💡 What does “strategic decision-making” mean?

Strategic decision-making is when a business plans its long-term direction — like deciding
whether to:

 Expand into a new market,

 Launch a new product,
 Merge with another company, or
 Cut down costs in certain areas.

To make these smart decisions, managers need accurate financial and accounting information.
That’s where accounting data and financial statements become very useful.

📊 How accounting data helps in developing strategies

A business can’t plan its future without knowing its current situation.
Here’s how accounting data helps:

1. Checking how the business is doing (profitability & performance)

 Managers look at financial statements (like the income statement and balance sheet) to
see:
o Are we making enough profit?
o Are we spending too much?
o Is our financial health improving or getting worse?
 These are found using ratios like profit margins, return on capital, etc.

2. Finding out if there’s enough money available

 Managers must check if the business has enough cash or can borrow for future projects.
 Liquidity ratios (like current ratio) tell if the company can pay its short-term debts.
 Gearing ratio tells how much of the company’s money comes from loans — high gearing
means more debt and higher risk.

3. Comparing with competitors

 Companies don’t work alone — they compare their performance with similar businesses
in the same industry.
 For example, if a competitor’s profit margin is 20% but yours is only 10%, you might
need to improve efficiency or reduce costs.
📘 Contents of an Annual Report
An annual report is a document published each year by a company to show how it performed
and what its plans are. It helps both managers and outsiders understand the business better.

Here’s what it includes:

1. Financial Statements

 Statement of Profit or Loss (Income Statement): shows profit made in the year.
 Statement of Financial Position (Balance Sheet): shows what the company owns
(assets) and owes (liabilities).

2. Chairman’s Statement

 A short overview written by the chairman.

 Talks about what the company achieved during the year.
 Mentions challenges, future prospects, and how the economy or politics might affect
the company.

3. Chief Executive’s Report

 More detailed than the chairman’s statement.

 Breaks down performance by division, region, or product.
 Talks about big projects, takeovers, closures, or future plans.

4. Auditors’ Report

 Written by an independent firm of accountants.

 They check whether the company’s accounts are accurate and fair.
 If everything’s fine, they say the accounts give a “true and fair view”.
 If not, they explain what’s wrong or what they disagree with.

5. Notes to the Accounts

 These give extra details that aren’t in the main financial statements.
 For example:
o Which method of depreciation was used,
o What loans the company has,
o What types of assets it owns.
 These notes help readers fully understand the numbers.
🧾 Usefulness of the Annual Report for Stakeholders
An annual report is not only for managers — it’s useful for many groups of people called
stakeholders (anyone interested in the company).

Here’s what each group uses it for:

Stakeholder How they use accounting data

- To measure company performance and compare it with goals or
Managers competitors.- To make big decisions (like expansion).- To set and control
budgets.- To improve departments and track progress.
- To decide if they should lend money or increase overdrafts.- To check if the
Banks
business can repay loans.
- To see if the business can pay its bills on time.- To decide whether to give
Suppliers
credit or ask for early payments.
- To check if the company is financially stable.- To know if they can rely on it
Customers
for future products, spare parts, or services.
- To calculate taxes.- To see if the company is helping the economy by
Government &
creating jobs.- To ensure it follows accounting laws.- To check if the
Tax Authorities
company might close (which could affect employment).
- To see how valuable and profitable their investment is.- To decide if they
Shareholders should keep or sell their shares.- To compare performance with other
(Owners) companies before buying new shares.- To check how much of the profit is
shared as dividends.
- To check if their jobs are secure.- To see if the company can afford pay
Employees raises.- To compare their wages with management’s salaries.- To know if the
company is growing or shrinking.
- To see if the business is doing well, which could bring jobs and benefit the
Local Community area.- To check if the business might close, which could harm the local
economy.

✅ Summary (in short)

 Accounting data helps businesses make smart, long-term decisions.

 Financial statements and ratios show how the business is performing.
 Annual reports include detailed financial info and updates from top management.
 Different stakeholders use the annual report for different reasons — from checking job
security (employees) to deciding on loans (banks).
Would you like me to make this into a simple revision summary table or mind map (for easy
memorising before exams)?

Perfect — let’s make Section 36.2: “The use of accounting data and ratio analysis” easy to
understand and detailed in simple words, so you can remember it clearly for tests or essays.

💡 Overview
Strategic decisions — like expanding, merging, or changing business structure — are big,
expensive, and hard to reverse.
To make good long-term decisions, managers need to study accounting data and ratios
carefully.
This helps them understand:

 How well the business is performing,

 What problems exist, and
 What strategies might improve things.

🧮 Why ratio analysis is important

A single ratio alone doesn’t say much.
But when you compare ratios:

1. Over time (called trend analysis), and

2. With competitors (called inter-firm comparison),

you can see whether the business is improving, struggling, or doing better/worse than others.

1️⃣ Trend analysis – comparing with past years

This means comparing this year’s ratios with previous years.

Managers ask:

 Are profits going up or down?

 Is our liquidity (cash position) improving or worsening?
 Is efficiency increasing?
 Are shareholders getting better returns than before?
➡ Example:
If profit margin fell from 20% to 10% in two years, it’s a negative trend — something needs
fixing.

2️⃣ Inter-firm comparison – comparing with competitors

This means comparing your ratios with other similar businesses.

Managers ask:

 Are we more or less profitable than competitors?

 Are we taking more risk (higher gearing)?
 Are we managing inventory and debts better or worse?
 Are our shares a better or worse investment?

➡ Example:
If a rival company’s return on capital employed (RoCE) is 15% and yours is only 7%, your
business is less efficient at making profit from its investments.

📊 How ratio analysis affects business strategy

Ratio analysis shows where problems exist.
Managers then create strategies to fix them.
Let’s look at the three examples in the text.

🏢 Example 1 – Company A (Falling Profitability)

Year Gross Profit Margin Operating Profit Margin RoCE

2019 23% 7.8% 6%
2020 18.5% 5% 3.5%
2021 18% 4% 4%

➡ Problem: Profitability is falling every year.

Competitors are doing better — so something is wrong.

Two strategies to improve profit:

 1. Reduce overhead expenses (e.g. by delayering — removing management layers to cut
costs).
✅ Advantage: Cuts expenses quickly, raises profit.
❌ Disadvantage: May lower morale or reduce efficiency if too many managers are
removed.
2. Increase promotional spending to improve brand image and raise prices.
✅ Advantage: Can boost sales, loyalty, and profit margins.
❌ Disadvantage: Advertising is expensive; results may take time.

💭 Evaluation:
Both can help, but if the market is competitive, improving brand identity might bring longer-
term benefits.
If cash is tight, cost-cutting may be better short-term.

🏦 Example 2 – Company B (High Gearing)

Year Gearing Ratio Dividend per Share Trade Payables Turnover (Days)
2019 45% $0.50 10
2020 50% $0.60 10
2021 60% $0.65 8

➡ Problem: Gearing (debt) is too high compared to competitors — risky if interest rates rise.

Two strategies to reduce gearing:

1. Reduce dividend payments to retain more profit and use it to pay off debt.
✅ Advantage: Cuts gearing safely; strengthens finances.
❌ Disadvantage: Shareholders might be unhappy about lower dividends.
2. Delay payments to suppliers (currently only 8 days).
✅ Advantage: Slows cash outflow and keeps more cash available.
❌ Disadvantage: Suppliers may be angry or stop offering discounts/credit.

💭 Evaluation:
Reducing dividends is safer long-term; delaying supplier payments could harm relationships and
reputation.

🪑 Example 3 – Company C (Low Financial Efficiency)

Year Inventory Turnover Trade Receivables (Days) Trade Payables (Days)

2019 8.5 34 9
Year Inventory Turnover Trade Receivables (Days) Trade Payables (Days)
2020 7 32 12
2021 6.5 35 10

➡ Problem: Efficiency is falling:

 Inventory turnover is slower → stock staying unsold.

 Receivables (customer payments) take longer.
 Payables (payments to suppliers) are inconsistent.

Two strategies:

1. Introduce Just-in-Time (JIT) ordering.

✅ Advantage: Less inventory held → less money tied up in stock.
❌ Disadvantage: Risk of delays if suppliers can’t deliver on time.
2. Only sell online (customers pay first).
✅ Advantage: Immediate cash inflow, fewer receivables.
❌ Disadvantage: Cuts off retailers and may reduce customer base.

💭 Evaluation:
JIT improves efficiency for stable, reliable supply chains.
Online selling improves cash flow but suits only certain markets (e.g. consumers, not retailers).

🧠 Reflection (What this teaches)

These examples show that ratios identify problems, but they don’t give final answers.
Managers must also:

 Do deeper research into causes,

 Check if they have enough money/resources for change,
 Ensure the strategy supports business goals.

So, ratio analysis = diagnosis, not the cure.

💰 Effect of Finance Decisions on Ratios (Debt vs Equity)

Let’s use Company D to explain.
 Item Amount
Non-current liabilities (debt) $65m
Shareholders’ equity $55m
Capital employed $120m

➡ Current gearing ratio:

= (Debt ÷ Capital Employed) × 100
= (65 ÷ 120) × 100 = 54.2%

The company needs $14m to build a new factory.

Option 1: Borrow $14m (debt)

New gearing ratio = (79 ÷ 134) × 100 = 59%

 Gearing increases (riskier, but cheaper if profits rise fast).

Option 2: Sell $14m of shares (equity)

New gearing ratio = (65 ÷ 134) × 100 = 48.5%

 Gearing decreases (safer, but profits are shared among more shareholders).

🔍 Key takeaways

 More debt → higher gearing → higher risk (especially if interest rates rise).
 More equity → lower gearing → safer, but shareholders’ returns may fall.
 If profits are likely to grow quickly, high gearing can be good (because fewer
shareholders share the profit).

✅ Summary Table
Concept Meaning Why Important
Comparing financial ratios over time or Shows trends, strengths, and
Ratio analysis
with other firms weaknesses
Trend analysis Compare ratios with past years Checks performance changes
Inter-firm See if business is better or worse
Compare with competitors
comparison than rivals
Profitability ratios Show how much profit is made Help plan to raise profits
Liquidity ratios Show ability to pay short-term debts Identify cash flow issues
 Concept Meaning Why Important
Efficiency ratios Show how well assets are managed Help improve operations
Gearing ratio Shows level of debt Helps assess financial risk
Affect gearing and long-term
Equity vs Debt Two main finance sources
safety

Would you like me to write short exam-style answers for the three “Activity” questions (A, B,
and C: improving profitability, reducing gearing, and improving efficiency)?
They’re often asked as “Evaluate…” questions worth around 8–12 marks.

Perfect — let’s make this whole section (36.3 in your textbook: “The impact of changes in
dividend strategy and other business decisions on ratio results”) super easy to understand in
simple, detailed words so you can study it efficiently.

📘 36.3 The Impact of Business Strategies on Ratio Results

Business strategies — like changing dividends, growing the business, or developing new
products — all affect a company’s financial ratios.
These ratios (like profitability, liquidity, gearing, and returns to shareholders) show how strong
or weak the company’s financial position is.

Let’s go through each part carefully 👇

💰 The Impact of Changes in Dividend Strategy on Ratio Results

🪙 What are dividends?

Dividends are the payments made to shareholders as a reward for investing in the company.
Directors decide how much dividend to pay each year based on:

 The profit after tax (how much profit is left after expenses and taxes)
 The liquidity (whether the company has enough cash to pay)
 The need to keep share prices high, especially if they want to issue new shares to raise
finance.

📊 Example: Company E
 Ratio Value

Dividend per share $0.50

Market share price $12

Price/Earnings ratio (P/E) 6

Dividend yield 4.17%

Earnings per share (EPS) $2

One year ago:

 P/E ratio was 9

 Dividend yield was 3.5%

Now the company’s profits (EPS) are falling, so directors expect:

 Next year’s EPS = $1

 New dividend = $0.35 per share

✏️Let’s calculate what happens if the share price stays the same ($12):

1. New Dividend Yield

[
\text{Dividend Yield} = \frac{\text{Dividend per share}}{\text{Market Price}} \times 100
]
= (0.35 ÷ 12) × 100 = 2.9%
2. New P/E Ratio
[
\text{P/E Ratio} = \frac{\text{Market Price}}{\text{Earnings per Share}}
]
= (12 ÷ 1) = 12

📉 Why the share price is unlikely to stay the same

 The EPS is falling (from $2 → $1), showing lower profitability.

 Dividends are also being cut (from $0.50 → $0.35).
 Investors may feel the company is performing poorly, so demand for shares will drop.
➡ Lower demand = share price likely to fall.
However:

 Some investors might stay if they believe profits will recover later.
 Others might sell shares now to avoid losses.

So the share price will probably fall, which can:

 Decrease the P/E ratio, and

 Increase the dividend yield (since yield = dividend ÷ price).

📈 Impact on Shareholders

Positive side (long term):

 Keeping more profit (by paying smaller dividends) may help the company recover, invest
in new projects, and grow later.
 That could increase future dividends and share prices.

Negative side (short term):

 Shareholders who rely on dividends for income will be disappointed.

 The lower payout and falling profit might reduce confidence in the company.
 Share price may drop, reducing the value of their investment.

💭 Summary:
A lower-dividend strategy can hurt shareholders short term but may be better long term if it
helps the company rebuild profits.

💹 The Impact of Business Growth on Ratio Results

When a business grows (e.g., by taking over another company), several financial ratios change.
Growth can be good — but it also brings financial risks depending on how it’s financed.

📊 Example: Company F

 Plans to take over another business (same industry: recyclable plastic).

 This will nearly double its size.
 There will be economies of scale (cost savings from producing more efficiently).
  Some factories will close → lower operating costs.
 The sale of old factory assets will raise cash.
 Some debt will be repaid using that money.

Let’s analyse the likely effects 👇

a) Gearing (Debt Ratio)

 The company is using debt finance for the takeover.

➡ This will increase gearing in the short term because more debt = more risk.
However, if the business sells some assets and repays part of that debt later, gearing will
go down again.

b) Liquidity

 Selling redundant factories brings in cash, improving short-term liquidity (more money
available).
 But if they use most of that cash to repay debt, liquidity might not improve much
overall.

c) Operating Profit Margin

 Closing inefficient factories and achieving economies of scale will reduce fixed costs per
unit.
➡ This should increase the operating profit margin, since the company makes more
profit per sale.

d) Return on Capital Employed (RoCE)

 If the profits of the new combined business more than double, RoCE will rise sharply.
 Higher profits compared to total capital invested = better efficiency and return to
investors.

⚙️The Impact of Other Business Strategies on Ratios

Different strategies affect ratios differently — in the short term and long term.
Here’s a simple breakdown of the table (36.7):

Business Strategy Short-Term Impact Long-Term Impact

Rationalisation (cutting Operating profit margin and RoCE Usually continues to improve
unnecessary costs) increase because costs fall. profitability and efficiency.

R&D costs are high → profit, If successful, profits, RoCE, liquidity,

New Product Development
liquidity, and RoCE fall. and shareholder returns all rise.

Market Development High entry costs → profit margin, If sales grow, margins, RoCE, and
(entering new markets) liquidity, and RoCE fall. returns to shareholders increase.

Lower prices = smaller profit margins If economies of scale are achieved,

Low Price Strategy
unless large sales volume cuts costs. profit margins and RoCE rise.

🧠 Bonus: Is RoCE the Most Useful Ratio for Shareholders?

RoCE (Return on Capital Employed) shows how efficiently a company uses its money to make
profit.

Example:
TTK Prestige had RoCE >15% for 10 years → its share price rose by 5,200%!

That’s a strong link — but:

RoCE is useful because:

 It shows how well the business uses investors’ money.

 A high RoCE attracts shareholders.

However, not the only one:

 Dividend yield shows how much cash return investors get.

 Earnings per share (EPS) shows profit per share.
 P/E ratio shows whether the share price is reasonable.

💭 So, RoCE is important but not the only factor. Investors should look at all ratios together.

🧾 Quick Summary Sheet

 Topic Effect on Ratios

Improves liquidity, reduces shareholder income short term, may help long-
Lower dividends
term growth.

Business growth Gearing may rise; liquidity may fall initially; RoCE and profit margin can
(takeovers) increase if successful.

Rationalisation Lower expenses → higher profit margins and RoCE.

New product
Short-term fall in profit/liquidity; long-term rise if product succeeds.
development

Market development Short-term costs reduce margins; long-term success boosts profits.

Low price strategy May lower margins unless high output reduces unit costs.

Would you like me to turn this into a visual summary chart / mind map (for quick exam
revision)?
It would show how each strategy (dividend, growth, cost-cutting, etc.) affects ratios like
profitability, liquidity, and gearing at a glance.