MBA fin mgt lecture 1.ppt
- 1. Lecture 1 Introduction to Financial Management by Dr Kwame Oduro Amoako Ph.D., MBA, BBA.
- 2. Key Concepts and Skills To understand what financial management is about To know the scope of financial management To know the basic types of financial management decisions and the role of the financial manager To understand the goal of financial management To be aware of the sources of finance To understand financial markets and financial instruments Dr. Kwame O. Amoako
- 3. Financial Management? Finance, according to Maness (1988) is the study of acquisition and investment of cash for the purpose of enhancing value and wealth. Management: achieving organizational objectives by performing the planning, organizing, leading and controlling functions. Dr. Kwame O. Amoako
- 4. Financial Management? Applying general management principles to financial resources of the enterprise. Financial Management means planning, organizing, directing and controlling the financial activities such as procurement and utilization of funds of the enterprise. It also refers to the efficient and effective management of money (funds) in such a manner that accomplishes the objectives of the organization. Dr. Kwame O. Amoako
- 5. Scope of financial decisions
- 6. Scope of Financial Management Financial decisions - They relate to the raising of finance from various resources which will depend upon decision on type of source, period of financing, cost of financing and the returns thereby. Investment decisions includes investment in fixed assets (called as capital budgeting). Investment in current assets are also a part of investment decisions called as working capital decisions. Dividend decisions - The finance manager has to take decision with regards to the net profit distribution. Net profits are generally divided into two: Dividend for shareholders- Dividend and the rate of it has to be decided. Retained profits- Amount of retained profits has to be finalized which will depend upon expansion and diversification plans of the enterprise. Dr. Kwame O. Amoako
- 7. Functions of a Financial Manager cont. Estimation of capital requirements: A finance manager has to make estimation with regards to capital requirements of the company. This will depend upon expected costs and profits and future programmes and policies of a concern. Determination of capital composition: Once the estimation have been made, the capital structure have to be decided. This involves short- term and long- term debt equity analysis. Choice of sources of funds: For additional funds to be procured, a company has many choices like- Issue of shares and debentures Loans to be taken from banks and financial institutions Public deposits to be drawn like in form of bonds. Dr. Kwame O. Amoako
- 8. Functions of a Financial Manager cont. Investment of funds: The finance manager has to decide to allocate funds into profitable ventures so that there is safety on investment and regular returns is possible. Disposal of surplus: The net profits decision have to be made by the finance manager. This can be done in two ways: Dividend declaration - It includes identifying the rate of dividends and other benefits like bonus. Retained profits - The volume has to be decided which will depend upon expansional, innovational, diversification plans of the company. Dr. Kwame O. Amoako
- 9. Functions of Financial Manager cont. Management of cash: Cash is required for many purposes like payment of wages and salaries, payment of electricity and water bills, payment to creditors, meeting current liabilities, purchase of raw materials, etc. Financial controls: The finance manager has not only to plan, procure and utilize the funds but he also has to exercise control over finances. This can be done through many techniques like ratio analysis, financial forecasting, cost and profit control, etc. Dr. Kwame O. Amoako
- 10. ALL MANAGERS ARE FINANCIAL MANAGERS The engineer, who proposes a new plant, shapes the investment policy of the firm The procurement manager influences the level of investment in inventories The Marketing manager has a say in the determination of the receivables policy The production manager contributes to credit policies. The Human resource manager also determines who is to be hired at what cost to the company. NOTE: Departmental managers, in general, are important links in the finance control system of the firm Dr. Kwame O. Amoako
- 11. THE ORGANISATIONAL STRUCTURE OF FINANCIAL MANAGEMENT FUNCTION Dr. Kwame O. Amoako
- 12. Dr. Kwame O. Amoako
- 13. Shortcomings of these objectives These goals are either associated with increasing profitability or reducing risk. E.g. Profit maximization; Profit figures can be manipulated. o short term profits are maximized at the expense of long term highly profitable investments. o Managers of a business may resort to unhealthy practices and manipulations such as reducing operating expenses by cutting research and development expenditure, staff training and development. Dr. Kwame O. Amoako
- 14. Shortcomings of these General Goals cont. Sales/Market share maximization o Goods can be sold at a cheaper prices or at a loss to maximize market shares o Sales maximization, taken to the extreme, can lead to overtrading, and even bankruptcy. So it is necessary to find a goal that can encompass both profitability and risk. Dr. Kwame O. Amoako
- 15. The Real Goal of the Firm Maximization of Shareholder Wealth! Dr. Kwame O. Amoako
- 16. What is shareholders wealth? Shareholders’ wealth can be measured as the current value per share of existing shares. The shareholders wealth maximization objective is to maintain highest market value of shares. Shareholder wealth is calculated as the number of common shares outstanding times the market price per share.
- 17. Wealth maximization Vrs other corporate objectives The goal of shareholder wealth maximization is a long-term goal, and takes risk into account. In order to increase shareholders wealth entities invest in long term projects highly profitable ventures. The pursuance of shareholder wealth maximization as an objective removes the technical limitations of profit maximization. Dr. Kwame O. Amoako
- 19. Introduction to Financial Markets Any marketplace where trading of securities including equities, bonds, currencies and derivatives occur. It acts as an intermediary between the savers and investors by mobilising funds between them. It plays a crucial role in allocating limited resources, in the country’s economy. Dr. Kwame O. Amoako
- 22. Summary of Classification of Financial Markets Classification by nature. Debt market; Equity market Classification by maturity. Money market; Capital market Classification by season. Primary market; Secondary market Etc. Dr. Kwame O. Amoako
- 23. Classification by nature The debt market the market where debt instruments are traded. Debt instruments are assets that require a fixed payment to the holder, usually with interest. Examples of debt instruments include bonds (government or corporate) and mortgages. The equity market (often referred to as the stock market) is the market for trading equity instruments. An example of an equity instrument would be common stock shares, such as those traded on the New York Stock Exchange. Dr. Kwame O. Amoako
- 24. Sli de 24 Classification by maturity A capital market A capital market is a financial market in which long-term debt (over a year) or equity securities are bought and sold. Capital markets channel the wealth of savers to those who can put it to long-term productive use, such as companies or governments making long-term investments Money market Market for short-term funds, Securities with maturities from one day up to one year are issued and traded in the money market The purpose of the money market is to enable institutions and companies to meet short-term funding needs by borrowing and lending each other. E.g., certificates of deposits, treasury bills, and commercial papers. Capital market includes Dr. Kwame O. Amoako
- 25. Classification by season Primary Markets Market for issuing a new securities Investment Banks— Information and marketing specialists for newly issued securities. Secondary Markets Market where existing securities can be exchanged Ghana Stock Exchange New York Stock Exchange American Stock Exchange Conceptual distinction: Selling of new securities in primary market and trading of older securities in secondary market occur simultaneously. Dr. Kwame O. Amoako
- 26. Financial Institutions The three types of financial institutions in Ghana: Commercial Banks Savings and Loan Associations Credit Unions
- 27. Efficient Market Hypothesis In an efficient capital market, security prices fairly priced based on market available information In other words, the market quickly and correctly adjusts to new information Efficient-Market Hypothesis (EMH)-hypothesis used to test whether the capital market is efficient The Efficient Markets Hypothesis (EMH) is made up of three progressively stronger forms: Strong Form Semi-strong Form Weak Form
- 28. How stock prices changes Good news Vs Bad news are directly related to stock prices Good income statement or sales report in theory comes with rise in stock prices
- 29. Strong form efficiency: At any one time, anyone and everyone knows about all relevant information about the stock The strong form says that prices fully reflect all information, whether publicly available or not ( including inside information) Even the knowledge of material, non-public information cannot be used to earn superior results. No investor can earn excess returns using any information, whether or not publicly available. Most studies have found that the markets are not efficient in this sense. Not true in practice
- 30. Semi-strong form efficiency: Prices of shares incorporate all publicly available information No investor can earn excess returns from trading rules based on publicly available information The semi-strong form says that prices fully reflect all publicly available information and expectations about the future. This suggests that prices adjust very rapidly to new information, and that old information cannot be used to earn superior returns. The semi-strong form, if correct, repudiates fundamental analysis. Most studies find that the markets are reasonably efficient in this sense, but the evidence is somewhat mixed.
- 31. Weak form efficiency: prices incorporate information about past prices No investor can earn excess returns by developing trading rules based on historical price or return information. If stock price changes are random, then past prices cannot be used to forecast future prices. Prices should change very quickly and to the correct level when new information arrives. This form of the EMH, if correct, repudiates technical analysis. Most research supports the notion that the markets are weak form efficient.
- 33. Sources of Finance Internal: Owner’s investment (start up or additional capital) Retained profits Sale of stock Sale of fixed assets Debt collection External (raised from an outside source) External: Bank Loan or Overdraft Additional Partners Share Issue Leasing Hire Purchase Mortgage Trade Credit Government Grants Dr. Kwame O. Amoako
- 34. Internal Sources Owner’s investment This is money which comes from the owner/s own savings It may be in the form of start up capital - used when the business is setting up It may be in the form of additional capital – perhaps used for expansion This is a long-term source of finance Advantages Doesn’t have to be repaid No interest is payable Disadvantages There is a limit to the amount an owner can invest Dr. Kwame O. Amoako
- 35. Internal Sources finance Retained Profits This source of finance is only available for a business which has been trading for more than one year It is when the profits made are ploughed back into the business This is a medium or long- term source of finance Advantages Doesn’t have to be repaid No interest is payable Disadvantages Not available to a new business Business may not make enough profit to plough back Dr. Kwame O. Amoako
- 36. Internal Sources Sale of Stock This money comes in from selling off unsold stock This is what happens in the January sales It is when the profits made are ploughed back into the business This is a short-term source of finance Advantages Quick way of raising finance By selling off stock it reduces the costs associated with holding them Disadvantages Business will have to take a reduced price for the stock Dr. Kwame O. Amoako
- 37. Internal Sources Sale of Fixed Assets This money comes in from selling off fixed assets, such as: a piece of machinery that is no longer needed Businesses do not always have surplus fixed assets which they can sell off There is also a limit to the number of fixed assets a firm can sell off This is a medium-term source of finance Advantages Good way to raise finance from an asset that is no longer needed Disadvantages Some businesses are unlikely to have surplus assets to sell Can be a slow method of raising finance Dr. Kwame O. Amoako
- 38. Internal Sources Debt Collection A debtor is someone who owes a business money A business can raise finance by collecting the money owed to them (debts) from their debtors Not all businesses have debtors ie those who deal only in cash This is a short-term source of finance Advantages No additional cost in getting this finance, it is part of the businesses’ normal operations Disadvantages There is a risk that debts owed can go bad and not be repaid Dr. Kwame O. Amoako
- 39. External Sources Bank Loan This is money borrowed at an agreed rate of interest over a set period of time This is a medium or long-term source of finance Advantages Set repayments are spread over a period of time which is good for budgeting Disadvantages Can be expensive due to interest payments Bank may require security on the loan Dr. Kwame O. Amoako
- 40. External Sources Bank Overdraft This is where the business is allowed to be overdrawn on its account This means they can still write cheques, even if they do not have enough money in the account This is a short-term source of finance Advantages This is a good way to cover the period between money going out of and coming into a business If used in the short-term it is usually cheaper than a bank loan Disadvantages Interest is repayable on the amount overdrawn Can be expensive if used over a longer period of time Dr. Kwame O. Amoako
- 41. External Sources Additional Partners This is sources of finance suitable for a partnership business The new partner/s can contribute extra capital Advantages Doesn’t have to be repaid No interest is payable Disadvantages Diluting control of the partnership Profits will be split more ways Dr. Kwame O. Amoako
- 42. External Sources Share Issue This is sources of finance suitable for a limited company Involves issuing more shares This is a long-term source of finance Advantages Doesn’t have to be repaid No interest is payable Disadvantages Profits will be paid out as dividends to more shareholders Ownership of the company could change hands Dr. Kwame O. Amoako
- 43. External Sources Leasing This method allows a business to obtain assets without the need to pay a large lump sum up front It is arranged through a finance company Leasing is like renting an asset It involves making set repayments This is a medium-term source of finance Advantages Businesses can have the use of up to date equipment immediately Payments are spread over a period of time which is good for budgeting Disadvantages Can be expensive The asset belongs to the finance company Dr. Kwame O. Amoako
- 44. External Sources Hire Purchase This method allows a business to obtain assets without the need to pay a large lump sum up front Involves paying an initial deposit and regular payments for a set period of time The main difference between hire purchase and leasing is that with hire purchase after all repayments have been made the business owns the asset This is a medium-term source of finance Advantages Businesses can have the use of up to date equipment immediately Payments are spread over a period of time which is good for budgeting Once all repayments are made the business will own the asset Disadvantages This is an expensive method compared to buying with cash Dr. Kwame O. Amoako
- 45. External Sources Mortgage This is a loan secured on property Repaid in instalments over a period of time typically 25 years The business will own the property once the final payment has been made This is a long-term source of finance Advantages Business has the use of the property Payments are spread over a period of time which is good for budgeting Once all repayments are made the business will own the asset Disadvantages This is an expensive method compared to buying with cash If business does not keep up with repayments the property could be repossessed Dr. Kwame O. Amoako
- 46. External Sources Trade Credit Trade credit is summed up by the phrase: buy now pay later Typical trade credit period is 30 days This is a short-term source of finance Advantages Business can sell the goods first and pay for them later Good for cash flow No interest charged if money is paid within agreed time Disadvantages Discount given for cash payment would be lost Businesses need to carefully manage their cash flow to ensure they will have money available when the debt is due to be paid Dr. Kwame O. Amoako
- 47. External Sources Government Grants Government organisations such as venture capital offer grants to businesses, both established and new Usually certain conditions apply, such as where the business has to locate Advantages Don’t have to be repaid Disadvantages Certain conditions may apply e.g., location Not all businesses may be eligible for a grant Dr. Kwame O. Amoako
- 48. Factors Affecting Choice of Source of Finance The source of finance chosen will depend on a number of factors: Purpose – what the finance is to be used for Time Period – how long the finance will be needed for Amount – how much money the business needs Ownership and Size of the business Dr. Kwame O. Amoako
- 50. what is the capital of a company made up? Capital of a company Borrowing Money invested by the owners Bonds Long-term bank loans Shares, Stock or Equity SHARES = EQUITY CAPITAL There are 2 main types of shares: 1. ORDINARY SHARES 2. PREFERENCE SHARES Dr. Kwame O. Amoako
- 51. Sample of Share certificate Dr. Kwame O. Amoako
- 52. Ordinary Shares Shares, Stock or Equity Company share capital ALWAYS includes ordinary shares Owners of ordinary shares They technically own the company FEATURES ENTITLEMENTS Can be fully paid – The shareholder has paid all of the initial capital reflecting the full value of the shares owned. Can be partly paid - The shareholder has not paid the entire initial capital. The shareholder has an obligation to pay the remaining amount when the company calls upon them to do so. This is also known as contributing shares. Full risk and reward of investing (Shareholders do well if the company does and vice-versa) Entitled to a ‘yes’ or ‘no’ vote to each resolution at company meetings Receive dividends declared by the company Half-yearly or quarterly They ratify the dividend amount proposed by the directors before they are declared payable but dividends are not always paid or as large as liked
- 53. TYPES OF PREFERENCE SHARE Preference Shares Shares, Stock or Equity SOME companies have preference shares as well as ordinary shares NO VOTING ENTITLEMENTS RECIEVE FIXED DIVIDENDS PAID BACK BEFORE ORDINARY SHAREHOLDERS IF COMPANY IS WOUND UP FEATURES/ENTITLEMENT S CUMULATIVE Dividend entitlements accumulate if they are not paid one year NON-CUMULATIVE If a company does not pay out dividends one year, these shareholders miss out on this dividend PARTICIPATING Entitle the holder to a basic dividend but the directors can award a bigger dividend in a year when the profits exceed a certain level. i.e. preference shareholder can participate in bumper profits. CONVERTIBLE Carry an option to convert into the ordinary shares of the company at set intervals and on pre-set terms. REDEEMABLE Have a date at which the nominal value may be redeemed - paid back to the preference shareholder and the shares cancelled. Articles of Association sets out precisely how they differ from ordinary shares. ‘Hybrid Securities’ – they have characteristics of bonds and equities. Preference shares have legal priority (seniority) over ordinary shareholders in respect of their dividends and collapse of the company (will get their money back before ordinary shareholders) Non-voting - cannot vote at the General Meetings of the company Pay a fixed dividend each year, the amount set when first issued and has to be paid before dividends on ordinary shares can be paid