Financial Analysis of Small and Medium Enterprises (Tavian) Auto Saved)

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CHAPTER ONE

1.0INTRODUCTIONThis chapter covers the background of the study, the statement of the problem, objectives, the

scope of study, significance of the study, and definition of key concepts.

1.1BACKGROUND TO THE PROBLEMAccording to Miller & Miller (1991), financial analysis also referred to as Financial statement

analysis or accounting analysis refers to an assessment of the viability, stability, and

profitability of a business, sub-business or project.

It is performed by professionals who prepare reports using ratios that make use of information

taken from financial statements and other reports. These reports are usually presented to top

management as one of the bases in making business decisions. Based on these reports,

management may continue or discontinue certain operations or part of its business, make or

purchase certain materials in the manufacture of its products; acquire or rent/lease certain

machineries and equipments in the production of its goods, issue stokes or negotiate for a bank

loan to increase its working capital, make decisions regarding investing or lending capital. The

other decisions allow management to make an informed selection on various alternatives in

conducting its business.

Muller further noted that financial analysts often assess the firms profitability which is the

firms ability to earn income and sustain growth in both short-term and long-term. A companys

degree of profitability is usually based on the results of its operations. Solvency is the firms

ability to maintain positive cash flows, while satisfying immediate obligations. Both solvency

and liquidity are based on the companys balance sheet, which indicate the financial conditions

of a business as at a given point in time. Stability is the firms ability to remain in business in the

long-run without having to sustain significant losses in conducting its business. Assessing a

companys stability requires the use of the income statement, and the balance sheet, as well as

other financial and non financial indicators.


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There are several methods used in financial analysis. Kreso, et al, (2007), also noted that

financial analysts often compared financial ratios of solvency, profit accounting (profitability),

growth, etc.

Past performance is done across historical figures, certain mathematical with statistical

techniques, including present and future values. This extrapolation method is the main source of

errors in financial analysis as past statistics can be poor predictors of future prospects plus

comparative performance which is a comparison between similar firms.

These ratios are calculated by dividing a group of account balances, taken from the balance sheet

and or the income statement by another for example

N / equity = return on equity,

Net income / total assets = return on assets,

Stoke price / earnings per share = P / E ratio

This scholar has further noted that comparing financial ratios is merely one way of conducting

financial analysis. Financial ratios face several theoretical challenges for instance, they say little

about the firms prospects in absolute sense. Their insights about relative performance require a

reference point from other time periods or similar firms. One ratio holds little meaning, and as

indicators, ratios can be logically interpreted in at least two ways. One can partially overcome

this problem by combining several related ratios to paint a more comparative picture of the

firms performance. Several factors may prevent year end values from being representatives. A

ratio value may be distorted as account balances change from the beginning to the end of an

accounting period. So, use average values for such accounts whenever possible.

Financial analysts can also use percentage analysis which involves reducing a series of figures as

a percentage of some base amounts. (Kreso, D.E, Waygandt, J.J, and Warfield, T.D). For

example, a group of items can be expressed as a percentage of net income. When proportionate

changes in the same figure over time, period expressed as a percentage is known as horizontal

analysis (Kresto, et. Al, 2007, p. 1320).


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Another method is comparative analysis. This provides a better way to determine trends.

Comparative analysis presents the same information for two or more time periods and is

presented side-by-side to aloe for easy analysis.


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1.2STATEMENT OF THE PROBLEMFollowing Kats et al, (2000), SMEs offer particularly attractive form of management issues

because they live and die quickly. SMEs offer particularly attractive form of management issues

because they live and die quickly. SMEs performances are very essentials for the development of

the economy of any country. History indicates that most new business failures occur in the first

five years of their life.

(Casrogiovanni, 1996). If a large percentage of the SMEs were able to survive and grow into

large competitive players in the global economy. This world has a very positive impact on the

world economy (Monk, 2000). Castrovagionni (1996) expresses the opinion that little, if any

research has directly examined the factors influencing the survival of SMEs.

Our understanding of entrepreneurship and SMEs indicates that survival and growth rates have

not significantly improved since the research interest in the small company sectors started

sometime.

It is imperative that guidelines or models for financial viability and success in this industry are

put in place to ensure the survival of SMEs. In other industries, models of financial health have

been developed as guideline and benchmarks. Business analysis tools, particularly financial

ratios analysis are used to measure financial health.

Identification of weaknesses in financial analysis of an organization, coupled with subsequent

appropriate action, can lead to improved financial health, efficiency and long-term viability

(Miller & Miller, 1991).

1.3OBJECTIVES OF THE STUDYThe research study will aim at achieving the following objectives; however, they are sub-divided

into general and specific objectives.


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(a)General objectivesTo establish analysis tools and financial ratios that may be effectively applied to SMEs in

Uganda in developing fiscal viability.

(b)Specific objectives(i) To find out the importance of these ratios used in SMEs.(ii) To know the type of financial analysis used.(iii) To know the socio-economic background to the study(iv) To know the weaknesses and problems involved in the system of financial

analysis.

(v) To find out possible solutions for the research study.

1.4SCOPE OF THE STUDYThis section of the research proposal will concentrate on the content or subject matter,

geographical location, sample size and data collection.

Geographicallocation

The area selected for the research study will be Kampala district which is the capital city of

Uganda located in the Central region.

Content

The subject matter of the research study is the financial analysis of small and medium enterprises

in Uganda specifically the industrial area.

Samplesizes

The samples selected are women, men boys and girls in the ranges of 10 women, 10 men, 10

girls and 10 boys respectively.

Datacollection

Data will be collected by use of interviews from the accounts departments through the use of

qualitative and quantitative methods.


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1.5SIGNIFICANCE OF THE STUDYThe research study will be of significance to the same people. These are policy makers,

practitioners, researchers and theoreticians.

It is anticipated that these research will have multiple benefits. Among them are the following;

(i) Generate basetime industry averages and a model for assessing fiscal viability ofSMEs in the industrial area 6

thstreet, Kampala.

(ii) Stimulate further discussion and research on the relationship between financialanalysis and long-term viability of SMEs

(iii) The study will provide literature on financial ratio analysis, which will therefore actas a basis for other academic researchers.

(iv) The study will form a basis for further research by other scholars in the area offinancial ratio analysis.

(v) The study will enable the researcher to qualify for the award of a Bachelor ofBusiness Administration degree.

1.6. DEFINITION OF KEY CONCEPTS

1. Financial Analysis: Financial analysis is a process which assesses a business to deal with the

planning, budgeting, monitoring, forecasting and improvement of all financial details within the

organization.

2. Small Medium Enterprises: These are enterprises that require minimal amounts of capital to

startup business and employ not more than 50 people and with capital employment of not more

than 120 million annually.

3. Ratios: Ratios indicate the relationship between two items on the financial statement and how

they are expected to be related.


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CHAPTER TWO

2.0THE LITERATURE REVIEW

2.1INTRODUCTION


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This chapter reviews the existing literature about financial analysis of SMEs. The literature

review will concentrate on the types of financial analysis used by SMEs, Socio-Economic

Background, importance of these financial ratios, weaknesses and possible solutions to the

problem.

2.2SOCIO-ECONOMIC BACKGROUNDThe term financial assessment quite literally refers to investigating certain key financial figures

of relationships for a particular individual, entity, or group of entities (Kaap), 2005; Merrill

Lynch, & third Age 1997). Financial assessment may as well be referred to as financial analysis

Helfect( 1997); White et al, 1998). To avoid confusion, the author notes that the term, financial

assessment is also a term widely used in government settings where it has a very different

meaning and specific application (Cambridge geshire county council, 2006 office of government

commerce, 2002). The governmental use of the term is not there meaning referred in this study.

The figures or relationships investigated through financial assessment may be industry specific

(Ahang, 2005). Whether applied to individuals, profit oriented businesses, non-profit

organizations, associations, trusts, foundations or governmental entities, they all are used to

provide important information regarding financial health of entity (Fernandez, 2003) MGT of

America, (2005)

2.3TYPES OF FINANCIAL RATIOSKresto, et al, (2007), also noted that financial analyst often compare financial ratios of solvency,

profit accounting (profitability), growth etc. past performance which is done using historical

figures and certain mathematical and statistical techniques, including present and future values,


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this extrapolation method is the main source of errors in financial analysis as past statistics can

be poor predictors of future prospects, comparative performance which is a comparison between

similar firms.

These ratios are calculated by dividing a group of account balance(s), taken from the balance

sheet, and or the income statement, by another,

For example,

N / Equity = Return on equity.

Net income / total assets = Return on assets.

Stock price / Earnings per share = P/E ratio.

This scholar has further noted that comparing financial ratios is merely one way of conducting

financial analysis. Financial analysts can also use percentage analysis which involves reducing a

series of figures as a percentage of some base amounts.( Kreso, D.E, Waygandt, J.J, and

Warfield, T.D). For example, a group of items can be expressed as a percentage of net income.

When proportionate changes in the same figure over time, period expressed as a percentage is

known as (horizontal analysis (Kresto, et. Al, 2007, p. 1320). Vertical or common size analysis,

reduces all items on a statement to a common size as a percentage of some base value which

assists in comparability with other companies of different sizes. (Kreso, et al, 2007, p.1320).

Another method is comparative analysis. This provides a better way to compare trends.

Comparative analysis presents the same information for two or more time periods and is

presented side by side to allow for easy analysis. (Kreso, et al, 2007, P. 1319)

A micro enterprise is defined as an enterprise employing a maximum of 4 people; annual

sales/revenue turns over of maximum Uganda shillings 12 million. A small enterprise is defined

as an enterprise employing maximum 50 people; annual sales revenue turnover of maximum

Uganda shillings 360 million. A medium enterprise is defined as an enterprise employing more

than 50 people; annual sales revenue turnover of more than Uganda shillings 360 million.

Uganda investment authority (2008)


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2.4THE IMPORTANCE OF FINANCIAL RATIOSThe benefits of preparing financial statements according to GAAP including consistency,

comparability, understandability, reliability, objectivity, and disclosure (Revsine, Collins, &

Joanson, 2002, Roberts,et al, 1998) statements may be used for internal purposes ( management

information and decision making) or they may be prepared for external use (lending institutions,

regulatory agencies). These statements are generally subjected to an external audit and may be

widely circulated (White et al, 1998). They form the basis for external evaluation such as those

performed by bond rating companies, financial analysts, stoke brokerage firms, individual

investors, lenders etc. however the researchers gap of study will be to research for further

importances and make them known to small and medium enterprises.

2.5WEAKNESSES OR DISADVANTAGES OF FINANCIAL RATIOSFinancial ratios face several theoretical challenges. They say little about the firms prospects in

an absolute sense. Their insights about relative performance require a reference point from other

time periods or similar firms one ratio holds little meaning. As indicators, ratios can be logically

interpreted in at least two ways. One can partially overcome this problem by combining several

related ratios to paint a more comprehensive picture of the firms performance. Seasonal factors

may prevent year-end values from being representatives. A ratios values may be distorted as

account balances change from the beginning to the end of an accounting period. Use average

values for such accounts whenever possible.

Financial ratios are no more objective than the accounting methods employed. Changes in

accounting policies or choices can yield drastically different values. They fail to account for

exogenous factors like investor behavior that are not based upon economic fundamentals of the

firm (fundamental analysis) by themselves; financial ratios may not be extremely useful inassessing an individual organizations financial health. However, using specific analysis tools to

examine the information contained in an organizations statement analysis.


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2.6SOLUTIONS TO PROBLEMS FACED BY SMALL, MEDIUM ENTERPRISES WHILEUSING RATIOS

Training offinancialanalysts

Small and medium enterprises through their management should be able to train financial

analysts who are able to use and interpret ratios and financial statements. This will help the

organization to have correct accounting figures.

Firms especially small and medium enterprises should adopt other simple financial ratios

systems. Use of complex financial ratios does not yield good accounting information. The

researchers study will help in advocating and searching for simpler methods.

Small and medium enterprises should use financial ratios in accordance to the size and financial

standard of the firm; small firms dont use complicated ratios because they have limited funds.

Further still, computerization should be encouraged in small and medium enterprises since some

firms use complex ways of solving, understanding and interpreting organizational resources.

CONCEPTUAL FRAMEWORK

SOCIO ECONOMIC

BACKGROUND


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Description oftheconceptualframework

The conceptual framework is made up of five (5) themes. They are socio-economic

background,types ofratios,importance,weaknessesandsolutions.

- equity ratios- liquidity ratios- efficiency ratios- profitability ratios- investment ratios

- used by professionals- operations of business-

purchase of certainmaterials

- acquire rent/lease

IMPORTANCE

- Training of financialanalysts

- Adopting othersimplefinancialsystems

- Usageaccordingto size

SOLUTIONS

- Financialaccounting- Profitabilityaccounting-

To know past performance- Future performance

WEAKNESS

- Poormanagers- Invalidity- Difficultto use- Unreliable- For onlybigenterprises

TYPES/ METHODS


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The socio-economic background has got professionals, business operations, materials and

equipments for use.

The company then adopts various ratios to analyze its operations such as equity, liquidity,

efficiency, profitability and investment.

These ratios are important for the company in evaluating previous performances, profitability

and the future prospects of the company.

Weaknesses are bound to occur such as poor management, unreliability, invalidity and difficulty

in use.

However, weaknesses tend to have solutions and they are training financial analysts,

computerization and usage according to size of the company and adopting simpler financial

systems.


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CHAPTER THREE

3.0METHODOLOGYThis chapter presents a detailed plan of how the study was conducted. It represents the research

design, area and population of study, sample selection and size, data collection and data analysis

plus limitation of the study.

3.1RESEARCH DESIGNThe study will adopt a cross sectional research design based on both quantitative and qualitative

data and an explanatory research design that will be used to seeking to know why the SMEscontinually die in their early ages from both primary and secondary sources.

3.2AREA AND POPULATION OF STUDYThe area of the study will be on 6

th. Street (Uganda Batteries), Industrial area and the population

will include the accounts officers of SMEs in the industrial area Kampala.

3.3SAMPLE SELECTION AND SIZEBoth stratified sampling and simple random sampling will be used to select respondents.

The study will use a sample of respondents that will provide the required data that represents the

view of the overall population. The respondents will be limited to accounts officers who will

constitute the sample size. The sample size will constitute 40 participants

3.4 APPROACH TABLE

Approach Sampleselection Sampletype Datacollection


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techniques

y Quantitative

y Qualitative

StratifiedPurposive

Simple random

10 Managers10 Accountants

20 Employees40 Respondents

InterviewsQuestionnaires

Focus groups

3.5 DATA COLLECTION

3.5.1 PRIMARY SOURCEThis project will use business analysis tools to explore the financial health of SMEs in Uganda in order to

build a model for assessment of financial viability.

3.5.2 SECONDARY DATAThis will be obtained from literature on financial analysis, company reports, and financial accounts of the

company for the previous years. Therefore both qualitative and quantitative methods

3.6 DATA ANALYSIS.Data will be retrieved from copies of revenue of revenue reports, which will be entered by the author into

Excel spreadsheets. The data will be used for further analysis and application of business analysis

techniques. Data analysis using financial analysis tools identified in chapter two will be performed inconjunction with the research questions.

3.7 LIMITATION OF THE STUDYThe following will be the anticipated limitation of the study.

(i) Time may not be enough to have data collected(ii) Lack of enough research materials(iii) The study is likely to be costly(iv) Different people have different languages therefore language barrier is likely to be a danger

to the researcher.

REFERENCES

Abell. D.F. defining the Business: the starting point of strategic planning, Engle wood cliffs


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Agbonifor, et al, (1999), The Business Enterprise in Nigeria

Asika N. (1991), Research Methodology in Behavioral Sciences, Nigeria

Bahemuka P.K. (2006). Income Tax in Uganda, 2nd Ed Kampala.

Kreso, D.E, Waygadnt, J.J and Warfield T.D (2007)

International Accounting 12th

Ed Hoboken, N.J: John Willy & sons Pg 1320 ISBN 0-471-74955

Bergevin, P.M (2002). Financial Statement Analysis, Prentice Hall.

Bers, T.H (2001). Measuring and reporting completeness. New directions for Institutional

Research, summer 2001(110), 29-40

APPENDIX I


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Particulars Unitcost(UGX)

Airtime 30 000

Transport 60 000

Typing & Printing 15 000

Gifts 20 000

Meals 30 000Total 155 000

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Financial Analysis of Small and Medium Enterprises (Tavian) Auto Saved)