Accounting and Finance (Essay Sample)

Accounting and Finance by [Student’s Name] Class/Course/Code Professor’s Name University/School City, State Date Accounting and Finance Question 1. Companies must evaluate the best method to create a scenario that maximizes investment returns. The return on invested capital (ROIC) will determine the growth of any company since it provides the percentage growth that the management will use to evaluate their value creation. In most cases, the ratios are used in finance to measure successful companies' profitability and value creation relative to the invested amount shareholders and other parties provide. In most cases, the return on invested capital formula is calculated by considering the cost of investment and returns generated. The formulation of returns is met after the deductions of all taxes where it does not touch the interests. The valuation of that particular investment is formulated by deducting all long-term liabilities within the year from the company's assets. Return on Invested Capital (ROIC) = Net Operating Profit After Tax / Invested Capital. A company is always termed as a value creator in cases where the earning exceeds the cost of capital invested, where this is formulated through the ratio of ROIC. The excess returns show that the company will be able to have future cash flows, which will enable it to proliferate. The principle of creation of value is evaluated through the means companies use to generate cash flows based on returns on capital from the capital acquired from investors. A value creator company considers that the return on invested capital percentage will always have to be two percent higher than the cost of capital. In cases where the percentage ratio of return on invested capital is less than the cost of capital, the company is termed a value destroyer. The calculation of the ROIC of a company is always based on the following formula: Return on Invested Capital (ROIC) = Operating Income (1 – Tax Rate) / Book Value of Invested Capital (t- 1). The use of book value is more reliable for formulating the ratios of any company than the market value, which estimates what will happen in the future. Companies that are growing use their values compared to the market value, which may mislead the company since it uses future expectations, which may sometimes be inaccurate. The return on invested capital must be based on all the projects and their earnings as indicated in the company's records, as well as the amount compared to the cost of capital. The following are numerical examples of the ROIC: A company has a Net Profit (before taxes) of $500,000, a total invested capital of $ 1,800,000, and a tax rate of 40%. ROIC = 500,000(1 – 40%) / 1,800,000 = 16.6% Scenario 2 ROIC = Revenue / Average Invested Capital x NOPAT / Revenue = $2,000 / $1,000 x $100 / $ 2,000 = 10% ROIC = Turnover x Profit Margin = 2.0 x 5.0% = 10% The numerical examples above formulate a mechanism with four major components: tax rates, book value, operating income, and time. These components must be considered in evaluating the return of invested capital ratio, which is net operating profit after tax divided by inserted capital. The main goal of this method's evaluation is to ensure that any company's capital investment at the end of a given period generates the maximum profit. Investors and shareholders use this method of return on invested capital to analyze the strength of any company in that they tend to invest (DesJardine et al., 2022). Numerically, shareholders can determine whether their company is in a better position of value creation or a value destroyer. When there are scenarios of excess returns compared to the capital invested, the company will have more cash flows that can also be invested. The return on invested capital will create a good foundation for decision-making by both the investors and the company's management since it evaluates specific information about the company based on return on capital. There is a need to evaluate the capital structure of any company considered a value creator. The capital structure mainly consists of all the financial operations involved in a company, which involves cash flows. In financing all these operations, a company will have to use debt and any form of equity, which results in operating capital (Cole & Sokolyk, 2018). The debt amounts and equity is constantly analyzed in a company's financial statement to show the profitability rate of a particular company. There is always a need to evaluate the return on equity and any other expected financial ratios that are the basis of the financial analysis of any company. The financial analysis will determine the ability of the company to formulate enough returns from the capital invested by the shareholders and other external creditors. Companies are responsible for creating value from the capital they have acquired from shareholders and investors, and if there is no good internal analysis, the company will be a value destroyer. Cash flows will be generated more in the future once the rate of return on invested capital has exceeded the cost of investment. This implies that the company has implemented financial projects that are good for investment since they can maximize profits compared to the operational costs involved. Any company's ability is measured by the strength of its cash flows at the end of a fiscal year (Herman & Chaidir, 2023). The cash flows must exceed the projected cost of capital in that fiscal year since this will evaluate the company's value on matters of investment. Since nobody will invest in a company that destroys value, investors will need to consider all possible profitability measures that the company they tend to invest in is taking. Profitability and debt ratios are core to any external investor because they give any company's apparent strength and ability, and the balance sheets drive them. A company that is considered to be viable should have a numerical data ratio of between 0.3 and 0.6. The debt ratio is formulated by evaluating a company's total debts divided by total assets. When the ratio is between the required margin, investors will know that the company will generate enough cash flow that exceeds the cost of capital. The operating profit margin is also essential in determining the total cash flows since it indicates that the company is making the required profits. The core aim of any business is to ensure that the rate of return exceeds the cost of capital. Question 2 Several policies and principles must be evaluated since they may lead to scenarios of not creating value in any company. The cases of profitability ratios are supposed to be evaluated because they determine the going concern of any company. The different return on investment capital ratios should be apportioned to the capital invested in the company. The evaluation of ratios is mainly done by internal investors, which are the shareholders and external investors. Investors tend to evaluate any company's ability on its value by determining the return on investment capital that was employed. Profitability ratios give scenarios of companies that are value destroyers. The gross profit margin of a destroyer value company will be less than the capital invested ratio. The numerical example of gross profit margin is given as: Gross Profit Margin = (Revenue – Cost of Goods Sold) / Revenue x 100 For example, if a company has $20,000 in Revenue and the cost of goods is 18,000. The profit margin is; = (20,000 – 18,000) / 20,000 x 100 = 10% This scenario shows that the company is a value destroyer since the percentage of a good-value company is supposed to be above 16%. The other case investors are concerned about is the return on equity, which shows the strength of any company in the business. The return on equity provides avenues through which the company evaluates the insights and margins that will provide growth. The investors are in a position to evaluate the capital they have employed in the company through return on equity. The numerical example is a company with a net income of $35,000 and a shareholders' equity of $400,000. ROE = $35,000 / $400,000 = 0.0875 X 100 = 8.75% The desired rate of equity for companies is supposed to be 15% or more, but in this scenario, it means that the company has high cash flows, but the returns of investment capital still need to be realized. A percentage of 8.75% gives an accurate picture of a value destroyer company. Manipulation of financial statements may deceive investors, and this always occurs on a short-term basis. When financial statements are altered to satisfy the investors that the business is doing well, the cash flows will always be recorded as high, whereas in the real sense, the business is a value destroyer. Companies must evaluate the necessary mechanisms and policies to ensure their value is achieved. The cash flows should be related to the investments made by the shareholders, which are supposed to attain maximum return on investment capital. The claims of investors should not dictate the cash flows of any company; instead, the business strategies should be deployed to ensure maximum returns on investment are attained at the end of any fiscal year. The relevant ratios must be evaluated in a given period to develop the required ratios that create value for the company. The shareholders’ equity determines the value creation of any company. The evaluation of shareholders’ equity shows the ability of companies to create their values by determining the cash flows involved. Shareholders' equity is evaluated as follows: Shareholders’ Equity = Contributed Capital + Retained Earnings The total sum shows the cash flows when evaluating the company's value. The investors should not be blamed on the cash flows that are manipulated to impress the investors. The considerations should be based on internal controls, which e...