According to the flexibility factor, budgets are classified into: Fixed Budget This is budget in which targets are rigidly fixed. Such budgets are usually prepared from one to three months in advance of the fiscal year to which they are applicable. Thus, twelve months or more may elapse before figures forecast for the budget are used to measure actual performance. Many things may happen during this intervening period and they may make the figures go widely out of line with the actual figures. Though it is true that a fixed, or static budget as it is sometimes called, can be revised whenever the necessity arises, it smacks of rigidity and artificiality so far as control over costs and expenses are concerned. Such budgets are preferred only where sales can be forecast with the greatest of accuracy which means, in turn, that the cost and expenses in relation to sales can Continue reading
Business Finance Concepts
Audit Theories – Theories of Demand for Audit
Audit refers to an examination of the financial reports of a firm by an independent entity. The separation of business ownership and management in modern society has created a need for accountability; causing the role of audit to change as the needs of stakeholders’ change. Audit, in itself, caters to the relationship of accountability; independent from other parts of the firm to provide a true and fair view of the financial reports of an organisation. Whereas, the ‘value relevance’ refers to the auditors’ ability and responsibility to provide reasonable assurance that financial statements are free of material misstatement, either due to fraud or error; or both. Audit theories provide a framework for auditing, uncovers the laws that govern the audit process and the relationship between different parties of a firm, forming the basis of the role of audit. There are many theories which may explain demand for audit services in Continue reading
Lease Financing in Lessor’s View Point
In normal situations, the lease decision has been evaluated from the point of the lessee in terms of the lease or buy decision. However, the lessor also has to evaluate the lease decisions from the point of view of his return. The lessor is financing the assets out of the funds procured from different sources, and obviously there is a cost of all these funds to the lessor. So, the lessor will like to provide lease financing only if the return from the lease is at least equal to the overall cost of capital of the lessor. The lease decision for a lessor is in fact a capital budgeting decision, where the lessor invests the funds in expectation of the returns in the form of lease rentals. The lessor will accept the proposal for the lease financing only if the NPV of the decision is positive at the required rate Continue reading
Adjusted Book Value Method of Corporate Valuation
In recent years, management consulting firms have started offering companies advice on how to increase value. This has been possible because of the fear of hostile takeovers. Companies have increasingly turned to “value consultants” to tell them how to restructure, increase value, and avoid being taken over. The consultants suggestions have often provided the basis for the restructuring of these firms. The value of a firm can be directly related to decisions that it makes: on which projects it takes, on how it finances them, and on its dividend policy. Understanding this relationship is key to making value increasing decisions and to sensible financial restructuring. Adjusted Book Value Approach to Corporate Valuation The adjusted book value method of corporate valuation involves estimation of the market value of the assets and liabilities of the firm as a going concern. It is a pointer to the liquidation value of the firm. It Continue reading
Loan Against Securities
Considerations of security form an important basis of lending. In fact, they constitute necessary adjunct to financial appraisal. Lending institutions have to examine the loan proposals from the point of view of nature and extent of security offered. Sometimes, there is a greater reliance on security due to inadequate financial appraisal, which in its turn may be due to non-availability of the necessary data. The security cover of the loan should, however, not be regarded as a substitute for an adequate financial assessment. Security considerations are of particular importance in less developed countries like India where information on the character, integrity and credit-worthiness of the borrowers is not readily available and much ground work has yet to be done in the establishment of credit information bureaus. A prudent term lending institution, therefore, secures its loan by adequate collateral and, where necessary, guarantees. It also embodies in the loan agreement suitable Continue reading
Credit Policy in Receivable Management
Concept of Credit Policy The discharge of the credit function in a company embraces a number of activities for which the policies have to be clearly laid down. Such a step will ensure consistency in credit decisions and actions. A credit policy thus, establishes guidelines that govern grant or reject credit to a customer, what should be the level of credit granted to a customer etc. A credit policy can be said to have a direct effect on the volume of investment a company desires to make in receivables. A company falls prey of many factors pertaining to its credit policy. In addition to specific industrial attributes like the trend of industry, pattern of demand, pace of technology changes, factors like financial strength of a company, marketing organization, growth of its product etc. also influence the credit policy of an enterprise. Certain considerations demand greater attention while formulating the credit Continue reading