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Sample pdf on managing financial resources and decision making

MANAGING FINANCIAL

RESOURCES AND DECISION

MAKING

By

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Sample pdf on managing financial resources and decision making

TABLE OF CONTENTS

INTRODUCTION ......................................................................................................................................................... 3

TASK 1 .......................................................................................................................................................................... 3

1.1 Sources of finance available to business ..................................................................................................... 3

1.2 Implications of different source of finance .................................................................................................. 4

1.3 Appropriate source of finance ...................................................................................................................... 5

TASK 2 .......................................................................................................................................................................... 5

2.1 Cost of different sources of finance ............................................................................................................. 5

2.2 Importance of financial planning for Tesco ................................................................................................. 6

2.3 Information needs of different decision makers ........................................................................................... 6

2.4 Impact of finance on the financial statements .............................................................................................. 7

TASK 3 .......................................................................................................................................................................... 7

3.1 Analysis of budget and making appropriate decisions ................................................................................. 7

3.2 Calculation of unit cost ................................................................................................................................ 8

3.3 Project evaluation ......................................................................................................................................... 9

TASK 4 ........................................................................................................................................................................ 11

4.1 Discussion on the main financial statements .............................................................................................. 11

4.2 Format of financial statements for different organizations ........................................................................ 12

......................................................................................................................................................................... 13

......................................................................................................................................................................... 14

4.3 Ratio analysis ............................................................................................................................................. 20

CONCLUSION ........................................................................................................................................................... 22

REFERENCES ............................................................................................................................................................ 23

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INTRODUCTION

Finance is a life blood for any organization and no company can survive longer in the absence of sufficient

availability of finance. Tesco is one of the UK largest retail chain stores that have a 29% market share in the entire

industry. In the report Tesco is taken as a company in order to understand various aspects of finance. In this report,

sources of finance are made available and discussed in detail. After that implication of each and every source of

finance are also described in the report. On the basis of implications appropriate source of finance is selected for

Tesco. Cost of source of finance also plays a key role in selection of source of finance. Hence, in context to this, cost

of each and every source of finance is discussed in the report. In the middle part of the report cash budget is

prepared and movements in the net balance are described in detail. At the end of the report, project evaluation

techniques are applied and ratio analysis is done in order to evaluate Tesco from different sides.

1.1 Sources of finance available to business

There are many sources of finance that are available to business. Some of these sources are as follows.

Equity- It is a commonly used source of finance and under this, firm brings IPO or FPO in the market. By

bringing same, firm collects fund from the general public. In return, people those makes investment in

company get share in the profit earned by it. By using this source, of finance cost of finance is controlled

by the firms to large extent. Due to this reason, equity is used by the firms to finance large sized projects.

Debt- Tesco is widely used this source to fulfill its fund requirement and finance its internal as well as

external business operations. On the taken loan, firm needs to pay interest which may be fixed or floating in

nature (Davies and Crawford, 2011). If, rate of interest is fixed then there will be no problem. But, if

interest rate is floating in nature then finance cost of the firm may increase. Hence, Sony Corporation must

take loan by using fixed interest rate.

Retained earnings- It is a portion of revenue that remains after paying of all the expenditures. This is an

internal source of finance which does not have any cost of capital. Due to this reason, this source is widely

used by the firms in their business practice.

Private equity- This source of finance is a variant of equity under which there is a private equity firm which

is owned a stake in the company and in return provides fund to the firm (Elliott and Meyer, 2007). These

companies purchase at least 60% stake in the specific company in order to bring themselves in the position

to influence company decisions. This source of finance is used by the firms which are on growth stage and

need finance to accelerate growth rate.

1.2 Implications of different source of finance

Following are the implications of different source of finance.

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Equity- Like every source of finance, equity also has some merits and demerits. In case of equity, firm has

to pay dividend to the shareholders. However, it is not necessary to pay dividend every year. However, the

rate of dividend is always higher than interest rate. This is the major demerit of this source of finance. On

other hand, issue of shares lead to the dilution of control in case of existing shareholders in the company

(Hillier, Grinblatt and Titman, 2011). Main advantage of equity is that finance cost is adjustable in nature.

So, it can be said that this source of finance has advantages and disadvantages and companies by

considering their internal factors must select an appropriate source of finance.

Debt- In case of debt, there is a fixed or floating finance cost but ownership of the firm remains same in the

single hand. In order to take loan, firm needs to fulfill some criteria and require doing some paper

formalities. Firms often take debt to finance their operations instead of issuing shares.

Retained earnings- There are no legal implications included in this source of finance. Companies as per

their requirements can use retained earnings. Apart from this, use of retained earnings does not lead to

dilution of control in the firm (Lin and Sun, 2006). Hence, it can be said that this source of finance does not

have any negative point.

Private equity– In order to use this source of finance, company needs to fulfill some criteria and after that

it can enter into agreement with the private equity firm. Under this source of finance, control of the existing

shareholders gets diluted that is the major implication of this source of finance. Private equity firm holds a

majority of stake in the company. However, companies must use carefully this source of finance.

1.3 Appropriate source of finance

In order to select an appropriate source of finance, it is necessary to understand the company’s current

position. Apart from this, managers also need to evaluate advantages and disadvantages of each and every source of

finance. Manager can select an appropriate source of finance only when he analyzes company’s condition in a

proper manner and identify positive and negative points of all source of finance (Ge and McVay, 2005). On the basis

of evaluating all the sources of finance, equity and debt are selected for the firm. If, Tesco invests its entire project

by using single source of finance then it will have to face lot of problems. If, debt alone is take to finance the project

then there will be heavy finance cost which may elevate in case loan is taken at the floating interest rate. On other

hand, if shares are used to finance company’s operations then control of the existing shareholders will get diluted.

Hence, it will be better to use both the sources of finance for financing project. Tesco cannot use private equity in

order to finance its project. This is because if, this will be done then private equity firm will purchase majority of

shares of the company and this in turn will affect day to day company’s operations (Cooper, Seiford and Tone,

2007). Using only retained earnings is not sufficient to finance the firm’s operations. It can be used to meet working

capital needs of the company. Due to this reason, debt and equity are considered as the appropriate sources of

finance for the firm.

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2.1 Cost of different sources of finance

Cost of different sources of finance is as follows.

Equity- Dividend paid on issued shares and share issue expenses are the cost of the equity as a source of

finance. Determination of dividend rate depends on the top management of company. Hence, it can be said

that cost of this source of finance is adjustable in nature.

Debt- Interest paid on debt taken by firm is the cost of this source of finance. Interest is charged at a certain

percentage. This percentage may be fixed or floating in nature (Hill, Leitch and Harrison, 2006). It depends

on the firm that which option which it select while taking a loan from the bank. Cost of this source of

finance is adjustable in nature only in case of floating interest rate. But, sometimes in case of floating

interest rate, finance cost may also increase. Hence, Tesco managers must consider lot of factors while

taking loan at the specific interest rate.

Retained earnings- There is no cost of this source of finance because retained earnings is a part of revenue

that is earned by the firm (Love, Preve and Sarria-Allende, 2007). Hence, Tesco must try to make possible

use of retained earnings for the benefit of firm.

2.2 Importance of financial planning for Tesco

Money is a scarce resource and it is responsibility of the firm managers to make sure that this resource is

used in efficient and effective manner. In financial planning a plan is prepared which will be followed in order to

allocate entire available amount among several activities of the firm. In order to prepare a good financial plan Tesco

needs to identify the activities for which it needs finance. These activities may be investment in derivatives,

financing project and company operations. Firm will look at the importance of these factors and accordingly will

allocate entire budget amount these activities. Under financial planning Tesco will also prepare a plan about the way

in which it will make an investment in the derivative instruments like forward, future and options (Lewellen, 2004).

This helps firm in making sure that allocated amount will be invested wisely among all derivative contracts. Hence,

it can be said that financial planning play a very active role in making best use of funds and Tesco must do financial

planning in proper manner.

2.3 Information needs of different decision makers

Following are the different decision makers that needs company information.

Managers- These are those who manage an organization by working at the top and middle level of the

management. These take day to day business decisions of the Tesco and put efforts in order to enhance sale

of the company product. Managers needs company financial statements like income statement and balance

sheet in order to identify firm current business position (Nicholson and Aman, 2012). On the basis of

analysis of these statements managers identify a direction in which they need to work out. Thus, it can be

said that company financial statements are the major information need of the managers.

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Creditors- These are those who lend money to the Tesco. They needs company financial statements in

order to identify company current financial position. By doing ratio analysis creditors identify the position

where company currently stands (Ogayar and Vidal, 2009). By using relevant ratios creditors identify the

extent to which Tesco can pay its loan amount on time.

Government- Tesco pay a tax to the government and latter entity is always interested in the firm financial

statements in order to make sure that it pay accurate amount of tax to the itself. Hence, government as a

stakeholder also needs company financial statements.

2.4 Impact of finance on the financial statements

Finance to large extent affects firm financial statements. Even company raise finance by using debt or

equity in both case changes will be observed in the financial statements of the firm. If Tesco takes a debt of 50,000

then its long term liability will increase. This means that its liability side will increase in the balance sheet. On

taking a loan firm is getting cash and due to this reason cash section in current assets of the asset side of the balance

sheet will increase. It can be said that if firm take a loan then both assets and liability side of the balance sheet will

increase. On other hand, suppose firm issue share of 1, 00,000 then shareholder equity in the liability side of the

balance sheet will increase (Obst, Graham and Christie, 2007). This amount will be added in the called up capital

part of the shareholder equity. On issue of shares firm is receiving cash in large amount. Due to this reason, bank

amount in the asset side of the balance sheet will get increased. Hence, it can be said that finance affects financial

statements of the firm.

Interpretation

On analysis of facts it can be seen that net balance of the firm is fluctuating continuously. In January

month net balance was 7700 but in February month this balance increased to 12,600. This reflects that good increase

is seen in case of firm net balance. This happens because firm take makes a sale of 18,000 which was much higher

relative to previous month. But in the month of March this balance reduced to 7,800 and this happens because

capital expenditures were made and amount was paid to the creditors. In the month of April again net balance

increased because less payment was to the creditors in this month. This indicates that firm is following a cautious

approach and it does not want to keep a debt amount in its balance sheet for long time.

3.2 Calculation of unit cost

Cost plays a key role in success and failure of any organization. By reducing cost firm can generate

economies of scale in its business. Production cost can be classified in to several categories like fixed cost, variable

cost and semi variable cost. Fixed cost is a cost that never gets changed during life time of the firm. But by

increasing number of units produced proportion of fixed cost to per unit cost can be reduced (Maxymuk, 2000). On

the other hand, there is a variable cost which keeps on changing continuously. With change in production units’

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variable cost also get changed. Last cost is semi variable cost who’s some portion is the fixed and some part is

variable. In other words it can be said that this cost is a combination of both fixed and variable cost.

Pay back period indicate the time period within which project recover investment amount. Both projects are

recovering investment amount in two years. Hence, none of the project can be considered viable on the basis of

results of this parameter.

4.1 Discussion on the main financial statements

The main financial statement of the firm is as follows.

Income statement- It is statement that show the profit and loss that a firm make in the specific financial

year. It also indicates the expenses that a firm made in order to operate its business. By comparing current

year income statement with the previous year statement managers comes to know about the areas where

they makes an extravagance. In other words, it can be said that by using comparative income statement

managers comes to know about the areas where they need to work as soon as possible in order to keep

expenses under control.

Balance sheet- Balance sheet is a statement that indicates the firm financial position at the end of the

specific year (Pew Tan, Plowman and Hancock, 2007). This statement reflects the assets and liabilities at

the end of the fiscal year. On the basis of balance sheet ratio analysis is done and firm performance is

evaluated from various angels. Hence, it can be said that balance sheet is an important financial statement

for the firm.

Cash flow statement- It is statement that indicates the cash inflow and outflow that happens in the

operating, investing and financing activity. On the basis of cash flow statement cash and bank balance that

remains at the end of the fiscal year is identified. Profit and loss account does not reflect the accurate profit

earned by the firm. In order to remove this shortcoming from the cash flow statement noncash items are

added back to profit in order to find out accurate profit earned by the firm (Rigby, 2011). This statement

provides a lot of information about the cash inflow and outflow and due to this reason it is widely used by

the mangers for decision making.

On the basis of analysis of financial statements of different mode of business it has been find out that there

is a slight difference between financial statements for different organizations. This slight difference is observed in

the financial statements because size and nature of operations vary in case of these organizations.

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Net profit ratio- Net profit ratio indicates the percentage of sales that is covered by the net profit. This ratio also

indicates the firm cost control capacity (Vos, et.al, 2007). In the FY 2014 this percentage was 1.53%. Whereas, in

FY 2014 this percentage become negative to -9.22%. This indicates that firm revenue decline by the huge

percentage. This is evident from the revenue figure in which it has been observed that in FY 2014 revenue was

63,557 but in FY 2015 it become 62,284. On other hand, firm makes extravagance and due to this reason its net

profit decline at a fast rate. Due to all these reasons in FY 2015 net profit ratio becomes negative by -9.22%.

Gross profit ratio- It indicate the percentage of sales that is covered by the gross profit. It also indicate the extent to

which firm is maintaining control on its direct expenses. Gross profit ratio in the FY 2014 was 6.31%. While, same

in FY 2015 become negative to -3.39%. Here it can be seen that gap between both year ratio values is very large.

This reflects that direct expenses of the firm slightly increases and less earning of profit is the main reason behind

fall in gross profit ratio of Tesco. This also indicates that Tesco has a good control on its direct expenses but less

control on indirect expenses. Hence, it can be said that this is weak point of Tesco.

Current ratio- Current ratio is a ratio that reflects liquidity position of the firm (Wilmott, 2013). Standard current

ratio is 2:1 which means that for every one pound of current liability there must be a two pound of current assets.

Current ratio of Tesco in the FY 2014 was 0.72. Whereas, in the FY 2015 this ratio was 0.6. This reflects that firm

has fewer amounts of current assets to pay its current liability. In other words, it can be said that firm does not have

a sufficient amount of current assets to pay its current liabilities on time. Hence, it can be said that firm needs to

improve its performance on this front.

Debt equity ratio- This ratio indicate the firm capital structure and proportion of debt and equity on same. This ratio

in the FY 2014 was 0.62. But in FY 2015 this ratio increase to 1.48. This indicates that firm gives a poor

performance and proportion of debt in its capital structure gets increased. This is a negative sign from firm point of

view. Hence, Tesco needs to make sure that proportion of debt in the capital structure remains low.

CONCLUSION

On the basis of entire discussion it is concluded that firm must consider lots of factors while selecting an

appropriate source of finance. In this regard, cost of sources of finance and risk associated with them can be

considered by the managers in order to select appropriate source of finance for the firm. Firms must do financial

planning time to time in order to make sure that finance which is a scarce resource is used in efficient and effective

manner. Along with this, it is also concluded that firm must review their budget and actual performance time to time

in order to make sure that actions will be taken on time regarding business strategy. Project plays a great role in

growth of an organization and due to this reason it is necessary to use some specific techniques. Project selection on

the basis of assumptions may p-prove costly for the firm in the near future. Hence, by applying project evaluation

techniques specific project must be selected by the project managers.

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REFERENCES

Books & journal

Cooper, W.W., Seiford, L.M. and Tone, K., 2007. Data envelopment analysis: a comprehensive text with models,

applications, references and DEA-solver software. Springer Science & Business Media.

Davies, T. and Crawford, I., 2011. Business accounting and finance. Pearson.

Elliott, W.J. and Meyer, P.M., 2007. Incident diabetes in clinical trials of antihypertensive drugs: a network meta-

analysis. The Lancet. 369(9557). pp.201-207.

Ge, W. and McVay, S., 2005. The disclosure of material weaknesses in internal control after the Sarbanes-Oxley

Act. Accounting Horizons. 19(3). pp.137-158.

Hill, F.M., Leitch, C.M. and Harrison, R.T., 2006. ‘Desperately seeking finance?’The demand for finance by

women-owned and-led businesses. Venture Capital. 8(02). pp.159-182.

Hillier, D., Grinblatt, M. and Titman, S., 2011. Financial markets and corporate strategy (No. 2nd Eu). McGraw-

Hill.

Pew Tan, H., Plowman, D. and Hancock, P., 2007. Intellectual capital and financial returns of companies. Journal of

Intellectual capital. 8(1). pp.76-95.

Rigby, G., 2011. Types and Sources of Finance for Start-up and Growing Businesses: An Instant Guide. Harriman

House Limited.

Vos, E., et.al., 2007. The happy story of small business financing. Journal of Banking & Finance. 31(9). pp.2648-

2672.

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