AGL I0 - FIN. MGT. WORKING
CAPITAL
FOR MANAGERS - 2/3 DAYS OF
INTENSIVE LEARNING IN GROUPS
COURSE DIARY
( RETAINED)
ROUGH COPY ONLY MARCH 2006
FOR TYPING CONVERSION TO
PROFESSIONAL STANDARD.
DIARY, WORKPACK 1 & WORKPACK 2
PROVIDED HERE FOR REVIEW.
KEY COURSE GUIDE WITH CASE
SOLUTIONS AND QUIZ - AVAILABLE ON
REQUEST.
ENGLISH
FRENCH
GERMAN
For further information:
Dr. R.G.A. Boland
Chemin de la Garenne
Prevessin-Moens 01280 France.
Copyright: RGAB 2005/1
DIARY
6.6.05
AUTOMATED GROUP LEARNING
(AGL)
NO. 10 - FINANCIAL MANAGEMENT OF WORKING CAPITAL
COURSE DIARY
(Retained)
NAME ......
Copyright: RGAB 2005/3
No copies of without written permission.
INDEX
Item Page No
1.Important note on the learning 3
2.Summary lecture - Part I 4
3.Summary lecture - Part II 11
4. Bill Brown - questions 19
5.Action plan for the future 22
6.Financial shorthand 23
7.Some ideas to think about 24
8.Local case series 25
Appendices:
A.Registration
B.First Feedback Summary
C.Second Feedback Summary
D.Quiz Answer Sheets
E.Glossary
F.Optional Quiz
1. - IMPORTANT NOTE ON THE LEARNING
1.AGL is specially designed as an intensive basic finance course in five parts, for the manager with relatively little or no formal financial training or experience. Some parts may be challenging even for the experienced financial director with some years of experience.
2.AGL creates a very special group learning environment that is new to the group members. It is a highly effective but challenging learning experience. Members should therefore try to keep an "open mind" on their reactions until the second day of the program.
3.Members can and do solve ALL the problems and answer ALL the questions, from the special materials provided and the experience of other members of the group.
4.The Organizer is not a teacher. The Organizer's job is to help members to:
a.Understand the AGL learning system
b.Use efficiently and effectively the special learning materials and the group experiences.
c.Resolve administrative problems
5.The Organizer does not usually respond directly to technical financial questions, since the learning is better when members help each other. The critical skill of the Organizer is to HELP the participants to WORK TOGETHER to resolve successfully, all questions arising. Thus by the end of the program EVERY QUESTION is resolved!
6.Since the same learning materials are used for both the two day and the three day versions of the course, the Organizer will occasionally outline differences in the timing of some parts of the work.
7.Members should not be disturbed by references to ECU since the AGL materials are used extensively in many different countries.
8.Since 1970 over 50,000 executives have successfully completed AGL programs throughout the world.
9.We hope you too will find AGL stimulating, efficient and effective for you!
2. - SUMMARY LECTURE - PART I
11.1FINANCIAL MANAGEMENT
(a)Deals with four major problems:
1.Size - what size should the firm be?
2.Growth - what rate of growth of sales, assets, profits. etc.?
3.Financing - how should the firm be financed, and at what risk?
4.Investment - what kind of assets should be acquired, and at what rate?
(b)Financial health of the business depends upon both its resources, the environment in which it operates and its financial policies. Financial management is dynamic and depends upon SUSTAINABLE flows of cash and funds not a static situation.
(c)Most important is ... CASH FLOW and SURVIVAL ... to increase the long term value of the business for ALL of the "stakeholders": customers, shareholders, employees, managers, suppliers, banks, communities, government, trade unions, environmental groups etc.
(d)To achieve EVA (Economic Value Added), then in each division of the company:
OP/NAE times 100% must exceed CoC
OP = Operating profit after tax
NAE = Assets less current liabilties
CoC = Cost of Capital
(e)With EVA, company management can achieve SVA (Share Value Added). In quoted companies, shareholders may be powerful pension funds, insurance companies and mutual funds, who are highly skilled in finance; they may require Company Management to provide both dividends and increased share value ... or move over ... thus in 2005, SVA (Share Value Added) is becoming a key financial objective!
11.2OBJECTIVE. METHOD AND SKILLS
(a)Objective - increase the long term value of the business (EVA - Economic Value Added) and to achieve SVA (Share Value Added).
(b)Method - raise money and use it effectively to achieve standards of financial performance
(c)Skills - timing to balance risk and reward
11.3SHORT TERM/LONG TERM FINANCING
(a)Short term finance used for: cash, receivables, inventory. prepayments, etc.
(b)Sources of short term finance: payables, banks, factoring, leasing, or reduction of the need for cash, receivables and inventory.
(c)Long term financing deals with long term assets and the financing of those assets by proportions of equity and debt.
11.4FORECASTING
(a)Cash forecasting used to provide cash resources up to one year ahead; concentrate on the duration and peak need within: weekly, monthly, yearly, seasonal, etc. periods.
Distinguish:
1.CF - Cash Flow - net profit plus depreciation
2.EBIT - Earnings before interest and taxes
3.OCF - 0perating Cash Flow - cash flow plus interest, less working capital changes less capital expenditure. Often called "Free Cash Flow" because it is cash available for new profitable investment opportunities.
(b)Funds flow reveals the key financial decisions of past and future.
Sources of funds: profit, depreciation, new equity and long term loans.
Uses of funds: fixed assets, dividends, repayment of long term loans and working capital.
Net working capital is: current assets less current Liabilities.
(c)Forecasted income statements and balance sheets reveal future financial health.
(d)Materiality is the key!
11.5BANK RELATIONSHIPS
(a)Relationship with the banker is key to the management of working capital.
(b)Criteria for bank loans: person, purpose, profitability, payback, and then security.
(c)Many alternatives available to bank finance (they may cost more): factoring, deposits. loans, leasing. stretching creditors, other banks, etc.
(d)Old bank customers normally get better treatment than new ones Cultivate a relationship with your bank manager.
11.6FINANCIAL ANALYSIS
(a)LAPP system of financial analysis: liquidity (and gearing), activity, profitability, potential.
(b)Need to forecast cash and funds and provide adequate flows to finance assets acquired and required.
(c)Be creative in seeking and using financial alternatives.
(d)Avoid "emotional investment"
11.7CONTROL OF WORKING CAPITAL
(a)Frequent (monthly) reporting with reliable financial statements, to ALL managers (marketing, production, finance etc.) so that they all "own" the working capital. Dupont charts may help managers to recognize how they an impact financial management.
(b)Regular and effective forecasting of peak and duration of cash needs. Timely financial data. Forecast forward the income statements, balance sheets, cash and funds and then evaluate risk.
(c)Never go to the banker when you need money; go when you don't need money and arrange to have it available when you want it. ("I need 500,000. Can you handle it or should I deal directly with your general manager?")
11.8CONTROL OF RECEIVABLES
(a)Make frequent aging of receivables to identify slow payers and assess DOS (days of sales) performance.
(b)For external causes: visit selected customers to identify the reasons for delay which may include: invoice errors, order errors, late credit note claims, non-delivery, quality issues, incorrect documentation etc.
(c)For internal causes: investigate, slow invoicing, pricing complexities and errors, credit note delays, shipment errors, poor expediting, discount errors, failure to drop poor accounts etc.
(d)Benchmark with other companies, in collaboration with marketing, production, quality, finance managers to jointly "own" the problem, set targets and monitor progress.
11.9CONTROL OF INVENTORY
(a)Make frequent aging of inventories to identify slow moving high value items and to assess DOP (days of purchases) and DOS (days of sales) performance.
(b)For external causes: visit selected suppliers to identify the reasons for high inventory which may include: excess order quantities, long delivery lead times, poor standardization, lack of JIT systems etc.
(c)For internal causes: investigate delayed usage, excess storage, poor standardization, poor design specification, failure to control high value items daily, excess storage space/costs, lack of JIT systems, poor supplier selection etc.
(d)Benchmark with other companies, in collaboration with production, marketing, quality, finance managers to jointly "own" the problem, set targets and monitor progress.
11.10SIMPLIFIED - COST OF CAPITAL, EVA AND SVA
(a)These are all complex concepts. In very simple terms, the Cost of Capital (CoC) is the WEIGHTED (E:D) average after-tax cost of raising long term funds for the business.
(b)Such funds can be either from long term debt (liabilities) or equity. Normally debt (say 8%) costs less than equity (say 16%).
(c)Hence the E:D ratio set by Management (2:1 or 1:1 or 1:4) can affect the average Cost of Capital (say 13.3% or 12% or 9.3% - can you check these computations?).
(d)EVA (Economic Value Added) is produced when the net assets employed (A-CL) produce an OP (operating profit after tax, say 11%) which is greater than the Cost of Capital (say 9.3%).
(e)Valuation of a company or share, relates not to profits but to future cash flows. It may be simply computed as:
V= OCF/(r - g), where:
OCF= Operating Cash Flow (100)
r = Cost of Capital (say 9.3%)
g = Growth Rate (say 5.3%)
V = 100/(0.03 - 0.53) = 250
(f)SVA (Share Value Added) is produced when the sustainable cash flows and dividends lead to increased short term and long term share value, as related to the share index by the Beta coefficient.
(g) Most companies control capital expenditure well but fail to control investment in working capital, which is part of NVE (net assets employed) and therefore critical to achieving EVA and EVA.
11.11DIAGNOSIS AND DECISION
(a)Recognize that every industry and trade and country has a special tractional environment and standards of financial management.
(b)Knowledge, attitudes, and skills force the financial manager to be creative.
(c)Diagnosis helps the financial manager to distinguish short term from long term problems.
(d)Ensure that short term financial policies arc consistent with long term goals.
(e)Provide for both short term and long term financial health at appropriate risk levels.
(f)Manage the WC or it will manage itself - very badly!!
(g)Always seek the seven alternatives before making a financial commitment!
Note: Past attitudes may sometimes deter new financial policies for reducing assets or increasing sources of finance.
11.12LEARNING PATTERNS - REVIEW
1.FINANCIAL MANAGEMENT
S (size), G, F & I .... CASH FLOW .... EVA/SVA
2.COST OF CAPITAL
WEIGHTED AVERAGE COST OF EQUITY AND DEBT (LIABILITIES)
HURDLE RATE FOR EVA
3.OPERATING CASH FLOW
NET PROFIT PLUS DEPRECIATION PLUS INTEREST
LESS CHANGES IN WORKING CAPITAL AND CAPITAL EXPENDITURE
PROVIDES CASH FOR: NEW PROFITABLE INVESTMENTS
INCREASED WC IS AN INVESTMENT!
4.EVA/SVA
OP/NAE TIMES 100% - MUST BE GREATER THAN CoC
VALUE = OCF/(r - g)
r = Cost of Capital
g = Growth Rate
11.13INSTRUCTIONS (20 minutes)
(a)Reassemble in SG
(b)Review the Summary Lecture for Part I in the course diary and discuss questions arising
(c)To get the best out of Part II of the program, try to complete ALL of the following homework tonight:
1.Read the articles provided.
2.Review the text book.
3.Do the optional exercise in the course diary and check the answers
4.Review your notes for Part I of the course and list outstanding questions to be resolved in Part II
(d)Would you please return the workpack to the organizer now
NOTE OF APPRECIATION
Thank you for working so hard today.
We hope the AGL experience is "efficient" (doing things right) and
"effective" (doing the right things) and that it is rewarding for you.
From tomorrow ... it's downhill all the way ... !!
3. - SUMMARY LECTURE - PART II
12.1OBJECTIVES OF THE COURSE
(a)Understand accounting language and concepts of financial management.
(b)Recognize the need for financial forecasting of cash, funds, income statements and balance sheets. income statements
(c)Develop practical skills in using financial data to manage working capital effectively.
(d)Recognize "creative accounting" in financial reporting, despite IAS (International Accounting Standards).
(e)Motivate further study in the future
12.2FINANCIAL MANAGEMENT NEEDS
Key objective is to increase the long term value of the business (the "Market Capitalization") with EVA and SVA.
Knowledge, skills and appropriate attitudes for creativity in solving financial problems.
Good audited, timely (4 days monthly/40 days annually) financial data of the current financial position (treat "delay" with great suspicion).
Reliable alternative forecasts of the future: cash flow. funds flow, income statements, balance sheets. etc.
Benchmarking and EVA/SVA data. Limited EI (emotional investment) so that all alternatives may be fairly evaluated.
12.3FINANCIAL STATEMENTS
Objective is to be useful and credible.
Follow general accepted accounting principles and only be "creative" if absolutely necessary. Accounting principles, company law and tax law, affect the way companies present financial statements.
The Chief Executive and not the auditor determines the profit disclosed each year. Creativity may achieve higher profit this year but lower profit figure next year ... but let's get there first ...
12.4AUDITORS
Auditor is a professional "honest man" (with professional standards).
Auditor's opinion is based on random tests, not detailed checking of all transactions.
Auditor's reputation is vital to his business ! Check auditor's name. fee and independence to evaluate the quality of his audit and reliability of the financial statements.
Most auditors will "bend", if pushed hard enough; small auditing firms often "bend" more easily than big international public accountants. Conservatism is NOT usually regarded as manipulation.
12.5ACCOUNTING VALUES
The valuation of assets in the books, affects all financial ratios and the total validity of the financial statements.
When assets are substantially under or overvalued then adjust the ratios accordingly.
Asset values at: cost, selling price. or liquidation are all different.
Value changes over time; "true and fair" values are impossible; seek "useful" values!
Usefulness within credible standards is reasonable.
With inflation of greater than 30% per annum, financial statements become unreliable and working capital management is critical to survival.