1. Busn 101 Chapter 18
Financial Management
Chapter 18 Busn 101

2. Financial Management & Financial Managers Financial Planning Process
Goals
Finance
Financial Management & Financial Managers
Financial Planning Process
Three Key Budgets in a Financial Plan
Major reasons Why Firms Need Operating Funds
Types of Financing for Operating Funds
Short-term Financing
Long-term Financing
Chapter 18 Busn 101

3. The word Fund almost always means Cash
Funds = Cash
The word Fund almost always means Cash

4. Definition of Finance:
What Is Finance?
Definition of Finance:
The function in a business that acquires funds for the firm and manages those funds within the firm
How to allocate scarce resources (debt & equity) across assets over time in order to earn a return or achieve the organizations goals and objectives
What should we invest in?
Should we incur debt?

5. Financial Management & Financial Managers
The job of managing a firm’s resources so it can meet its goals and objectives
Preparing budgets
Cash Flow analysis
AR and AP and Inventory and Cash sort-term cash management
Capital Expenditures
Risk and Uncertainty define the role of financial management
Financial Managers
Managers who make recommendations to top executives regarding strategies for improving the financial strength of a firm

6. Accountant Vs. Financial Manager
Create accounting system
Accrual Accounting (Not Cash Flow)
Record transactions
Create financial reports that provide useful information for decision making
Look Back
Use financial information to make decisions about buying assets and incurring debt
Cash Flow (Not Accrual Accounting )
Budgets
Cash Flow Management
What do we buy?
How do we obtain funds (Equity or Debt)?
Looking Forward

7. 3 Most Common Ways For Firm To Fail Financially
Lack of Cash to start business
Poor control over cash flows once the business is started
Expenses too high

8. Financial Management Tasks
Manage Operational Cash In and Out:
How should we finance Inventory?
Can firm pay bills (Accounts Payable)?
Can the firm collect from customers (Accounts Receivable)?
What terms should we give customers?
Small and medium sized businesses must pay especially close attention to these because they often do not have large supplies of cash or easy access to debt

9. Financial Management Tasks
Cost Accounting and Auditing Financial Statements to assure that accounting numbers are reliable (usually accounting)
Can firm pay taxes?
Tax planning and tax implications to minimize cash flow out
Forecasting & Budgets

10. Financial Management Tasks
Can firm Pay long-term debts?
Can we pay dividends?
Should we issue debt?
Can we issue debt?
Should we (or can we) issue Equity?
What long-term assets should we buy?

11. Financial Planning Process Three Key Budgets in a Financial Plan
Short-term Forecasting
Long-term Forecasting
See Learning Goal 2: Outline the financial planning process, and explain the three key budgets in the financial plan.
See text pages: 487
Operating Budget
Capital Budget
Cash Budget
Financial Controls
Feedback
Feedback

12. Financial Planning Process
Forecasting Financial Needs
Working With The Budget Process
Establishing Financial Controls

13. Forecasting Financial Needs
Short-term Forecast
Cash Flow Forecast
Long-term Forecast

14. Short-term Forecast
Forecast that predicts revenues, costs, and expenses for a period of one year or less
Revenues and Expenses go into Income Statement; whereas costs are for things such as capital equipment where all the cots does not go as an expense into the Income Statement
This forecast is the foundation for most other financial plans
Part of this Short-term Forecast may be in the form of a Cash Flow Forecast 

15. Cash Flow Forecast
Forecasts that predict the cash inflows and outflows in future periods, usually months or quarters
Based on expected sales revenue and on various costs and expenses incurred and when they will come due
Past accounting data and current economic data is used to estimate future cash flows

16. Long-term Forecast
Forecast that predicts revenues, costs, and expenses for a period of longer than one year (usually 2 – 1o years)
Long term strategic goals affect this forecast
Before you can complete this forecast you must ask questions like these:
What business are we in now or in five years
The answer helps decide:
What long-term assets to buy
What technology to invest in
What research and development to invest in
Can we pay the interest on long-term debt

17. Working With The Budget Process
Capital Budget
Cash Budget
Operating Budget (Master Budget)

18. Budget
A Financial Plan that sets forth management’s expectations, and, on the basis of those expectations, allocates the use of specific resources throughout the firm
Budget is based on past financial statements (accounting). If the financial statements are not accurate, the budget will not be accurate
Important Budgets:
Capital Budget
Cash Budget
Operating Budget (Master Budget)

19. Capital Budget
A budget that highlights a firm’s spending plans for major asset purchases that often require large sums of money

20. Cash Budget
A budget that estimates a firm’s projected cash inflows and outflows that the firm can use to plan for any cash shortages or surpluses during a given period
The Cash Budget is usually the last budget to be created because you need all the other estimates of cash flow before you can complete the Cash Budget

21. Operating Budget (Master Budget)
The budget that ties together all of the 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

22. Financial Control
A process in which a firm periodically compares its actual revenues, costs and expenses with its budget

23. Major reasons Why Firms Need Operating Funds
Manage Daily Operations
Controlling Credit Operations
Acquire Inventory
Capital Expenditures
See Learning Goal 3: Explain the major reasons why firms need operating funds, and identify various types of financing that can be used to obtain those funds.
See text pages: 491

24. Manage Daily Operations & Controlling credit operations
Pay cash out for bills as late as possible while still earning the discount for paying early
Collect cash in from customers as soon as possible, and offer attractive “pay early” terms
Put excess money in bank to earn interest (time value of money)
Borrow money short-term if necessary to pay bills
Use of credit cards to speed up customer collections
But incur fee for this service

25. Acquire Inventory
Because you pay cash for inventory, when inventory sits on the shelf, cash is sitting on the shelf
Managing a high inventory turnover may help to not keep cash on the shelf
Inventory that sits on the shelf cannot earn a good return for the firm
(unless the value of the inventory is rising faster than the rate of inflation and the rate of return required by the firm)

26. 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 or other businesses
Capital Expenditures = Assets needed to run the business in order to make a return

27. Sources of funds Debt Financing Equity Financing Sort-term 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
Sort-term Financing
Borrowed capital that will be repaid within one year
Long-term Financing
Borrowed Capital that will be repaid over a specific period longer than one year

28. Why Firms Need Funds Short-Term Funds Meeting monthly expenses
Unanticipated emergencies
Cash-flow problems
Expanding current inventory
Temporary promotional programs
Long-Term Funds
New product development
Replacing capital expenditure
Mergers or acquisitions
Expansion into new markets
Building new facilities
See Learning Goal 3: Explain the major reasons why firms need operating funds, and identify various types of financing that can be used to obtain those funds.
See text pages: 494

29. Short-term Financing Trade Credit Promissory Note Family & Friends
The practice of buying goods and services now and paying for them later
2/10, N 30
Promissory Note
A written contract with a promise to pay a supplier or other creditor a specific sum of money at a definite time
Customers that may not have good credit
Family & Friends

30. Short-term Financing Secured Loan Unsecured Loan Line of Credit
A loan backed by something valuable, such as property
If you don’t pay back the loan, the creditor can take the asset (collateral)
Unsecured Loan
A loan that is not backed by any specific asset
Line of Credit
A given amount of unsecured short-term funds a bank will lend to a business, provided the funds are readily available
Speeds up process so firm does not have to reapply for a loan each time it wants to borrow

31. Short-term Financing Revolving Credit Agreement
A line of credit that is guaranteed by the bank
Commercial Finance Companies
Organizations that make short-term loans to borrowers who offer tangible assets as collateral
Factoring
The process of selling Accounts Receivable for cash
Factoring is not a loan
Factoring can be expensive
Pledging AR to get a loan
Commercial Paper
Unsecured promissory notes of $100,000 and up that mature (come due) in 270 days (270/360 = 3/4 year) or less

32. Long-term Financing Term-loan Agreement Bonds Equity
Issue Stock
Use Retained Earnings
Venture Capital
Long-term loans are usually more expensive than short-term loans

33. Term-loan Agreement
A promissory note that requires the borrower to repay the loan in specific installments

34. Bonds Bonds = Long-term debt Bonds can be:
1 Bond usually means the corporation (or government) borrows $1000 (face value)
Corporations usually issue many Bonds
Bonds can be:
Interest Only
Pay interest each period and face value back on the maturity date
Discount
Pay all interest and Face Value back on Maturity Date
Bonds can be secured or unsecured loans
Unsecured Bonds are called “Debentures”

35. Indenture Terms The terms of agreement in a bond issue
The written agreement between the corporation and the lender detailing the terms of the debt issue

36. Equity
Issue Stock
Use Retained Earnings

37. Venture Capital (Equity)
Money that is invested in new or emerging companies that are perceived as having great profit potential

38. Bonds and Stocks:
Like stock, bonds bring capital (money) into the corporation so that it can invest in profitable projects
Bondholders are creditors
They have a fixed claim to cash flow
Stockholders are owners
They have a residual claim to cash flow
Chapter 18 Busn 101

39. Differences Between Debt and Equity
Not an ownership interest
Creditors do not have voting rights
Interest is considered a cost of doing business and is tax deductible
Creditors have legal recourse if interest or principal payments are missed
Excess debt can lead to financial distress and bankruptcy
Equity
Ownership interest
Common stockholders vote for the board of directors and other issues
Dividends are not considered a cost of doing business and are not tax deductible
Dividends are not a liability of the firm and stockholders have no legal recourse if dividends are not paid
An all equity firm can not go bankrupt
Chapter 18 Busn 101

40. Debt Financing Leverage Loan Risk/Return Trade-off Cost Of Capital
Raising needed funds through borrowing to increase the firm’s rate of return (ROE – Return On Equity)
Loan Risk/Return Trade-off
The principal that the greater the risk a lender takes in making loan, the higher the interest rate required
Cost Of Capital
The Rate Of Return a company must earn in order to meet the demands of its lenders and expectations of its equity holders