management of finance

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Any organization's financial management is at its core. Notably, the willingness of management to coordinate their assets is critical to the performance of any organization, so the importance of financial details cannot be overstated. Efficient accounting and financial statements are used to accomplish financial management. Furthermore, financial reporting allows administrators to collect sufficient funds for use in all aspects of the enterprise. Financial data is expected to meet the needs of all of the firm's stakeholders. Financial analysts are also tasked with making financial management choices based on financial results. As such, this essay will detail out the sources of finance, their importance as well as carry a financial ratios analysis, use of budgeting and investment analysis will also be conducted. Notably, the financial data of the Cons Edison Company as displayed on the company website and public stock exchange markets will be utilized.

Sources of financial data

The sources of financial data can be classified into two categories, these are the internal and the external sources. Internal sources include the management accounts, company website, company magazines and interviews with the employees of the organization. The Company website of the Conso Edison Company provides various forms of financial data. Firstly, in the investor’s section of the website, the financial reports of the firms are provided. These are the statements that show the performance of the business over the financial year. The financial report includes the balance sheet, income statement, statement of cash flows, the statement of equity and the notes to the accounts (Zimmerman, & Yahya-Zadeh 2011, pp.258-259). Each of these statements plays a significant role to their users.

Other than the financial statements, the Con Edison website offers information on the market performance of their stocks. A list of the earnings gained from the stock markets and the attributable dividends paid to the shareholders is listed in this section. This helps in maintaining transparency in the activities undertaken by the business as well as offering useful information to the investors which is utilized in decision making.

Financial data may also be accessed from the published audited accounts of the business. The Sarbanes–Oxley Act of 2002 requires that all publicly traded organization should publish their audited financial information for easy access to the public. The audited accounts provide information on the performance of the businesses as well as inform the stakeholder whether the books of accounts were prepared in accordance to the financial reporting standards and the generally accepted accounting standards (Zimmerman, & Yahya-Zadeh 2011, pp.258-259). This information is important to the investors while making investment decisions. It is equally important to the creditors while evaluating the performance of the firm before providing financial credit.

Financial data is also accessible in the industry analysis websites. The Con Edison Company operates in the energy sector, the sector provides information of all firms operating in the industry. The information available in these sites relate to the sales revenue, number of customers and the prices charged by the businesses. This helps the firms to compare their performances and hence make decisions on the right alterations to be made.

An interview with the company is another source of financial data. The media plays major role of interviewing the company managers who offer the financial information. Generally, this information is published in the print media, televisions as well as aired on the radio. Information is also offered to the public in form of press release. The press releases communicate on the quarterly earnings, common stock dividends and the continuous earnings of the firm.

Financial ratios analysis of the Cons Edison for 2016 and 2015

Ratio

Formula

2016

2015

Gross profit as a percentage of sales

gross profit / sales

· Net profit as a percentage of sales

net profit / sales

10%

10%

· Return on capital employed

6%

6%

· Gearing

Total debt/ total equity

2.37

2.49

· Asset turnover

Total sales / Total assets

25%

29%

· Current ratio

Current assets/ current liabilities

0.89

0.81

· Acid Test

Current assets- Inventory)/ current liabilities

0.80

0.74

· Average age of debtors in days

Accounts receivables / average credit sales* 365

33.43

30.59

· Average age of creditors in days

Accounts payables/ cost of goods* 365

34.67

29.31

· Average age of stock (using closing stock) in days

Average inventory / credit sales* 365

10.25

10.18

The computation of the ratios above various situations of the firm. Firstly, the liquidity of the firm is below the 2:1 time’s level which is preferred by most investors. The liquidity level is portrayed by the current ratio and the acid test ratio. Both ratios are less than one time which means the current assets cannot meet the current liabilities. Hence the firm needs to devise ways of increasing the current assets or lower the current liabilities.

The profitability of the business has been shown by the net profit to sales ratio and assets turn over. The assets turn-over has decreased from 29% in 2016 to 25% in 2015. This means the efficiency of the management in using the assets has declined.

The leverage of the firm has been depicted by the gearing ratio show the total debt is more than the total equity. This is a risky situation since in, case of a liquidation, the equity of the business would be used to repay the creditors. Simply, the owners of the firm are at a risk of losing their investment to the creditors.

Limitations of using financial ratios

There are various flaws of using financial ratios in the analysis of the performance of a business. Firstly, the financial ratios are not useful in making timely decisions. The information used in compiling the financial ratios re historical hence not relevant to the prevailing problems. Generally, the users of financial data are interested in the recent information; hence historical data fails to satisfy the immediate needs of stakeholders (Chen, & Shimerda 1981, pp.51-60).

Use of financial ratios is also difficult while comparing the performance of different enterprises. Notably, different firms compute their ratios using different formulas. While some firms use the end of year data, others use average data in their computations (Chen, & Shimerda 1981, pp.51-60). Hence, reliance on this data may be misleading since it may show some firms perform better than other while in real sense the performance is poor.

The use of financial ratios is limited due to the estimations used in compiling the financial data. Generally, the accounting data compiled as guided by the accounting standards, while thee standards are essential, over use of the estimations and assumption makes it hard to compare the outcome of one firm to the other (Chen, & Shimerda 1981, pp.51-60). For instance, in computation of depreciation rate, some firms use the straight line method while other use the reducing balance method. It is difficult to compare these outcomes since they have different rates.

Financial ratios use is limited since it concentrates on the quantitative analysis of the financial statements. While these rates are easy to compute and understand, qualitative value should also be considered. These factors may include the size of the firm; it is good will, experience and the industry in which it operates. This may offer an equal measure of analysis though it is subjective to personal judgment.

Other than the use of financial ratios, analysis of financial data may be done using vertical and horizontal analysis. In the vertical analysis of the income statement, the performance is measures against the sales revenue. This helps to determine the percentage of the income statement components against the gross sales. In the balance sheet comparison is done against the value of total assets. This helps to determine the item that takes the largest share. On the other hand, the horizontal analysis shows the percentage change of the performance of the firm from one year to the other. This helps the users of the financial information to know the trends in which the firm moves.

Budgeting

Budgeting is an essential planning tool that assists business in controlling the use of resources, performance evaluation and motivation of the organizational members. Effective budgeting is important since it determines the success of the organization. The budgeting process should be legal to avoid legal offences; also the process should be economical to avoid losses brought about by lengthy planning (Garrison et.al 2010, pp.792-793). To achieve effective budgeting, the following discussed issues should be enhanced.

The budget should be created based on the past performance of the business. Before the budget targets are set, an analysis on the past performance should be done and from the identified values, a projection should be made. This is to ensure the firm does not over or underestimate the future outcomes.

Secondly, the identified targets should be flexed on relation to the prevailing level of performance. This helps in matching the production levels with the projected revenues and expenditures. Of importance, flexing the budget helps in lowering the possible variances (Garrison et.al 2010, pp.792-793).

Thirdly, the available funds should be considered. The effective implementation of any budget is highly determined by the available funds. These helps to determine the prevailing constraints and hence determine alternative sources of funds. Generally, businesses finance their budgets using their equity, where this amount is not enough, loans and grants may be used. While evaluating the sources of funds, managers also set the payment system. Cash payment methods are recommended for they ensure availability of cash is maintained. Where not possible credit is offered to the customers (Garrison et.al 2010, pp.792-793). To ensure the firm maintains the necessary liquidity, cash collection systems are established.

Another factor that helps in maintaining effective budgeting is setting of production budgets. This helps the management to determine the available finished goods, raw materials and the required finished goods. The production budget is also useful in determining the required raw materials and hence set the target of the required production budget. The production budgets are also used in making the sales budget which shows the sales target that a company can make.

Effective budgeting requires variance analysis. A budget is set on targets whose outcome is not guaranteed. It is common for the actual outcome to deviate from the projections, the deviations are known as the variances. Variances may either be favorable or unfavorable. All variances ought to be investigated to determine the cause and hence take the necessary measures. Variance analysis should be carried out frequently to ensure the negative deviation do lead to adverse effects.

Contingency plans which are the fall back plans of the budget are set when determining the projections. They offer solutions on the emergence of unexpected issues. They help the managers to stick to the set limits set targets.

Analysis of the cash Budget

Based on the cash budge shown below, in the month of January, the firm made a positive net cash flow since the cash receipts were more than the cash payments. The net cash flows decline over the following months since the sales revenue increases at a lesser margin than the increment in the operational expenses. This means the firm will not be able to attain a positive net cash flow in the future. Additionally, the firm may be unable to maintain their liquidity hence being forced to source funds from alternative sources. In the first instance, the firm will require making use of the overdraft. While the use of the overdraft is recommended, it may lead to an increase in the operational expenses since the loan will incur an interest.

Conducting further analysis of the budget reveal that a capital expenditure will be made in the month of March, while this may be necessary, incurring this amount increases the cash payments made by the organization. A capital expenditure is made to increase the assets owned by the Organizations. Assets may include plant and equipment, machinery, building or land. Whereby the firm at hand wished to improve the operations of the business using the acquired asset, the amount utilized in this course may lead to failure to meet the objectives of the business. The financiers of the business who offer the overdraft may also fail to offer the credit facility on the argument the total receipts of the business are not enough to repay the loan installments.

To overcome the challenges identified, the financial managers need to devise a mitigating measure that will help in turning around the prevailing situation. Firstly, the sales volume need to be increased. An increment in the sales volume will translate into increased sales revenue hence increasing the available cash. Equally the value of the net available cash will increase.

Another mitigating measure that may be explored by the organization is the reduction of the operating expenses. As noted above the operating expenses of most months are more than the cash receipts. Hence it is prudent to lower the cash payments to match the receipts.

The low cash receipts may be caused by the failure of the debtors to repay their debts. In this case, the firm will require offering incentives to the credit customers to ensure debts are paid on time. These incentives may include cash discounts on early payment. All customers who pay before the expiry of the credit period should be offered a discount on their debt. Where the firm is unable to collect the debts, the services of a debt collector should be used where the debt is collected and a commission paid to the individual all cash collected (Garrison et.al 2010, pp.792-793).

Given that the material purchases are significantly high, the firm needs to consider sourcing their materials from other sources. These sources should be able to charge a lower cost per item so as not to surpass the set limits. Discounts should be negotiated with the suppliers so as to lower the total costs.

Evaluation of Capital Investment Proposals

The Criteria by Which Proposals are judged

In this scenario, the company has two proposals for capital expenditure in new machines to be used in the production line. One of the methods through which capital investment proposals are evaluated is the rate of depreciation. However, it should be noted that capital expenditures and depreciation hardly ever reconcile easily because of uneven spending patterns resulting from the business cycle (Bennouna, Meredith, & Marchant 2010, pp.225-247). The goal of this evaluation is to comprehend the amount of spending required to preserve the capacity and the firm’s competitive position, and if the proposal can achieve it a sustainable way. This helps to significantly enhance the net income of a proposal by stopping reinvestments, whose effects are not realized immediately. Deprecation is an actual cost and is examined as simply the repayment of previous capital investments (Bennouna., Meredith, & Marchant 2010, pp.225-247). Depending on the characteristics of assets, the technique typically highlights the average rate of recent capital expenditure.

The second method used to judge the proposals is capital allocation. The technique is described as how the company’s executives decide to delegate resources in the quest for returns. The decision-making process is centred on two aspects; (1) the number of high return, high-confidence opportunities in existence; (2) the firm’s track-record when making decisions regarding allocation of value-creating assets (Bennouna., Meredith, & Marchant 2010, pp.225-247). The first aspect is what is usually referred to as runaway. In other words, it the timeframe and size for reinvestment opportunities that have high returns; in this regard, the bigger the better. The second aspect is centred on the viewpoint and confidence of management. The technique enables the firm to adopt proposals that add value, even though some of them may occasionally and understandably fail. The ultimate proposal is the one which has a lengthy runaway.

The Viability of a Proposal for Expenditure

The viability of a proposal can be determined by the time value of money. The primary premise of the net present value of money technique is that present cash in hand is worth more than the cash to be acquired in the future (Lee & Lee 2010, pp.313-323). Assuming that the company can earn 8% annually as a return of funds invested in the new machines, then, if the company invests $681 presently, the investment would have a worth of $1000 in half a decade.

To adjust cash for its future value, the firm uses compounding to acquire the future value of a present figure. Each year, an amount is added to the cash that is already based on the rate of return the company earns (Lee & Lee 2010, pp.313-323). The reverse is done to determine the present value of money the company could earn in the future. It is done to determine the present value, which the 8% of its capital will earn annually for the next 5 years. The money’s discount factor earned for the first year is 0.9259. Therefore, the $1,000 earned after the year-1 has a present value of $925.90. In the same way, the present value of the one thousand dollars earned at the end of two to five years can be determined using the discount factors. The company can then determine the present value of this cash flow as the sum of yearly present values. Fundamentally, the discounting converses the process of compounding and changes a future value of money to a present sum by penalizing it; since the company does not have it currently (Lee & Lee 2010, pp.313-323). On that account, it determines the viability of the expenditure since it highlights the earnings the company could earn if the investment was made today.

The Strengths and Weaknesses of the Proposal

Since the return of investment model (ROI) is used to determine the viability of the expenditure, it can be used to illustrate the strengths and weaknesses of the proposal. The model determines the financial efficiency of the proposal by comparing the amount of money generated by the proposal by the opportunity to the funds invested in it. Due to its time impact on value, the model considers the timing of future cash flows.

On that account, the greatest benefit of the proposal is that it applies a standardized technique to determine the financial efficiency of the investment. Since the ROI metric is common, it can be utilized and can assist to describe an opportunity to the executives and other key stakeholders who are not familiar with the technical aspects of financial management. The time value of money was chosen for the proposal since it best suits the objectives of the firm (Bennouna, Meredith, & Marchant 2010, pp.225-247). The technique also enables the comparison of different investment opportunities to select the one that is most viable.

The drawback of the proposal is derived from the use of ROI. Whereas the ROI model utilizes anticipated costs cash flows in its calculations, it does not consider the probability those costs and returns will be similar to predictions (Bennouna, Meredith, & Marchant 2010, pp.225-247). Besides, since the ROI model exclusively facilitates a financial measure of determining the viability of a proposal, it fails to describe the intangible characteristics of an investment. Therefore, if the executives do not properly scrutinize the proposal, it may lead them to select a less-attractive investment.

The Impact of the Proposal on the Strategic Objectives of the Company

Since the proposal is aimed at the increase of production capacity through investment in new machines, it would enable the firm to achieve its objective of venturing into new markets in the next decade. The current production capacity is more than adequate for the firm’s present market base; however, it is not sufficient for a wider regional focus. Therefore, if the proposal is adopted, the firm will more than double its production capacity, effectively readying it for new markets. It means that the supply chain of the company will have to broaden significantly. To enable this, the firm will have to outsource its supply process since it is currently an in-house process. Whilst it will take time for the effects of the proposal to be felt, it will eventually increase value for the company’s stakeholders.

References

Bennouna, K., Meredith, G.G. and Marchant, T., 2010. Improved capital budgeting decision making: evidence from Canada. Management decision, 48(2), pp.225-247.

Chen, K.H. and Shimerda, T.A., 1981. An empirical analysis of useful financial ratios. Financial Management, pp.51-60.

Garrison, R. H., Noreen, E. W., Brewer, P. C., & McGowan, A. (2010). Managerial accounting. Issues in Accounting Education, 25(4), pp.792-793.

Lee, I., & Lee, B. C. (2010). An investment evaluation of supply chain RFID technologies: A normative modeling approach. International Journal of Production Economics, 125(2), pp.313-323.

Zimmerman, J. L., & Yahya-Zadeh, M. (2011). Accounting for decision making and control. Issues in Accounting Education, 26(1), pp.258-259.

November 17, 2022
Category:

Economics Business

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Organization Success Manager

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13

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3390

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