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Chapter 17

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BUSI 1600U
Shaprio, Morden

Management of the Enterprise Chapter 17: Financial Management The Role of Finance and Financial Managers - Finance  the function in a business that acquires funds for the firm and manages those funds within the firm. - Financial Management  the job of managing a firm’s resources so it can meet its goals and objectives. - A financial manager of a business is the doctor who interprets the report and makes recommendations to the patient regarding changes that will improve the patient’s health. - Financial manager’s  managers who make recommendations to top executives regarding strategies for improving the financial strength of a firm.  Can make sound financial decisions only if they understand accounting information.  Responsible for seeing that the company pays its bills.  Buying merchandise on credit (accounts payable) and collecting payment from customers (accounts receivables) are responsibilities.  - In large and medium-sized organizations, both the accounting and the finance functions are generally under the control of a chief financial office or a vice-president or finance. - The following are three of the most common ways for a firm to fail financially:  Undercapitalization (lacking funds to start and run the business)  Poor control over cash flow  Inadequate expenses control. The Importance of Understanding Finance - You do not have to pursue finance as a career to understand finance, which is important to anyone who wants to start a small business, invest in stocks and bonds, or plan a retirement fund. - It’s vital that financial managers in any business stay abreast of changes or opportunities in finance and prepares to adjust to them. - Financial managers must also carefully analyze the tax implications of various managerial decisions in an attempt to minimize the taxes paid by the business. - Another responsibility of the firm’s finance department, internal audit, checks on the journals, ledgers, and financial statements prepared by the accounting department. - Another purpose of an internal audit is to safeguard assets, including cash. Financial Planning - Financial planning is a key responsibility of the financial manager in a business. - Financial planning involves analyzing short-term and long-term money flows to and from the firm. - Overall objective is to optimize the firm’s profitability and make the best use of its money. - Financial planning involves 3 steps:  Forecasting both short-term and long-term financial needs.  Developing budgets to meet those needs  Establishing financial control to see how well the company is doing what it set out to do. Forecasting Financial Needs - Short-term forecast  forecast that predicts revenues, costs, and expenses for a period of one year or less. - Cash flow forecast  forecast that predicts the cash inflows and outflows in future periods, usually months or quarters. - The inflows and outflows of cash recorded in the cahs flow forecast are based on expected sales revenues and on various costs and expenses incurred and when the cash will be collected and costs will need to be paid. - Long-term forecast  the forecast that predicts revenues, costs, and expenses for a period longer than one year, and sometimes as far as five or ten years into the future.  Gives top management, as well as operations managers, some sense of the income or profit potential possible with different strategic plans. Working with the Budget Process - Budget  sets forth management’s expectations for revenues, and, on the basis of those expectations, allocates the use of specific resources throughout the firm. - The key financial statements (balance sheet, income statement, and the cash flow statement) form the basis for the budgeting process. - There are usually several types of budgets established in a firm’s financial plan:  An operating (master) budget  A capital budget  A cash budget - The Operating (master budget)  the budget that ties together all of a firm’s other budgets; it is the projection of dollar allocations to various costs and expenses needed to run or operate the business, given projected revenues. - Capital Budget  a budget that highlights a firm’s spending plans for major asset purchases that often require large sums of money. - Cash budget  a budget that estimates a firm’s projected cash inflows and outflows tha the firm can use to plan for any cash shortage or surpluses during a given period. Establishing Financial Controls - Financial Control  a process in which a firm periodically compares its actual revenues, costs, and expenses with its budget. - Most companies hold at least monthly financial reviews as a way to ensure financial control. - Help managers identify variances to the financial plan and allow them to take corrective action if necessary. - Provide feedback to help reveal which accounts, which departments, and which people are varying from the financial plans. The Need for Funds - Key areas such as:  Managing day-to-day needs of the business  Controlling credit operations  Acquiring needed inventory  Making capital expenditures Managing day-to-day needs of the business - Time value  the interest gained on the firm’s investments is important in maximizing the profit the company will gain. - It’s also not unusual for finance managers to suggest that a company pay its bill as late as possible (unless a cash discount is available) but try to collect what’s owed to it as fast as possible. - Efficient gash management is particularly important to small firms in conducting their daily operations because their access to capital is generally much more limited than that of larger businesses. Controlling Credit Operations - Financial managers know that making credit available helps keep current customers happy and attracts new customers. - The major problem with selling on credit is that a large percentage of a non-retailer’s business assets could be tied up in its credit accounts (accounts receivable) and at the same time needs to pay the costs incurred for the making or provision of goods or services already sold to customers who bought on credit. - One way to decrease the time, and therefore expense, involved in collecting accouts receivable is to accept bank credit cards such as MasterCard or Visa. Acquiring Inventory - Clear customer orientation means that high-quality service and availability of goods are vital if a business expects to prosper in today’s markets. - Although it’s true that firms expect to recapture their investment in inventory through sales to customers, a carefully constructed inventory policy assists in managing the firm’s available funds and maximizing profitability. - Innovations such as just-in-time inventory help reduce the amount of funds a firm must tie up in inventory. Making Capital Expenditures - Capital expenditures  major investments in either tangible long-term assets such as land, buildings, and equipment, or intangible assets such as patents, trademarks, and copyrights. - Expansion into new markets can cost large sums of money with no guarantee that the expansion will be commercially successful. Alternative Sources of Funds - Debt financing  funds raised through various forms of borrowing that must be repaid. - Equity financing  funds raised from operations within the firm or through the sale of ownership in the firm. - Short-term financing  borrowed funds that are needed for one year or less. - Long-term financing borrowed funds that are needed for a longer period than one year. Trade Credit - Trade Credit  the practice of buying goods and services now and paying for them later. - It is common for business invoices to contain items such as 2/10, net 30. This means that the buyer can take a 2 percent discount if the invoice is paid within 10 days. - Promissory note  a written contract with a promise to pay a supplier a specific sum of money at a definite time. Family and Friends - Because such funds for small companies are needed for periods of less than a year, friends or relatives are sometimes willing to help and the normal steps to obtain this type of funding are minimal. - If an entrepreneur does decide to ask family or friends for financial assistance, it’s important that both parties:  Agree on specific loan terms  Put the agreement in writing  Arrange for repayment in the same way they would for a bank loan. Obtaining Short-term financing - Firms need to borrow short-term funds to purchase additional inventory or to meet bills that come due. - Most small businesses are primarily concerned with just staying afloat until they are able to build capital and creditworthiness. Commercial Banks and Other Financial Institutions - If a business is able to get such a loan, a small or medium sized business should have the person in charge of the finance function keep in close touch with the bank. - By anticipating times when many bills will come due, a business can begin early to seek funds or sell other assets to prepare for a possible financial crunch. - An experienced banker may spot cash flow problems early or be more willing to lend money in a crisis if a business person has established a strong, friendly, relationship build on openness, trust, and sound management practices. Different forms of Short-Term Loans - Secured loan  a loan backed by something valuable, such as property. - The item of value is often called a collateral. - Account receivables are assets that are often used by businesses as collateral for a loan; the process is called pledging. - Inventory such as raw materials (ex. Coal, steel) can also be used as collateral or security for a business loan. - Unsecured loan  a loan that’s not backed by any specific asset. - Line of credit  a given amount of unsecured funds a bank will lend to a business. - Primary purpose of a line of credit is to speed the borrowing process so that a firm does not have to go through the process of applying for a new loan every time it needs funds. - As business mature and become more financially secure, the amount of credit often is increased, much like the credit limit on your credit card. - Revolving credit agreement  a line of credit that is guaranteed by he bank. - Commercial Finance companies  organizations that make short-term loans to borrowers who offer tangible assets as collateral. - Ac
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