Analysis and Interpretation
of Financial Statement as a Managerial Tool for Decision Making
(A CASE STUDY
OF NWOKEJI URBAN PLANNING AND ARCHITECTURAL STUDIO) [NUPAS]
Abstract
Financial
Statement Analysis and Interpretation is a very vital instrument of good
management decision-making in business enterprise. Good decisions ensure
business survival, profitability and growth. Without financial statement
analysis in investment decisions, an enterprise is likely to make decisions,
which could spell its doom. Poor or lack of qualitative financial statement
analysis could lead to investment returns, low profitability and even inability
to identify viable investment opportunities. The main objective of this project
is therefore, was to determine how firms could use financial statement analysis
and interpretation to aid management decisions and to avert the problems
highlighted above. Primary and secondary data are employed to broaden the scope
of this study. Primary data are sourced from questionnaire responses. This
provided data for the validation of the hypotheses tested with the use of
chi-square (X2). The test revealed as follows: (1) Significant
difference between the returns of the financial statement in Analysis and
Interpretation based on management decision. (2) Organizational profitability
has relationship with financial statement analysis and interpretation based
management decision but not significantly. The project concludes that companies
should pay great attention to the use of financial statement analysis so as to
properly equip themselves with this invaluable tool. The researcher recommends
the following: (a) Accountants or financial analysts should not be rushed in
collection, preparation, analysis and interpretation off financial statements.
(b) Financial statements should be made to reflect current cost accounting to
eliminate or reduce the effects to historical cost principle and inflation risk
element. (c) A combination of different ratios should be used in analyzing
operating performance. Proper use of financial statement analysis should be
made not only in investment but also in other areas of decision making.
CHAPTER
ONE
1.0 INTRODUCTION
1.1 Background of the Study
The complex nature
of today’s transformation of
the entire world into a global village have been of great concerns to manages
of all forms of business organizations. According to Ojuigo (2001), the
problems of managers are multi:-varied because of inefficiency in management of
poor decision outcomes of these organizations. Therefore, the managers are
unable to achieve the organizational objective within a period of time. As
diverse as business is, its controllable and uncontrollable factors influence
all decisions which ultimately lead to the realization of set objectives. To
achieve this, management needs reliable, authentic and relevant information
from the financial statements to efficiently facilitate decision making. It
must be noted that every business stores at making at least from investments
“sustainable profit continue in business. Therefore, profit being the concern
of every manager is a factor in business. To achieve this, available
information from the financial statements of organizations must be analysed,
interpreted and used as a basis for decision making (Needham and Dransfield
1991). Financial statement analysis is often considered as
a vital tool performance and ensuring that decisions
are based on facts rather than rule of thumb.
A financial analyst needs financial statements of
companies to be able to identify operating and financial problems which may
affect the companies (Mbat, 2001:60). Thus, any person who analyses the
financial statements of firms should be able to identify the cause and effect
of financial and operating problems of such firms.
The cause of any financial or operating problem is
an event, which produces an effect (the problem). However, in order to identify
the cause and effect, the system, which represents an indicator f the problem,
should be observed. This process is referred to as interpretation (Pandey,
2005). According to (Mbat, 2001), it is the responsibility of the financial
manager or analyst to enable them make better management decisions.
The symptoms could be:
-
Declining
liquidity
-
Declining profit
-
External debt
recovery period
-
Increased volume
of inventory
-
Declining return
on total assets
-
Increasing
operating expenses etc
The identification of causes should also be
important in order to appropriately evolve corrective measures.
Financial analysis and interpretation assist in
the:
-
Identification
of organizational performance through the use of analystical data.
-
Identification
of empirical relationships between operating results and those items which have
influenced the achievement of the results.
-
Identification
of historical data order to determine which internal or external factors have
exerted positive or negative influence on the operating results (Mbat 2001:61).
Categorically, there are three forms of financial
analysis. These include: multivariate, univariate and ratio analysis (Welsh,
1987). Moreover, ratios are the end results of basis analysis. The ratio
requires an interpretation on the basis of their trends and in the lights of
what is known of the business as a young concern. It should be noted that
financial statements represent the positions of a firm at a particular point in
time.
However, the success or failure of a business
depends largely on the quality of decisions made by management, which in turn
depends on reality of accounting information available on them.
Research into this area is quite relevant given the
apparent investment failures experienced by many business organizations. The
collapse of many businesses either private or public is due to poor decision.
The question is whether management has used information provided in the
financial statement extensively to enable rational decision making?
1.2
Statement
of the Problem
The principal aim of making investment decision is
to get adequate returns from it. According to Needham and Dransfield (1991),
“people will only tie up their a money in a business if they are satisfied with
the returns
In an attempt to achieve maximum returns from
investment in production, services shares or stock and/or other securities
outside the firm, a comprehensive analysis of the company which is intended to
be invested in should be carried statements to ascertain both its explicit and
implicit investment opportunities. However, organizations that do not use
financial statement analysis in making investment decisions could be ill formed.
As a result, the following problems may arise:
(i) Inability to identify viable investment
opportunities
(ii) Decreasing returns from investments.
(iii)
Decline in
organizational overall profitability.
(iv)
Increased
investment risk: The organization might not achieve its corporate objective at
the end of the period.
If the trend continues, it will likely lead to the
failure of the organization. Therefore, there is a great need for organizations
to consider and analyse company’s investing in that company. These are the
focus of this study.
1.3
Objectives
of the Study
On noting that most investments made by firms end
in failure, it is the overall objective of this study to determine how firms
can use
financial statement analysis and interpretation to
aid management decisions. Specifically, the study is designed to:
i)
Find out how the
use of financial statement analysis assists organizations in identifying
investment opportunities.
ii)
Find out how
increasing investment returns can be achieved using financial statement
analysis.
iii) Find out the extent to which a c can be hampered if
it does not financial statement before investing in it.
iv) Find out how business failures can be curbed or
minimized and corporate objective achieved through successful investment.
v) Identify alternative ways of minimizing investment
risk.
To
id the achievement of the desired objectives, the following hypothesis are
formulated:
HO:
Represents Null hypothesis
HI: Represents Alternative hypothesis
Research hypothesis No 1
HO:
There is no significant difference between the returns of a financial statement
analysis and interpretation based on management decisions.
H1:
There is a significant difference between the returns of a financial statement
analysis and interpretation based on management decisions.
Research hypothesis No 2
HO:
There is no significant relationship between a firms profitability an financial
statement analysis and interpretation based management decisions.
HI:
There is a significant relationship between a firms profitability and financial
statement analysis and integration based management decision.
1.6
Significance
of the Study
The
study of the use of financial statement analysis and interpretation in
management decision is meant to contribute immensely to sustained business
operations in selected firms south south region and general growth in business,
be it private or public. The study shall be beneficial in the following ways:
i) It will
redirect management on the need for the use of financial statement analysis and
interpretation of rational investment decision.
1.4
Research
Questions
The following questions are put forward for the
purpose of the study.
1) Is financial statement analysis important/necessary
in every organization?
2) Who are the users of financial statement?
3) How can a financial statement of an organization be
interpreted?
4) How can its interpretation be used in making
effective management decisions?
1.5
Hypotheses
of the Study
ii)
It will inform management on the possible and available investment ratio,
their functions and uses for a greater evaluation of a company’s capability
iii)
The work will
also serve as
a reference material
to other persons who will conduct
studies in similar areas both within and outside the university.
1.7
Scope of
the Study
The study is conducted to cover selected firms both
in South-South region.
However, this study is
conducted to cover the use of financial statement which includes; (Balance
sheet, income statement, statement of cash flow and statement of retained
earnings) analysis civil interpretation management decision.
1.8
Limitation
of the Study
The research work has
some limitations due to some problems encountered from the sources of
collecting useful materials also some unforeseen circumstances which posted as
a threat during preparation of this research project includes:
-
TIME: A research of this kind would require enough time to cover many
areas of activity effectively, but since the researcher is a student with other
classroom works to do, the time allocated for the study was limited.
-
FINANCE: During the course of this research, another stumbling block.
Judgment financial resources was encountered. The researcher has to make due
with little financial provision available to achieve a qualitative and
acceptable research finding.
-
Health was also a limiting factor, for instance, the researcher falling
ill in the cause of the study, which stopped the research for some time.
-
TRANSPORATION: The source of collecting useful material or information is
far and the transport logistics expensive, in some cases, the journey was
fruitless if the staff was not available.
1.9
Definition
of Terms
*
RATIOS: A ratio is the relationship between two amounts that results from
dividing one by the other. It is an accounting term used to describe the
financial index which compares two financial variables such as current assets
and current liabilities.
Examples of ratios are quick ratio, and test etc.
*
ACCOUNTING RATIOS: “they are the figures expressed as ratios”
*
INVESTMENT DECISIONS: This relates to allocation of capital and involves
decisions to commit funds to long term assets, which will yield benefits in
future.
*
RATIO ANALYSIS: It is an analytical tool designed to identify significant
relationships between two financial statement amounts.
*
SECURITY: Security is a financial asset which earns a fixed and/or
variable periodic income till terminal maturity period if any.
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