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preview-file的思维导图，When considering a major purchase afirm will take into account:The initial cost、Future benefits e.g. revenues, residual value、Future costs e.g. interest payments, depreciation、Alternatives e.g. other projects and uses of funds、The degree of risk - which will vary with the economic climate.

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• When considering a major purchase afirm will take into account:
  • The initial cost
  • Future benefits e.g. revenues, residual value
  • Future costs e.g. interest payments, depreciation
  • Alternatives e.g. other projects and uses of funds
  • The degree of risk - which will vary with the economic climate
• Cash Outflow
  • This is all the costs of the project. It will be built up by the 'Projects Department' , probably by engineers. It may be built up of a series of sub-estimates that are all put together to get the overall cost.
• Cash Inflow
  • This is the estimate of the value of the project. It is expressed in terms of net cash inflow.
• Net Cash Flow
  • The cash the project will bring in, (sales revenue) less annual costs incurred in the manufacture and sale of the product.
  • The heart of the forecast of net cash inflow is the sales forecast produced by the marketing department.
  • Notice that a cash flow forecast is not a profit forecast.
  • Cash inflows often tend to be overestimated.
• Reasons for inaccuracy are
  • Firms do not work in a vacuum.
  • Firms cannot predict the prices of materials, or the cost of labor in advance.
  • Some items cannot be predicted in advance.
  • The weather may be very unseasonable and cause sales to be different to the forecast.
• Investment appraisal techniques
  • Firms have to decide if they should invest in projects or not.
• The basic requirements of investment appraisal
  • An estimate of what the project will cost. This is the capital investment.
  • An estimate of what the project will earn the firm. This is called the forecast of net cash inflow
• Investment appraisal methods divide into two groups
  • screening out poor projects from a long list
    • Payback period
    • Average rate of return (ARR)
• Payback Period (PBP)
  • Formula: PBP=Initial investment cost /Contribution per month
• Payback is the time it takes to recoverthe original investment cost
  • Calculate the cumulative net annual return
  • The payback year is when the cumulative return equalsthe capital outlay
  • To calculate the number of days in the payback year,divide the amount required to complete the paybackby the return in that year and multiply by 365
  • Advantages
    • easy to calculate
    • provides a useful measure ofrisk (Hotpress is a safer bet) the shortest payback isuseful where
    • technology or consumertastes change rapidly fhelpsto avoid assets becomingobsolete)
    • funds are limited - helpsreduce indebtedness &cashflow problems
  • Disadvantages
    • ignores timing of returns
    • ignores all net returnsafter the payback date
    • takes no account of thelong-term profitability ofa project
• Average rate of return (ARR)
  • This is a measure of profit, and it is in the familiar percentage form.
  • Formula: (Total profit during project’s lifespan divided by # of years of project)/ Initial amount invested x 100
  • The average profit generated per year by a project isexpressed as a % of the initial amount invested andthe highest ARR is chosen
  • Advantages
    • takes account ofreturns over the wholelife of a project
    • provides a comparisonwith the returnsavailable on alternativeuses of funds
  • Disadvantages
    • ignores the timing ofreturns
• Key Terms Review
  • Average Rate of Return (ARR)
    • Calculates the average annual profit of an investment project, expressed as a percentage of the initial sum of money invested.
  • Investment
    • Refers to the purchase of assets with the potential to yield future financial benefits
  • Investment Appraisal
    • Is a financial decision-making tool that helps managers to calculate whether certain investment projects should be undertaken based mainly on quantitative techniques.
  • Payback Period (PBP)
    • Is an investment appraisal technique that calculates the length of time needed to recoup (earn back) the initial expenditure on an investment project.
  • Qualitative investment appraisal
    • Refers to judging whether an investment project is worthwhile through non-numerical means
  • Quantitative investment appraisal
    • Refers to judging whether an investment project is worthwhile based on numerical (financial) interpretations

Cash Flow

• Balance Sheet
  • A financial statement that summarizes a company's assets, liabilities and shareholders' equity at a specific point in time.
• What is working capital?
  • Working capital = current assets – current liabilities
  • Current assets are the relatively liquid (easily converted to cash) assets of the business.
  • Current liabilities are debts that are due in the short term (less than one year).
• Sources of liquidity problems
  • Poor working capital = poor liquidity
• Resolving liquidity problems
  • possible solutions to ensure their survival
    • Sell off stock of finished goods – using discounts if necessary; • Sell off stock of raw materials at below cost if necessary; • Sell fixed assets that are not absolutely necessary; • Sell fixed assets and lease them back; • Make every effort to collect money from debtors; • Sell debts to a factoring company; • Reduce purchases to essential items only; • Make arrangements with suppliers to extend credit terms; • Better stock control • Negotiate additional short term loans.
• Cash Flow Forecasting
  • The Relationship between profit and cash
    • The business may be selling more of its output on credit[herefore a profit is being made as the goods are beingrecorded and sold, but the cash payment from customerswill be received sometime in the future
  • Cash Flow Forecast: This relates to the expected inflow and outflow of cash.
  • Cash Flow Statement: This relates to the actual flow (in and out) of cash during the past time period
• Why Cash flow is important to business
  • To be able to pay its many creditors on time
  • Wages and salary may not be paid on time and thiswill cause poor motivation;absenteeism: high labolturnover
  • New capital assets may not be afforded and thiscan reduce business efficiency
  • Tax bills may not be paid
• Cost of holding too much cash
  • Loss of purchasing power
  • Opportunity Cost
• Causes of cash flow problems
  • Overtrading
  • Holding too much stock
  • High borrowing
  • Allowing too many goods to be bought on credit
  • Businesses that rely on seasonal trade
• Strategies to deal with cash flowproblems
  • Reducing cash outflows
  • lmproving cash inflows
  • Seeking alternative sources of finance
• Reducing Cash Outflows
  • Seek preferential credit terms
  • Seek alternative suppliers
  • Better stock control
  • Reduce expenses
  • Leasing
• Improving Cash Inflows
  • Tighter credit control
  • Cash payments only
  • Change pricing policy
  • Improved product portfolio
• Seeking Alternative Sources of Finance
  • Overdrafts
  • Selling fixed assets
  • Debt factoring
  • Government assistance
• Limitations of cash flow forecasting
  • Marketing
    • Inaccurate or poor market research can lead to incorrect sales forecasts
  • Human Resources
    • A demoralized workforce becomes a less productive workforce that delivers poor customer service
  • Operations Management
    • Machine failures can cause production delays to the detriment of a firm’s cash flow.
  • Competitors
    • The behavior of rival firms can be difficult to anticipate yet is likely to directly affect a firm's cash flow position and its level of success.
  • Changing fashion and tastes
    • A favorable change in demand means that actual cash flows will be more positive than originally forecast, vice versa
  • Economic Change
    • Lower interest rates tend to encourage borrowing which boosts consumer expenditure and investment expenditure.
  • External Shocks
    • Events such as wars, oil crises, stock market crashes, health scares or adverse whether will make initial cash flow forecasts less accurate.

profitability and ratio analysis

• Inter-firm comparisons
  • Involve comparing the ratios of businesses in the same industry.
• Historical Comparisons
  • involve comparing the same ratio in two different time periods for the same business
• GPM = Gross Profit/Total sales revenue X 100
• NPM = Net profit before int. and tax/Total sales revenue x 100
• Return On Capital Employed (ROCE)=Net profit before tax & interest / Total capital employed X 100
• Capital employed = LT Liabilities + share capital + retained profit
• Current Ratio = Current Assets / Current Liabilities
• Nairobi = for every $1 of ST debt it has $2 of current assets to pay for them (relatively safe position)
• Acid Test Ratio = (Current Assets – stocks)/ Current Liabilities
• Profitability Ratios
  • Gross Profit Margin (GPM)
  • Net Profit Margin (NPM)
• Liquidity Ratios
  • Current Ratio
  • Acid Test (Quick Ratio)
• Efficiency Ratio
  • ROCE (Return on Capital Employed)
• Acid test ratio
  • Is a liquidity ratio that measures a firm’s ability to meet its short-term debts.
• Capital Employed
  • Is the value of all long-term sources of finance for a business (bank loans, share capital and reserves)
• Current Ratio
  • Is a short-term liquidity ratio that calculates the ability of a business to meet its debts within the next twelve months.
• Efficiency Ratios
  • Indicate how well a firm’s resources have been used, such as the amount of profit generated from the available capital used in the business.
• Gross Profit Margin (GPM)
  • Is a profitability ratio that shows the percentage of sales revenue that turns into gross profit.
• Liquid Assets
  • Are the possessions of a business that can be turned into cash quickly without losing their value (ie. cash, stock and debtors).
• Liquidity Crisis
  • Refers to a situation where a firm is unable to pay its short-term debts
• Liquid Ratios
  • Look at the ability of a firm to pay its short term liabilities, such as by comparing working capital to short-term debts.
• Net Profit Margin (NPM)
  • Shows the percentage of sales revenue that turns into net profit
• Profitability Ratios
  • Examine profit in relation to other figures
• Ratio Analysis
  • Is a quantitative management tool that compares different financial figures to examine and judge the financial performance of a business.
• Return on capital employed (ROCE)
  • Is an efficiency ratio (although it also reveals the firm’s profitability) measuring the profit of a business in relation to its size (as measured by capital employed).