CHAPTER 12 - MANAGING THE FINANCE FUNCTION Flashcards
is an important management responsibility that deals with the “procurement and administration of funds with the view of achieving the objectives of business
FINANCE FUNCTION
3 BASIC MANAGEMENT FUNCTION
- finance function
- production
- marketing
PROCESS FLOW OF FINANCE FUNCTION
- ## determination of fund requirements
DETERMINATION OF FUND REQUIREMENTS
- to finance daily operations
- to finance firm’s credit services
- to finance the purchase of inventory
- to finance the purchase of major assets
FINANCING DAILY OPERATIONS
- wages and salaries
- rent
- taxes
- power and light
- marketing expense
- administrative expenses
MARKETING EXPENSES
advertising
entertainment
travel expenses
telephone and telegraph
stationery and printing
postage, etc.
ADMINISTRATIVE EXPENSES
auditing
legal
services
etc
it is often times unavoidable for firms to extend credit to customers. if the engineering firm manufactures product, sales terms vary from cash to 90-day credit extension to customers
FINANCING THE FIRM’S CREDIT SERVICES
when a new chemical manufacturing firm finds difficulty in convincing distributors to carry their products, a __________ may solve the problem
CREDIT EXTENTION
the maintenance of adequate inventory is crucial to many firm. raw materials, supplies, and parts are needed to be kept in a storage so they will be available when needed
FINANCING THE PURCHASE OF INVENTORY
will require sufficient funding and this must be secured
PURCHASE OF ADEQUATE INVENTORY
companies, at time, need to purchase major assets. when top management decides on expansion, there will be a need to make investments in capital assets like land, plan, and equipment
FINANCING THE PURCHASE OF MAJOR ASSET
SOURCES OF FUNDS
- cash sales
- collection of accounts receivables
- loans and credits
- sales of asset
- ownership contribution
- advances from customers
cash is derived when the firm sells its product or services
CASH SALES
some engineering firms extend credit to customers. when these are settled, cash is made available
COLLECTION OF ACCOUNTS RECEIVABLES
when other source of financing are not enough, the firm will have to resort to borrowing
LOANS AND CREDITS
cash is sometimes obtained from the sales of company’s assets
SALE OF ASSETS
when cash is not enough, the firm may tap its owners to provide more money
OWNERSHIP CONTRIBUTION
sometimes, customers are required to pay cash advances on orders made . this helps the firm in financing its production activities
ADVANCES FROM CUSTOMERS
Loans may be classified as
- short-term
- medium-term
- long-term
are those with repayment schedules of less than one year
SHORT-TERM SUORCES OF FUNDS
are sometimes required by short-term creditors
COLLATERALS
LONG-TERM ASSETS
Production equipment
Land
Building
ADVANTAGES OF SHORT-TERM CREDITS
- they are easier to obtain
- short-term financing are often less costly
- offers flexibility to the borrower
creditors maintain the view that the risk involved in short-term lending is also a short-term. thus short-term credits are made easily available to qualified borrowers
They are easier to obtain
since short term financing i favored by creditors, they make it available at less cost
Often less costly
after the borrower has settled his short-term debt, he may consider other means of financing, in contrast, eliminates, this option. he is stuck with the long-term funds even he is no longer requires it.
OFFERS FLEXIBILITY TO THE BORROWER
DISADVANTAGES OF SHORT-TERM CREDITS
- mature more frequently
- at times, be more costly than longer term debts
Supplies of short-term funds. short term financing is provide the following:
- trade creditors
- commercial banks
- commercial paper houses
- finance companies
- factors
- insurance companies
refers to suppliers extending credit to a buy for use in manufacturing, processing, or reselling goods for profit
TRADE CREDITORS
INSTRUMENTS USED IN TRADE CREDIT
- open-book credit
- trade acceptance
- promissory notes
is unsecured and permits the customer to pay for goods delivery to him in a specified number of days
OPEN-BOOK CREDIT
is a time draft drawn by a seller upon a purchase payable to the seller as payee, and accepted by the purchaser as evidence that the goods shipped are satisfactory and that the price is due and payable
TRADE ACCEPTANCE
is an unconditional promise in writing made by one person to another, signed by the marker, engaging to pay, on demand or fixed or determinable future time, a certain sum of money to, or to be order of, a specified person or to bearer
PROMISSORY NOTES
are institutions which individuals or firms may tap as source of short-term financing
COMMERCIAL BANKS
Commercial banks grant two types of short-term loans
- those which require collateral
- those which do not require collateral
EXAMPLES OF COMMERCIAL BANKS GRANTING SHORT-TERM LOANS
City Trust
Premier Bank
Land Bank
are those that help business firms in borrowing funds from the money market. under this scheme, the business firm is need of funds issues a commercial paper , which a short-term promissory note, generally unsecured, and issued by large, established firms
COMMERCIAL PAPER HOUSES
is sold to investors through the commercial paper house
COMMERCIAL PAPER
are financial institutions that finance inventory and equipment of almost all types and sizes of business firms
BUSINESS FINANCE COMPANIES
EXAMPLE OF FINANCE COMPANIES IN THE PH
Philacor Credit Corporation and Consolidated Orix Leasing and Finance Corporation
are institutions that buy the accounts receivables of firm, assuming complete accounting and collection responsibilities
FACTORS
are also possible sources of short-term funds. industry reports indicate that insurance companies in the Philippines regularly make investments in short-term commercial papers and promissory notes
INSURANCE COMPANIES
there are instances when the engineering firm will have to tap the long-term sources of funds. an example is when expenditures for capital assets become necessary.
LONR-TERM SOURCES OF FUND
CLASIFICATION OF LONG-TERM SOURCES OF FUNDS
- long-term debts
- common stocks
- retained earnings
Long-term debts are sub-classified into
Term Loans and Bonds
is a “ commercial or industrial loan from a commercial bank, commonly used for plant and equipment, working capital, or debt repayment “
TERM LOANS
Term loans have maturities of
2 to 30 years
Advantages of term loans as long-term source of funds are as follows:
- funds can be generated more quickly than other long-term sources
- they are flexible, i.e., they can be easily tailored to the needs of the borrower
- the cost of issuance is low compared to other long-term sources
is a certificate of indebtedness issued by a corporation to lender. it is marketable security that the firm sells to raise funds
BONDS
the source of long-term funds consist of issuance of common stocks. since common stocks represent ownership of corporations, many investors are placing money in them
COMMON STOCKS
refer to corporate earnings not paid out as dividends. this simply means that whatever earnings that are due to stockholders of corporation are reinvested
RETAINED EARNINGS
these can be used by the firm indefinitely, they become an important source of long-term financing
RETAINED EARNINGS
TYPES OF BOND
- Debentures
- Mortgage bond
- Collateral trust bond
- Guaranteed bond
- Subordinated Debentures
- Convertible bonds
- Bonds with warrants
- Income bonds
no collateral requirement
DEBENTURES
secured by real estate
MORTGAGE BOND
secured by stocks and bonds owned by the issuing corporation
COLLATERAL BONDS
payment of interest or principal is guaranteed by one or more individuals or corporations
GUARANTEED BOND
with an inferior claim over other debts
SUBORDINATED DEBENTURES
convertible into shares of common stock
CONVERTIBLE BONDS
warrants are options which permit the holder to buy stock of the issuing company at a stated price
BONDS WITH WARRANT
pays interest only when earned
INCOME BONDS
BEST SOURCES OF FUNDING
- flexibility
- risk
- income
- control
- timing
- other factors like collateral values, flotation cost, speed and exposure
is the prohibition on the issuance of additional debt instruments by borrower
RESTRICTION
refers to the chance that the company will be affected adversely when a particular source of financing is chosen
RISK
“subjects the borrowing firm to more risk than does financing long-term debt”
SHORT-TERM DEBT
the various sources of funds, when availed of, will have their own individual effects in the net income of the engineering firm
INCOME
when new owner are taken in because of the need for additional capital, the current group of the owner may lose control of the firm
CONTROL
the financial market has its up and downs
TIMING
OTHER FACTORS
- Collateral values
- Flotation cost
- Speed
- Exposure
are there assets available as collateral
COLLATERAL VALUES
how much it will cost to issue bonds or stocks
FLOTATION COST
how fast can the funds required to be raised
SPEED
to what extent will the firm be exposed to other parties
EXPOSURE
3 BASIC FINANCIAL STATEMENT
- Balance sheet
- Income Statement
- Statement of changes in financial position
is a very important concept that the engineer manager be familiar with. it confront people everyday
RISK
LIST OF EXPOSURE TO RISK
- fire
- theft
- floods
- accidents
- nonpayment of bills by customers (bad debts)
- disability and death
- damage claim form other parties
CLASSIFICATION OF RISK
- pure risk
- speculative
is one in which “ there is only a chance of loss” this means that there is no way of making gains. are insurable and may be covered by insurance
PURE RISK
is one in which there is a chance of either loss or gain, thus type of risk is not insurable. an example is investment in common stocks
SPECULATIVE RISK
is designed to deal with pure risks, while the application of sound management practices are directed towards speculative risks that are inherent and cannot be avoided
RISK MANAGEMENT
METHODS OF DEALING WITH RISK
- the risk may be avoided
- the risk may be retained
- the hazard may be reduced
- the losses may be reduced
- the risk ma be shifted
is a method of handling risk where in the management assumes the risk
RISK RETENTION
a planned risk retention , also called ___________, is a conscious and deliberate assumption of a recognized risk
SELF-INSURANCE
may be reduced by simply instituting appropriate measures in a variety of business activities
HAZARDS
EXAMPLES OF EFFORTS ON LOSS REDUCTION
- physically separating buildings to minimize losses in case of fire
- using fire roof materials on interior building construction
- storing inventory in several locations to minimize losses in case of fire and theft;
- maintaining duplicate records to reduce accounts receivable losses
- transporting goods in separate vehicles instead of concentrating high values in single shipments
- prohibiting key employees from travelling together
- limiting legal liabilities by forming several separate corporations
another method of handling risk
RISK SHIFTING
EXAMPLE OF RISK SHIFTING
hedging,
subcontracting,
incorporation, and
insurance
refer to making commitments on both sides of a transaction so the risk offset each other
HEDGING
a stockholder is able to make profits out of his investments but without individual responsibility for whatever errors in decisions are made by the management
In a corporation
EXAMPLES OF INSURANCE PRODUCTS SOLD BY A COMPANY
-Fire
-Marine
- Casualty
- Engineering
- Aviation
-Bonds
FIRE
fire and applied perils, business interruption
MARINEcash in transit
hull insurance, shipowner’s liability insurance protection and indemnity
CASUALTY
motorcar, property floater, personal accident, comprehensive general liability, money, security, and payroll, cash in transit, burglary
ENGINEERING
Contractor’s all risk,
Machinery breakdown,
Contractor’s plant and equipment all risk,
Erector’s all risk,
Boilers and explosion,
Electronic insurance
Consequential losses
AVIATION
Hull and liabilities insurance,
Airport operation liability,
Hangarkeeper’s liability,
Aircraft refueling liability,
Pilot’s licensure insurance,
Pilot/ Crew personal accident cover
BONDS
all kinds of bonds
