Memorandum
TO: Superior Living, CEO
FROM: Lela Keel, VP of Finance
DATE: August 25, 2011
SUBJECT: Analyzing the Balance Sheet of Superior Living
Introduction
As the Vice President (VP) of the Finance Department within Superior Living Inc it is my job to analysis the financial statements of the company. The balance sheet is a very significant financial statement and must be examined by me in order for the present and future performance of the company to be realized (Ross, Westerfield, & Jordan, 2010). With that being said, the focus of this discussion will be geared toward the balance sheet of the company. Furthermore, as it is shown on the balance sheet we will be focusing on the working capital, the current ratio, and the short-term and long-term debt of the company over a three year period. Also, in concluding this memo a bulleted summary of the balance sheet, as well as other focuses of this discussion will be presented to the CFO of Superior Living.
What is Working Capital?
Working capital is technologically portrayed as a company’s assets currently minus a company’s liabilities currently. By calculating the working capital of the company we will be provided with an estimate in regards to measuring both the effectiveness and short-term financial health of the operations of the business (CTU Online, 2011).. The formula for calculating the working capital of the company would be: Current Assets – Current Liabilities = Working Capital. Now let’s take a look at the working capital for the company in the years 2001, 2002, and 2003. The working capital for the company in 2001 was $39,500, for 2002 the working capital was $42,100, and for the year 2003 the working capital was $41,950. With that being said each of these years show an optimistic working capital for the company which indicates that we are currently capable of paying off our short-term debts. However, had the working capital for any of these years been negative then this would mean the company was currently, in the year(s) that were negative, unable to meet our short-term debts with our current assets (Working Capital, n.d.).
What is Current Ratio?
Companies typically monitor their working capital position, and the financial metric used to do this is called the current ratio. This ratio will measure the company’s ability to convert our assets into cash more easily so that we can pay back our short-term obligations (CTU Online, 2011). The method for estimating the current ratio is: Current Assets / Current Liabilities = Current Ratio. Now let’s take a look at current ratio for the company in the years 2001, 2002, and 2003. The current ratio for the company in 2001 was 2.2, for 2002 the current ratio was 2.1, and for the year 2003 the current ratio was 2. With that being said, the current ratio for the company for each of these year indicates that there was sufficient working capital to pay off our short-term liabilities. However, had the current ratio been below 1 this would have been an indication that the company did not have sufficient working capital to pay off our short-term liabilities (Current Ratio, n.d.).
What is Short-Term Debt?
Short-term debt is the current liabilities; generally for one year or less, that the company has listed on the balance sheet. For Superior Living the short-term debt that is listed on the balance sheet would be current portion of long-term debt, accounts payable, and other current liabilities, such as short-term bank notes (CTU Online, 2011). With that being said, the total short-term liabilities for the company in the year 2001 was $34,200, for the year 2002 the total short-term liabilities for the company was $37,100, and for the year 2003 the total short-term liabilities for the company was $41,950.
What is Long-Term Debt?
Long-term debt is the continuing liabilities that the company has listed on the balance sheet. These continuing liabilities are money that the company owes and does not anticipate paying off within one year (Ross, Westerfield, & Jordan, 2010). For Superior Living the long-term debt that is listed on the balance sheet is long-term debt and other long-term liabilities. This long-term debt could be for the mortgage on the building in which the company operates and for business loans that are not expected to be paid back within the year (Ross, Westerfield, & Jordan, 2010). With that being said, the total long-term liabilities for the company in the year 2001 was $42,200, for the year 2002 the total long-term liabilities for the company was $46,200, and for the year 2003 the total long-term liabilities for the company was $52,350.
Conclusion
In analyzing the balance sheet of Superior Living for the years 2001, 2002, and 2003 the points for addressing in regards to finances of the company would be as follows:
· The working capital has shown an increase over the years which would mean that the company has sufficient funds for operating the business. · The current ratio over the years indicates that the company would be able to pay its current liabilities and have funds left if needed for operations. · The short-term debt and long-term debt over the years has both shown an increase which should be closely monitored and controlled to ensure that we do not surpass the appropriate proportion of our assets. · The financial shape of the company seems to be good looking at the balance sheet for the years listed, however it is recommended that the company compare other companies within the same industry to ensure that we are maintaining our working capital position for years to come.
References
CTU Online. (2011). Applied Managerial Finance. Phase 1 course materials [text]. Retrieved from https://campus.ctuonline.edu/pages/MainFrame.aspx?ContentFrame=/Home/Pages/Default.aspx
Current Ratio. (n.d.). Retrieved from http://www.investopedia.com/terms/c/currentratio.asp#axzz1W8pBoWiN
Ross, S., Westerfield, R., & Jordan, B. (2010). Fundamentals of Corporate Finance, (9th ed.). New York, NY: McGraw-Hill Irwin.
Working Capital. (n.d). Retrieved from http://www.investopedia.com/terms/w/workingcapital.asp#axzz1W8pBoWiN