Financial Management

CAIIBMODULE D

Presentation byProf. S.D.Bargir

Joint Director,IIBF

Module D topics Marginal Costing Capital Budgeting Cash Budget Working Capital

COSTING Cost accounting system provides

information about cost Aim : best use of resources and

maximization of returns cost = amount of expenditure

incurred( actual+ notional) Purposes +profit from each job/product,

division, segment+pricingdecision+control+profit planning +inter firm comparison

Marginal costing Marginal costing distinguishes

between fixed cost and variable cost Marginal cost is nothing bust variable

cost of additional unit Marginal cost= variable cost MC= Direct Material + Direct Labour

+Direct expenses

Marginal costing problems Sales (-) variable cost (=)

contribution Contribution(/ divided by) sales

(=) C.S. Ratio Contribution=Fixed cost (=)Break

even point Fixed Cost (/ divided by)

contribution per unit = break even units

Basic formulaSales price (-) variable cost= contribution

SP less VC = Contribution10 6 = 49 6 = 38 6 = 27 6 = 16 6 = 05 6 = (1)4 6 = (2)

Marginal costing problems SP = Rs.10, VC =Rs.6 Fixed Cost

Rs.60000Find- Break even point (in Rs. & in units)- C/S ratio- Sales to get profit of Rs.20000

Marginal costing problems Sales Rs.100000 Fixed Cost Rs.20000 B.E.Point Rs.80000 What is profit ?

Management decisions- assessing profitability CONTRIBUTION/SALES=C.S.RATIOProduct

sp vc Contribtion

c/s Ratio % ranking

A 20 10 10 10/20 50% 1

B 30 20 10 10/30 33% 2

C 40 30 10 10/40 25% 3

DECISION when limiting factorsSP Rs.14 Rs.11

VC 8 7

ContributionPer unit

6 4

Labour hr. pu 2 1

Contri.per hr 3 4

DECISIONS

Make or buy decisions Close department Accept or reject order Conversion cost pricing

CAPITAL BUDGETING It involves current outlay of funds in

the expectation of a stream of benefits extending far into the futureYear Cash flow0 (100000)1 300002 400003 500004 50000

Types of capital investments New unit Expansion Diversification Replacement Research & Development

Significance of capital budgeting Huge outlay Long term effects Irreversibility Problems in measuring future cash

flows

Facets of project analysis Market analysis Technical analysis Financial analysis Economic analysis Managerial analysis Ecological analysis

Financial analysis Cost of project Means of finance Cost of capital Projected profitability Cash flows of the projects Project appraisal

Methods of capital investment appraisalDISCOUNTING NON-DISCOUNTING

Net present value (NPV)

Pay back period

Internal rate of return (IRR)

Accounting rate of return

Profitability Index or Benefit cost ratio

Present value of cash flow stream- (cash outlay Rs.15000)@ 12%Year Cash flow PV factor

@12% PV1 1000 0.893 8932 2000 0.799 15943 2000 0.712 14244 3000 0.636 19085 3000 0.567 17016 4000 0.507 20287 4000 0.452 18088 5000 0.404 2020

13376

Present value of cash flow stream- (cash outlay Rs.15000 )@10%Year Cash flow PV factor

@10% PV1 2000 0.909 18182 2000 0.826 16523 2000 0.751 15024 3000 0.683 20495 3000 0.621 18636 4000 0.564 22567 4000 0.513 20528 5000 0.466 2330

15522

CALCULATION NPV/IRROutlay PV @10% PV @ 12% NPV15000 15522 - 52215000 - 13376 (1624)Difference - - 2146

IRR continuedIRR= LR +( NPV by LR/ difference between

NPV) x (HR-LR)LR= 10% NPV by LR= 522Difference between NPV= 2146HR less LR= 12 (-) 10 = 2IRR= 10%+ (522/2146)X2IRR=10%+0.49IRR=10.49%

The timing of the cash flows is critical for determining the Project's value.below the line for cash investments orabove the line for returns.

Rs.51 Lakh Rs.51 Lakh Rs.61 Lakh

Year 1 Year 2 Year 3Rs.102 lakh

Year 0

Net Present ValueYear Cash Flow Dis. Factor Present

@10% Value0 -102 1 -1021 51 0.91 46.362 51 0.83 42.153 61 0.75 45.83

NPV 32.34

@27% Value0 -102 1 -1021 51 0.78740 402 51 0.62000 323 61 0.48818 30

NPV 0

The evaluation of any projectdepends on the magnitude of thecash flows, the timing and thediscount rate.The discount rate is highlysubjective. The higher the rate , theless a rupee in the future would beworth today.The risk of the project shoulddetermine the discount rate.

Internal Rate of Return(IRR)IRR is the rate at whichthe discounted cash flowsin the future equal thevalue of the investmenttoday. To find the IRR onemust try different ratesuntil the NPV equals zero.

PRICING DECISIONS Full cost pricing Conversion cost pricing Marginal cost pricing Market based pricing

BUDGET Quantitative expression of

management objective Budgets and standards Budgetary control Cash budget

PROFIT PLANNING Budget & budgetary control Marginal costing CVP and break even point Comparative cost analysis ROCE

PRICING DECISIONS Full cost pricing Conversion cost pricing Marginal cost pricing Market based pricing

Operating leverageFinancial leverage OL= amount of fixed cost in a cost

structure. Relationship between sales and op. profit

FL= effect of financing decisions on return to owners. Relationship between operating profit and earning available to equity holders (owners)

BUDGET Quantitative expression of

management objective Budgets and standards Budgetary control Cash budget

PROFIT PLANNING Budget & budgetary control Marginal costing CVP and break even point Comparative cost analysis ROCE

PRICING DECISIONS Full cost pricing Conversion cost pricing Marginal cost pricing Market based pricing

Operating leverageFinancial leverage OL= amount of fixed cost in a cost

structure. Relationship between sales and op. profit

FL= effect of financing decisions on return to owners. Relationship between operating profit and earning available to equity holders (owners)

Working capital Current assets less current liabilities

= net working capital or net current assets

Permanent working capital vs. variable working capital

Working capital cycle cash> Raw material > Work in

progress > finished goods > Sales > Debtors > Cash>

Operating cycle – it is a length of time between outlay on RM /wages /others AND inflow of cash from the sale of the goods

Examples from book P-369 P-375 P-377 P-379 P-380 P-385 P-387 P-393

Examples from book P-413 P-414 p-415 P-417

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THANK YOUWISH YOU BEST OF LUCK

sudaaba@iibf.org.in***