Year 12 Business Studies

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Nov 10, 2013 (3 years and 10 months ago)

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FINANCE REVIEW

Year 12 Business Studies

Role of Financial Management


Strategic role of financial management is to ensure
that a business operates with a ROI and continues to
grow and meet its objectives


Financial objectives identify what the owners of a
business want to achieve:


Profitability


Growth


Efficiency


Liquidity


Solvency



Role of Financial Management


What is profit?


What is left over after all expenses have been paid


Retained profit is reinvested back into the business as
capital


Profitability is represented by the gross profit and net
profit earned in a financial year


What is efficiency?


Achieved when a business can generate a greater output with the
same level of inputs (or same output using less inputs)


What does liquidity show?


It shows how well working capital is being managed and whether the
business can meet its short
-
term obligations

Role of Financial Management


A business needs to hold liquid assets


The most liquid asset is cash


Current assets are more liquid than non
-
current
assets


What is solvency?


The ability of the business to pay its debts as they fall due


The higher the gearing or debt compared to equity
finance, the greater the financial burden and the
greater the risk.

Influences on Financial Management


How can a business finance money?


Internally


Externally


Internal sources of funds are called equity
(reinvested profits and capital contributed by
owners)


External sources of finance include debt finance
(borrowed money) and equity in public and private
companies


Types of debt financing are short and long term.

Influences on Financial Management


Short term types include bank overdrafts, commercial
bills and factoring


Long term types include mortgage loans, debentures,
unsecured notes and leasing


Leasing allows a business to finance an asset by
effectively hiring it for a given time frame


Factoring enables a business to increase its cash to
finance the payment of short term liabilities and
expenses


Private equity refers to selling shares by inviting people
to become owners of the business in a private company.

Influences on Financial Management


What does the Australian Securities Exchange do?


A market that allows companies to issue shares on the primary
market to raise equity finance


Facilitates the buying and selling of shares on the secondary
market


Deregulation of the Australian financial sector
means Australian businesses can now choose from a
greater number of financial products and services at
more competitive prices


Businesses can acquire finance from overseas stock
exchanges and overseas financial institutions.


Processes of Financial Management


Financial management is responsible for the
financial planning of the business


A business may acquire funds from both equity and
debt sources:


Equity is lent to the business in exchange for ownership


Debt is made up of borrowed funds that must be repaid with
interest


What are the three main financial statements?


Cash
-
flow statement


Income statement


Balance sheet

Processes of Financial Management


What is the income statement?


A summary of the income and expenses of a business over a
set period of time.


What can you calculate from the income statement?


Total revenue


COGS


Gross profit


Net profit


A summary of the profitability and efficiency of the
business over a period of time

Processes of Financial Management


What is the balance sheet?


A summary of the assets, liabilities and equity of the business
as at a particular date


It provides a look at the financial stability or net
worth of the business.


Information can also be used to determine the
business’s liquidity and gearing.

Processes of Financial Management


Financial ratios are management tools used to
analyse the financial statements of a business


Liquidity: current ratio


Gearing: debt to equity ratio


Profitability: gross profit ratio, net profit ratio and return on
equity ratio


Efficiency: expense ratio and account receivable turnover ratio


Ratios can be compared with those of previous years
(same period) or with industry averages
(benchmarking) and competitors.

Financial Ratios


Liquidity


current ratio (working capital ratio)


Current assets/current liabilities


Gearing


Debt to equity ratio


Total liabilities/equity


Profitability


Gross profit ratio, net profit ratio and
return on equity


Gross profit/sales x 100, net profit/sales x 100, net profit/total equity
x 100


Efficiency


Expense ratio, Accounts receivable turnover
ratio


Total expenses/sales x 100


Number of days in a year, 365 divided by sales/accounts receivable.

Financial Management Strategies


A business must be able to pay for its expenses and
short
-
term liabilities when they are due


Cash
-
flow statements can be used to predict a
business’s cash inflows and outflows over a length of
time to identify a period when the business may have
liquidity problems


Working capital is the current assets used in the day
-
to
-
day running of a business


Net working capital = current assets


current
liabilities

Financial Management Strategies


What does inventory include?


Raw materials


Work
-
in
-
progress


Finished goods


Businesses must control their current liabilities
(accounts payable, short
-
term loans and overdrafts)


By stretching accounts payable, a business can hold
onto its money for longer and pay more urgent
expenses on time


Fixed expenses do not change when a business
produces more goods (
eg
. Rent)

Financial Management Strategies


Global businesses:


May borrow from financial markets in other countries


Need to take account of the exchange rates in their financial
planning


Hedging is used to reduce the financial risk in global
transactions due to changes in the exchange rate


Derivatives, a from of hedging, includes forwards
exchange contracts, currency option contracts and
swap contracts.