11.1PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. ACCOUNTING Financial and Organisational Decision Making Chapter 11 Accounting and financial management Slides written by Sandra Porritt designed by Tony Van Eekelen

Chapter 11: Accounting and financial management 11.2 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Learning Objectives In this chapter you will be introduced to –the objectives of the organisation –possible measurable substitutes for the maximisation of owners’ wealth –the reasons why management may have different goals from those of the organisation

Chapter 11: Accounting and financial management 11.3 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Learning Objectives –possible incentives for management to persue the goals of the organisation –the types of risk

Chapter 11: Accounting and financial management 11.4 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. –a formula for share-price calculation –the role of financial management in relation to: financial decisions managing working capital dividend policy decisions Learning Objectives

Chapter 11: Accounting and financial management 11.5 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Introduction –OBJECTIVES Maximise wealth of the owners –via maximisation of share price Role of financial management –management of risk and return

Chapter 11: Accounting and financial management 11.6 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. To maximise profit Profit –how do we define profit Does the accounting method change profit Does profit measure risk Reported profit only reports historic events

Chapter 11: Accounting and financial management 11.7 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. How is owners’ wealth maximised? Actively trading share-market –share price indicates the markets assessment Without shares traded –organisations need to set goals, efficiency and performance (world best practice)

Chapter 11: Accounting and financial management 11.8 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. The efficient market hypothesis information is reflected in prices investors in shares will assess the new information

Chapter 11: Accounting and financial management 11.9 PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Additional organisation objectives maximisation of efficiency and performance other interest groups such as customers, suppliers and employees overall performance aided by these interest groups

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Organisation versus management objectives separation of ownership and control gives maagers opportunity to persue their own objectives potential conflict of interest has been limited by the threat of takeovers, cost of obtaining external finance, and management compensation plans

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Cost of obtaining external finance poor management is reflected in the cost of finance debt - loans only available at high rates of interest equity - shares may need to be sold at a low price to induce new shareholders - dilutes proportion of existing shareholders

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Management compensation plans managers income is linked to the organisations performance motivation for managers comes from share schemes - creating a direct link

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. The influence of risk and return on share prices business risk financial risk management risk

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Business risk –affected by factors such as the industry and the type of product and service

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Financial risk choice of debt or equity –failure to pay interest may lead to liquidation –failure to pay dividends will cause a decline in its share price

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Quality of management effectiveness of asset and liability management

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Rates of return realised rates of return expected rates of return required rates of return

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. The management of risk and return The higher the expected return, the higher the share price The higher the expected risk the lower the price of the share Managers appraise the risk-return trade-off Maximum return at an acceptable risk level

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. The role of financial management How the organisation is financed How much dividend should be paid Which projects or activities should the organisation undertake

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. FINANCIAL MANAGEMENT AND THE BALANCE SHEET The financing decision –necessary funds at minium cost, suitable sources with the risk of such financing assessed Cost of finance –the price of time –the price of risk –the maturity structure

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. continued Level of debt –use of debt is called leverage –debt is only a fixed rate of return –the organisation needs to earn more than it costs for the borrowed funds

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Sources of finance Short term - Debt –commercial paper –overdraft –factoring, trade credit

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. continued Long term - Debt –lease –mortgage –debentures –unsecured notes Long term - Equity –convertible notes –preference shares –ordinary shares

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Other factors influencing the choice of finance Volume of funds required Transaction fees ie: legal/bank/ stamp duty Restrictive conditions How permanent is the source of funds Prevailing conditions in the capital market Tax effects Anticipated growth of the organisation

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Managing current assets Cash and marketable securities Accounts receivable Inventory

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Financial management and the profit and loss statement financial mnager has a direct influence on the cost of finance, which may substantially affect profitability

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Dividend policy portion of profit distributed to owners –dividends inrease share price? –dividends do not affect share price? –policy on dividends also has a clientele effect –information is also signalled to the market by policy

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Dividend imputation introduced in Australia in 1981 removes double tax now dividends are only taxed once

Chapter 11: Accounting and financial management PPS t/a Carnegie et al; Accounting: Financial and Organisational Decision Making © 1999 McGraw-Hill Book Co. Aust. Summary Interaction of risk and return The balance between these two factors determines success