11 14 13 Chapter 18 Notes Financial Management The role of Finance and Financial Planning Finance the function in a business that acquires funds for the firm and manages Financial management the job of managing a firms resources so it can meet its those funds within the firm goals and objectives Financial managers managers who examine financial data prepared by accountants and recommend strategies for improving the financial performance of the firm o Auditing o Planning o Budgeting o Obtaining funds o Controlling funds o Managing taxes o Advising top management on financial matters o Collecting funds Most common reasons for financial failure in firms o Undercapitalization insufficient funds to start the business o Poor control over cash flow o Inadequate expense control Financial Planning Short term forecast predicts revenues costs and expenses for a period of one year or less o Cash flow forecast predicts the cash inflows and outflows in future periods usually months or quarters based on expected sales revenues and various costs and expenses incurred as well as when they are due for payment Long term forecast predicts revenues costs and expenses for a period longer than 1 year and sometimes as far as 5 or 10 years into the future Budget Budget financial plan that sets forth managements expectations and on the basis of those expectations allocates the use of specific resources throughout the firm o Capital budget budget that highlights a firms spending plans for major asset purchases that often require large sums of money o Cash budget budget that estimates cash inflow and outflow during a particular period like a month or a quarter o Operating or master budget budget that ties together the firms other budgets and summarizes its proposed financial activities Financial Controls Financial control process in which a firm periodically compares its actual revenues costs and expenses with its budget 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 Alternative Sources of Funding Debt financing funds raised through various forms of borrowing that must be repaid Equity financing money raised from within the firm from operations or through the sale of ownership in the firm stock or venture capital Short term financing funds needed for a year or less Long term financing funds needed for more than a year usually 2 to 10 years o Monthly expenses o Unanticipated emergencies o Cash flow problems o Expansion of current inventory o Temporary promotional programs o New product development o Replacement of capital equipment o Mergers or acquisitions o Expansion into new markets domestic or global o New facilities Short Term Financing Trade credit practice of buying goods or services now and paying for them later o Most common least expensive convenient o Promissory note written contract with a promise to pay a supplier a specific sum of money at a definite time Borrow money from family or friends o Both parties must agree to specific loan terms put the agreement in writing and arrange for repayment in the same way they would for a bank loan Commercial bank short term loans o Secured loans backed by collateral something valuable such as property o Unsecured loan doesn t require any collateral o Line of credit given amount of unsecured short term funds a bank will lend to a business provided the funds are readily available o Revolving credit line of credit that s guaranteed but usually comes with a fee o Commercial finance companies organizations that make short term loans to borrowers who offer tangible assets of collateral Factoring process of selling accounts receivable for cash o Costs more than a loan but small businesses can t get loans so its popular amongst small businesses Commercial paper unsecured promissory notes of 100 000 and up that mature come due in 270 days or less o Because they are unsecured only financially stable firms are able to sell it Credit cards provide a readily available line of credit that can save time and the likely embarrassment of being rejected for a bank loan o Risky and costly Long Term Financing Debt financing borrowing money the company has a legal obligation to repay o Term loan agreement promissory note that requires the borrower to repay the loan in specified installments Advantage interest is tax deductible Risk return trade off the principle that the greater the risk the lender taking in making a loan the higher the interest rate required Indenture terms terms of agreement in a bond issue Secured bond bond issued with some form of collateral Unsecured bond bond backed only by the reputation of the issuer also called a debenture bond Equity financing makes funds available when the owners of the firm sell shares of ownership to outside investors in the form of stock when they reinvest company earnings in the business or obtain funds from venture capitalists First time a company offers to sell its stock to the general public initial public offering Venture capital money that is invested in new or emerging companies that are perceived as having great profit potential o Invest in return for part ownership of the business They expect higher than average returns and competent management performance for their investment Leverage raising needed funds through borrowing to increase a firms rate of return Cost of capital rate of return a company must earn in order to met the demands of its lenders and expectations of its equity holders
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