Business Financial Analysis - Assignment Example

SMART FARM INSURANCE FINANCIAL ANALYSIS EXECUTIVE SUMMARY The financial performance of any publicly traded companyis of great concern to the owners and potential investors. All the stakeholders of a firm in making their investment and other decision therefore use financial statements. This paper therefore analyze the financial performance of state farm insurance, its performance in the industry, products, and leadership styles that have been pursued by the company to achieve the core objectives. State farm insurance was founded with the core object of providing insurance to the automotives of farmers before it later ventured into other services provision and increased its products range. The company recorded significant growth in the lifetime and is one of the top ranked companies according to the Fortune 500 Company ranking. Companies that operate in highly competitive industry must ensure continuous monitoring of their financial performance and satisfaction of the interests of their stakeholders for them to be going concern. It is for this purpose that potential investors and trhose who wish to engage in trade in the stock market will value the analysis. The use of financial ratios and other financial techniques will be involved in the analysis of the business. INTRODUCTION Insurance industry has become one of the most fundamental sectors in the performance of any economy. Businesses, private organizations, and individuals all insure their products and property to shield them from recording significant losses and potential threats to going concern problem. The choice of state farm insurance has been propelled by the better ranking and the immense interests that investors have on the insurance segment of the economy. Any economic sector that fails to develop robust insurance firms and businesses are bound to record losses that arise due to the uncertain nature of operations. State farm insurance growth in business and operation also makes it suitable for analysis and consideration. COMPANY BACKGROUND State farm insurance was formed in 1922 by its policyholders to insure automobiles. At the early stages, the company was entirely engaged in the insurance of auto of farmers before extending their operations to cover the insurance of banking services, financial services, and life insurance (Mundy 16). George Mecherle who was a retired farmer and was interested in improving the welfare of the members founded it. The company has recorded tremendous growth of both employees and the number of company agents. State farm insurance has expanded its operations in other countries like Canada and has operations in most of the states in America (Mundy 18). State farm insurance was heavily hit by the recession in the financial sector since many policy holders were unable to pay for their insurance. The company has since recorded growth in their base and has policyholders of about 80 million people. MANAGEMENT STRUCTURE Management is the act of planning the future now. An organization that is aimed at surviving in the dynamic and competitive market must have a strong management and visionary leadership. Rust ensured that state farm mutual insurance had a well-educated staff. He believed that through training and knowledge, the employees input, and efficiency will be increased. State farm therefore incurred large amounts of money in taking their employees for further training and education. Better leadership ensured that the future could be forecasted and that risks inherent in the business were absorbed by the business. Management of state farm also motivated their staffs by giving out better packages to their employees and investing heavily on talents (Millenson 45). Rust, the chairperson of the board has thus succeeded in the winning of the confidence and trust of their employees. FINANCIAL ANALYSIS State farm insurance recorded a decline in their revenue and earnings in the financial year 2011. This was attributed to the increased number claims. Moreover, the large portfolio of the company that range from auto mobile insurance to life insurance mitigated the huge losses in other market segment. The company-reduced profitability can also be attributed to regulations by the courts on increases in the premium rates. Despite the legislation barring the company from increasing the premium level by 14.3%, the business still recorded an increase in their revenue level because of the smaller premium increase that was granted (Millenson 63). The decline was caused by the reduction in investments and the increase in the number of claims that the policyholders lodged against the company with regard to property and casualty segments. The company reported a drop in their income by a billion dollars (Millenson 65). The company therefore reduced their labor force by 500 to reduce the extra increase in cost that would result into more losses. The company was recorded weak at the beginning of the hurricane because of the increase in the number of misfortunes that hit the policyholders and affected their property. Insurers with a weaker financial base could not survive the increases claims, overheads, and other operation costs that hiked. In analyzing the financial performance of a company, ratios are used. There are four major types of ratios i.e. profitability ratios, liquidity ratios, gearing ratios and the valuation ratios. The profitability ratios show the returns on the financiers’ money whereas the liquidity ratios are used to determine the firm’s ability to meet their financial obligations as they become due ( Fabozzi & Drake 126). The high profits posted by the company in comparison to the average industry rates reflect that state farm insurance performed higher than most firms do. The profits of the company are reflected by the strong cash inflows that make the company able to meet its legal claims. RISKS FACING INSURANCE INDUSTRY Various factors affect the operations of the insurance industry. Since insurance is all about uncertainties, insurance companies cannot determine with certainty when the policyholders will lodge claims. This therefore poses operation threats to the companies. There are times and periods that the insurance industries are hit by calamities that bring about losses to most of their policyholders. When many policyholders make claims, insurers will incur high costs of compensation hence realizing losses. The second risk that faces insurance businesses is the economic cycles. During the recession for instance, majority of policyholders will lack the ability to make their premium payments (Millenson 63). The revenues of the insurance firms will significantly decline hence a decline in the profitability of the insurance industry. During such periods, investors will withdraw their resources and cause a fall in the share prices of the companies. In addition, the insurance industry suffers several litigation claims that will lead to problems of going concern and tarnish the name of the company. The policy owners whose claims have been rejected by the company can institute litigations against the insurers’. When such litigations are approved, insurers get to make colossal payments that will adversely affect the returns of the insurers. At the same time, legislations have always precluded insurance firms from increasing the premium amounts to increase their revenues. It therefore means that during periods of high inflation, the insurers will incur high claim cost as compared to the low revenues received from the insured persons. Notwithstanding, insurance business has also been affected by the market interest rates and return on the general economy. Insurance firms invest their funds on the financial markets and are affected by the operation of the financial institutions. This therefore means that fluctuations in the money markets and in the interest rates will affect the operations of the insurance firms. Since the investments of insurers are made on the financial sectors, adverse impacts on these segments will be translated on the financial performance of the business. The lack of adequate experts in the insurance industry has also caused insurance firms record low returns and profits. Problems in prediction of the occurrences and wrong determination of claims to be paid make insurance firms incur additional unnecessary losses. The fact that the majority of the population fails to see the critical role of insurance has also been a setback to the insurance industry. Most of the people will make insurance payments only when they foresee occurrence of risk or potential losses. They have therefore failed to make premium payments when the economic performance is attractive. At the same time, most of those covered by the insurance companies have failed to make payments making the income of the insurance firm fluctuate inconsistently (Mundy 18). With unpredictable pattern, the investors and insurance firms will lack the ability to plan with certainty about their profits or losses. SWOT ANALYSIS In evaluation of the performance of a firm or a business, a strength, weakness, opportunity, and threat analysis can be used. The SWOT model has been adopted to identify the firms’ prospects of growth and the risk that are faced by firms in their operation process. State farm insurance is no exception in the analysis that is aimed at ensuring sustained and continued growth. To begin with, the first strength of the company is the diversified portfolio that the insurer posses. The company wide ranges of insurance services mean that that a failure to get profit in one line of insurance might be mitigated by better performance in other segments. For state farm insurance, poor performance in auto mobile performance will be rescued by the performance in the life segment or performance in the banking sector. Another strength of the company is the size and the regional operation. Since state farm insurance operates in more than fifty states, its income is likely to be higher than those insurers that are confined to a smaller region. When some natural occurrence occur in some region of their operations, there is a greater likelihood that other areas will not experience the same level of losses hence better performance. Moreover, the large number of policyholders makes the sharing of losses easier and effective. The more than 81 million policyholders will contribute in the same pool hence making insurance possible. The large capital base and huge cash flows will make the company easily make payments in instances that claims are lodged against the insurer. Nonetheless, the company expertise and large employee base will also act as strength on its performance. The employees of the business have the necessary and desired ability to deal with the cases that arise out of insurance hence prevents the company from incurring higher litigation cost. At the same time, the employees of the company are dedicated towards ensuring that the customers are better served and their interests realized. The management of state farm insurance should concentrate on these strengths to make the company grow and avoid risk of halting operation. The large number of agents that promote the insurance products in Canada and USA is also strength for the business. State farm insurance has because of the strong marketing increases their market share and become the number one provider of private auto insurance. The company home and nonmedical insurance have also been ranked leading in the industry. The insurance companies face several weaknesses. In formulating policies that are aimed at making the company achieve its strategic goals, management must ensure that the policies are adequate to prevent the business from making huge losses. The first weakness that faces the state farm insurances is the fact that most of the policyholders are farmers and their major concern is to insure automobiles. This will therefore increase the risk should the farming sector be affected by harsh weather conditions. The fact that the insurance company insures natural risks makes it susceptible to vast losses that might increase the probability of incurring losses. Opportunities are the avenues that exist for the business to invest in. managers who have the ability of investing in lucrative segments will realize faster growth and record higher return for the shareholders money. In the case of State farm insurance, managers have the opportunity to increase its operations to other regions beyond their current operations. If this is pursued, then economies of scale will be realized and therefore cost per unit will be reduced. At the same time, the increased operations will ensure that the risk will be diversified hence better performance and leading role in the industry (Mundy 38). Another strength that is available for the company is to capitalize on the growing insurance segment to increase their operations. Because most businesses and private firms have continued to embrace investment as a way of planning, the management of State farm insurance should introduce other insurance sectors that will attract a wide number of insured. The company could further engage in partnerships and acquisitions to increase their operations and gain control ion the market. This will make the insurance business penetrate in new markets and increase its turnover. State farm insurance also enjoys the strength of influencing g the formulation of legislation regarding the insurance business. Because the company has a strong expertise base that can influence the legislation of insurance law, it should ensure that their members participate in the legal process hence reducing the litigation threat. Participation in the process would also make the company increase its revenues by being allowed to increase the premium payment through such a process. Finally, threats are the constraints and thorns that are able to adversely impact on the performance of a firm. Litigation threat is the major threat that faces the state farm insurance. The insurer claims from their policyholders and the threat of rescission in inflating the rates of premium must be looked into for the going concern purpose. State farm insurance for example violated the insurance code in California by overcharging drivers and policyholders because of the difficulty in verifying previous auto insurance. In Minnesota, state farm conceded to pay $775000 for fines for breaching some provisions of the no-fault insurance law. The business is further threatened by the natural calamities that increase the chances for loss by the business ( Fabozzi & Drake 129). Calamities like earthquakes and storms increased the level of loss on the company. Again, the fact that the different company’s segments operated independently and without any coordination reveals a poor manner of managing affairs of the company. This explained why an individual with both automobile policy and homeowner policy would receive two different cheques for compensation. This implies that the different business segment does not work as a team to, minimize cost, and reduce the cost the company incurs. The failure of the different segments to work together towards realizing the business dream is thus a threat to increased profitability and a reduction in cost. Technology should be adopted by state far m insurance in integrating the business processes. The good and admirable cash flow of the company makes it have a better ranking in the fortune 5000 list of largest companies. The seventy five million automobile, fire and health policies gives the company much cash inflows i.e. more than 1.6 million in bank account. The good cash flow makes the company able to incur its claims cost and pay for the fines that are imposed because of breach in insurance code. The cash flows have been used in achieving the different expenses of the company. The payment of compensation and legal expenses takes a lion’s share of the business expenses. State farm insurance also, uses a better share of their cash inflows in the paying of remuneration top their staff and management. As a fact, the company, promotion, and marketing functions have been successful because of the good cash flows. Most importantly, investors are interested in putting their money in companies that have better cash flows because this are the only places they are sure of earning dividends and other cash benefits (Fabozzi & Drake 132). The good dividends that was received by the shareholders is attributed not only to the good cash flow but also to the companies laws that state the proportion to be paid out in form of dividends i.e. setting the dividend payout ratio. Notwithstanding, the insurer’s cash flows have been supported by its earnings from the financial and banking sector where the company has invested. Compared to the industry, state farm insurance records better performance than that of the industry. The insurance company will therefore be a preferred investment choice for those with a passion to invest in the insurance sector. In form of assets, state farm insurance has been ranked as one of the largest insurance firms in the United States and Canada. The firm has further been stated as having a surplus in its capital base making it capable of insuring large amount of risk and a large number of risks. It is because of the sound capital base that the company was ranked among the best company according to the fortune 500 listing. State farm also managed to survive the recession and the global economic impacts as a result of the strong financial base. Irrespective of the low payment rates during the recession period, the company was able to sustain the provision of its services and paid its legal cost. State farm also has a large liability claim from claims made by the customers (Millenson 76). The high occurrences of risks and the charges that have been imposed on the business make it have a large liability claim. The company has survived the gearing threat because of the high collections from the policyholders and the profit that the company makes. The large equity base and the trading of the company equities publicly have further boosted its capital base. Investors who want to sell their shareholding will therefore get the opportunity to do so without affecting the capitalization of the company. State farm also has the ability to list new shares in case there is need to increase its capitalization through either new issue or a rights issue of the company’s shares ( Fabozzi & Drake 145). PERFORMANCE INDICATORS There are various parameters, which reveal future performance of the company. First, the profit realized by the business, even though declined, still shows future positive prospects of the company. The business recorded a billion declines in the profits of the company because of the high legal fees and other charges incurred by the company. Management of state farm insurance is optimistic that in the future the business will record positive improvements in the hope that there will be stability in the financial sector and the business cycle (Millenson 72). Moreover, state farm mutual investment plans of recruiting additional agents and staff reveals that the business has expansion program, which will translate in the increase in the financial performance of the firm. Moreover, the company management is willing to enter into alliances with other like-minded organizations as a way of increasing their operations. In the alliances, state farm have the plans of expanding their operations and entering new market segments without incurring high costs of operations. State farm also has positive prospects going by the report of the Harris interactive survey. According to the survey, more than sixty percent of the Americans will be willing to take insurance cover to avoid the negative impacts of crisis like loss of jobs and increase in the level of inflation rates. This will mean that an aggressive marketing strategy by the company will increase the number of policyholders in the company hence increase the revenue level of the company (Fabozzi & Drake 156). The increased number of insured person will make state farm enjoy the economies of scale operations, which will reduce the costs of operations and increase the insurance pool of the company. A better financial base of state farm will imply that the business can record high profits and pay better returns to their customers hence attract the potential investors. CONCLUSION In conclusion, the performance firms in the insurance sector are likely to swell with the increase in number of people who insure their property and life. It is therefore important for the government agencies to formulate better regulations that will ensure smooth and efficient running of the insurance sector to avoid losses that may be imposed on the policyholders. State farm mutual insurance management should therefore utilize the growth prospects of the industry to improve their ranking in the fortune 500 list. RECOMMENDATIONS To begin with, potential investors must closely monitor the financial performance of insurance firms before making any investment decisions. The use of financial ratios wills assist in forecasting the future financial capability of the company. Secondly, close monitoring and continuous study of the performance of the firm should be undertaken to ensure that corrections and adjustments are made before negative returns are posted. Moreover, the interests of the various stakeholders must be considered by the management to ensure Smooth Corporation and interaction of the stakeholders. Finally, a clear vision coupled with better leadership is fundamental in realizing growth and success in the insurance industry. Works Cited Fabozzi, Frank J., and Pamela Drake. The Basics of Finance: An Introduction to Financial Markets, Business Finance, and Portfolio Management. Hoboken, NJ: Wiley, 2010. Print. Millenson., Michael L. "Insurers` Nest Eggs Built To Withstand Storm." Chicago Tribune (2002): 16-19. Mundy, Jane. State Farm Car Insurance: California Overcharges. Carlifonia, 11 3 2007. Read More