Question

Door to Door Company suffers from having big gap between current ratio and quick ratio. Second, the company has considerably good gross profit while the net profit ratio is relatively low. Third the company is threatened by bankrupt even they still have achieved net profit.

Explain the reasons that may lead to these three financial phenomena and propose solutions to avoid the serious consequences on DDF ?!

Answer 1

1) Reasons of Big gap between Current and Quick Ratio can be:

1) High Inventory

2) Prepaid Expense

As these are not liquid assets, the gap between Current and Quick ratio is because of these items.

Solution

Company should control the production of Inventory and keep a check on prepaid expense. Low liquid ratio may lead to less cash which may results in Cash crunch and company may suffer losses. Maintaining high Inventory is very risky and that is why all big companies are shifting to Just in Time model. In this type of model, production is taken place after the order comes. It works on Pull model.

2) Reasons of High Gross Profit and Low Net profits

This problem can happen due to high indirect expenses like marketting and Sales expense, office and admin expenses.

Solution

Company need to keep a track on Indirect expenses as they play a major role in deciding the profitability of the organisation. Often Companies ignore the Indirect expenses as they are not conisdered important but in major cases they become the reasons for losses. To control the indirect expenses, a team should be prepared and they should be given responsibility to keep a track on these expenses.

3) Reasons for Bankruptcy

As we can see company have less liquid ratio and Net profit is also low, there are chances people loss believe on the organisation and file the application for Bankruptcy. To fight with this problem, the most important thing is increase the liquid assets and NP Margin by the ways suggested in Part A and B.

Solution

Company should focus on Business and improve the condition of Cash levels. They should build the trust again and help the company to survive in tough competition. Induction of more Capital can solve the problem and controlling the extra cost becomes very important