Finance

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In this report, the financial analysis has been conducted of Roast Ltd. company. It is a UK based coffee shop chain which was established in 2008. The company is continuously transforming its business processes by adopting digital technology and trends and the employees are allowed to bring their gadgets at the workplace. The company is providing free Wi-Fi facility to its employees. Along with this, the employees of the company are getting free coffee and meal facility. The company is making its best efforts to attain high brand image. Along with following the technological trends the company is following distinct financial management strategy for increasing its profitability and for uplifting its financial position. No doubt, the company is quite smaller in size as compared to the leading competitors of the market. However, the company is continuously uplifting its position by making its stores as more competitive despite of that they fewer in number. With its optimum financial management, the company is continuously growing in the financial terms. This report will assist CFO of Starbucks that how Roast Ltd. is effective to be acquired by the company. After in-depth analysis of the market and relative position of Roast Ltd., it has been identified that the company is regularly facing a healthy financial position with lower liabilities and higher profits as well as assets.

Contents Executive Summary 1 Industry Review 1 Business Performance Analysis 2 Statement of Profit or Loss 2 Statement of financial position 5 Statement of Cash Flows 7 Dividend Policy of the company: Residual Dividend Policy 8 Investment Appraisal and sources of finance 9 Investment Appraisal techniques 9 References 15

UK coffee shop industry is highly focused for selling coffee and for the establishment of unlicensed coffee shop. The industry is also selling hot as well as cold drinks along with the snacks. The performance of the industry is highly affected by the number of factors including social as well economic factors. The people of UK highly like coffee and they are highly interested in coffee blends and origins. UK is also known for its coffee culture due to which the coffee industry of UK is regularly growing and annual growth rate of the industry in 4.8% (Hyesook Kang, 2017).

However, BREXIT had have affected number of industries of UK and coffee industry is one of them. After the announcement of BREXIT, a depreciation has been experienced in pound. It made the imports as more expensive and lifted up the profits. However, it also restrict the freedom of movement of the operators between Britain and European Union. It resulted into the increased wages of the industry operators. To manage and handle such situations, the industry should negotiate new tariffs with EU member states. However, there is negligible inclusion of the international trade at the industry level. However, coffee processing industry is indulged in the international trade at the high level (Priest, 2017).

Despite of following the coffee culture, UK is not a coffee producer and import coffee beans from the number of countries including Brazil, Columbia, and Asia Pacific countries. Due to the depreciation of pound, the coffee become expensive for the UK buyers that is the major weakness of the coffee operators of UK. Due to this reason, the profit margins UK shops have also been shrinking.

Other than such economic factors, the low cost labor is also affecting the profitability and growth of the industry at high. The low-skilled labor is broadly used by the coffee shops of UK and most of the labor is composed of UK migrants. such labor pattern allow UK coffee industry to keep the wages low and to earn high profit margins (Arslan, 2019).

Some of the coffee shops have attained the leading position in the industry. Costa have attained the highest position in the industry with 2121 outlets. Where Starbucks is at second position with 898 outlets and Caffe Nero is at third position with 650 stores. Starbucks is the non-British company with increasing number of stores in Great Britain. Other than Starbucks, rest of the coffee stores have been found with the decreasing number of stores. Caffe Nero has the low count stores despite of that it is one of the favorite coffee chain of the indigenous coffee consumers (Mordorintelligence.com, 2019).

In the favor of Starbucks, the business performance of Roast Ltd. has been analyzed using its financial statements for the two years 2018 and 2017. This analysis has been divided into three parts including Statement of Profit or Loss; Statement of financial position; Statement of Cash Flows.

To determine the profit or loss of the company, profitability ratios have been used. These profitability ratios are the metrics used for assessing the ability of the company for generating revenue in the terms of asset, equity, and operating costs. These ratios are used to show that how well is the company managing its assets to generate profits and earnings to sustain the stakeholder interest. The higher results for these ratios depict the favorable results of the company. They not only provide the information about profit and loss of the company but also show its historical performance in the industry. The higher value of these ratios also show that company is doing well for attaining the competitive position in the industry. These ratios are broadly classified into margin ratios and return ratios. Margin rations provides the performance of the company for turning sales into profits and return ratios provides the performance of the company to generate return and income for its shareholders.

Margin Ratio (Profit Margin)

Profit Margin can be calculated as Net Income/ Net Sales. It is used to measure the profitability with gross margin, pretax margin, pretax margin, and operating margin. Profit margin for both the years is almost equal (Ferdian, Suryadi and Safitri, 2018).

Return Ratio (Return on Assets)

It can be calculated as Net Income / Average Assets. It indicates that how effective is the company in deploying its assets and for generating profits out of its sales (Apere, 2016).

Return Ratio (Return of Equity)

ROE is calculated as Net Income/ Shareholder's Equity. It is used to measure company's ability to earn return on investments in equity. For 2018 ROE is higher which indicates the growth of the company as compared to the last year (Chandra, 2019).

To determine the financial position of Roast Ltd., the two year financial statements of the company have been comparatively analyzed. In this comparison, the gross sales and business expenses have been compared to compute the gains and losses over the period of two years.

On the comparison of financial statements of the company for the two years, it has been determined that revenue of the company has been increased over these two years. There is also an increment in the cost of sales over these two years. In 2018, the Gross Profit is higher as compared to 2017. Furthermore, the operating income of 2018 is also higher as compared to 2017.

Along with this, the operating expenses of the company is also higher for 2018 as compared to 2017. The reason of increasing operating expenses is that the company is updating its infrastructure and business processes for achieving competitive advantage over its competitors. Other than this, the finance costs of 2018 are also higher in the comparison of 2017. The expenses have major impact on the profitability of the company.

Assets

On analyzing the financial statements of the company, it has been determined that the company is investing at high year by year for acquiring more number of assets. The non-current assets of Roast Ltd. are identified as increased at the end of 2018. Alike, non-current assets, the current assets are also identified as increased for this year. such assets include inventories and receivables. In the nutshell, the assets of the company in 2018 are higher in value as compared to 2017.

Equity and liabilities

In the financial performance of the company, the equity and liabilities have distinct role. It has been determined that share capital for the both the years of the company is almost equal. However, for 2018 the retained earnings are higher in the comparison of 2017. Along with this, total equity for 2018 is also higher. The higher growth of company over years is effective enough to attract the investors as they can expect significant returns in the exchange of their investment.

No doubt, the assets of the company are increasing over years but the liabilities of the company are also increasing what can affect the investors' attraction towards the company.

In the nutshell, the company is attaining increasingly profits year by year. The dividends of the company are reduced to zero in 2018 what is the major point of attraction for the investors of the company for the upcoming years.

OCC or Operating Cash Cycle is known as the cycle for converting the raw materials into cash. It is the complete cycle that is responsible from the procurement to sale stage of the business. It is used to evaluate the time gap between the procurement and incoming of cash after selling of the products (Wang et al., 2014). It is also called as the total inventory holding period and collection period of receivable. For the betterment, the company should always effort to reduce this time period. The better management and utilization of the fixed assets and higher ROI can be achieved by the reduced time period of conversion (Szpulak, 2017).

The OCC Of Roast Ltd. is of 30 to 90 days and the company has been enforced to reduce it for the future betterment and healthy links with the stakeholders. In 2018, the company has increased its inventory as compared to the last year. Regardless of increasing costs of the inventory, the company is earning increasing profits. There is also increased receivables in trade payables. Overall, the company has invested higher for purchasing property and there is decreased cash equivalent at the end.

Roast Ltd. is the company that seems as following the residual dividend policy. It could be assured by analyzing and evaluating the financial statements of the company. A dividend policy can be referred as the policy followed by a company to pay its shareholders and to structure to its dividend (Boudry, 2011). The gains and income of the shareholders mainly depends upon the dividend policy of the company in which they have invested. Mainly dividends are considered as under no obligation of the company for repaying to the associated shareholders (Salas, 2007).

Residual dividend policy is one of the policy following which the company repay its dividends using its earnings. It is used to repay and ensure the interest of the shareholders. following this policy the company is generating its capital structure with long-term debt and equity to manage. It has been analyzed and evaluated from the financial statements of the company, that year by year the company is making adjustments in its finances for generating internal funds and for paying dividends for the capital expenditure. The company is deducting the capital expenditures from the generated funds for paying dividends and for repaying its shareholders (Michaely and Qian, 2017).

It has been analyzed that for all the future investments company’s must be very careful while selection of its appraisal technique after determining the benefits which would be generated while using this particular technique. After complete investigation the various techniques which have been investigated are as follows:

Management Forecast –

Management Forecast is a technique which helps in providing tremendous advantages for all the competitive businesses which are being practiced within the international market. Moreover, the use of this technique would also allow the managerial authorities of organization to make investment decisions on the basis of future trends can easily be met.

Advantages

1. One of the useful technique which helps in providing an insight as well as real time data through which future demands can easily be predicted. Moreover, it also helps in providing opportunities for all adjustments which can be easily be made.

2. The use of this technique would also allow the company to improve its investment decisions and reflect the performance of all operations which are being performed in the organization through which growth of organization can be easily depicted.

Disadvantages

1. One of the major drawback of this technique, through which forecasting can never be accurate through which future demands of customers cannot be predicted accurately, because of increasing high rate of demands which are increasing day by day.

2. Costly technique through which market demand can easily be predicted which requires good quality tools and staff members for proper execution which might affect overall profitability for the particular organization.

3. Time consuming technique as it mainly involves process for data gathering and data visualization through which decisions which are to be made related to investment requires large amount of data for taking decisions accurately

Payback Period –

It is referred to as appraisal technique which helps in defining the future projects which would be undertaken by particular organization through which cash flo0w can easily be generated. Moreover, it is termed as time period that projects take to generate after investing (Azar and Noueihed, 2014).

Advantages

1. The use of this technique through which all the calculations are simple and easy to understand.

2. The readers from the non-financial background can also easily understand it.

Disadvantages

One of the major drawback of this technique is that fails to consider the Time Value of Money (TVM). TVM is the process which is used for building the connections between money and time and also termed as purchasing power of moneywhich mainly differs with time and value. All the daily transactions of company which are being processed are also affected in terms of spending, investing, borrowing, and saving

Accounting Rate of Return: -

It is a type of technique through which all the profits which would be generated can easily be measured with all actual expectations from investment. Moreover, it is also used for expressing the net profit that would arise from the investment being the percentage of capital investment. It is also referred to as return on investment technique(Keeling and Pavur, 2011)

Advantages

1. Through this process payback period can easily be calculated and used for considering total profits over period and economic life of an project.

2 .Helps in complete recognition of new earnings which are made as per tax and depreciation which is one of the necessary factor proposal.

3. Helps in providing comparison of new projects with cost reducing projects through which competitive nature can be illustrated.

4. Clear representation of profits which would be generated from project can be illustrated.

5.Interest of investors is also effected as they are in ROI through which many investments c be made.

Disadvantages

1. It is difficult to make the effective decisions, due to variations in calculations of ROI and ARR

2. Time factor which is ignored is one of the major threat which is being faced.

3. Using AR it cannot be determined

4.Cash inflows are not considered as essential terms in respect to accounting profits which are generated.

Net Present Value

Termed as common technique which is used for appraisal of an investment, moreover, it is also referred to as the sum of discounted cash flow which mainly includes inflow and outflow relative to the project. On other hand it is also termed as discounting factor which can be used for cash flows in future terms for accepting appraisals(Sangster, 1993)

Advantages

1. Effective process for assumption of re-investment

2. Used for accepting conventional patterns of cash flows

3. Considers all cash flows

4. Helps in measuring profitability

5. All factors which might cause risk for return on investment are considered.

Disadvantages

1. To determine the required rate of return is complex

2. Lacks to have optimistic projections

3. ROE might not be boosted

4. Sunk cost is ignored

5. Less competent to manage variable size of projects

Source of Finance

In 2019, Roast Ltd decided to invest £400,000 for future projects all these investments would be based on two sources which are mentioned below in this section

Internal source:

Internal source of finance is mainly generated by all the business operations which are being performed within the business which mainly includes retained profits, assets sale, reduction in work capital and owned capital(Gregory et al., 2005)

Advantage:

1. Liabilities of company can be reduced

2. Business would grow itself and would not rely on third party vendors.

Disadvantages

1. It neither dilutes the ownership duties nor fixed the obligations

2. equity and debt would not be present in finance for performing of operations

3. risk of bankruptcy would increase

External source:

External source of finance is generated from capital which is generated from all the business operations which are being performed externally. It mainly includes sources from where fund is generated.

Advantage:

1. Helps in assuring the availability of funds which are negotiated among the donor and seeker.

2. Responsible for performing all the operations related to business continuity.

Disadvantage

1. Leads to increase in debt for company when donor seeks an interest amount.

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2.Company’s growth mainly relies on third party provides who would be responsible to provide funds.

From the above report it can be concluded that various investment techniques have been identified on the basis of which various decisions can be taken on the basis of benefits and limitations of each technique which would be selected. It has been analyzed that for all the future investments company’s must be very careful while selection of its appraisal technique after determining the benefits which would be generated while using this particular technique

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· Hyesook Kang (2017). The Effect of Selection Attribute Factors in Individual Specialty Coffee Shop on Customers’ Overall Satisfaction and the Difference According to Genders and Ages. FoodService Industry Journal, 13(2), pp.61-78.

· Michaely, R. and Qian, M. (2017). Stock Liquidity and Dividend Policy: Dividend Policy Changes Following an Exogenous Liquidity Shock. SSRN Electronic Journal.

· Mordorintelligence.com. (2019). Global Coffee Market | Growth | Trends | Forecast. [online] Available at: https://www.mordorintelligence.com/industry-reports/coffee-market [Accessed 28 Dec. 2019].

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· Szpulak, A. (2017). Assessing the Financial Distress Risk of Companies Operating Under Conditions of a Negative Cash Conversion Cycle. e-Finanse, 12(4), pp.72-82.

· Wang, Y., Ji, Y., Chen, X. and Song, C. (2014). Inflation, operating cycle, and cash holdings. China Journal of Accounting Research, 7(4), pp.263-276.