Lecture Notes

1. FINANCIAL MANAGEMENT – NOTES
MIDTERM
FINANCIAL MANAGEMENT
 Deals with the procurement of funds and their effective management
 Effective management of funds
FINANCE IS FOR EVERYONE & APPLICABLE TO EVERYONE
Economics
 Micro & Macro Economics
 Considered for decision making
Accounting
 Records provide valuable information for arriving at round decision for a business concern
Mathematics
 FM uses mathematical statistical tools for calculations involving the time value or money, cost of
capital, risk analysis, capital structure, ration analysis, and other significant computations
Production Management
 Production deals with the raw materials, machineries, wages, operating expenses, that all need
funds which in turn produce profit for the company
Marketing
 The output of production needs to be sold in order to produce profits. The marketing department
therefore, needs fund in return to carry out its approaches.
Human Resource
 The human resource provides man power to all the functional areas of the business
FUNCTION OF FINANCE
1. Investment Decision
 Which assets will the firm should invest in?
 Long term (Capital budgeting)
 Short term (Working Capital)
2. Finance Decision
 Concerned with the balance between
 Borrowed and Owned Capital
 Long-Term and Short-Term Asset and Labilities
 SHORT TERM ASSETS: (a) Cash (b) Market Securities(c) Receivables (d) Inventories (e)
Prepaid
3. Liquidity Decision
 Working capital decision
 Short term assets

2.  Liquidity or profitability
 Management of working capital
 Short-term survival of the firm (pre-requisite for long-term survival)
4. Dividend Decision
 Profit allocation decision
 Distribution of dividends depends on the policies set by the company
 How much should be distributed and retained by the firm?
 Dividend pay-out ratio
FUNCTION OF FINANCE MANAGER
1. Forecasting of funds
2. Acquisition of funds
3. Investment of funds
4. Management of funds
ULTIMATE GOALS OF FINANCIAL MANAGER:
“Maximize the shareholders’ wealth”
TYPES OF BUSINESS ORGANIZATION
1. Sole proprietorship
2. Partnership
3. Corporation
BASIC PRINCIPLE OF FINANCE
1. Time Value of Money
 A peso today is worth more than a peso that will be received in the future
 A peso invested today can earn interest, so that at the end of the term, the amount will be
more than one peso
2. Risk Return Trade Off
 Investors are risk adverse. Prefers to get return that is certain rather than uncertain
 Higher risk gives higher return
3. Cash funds are valued more
 Profit is a measure of the performance of business
 Cash flows determine an investment’s value
FRAMEWORK OF FINANCIAL MANAGEMENT
1. Macroeconomics
 GDP
 Unemployment rate
 Price indices
 National income
 Output
 Consumption
 Inflation
 Savings
 Investment
 International trade & finance

3. 2. Fiscal Policy
 Refers to the “measures employed by government to stabilize the economy”
 Sources of tax revenues
Income tax
Evat
Tariffs & duties
 Sources of non-tax revenues
Bureau of treasury
Privatization
PAGCOR
3. Monetary Policies
 Actions taken by the central bank to influence the general price level & the level of liquidity
in the economy
 EXPANSIONARY MONETARY POLICY (expands the monetary supply)
 CONTRACTIONARY MONETARY SUPPLY (reduce monetary supply)
HOW DOES THE BSP IMPLEMENT MONETARY POLICY?
1. Raising / reducing the BSP’s interest policy rates
2. Increasing / decreasing the reserve requirement
3. Encouraging / discouraging deposit in the special deposit account (SDA) facility by banks ang
trust entities of BS-supervised financial institution.
4. Increasing / decreasing the rediscount rate on loans extended by the BSP to banking institution
on a short-term basis against eligible “collaterals of banks” borrowers
5. Outright sales / purchases of the BSP’s holdings of government securities
6. The BSP’s monetary policy instrument are its overnight reverse repurchase (borrowing) rate and
overnight repurchase (lending) rate
MARKET STRUCTURES
TYPES
PERFECT
COMPETITION
MONOPOLISTIC
COMPETITION
OLIGOPOLY MONOPOLY
NO. OF FIRMS
Many Small
Firms
Many Firms
Few Large
Firms
One Firm
CONTROL OF
PRICE
Price Takers
Some Pricing
Power
Some Pricing
Power
Considerable
Pricing Power
BARRIERS TO
ENTRY
Low Medium High Very High
EXAMPLES Vegetables Restaurants Oil Firms Meralco
DE REGULATION
 The act or process of removing / reducing state regulations
PRIVATIZATION
 Process of transferring ownership of a business, enterprise, agency, public service or public
property from the public sector (government) to the private sector, either to a business that
operates for a profit or to a non-profit organization
 Government outsourcing

4. ENVIRONMENT OF FIRMS
I. EXTERANAL ENVIRONMENT
 Factors
1. Political
2. Economic
3. Global world
4. Legal
5. Socio-cultural
6. Technological
7. Ecological
II. INTERNAL ENVIRONMENT
 Factors
1. Resources
2. Core competencies
3. Capabilities
SWOT ANALYSIS
1. STRENGTHS & WEAKNESSES
 Pertains to the internal factors
2. OPPORTUNITIES & THREATS
 Pertains to the external factors
TIME VALUE OF MONEY
 The concept in finance that says that the peso today is worth more than the peso that you will
received at some future date
FV = cash that will be received at a given future date
PV = cash today
BASIC PATTERN OF CASH FLOWS
1. Single amount - A lump-sum flow of cash.
2. Annuity - streams of equal periodic cash flows
3. Mixed Stream - follow no particular pattern of cash flows
TWO TYPES ANNUITY
1. Ordinary Annuity
 End of Period
 4, 3, 2, 1, 0
2. Annuity Due
 an annuity whose payment is to be
made immediately at the
beginning of each period
 Beginning of Period
 5, 4, 3, 2, 1
ANNUITY TABLE
1. Present Value of 1
2. Future Value of 1
3. Present Value of Ordinary Annuity
4. Present Value of Annuity Due
5. Future Value of Ordinary Annuity
6. Future Value of Annuity Due

5. FORMULAS
1. Simple interest 𝐼 = 𝑃𝑟𝑡
2. Compounding 𝐹𝑉 = 𝑃𝑉 × (1 + 𝑖) 𝑛
3. Discounting 𝑃𝑉 = 𝐹𝑉 × (1 + 𝑖)−𝑛
4. Ordinary Annuity
𝐹𝑉 = 𝑃𝑉 ⌈
(1 + 𝑖) 𝑛 − 1
𝑖
⌉
𝑃𝑉 = 𝐹𝑉 ⌈
1 − (1 + 𝑖)−𝑛
𝑖
⌉
5. Annuity Due
𝐹𝑉 = 𝑃𝑉 ⌈
(1 + 𝑖) 𝑛 − 1
𝑖
(1 + 𝑖)⌉
𝑃𝑉 = 𝐹𝑉 ⌈
1 − (1 + 𝑖)−𝑛
𝑖
(1 + 𝑖)⌉
6. Compounding more than annually 𝐹𝑉 = 𝑃𝑉 × (1 +
𝑖
𝑚
)
𝑚×𝑛
7. PV of Perpetuity
𝑃𝑎𝑦𝑚𝑒𝑛𝑡
𝑖
8. Effective Annual Interest 𝐸𝐴𝑅 = (1 +
𝑖
𝑚
)
𝑚
− 1
9. Interest 𝑖 = (
𝐹𝑉
𝑃𝑉
)
1
𝑚⁄
− 1
10. Time 𝑡 =
ln(
𝐹𝑉
𝑃𝑉
)
ln(1 + 𝑖)
FINANCIAL STATEMENTS
 Income statement
 Balance sheet
 Statement of changes in equity
 Statement of cashflows
 Notes in financial statements
OBJECTIVES
 Identify an organization’s financial strength & weaknesses
 Current shareholders: investment income, profitability, stability, and sound capital structure,
continued successful operation
 Potential creditors: they look for companies with stable earnings and dividend growth
 Short-term creditors: concerned with liquidity
 Long-term creditors: long term security of interest income and ability to meet continuing financial
commitments

6. LIMITATION
 Information: not absolute measure of performance, but rather only indicators
 Inherent limitation in the accounting data such as lack of consistency in the application of
principles, policies and procedures, too condensed presentation of data, failure to reflect change
in purchasing power
 Result should be interpreted relative to the nature of the business and in light of past, current &
future operations
 Uses average
 Possibility of management influence in order to please creditors / investors
TOOLS / TECHNIQUES FOR FINANCIAL STATEMENT ANALYSIS
1. Horizontal Analysis / Trend Analysis
 Analyzing year by year
 For the same company
 Comparison with other company (bench marking)
2. Vertical Analysis / Common Size
 Percentage equivalent of each amount in the financial statement
3. Ratios
 Measurement of risk
A. Liquidity
– ability of a firm to satisfy its short-term obligations as they become due
B. Activity
– measures the speed with which various accounts are converted into cash
(inflows or outflows)
C. Stability / Debt
– measures the proportion of total assets financed by the firm’s creditors, the
higher the ratio, the greater the amount of other people’s money being used to
generate profits
D. Profitability
– measures the firm’s profits with respect to a given level of sales or level of
assets or the owner’s investments
E. Marketability
– Relates the firm’s market value, as measured by its current share price, to
certain accounting values
– These ratios give insight into how well investors in the market place feel the firm
is doing in terms of risk and return
– The ratios reflect, on a relative basis, the common stockholders’ assessment of
all aspects of the firm’s past and expected future performance

7. TYPES OF RATIO
1. Cross sectional
– Bench marking
– Comparison of different firms’ financial ratio at the same point of time
2. Time Series
– Assessment of relationships between two or among more variables over periods of time.
3. Combined
– FS analysis
– Combination of cross sectional and time series analysis
THE DUPONT SYSTEM OF ANALYSIS
 assets are measured at their gross book value rather than at net book value to produce a higher
return on equity (ROE).
LIMITAITONS OF RATIOS
 It does not mean anything if taken as is, it just points out to potential areas of concerns
 FS used should be at the same point of time to be meaningful
Return on Equity
Return on Assets
Net Profit
Profit
Sales
COGS
Operating&
Internal Expenses
Taxes
Preference Share
Sales
Total Asset
Turnover
Sales
Total Assets
Current Assets
Net Fixed Assets
Financial Leverage
Multiplier
Total Assets
Total Liabilities
Current Liabilities
Non-current
Liabilities
Shareholders'
Equity
Shareholders'
Equity

8. FORMULAS
LIQUIDITY RATIO
Working Capital 𝐶𝑢𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡𝑠 − 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
Current Ratio
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡𝑠
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
Quick Ratio / Acid-test-ratio
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 − 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 − 𝑃𝑟𝑒𝑝𝑎𝑖𝑑 𝐼𝑡𝑒𝑚𝑠
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝑙𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
ACTIVITY RATIO
Inventory Turnover
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑔𝑜𝑜𝑑𝑠 𝑠𝑜𝑙𝑑
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑖𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦
Average Age of Inventory
365 𝑑𝑎𝑦𝑠
𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Accounts Receivable Turnover
𝑆𝑎𝑙𝑒𝑠 𝑜𝑛 𝑎𝑐𝑐𝑜𝑢𝑛𝑡
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒
Average Collection Period
365 𝑑𝑎𝑦𝑠
𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑟𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Accounts Payable Turnover
𝑃𝑢𝑟𝑐ℎ𝑎𝑠𝑒𝑠 𝑜𝑛 𝑎𝑐𝑐𝑜𝑢𝑛𝑡
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑃𝑎𝑦𝑎𝑏𝑙𝑒
Average Collection Period
365 𝑑𝑎𝑦𝑠
𝐴𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑝𝑎𝑦𝑎𝑏𝑙𝑒 𝑡𝑢𝑟𝑛𝑜𝑣𝑒𝑟
Total Asset Turnover
𝑆𝑎𝑙𝑒𝑠
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡
STABILITY / DEBT RATIO
Debt to Equity Ratio
𝑇𝑜𝑡𝑎𝑙 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝑆ℎ𝑎𝑟𝑒ℎ𝑜𝑙𝑑𝑒𝑟 𝑠′ 𝐸𝑞𝑢𝑖𝑡𝑦
Times Interest Earned Ratio
𝐸𝐵𝐼𝑇
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑒𝑥𝑝𝑒𝑛𝑠𝑒
PROFITABILITY RATIO
Gross Profit Margin
𝐺𝑟𝑜𝑠𝑠 𝐼𝑛𝑐𝑜𝑚𝑒
𝑆𝑎𝑙𝑒𝑠
Operating Profit Margin
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐼𝑛𝑐𝑜𝑚𝑒
𝑆𝑎𝑙𝑒𝑠
Net Profit Margin
𝑁𝑒𝑡 𝑖𝑛𝑐𝑜𝑚𝑒
𝑆𝑎𝑙𝑒𝑠
Earnings per Share
𝑁𝑒𝑡 𝑖𝑛𝑐𝑜𝑚𝑒 − 𝑃𝑆 𝑑𝑖𝑣𝑖𝑑𝑒𝑛𝑑
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐶𝑆 𝑠ℎ𝑎𝑟𝑒𝑠 𝑜𝑢𝑡𝑠𝑡𝑎𝑛𝑑𝑖𝑛𝑔
Return on Equity
𝑁𝑒𝑡 𝑖𝑛𝑐𝑜𝑚𝑒 − 𝑃𝑆 𝑑𝑖𝑣𝑖𝑑𝑒𝑛𝑑
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐶𝑆 𝑒𝑞𝑢𝑖𝑡𝑦
Return on Assets
𝑁𝑒𝑡 𝑖𝑛𝑐𝑜𝑚𝑒
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑡𝑜𝑡𝑎𝑙 𝑎𝑠𝑠𝑒𝑡𝑠
MARKETABILITY RATIO
Price/Earnings Ratio
𝑀𝑎𝑟𝑘𝑒𝑡 𝑝𝑟𝑖𝑐𝑒 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒
𝐸𝑃𝑆
Market/Book Ratio
𝑀𝑎𝑟𝑘𝑒𝑡 𝑝𝑟𝑖𝑐𝑒 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒 𝑜𝑓 𝐶𝑆
𝐵𝑜𝑜𝑘 𝑣𝑎𝑙𝑢𝑒 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒 𝑜𝑓 𝐶𝑆
Dividend Payout Ratio
𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑𝑠 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒
𝐸𝑃𝑆
Dividend Yield Ratio
𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑𝑠 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒
𝑀𝑎𝑟𝑘𝑒𝑡 𝑝𝑟𝑖𝑐𝑒 𝑝𝑒𝑟 𝑠ℎ𝑎𝑟𝑒

9. FINALS
LESSON 1
COST VOLUME PROFIT ANALYSIS
TOTAL PER UNIT
Sales XX XX
Less: Variable Expenses (XX) (XX)
Contribution Margin XX XX
Less: Fixed Expenses (XX)
Net Income XX
OBJECTIVES OF CVP ANALYSIS
 To estimate how profit are affected by the movement in any of the following
 Selling price
 Sales volume
 Unit variable cost
 Total fixed cost
 Product mix
ASSUMPTION OF COST-VOLUME ANALYSIS
1. One product is involved
2. Everything produced can be sold
3. Variable cost per unit is the same regardless of volume
4. Fixed costs do not change with volume
5. Revenue per unit constant with volume
6. Revenue per unit exceeds variable cost per unit
CONTRIBUTION MARGIN
 The amount remaining from sales revenue after variable expenses have been deducted
 The amount available to cover fixed expenses, whatever amount is left does to profit
BREAK-EVEN POINT
 Level of sales at which profit is equal to ZERO
 Level of sales at which variable and fixed expenses are covered and no amount is left over
TARGET PROFIT
 Level of sales that is needed to achieve a specific target profit
MARGIN OF SAFETY
 The excess of the actual or budgeted sales in pesos over the break-even sales in pesos
 The amount by which sales can drop before losses are incurred

10. FORMULAS
1. Sales 𝑆𝑒𝑙𝑙𝑖𝑛𝑔 𝑃𝑟𝑖𝑐𝑒 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡 × 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑆𝑜𝑙𝑑
2. Variable Expense 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡 × 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑆𝑜𝑙𝑑
3. Contribution Margin 𝑆𝑎𝑙𝑒𝑠 − 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐸𝑥𝑝𝑒𝑛𝑠𝑒
4. Unit Contribution Margin 𝑆𝑒𝑙𝑙𝑖𝑛𝑔 𝑃𝑟𝑖𝑐𝑒 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡 − 𝑉𝑎𝑟𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡
5. Contribution Margin Ratio
𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑀𝑎𝑟𝑔𝑖𝑛
𝑆𝑎𝑙𝑒𝑠
6. Contribution Unit Ratio
𝑈𝑛𝑖𝑡 𝐶𝑜𝑛𝑡𝑟𝑖𝑏𝑢𝑡𝑖𝑜𝑛 𝑀𝑎𝑟𝑔𝑖𝑛
𝑈𝑛𝑖𝑡 𝑆𝑒𝑙𝑙𝑖𝑛𝑔 𝑃𝑟𝑖𝑐𝑒
7. Sales at Break-even Point
𝐹𝑖𝑥𝑒𝑑 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠
𝐶𝑀 𝑅𝑎𝑡𝑖𝑜
8. Sales at Target Profit
𝑇𝑎𝑟𝑔𝑒𝑡 𝑃𝑟𝑜𝑓𝑖𝑡 + 𝐹𝑖𝑥𝑒𝑑 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠
𝐶𝑀 𝑅𝑎𝑡𝑖𝑜
9. Margin of Safety 𝐴𝑐𝑡𝑢𝑎𝑙/𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑆𝑎𝑙𝑒𝑠− 𝐵𝑟𝑒𝑎𝑘𝑒𝑣𝑒𝑛 𝑆𝑎𝑙𝑒𝑠
10. Margin of Safety Percentage
𝑀𝑎𝑟𝑔𝑖𝑛 𝑜𝑓 𝑆𝑎𝑓𝑒𝑡𝑦
𝐴𝑐𝑡𝑢𝑎𝑙/𝐵𝑢𝑑𝑔𝑒𝑡𝑒𝑑 𝑆𝑎𝑙𝑒𝑠
11. Investment in Operating Capital ∆𝐺𝑟𝑜𝑠𝑠 𝐹𝑖𝑥𝑒𝑑 𝐴𝑠𝑠𝑒𝑡 + ∆𝑁𝑒𝑡 𝑂𝑝𝑒𝑟𝑒𝑎𝑡𝑖𝑛𝑔 𝑊𝑜𝑟𝑘𝑖𝑛𝑔 𝐶𝑎𝑝𝑖𝑡𝑎𝑙
LESSON 2
CASH FLOWS
- is the net amount of cash that an entity receives and disburses during a period of time.
SOURCE OF CASH USES OF CASH
NET INCOME Net loss
DEPRECIATION & AMORTIZATION Pay Dividends
 NON-CASH ASSET  Non-cash asset
 FIXED ASSET  Fixed asset
 CURRENT LIABILITY  Current liabilities
 LONG TERM DEBT  Long term debt
SALES OF ORDINARY /
PREFERRED SHARES
Repurchase of ordinary / preferred
shares (treasury shares)
FREE CASH FLOWS
 Cash that is available for distribution to the investors in the firm (the firm’s debt holders &
shareholders) after the investments that are necessary to sustain on-going operation.
RELEVANT CASH FLOWS
 Incremental cash flows = amount of investment

11.  Subsequent inflows
OPERATING CASH FLOW
 Is the cash flows generated from its normal operations – producing and selling its output of
goods or services
MAJOR CASH FLOWS COMPONENTS
1. Initial investment – the cash outflow at time zero
2. Operating cash inflows – after tax cash inflows during the life of the project
3. Terminal cash flows – after tax non-operating cash flows in the final year of a period; usually
attributable to liquidation of the project
CASH FLOW PATTERNS
1. Conventional - A series of inward and outward cash flows over time in which there is only one
change in the cash flow direction.
2. Non-Conventional - a series of inward and outward cash flows over time in which there is more
than one change in the cash flow direction.
CASH FLOW STATEMET
Answers the following questions:
 How did the company finance its plant and equipment?
 Where did the net income go?
 What were the investment activities of the firm?
 Were dividends distributed to the shareholders?
 Was enough cash to generated to finance the succeeding year’s operation?
Purpose:
 Provides information about the cash receipts and cash payments of the business
 States the changes in the financial position of the entity
 Give information on the different activities of the company
 Helps assess the capacity of the firm to produce cash
CLASSIFICATION OF CASH FLOWS REPORTED IN STATEMENT OF CASH FLOWS
1. Operating activities
– derived from the principal revenue-producing activities of the entity
- affect profit or loss
2. Investing activities
- derived from the acquisition and disposal of long term assets and other investments that are
not considered to be cash equivalents
- affect non-current assets and other non-operating assets
3. Financing activities
- derived from transactions that alter the equity capital and borrowing structure of the entity
- affect noncurrent liabilities and other non-operating liabilities and equity

12. REPORTING CASH FLOWS FROM OPERATING ACTIVITIES
1. Direct method – shows each major class of gross cash receipts and gross cash payments
2. Indirect method – adjusts accrual basis profit or loss for the effects of changes in operating
assets and liabilities and effects of non-cash items
FORMULAS
CALCULATION OF RELEVANT CASH FLOWS FOR A REPLACEMENT DECISION
1. Initial investment
𝐼𝑛𝑖𝑡𝑖𝑎𝑙 𝑖𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡 𝑟𝑒𝑞𝑢𝑖𝑟𝑚𝑒𝑛𝑡 𝑡𝑜 𝑎𝑐𝑞𝑢𝑖𝑟𝑒 𝑛𝑒𝑤 𝑎𝑠𝑠𝑒𝑡
− 𝐴𝑓𝑡𝑒𝑟 𝑡𝑎𝑥 𝑐𝑎𝑠ℎ 𝑖𝑛𝑓𝑙𝑜𝑤𝑠 𝑓𝑟𝑜𝑚 𝑙𝑖𝑞𝑢𝑖𝑑𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑜𝑙𝑑 𝑎𝑠𝑠𝑒𝑡𝑠
2. Operating Cash Inflows
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑐𝑎𝑠ℎ 𝑖𝑛𝑓𝑙𝑜𝑤𝑠 𝑓𝑟𝑜𝑚 𝑛𝑒𝑤 𝑎𝑠𝑠𝑒𝑡
− 𝑜𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑐𝑎𝑠ℎ𝑖𝑛𝑓𝑙𝑜𝑤𝑠 𝑓𝑟𝑜𝑚 𝑜𝑙𝑑 𝑎𝑠𝑠𝑒𝑡
3. Terminal cash flows
𝐴𝑓𝑡𝑒𝑟 𝑡𝑎𝑥 𝑐𝑎𝑠ℎ 𝑓𝑙𝑜𝑤𝑠 𝑓𝑟𝑜𝑚 𝑡𝑒𝑟𝑚𝑖𝑛𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑛𝑒𝑤 𝑎𝑠𝑠𝑒𝑡
− 𝑎𝑓𝑡𝑒𝑟 𝑡𝑎𝑥 𝑐𝑎𝑠ℎ 𝑓𝑙𝑜𝑤𝑠 𝑓𝑟𝑜𝑚 𝑡𝑒𝑟𝑚𝑖𝑛𝑎𝑡𝑖𝑜𝑛 𝑜𝑓 𝑜𝑙𝑑 𝑎𝑠𝑠𝑒𝑡𝑠
4. Net operating profits after tax
(NOPAT)
𝐸𝐵𝐼𝑇 × (1 − 𝑇)
5. Operating cash flow (OCF) 𝑁𝑂𝑃𝐴𝑇+ 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛
6. Free cash flow
𝑂𝐶𝐹 − 𝑁𝑒𝑡 𝑓𝑖𝑥𝑒𝑑 𝑎𝑠𝑠𝑒𝑡 𝑖𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡
− 𝑁𝑒𝑡 𝑐𝑢𝑟𝑟𝑒𝑛𝑡 𝑎𝑠𝑠𝑒𝑡 𝑖𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡
7. Net fixed asset investment (NFAI) 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑛𝑒𝑡 𝑓𝑖𝑥𝑒𝑑 𝑎𝑠𝑠𝑒𝑡 + 𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛
8. Net current asset investment
𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 𝑐𝑢𝑟𝑟𝑒𝑚𝑡 𝑎𝑠𝑠𝑒𝑡𝑠 − 𝐶ℎ𝑎𝑛𝑔𝑒 𝑖𝑛 (𝑎𝑐𝑐𝑜𝑢𝑛𝑡𝑠 𝑝𝑎𝑦𝑎𝑏𝑙𝑒
+ 𝑎𝑐𝑐𝑢𝑟𝑎𝑙𝑠)
9. Direct Method (OA)
Cash receipts from customers XX
Cash paid to suppliers and employees (XX)
Cash generated from operations XX
Interest paid (XX)
Income taxes paid (XX)
Net cash from operating activities XX
10. Indirect Method (OA)
Profit before tax XX
Adjustment for: XX
Depreciation XX
Foreign exchange loss XX
Investment income (XX)
Investment expense XX
XX
Increase in trade and other receivables (XX)
Decrease in inventories XX
Decrease in trade payables XX
Cash generated from operations XX
Interest paid (XX)
Interest tax paid (XX)

13. Net cash from operating activities XX
11. Cash flow from operating activities
Net Income XX
Add: Depreciation XX
Add: Decrease in non-cash assets XX
Add: Increase in current liabilities XX
Less: Increase in non-cash current assets (XX)
Less: Decrease in current liabilities (XX)
Net change in cash XX
12. Cash flow from financing activities
Add: Increase in notes payable XX
Add: Increase in long-term debt XX
Add: Increase in ordinary / preferred shares XX
Less: Decrease in notes payable (XX)
Less: Decrease in long-term debt (XX)
Less: Decrease in ordinary / preferred shares (XX)
Less: Dividends paid (XX)
Net change in cash XX
13. Cash flow from investing activities
Add: Decrease in fixed assets XX
Add: Decrease in other long-term assets XX
Less: Increase in fixed assets (XX)
Less: Increase in other long-term assets (XX)
Net change in cash XX
LESSON 3
FINANCIAL PLANNING
- continuous process of directing and allocating financial resources to meet strategic goals and
objectives
PORPPOSE:
1. Provides an estimate of the future financing needs of the firm.
2. Allows the manager to think systematically about the future requirement if the business
COMPONENT OF FINANCIAL PLANNING:
1. SHORT TERM FINANCIAL PLAN
- convers a period of 1 year or less
- usually takes the form of a cash budget
2. LONG TERM FINANCIAL PLAN
- covers a period of 3 to 5 years
- serves as the basis for developing the short term financial plan

14. APPROACHES TO FINANCIAL PLANNING
1. Zero-Based Approach
 Budget’s base line is zero
 Previous year is irrelevant
2. Incremental Based Approach
 Traditional
 Previous year’s budget added or subtracted according to anticipated needs
 Uses inflation rate
 Subjected to justification
BASE CASE
- set of assumptions underlying the firm’s financial plan
BASE CASE PROJECTION
- resulting projected financial statements
STEPS ON DEVELOPING A LONG-TERM FINANCIAL PLANNING
1. Develop sales forecast
Cash Budget – an instrument / tool that is used by financial managers to estimate the cash flows
from receipts and disbursement over a specific time period
2. Prepare pro-forma financial statement
3. Prepare an estimate of the financial needs
FORMULAS
1. Sales Budget / FORECAST
+ Sales (units)
x Selling price
= Sales(peso)
2. Production Budget
+ Projected units sales
+ Desired Ending Inv.
= Total Units Required
- Beginning Inv.
= Budgeted Production
3. Direct materials budget + Raw materials needed for production
Sales Forecast
Production
Manufacturing Sosts
Selling & Admin.Costs
CapitalInvestment
Interest Payments
DividendPayments
Cash budget Income Statement BalanceSheet

15. + Desired Ending Inv.
= Total raw materials needed
- Beginning Inv.
= Raw materials to be purchased
x Cost per unit
= Cost of Raw Materials purchased
4. Direct Labor Budget
+ Required production (units)
x direct labor hours per unit
= total direct labor hours needed
x direct labor cost per hour
= total direct labor cost
5. Manufacturing overhead budget
+ Budgeted direct labor hours
x Variable manufacturing OH rate
= Variable manufacturing overhead
+ Fixed manufacturing overhead
- depreciation
= manufacturing overhead cost
6. Selling & Administrative Budget
+ Budgeted sales (units)
x variable selling & Administrative expense per unit
= Variable selling & Administrative expense
+ Fixed selling & Administrative expense
= total selling & Administrative expense
- depreciation
selling & Administrative cost
7. Projected Cash Receipts
+ Cash Sales
+ Collection of Receivables
+ Other cash receipts
= Total Cash receipts
8. Projected cash disbursements
+ cash purchases
+ Payments of payables
+ other payments (DL & OH)
= Total cash disbursement
9. Cash budget
+ Cash beg.
+ Cash receipts
= Total Cash
- Cash payments
= cash surplus (deficit)
+ Financing
= Cash balance

16. Lesson 4
COST OF CAPITAL
- represent the firm’s cost of financing and is the minimum rate of return that a project must earn to
increase firm value
COST OF PREFERRED STOCK
- the ratio of the preferred stock divided to the firm’s net proceeds from the sale of preferred stock
COST OF COMMON STOCK
- rate at which inventors discount the expected dividends of the firm to determine its share value
FORMULAS
1. Constant growth 𝑖𝑒 =
𝐷1
𝑃𝑜
+ 𝑔
2. CAPM Model 𝑖𝑒 = 𝑅 𝑓 + 𝛽 (𝑅 𝑚 + 𝑅 𝑓)
3. Cost of Equity – Preferred shares 𝑖𝑒 =
𝐷1
𝑃𝑜
4. Cost of Debt
𝑘 =
𝑖 +
(𝐹𝑉 − 𝐼𝑃)
𝑁
(𝐹𝑉 + 𝐼𝑃)
2
𝐾𝑑 = 𝐾 ( 1 − 𝑡)
Where in:
ie – cost of equity
D1 – dividend yield
Po – value of the stock
g – expected appreciation of the stock price
Rf – risk free rate
B – Beta
Rm – market rate
k – approximate yield to maturity on a bond
i – annual interest payment (principal x interest rate x term) or coupon payment
FV -face value of the bond or price of the bond
IP – proceeds of the bond or price of the bond
n – term of the bond or number of periods
2 – constant to get the average FV & IP

17. ATE ELAINE’S NOTES
Page 1
Basic Approaches
1. Accept-Reject Approach
 Evaluating capital expenditure proposals to determine whether they meet the firm’s
minimum acceptance criterion
2. Ranking Approach
 Ranking projects on the basis of some predetermined measure, such as the rate of return.
The project with the highest return is ranked first and the project with the lowest return is
ranked last
 Only acceptable project should be ranked
Page 2
Cash & marketable securities
 Holding sufficient cash and marketable securities is essential for a firm order to avoid defaulting
on one or more of the firm’s financial obligations
 However, holding excessive amount is costly because they earn very low rates of return
Therefore, the two process of cash management
 Keeping enough cash on hand to meet the company’s cash disbursement requirement
 Managing the composition of the marketable securities portfolio
PROBLEM 1
Tools to address this requirement:
Cash budget – projecting cash receipts & cash disbursement
 Cash receipts – speed up collections
 Cash disbursement – slow down payments through “float”
Float – the difference between the company’s records and the bank’s records. It is the period of
time between sending out the payment and the actual receipt of money by the collecting
company
TYPES OF FLOAT
1. Mail float – the length of time that checks are on route to the firm, ether through mail or
electronic transfer
2. In house processing float – the length of time needed for the firm to process and deposit
check payments from its customer once they have been received
3. Availability float – the length of time necessary for a check to clear through the banking
once it has been deposited
Page 3
Working capital
 Current asset – current liabilities
 Operating capital
 Indicate of a firm’s amount of liquidity for running the business
 Funds needed to operate day to day

18. Objectives
IDENTIFY
 Short term financing: short term loans / liability
DISCUSS
 Management of cash, receivable & inventories
 Its changes in a day to day basis
Working capital (examples)
CURRENT ASSET CURRENT LIABILITIES
Cash Accounts payable
Marketing securities Short-term borrowings
Receivables
Inventories
Pre-payments
Self-liquidating debt
 Maturity of the source of financing would be matched with the length of time that the financing is
needed
 EXAMPLE: seasonal expansion needed for Christmas -> should be financed with current liability
or short-term loans
Page 4
CAPITAL ASSET PRICING MODEL
RISK
 The potential
Classification of risk
A. Firm Specific
1. Principal risk
 The risk of using the amount invested due to bankruptcy or default
2. Credit risk
 The possibility that the bond issuer will deny the payment of the principal and
interest
3. Liquidity risk
 The risk that arises from the difficulty in selling asset
4. Call risk
 The cash floe risk resulting from the possibility that a callable bond is redeemed
before maturity
5. Business risk
 The risk associated with the unique circumstances of a particular company since
they might affect the price of that company’s securities
B. Systematic risk
1. Currency risk / exchange rate
 Risk that business operations or an investments’ value will be affected by changes
in the exchange rates

19. 2. Equity risk
 Risk that the market value of the shares will increase / decrease
3. Inflation risk
 The possibility that the value of the asset / income will decrease due to inflation
4. Country risk
 Potential volatility of foreign government bonds due to political and/or financial
events in the given country
5. Inventory rate risk
 Possibility that the value of a security particularly bonds is reduced due to an
increase in the interest rate
6. Event risk
 The uncertainty that an unexpected event will happen
TERMS
1. PORTFOLIO – a combination of investment held by an investor
2. DIVERSIFICATION – process of putting money in different type of investments for the purpose of
reducing the overall risk of the portfolio
3. MODERN PORTFOLIO THEORY – concept and procedure for combing securities into a portfolio
to minimize risk. It shows how risk reductions occurs when securities are combined
4. OPTIMAL PORTFOLIO - best portfolio of securities are the investor’s level of rise aversion
5. ASSET PRICING – process of specifying the relationship between risk and return
CAPM – asset pricing theory based on a beta, a measure of market risk
EXPECTED RETURN = Rf + B (Rm – Rf)
Where in Rf – risk free rate
B – beta
Rm – market rate
Page 5
Inventories
CATEGORIES
1. Raw materials
2. Work in process
3. Finished goods
DETERMINANTS OF LEVEL OF INVENTORY
1. Target level of sales
2. Importance of the inventory
TECHNIQUES OF INVENTORY MANAGEMENT
1. Just-in-time
2. ABC Analysis
3. Economic Order Quantity
Working Capital
APPLICATIONS OF WORKING CAPITAL
1. Purchase of raw materials
2. Payment of wages and salaries

20. 3. Payment of credit obligations
4. Day-to-day expenses
SOME DETEMINANTS OF WORKING CAPITAL
1. Nature of business (cash sales vs. credit sales)
2. Production cycle (longer vs. shorter)
3. Business cycle (cyclical vs. seasonal change)
4. Credit policy (liberal vs. script credit policy)
5. Availability of raw materials (stoppage of production due to unavailability of raw materials)
Page 6
REQUIRED RETURN
- level of total return needed to be compensated for the risk taken
RISK FREE RATES
- typically considered the return on government bonds and bills is equal the real interest rate and
expected inflation rate
RISK PREMIUM
- reward that investors is required for taking risk
BETA
- measure of sensitivity of a stock or portfolio to market risk
- portfolio theory describes a measure of how stocks move together through time
- instead of measuring how any two stocks or portfolios move together, beta measures the movements
between how “stock or portfolio moves relative to market portfolio movements”
- If stock beta is greater than 1 (higher risk)
- if stock beta is less than 1 (lower risk)
PORTFOLIO BETA
- the combination of the individual company betas in an investors’ portfolio
- weighted average of the portfolio stocks beta (BP = SUMOF BETA OF EACH STOCK x WEIGHTED IN
THE PORTFOLIO)
Page 7
CAPITAL BUDGETING
- process of evaluating & selecting long-term investments that are consistent with the firm’s goal of
maximizing owner’s wealth
- commonly these investments may refer to fixed assets such as property, plant and equipment
CAPITAL EXPENDITURE
- outlay of funds by the firm that is expected to produce benefits over a period of time greater than one
year
OPERATING EXPENDITURE
- an outlay resulting in benefits received within one year

21. COMMON PURPOSE OF CAPITAL BUDGETING
1. Expansion of operations
2. Replacement of obsolete / worn out assets
3. Renewal / rebuilding / overhauling an existing fixed asset
4. Others – expense in advertising campaigns, research & development, management consulting
and new product which so not necessary involve assets
CAPITAL BUDGEINT PROCESS
1. OPERATION OF PROPOSALS – proposals from all levels are reviewed by the finance group,
especially those that require large amounts
2. REVIEW AND ANALYSIS – proposals are reviewed and evaluated to determine their economic
viability then a summary report is submitted to decision makers
Page 8
ACCOUNT RECEIVABLE
- amount owned to the firm as a result of the goods and servings in the ordinary course of business
- the higher the age of receivables, the higher the possibility of default in collection increases
- therefore, focus should be made on the control and elimination of past due receivables