Managing Financial Decisions and Resources Finance Essay

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Any cash raised from any accepted and legal method to fund a business organisation is a financial source. There are many categories and classifications of these exact finances available to a business(Carlos Correia, 2007, pp. 7-7). They are classified in terms of time, management options and repayment schemes. Asset sales: occur due to the company’s effort to raise money through sale of assets which are currently dormant. These can take the form of unused machinery or unnecessary services. Selling off dormant assets can be a good source of necessary capital to fund worthier projects in a company(Roman Tomasic, 2002, p. 488). Retained earnings: is the re-investing of the profits made by the company, for the company. This is an n effective source for funding due to the fact that it is not a borrowing/liability and so does not come with added costs such as interest(Kate Mooney, 2008, p. 99). Personal savings: is an equity which gets the funding done and comes with no strings attached in the avenue of interests and contingencies(Anthony J. Laramie, 2000, p. 138). This finance is the property of the company in question and none has a right to dispute against it.

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Working capital: is a ready and quick source of cash but may only be used as a short term exploit. It can be defined as the difference between the current assets or the property owned by a company and current liabilities which is the debts, borrowings or payments a company is in a position to make(Fitzgerald, 2002, p. 169). This capital may be invested in short term money back schemes or banked for interest. Ownership/equity capital: is cash invested in to a company by the owners of the company or more correctly the shareholders of the company(Chandra, Financial Management, 2008, p. 436). They have the right of say over company affairs and their reward is in the form of dividends which is actually the distribution of shares among a company’s shareholders when the company makes profits from its business. If a company is not doing so well, it need not pay the share holders any dividends. Ordinary shareholders: are equity investors who do not get share capital unless and until the company makes profits. But when a company does make huge sums as profits, then the cash belongs to the share holders to distribute among themselves according to the values of the shares originally invested(V & Rajib Raghunathan, 2007, p. 16). They have no annual fixed amounts payable to them by the company nor is there a compulsion for the company to pay any arrears to its ordinary share holders.

Preference shareholders: ere equity investors who are paid a sum of cash dividends annually; it is a set amount and does not fluctuate with the rise and fall of profits(V & Rajib Raghunathan, Stock Exchanges, Investments and Derivatives, 2007, p. 17). However, there is flexibility, in case a company is unable to pay its preferential capitalists their dues, it can add the current annual share capital to the proceeding years’ share capital and hence pay two years’ worth of dividend together. Non-ownership cash/capital Trade credit: merely employs goods or services on credit for a certain period of time before payment. A company may obtain supplies for the manufacture of its products on a credit of a few months which enables the company to actually make and sell the goods for profit before any payment is made(Chandra, 2008, p. 740). It is a good source for companies at the initiation of their businesses or in a position to save initial investment expenses. Debentures: are basically loans on interest and most often backed by collateral security(V & Rajib Raghunathan, 2007, p. 49). The company is required to make timely monthly interest payments, failure of which could lead to confiscation of the collateral pledges. The collateral could be anything from fixed to movable assets. Bonds: are also loans where the borrowing company pays a monthly interest on the borrowings till it can pay back the principle amount borrowed, at later date.

This interest is known as coupons. Unlike debentures where the interest is calculated on the receding original loan, bond interests are calculated on the whole borrowings(V & Rajib Raghunathan, 2007, p. 49). Leasing: is basically renting of goods or services for a long period of time. A company may make use of a lease to obtain a rented premise or service(Watt, 2007, p. 25). Operational leases: on services and goods which after the period of contract of the lease, may be re-leased to a new company and hence use repeatedly. E.g.:- a warehouse for storage of goods. Financial lease: use up the whole life of the leased goods or service in question and are of no further use after the initial lease agreement period. It is again a rent and will never be the property of the leasing company. Overdrafts: is a bank related source of finance; it basically means that the bank associated with the company aids the company by paying more cash than available in the account and thereafter redeeming this excess from the company along with any interest due for its services(Univercity of Virginia, 2008). It is a short term financial source. Hire-purchase: is the acquiring of required tools or inventory without huge upfront investments. A company making a hire purchase for a vehicle need only to pay the one instalment of the whole agreement in order to start using the item(Gurusamy, 2009, p. 80).

Factoring: is the employing of a third party individual or firm to collect a company’s outstanding invoices from its consumers. The factor upon accepting the client pays the company 80% to 90% of the total invoice within 24 hours(Marie-Ren©e Bakker, 2004, p. 4). It then tracks down the customer and obtains the full amount of the outstanding the consumer owes to the company. The 10% or 20% of the unpaid balance is the factors commission. Grants: are issued by the government in order to fund significant projects which it deems essential and constructive. These are huge monetary funds and are repayable according to specific terms and conditions(Greuning, 2009, p. 248). Invoice discounting: (Carlos Correia, Financial Management, Sixth Edition , 2007, pp. 12-23) are financial resources similar to the method of factoring but it involves the customer invoice purchase by the financer in anonymity and the customer is unaware of the process. Apart from this the company retains the management of its financial ledgers which is not so in factoring. Franchising: is a method or system by which a company promotes its growth and distribution of its products. The company sells the right of the company to another business man who will now have the right to function under the brand name of the original company. This method ensures growth of parent company and also benefits the new business owner. A charge is of course involved in the sale.(Good, 2003, p. 104) Venture capital: is also known as angel investors are in reality wealthy businessmen or firms who fund new and upcoming small businesses or ventures. They are a great supply of funds and are also a source of advice and assistance. These angels work with the company for a period of time and after the business improves, leave with large equity which equals the sum of their investments and assistance.(Good, 2003, p. 260)

B Implications of financial sources Any supply of finance will have repercussion attached to it and should be considered when deciding on an appropriate resource to fund businesses Legal implication: include the legality of a liability, which are interest and taxation issues. For funding sources like shares issue, the implications would be that the company in question has the right to sell shares legally and the amount of shares are determined by vote from the existing share holders at the AGMs or Annual General Meetings. Taxes on profits need to be paid to the government in an efficient and timely manner to ensure the smooth functioning of the company. Borrowing or liabilities involved needs timed interest instalment payments, especially if it involves collateral. Negligence may lead to tangles with the law, should your creditors file a suit against you. Financial implications Sale of assets Pro: Ready source of funds and easily available in many companies Cons: the company may need the sold assets to restart production and in which case it may need to reinvest on the goods sold Retained earnings Pro: this funding option does not require the payment of interests, compulsory annual dividends or legal obligations of payments. And they are large monetary assets. Cons: it can result in cost of shareholder finance and also too many share distribution can lead to dilution of control. Tax disadvantage, unlike a liability, dividends are considered to be and are profits and hence subjected to corporate tax within the company and to income tax when it reaches the share holders. So it is taxed twice. Personal savings Pros: again does not involve any interest, timely payments due, threats or risks involved with liabilities since it is the company’s own asset. Cons: finances are very limited and cannot be funded for long term projects due to the fact that large investments require an extensive period of time to accumulate appropriate funds.

Working capital Pros: speedily obtainable and stand by source of funds and can be invested in money back such as lending on interest, banking for interests and 99 day capital investment return schemes. Cons: company may getting to dilemma if it faces instant cash emergencies and requires free capital for exploitation. Trade credit Pros: upfront, investment less supplies for production and can be very useful when cash flows in a company is stretched. Allows financial breathing space for a company in difficulty. Cons: in the event the credits are not paid in time, the goodwill of the company diminishes and the company’s credit rating and history takes a downhill plunge which may thwart other suppliers from lending trade credit to the company. Debentures Pros: usually long or mid term finances and can be used to fund colossal projects. Tax advantage. A company is required to pay taxes to the government and it is calculated roughly on the difference between the income and the expense of the company. The monthly interest repaid on a loan is considered an expense and hence not taxable. This is unlike dividends which are considered profits and are taxable with both corporate and income tax. Cons: compulsory monthly repayments often need to be pledged against expensive collateral, negligence can cause lawsuits filed buy creditors, loss of collateral security pledges and in the case of too many loans, bankruptcy and ultimately liquidation. Bonds Pros: same as those of debentures in being tax advantageous and long term fund source Cons: dangerous to invest when the rates of currency rises because at such times the value of the bond falls.

These are very volatile and dependent on the rate. (Kiplinger Washington Editors, FEB 2006, p. 55) Leasing Pros: does not involve large capital investments to acquire basic inventory or property, monthly payments are easier on the cash flows of the company, the requirements for collateral is less, tax advantage on monthly disbursement as it is considered an expense. Cons: weather it’s an operational lease or a financial one, the company will never be entitled to be the owner of the entity on lease no matter how elongated a phase of time, all maintenance costs will be the responsibility of the company during the time of the lease, the repayments will be an incessant and very long-standing expenditure. Overdrafts Pros: spontaneous supply of funds can be arranged when essential from the banks, interest calculated are only on the figure of currency used, assists the maintenance and smooth management of company cash flows. Cons: higher interest rates than loans, subject to immediate cancellation if borrower evades disbursement or does not meet criteria se out or due to policy changes within the bank. Usually requires the presence of collateral in the form of an asset. Hire purchase Pros: possession of essential assets with insignificant initial investments and prevent the need for massive long term loans, interest free, easily obtainable against availability of a security or a collateral. Cons: exclusion of some clients due to extensive credit checks, burden of monthly debit payments, ownership privilege is not reassigned till total summation of money owed has been paid. Factoring Pros: ensures time management as factor will be responsible in locating and collecting customer outstanding, enables the company to receive 80% to 90% of the invoice whereas even overdrafts will only give company 50% and hence assist in company cash flow maintenance, enables the company to formulate extensive credit checks on the factors’ credit systems to decide on the viability of issuing more credit grants to fresh and existing consumers, facilitates international businesses if the factor in question is in the consumer’s native country.

Cons: customer handling methods of the customer may not be appropriate, factor may refuse to accept certain customers due to their bad credit history, company is required to sign a non-recourse agreement with the factor stating that in the event the factor was not able to recover funds from the customer, the company cannot be prosecuted on the customer’s behalf, factor interferences with the business and sales ledgers, ending factor contracts would result in ledger repurchase or factor replacement – two equally objectionable options to a company. Grants Pros: a privilege to the company awarded, their celebrity increases the chances of raising more financial resources from other sources, increase in image and recognition of the company, gigantic monetary funds. Cons: requires payback as with any loan, very difficult to prepare paperwork initially, grants are streamlined with a cacophony of terms and conditions and initiation of related projects which can be costly and requires professional and expensive services incurring more costs, competitions are very high among similar industries to attain the grant, exclusion of certain companies which do not conform to the eligibility criteria for the grant, lot of red tape involved which is the wearisome and time consuming process of filling out forms, legal documentation, hindrances, reclaims and other unnecessary delays in the initial stages of the application. Invoice discounting Pros: the anonymity of the discounter with relation to the company aids in avoiding difficulties when collecting outstanding funds from the customer, company is in control of its ledgers.

Con: stricter requirements than that for factors, initial fund deposits are to an account that is controlled by the factor and the reimbursement is 80% to 90%. Franchising Pros: decreased capital required than if the business was to expand normally, increases growth and promotion of the parent company, new business will be motivated since it is functioning under a benchmarked name and will conform to the maximum possible performance. Cons: the franchisors is all controlling with regards to aspects like logos, name, uniforms and services, franchisee has minimal control over anything associated with the parent company name and cannot take independent decisions in these aspects (William M. Pride, 2008, p. 156). Venture capital Pros: available initial investment of sizeable sums, mentoring on the correct management of the business in question by the venture capitalist, extensive contact network of suppliers, customer and other professional whose services are of utmost importance to the business. Assistance in instigating IPO or initial public offerings which is the initial sale of stock or even shares if it is the company’s first time. Cons: capitalists will leave company after a predetermined period of time with a large part of the equity as payments for their effort and investments, may also take over the management and hence the business if the owner does not seem to be performing efficiently. Services of venture capitalists are often very expensive. Bankruptcy implications A company which is in difficulties due to increased loans, debentures, bonds, credit line, overdrafts and other liabilities will find that it is approaching bankruptcy.

It may file a bankruptcy claim to protect itself against its creditors but this will require the company to enlist expensive professional services like solicitors. In case the company is declared bankrupt and the claim was not successful, all remaining wealth of the company which includes all fixed and movable assets will be distributed among the creditors. However the shareholders personal wealth will not be affected due to the company being considered a separate entity or individual. In the case of sole trader and partnership business which faces bankruptcy, the owners or partners personal wealth is also affected and confiscated to settle creditor debts(Bennett, 1942, p. 2). Dilution of control Ownership capital If company has two individual shareholders investing 50% of the shares each then they alone has the rights to make informed decisions regarding management. But if the company encounters difficulty and has to raise more capital by selling more shares, the control of the initial investors gets diluted and the new shareholders will also interfere with management affairs(Carlos Correia, 2007, pp. 13-31). All resolutions which may be either ordinary or specific will require the participation of all shareholders and decisions must be made through voting. Ordinary resolutions such as change in the board of directors will require a shareholder to possess 50% of the shares to be eligible for voting. A special resolution such as fundamental change of the company requires a shareholder to own at least 75% of the company shares. Any company wishing to sell more share must first offer them to existing shareholders, only in the event of their refusal, may it offer the shares to the public.

QUESTION 1C The sudanian railway project of seven years Any project that is long term and uncertain revenue is needs to carefully planned before initiation. The choice of funding sources are of utmost importance to prevent mid way disruption of the project. An analysis of the most suitable funds is detailed below. Equity capital or shareholder capital: is one of the most appropriate sources in the fact that it does not have any compulsory repayable schemes attached to it. The shares accepted has to be ordinary shares due to the added leniency of not paying any shareholders in case the company’s’ revenue is not up to the mark. Share holders will only need to be paid if there are actual profits and here too only if these profits cannot be re-invested in to worthy projects within the company. During the seven year process of the railway construction of the railway, the company is very likely to retain profit and plough back its earnings to better the project undertaken. Avoiding preferential shareholders would assist in the compulsion off paying the annual fixed rate of dividends to them and also in case of an inability prevent annual fixed dividends from adding up to form massive sums. Venture capitalists: By incorporating a few venture capitalist knowledgeable and experienced in the field of railway building would not go amiss because they will have much knowledge and expertise to share.

Apart from the initial fund that will be invested in to the project, the capitalists will also be able to obtain useful contacts through their network and negotiate better with known suppliers and creditors. Government grants: A railway project falls under public transport which would be classified as a worthwhile in any government. The company may take a shot at obtaining a grant from the government. There will be expenses for services and preparation of other legal documents abut these will be well surpassed if the grant is issued. The probability is high for a project of this nature and success would guarantee the ability to obtain other finances from other sources easily and effectively. The company will also gain prosperity and future projects may also be available to it Hire purchase: Machinery, tools and vehicles required may be obtained through hire purchase which decreases the need for colossal initial investments; flexibility of an interest scheme is an added advantage. Trade credit: Supplies of raw materials or inventory should be wisely purchased through trade credit. This will give the company some time before it actually start paying back and with luck, by that time, the company might be making some nominal profits. Lease: Property for industrial purposes and warehousing may be obtained through lease. It will be a long term lease so there will be less investment involved than buying land and building factories. Operational leases are better because then the company may release the same asset after original lease period runs out. Debentures, bonds: and other forms of loans should be a last resort since they have high and fluctuating interest rates which would have adverse reaction on the company cash flows. It is necessary to invest minimally in this project as the income rate is not high and revenue cannot be expected for years to come. It will be of assistance If the loans are obtained from a world bank instead of any bank since the interest rate applicable will be that of the federal reserve which is definitely lower than the prime interest rate that the bank charges.

A Costs associated with financial funds Cost of lost opportunities: are the costs which could have been gained if the money invested had been used for an alternative purpose such as when banked or lent on interest or invested in alternative project which could have brought in more revenue to the company(B. J. Reed, 1997, p. 58). Retained earnings cost: is mainly to the share holders who, in the event of ploughing back of a company’s profits loose the share of their dividends for that year Cost of dividends: is mainly to the company as it affects its cash flows. There are many forms of dividends that a company may pay its shareholders with but only cash dividends affects its cash flows. Cash dividends: are paid in annual shares by cash. Property dividends: is paying dividends by distributing company assets. Stock dividends: is paying shareholders with bonus shares Other dividends: is the distribution of warrants and other financial assets. Cost of debentures, bonds and loans: interest The cost of any loan is the interest payable to a creditor on that loan and the security pledged against that loan. Defaulting on payments can lead to risk of loosing collateral, bankruptcy and liquidation. Specific and administrative interest rates and factors effecting them. Specific interest rates: are mainly charged on bank certificates and mortgages while administrative rate are charged on loans, debentures, bonds etc. there are two types of interest rates. Prime rates: are imposed on by loans on their best customers who commit to loans(Reilly, The language of real estate, Fifth Edition, 2000, p. 313) Federal Reserve rates: are imposed on normal banks by the World Bank for short term loans. This rate has an undeviating effect on how normal banks charge their prime customers(Reilly, 2000, p. 337). Factors which directly effect interest rates Discount rate or Federal Reserve rate of central bank: The higher the rate the higher the prime rate. Pressure of monetary inflation: the higher the value of money during period of payback, the lower the interest rate Governmental monetary discharge policy: The more money government produces the lesser the rate of interest. Demands of lean seekers: The higher the demand of the customer, the lower the interest rate Consumer credit history: Customers with bad credit histories can expect higher rates of interest.

B Introduction on planning finances An important aspect of any efficient management in a company is financial planning. This can be achieved by the efficient organisation and knowledge of cash inflows and the outflows of a company. This is known as cash budgeting(Lasher, 2008, p. 147). It is a handy tool in predicting financial peaks and troughs in store for the company in future and also allows to make allowances for the paying of liabilities in an organised and punctual manner. Certain organisational techniques allow the company to raise cash inflows when it detects financial issues in the future. Supplier management: is obtaining raw materials and inventory items at an extended credit period from the suppliers than normal. Investing in just in time inventory which is purchasing goods just and when it ids immediately required instead of purchasing bulk goods and storing them. Customer management: is enlisting the assistance of factors and invoice discounters for tracking down aged debtors and bad debts, decreasing the period of credit grants to customers, outlining legible and company convenient policies for new customers, offering discounts for spontaneous bill settlements and easy payment schemes. Overtrading: occurs when a company accepts too many orders than it can execute or do not have the funding to execute. Business requires funds to leave a company in pursuit of funds to return to the company and for this purpose, a company needs to have sufficient funds initially. Cash budgeting can assist in avoiding overtrading since it gives the company the ability to understand if the finance available is enough to complete a given transaction(Macleod, 1866, p. 272).

 

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