Week 3 Ch. 16: Financial Management within Organizations Flashcards
Financial management
planning for a firm’s money needs and managing the allocation and spending of funds
Risk/return trade-off
the balance of potential risks against potential rewards
Financial Management: 3 Fundamental Concepts
- Balancing short-term and long-term demands
- Balancing potential risks and potential rewards
- Balancing leverage and flexibility
Balancing short-term and long-term demands
- must have ready cash to pay salaries, bills, and taxes
- needs a financial cushion to ride out rough times
- may need money for acquisitions of other extraordinary expenses
Balancing potential risks and potential rewards
- every decision involves a risk/reward trade-off
- higher risks may yield higher rewards
- the safest choices aren’t always the best choices
Balancing leverage and flexibility
- can use debt strategically and sometimes out of necessity
- debt can be a tool, but it can also be a trap
- highly leveraged companies have far less ability to maneuver and are more vulnerable to setbacks
Financial plan
- a document that outlines the funds needed for a certain period of time, along with the sources and intended uses of those funds
- strategic plan, company’s financial statements, external financial environment
Accounts receivable
amounts that are currently owed to a firm
Accounts payable
amounts that a firm currently owes to other parties
Budget
a planning and control tool that reflects expected revenues, operating expenses, and cash receipts and outlays
Financial control
- the process of analyzing and adjusting the basic financial plan to correct for deviations from forecasted events
Budgeting Challenges
- Every company has a limited amount of money to spend
- Revenues and costs are often difficult to predict
- It’s not always clear how much should be spent
Every company has a limited amount of money to spend
- projects and departments are often in competition for resources
- managers need to make tough choices, occasionally taking money from one group and giving it to another
Revenues and costs are often difficult to predict
- sales forecasts are never certain, particularly for new products or for sales into new markets
- fixed costs are easy to predict, but variable costs can be hard to predict, particularly more than a few months out
It’s not always clear how much should be spent
- with some expenses, such as advertising, managers aren’t always sure how much is enough
- uncertainty leads to budgeting based on past expenditure, which might be out of line with current strategic needs
Zero-based budgeting
a budgeting approach in which each year starts from zero and must justify every item in the budget, rather than simply adjusting the previous year’s budget amounts
Debt financing
arranging funding by borrowing money
Equity financing
arranging funding by selling ownership shares in the company, publicly or privately
Capital structure
a firm’s mix of debt and equity financing
Debt financing: Maturity
a contract specifies a date by which debt must be repaid
Equity financing: Maturity
does not need to be repaid
Debt financing: Claims on Assets
lenders have priority claims on assets
Equity financing: Claims on Assets
shareholders have claims only after the firm satisfies claims of lenders
Debt financing: Tax consequences
Debt payments reduce taxable income, lowering obligations