Financial Management - 1375 Words

Financial Management (Essay Sample) Content: CORPORATE STRATEGY AND CAPITAL BUDGETING By Students Name Course Code + Name Professors Name University Name City, State Date of Submission Question 1: Financial Strategy and Corporate Objectives What is Corporate Strategy? Recent changes in technology and competitiveness of the business environment has stressed the need for organizations to develop strategic directions for their future operations. This has resulted into increased development and implementation of corporate strategies. Thus, corporate strategy may be defined as the direction an organization takes with a main aim of achieving success in the long term (Bierman and Smidt 2012). Therefore, for an organization to develop an effective corporate strategy, the management must establish the scope and purpose of their organizational activities analyze the environment in which the organization operates, and position itself in the market. This process is often done using the SWOT analysis model. Financial Strategy A financial strategy can be defined as a plan that outlines the direction and actions a business will take in order to effectively utilize its assets in generating enough revenues and thus increase profitability (Tirole 2010). In order to develop a competitive financial strategy, business managers must use value based performance measures and standardize their business operations. They must also set a flexible yet stable balance sheet that will support the growth of the business while maintaining an efficient capital structure (Turner 2013). An effective financial strategy will also enable a business raise additional capital from debt and equity market, since the plan within a financial strategy will provide the strength of a business and outline the ability of the business to generate profits that will be used in repaying the borrowed funds. Functions of strategic Financial Management The roles of strategic financial management are based on mathematical concept of maximizing the expected net present value of projects or cash flows. Therefore, the following are distinct roles played by strategic financial manager: * A strategic manager is involved in investment decision-making of an organization. The manager thus evaluates the current financial position, strengths and weaknesses o the businesses and potential opportunities in allocating investment funds (Turner 2013). * Determines the current and future dividend payment decisions for the firm. * Strategic financial managers also finance all the strategic financial activities such as capital budgeting, growth, and expansion. * Strategic financial managers also conduct industry analysis and determine the best investment portfolios for their organization (Turner 2013). Question 2: Capital budgeting under conditions of uncertainty The IRR Concept The Internal rate of return (IRR) is a discount rate that is used in capital budgeting to equate the net present value of all cash flows of a project to zero (Hillier et al. 2011). This concept provides that a higher internal rate of return of a project signifies that the project will have future cash flows exceeding the initial investment costs and thus higher returns. Managers thus use this concept in determining the projects that are feasible for the company. IRR can be used to rank various projects according to their rates of return and hence a crucial tool in capital budgeting (Hillier et al. 2011). The IRR accept-reject decision criteria As outlined earlier, the IR is used to rank projects according to their attractiveness in terms of returns. If we assume that all other factors are kept constant with regard to various projects, then the project having t he highest IRR will be selected for investment. IRR concept of accept/reject criteria is used to determine which project will be undertaken and which will be foregone. It can thus be compared with the actual rate of return of a project (Moles et al. 2011). If two projects have same actual rates of return, the project with a higher internal rate of return is selected while the one with a lower IRR is foregone. Computational and Conceptual defects of IRR * IRR cannot be used in rating mutually exclusive projects for investment. It can only be used in deciding on investing in one project (Tirole 2010). * Using IR results in an overstated annual equivalent rate of return for projects especially when interim cash flows are reinvested at lower rates than the computed IRR. * IRR ignores the cost of capital, and thus cannot be used in comparing projects with different durations. * Computationally, the IRR may have multiple values in case positive cash flows alternate with negative cash flows. Question 3: Capital Budgeting and Case for NPV Calculating Hynes' Minimum Contract Price Item Year 0 Year 1 Year 2 Year 3 NPV Capital Investment 2,000,000 0 0 -50,000 Government Grant -255,000 0 0 0 Inventory 0 100,000 180 216 Employee costs 0 30000 34500 39675 Overheads 0 180050 207057.5 238115.6 Totals 1,745,000 310,050 241737.5 228,007 ..