Managing Financial Resources and Decisions - Assignment Example

Managing Financial Resources and Decisions This training is designed to take two days, the first day we shall look at the various sources of business finances and their implications on the business. The following day we shall look at the tax effects on the various sources of funds to the business. There are different types of training methods that can be used by different organizations. For our case we are going to learn about how business entities can be able to source their finances, manage their finances so that they can meet their financial obligation. Secondly, our discussion is going to touch on the assessment of various implications of the different sources of finances for the business, tax effects of different sources of finance and finally approaches that can be used to help participants to choose appropriate source of business finance. Business managers need better financial understanding so that they can achieve better and measurable financial goals. The set of goals enable business managers to understand the effect of decisions and review even the business results. The first step in developing a good financial plan is to meet with professional financial advisors so as to help you develop and perfect the complimentary process of reviewing your current financial circumstances, anticipate changes that are needed to attain the future goals Sources of business finance Business entities can get finances from the following sources 1) A business can get its funding from the owner of the business where he or she gives out either funds or property as a starting capital to the business. 2) Donations and grants: These are funds that are given to the business entity by the friends and well-wisher to assist the business in meeting its financial obligations 3) The business can also borrow loans from the bank to fund the operations of the business. 4) Sponsored Agreements: some of the research that are conducted in some of the organization are performed using funds from sponsoring agencies that support the research and training and even services through various agreements. 5) The business can also get its funding from the family friends. 6) Ploughing back of the business profits can also be another source of fund that the business can use to expand its activities. This means that the profits that are realized by the business are re- invested in the business to expand the business. 7) Other sources of finance for the business can also be gifts from friends Implication of finances to businesses It is very possible to manage income effectively and efficiently through financial planning. Good management of the incomes will help you and the business to know and understand how much money you will need for tax payments and other monthly expenses and even personal savings. Good financial planning can increase cash flows through careful monitoring the spending patterns and expenses. Prudent cash spending and careful budgeting can help the business and even individuals to keep more of their earned cash. Good financial management through planning make capital more available for businesses and even individuals as there will be increase in cash flow allowing you to consider investments so as to improve the overall financial wellbeing of businesses and individuals with a good financial background the business can be able to expand its operations and thereby increasing the profit margins of the business. This may include venturing in other fields of the business for example starting a different line of business or expanding the existing business. When the business has enough funds, it is capable of keeping out its competitor out of the market as it will be using advanced marketing techniques since they are capable of embracing the use of technology. Implications of the tax on the sources of business finance Finance literature has offered a very simple model of how taxes affect financial decisions of the business. Debts has a lot of tax advantage at the corporate level of the business because interest payments reduces the taxable income of the firm while purchases of shares or dividends do not. The trade-off theory outlines the relationships that exist between the debts and the tax. It say that firms balances the benefits from tax on the debts against various costs of financial distress. The effect of the tax system dominate at a very low leverage while the cost of distress dominate at a higher leverage. Businesses have their optimal target levels at which the incremental value of tax shield from a small change so that the leverage can offset the incremental distress costs. The tax cost of the internal equity that is retained earnings have been found to be less that the cost of tax in external equity making the optimal leverage to depend on the cash flows of the business and even debt ratios. Task 2 Part A 2.2 Importance of financial planning Establishing a financial plan helps the business owner to have a big picture and be able to both short and long term goals which is a very important determinant route of mapping the future financial position of the business. When you have a good financial plan, it is easier to make to make financial decisions and remain on track so as to achieve your set goals. A good financial planning can secure the business its financial wellbeing. Reasons why financial planning is important It is very possible to manage income effectively and efficiently through financial planning. Good management of the incomes will help you and the business to know and understand how much money you will need for tax payments and other monthly expenses and even personal savings. Good financial planning can increase cash flows through careful monitoring the spending patterns and expenses. Prudent cash spending and careful budgeting can help the business and even individuals to keep more of their earned cash. Good financial management through planning make capital more available for businesses and even individuals as there will be increase in cash flow allowing you to consider investments so as to improve the overall financial wellbeing of businesses and individuals. Providing for family financial security forms a very important part of the financial planning process. Having proper insurance coverage and policies in place can provide peace of mind to the whole family (Sliter, Carl-Denis Bouchard & Bellemare, 2005). Proper financial planning act as a guide in helping to choose the right type of investment that can fit personal needs and goals of the business and of the owner. Saving that are created from proper financial planning can be very beneficial during difficult times for example, taking insurance cover so as to replace any lost income should bread winner of the family become unable to work. This will see to it that the living standards is maintained. 2.3 Information needs by different decision makers Business managers, school principals, company directors and many other people need information of financial planning so that they can meet their financial obligation in their areas of operations. They need better financial understanding so that they can achieve better and measurable financial goals that are set so that they can understand the effect of decisions and reviewed results. The first step in developing a good financial plan is to meet with professional financial advisors so as to help you develop and perfect the complimentary process of reviewing your current financial circumstances, anticipate changes that are needed to attain the future goals (Munteanu, 2006). Reasons why decision makers need certified financial planner 1) They may want to manage their finances but they are not sure of where to start from 2) They may not have time to do their own financial planning 3) They may want professional opinion about the plans they have developed 4) They may not have sufficient expertise in certain areas like investments, taxes or even in retirement planning Task two part B 2.2 Impact of finance on the financial statements (balance sheet of R Riggs) a) Short term liabilities that is creditor will increase by $ 5000 b) Long term liability will increase by $ 10000 c) Creditors will increase by $ 1500 d) Office furniture (fixed assets) will increase by $ 2000 Task 3 Part A Analyze budgets and make appropriate decisions When the variance is positive then it means that the actual cost is greater than the estimated cost and hence the business can continue expanding its operation through selling of more of the products. Variance therefore becomes the difference between the estimated value and the actual value of the material that is sold. Part B 1) How to obtain total cost Add all the direct costs that are incurred which include the cost of labor, cost of the paper and the cost of ink to the indirect costs that is overhead costs. On the other hand cost per leaflet can be obtained through dividing the total cost that are incurred by the total number of the leaflets produced. 2) Total production costs = direct costs + indirect costs Direct cost = $204*3+ $9*2 +$ 15*2 +$55*2 +$20*2 =$ 810 3) Price If $810 = 100% ?= 110% = (110*810)/100 =$891 4) price when the number of hours is adjusted to 2.5 hours 1) Total cost becomes $820 820 =100% ? =110% Therefore price that should be quoted by the company= (820 *110)/100 =920 2) When hour is adjusted to 1.5 hours Total cost becomes $ 800 If $800 = 100% ? = 110% = (110*800)/100 =$880 Part C Q 1 Assessing the viability of a project using investment appraisal techniques Project A Project B Initial investment 50000 50000 Cash inflows year 1 3500 20000 Year 2 30000 20000 Year 3 25000 24000 Year 4 20000 36000 NPV of Project A Year 1 2 3 4 Cash flows 35000 30000 25000 20000 Scrap value _ _ _ 10000 Total amount 35000 30000 25000 30000 NPV = 35000/ (1.1)1 + 30000/ (1.1)2 + 25000/ (1.1)3 +30000/ (1.1)4 _50000 =95884.84_ 50000 =45, 884.84 NPV of project B Year 1 2 3 4 Cash flows 20000 20000 24000 36000 Scrap value _ _ _ 10000 Total amount 20000 20000 24000 46000 NPV = 20000/ (1.1)1 + 20000/ (1.1)2 + 24000/ (1.1)3 + 46000/ (1.1)4 _50000 =84160.92 _ 50000= 34160.92 =34160.92 Payback period Project A Project B Cash inflows accumulated cash flows cash inflows accumulated Cash inflows Year 1 35000 35000 20000 20000 Year 2 30000 65000 20000 40000 Year 3 25000 90000 24000 6400 Year 4 20000 110000 36000 100000 Initial cost of investment for project A=50000 =1 year + (50000 _35000)/30000 =1 year + 15000/30000 = 1 year + ½ year =1 ½ years Project B 2 years + (50000_40000)/24000 = 2 years + 10000/24000 = 2 years + (5/12) *12 =2 years + 5 months = 2 year 5 months Profitability index Profitability index = total NPV/initial investment Project A= 45684.84/50000 =0.9176 Project B=34160.92/50000 =0.6832 Q 2 IRR (Internal Rate of Return) It is defined as the rate which equates the present value of cash outflows of an investment to the initial capital. This method is a discounted cash flow technique which uses the principle of NPV (Cuganesan, 2006). It is also referred to as internal rate of return because it depends fully on the outlay of investment and proceeds that are associated with the project and not any rate that is determined outside the venture. IRR = PV (cash inflows) = PV (cash outflows) or IRR is the cost of capital when NPV = 0. A = inflow for each period C = Cost of investment The values can be can be determined through: i) The use of trial and error ii) Through interpolation iii) And through extrapolation Q 3 Advantages of Payback Period 1. It is a simple method to use and understand making it common among various executives particularly traditional financial managers in ascertaining the viability of a venture. 2. It is very ideal under high-risk investments because it will identify which venture will payback earlier thus minimizing the risks with a venture. 3. Advantageous when choosing between mutually exclusive projects because it will give a clue as to which venture is viable if one considers the shortest PBP and the highest inflow of a venture. Disadvantages of Payback Period 1. Does not take into account time value of money and assumes that a shilling received in the 1st year and in the Nth year have the same value so as to rank them together to ascertain the PBP which is unrealistic given that a shilling now is valuable than a shilling N years from now. 2. PBP method does not measure the profitability of a venture but rather measures the period of time a venture takes to pay back the cost. The method is outside looking (lender oriented rather than owner oriented). 3. PBP method ignores inflows after PBP and as such, it does not accommodate the element of return to an investment. 4. This method will not have any impact on the company’s share prices because profitability which is one of the most important factors in gauging the company’s value of shares is not a function of PBP and as such the method fall short of meeting the criteria of investment appraisal. Advantages of Accounting Rate of Return (ARR) 1. This method is very simple to understand and use. 2. It is readily computed from accounting data thus much easier to ascertain. 3. It is consistent with profitability objectives of the business venture as it analyses the return from entire cash inflows and as such it will give a clue or a hint to the profitability of venture. 4. Because it is very simple to use and understand it common among various executives particularly traditional financial managers in ascertaining the viability of a venture 5. It is very ideal under high-risk investments because it will identify which venture will payback earlier thus minimizing the risks with a venture. Disadvantages of Accounting Rate of Return (ARR) 1. It does not take into account time value of money that is it ignore the concept that the value of shilling today is not the same as the value of a shilling tomorrow. 2. It does not consider how soon the investment should recover the cost (it is owner looking than creditor oriented approach). 3. It uses accounting profits instead of cash inflows of which sometimes may be very difficult to realize. 4. Does not take into account time value of money and assumes that a shilling received in the 1st year and in the Nth year have the same value so as to rank them together to ascertain the PBP which is unrealistic given that a shilling now is valuable than a shilling N years from now. Advantages of NPV It recognizes time value of money and such appreciates that a shilling now is more valuable than a shilling tomorrow and the two can only be compared if they are at their present value. It takes into account the entire inflows or returns and as such it is a realistic gauge of the profitability of a venture. It is consistent with the value of a share in so far as a positive NPV will have the implication of increasing the value of a share. 4. It is consistent with the objective of maximizing the welfare of an owner because a positive NPV will increase the net worth of owners. Disadvantages of NPV Its calculation uses cost of finance which is a difficult concept because it considers both implicit and explicit and yet NPV does not take into account the implicit costs. It is appropriate to use in assessing the viability of an investment under certainty since it ignores the element of risk. It ignores the PBP and therefore cannot give good assessment of alternative projects if the projects have unequal lives, returns or costs. It is difficult method to use. Advantages of profitability index a) This method is very simple to use and understand. b) The element of NPV in the venture will indicate which venture is more powerful as the most profitable venture will have the highest P.I. as the difference or net P.I. will continue to the company’s profitability. c) It acknowledges time value for money and at the same time the NPV of a venture at its present value which is consistent with investment appraisal requirements. Disadvantages of profitability index a) It may be useful under conditions of uncertain cost of finance used to discount inflows and yet this cost is a complex item due to the implicit and explicit element. b) It may be difficult to ascertain if the economic life of a venture is long and it yields large inflows because their discounting may call for use of computers that are expensive. Q 4 Project A should be accepted on the basis of the payback period since it has a shorter payback period that is one and a half years. Task 4 part A 4.1 Main financial statements Cash flow statement Is a financial statement that indicates how changes in the balance sheet account of income affects cash and cash equivalents, Cash flow statement tries to break down the analysis down to operating, investment and financing activities (Cleasby, 2009). Cash flow statement is mostly concerned with the flow of the cash in and out of the business. It captures operating results and the accompanying changes in the balance sheet. Since cash flow statement is used as an analytical tool, it is useful in determining the short term viability of the organization especially its ability to pay bills. International accounting standards that deal with the cash flow statement is the IAS 7. People or organizations that use cash flow statement 1) Potential creditor or lender who would want to clear the picture of their organizations ability to repay 2) Accounting personnel can also use the cash flow statement when they want to know whether the organization will be in a position to cover its payroll and even meet other immediate expenses. 3) In addition the cash flow statement can also be used by the potential employees or even contractors would wish to know whether their organization will be able to do compensation Purpose of the cash flow statements The cash flow statements reflects the liquidity of the firm where it only includes inflow and out flows of cash and cash equivalents; it does not include transaction that does not affect the payments and receipt of the cash directly (Cowton, 2004). These non-cash transactions may include wright-offs on bad debts, credit losses, depreciations and many others. The cash flow statements form the cash basis report on various types of financial activities for example operating activities, non-cash activities and even financing activities. It has been adopted as a standard financial statement since it can eliminate any allocation that can be derived from different accounting methods for example various time frames that can be used for depreciating non-current assets. The cash flow statement is expected to do the following: Provide information touching on the firm’s solvency and liquidity and the firm’s ability to change its cash flows in the future time. Provide additional information that can be used to evaluate any change in the assets, equity and even the liabilities. The cash flow statement can also be used to improve the comparability of different operating performance of the firm through eliminating the effects of the many different accounting methods. It can also be used to indicate the timing, amount and even the probability of the future cash flows Profit and loss account This is a financial statement that show or indicates whether the business is making a profit or also over a period of time that may be over one year, three months or even six months (McDonnell & Burgess, 2013). Since one of the most important objectives of any business is to make a profit, the profit and loss account indicates the extent to which the business has been successful in achieving this set of objective. Organization are expected to keep their profit and loss account in a certain formats. Ideally the profit and loss account will indicate the revenue that is collected by the business and even the costs that are incurred in the process of generating that revenue. The information from profit and loss account can be used by potential creditor or lender who would want to clear the picture of their organizations ability to repay debts.in addition, accounting personnel can also use the profit and loss account when they want to know whether the organization will be in a position to cover its payroll and even meet other immediate expenses. Purpose of the profit and loss account Income statements informs the readers of the position of the business in term of its ability to generate profit. It also gives a lot of information as far as the volume of sales are concerned and the nature of various expenses that are incurred by the business depending on how the information on the expenses are generated (Arms, Wiecher & Kleiderman, 2012). In addition income statements can also be used to by the business owner to analyse the trends of the results of the operations of the business. In general financial statements can also be used for the following purposes: Making decision relating to lending ability of the business: lenders use the entire set of set of information in the P&L account to determine whether they can extend credit to the businesses or even to restrict the a mount of credit that is already extended. Investor use the information to decide on whether to invest or not as they look at the price per share at which they want to invest. The person who would wish to acquire any business that is already existing can also use the information to help develop the price at which to offer to buy the business. For taxation purposes, government bodies tax businesses based on their assets or even incomes and this information they derive from the financial statements like P&L account Balance sheet This a financial statement that indicates the assets, liabilities and the capital of the owner of the business at a particular period of time especially the end of the year. It is called a balance sheet because assets that the business possesses at a particular period of time have been financed either through the provision of business capital by the owner of the business or through creation of external liabilities (Akyüz, 2008). There are a number of things that can be used to identify a balance sheet namely: net asset of the business entity that is the difference between the value of the total assets and the value of the liabilities. Any growth in the value of the net assets tend to indicate positive growth of the business entity. Secondly, solvency of the business can also be used to identify a balance sheet that is does it have short term assets that can be easily be converted to the liquid cash that can be used to settle any short term liability. A typical balance sheet is set in two ways that is the use of two columns. First column is for minor calculation while the second column is used for grand totals. Purpose of a balance sheet The purpose of the balance sheet is to give the current status of the business as of the date that is indicated on the balance sheet. It gives the financial position of the business as per the indicated date. This information is eventually used to estimate the liquidity and even the debt and funding position of the business entity. This gives the basis of calculating various liquidity ratios in the business (Swain, 2008). The balance sheet forms the cash basis report on various types of financial activities for example operating activities, non-cash activities and even financing activities. It has been adopted as a standard financial statement since it can eliminate any allocation that can be derived from different accounting methods for example various time frames that can be used for depreciating non-current assets. The balance sheet also provide information touching on the firm’s solvency and liquidity and the firm’s ability to change its cash flows in the future time. Provide additional information that can be used to evaluate any change in the assets, equity and even the liabilities. Change in reporting requirement under the international accounting standards IAS require a business entity whose financial statements comply with the IFRSs to make an explicit and unreserved statement of such compliance in notes. Any financial statement cannot be said to have complied with the IFRSs unless the business has fully complied with all the requirements of the IFRSs. Task 4 part B Comparing appropriate formats for different financial statements a) R Riggs operate a sole proprietor business that has unlimited liability this is mainly because is the sole contributor of the capital that is used in the business. He make the decision to start the business and even to dissolve the business a lone and therefore he is his own boss. J &B associate run partnership business where both J and B contributes to the capital of the business and they also share all the benefits of the business for example they share any profits that may be realized in the business. Each person in the business cannot make any business decision without consulting from another person hence making the decision making process to be very slow. b) R Riggs appear to be more profitable since the business does not share out its profits that is all the profits are enjoyed by the owner of the business unlike J and B associates that share all the benefits of the business including the profits. c) J and B appears to be less liquid since the decisions are made by two people who are the co-owners of the business. Task 4 part C Interpreting financial statements using ratios 1) Gearing = 68.56 *40000 = 2746000 2) Earnings per share = 5000000/12 = 416,666.6667 3) Dividend per share = 200000/3.75 = 53333.33 4) Dividend yield = 6.25 * 200000=1250000 5) Dividend cover =200000/3.2 =62500 6) Price per earnings = 808680/5 =161736 Bibliography Akyüz, Y. 2008, "Managing financial instability in emerging markets: A Keynesian perspective", METU Studies in Development, vol. 35, no. 1, pp. 177-207. Arms, H., Wiecher, M. & Kleiderman, V. 2012, "Dynamic models for managing big decisions", Strategy & Leadership, vol. 40, no. 5, pp. 39-46. Cleasby, M. 2009, "Managing financial resources (MFR)", The British Journal of Administrative Management, , no. 31, pp. 1-4. Cowton, C.J. 2004, "Managing financial performance at an ethical investment fund", Accounting, Auditing & Accountability Journal, vol. 17, no. 2, pp. 249-275. Cuganesan, S. 2006, "Reporting organisational performance in managing human resources", Journal of HRCA : Human Resource Costing & Accounting, vol. 10, no. 3, pp. 164-188. McDonnell, A. & Burgess, J. 2013, "The impact of the global financial crisis on managing employees", International Journal of Manpower, vol. 34, no. 3, pp. 184-197. Munteanu, V. 2006, "PRESENT-DAY FINANCIAL STATEMENT AND THE FOUNDATION OF ECONOMIC DECISIONS", Romanian Economic and Business Review, vol. 1, no. 2, pp. 7-13. Sliter, J., Carl-Denis Bouchard & Bellemare, G. 2005, "The Canadian Response to the Sarbanes-Oxley Act: Managing Police Resources: A Competency-Based Approach to Staffing", Journal of Financial Crime, vol. 12, no. 4, pp. 327-330. Swain, A. 2008, "MISSION NOT YET ACCOMPLISHED: MANAGING WATER RESOURCES IN THE NILE RIVER BASIN", Journal of International Affairs, vol. 61, no. 2, pp. 201-214. Read More