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The Function and Science of Financial Management Studies 2011 International Conference on Social Science and Humanity IPEDR vol.5 (2011) © (2011) IACSIT Press, Singapore The Function and Science of Financial Management Studies Prof. Malek Elahi Dr. Reynaldo R. Banzon Graduate School Graduate School Holy Angel University University of the East Angeles City, Philippines Manila, Philippines Email: [email protected] Email: [email protected] Masoud Dehdashti Jamal Ansari Economics Department Law Department Islamic Azad University Dashtestan Branch, Iran Islamic Azad University Email: [email protected] Zanjan Branch, Iran Email: [email protected] Abstract-Financial planning is concerned about a good I. INTRODUCTION projection of future financial requirements of the firm in order to avoid short falls in financing availability. Financial An understanding of financial statements is necessary in analysis will help in pinpointing problem areas that have to be order to have an adeptness in the mechanics of finance. The resolved. goal of the financial manager is the maximization of shareholders’ wealth expressed by the market price of Investment decision is crucial since this involves the choice corporate stocks [4]. Market price of stock would increase among investment projects of the one which will yield the not only because of improvement in business profitability highest benefit for the firm in terms of profitability. After but also by means of various financial maneuverings which choosing the best investment project, the financial manager is must be an expertise by financial managers. In order to confronted with the financing decision. What financing achieve the goal of maximizing shareholders’ wealth, the package should be chosen to finance the project. Financing financial manager must engage in financial analysis and may come from borrowings (bank loans or bonds) or from planning and balance sheet management (managing the flotation of equity (common and/or preferred stocks). The firm’s assets, liabilities and equity). financing package which will result in the highest earnings per common share (EPS) should be chosen. II. FINANCIAL ANALYSIS AND PLANNING Financial Management is concerned with the goal of Financial analysis will point problem areas in operations maximizing stockholders’ wealth expressed by the market which would need management’s attention. These problem price of corporate stocks. Market price of stocks can be areas can be known through the use of financial ratios increased by improved business profitability and by means of which are grouped under four categories: liquidity ratios, various financial maneuverings which should be an expertise activity ratios, solvency ratios, and profitability ratios. Are of financial managers. there enough funds to meet working capital requirements? Are there no over-investment in receivables and inventory? Financial managers should engage in financial analysis and Are assets efficiently utilized in the generation of sales? planning, and balance sheet management (managing the Who are the major financiers of business assets – the firm’s assets, liabilities and capital). He is involved in owners or the creditors? The answer to this question would investment decision and financing decision. determine the extent of solvency risks. Is the business earning a reasonable amount of profit? These are sample Current Asset Management involves the proper handling of questions which financial ratios would engage to answer. cash and marketable securities, account receivable and These indicators would prod management to take courses of inventory in order to minimize the costs of investment in these assets. action that would improve adverse conditions. Budgeting is a tool used in financial planning. This tool Sources of short-term financing are analyzed based on their involves the preparation of projected income statement, costs. The source with lowest cost should be chosen as the best balance sheet and cash flow statement. Income projection is alternative. Working capital requirements usually need short- necessary in order to determine the amount of cash that can term financing. be generated from operations. Projection of the cash flow will incorporate the amount of cash generated from Leasing, merger and dividend policy are also discussed as operations and other sources of cash as well as uses of cash supplementary topics. other than working capital requirements. The resulting cash balance in the cash flow statement will give us an idea Keyword: Budgeting, Break-even, Economic Order Quantity, whether borrowings are necessary in order to finance cash Capital Budgeting, Merger requirements of subsequent operating periods. V2-481 Break-even analysis is a tool in profit planning. Under Monday. A percentage of the total payroll checks is break-even analysis, we would be able to determine the estimated to be presented on Monday, Tuesday, Wednesday, amount of sales we should generate if we desire to earn a etc. This estimate of the checks to be presented on a certain amount of profit. Under break-even condition, particular day will be backed up by the appropriate amount revenues are equal to costs, thus of bank deposit. QP = FC + QUVC Proper cash planning begins with the estimation of the Where: Q = sales in units at break-even minimum operating cash (MOC) level. MOC is estimated condition by dividing annual cash expenditures or total annual outlays P = selling price per unit (TAO) of the firm by its cash turnover (CT). Cash turnover FC = fixed costs is 360 days divided by cash cycle (CC). CC is average age UVC = unit variable cost of inventory plus average collection period minus average Therefore: QP – QUVC = FC payment period. The firm should maintain at all times only Q = FC . this MOC level in order to have more cash to be placed in P – UVC short term investments. If the MOC level is not properly (P – UVC) is the unit contribution margin expressed in determined, the firm may be maintaining cash level over peso [10]. Unit contribution margin can also be expressed and above the minimum requirement and thus misses the as a percentage of unit selling price. If we divide fixed costs opportunity to have more cash in short term investments. by the unit contribution margin expressed as a percentage of MOC can be reduced by stretching accounts payable, unit selling price, we would get the break-even sales in peso. increasing inventory turnover and speeding up collections. If we desire a certain amount of net profit before tax, we The optimum cash to be converted from marketable would be able to determine the desired sales that would securities can also be determined if we consider the generate desired profits, thus minimization of brokerage cost to buy and sell marketable Desired Sales = FC + Desire Net Profit Before Tax securities and amount of lost opportunity to earn interest Unit Contribution Margin as a revenue from marketable securities due to maintaining cash. Percentage of Unit Selling Price An example is appropriate at this point. If annual cash With the above formula, we have analyzed the way by expenditures is P12M and cash turnover is 3 then which break-even analysis can be used as a tool in profit planning [8]. MOC = P12M = P4M for 4 months or P1M per month Then we come to short-term financial decisions which 3 involve management of current assets (cash and marketable If brokerage cost is P100 and annual interest on short- securities, account receivables and inventory) and the term marketable securities is 12%, optimum cash to be determination of appropriate sources of short-term converted to marketable securities during a month is: financing. Optimum Cash per conversion from marketable securities III. MANAGEMENT OF CASH AND MARKETABLE = 2 (1M) x 100 = P141,421 SECURITIES .01 Management of cash involves the maximization of cash This means that the number of times that marketable balance that the firm should have in its treasury in order to securities should be converted to cash during a month is maximize interest revenue that would be generated from P1,000,000 – P1141,421 = 7 times. At P141,421 per short-term investment. This involves speeding up conversion, brokerage fees and lost revenue are minimized collections and showing down disbursements and cash and are equal or approximates each other, viz: planning. Some ways to speed up collections are: Total Cost = 100 (7) + 141,421 (0.01) = 700 + 707 = 1,407 1. Establishment of collection centers if sales outlets are 2 numerous. 2. Depositing of collections by collection centers in IV. MANAGEMENT OF ACCOUNT RECEIVABLE nearest bank. The criteria for the granting of credit to customers are 3. Presentment of checks for payment to the drawee bank the five C’s of credit namely, capital, character, capacity, (or direct sent). collateral and condition. These criteria are the basis for Disbursement can be slowed down by playing the float determining a customer’s credit strength and his worthiness and by controlled disbursement. An example of playing the to obtain credit. This is the essence of a good credit analysis. float is the payment by check drawn on a bank located far A firms credit policy serves as a guideline in extending from the business location of the payee. This will increase credit to customers [9]. It normally contains the credit the time between the drawing of the check and its being standards that should be followed: each customer is given debited in the payors account in the drawee bank. An credit scores in terms of credit references, home ownership, example of controlled disbursement is the estimation of the income range, payment history and years on job. Depending amount to be deposited to the company’s bank account in on these credit scores, decision will be determined whether order to meet payment of payroll checks. If weekly payroll, to extend standard credit terms, to extend limited credit or say, is paid by check every Saturday,. Not all the employees to reject the application. are expected to present their checks on the following V2-482 The standard credit terms, contained in credit policies, are chosen from various alternatives.
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