross profit of competitor: 38% to 43% The gross profit percentage of the competitor is much better than the gross profit percentage of the company (Drake and Fabozzi, 2012). Depreciation Methods There are mainly two important depreciation methods available. They are: Straight line method: In this method, depreciation is charged over the useful of life of assets. Any salvage value of assets is subtracted from the cost of machine and remaining value of assets is depreciated equally over the useful life of assets. The major benefit of this method is that same portion of deprecation has to be charged to profit and loss account, therefore easy to calculate. Reducing Balance Method: This method is also known as written down value method as in this case depreciation is charged on the value of assets that is remained after charging the each year depreciation. A fixed percentage of depreciation is charged to the value of asset until the assets is sold or write off from the balance sheet. Every year calculation needs to be done to calculate the depreciation (Fridson and Alvarez, 2011). Inventory Management Method There are two more methods used to value the inventory other than weighted average method: FIFO (First in First out): In this method goods that are first purchased will be sold first and so on. Under this method value of inventory at the balance sheet date might increase as it is lower value inventory is sold first as comparison or high value inventory. It is assumed that company has paid more for buying the inventory as the business progress. LIFO (Last in Last out): In this method goods that are last brought will be sold first and so on. It is will decrease the value of inventory at the balance date (Bull, 2007). Internal control mechanisms Internal control mechanism helps to put control on the misuse of resources like bank reconciliation statement provides the difference of balances in bank passbook and bank account in general ledger. Other internal control mechanisms are petty cash register to record the expenses made small expenses occurred on daily basis (Fridson and Alvarez, 2011). Conclusion It can hereby conclude that Wonderland has done perfectly fine in first year of business despite of some loss. There is great hope that company will do much better in future years. It is recommended to the company to look after the sales price of goods and also to decrease the cost through applying various cost reducing methods. References Bull, R. 2007. Financial Ratios: How to use financial ratios to maximise value and success for your business'. Elsevier. Drake, P. P. and Fabozzi, F. J. 2012. Analysis of Financial Statements. John Wiley Sons. Fridson, M. S. and Alvarez, F. 2011. Financial Statement Analysis: A Practitioner's Guide. John Wiley Sons.