Chapter 16 Mastering Financial Management. Copyright © Cengage Learning. All rights reserved....

Chapter 16

Mastering Financial Management

Copyright © Cengage Learning. All rights reserved. Chapter 16 | Slide 2

Learning Objectives

1. Explain the need for financial management in business.

2. Summarize the process of planning for financial management.

3. Identify the services provided by banks and financial institutions for their business customers.

4. Describe the advantages and disadvantages of different methods of short-term debt financing.

5. Evaluate the advantages and disadvantages of equity financing.

6. Evaluate the advantages and disadvantages of long-term debt financing.


Financial Management

…all the activities concerned with obtaining money and using it effectively.


Need for Financing

Reasons:• Start a business• Keep it going

Sources:• Owners’ investment• Borrowed

Afterward:• Pay expenses• Provide profit


Short-Term Financing

…money that will be usedfor one year or less.


Table 16.1: Comparison of Short- and Long-Term Financing

Whether a business seeks short- or long-term financing depends on what the money will be used for.


Cash Flow

…the movement of money into and out of an organization.


The Cash Flow Cycle

CustomersCustomers


Speculative Production

…the time lag between actual production of goods and when the goods are sold.


Figure 16.1: Cash Flow for a Manufacturing Business


Long-Term Financing

…money that will be used forlonger than one year.


Two-Sided Problem of Financing

Uses of funds dictate type(s) of financing needed

Activities undertaken determined by types of financing available


Risk-Return Ratio

…a ratio based on the principle thata high-risk decision should generate

higher financial returns for a business and more conservative decisions often

generate lesser returns.


Proper Financial Management

Financing priorities established with goals and objectives

Spending planned/controlled

Bills paid promptly Excess cash invested


Careers in Finance

Chief Financial Officer (CFO): manages firm’s finances, reports to chief executive officer or president

Lower-level positions: banking, insurance, investment, non-profits, government entities

Requirements:• Strong background in accounting/math• Knowledge of computer use for data

analysis• Expertise in written/oral communication


Positions, Salaries, and Experience at Two Major Firms

Title GMC Pepsico Exp./Education

Junior Fin. Anal. $20-43.2K $45-50K B.B.A.

Senior Fin. Anal. $46.9-82.6K $60-70K 3yr/MBA

Division Controller $110-172K $70-80K 10yr/MBA

CFO $200-350K $150-200K 15yr/MBA

Swiss Finance Academy, “Corporate Finance Salaries,” www.careers-in-finance.com/cfsal.htm, accessed September 27, 2009.


Financial Plan

…a plan for obtaining andusing money needed to implement

an organization’s goals.


Developing Financial Plan

Budget for NeedsBudget for NeedsBudget for NeedsBudget for Needs

Identify SourcesIdentify SourcesIdentify SourcesIdentify Sources

Establish Goals Establish Goals and Objectivesand ObjectivesEstablish Goals Establish Goals and Objectivesand Objectives

Monitor & Monitor & Evaluate Evaluate PerformancePerformance


Figure 16.2: The Three Steps of Financial Planning


Budget

…a financial statement that projectsincome and/or expenditures over a

specified future period.


Figure 16.3: Sales Budget


Cash Budget

…a financial statement that projectscash receipts and cash expenditures

over a specified period.


Figure 16.4: Cash Budget


Capital Budget

…a financial statement that estimates a firm’s expenditures for major assets and its

long-term financing needs.


Approaches to Budgeting

Traditional: base on budget of preceding year; modify to reflect revised goals and objectives; justify only new expenditures

Zero-base: justify every expense


Primary Sources of Funds

Sales Revenue Equity Capital Debt Capital Sales of Assets


Financial Services Provided byBanks and Other Financial Institutions

Traditional• Savings and Checking Accounts• Business Loans

Electronic Banking• Automated Clearinghouses (ACHs)• Point of Sale (POS) Terminals• Electronic Check Conversion (ECC)

International• Letter of Credit• Bankers Acceptance


Traditional Business Banking Services

1. Savings and Checking Accountsa) Passbook Savingsb) Certificate of Depositc) Check

2. Business Loansa) Short-Term Loansb) Line of Creditc) Revolving Creditd) Long-Term Loans

3. Credit/Debit Card Transactions


Electronic Funds Transfer

…a means of performing financial transactions through a computer

terminal or telephone hookup.


Sources of UnsecuredShort-Term Financing

Trade Credit Promissory Note Unsecured Bank Loans Commercial Paper

Unsecured financing is financing that is not backed by collateral.


Average Prime Interest Rate

Source: Federal Reserve Bank website, www.federalreserve.gov, accessed October 17, 2008..


Sources of Secured Short-Term Financing

Inventory

Accounts Receivable- Factoring


Table 16.2: Comparison of Short-Term Financing Methods


Sources of Equity Financing

Sale of Stock• Initial Public Offering: common stock sold the

first time to public• Investment Banking Firm: assists firm in

raising capital Retained Earnings: undistributed portion of

firm’s profits Private Placement: securities sold directly to

insurance companies, pension funds, large institutions, wealthy investors


Using the Internet

• The New York Stock Exchange and the NASDAQ are the two most cited equity markets. Each provides financial information about the companies it lists and news that might influence their stock values.

www.nyse.com

www.nasdaq.com


SpotlightIPOs Can Raise Billions!

Source: The Renaissance Capital IPO Home website, www.ipohome.com, accessed May 24, 2009.


Types of Stock

Common• Holders vote on corporate matters• Holders’ claims on profits/assets subordinate to

preferred

Preferred• Holders receive dividends first• Dividend is specified

Convertible Preferred can be exchanged for common


Sources ofLong-Term Debt Financing

Financial Leverage Use of borrowed funds to increase return on owners’ equity

Term LoanBorrower required to repay loan in monthly, quarterly, semiannual, or annual installments


Corporate Bond

…a corporation’s written pledge thatit will repay a specified amount of

money with interest.

The maturity date is the date on which the amount borrowed must be repaid.


Types of Bonds

1. Registered: registered in owner’s name by issuing company

2. Debenture: backed only by issuing firm’s reputation

3. Mortgage: secured by assets of firm

4. Convertible: may be exchanged for a specified number of common stock shares


Bond Provisions

Maturity date: 10 to 30 years

Indenture: details conditions of bond issue

Serial Bonds: single issue that matures on different dates

Sinking fund: deposits made each year for purpose of redeeming bond issue

Trustee: acts as bond owners’ representative


Table 16.4: Comparison of Long-Term Financing Methods


1. Which of the following would be considered a short-term financial need?

a) New product developmentb) Cash flow problemsc) Business start-up costsd) Mergers and acquisitionse) Expansion of facilities

Chapter Quiz


2. The least expensive form of short-term financing is

a) promissory notes.b) prime rate loans.c) common stock.d) trade credit.e) factoring.

Chapter Quiz


3. Which of the following statements is incorrect?

a) A corporation can issue only common stock or preferred stock, but not both.

b) IPO stands for initial public offering.c) Common stockholders have the right to vote on

major corporate actions.d) A corporation is under no legal obligation to pay

dividends to common stockholders.e) A corporation is under no legal obligation to buy

back the stock you purchase.

Chapter Quiz


4. The portion of a corporation’s profits not distributed to stockholders is called

a) retained earnings.b) undistributed profits.c) profit residue.d) income before taxes.e) net profit.

Chapter Quiz


5. A __________ is the legal document that details all the conditions relating to a bond issue.

a) bond indentureb) debenture statementc) bond contractd) security agreemente) collateral statement

Chapter Quiz

Chapter 16 Mastering Financial Management. Copyright © Cengage Learning. All rights reserved....

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