Analyzing the financial statements

The Big Fella

I'm currently doing a project and part of it is reviewing the financial statements of a company. I've examined the company's liquidity with the acid test current assets-inventory/current liabilities. The company is illiquid with a ratio of .24. What else would you examine to see if the company is still a going concern? Thanks TBF

ianuss

Changes in receivables/payables payment days. Is it taking longer to get paid/repay liabilities. Overtrading?
Year on year comparisons and trend analysis. Sales up/down
Look for increase in short-term finance.
Net working capital ratio

hivizman

Don't immediately assume that an acid-test ratio of 0.24 is a bad sign. Think about the industry that the company is in. A retail business, for example, is unlikely to have a big figure for trade receivables, and if the retailer is large and powerful, it may be able to enforce a long payment period on its suppliers. A lot of the items in current liabilities are due on fixed dates perhaps several months after the balance sheet date (e.g., tax liabilities, current repayment instalments of long-term loans), so the business has time to build up cash balances to cover these.

Look at operating cash inflows in the cash flow statement. Are depreciation and amortisation, which are expenses but not cash outflows, enough to cover cash outflows for net investment in non-current assets? Are operating cash inflows excluding depreciation and amortisation positive, and are they enough in a year to cover current liabilities excluding trade payables? If so, then the business is likely to be a going concern even with a low acid-test ratio.

On the other hand, if the business has large and growing trade receivables, inventories are less than trade payables, and there's a bank overdraft rather than cash at bank, you have more cause for concern.

Bobby1984

I would agree with what the previous posters have said but I would also compare the ratio's with those of company's in the same sector. Also perform a review of post balance sheet events. The figures in the balance sheet are at one point in time (possibly 31 December) but you may only be looking at the figures in May/June. Therefore, there should be monthly accounts for 4/5 months where you can see if things have improved or disimproved.