FINANCIAL MANAGEMENT 1 Objective 4.01

ESSTENTIAL QUESTIONS 2 What is Financial planning and how do businesses do conduct it? What are the types of Business budgets and how do companies use them? What are the categories that make-up Financial records and statements?

3 Financial Planning

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5 Why should a business do financial planning?  Reduces financial uncertainties  Increases control of financial activities  Provides a ‘map of finances’ for business  Makes it easier to ‘stick’ to financial processes and goals.

3 Phases of business financial planning What happens during each phase? 1. Start-up  Financial planning includes determining the amount of money needed to start and operate the business until a profit is made. Also the major sales and expenses are determined. 2. Operation  Financial planning includes determining whether they are making enough money to operate. The basic formula used is Revenue – Expenses = Profit or Loss.  Example of Operation planning: Tonya projected that her business expenses for the next six months should be around $2,500. 6

3. Expansion  Financial planning includes determining whether enough money is made to cover growth opportunities. Example of expansion planning: Derrick’s Appliance Company determined its affordability to start selling self-cleaning stoves. 7

Financial Planning continued 8 What is the basic financial equation? Revenue – Expenses = Profit or Loss In order to have a profit, which will be greater? Profit = Revenue > Expenses In order to have a loss, which will be greater? Loss = Revenue < Expenses

9 Types of Business Budgets

3 Types of budgets Start-up budget used by a new business or during expansion of a business until profits are made. 2.Operating budget used to project (predict) the budget for three, six months or a year for the entire business.  Revenue and Expenses from prior budgets are reviewed.

3 Types of budgets Cash budget used to estimate the amount of cash money or investments to put into a business.

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Business Budgets continued 14 Steps for preparing a business budget: 1. Prepare a list of income and expense items. 2. Gather accurate information from business records. 3. Create the budget. 4. Clearly communicate the budget to key employees in order to make sound business decisions.

15 Financial records and statements

Financial Records and Statements 16 Financial records provide specific information about business activities that is used to analyze the financial performance of a business Financial records used by businesses:  Asset records  Depreciation records  Inventory records  Records of accounts  Cash records  Payroll records  Tax records

Financial Statements ASSETS Assets are what a company owns. Examples:  Buildings  Equipment products LIABILITIES Expenses that are owed. Examples:  Payroll  Bank loans  Taxes 17

OWNER’S EQUITY 18 Owner’s equity is the value of the owner’s investment in the business. Owner’s Equity= Assets - Liabilities

BALANCE SHEET INCOME STATEMENT  Assets  liabilities  Owner’s equity  Sales  Expenses  Net profit or loss 19 Financial Statements

20 Financial performance ratios

Financial Performance Ratios 21 Financial performance ratios are comparisons using a company’s financial data to determine how well a business is performing. The four main types of financial ratios:  Current ratio  Debt to equity ratio  Return on equity ratio  Net income ratio

Financial Performance Ratios continued 22 Current ratio  How is current ratio calculated?  What does this ratio represent?  Which is more favorable, higher or lower? Debt to equity ratio  How is debit to equity ratio calculated?  What does the ratio represent?  Which is more favorable, higher or lower?

Current ratio How is current ratio calculated?  Equals current assets/current liabilities What does this ratio represent?  Shows if a company can pay debts as they become due. Ideally, this ratio should be over 1.0. Which is more favorable, higher or lower?  Higher the ratio, the more favorable it is for the company. 23

24 What is the current ratio for assets to liabilities for the following financial elements: current assets- 70,000 and current liabilities-83,000? A.48 B.84 B.1.18 C. 1.83

DEBT TO EQUITY RATIO How is debit to equity ratio calculated?  Equals total liabilities/owner’s equity What does the ratio represent?  Shows how much the business relies on borrowed money vs. money within the business. Ratio should be less than 2.0  Which is more favorable, higher or lower?  Low ratio is good 25

26 Current assets $254,000 Current liabilities 195,000 Owner's equity 85,000 Net income 42,000 Total assets 210,000 Total expenses 43,000 Total liabilities 125,000 Total sales 198,000 what is the current ratio for assets to liabilities? A B C D. 2.75

RETURN ON EQUITY RATIO  How is current ratio calculated?  Equals net income/owner’s equity (Net income can also be called net profit according to the text.)  What does this ratio represent?  Indicates the rate of return the owners/stockholders for investments.  Which is more favorable, higher or lower?  Higher ratios are good 27

NET INCOME RATIO  How is current ratio calculated?  Equals total sales/net income (Hint: This is only total SALES, not total income.) What does this ratio represent?  Shows the amount of sales needed for each dollar of net income.. Which is more favorable, higher or lower?  Normally, the lower the ratio, the more favorable it is for the company, as it takes less in sales to generate net income. 28

Financial Performance Ratios continued 29