The following are some of the most significant advantages of budgetary control. Budgeting compels management to plan for the future, the budgeting forces management to look ahead and become more-effective and efficient in administering business operations. It instills into managers the habit of evaluating carefully their problems and related variables before making any decisions. Budgeting helps to coordinate, integrate, and balance the efforts of various departments in the light of the overall objectives of the enterprise. This results in goal congruency and harmony among the departments. Budgeting facilitates control by providing definite expectation on the planning phase that can be used as a frame of reference for judging subsequent performance. Undoubtedly, budgeted performance is a more important standard for comparison than past performance, since past performance is historical factors, which are constantly changing. Budgeting improves the quality of communication. The enterprise’s objectives, budget goals, plans, authority and responsibility and procedures Continue reading
Business Finance Concepts
The Cost of Preference Capital
The measurement of the cost of preference capital poses some conceptual difficulty. In the case of debt, there is a binding legal obligation on the firm to pay interest, and the interest constitutes the basis to calculate the cost of debt. However, in the case of preference capital, payment of dividends is not legally binding on the firm and even if the dividends are paid, it is not a charge on earnings; rather it is a distribution or appropriation of earnings to preference shareholders. One may be, therefore, tempted to conclude that the dividends on preference capital do not constitute cost. This is not true. The cost of preference capital is a function of the dividend expected by investors. Preference capital is never issued with an intention not to pay dividends. Although it is not legally binding upon the firm to pay dividends on preference capital, yet it is generally Continue reading
Features of a Sound Capital Structure
Capital structure is a business finance term that describes ‘the proportion of a company’s capital, or operating money, which is obtained through debt and equity or hybrid securities’. Debt consists of loans and other types of credit that is to be repaid in the future, usually with interest. Equity involves ownership interest in a corporation in the form of common stock or preferred stock. Equity financing does not involve a direct obligation to repay the funds which is in contrast to debt financing. Instead, equity investors are able to exercise some degree of control over the company as they become part-owners and partners in the business. The goal of a company’s capital structure decision is to maximize the gains for the equity shareholders. The optimal capital structure is the one that maximizes the price of the stock and simultaneously minimizes the cost of capital thus striking a balance between risk Continue reading
Agency Problem
Why conflict of interest between owners and management? The control of the modern corporation is frequently placed in the hands of professional non-owner managers. We have seen that the goal of the financial manager should be to maximize the wealth of the owners of the firm and given them decision-making authority to manage the firm. Technically, any manager who owns less than 100 percent of the firm is to some degree an agent of the other owners. In theory, most financial managers would agree with the goal of owner wealth maximization. In practice, however, managers are also concerned with their personal wealth, job security, and fringe benefits, such as country club memberships, limousines, and posh offices, all provided at company expense. Such concerns may make managers reluctant or unwilling to take more that, moderate risk if they perceive that too much risk might result in a loss of job and Continue reading
Value Added Statements – Definition, Advantages and Disadvantages
Meaning and Definition of Value Added Statements The main thrust of financial accounting development in the recent decades has been in the area of `how’ we measure income rather than `whose’ income we measure. The common belief of the traditional accountants that profit is a reward of the proprietors has been considered as a very narrow definition of income. This was so because previously the assets were assumed to be owned by the proprietor and liabilities were thought as proprietor’s obligations. This notion of proprietorship was accepted and practiced so as long as the nature of business did not experience revolutionary changes. However, with the emergence of corporate entities and the legal recognition of the existence of business entities separate from the personal affairs and interest of the owners led to the rejection of proprietary theory. Value added is now reported in the financial statements of companies in the form Continue reading
Sales Budget Preparation
Sales Budget is a forecast of total sales expressed and incorporated in quantities and/or money. An accurate sales budget is the key to the entire budgeting in some way. If the sales budget is sloppily done then the rest of the budgeting process is largely a waste of time. A sales budget may be prepared by expressing turnover under any one or combination of the following: Product or product group; Territories, areas and countries; Types of customers, e.g., National, Government, export, home, wholesale or retail; Salesmen, agents or representatives, and Period, such as quarter’s months, weeks, etc. A sales budget may be prepared with the help of any one or more of the following method: Analysis of past sales with-adjustment for current conditions. Analysis of past sales for a number of years, say 5 to 10 years, viz, long-term trend, seasonal trend, cyclical and sundry other factor. The long-term trend Continue reading