Investment decision otherwise known as capital budgeting decision is perhaps the most important decision taken by a Finance Manager. Whatever is the objective of the firm, whether profit maximization or wealth maximization, capital budgeting decision affects performance of the firm decisively. These investment decisions have the following implications for the firm. They define the strategic focus and direction of the business. The capital expenditure made in new investments may result in entry into new products, services or new markets. Capital budgeting decisions require large funds and generally have long repayment periods. The results of capital budgeting continue to impact the finances of the firm for many years. Due to long project life, assessment involves number of years of future events leading to difficulty and uncertainty regarding the accuracy of assessment. Capital budgeting decisions are mostly irreversible. They involve investment in plant and machinery or new soft wares or technology etc. Continue reading
Financial Management Tools
Financial Analysis – Meaning, Definition and Methods
Financial statements are the source of information that present the economic value of a company to the external users. Several articles and books has defined the Financial analysis as to combine financial statement, financial notes, with other information, to evaluated the past, current, and future performance and financial position of company for the purpose of making investment, credit, and other economics decision. Financial Analysis is concerned with risk factors that might affect the future performance of a certain company. Financial analysis is concerned with different aspects of the company, in general financial analysis deals with profitability (ability to generate profit from delivering good and services), cash- flow generating ability (ability to generate cash inflows exceed cash outflows), liquidity (the ability to meet short term obligation), and solvency (the ability to meet long term obligation). In order to conduct a full, comprehensive analysis, analyst must collect information concerning economy, industry, competitors, Continue reading
Total Return Swaps (TRS)
Total Return Swaps (TRS), sometimes known as a total rate of return swaps or TR swaps, are an on off-balance sheet transaction for the party who pays total returns composed of capital gains or losses plus the ordinary coupon or dividend, and receives LIBOR plus spread related to the counterparty’s credit riskiness on a given notional principal. The bank paying total returns is effectively warehousing, renting out its balance sheet while transferring economic value and risk to preferably an uncorrelated counterparty to the referenced assets. A TRS is similar to a plain vanilla swap except the deal is structured such that the total return (cash flows plus capital appreciation/depreciation) is exchanged, rather than just the cash flows. It is one of the principal instruments used by banks and other financial instruments to manage their credit risk exposure, and as such is a credit derivative. They are used as credit risk Continue reading
The Advantages and Disadvantages of Budgeting
A budget can be described as a financial plan for a business that has been prepared well in advance to demonstrate and dictate the future course of work of a business. A budget may be set in money terms or it can be expressed in terms of units. Budgets can also be put across in the form of income budgets for money received i.e. sales budget, or expenditure budgets for money spent, i.e. a purchases budget. However, a major emphasis has always been on the cash budget which combines both income and expenditure in estimating the business working capital, cash in hand and bank balance during a course of work or a time period. The budgets are usually prepared for the following financial years (budget period), and are usually broken down into shorter time periods in order to emphasize on the figures and their attainment/fulfillment. The periods are usually monthly Continue reading
Audit Quality – Meaning and Factors Affecting It
The major accounting scandals occurred worldwide has brought the focus of public to the audit profession and the audit quality. Enron and WorldCom cases in United States and Parmalat case in Europe are the example of major scandals as a result of the failure of audit services. These examples of corporate and accounting scandals that happened worldwide have indicated that the audit quality of the audit profession is not at an appropriate and acceptable level. Over years, the audit quality issue has been discussed and debated globally. Several actions have been taken by international and domestic authorized agencies to address the audit quality issue. For example, the government of United States has introduced and enacted the Sarbanes-Oxley Act in 2002 as a response to the audit failure in big major corporations, such as Enron and World Com. In addition, the Center for Audit Quality has been established in United States Continue reading
Cost Accounting: Installation of Costing System
The need and importance of the installation and the organisation of a good system of cost accounting are being increasingly realized presently all over the business versatility. The common experience of enthusiastic youths climbing the business – tree and falling mid-way without even collecting the leaves owes to the ignorance of he use installation and organisation of costing system, and to the infatuation that the profits could be earned without it. A good system is the key-point governing, the mechanism of an enterprise in the field of cost control, ascertainment of profitability, and managerial decision-making. Installation of a costing system is not an expense but an investment as the rewards are much greater than the expenses incurred. The cost system is for the business and not the business for a system of cost. Therefore, the system has to be so designed as to meet the specific needs of the enterprise. Continue reading