THE ROLE OF RATIO ANALYSIS IN BUSINESS DECISION-MAKING IN NJEIFORBI BAKERY BUEA.

ABSTRACT

Most businesses’ primary objectives are profitability, efficiency and solvency.  The achievement of these objectives requires efficient management of resources of the business through planning, budgeting, forecasting, control, and decision–making.  Also, the strengths and weakness of the business need to be identified and necessary corrective measures applied.  Interestingly, accounting provides information that facilitates these functions. Thus, this study is focus on assessing the role of ratio analysis in business decision-making in Njeiforbi bakery Buea. To achieve this objective, the study was broken down into three specific objectives which were; to examine the extent to which profitability affect business decision-making in Njeiforbi bakery Buea, to ascertain how liquidity impact business decision-making in Njeiforbi bakery Buea and finally to determine the impact of solvency in business decision-making in Njeiforbi bakery Buea. The study adopted both the descriptive research design and the cross sectional research design. The linear regression model was adopted for test of the hypothesis, while primary data were used through the administration of 30 questionnaires to the respondents who were employees of Njeiforbi bakery Buea. The findings of the study revealed that ratio analyses accounts for a 36% variation in decision making at Njeiforbi bakery. The findings further showed negative and a non-significant relationship between profitability ratio and liquidity ratio on decision making. While solvency ratio has a significant and positive effect on decision making at Njeiforbi bakery. Based on the findings of the study, the study recommended Njeiforbi Bakery to include a more comprehensive and in-depth analysis of ratios beyond the commonly used profitability and liquidity ratios, to ensure that ratio analysis is conducted consistently and regularly to enable the management to make prompt decisions and combine ratio analysis with other techniques for decision-making, such as the SWOT analysis, to generate a more holistic perspective of the business

CHAPTER ONE

INTRODUCTION

1.1 Background of the study

Most businesses’ primary objectives are profitability, efficiency and solvency.  Profitability is the ability of a business to make profit, while solvency is the ability of a business to pay debts as they come due. The achievement of these objectives requires efficient management of resources of the business through planning, budgeting, forecasting, control, and decision–making.  Also, the strengths and weakness of the business need to be identified and necessary corrective measures applied.  Interestingly, accounting provides information that facilitates these functions (Zietlow, Hankin, Seidner, & O’Brien, 2018).

Financial ratio analysis can be helpful if used in conjunction with proper knowledge of factors affecting a business, and not just mechanically. Financial ratio analysis is used to convey the fiscal health and performance of an organisation to various stakeholders such as owners, customers, managers, suppliers, vendors, lenders, regulators and competitors. This is done by analysing information available in a firm’s financial statements. This system originally started in banks in the US in the 19th Century to gauge the loan repaying capacity of organisations. It was later extended to investors’ decision-making for business purposes using financial ratios. Later, with corporate organisations emerging, the relevance of ratio analysis was understood even more  (Gerrish & Spreen, 2017). Adam (2014), noted that over the years, researchers have continually established the utility of financial ratios in investigating various aspects of business like profitability, solvency and efficiency. It provides trends within organisations by analysing fiscal statements over a large number of financial years (FYs). This is extremely useful to understand the direction of growth of an organisation and identify any trends that affect performance.

Basically, accounting measures and communicates economic information needed for decision–making.  Thus, the American Accounting Association defined accounting as “the process of identifying, measuring and communicating economic information to permit informed judgments and decisions from the Income Statement and the Balance Sheet”.  The Income Statement shows the profitability or operational result of a business, while the Balance Sheet shows the solvency or financial position of a business. Although profits are often used as the basis for judging the performance of a business, such profits must be related to the various items of the financial statements in order to be meaningful and useful for decision making. Furthermore, owing to the summarized nature of financial statements, a lot of truth is hidden in them. Thus, they need to be analyzed and interpreted by means of financial ratios to enable the users understand the meaning of the absolute amounts shown in them, and make informed business decisions (Palepu, Healy, Wright, Bradbury, & Coulton, 2020).

Mazikana (2022), noted that Business decisions like to make or buy, investment or divestment, expansion or contraction, capital-organization or reconstruction amongst others cannot be properly made without the aid of financial ratios. They give cue to the financial strengths and weaknesses of a business, and highlight aspects of a business requiring further investigation.  The Accounting Standards Board recommends that listed companies include an operating and financial review that provides ‘a framework for the directors to discuss and analyses the business’s performance and the factors underlying its results and financial position, in order to assist users to assess for themselves the future potential of the business’.

This information can be used by decision-makers to improve the organisation’s position in the industry. Ratio analysis is also a tool to discern how efficiently an organisation is using its assets and liabilities and whether the financial resources are over or underutilised. To help managers in their decision-making process, several categories of ratios are used. First, the liquidity quotients like current ratio, quick ratio and cash ratio, measure the ability of an organisation to meet its current liabilities with the use of current assets (Aithal, 2017). Financial ratio analysis can be a very important analytical tool for business decision-making if it is used in conjunction with a proper knowledge of factors affecting a business and not just used mechanically. If the limitations are considered, they can be very useful to a savvy business manager.

Decision making on the other hand is crucial in today’s business environment. It is the process of evaluating various options and selecting the most appropriate one for the long-term success of the organization. In the business environment, decision making is necessary at all levels, from the top management to front-line employees. The decisions made in an organization can significantly affect its success, as well as the well-being of stakeholders (Triaa, Gzara, & Verjus, 2016). Business decision making is a complex process that combines analytical thinking, creativity, and intuition. Decision makers must analyze information from various sources, including internal and external data, market trends, and customer behavior. They must then weigh the pros and cons of each option and make choices based on their knowledge and experience. To be able to make effective decisions, decision-makers must have the right skills and tools. They need to be able to analyze data and interpret it accurately. They must also be able to apply critical thinking and creative problem-solving skills to identify and evaluate different solutions. Moreover, they must have excellent communication skills to collaborate effectively with others and implement decisions successfully.  Effective decision making requires a combination of analytical thinking, creativity, and intuition. To make informed decisions, business professionals must have the right skills and tools, and they must be able to apply them in a timely and effective manner, as noted by Caro, et al, (2014).

Ratio analysis is an important tool in business decision making because these ratios are used to provide insights into a company’s financial health, enabling management to make informed business decisions. The ability to make sound financial decisions is crucial for the long-term success of any business, especially in today’s competitive environment. Therefore, this study aims to examine the role of ratio analysis in the decision-making process of Njeiforbi Buea.

1.2 Statement of the Problem

Decision making in business units is a crucial process as it determines the success or failure of a company. According to research by McKinsey & Company, companies that are considered decision-making leaders generate 5-6% higher returns to shareholders than those considered decision-making laggards (Birshan & Karrenbrock, 2019). Therefore, effective decision making can boost a company’s financial performance and give it a competitive edge over competitors. Thus, must businesses have understood the relevance of decision making. This has thus encourage their moves to be attracted in those areas that could positively influence their decision making process.

According to the study of Mazikana (2022), financial ratios analyses is the main path that decision makers can use for proper decision making.  Ratio analysis plays a significant role in business decision making as it provides financial information that helps managers assess a company’s financial performance. Researchers such as Murthy and Rao (2010) identified profitability, liquidity, and solvency as the main components of ratio analysis. The application of ratio analysis in decision making is critical as it enables managers to make informed decisions based on financial data. When making decisions, managers rely on financial ratios to make comparisons, and this helps them determine the financial status of the company. These comparisons help managers identify strengths and weaknesses, allowing them to make decisions that promote the financial stability of the company.

Profitability is a critical component of business decision making as it plays a crucial role in the long-term sustainability of the company. Managers use profitability ratios to assess the company’s ability to generate profit from its operations. Researchers have shown a positive relationship between profitability and decision making (Gujarathi & Natraj, 2011). The higher the profitability ratio, the better a company’s financial performance, and the higher the chances of making informed decisions that promote growth and profitability. Liquidity also impacts decision making in businesses. A company’s liquidity position is critical because it determines the ability of a company to pay off debts in the short term. Liquidity ratios help managers assess the company’s ability to pay off its short-term obligations. A company with a higher liquidity ratio has a higher capacity to meet its short-term obligations, and managers would likely make decisions based on this information. Moreover, liquidity ratios can help identify liquidity issues and help managers make decisions on ways to improve liquidity. Solvency ratios also impact decision making. Solvency ratios help managers assess the long-term sustainability of the company. A company with a high solvency ratio has a higher chance of surviving in the long run. Managers would make decisions based on solvency ratios to ensure the long-term sustainability of the company.

Decision making in business is critical for a company’s success, and effective decision making is dependent on ratio analysis, especially in the case of Njeiforbi bakery. Therefore, managers must consider financial ratios when making decisions, as it can impact a company’s performance and success. Thus, these are all the motivations to this study that is aimed at investigating the role of ratio analyses on the decision making process of Njeiforbi bakery.

1.3  Research questions

1.3.1 Main research question

What is the role of ratio analysis in business decision-making in Njeiforbi bakery Buea?

  1.3.2 Specific research questions

1. To what extent does profitability ratio affect business decision-making in Njeiforbi bakery Buea?
2. How does liquidity ratio impact business decision-making in Njeiforbi bakery Buea?
3. What is the impact of solvency ratio in business decision-making in Njeiforbi bakery Buea?