1. Principles of Management
Week 6 / 7

2. The Finance Department
Unit 8
The Finance Department

3. The finance department
Finance Director
Accounting
Financial reporting
Tax and investment
Auditing
Payroll
Financial Administration
Controller
Billings and collections
Purchasing
Financial Analysis and Planning
Planning and forecasts
Corp. finance
Financial analysis

4. Review – how profit is calculated
Accounting
Measure of net income (net profit)
Sales revenues
1,000,000
- Cost of goods sold
(500,000)
= Gross profit
500,000
- Operating expenses
(420,000)
= Operating income (operating profit)
80,000
- Other income and expenses (interest)
( 30,000)
- Taxes payable
( 20,000)
= Net income (net profit, earnings, bottom line, etc.)
30,000

5. Forecasting and planning
Financial Analysis and Planning
Operating budget
Year plan, quarterly estimates
All projected revenues and current expenses
Includes cash
Capital expenditure budget
All long-term capital asset investments
Accounted for differently
Cash budget
Daily, weekly, quarterly, yearly
Cash on hand or needed
How much credit available to extend
Cash allocation
Operating budget = the plan for the year. Usually done by department, combined into a master budget
(includes more than just operating expenses! Includes all costs related to running the business, including interest payments)
Capital budget = expenditures that will be consumed over more than one year
Cash budget = credit terms, cash collections, credit extensions

6. Cash flow issues from speculative production

7. The importance of liquidity
Financial Administration
Cash and cash equivalents (marketable securities, accounts receivables)
Inventory
Furniture, machinery, buildings
Intellectual property, brand value

8. Capital budgeting Capital budgeting Financial Analysis and Planning
Strategies
New investment project
Viability and feasibility analysis (Investment appraisal)
Alternatives comparative analysis
Capital expenditure budget, corp. finance and strategy
Financial Analysis and Planning
Consider the operating leverage of each project, how much will it change the underlying structure and availability of working capital and cash?

9. Questions
If Popco sales projections look slow for April-June (2nd quarter), what sources of funds should we consider to manage our cash flow in 2013? Why?
For our expansion plans into Brazil (“Popco II”), we want to raise $2,000,000. What sources of funds should we consider? Why?

10. Raising finance – in simple terms
How much money do we need?
When do we need the money
Where do we get money? (sources of funds)
What is the least expensive money we can get?

11. Raising finance Sales revenues Debt capital Equity capital
Sources of funds
Sales revenues
Debt capital
Equity capital
Sale of assets

12. Raising finance

13. Main way to raise finance: revenues!
Clearly this is the best way, so why would you need any other?

14. If the debtor cannot pay, the creditor takes ownership of the asset
Security
A secured loan means that there is some asset of value the loan is based on
If the debtor cannot pay, the creditor takes ownership of the asset
The asset used for security is often called collateral

15. Short term and long-term debt financing
Short term debt financing
Long-term debt financing
Trade credit*
Promissory notes*
Line of credit*
Unsecured bank loan*
Loan secured by inventory†
Loan secured by receivables†
Factoring†
* Unsecured
† Secured
Long-term loans Corporate bonds
Factoring is selling the receivables due to a third party at a discount to raise cash
They pay commission and fees, the factor does collecting from the customer
Remember the role of interest in the profit statement…where it is collected!
Bonds are a promise to pay a face (par) value at a future date, with regular interest payments in between (coupons)
Yield is what you reap (like as in agriculture): coupon, current (interest rate as a % of the current price of the bond), and yield to maturity (estimate what you get if you hold it until maturity, including interest and the par value).

16. Types of equity financing
Selling stock
IPO and high cost of floatation
Low ongoing cost (no dividend obligation, free to trade, deferred liability = no need for cash)
Retained earnings (undistributed profits)
Cost free
Increases value of stock
In small firms and partnerships, raise money from owners (sole proprietor, partners)

17. Selling assets Assets make inventory and revenues End of life assets
Underperforming assets

18. Back to our questions…
If Popco sales projections look slow for April-June (2nd quarter), what sources of funds should we consider to manage our cash flow in 2013? Why?
For our expansion plans into Brazil (“Popco II”), we want to raise $2,000,000. What sources of funds should we consider? Why?

19. Question 1: Know your inventory requirements!
What inventory do you need to keep in stock?
Too much inventory = higher costs and expenses
Too little inventory = lost sales opportunities
When and where do you need more inventory, when less?
When is your peak season? Low season?
Where are your inventories required?
Find this information out from chamber of commerce sources, online, from market research reports, from your bank’s small business desk, industry trade magazines, or the best way – ask someone who runs a similar business!
In general, try to reduce your fixed costs as much as possible if they are not essential when starting out!

20. Question 1: Know the industry benchmarks!
What are the typical revenues? Gross margins? Operating margins? What are operating costs as a % of revenues in your industry? What are fixed costs as a % of total costs? What are the typical % of operating expenses (Opex)
Find this information out from chamber of commerce sources, online, from market research reports, from your bank’s small business desk, industry trade magazines, or the best way – ask someone who runs a similar business!
In general, try to reduce your fixed costs as much as possible if they are not essential when starting out!

21. Question 2: Comparative finance exercise
What’s the best way to raise $2,000,000? In other words, what is the return on shareholders equity of $2,000,000?
Popco
Popco II

22. Summary
The Finance department manages all the financial needs of the company (its managers and employees), and of its customers and suppliers, as well as all the reporting needs of its stakeholders:
Current (short-term)
Day-to-day
Future (long-term)
Past

23. Financial reporting: the accounting team and financial statements