Question

And the Winner Is... The will of a distant eclectic relative left you and your cousin as sole beneficiaries of an estate consisting of $500,000 in shares in Facebook, $500,000 in shares in Advanced Micro Devices (AMD), and $6,000,000 in bonds that will mature five years from now. The terms of the will stipulate that one of you will get all the Facebook shares, and the other will get all the AMD shares. When the bonds mature, they will be sold and the full proceeds from that sale will be given to the one of you two whose shares had been the most profitable investment. The will did not specify which one of you should get which shares. Instead, it required that the winner of a coin toss would get to select which shares to take. As luck woulds have it, you won the flip of the coin and get to choose which shares will be yours. To make the choice, your only resources are financial statements in the annual reports of the two companies. Make your choice and explain what information in the financial statements was particularly important for your decision.

What key factors or elements would form the decision?

Answer 1

The information and key factors for selection are as follows --

1. NET PROFIT -

The net profit is the money that a business has left over after paying all expenses. It is the most crucial factor for the decision. Unsustainable profits are bad, and losses can be good if you're on track to profitability as you scale up.

2. SALES -

Sales trend are required to be looked into. Upward or downward trends are important factors which is required to be seen before investment. Investors also care about sales growth. Are you showing an upward trend, or did the initial excitement fizzle out?

3. MARGINS -

Profit margins are required to be looked into. If you have low margins, you'll need to demonstrate a plan for improving them.Higher margins generally lead to a better return for investors.

4. CASH FLOWS -

Investors view of cash in the bank as a sign that you can deal with unexpected problems and capitalize on new opportunities. Free cash flow, the amount of cash that's left after you meet your expenses each period, is a sign of sustainable operations. If you have both, investors won't have to worry that you could go under at any time.

5. CUSTOMER ACQUISITION COST -

Customer acquisition cost tells how much you have to spend to get one new customer. It's calculated by dividing your marketing spend by your number of new customers.Acquisition cost is important because a product that's profitable from a material and labor standpoint may not actually be profitable if you have trouble getting people to buy it.

6. DEBT -

One of the most common debt measures is the quick debt ratio—current assets (excluding inventory) divided by current liabilities. A quick ratio of 1 indicates that you can exactly meet your obligations, and the higher it is above that, the more flexibility you have.

7. ACCOUNTS RECEIVABLE TURNOVER -

Accounts receivables turnover shows how long it takes you to collect money from customers. This tells investors two important things. First, are you willing to do what's necessary to make sure you get paid? Second, how stable are your customers?

8. BREAK EVEN POINT -

The break-even point is a specific sales target that will cover your expenses and get you to profitability.

9. PERSONAL INVESTMENT -

If you have money at stake, investors believe that you'll do what it takes to protect it. Hence, it also becomes an important factor for decision.