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Financial Stability of Organisations Selected

Both Persimmon and Redrow are low-geared companies as indicated by the gearing ratio. This is normally a favourable argument towards the financial stability of the organisation. The higher the gearing ratio, the greater the amounts of debts. Such medium of finance necessitates higher financial commitments like interest and debt capital repayments (Pike et al. 1999, p 558). Therefore if high the risk of instability is greater during adverse trading conditions. Even though low-geared the gearing ratio of Redrow increased during the periods considered on the contrary of Persimmon.

Upon examination of the cash flow statement one can realise that such increase mainly stemmed from a substantial bank borrowing of ? 170 million attained in 2007. Attention should be placed by management to ensure that the level of debt is remained under control, especially in light of the weak cash flow noted in the previous section. The interest cover, which portrays the ability of operating profits to cover interest expenditure decreased for both organisations (Randall 1999, p 472). However, there is still a substantial ratio due to the low amount of debt noted above.

In light of the cash problems recognised above it is pertinent that the ability of the firm is not

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only examined from the profit side but also from the cash side. One ought to bear in mind that the profit and loss account is prepared under the accruals basis, which provides a different point of view from the cash perspective. The cash debt coverage ratio for Persimmon decreased steadily from 88. 13% in 2006 to 19. 32% in 2007. This outlines that the ability of operating cash flow to cover debt decreased (Boise State University). The situation of Redrow is far worse than that of Persimmon.

Due to the net cash outflow of operating activities outlined in the cash flow statement, the company is not able to settle interest commitments from its operations. It should either dispose of assets or attain equity or debt finance to meet such expenditure. This is a very serious matter, especially in light that the cash debt coverage further deteriorated from -12. 39% to -20. 1% during the period examined. In view of the arguments noted above, Persimmon holds a better financial position than Redrow.

1. 4 Financial Strengths and Weaknesses of Organisations Selected

From the financial analysis conducted above, the financial strengths and weaknesses of Persimmon and Redrow can be outlined. These can thus aid in highlighting the most optimal company for investment purposes.

1. 4. 1 Financial Strengths of Persimmon

The financial strengths of Persimmon encompass:

• An increasing profit margin arising from improved efficiency leading to an rise in the company’s profitability;

• Material cash generated from operating activities; and

• Persimmon is a low-geared company, which thus limits financial commitments arising from debts.

1. 4. 2 Financial Weaknesses of Persimmon

The forthcoming entail the financial weaknesses of Persimmon:

• Declining effectiveness in utilising the firm’s resources for sales generation;

• Weak working capital management leading to high risk of liquidity problems;

• Declining trend in cash generated from operating activities;

• High inventory leading to substantial money tied up in stock;

• Deteriorating ability of net income to cover interest expenditure arising from debts; and

• Declining trend in the capability of cash to cover debts. This outlines a weakening the organisation’s solvency.

1. 4. 3 Financial Strengths of Redrow

The salient financial strengths of Redrow encompass:

• The company outline ability in using the resources entrusted to it proficiently for sales generation; and

• Redrow is a low-geared company, thus providing more room for a good financial stability.

1. 4. 4 Financial Weaknesses of Redrow

The financial weaknesses of Redrow, which by far exceed its financial strengths, are highlighted in the proceeding points:

• Deteriorating cost efficiency stemming from rising expenditure, thus hindering significant generation of profits;

• Ineffective management of working capital at the detriment of a sound financial position;

• Inability to generate cash from day-to-day activities. In fact a cash outflow is arising from the organisation’s operations;

• Excessive inventory levels refraining a good cash and cash equivalents balance;

• Decreasing capability of profits to cover debt commitments.

An increasing trend in gearing is noted, which may be partly responsible to such issue; and

• Cash from operations is not able to cover debts due to cash outflow arising. Cash is therefore a critical problem for this company.

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