Economic and financial analysis of the company

A company has current assets of $45.000\ \text{€}$ (inventories, trade receivables, and cash) and current liabilities of $30.000\ \text{€}$ (debts due in less than a year). a) Calculate its working capital: $FM = \text{current assets} - \text{current liabilities}$. b) Interpret the result: explain what a positive working capital means and why it provides a buffer to pay short-term debts.

A company has current assets of $70.000\ \text{€}$ and current liabilities of $50.000\ \text{€}$. a) Calculate its working capital: $FM = \text{current assets} - \text{current liabilities}$. b) Also calculate the working capital as $\text{equity} + \text{non-current liabilities} - \text{non-current assets}$, knowing that the permanent resources total $110.000\ \text{€}$ and the non-current assets $90.000\ \text{€}$, and check that both ways coincide. c) Explain in your own words why the two formulas give the same result.

Another company has current assets of $25.000\ \text{€}$ and current liabilities of $40.000\ \text{€}$. a) Calculate its working capital. b) Explain what negative working capital means and what immediate problem it could cause (risk of insolvency: debts come due without short-term cash to meet them). c) Propose two measures to correct it (renegotiate debts from short to long term, raise equity capital, sell unused assets) and justify them.

Explain the difference between liquidity (being able to pay debts due soon) and solvency (being able to meet all debts with all its assets). Reason whether a company can be solvent and at the same time have liquidity problems, with the example of a company with many properties and little cash in the till.

A company has current assets of $60.000\ \text{€}$, current liabilities of $40.000\ \text{€}$, total liabilities of $60.000\ \text{€}$, and equity of $60.000\ \text{€}$. a) Calculate its liquidity ratio (current ratio), $L = \frac{\text{current assets}}{\text{current liabilities}}$, and evaluate it knowing that a recommended benchmark is between 1.5 and 2. b) Calculate its gearing ratio (debt ratio), $E = \frac{\text{liabilities}}{\text{equity} + \text{liabilities}}$, and evaluate it knowing that it typically should not exceed 0.6 (60% of total financing).

A company has total assets of $300.000\ \text{€}$, equity of $120.000\ \text{€}$ and total liabilities of $180.000\ \text{€}$. a) Calculate its solvency ratio, $G = \frac{\text{assets}}{\text{liabilities}}$, and evaluate it knowing that the guide value is that it should be close to 2 (assets doubling debts). b) Explain what this ratio tells a bank considering lending it money. c) Reason whether it is in the company's interest to take out another long-term loan of $100.000\ \text{€}$ to grow and how the ratio would look after the operation.

Explain the difference between return on assets (what the business yields, comparing earnings before interest and taxes with assets) and return on equity (what the partners earn, comparing net profit with equity). Reason who is more interested in each one: the manager evaluating the business or the shareholder evaluating their investment.

An investment group is analysing two companies in the agri-food sector to acquire one of them. The data for the last closed financial year are as follows:

• Company North: Total assets = $200.000\ \text{€}$; Total liabilities = $50.000\ \text{€}$; EBIT = $30.000\ \text{€}$; Financial interest = $2.000\ \text{€}$; Tax rate = $25\ \%$.

• Company South: Total assets = $120.000\ \text{€}$; Total liabilities = $60.000\ \text{€}$; EBIT = $19.200\ \text{€}$; Financial interest = $3.200\ \text{€}$; Tax rate = $25\ \%$.

1. a) Determine the return on assets (ROA) and the return on equity (ROE) for each company and argue which one exploits its productive investments more efficiently and which one provides a better return on the capital contributed by the shareholders.
2. b) Formally explain why Company South achieves a substantially higher ROE than Company North, even though the difference between their ROAs is minimal. Relate this fact to its level of indebtedness and the financial leverage effect.
3. c) If in the next financial year a demand crisis reduces the EBIT of both companies by $60\ \%$ and financial expenses remain constant, predict how the ROE of each company will change. Based on the results, justify which company has assumed a riskier financial structure and why.

The board of directors of a company is debating how to finance a new business line that requires total assets of $100.000\ \text{€}$. Operational projections estimate an annual EBIT of $12.000\ \text{€}$. Two alternative capital structures are proposed (assume zero corporate income tax):

• Structure A: $100\ \%$ with equity (net equity of $100.000\ \text{€}$).

• Structure B: $50\ \%$ with equity and $50\ \%$ via a bank loan at an annual interest rate of $6\ \%$.

The Chief Financial Officer states: "Option B is always superior because taking on debt increases the return for the shareholders". However, a board member warns that the market is volatile.

1. a) Calculate the net profit and return on equity (ROE) of both structures with the projected EBIT ($12.000\ \text{€}$). Explain the mechanism by which ROE increases in option B despite total net profit decreasing.
2. b) Simulate the impact on the ROE of both options if a market contraction reduces the EBIT to $5.000\ \text{€}$. What happens to the leverage effect in this new scenario?
3. c) Formally refute the CFO's statement: calculate the indifference EBIT value at which both options offer an identical ROE and define the general rule that the return on assets must satisfy with respect to the cost of debt for indebtedness to be advisable.

An entrepreneurial team plans to launch a company that requires an initial asset investment of $200.000\ \text{€}$. An average annual EBIT of $24.000\ \text{€}$ is estimated. To finance the project, two alternatives are being considered (for the purposes of this analysis, ignore taxes):

• Structure A: Finance $100\ \%$ through contributions from the partners ($200.000\ \text{€}$ in net equity).

• Structure B: Contribute $120.000\ \text{€}$ in equity and obtain a long-term loan of $80.000\ \text{€}$ with a nominal interest rate of $7\ \%$ per annum.

1. a) Determine the return on assets of the investment and the return on equity (ROE) for each of the two alternatives with the projected EBIT. Justify technically and conceptually why the debt option amplifies the shareholders' return.
2. b) Analytically find the financial indifference EBIT (the level of EBIT at which both options would provide exactly the same ROE). Demonstrate the relationship between this EBIT level, the cost of debt capital, and the return on assets.
3. c) If there is a considerable probability that a drop in sales reduces EBIT to $10.000\ \text{€}$, provide reasoned advice to the entrepreneurial team on which of the two capital structures they should choose, warning them about the risks associated with the financial burden.

A canning factory stores raw materials for an average of 25 days, takes 5 days to manufacture, 20 days to sell and collects from its customers at 45 days, but pays its suppliers at 30 days. a) Calculate its operating cycle (economic maturation period) by adding the four stages up to collection. b) Calculate the financial maturation period by subtracting the days it takes to pay suppliers, and interpret the result: for how many days it must finance its activity itself. c) Explain why paying suppliers later shortens the financial period and what risk stretching that period too far has.

A plumbing supplies distribution company has an annual cost of goods sold of $900.000\ \text{€}$. Its current cash conversion cycle (financial operating cycle or CCC) is $60\ \text{days}$ (assume a commercial year of $360\ \text{days}$). The company finances its operating cycle through working capital of $150.000\ \text{€}$.

1. a) Determine the volume of financial resources that the company ties up on average in its operating cycle (Required Working Capital or Working Capital Needs) and compare this amount with its actual working capital. Interpret the resulting cash equilibrium situation.
2. b) Management is considering reducing the CCC to $40\ \text{days}$. Calculate the amount of cash resources that would be freed up by this optimisation and formulate two specific measures in the supply chain and credit collection policy to achieve that goal.
3. c) Suppose the company decides not to modify its operating timeframes ($CCC = 60\ \text{days}$), but achieves a $30\ \%$ growth in its activity and operating costs. Predict the quantitative impact that this growth will have on its operating financing needs and infer what will happen to cash if actual working capital remains unchanged.