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Budi Hermana
Managerial Finance
Chapter 1
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Managerial Finance
The Role of Finance and The Financial Manager Finance? The art and Science of managing money Concerned with the process, institution, markets, and instrument involved in the transfer of money among and between individuals, businesses, and governments Financial Services
Areas& Opportunities? The area of finance concerned with the design and delivery of advice and financial product to individual, business, and governments
Managerial Finance
concerned with the duties of the financial manager in the business firm.
Budgeting
Financial forecasting Cash management Credit administration Investment Analysis Funds procurement
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Task?
Actively manage the financial affairs of many tipes of business- financial and nonfinancial, private and public, large and small, profit-seeking and not-for-profit
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Managerial Finance
Sole Proprietorship
A Business owned by one person and operated for his or her own profit
Small firm, unlimited liability
Partnerships
Corporations
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Partenrship
Can raise more more funds than sole proprietorships Borrowing power enhanced by more owners More available brain power and managerial skill Can retain good employees Income taxed as personnel income of partners
Corporation
Owners have limited liability which guarantees they cannot lose more than invested Can achieve large size due to marketability of stock (ownership) Ownership is readily transferable Long-life of firm- not dissolved by detah of owners Can hire professional managers Can expand more easily due to access to capital markets Receives certain tax advantages Taxes generally higher since corporate income is taxed and dividends paid to owners ara again taxed More expensive to organize than other business forms Subject to greater government regualation Employees often lack personnel interest in firm Lack secrecy since stockholders must receive financial reports
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Strength Weaknesses
Owner has unlimited liabilitytotal wealth can be taken to satisfy debts Limited fund-raising power tends to inhibit growth Propietor must be jack-of-alltrades Difficult to give employees long run career opportunity Lacks continuity when propitor dies
Owners have unlimited liability and may have to covers debts of other less financially sound partners When a aparter dies, partership is dissolved Difficul to liquidate or transfer partership Difficult to achieve largescale operations
Managerial Finance
Managerial Finance is closely related to, but quite different from, Economics and Accounting
Organizational View
The size and importance of the managerial finance depend on the size of the firm In small firm the finance function generally performed by the accounting department In medium-to-large-size firm
Financia Separate department, vice-president of finance (CFO), l Treasurer, Controller Manage r The officer responsible for the firms financial activities: financial The officer responsible for the firm planning and fund raising, managing cash, making capital accounting activities: tax management, data expenditure decision, managing credit activities and managing processing, and cost and financial the investment portfolio accounting
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Managerial Finance
economic policy
?
Supply-demand analysis Profit-Maximazing strategies Price Theory
Must be able to use economic theories as guidelines for efficient busineness operation
Marginal Analysis
Economic principle which states that financial decisions should be made and actions taken only when the added benefit exceed the added costs
Example
Benefits with new computer Less: Benefits with old computer (1) Marginal (Added) benefits
Cost of new computer $80.000 Less: Proceeds from sale of old com 28.000 (2) Marginal (added) costs $52.000 Net Benefit [(1) (2)]
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$13.000
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Decision Making
Accrual Method
vs
Cash Method
Recognizes revenue at the point of sale and recognized expenses when incurred
Accounting View
Recognized revenues and expenses only with respect to actual inflow and outflows of cash
Financial View
The accountant devotes the majority of attention to the collection and presentation of financial data The financial manager evaluates the accountants statements, develops additional data, and makes decisions based on subsequent analyses This does not mean that accountant never make decision, or that financial manager never gather data
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Income statement ABC Corporation For the year xxxx Sales Revenue Less: Costs Net Profit
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Income statement ABC Corporation For the year xxxx Cash inflow $ 0 Less: Cash Outflow 80.000 Net Profit ($80.000)
Managerial Finance
Performing Financial Analysis and Planning Balance Sheet Making Investment Decision Making Financing Decision
2. 3.
Current Assets
Current Liabilities
Fixed Assets
Long-Term Funds
Managerial Finance
Maximize Profit? Some pepople believe that the owners objective is always to maximize profits The Financial Manager are expected to make a major contribution to the firms overall profit For Corporation, profit are commonly measured in terms of Earnings per Share (EPS) EPS: The amount earned during the period on each outstanding share of common stock
periods total earnings avaliable for the firms common stock holders The number of shares of common stock outstanding
X Y
$1.40 0.60
$1.00 1.00
$0.40 1.40
The chance that actual outcomes $2.80 3.00 may differs from those expected Basic primises in managerial finance is that trade-off exist between return (cash flow) and risk Return and risk are in fact the key determinant of share price which represents the wealth of the owners in the firm
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Profit maximization fails for reason: 1. Timing of return 2. Cashflow avaliable to stockholder 3. Risk
Stockholder are risk-averse ?
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The goal of the financial manager is to maximize the wealth of the owners for whom the firm is being managed
Timing of return (cash flow)
Measured by the share price of the stock
magnitude Risk
Financial Manager
Return? Risk?
Yes
Acept
Yes
Reject
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Managerial Finance
The goal of the financial manager should be to maximize the wealth of the owners of the firm
Management can be viewed as agents of the owners who have hired them and given them decision-making authority to manage the firm for the owners benefit
In practise However, managers also concern with their personnel wealth, job security, lifestyle, and privilege
In theory Most financial managers would agree with the goal of owner wealth maximization Agency problem The likelihood that managers may place personnel goals ahead of corporate goals
Agency Cost Monitoring expenditure Bonding expenditure Structuring expenditure Opportunity cost
Audit&control Fidelity bond Managerial compensation: stock option, performance share, cash bonuses
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Ethics Standard of conduct or moral judgement Corporate Ethics and Policies Guidelines
example
http://www.kpk.go.id/modules/edito/content.php?id=27
http://www.bi.go.id/NR/rdonlyres/2246113B-DC63-4731-8558-3693A6254962/3449/pbi8406.pdf
Managerial Finance
Chapter 2
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Managerial Finance
Business Taxation
Ordinary Income
Indonesia ?
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Business Taxation
Ordinary Income Average Tax Rates
Pretax Income (1) $ 50.000 75.000 100.000 200.000 335.000 500.000 1.000.000 2.500.000
Tax Liability (2) $ 7.500 13.750 22.250 61.250 113.900 170.000 340.000 850.000
Average Tax rate [(2) : (1)] (3) 15.00% 18.33% 22.25% 30.63% 34.00% 34.00% 34.00% 34.00%
= $80.750+$19.500 = $100.250
Using Taxe rate schedule: Total Taxes = $22.250+[0.39x($300.000 - $100.000)] = $22.250+$78.000 =$100.250
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Business Taxation
Ordinary Income Interest and Dividend Income
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Interest
the
as
ordinary income
Devidend received on common and preferred stock held in other corporation, and representing less than 20% ownership in them, on the other hand, are subject to a 70% exclusion for tax puposes
Only 30% of these intercorporate dividends are included as ordinary income Avoid triple taxation
Example Charnes Industries received $100.000 interest on bonds it held and $100.000 in dividends on common stock it owned in other corporation. The firm is subject to a 40% marginaltax rate and is eligible for 70% exclusion on its intercorporate dividend receipts Interest Income (1) Before-tax amount Less: Applicable Exclusion
Dividend Income
$100.000 $100.000 0 (0,70x$100.000) = 70.000 $100.000 40.000 $ 60.000 $ 30.000 12.000 $ 88.000
Indonesia ?
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Business Taxation
Ordinary Income Tax-Deductible Expenses Corporation are allowed to deducti operating expenses. The taxdeductible expenses reduces their after-tax cost. Advertising expenses Sales commision Bad debt Interest expenses Example
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Insurance?
CSR?
Company X and Y each expect in the coming year to have earnings before interest and taxes of $200.000. Company X during the year will have to pay $30.000 in interest; Company Y has no debt and therefore will have no interest expenses. Calculate the earnings after taxes for these two firm, which pay 40% tax on ordinary income
Interest Income Earning before interest&tax Less: Interest expenses Earnings before tax Less: Taxes (40%) Earnings after taxes Difference in earning after taxes $200.000 30.000 $170.000 68.000 $ 102.000
Dividend Income
$18.000
Business Taxation
Capital Gains Amount by which the price at which an asset was sold exceeds the assets initial purchase price For corporation, capital gain are added to ordinary corporate income and taxed at the regular corporate rates Example
Managerial Finance
The Ross Company earnings of $500.000 sold for $40.000 a initially purchased two $36.000.
has operating and hast just capital asset years ago for
Since the asset was sold for more than its initial purchased, there is capital gain of $4000
($500.000 ordinary income plus $4.000 capital gain) Since this total is above$335.000, the capital gain will be taxed at the 34%, resulting in tax of $1.360 (0,34 x $4000)
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Financial Institutions and Markets: An Overview Financial institutions and markets are important elements in a firms operating environment
Firms that require funds from external sources can obtain them in three ways
Financial Institution That accept savings and transfers them to those
needing funds
Financial Market Organized forum where the suppliers and demanders of various type of funds can make transaction Private placement
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investment
Indonesia Bank Umum BPR Asuransi Dana Pensiun Reksa dana Modal Ventura Anjak-Piutang Sewa guna usaha
Savings Bank
Not hold demand (checking) deposits. Generally lends or invest funds through financial markets
Credit Union
Deals primarily in transfer of funds between consumers. Accept members deposit and lends to other members
Pension Fund
Money is sometimes transferred directly to borrowers, but the majority is lent or invested via the financial markets
Mutual Fund
Pools funds of savers and makes them available to business and government demanders. Creates a portfolio of securities to achieve a specified investment objective
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Provide a forum in which suppliers of funds and demanders of loans and investments can transact business directly
Money Market Transactions in short-term debt instruments, or marketable securities, take place in the money market Capital Market
Financial market in which securities are initially issued; the only market in which the issuer is directly involved in the transaction
Secondary Market
Financial market in which preowned securities (those that are not new issues) are traded
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Funds Deposits/Shares
Financial Institutions
Funds Loans
Securities
Suppliers of Funds
Funds
Funds
Demanders of Funds
Funds Securities
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Financial Markets
Funds Securities
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A financial relationship created between suppliers and demanders of short-term funds, which have maturities of one year or less
Certain individuals, businesses, governments, and financial institution have temporary idle funds that they wish to place in some type of liquid asset or shortterm, interest earning instrument
Money Market exists
Other individuals, businesses, gevernments, and financial institution find themselves in need of seasonal or temporary financing
Most money market transactions are made in marketable securities Short-term debt instruments, such as US Treasury Bill, Commercial Papers, and Negotiables Certificate of Deposits issued by government, business, and financial institution Indonesia?
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A financial relationship created by institutions and arrangements that allows suppliers and demanders of long-term funds- funds with maturiry of more than one year- to make transactions. The backbone of the capital market is formed by the various securities exchange that provide a forum for debt and and equity transaction Key Securities
Bond Long-term debt instrument used by business and governments to raise large sums of money Common stock Units of ownership interest, or equity. In a corporation
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To make transaction on the floor, individual or firm must own a seat on the exchange For listing, a firm must file an application and meet a number requirements
Have at least 2000 stockholders with 100 shares Min 1,1 million share of publicly held stock Earning power of $2,5 million before taxes Net tangible asset of $16 million A total of $18 million in market value of publicly traded shares, etc Jakarta Stock Exchange (JSX)
Persyaratan listing?
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Sophisticated telecommunications system that provide current bid and ask prices on thousands of actively traded
The bid price is the highest price offered by dealer to purchase a given security
Automated matched
The ask price is the lowest price at which the dealer is willing to sell the security
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The level of funds flow between suppliers and demanders can significantly affect economic growth
Growth results from the interaction of variety of economic factors, such as the money supply, trade balance, and economic policy, that affect the cost of money the interest rate or required return
The level of interest rate acts as regulating device that controls the flow of funds
The lower the interest rate, the greater the funds flow and therefore the greater the economic growth, and vice versa
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Managerial Finance Rate that creates an equilibrium between the supply of savings and the demand for investments funds in perfect world, without inflation, where funds suppliers and demanders have no liquidity preferences, and all outcomes are certain
The compensation paid by the borrower of funds to the lender; from the borrowers point of view, the cost of borrowing funds
Required Return
Ignoring risk factors, the nominal or actual interest rate (cost of funds) results from the real rate of interest adjusted for inflationary expectation and liquidity preferences
S1
Real Rate of Interest
The actual rate of interest chargeb by the supplier of funds and paid by demander
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Funds supplied/demanded
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The relationship between the interest rate or rate of return and the time to maturity
Yield to maturity Annual rate of interest earned on a security purchased on a given day and held to maturity Yield Curve A Graph that depicts the relationship between the yield to maturity (y-axis) and the time to maturity (x-axis)
17
Inverted Yield Curve A Downward-sloping yield curve that indicates generally cheaper long-term borrowing costs than short-term borrowing costs
16
15 14 13 May 22, 1981
10 9 8 7
It reflects similar borrowing costs for both short- and longer-term loans
10
15
20
25
30
Normal Yield Curve An upward-sloping yield curve that indicates generally cheaper short-term borrowing costs than long-termborrowing costs
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Example
Nominal interest Rate, RFt Maturity, t 3 Months 1 years (1) 5,17% 6,51 8,38 9,05 Real interest Rate, k* (2) 2,00% 2,00 2,00 2,00 Inflation Expectation, IEt
[(1) - (2)]
3,17% 4,51 6,38 7,05
5 years
30 years
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Speculative Common Stocks Qualtiy Common Stocks Preferred Stocks Annual Return (cost to issuer) Medium-Grade Bonds Investment-Grade Bonds Investment-Grade Notes Prime-Grade Commercial Paper US Treasury Bills
Risk
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Chapter 3
Financial Statement
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A Stockholders report summarizes and documents a publicly held corporations financial activities over the year. Who receives theses reports? What types of informastion do you think they typically include? Why are they important?
1. 2. 3. 4. Regulator or Goverments Creditor (lenders) Owners Management
1.
2.
3.
The letter to stockholders Events, management philosophy, strategy, and action Financial statements (a) the income statemnet, (b) the balance sheet, (c) the statement of retained earnings, and (d) the statements of cash flows Other feature Firm activities, new product, R&D, etc
An important vehicle for influencing owners perceptions of the company and its future outlook. The stockholders report may effect expected risk, return, stock price, and the viability of the firm
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Less: Taxes (rate = 40%) Net profits after taxes Less: Prefered stock dividends Earning available for common stockholders Earning per share (EPS)
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Assets
Current assets Cash Marketable securities Account receivable Inventories Total current assets Gross fixed assets (at cost) Land and buildings Machinery and equipment Furniture and fixtures Vehicles Other Total gross fixed assets (at cost) Less: Accumulated depriciation Net fixed assets Total assets
2000 $ 400 600 400 600 $ 2000 $ 1200 850 300 100 50 $ 2500 1300 $ 1200 $ 3200 $
2001 300 200 500 900 $ 1900 $ 1050 800 220 80 50 $ 2200 1200 $ 1000 $ 2900
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December 31
2000 $ 700 600 100 $ 1400 $ 600 $ 2000 $ 100 120 380 600 $ 1200 $ 3200 $
2001 500 700 200 $ 1400 $ 400 $ 1800 100 120 380 500 $ 1100 $ 2900
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Reconciles the net income earned during a given year, and any cash dividends paid, with the change in retained earnings between the start and end of that year
ABC Corporation Statement of Retained Earnings ($000) for the end year Ended December, 2001 Retained earnings balance (january 1, 2001) Plus: Net Profit after taxes (for 2001) Less: Cash dividend (paid during 2001) Preferred stock Common stock Retanined earnings balance (Dec 31, 2001) $500 180
($10) ( 70)
80 $600
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Provides a summary of the firms operating, investment, and financing cash flows, and reconciles them with changes in its cash and marketable securities during the period of concern
ABC Corporation Statement of Cash Flows ($000) for the end year Ended December, 2001 Cash Flow from Operating Activities Net Profits after taxes $ 180 Depreciation 100 Decrease in account receivable 100 Decrease in inventories 300 Increase in account payable 200 Decrease in accruals (100) Cash provided by operating Cash Flow from investment activities Increase in gross fixed asset ($300) Changes in business interest 0 Cash used for investment activities Cash Flow from financing Activities Decrease in notes payable ($100) Increase in long-term debts 200 Changes in stockholders equity 0 Dividends paid (80) Cash provided by financing activities Net increase in cash and marketable securities
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$780
(300)
20 $500