In 2002, consumers spent on average 178 on furniture, up from 121 in 1998. This represents a 47% increase on the average amount spent on furniture. Living and dining room furniture is also expected to continue to be the largest sector in household furniture market, estimated to make up just under 52% of the total market in 2004 Proof that the problem exists After analysing their Balance sheet and calculating the Acid test ratio I found out that the company is facing a working capital problem. I also used the following formula Working capital = Current assets – Current liabilities to find the amount of working capital employed. The answer was in negative, which means that the company is experiencing cash flow problems. (Refer back to Section 4.3)
The liability of the business is increasing every year, as they haven’t got enough cash to pay back their debts. This also proves tat the business is facing working capital problems. Proof of causes of problem There are a number of reasons, which suggests why the company is suffering from cash flow problems. These are explained as follows: 1. The following graph shows that the company does good sale in the months of October, November and December. Most of the other months, more money is going out of the business rather than coming in. So they have to pay their expenses without any cash flowing in. However this is a result from Seasonal fluctuations.
2. According to the balance sheet in Year 2003 the company’s annual Sales figures were 88,752. The total cost of sales was 57,654 out of which only 34,696 worth of goods were sold. The remaining goods worth 16,538 were kept as stock. So Stockpiling is another cause of the problem. Since holding stock is very expensive and most of the company’s money is tied up in stock which is unproductive and is creating a shortage for cash.
3. Overtrading is another cause, which has lead to this problem. In year 2003 the company spent a lot on advertising therefore increasing their operating expenses. They also moved into new premises, which also increased the costs. (Refer back to the Profit ; Loss Account appendix ). However this might have been the main reason of growth in sales but taking an early action and spending a larger amount on advertising wouldn’t be considered as a profitable expense.
Proof that the problem stops the business from achieving its objectives In my Questionnaire that I used for the Interview, I asked the Managing director of this firm about how this problem is stopping them to meet their objectives. He replied that this working capital problem is not allowing them to generate enough cash to pay their debts. However since this has been happening for the last three years the creditors somehow are losing trust in the company and have become very strict about the credit terms.
It has also resulted in delaying of their shipments, which has disturbed their lag times of processing the orders. The customers are not happy with this outcome and some of the orders were cancelled, as the requested goods weren’t delivered on the right time. The manager also said that since the profit is going down each year it is really hard for them to convince potential investors to invest in their company even if they consider selling their shares.
In my Primary and Secondary research that I carried out I looked at the problem in depth and have analysed each issue of the problem in quite detail. The following were the key issues, which must be dealt with, in order for me to Proposes Solutions, which would help the business, to recover from these liquidity crises. After the Research I proved that Overtrading, Stockpiling and Seasonal factors were the causes of this Liquidity problems (Refer back to Section 4.5). However these are key issues that must be acted on and my solutions will be based on these.