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We start with Menteen's Statement of Profit or Loss and it's worrying that revenues have declined 6.9% between 2015 and 2016. We're informed in the pre-seen that it's becoming more and more difficult to attract outside investors to finance film productions so fewer films may be made. We can be quite sure that this is the case in 2016. It seems Menteen has been able to produce fewer films in 2016 and it has hurt their revenue growth. It's slightly concerning that while Menteen's expenses have also declined, that decrease between 2015 and 2016 was just 4.6%. One would like to see total expenses move in line with activity. As we believe the decline in revenue is mostly linked to a fall in activity (fewer movies being made) as opposed to declining prices (cinema ticket prices etc), we would like to see expenses (particularly direct operating expenses) decline by 6.9% also. The slower decline in expenses hints at the cost problems that the industry at large tends to suffer from. We're told in the pre-seen that Menteen and other studios find it hard to keep track of costs. With a creative process like the production of a film, it's difficult to rush things and delays are common for this reason. Because expenses have declined more slowly than revenues, we see profits squeezed further - operating profits have declined 21.3% over the year and net profits have fallen 23.9%. Menteen still maintains reasonable sold profit margins but they are moving in the wrong direction. The operating profit margin (operating profit/revenues) has dropped from 13.9% to 11.7% in 2016 and the net profit margin (net profit/revenues) has gone from 10.9% to 8.9% in a year. The company needs to find a way to either make more films and/or get a grip on cost control and exercise more discipline in turning in its film productions on time and withing budget.
When we look at the Consolidated Statement of Financial Position, we notice that Menteen actually increased its investment in films by 12% in 2016. We know that this has not translated into more films actually being made and/or released in 2016 in order to actually generate revenues for the company. Most likely Menteen has been buying up the rights for stories from novels etc with a view to turning at least some of these ideas into films at a future point. Of course, they will need help from external investors to do so and we know that's becoming a problem for them. It's interesting that Property, Plant and Equipment represents a small percentage of its total non-current assets, indicating to me that Menteen may in fact be outsourcing the production of films to smaller specialist production companies and focusing more of its efforts on the distribution of films. In fact, distribution is where many of the big Hollywood studios focus much of their effort nowadays. While its cash position has improved in 2016, a figure of B$98 million won't go a long way towards producing a blockbuster.
Perhaps the most interesting point to make about Menteen's balance sheet is the fact that they have not split current and non-current liabilities. This is a company that claims to have adopted International Financial Reporting Standards (IFRS) yet we see here they are not being IFRS-compliant. As a financial manager at Menteen you would be expected to help in rectifying this situation so please bear it in mind ahead of the exam. The fact that current and non-current liabilities are not separated complicates the calculation of a number of ratios such as the current ratio (current assets:current liabilities) and gearing (long-term debt/long-term debt + equity). If we take the long term debt to be film obligations and production loans, then Menteen has gearing of 51.7% in 2016. This is really very high and limits the company's options when it comes to funding their productions. They cannot take on more debt and are finding it hard to source external investment for its films. Where can they turn? Can they issue more shares? Shareholders will expect a high return for investing in such a risky industry.
So, in conclusion we can say Menteen is a company with a backlog of ideas for potential films but it's struggling to finance these ideas. Without these ideas being turned into films they will struggle to generate revenue growth which will impact their profitability which in turn will mean they are not able to pay out dividends to shareholders who are likely to demand a good return for their risky investment. So, Menteen is caught in a little bit of a vicious cycle. Can they look to generate new sources of revenue such as licensing agreements with online streaming services for example?
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