BUSINESS MANAGEMENT 512 Year 1 Semester

COMMERCIAL SCIENCES BUSINESS MANAGEMENT 512

Year 1

Semester 2

BUSINESS ADMINISTRATION, MANAGEMENT &

COMMERCIAL SCIENCES LEARNER GUIDE MODULE: BUSINESS MANAGEMENT 512 (2 nd SEMESTER)

Copyright © 2016 Richfield Graduate Institute of Technology (Pty) Ltd (Pty) Ltd Registration Number: 2000/000757/07

All rights reserved; no part of this publication may be reproduced in any form or by any means, including photocopying machines,

without the written permission of the Institution.

Copyright © 2016 RGI (Pty) Ltd Registration Number: 2000/000757/07

All rights reserved; no part of this publication may be reproduced in any form or by any means, including photocopying machines,

without the written permission of the Institution

PAGE NO. SECTION A :PREFACE

TOPIC

1. Welcome

2. Title of Modules

3. Purpose of Module

4. Learning Outcomes

5. Method of Study

6. Lectures and Tutorials

7. Prescribed & Recommended Material

8. Assessment & Key Concepts in Assignments and Examinations

9. Specimen Assignment Cover Sheet

10. Work Readiness Programme

11. Work Integrated Learning

SECTION B: BUSINESS MANAGEMENT 512 (2 ND SEMESTER)

TOPIC 1: THE FINANCIAL FUNCTION AND FINANCIAL MANAGEMENT

1.1 Introduction to Financial Function

1.2 The Financial Function and Financial Management

1.3 Concepts In Financial Management

1.4 Cost-Volume-Profit Relationship

1.5 The Time Value of Money

1.6 Future Value and Present Value

1.7 Financial Analysis, Planning and Control

Assessment questions

TOPIC 2: ASSEST MANAGEMENT: THE INVESTMENT DECISION

2.2 The Management of Current Assets

2.3 The Management Long-Term Investment Decisions and Capital Budgeting

Assessment questions

TOPIC 3: FINANCING DECISIONS

3.2 Financial Markets

3.3 Short-Term Financing

3.4 Long-Term Financing

3.5 Long-Term Debt

TOPIC 4: THE OPERATIONS FUNCTION

4.1 The Nature and Definition of Operations Management

4.2 The Importance of Operation Management

4.3 The Transformation Model

42 Providers

4.4 The Classification of Operations Processes for Manufacturers And Service

Assessment questions

TOPIC 5: OPERATIONS MANAGEMENT: ACTIVITIES, TECHNIQUES AND METHODS

5.2 Operations Design

5.3 The Stages In The Design Of Products And Services

5.4 Planning And Control of the Operations Process

5.5 Operations Improvement

TOPIC 6: THE PURCHASING FUNCTION

6.1 Purchasing In Perspective

6.2 Broadening the Provision Function

6.3 The Importance of Purchasing Function to the Business

6.4 The Management Task of the Purchasing Manager

6.5 The Purchasing Cycle

6.6 Quality Decisions as a Purchasing Activity

6.7 Deciding On Purchasing Quantities

6.8 The Selection of Suppliers

6.9 Pricing Decisions

6.10 Negotiations In Purchasing

TOPIC 7: THE HUMAN RESOURCE FUNCTION: ATTRACTING HUMAN RESOURCES

7.1 Introduction to Human Resource Management

7.2 What Is The Task Of The Human Resource Manager?

7.3 Attracting Human Resources

7.6 Placement and Induction

7.7 The Development Of Human Resources

7.8 Performance Management

7.9 Remunerating Employees

7.10 Health and Safety

7.11 Labour Relations

Assessment questions

TOPIC 8: CONTEMPORARY ISSUES IN BUSINESS MANAGEMENT

70

8.1 The Problem of Productivity In South Africa

70 Africa

8.2 The Importance of Productivity Improvement and Level of Productivity in South

71

8.3 Productivity Improvement in South Africa

72

8.4 Management in the International Environment

72

Assessment questions

TOPIC 9 MANANGING BUSINESS STRATEGY

9.2 Strategic planning and it characteristic

74

9.3. Concept of strategic management

76

9.4 The strategic management process

84

Assessment Questions

TOPIC 10: BUSINESS ORGANISATION AND THEIR ESTABLISHMENT

85

10.1 Types of business enterprises

93

Assessment Questions

95

Topic 11:Addendum 512 (A): Case Study for Tutorial Discussion

97

Topic 12:Addendum 512 (B): Revision Questions

Topic 13: Addendum 512 Typical Examination Question paper and marking

100

guidelines

SECTION A: PREFACE

1. WELCOME

Welcome to the Department of Business Administration, Management & Commercial Sciences at Richfield Graduate Institute of Technology (Pty) Ltd. We trust you will find the contents and learning outcomes of this module both interesting and insightful as you begin your academic journey and eventually your career in the business world.

This section of the study guide is intended to orientate you to the module before the commencement of formal lectures.

The following lectures will focus on the study units described.

SECTION A: WELCOME & ORIENTATION Study unit 1: Orientation Programme

Lecture 1

Introducing academic staff to the learners by academic head. Introduction of institution policies.

Study unit 2: Orientation of Learners to Library and Students Facilities

Introducing learners to physical structures

Lecture 2

Issuing of foundation learner guides and necessary learning material

Study unit 3: Distribution and Orientation of Business Management 512 Lecture 3 Learner Guides, Textbooks and Prescribed Materials

Study unit 4: Discussion on the Objectives and Outcomes of Business Lecture 4 Management 512

Study unit 5: Orientation and guidelines to completing Assignments Lecture 5

Review and Recap of Study units 1-4

2. TITLE OF MODULES, COURSE, CODE, NQF LEVEL, CREDITS & MODE OF DELIVERY

2 nd Semester

Business Administration

Title of Module:

Business Management 512

Mode of Delivery:

Contact/Distance

3. PURPOSE OF THE MODULE

3.1 Business management 512

The purpose of this module is to give learners an overview of the business world and how business entities and other non-business entities should be managed to achieve the desired results. The module is an introduction to what management is all about, but we trust that learners will gain sufficient knowledge about the various business functions to enable them to choose possible areas of work preference and further study and or articulation.

3.2 Business Management 512 (2 nd Semester)

This module, Business Management 512, forms an integral part of the P C Training & Business College qualification and serves to introduce the student to the fundamentals of management. In so doing, the module explores the evolution of management theory, the management environment, and the management process.

3.3 Business Management 512 (2 nd Semester)

This module is to take the broad subject area of Business Management further and to allow the learner to explore the concepts of entrepreneurship and small business management, managing technology and innovation as well as explore the concept of managing change.

4. LEARNING OUTCOMES

On completion of these modules the student will be able:  To define the concepts of Business Management

 To be able to develop a Business Plan.  To understand the principals of general management  To understand the functional management of the organisation

5. METHOD OF STUDY

The sections that have to be studied are indicated under each topic. These form the basis for tests, assignments and examination. To be able to do the activities and assignments for this module, and to achieve the learning outcomes and ultimately to be successful in the tests and examination, you will need an in-depth understanding of the content of these sections in the learning guide and prescribed book. In order to master the learning material, you must accept responsibility for your own studies. Learning is not the same as memorizing. You are expected to show that you understand and are able to apply the information. Use will also be made of lectures, tutorials, case studies and group discussions to present this module.

6. LECTURES AND TUTORIALS

Learners must refer to the notice boards at their respective campuses for details of the lecture and tutorial time tables. The lecturer assigned to the module will also inform you of the number of lecture periods and tutorials allocated to a particular module. Prior preparation is required for each lecture and tutorial. Learners are encouraged to actively participate in lectures and tutorials in order to ensure success in tests, assignments and examinations.

Notices

All Business Management 1(A) notices (e.g. change of test dates, tutorials, meetings etc) will be displayed on the notice board located at your campus. Learners are advised to check the notice board on a daily basis.

7. PRESCRIBED & RECOMMENDED MATERIAL

7.1 Prescribed Material-Diploma in Business Administration

Erasmus, B., J. Strydom, J., W. and Rudensky-Kloppers, S. 2013: Introduction to Business Management. 3 rd

ed. Cape Town. Oxford University Press.

Business Management 511 has a well balanced approach in that it is structured such that it not only informs and educates you about the theoretical back-ground required in the business world, but also has a powerful practical element / component. Our practical syllabus follows strongly in line with that of strong management principles and standards currently employed by many enterprises today.

7.2 Recommended Material

 Du Toit G., S. Erasmus B. J. and Strydom J., S. 2010. Introduction to Business Management. 8 th

ed. Oxford. Cape Town

 Neiman G. Bennett. A. 2011. Business Management: A value chain approach. 2 nd

ed. Van Schaik. Pietermaritzburg.

7.3. Independent Research:

The student is encouraged to undertake independent research with emphasis on the value of strategic thinking in companies and the formulation of a proper business management.

7.4. Library Infrastructure The following services are available to you:

 Each campus keeps a limited quantity of the recommended reading titles and a larger variety of

similar titles which you may borrow. Please note that learners are required to purchase the prescribed materials.

 Arrangements have been made with municipal, state and other libraries to stock our

recommended reading and similar titles. You may use these on their premises or borrow them if available. It is your responsibilities to safe keep all library books.

 PCT&BC has also allocated one library period per week as to assist you with your formal research

under professional supervision.  PCT&BC has dedicated electronic libraries for use by its learners. The computers laboratories,

when not in use for academic purposes, maybe used for research purposes. Booking electronic library usage.

8. ASSESSMENT

Assessment for this module will comprise two CA tests, an assignment and an examination. Your lecturer will inform you of the dates, times and the venues for each of these. You may also refer to the notice board on your campus or the Academic Calendar which is displayed in all lecture rooms.

8.1 Continues Assessment Tests

There are two compulsory tests for each module (in each semester).

8.2 Assignment

There is one compulsory assignment for each module in each semester. Your lecturer will inform you of the Assignment questions at the commencement of this module.

8.3 Examination

There is one two - hour examination for each module. Make sure that you diarize the correct date, time and venue. The examinations department will notify you of your results once all administrative matters are cleared and fees are paid up.

The examination may consist of multiple choice questions, short questions or essay type questions. This requires you to be thoroughly prepared as all the content matter of lectures, tutorials, all references to the prescribed text and any other additional documentation/reference materials is The examination may consist of multiple choice questions, short questions or essay type questions. This requires you to be thoroughly prepared as all the content matter of lectures, tutorials, all references to the prescribed text and any other additional documentation/reference materials is

venue) in due course. You must be seated in the examination room 15 minutes before the commencement of the examination. If you arrive late, you will not be allowed any extra time. Your learner registration card must be in your possession at all times.

8.4 Final Assessment The final assessment for this module will be weighted as follows:

CA Test 1 CA Test 2

8.5 Key Concepts in Assignments and Examinations

In assignment and examination questions you will notice certain key concepts (i.e. words/verbs) which tell you what is expected of you. For example, you may be asked in a question to list, describe, illustrate, demonstrate, compare, construct, relate, criticize, recommend or design particular information / aspects / factors /situations. To help you to know exactly what these key concepts or verbs mean so that you will know exactly what is expected of you, we present the following taxonomy by Bloom, explaining the concepts and stating the level of cognitive thinking that theses refer to.

Key Content S Explanation

observation and recall of information knowledge of dates, events, places knowledge of major ideas mastery of subject matter

Knowledge

Question Cues

list, define, tell, describe, identify, show, label, collect, examine, tabulate, quote, name, who, when, where, etc. understanding information

Comprehension

grasp meaning translate knowledge into new context grasp meaning translate knowledge into new context

Question Cues

summarize, describe, interpret, contrast, predict, associate, distinguish, estimate, differentiate, discuss, extend use information use methods, concepts, theories in new situations solve problems using required skills or knowledge

Application

Questions Cues

apply, demonstrate, calculate, complete, illustrate, show, solve, examine, modify, relate, change, classify, experiment, discover seeing patterns organization of parts recognition of hidden meanings identification of components

Analysis

Question Cues

analyze, separate, order, explain, connect, classify, arrange, divide, compare, select, explain, infer use old ideas to create new ones generalize from given facts relate knowledge from several areas predict, draw conclusions

Synthesis

Question Cues

combine, integrate, modify, rearrange, substitute, plan, create, design, invent, what if?, compose, formulate, prepare, generalize, rewrite compare and discriminate between ideas assess value of theories, presentations make choices based on reasoned argument verify value of evidence recognize subjectivity

Evaluation

Question Cues

assess, decide, rank, grade, test, measure, recommend, convince, select, judge, explain, discriminate, support, conclude, compare, summarize

10. WORK READINESS PROGRAMME (WRP)

In order to prepare learners for the world of work, a series of interventions over and above the formal curriculum, are concurrently implemented to prepare learners. These include:

 Soft skills  Employment skills  Life skills  End –User Computing (if not included in your curriculum)

The illustration below outlines some of the key concepts for Work Readiness that will be included in your timetable.

SOFT SKILLS

LIFE SKILLS

 Time Management

 Manage

Personal

 Working in Teams

Finance

 Problem Solving Skills

 Driving Skills

 Attitude & Goal Setting

 Basic Life Support &

 Etiquettes & Ethics

WORK First Aid

READINESS PROGRAM

EMPLOYMENT SKILLS  CV Writing  Interview Skills  Presentation Skills  Employer / Employee Relationship  End User Computing

 Email & E-Commerce   

It is in your interest to attend these workshops, complete the Work Readiness Log Book and prepare  for the Working World.

12.WORK INTEGRATED LEARNING (WIL)

Work Integrated Learning forms a core component of the curriculum for the completion of this programme. All modules making of the Diploma in Business Administration will be assessed in an integrated manner towards the end of the programme or after completion of all other modules.

Prerequisites for placement with employers will include:  Completion of all tests & assignment

 Success in examination  Payment of all arrear fees  Return of library books, etc.  Completion of the Work Readiness Programme.

Learners will be fully inducted on the Work Integrated Learning Module, the Workbooks & assessment requirements before placement with employee

The partners in Work Readiness Programme (WRP) include:

Good luck with your studies…

Registered with the Department of Higher Education as a Private Higher Education Institution under the Higher Education Act, 1997. Registration Certificate No. 2000/HE07/008

BUSINESS ADMINSITRATION, MANAGEMENT & COMMERCIAL SCIENCES LEARNER GUIDE MODULES: BUSINESS MANAGEMENT 512 (2 nd SEMESTER)

TOPIC 1 : ASSEST MANAGEMENT: THE INVESTMENT DECISION TOPIC 2 : FINANCING DECISIONS TOPIC 3 : THE OPERATIONS FUNCTION TOPIC 4 : OPERATIONS MANAGEMENT: ACTIVITIES, TECHNIQUES AND METHODS TOPIC 5 : THE PURCHASING FUNCTION TOPIC 6 : THE HUMAN RESOURCE FUNCTION: ATTRACTING HUMAN RESOURCES TOPIC 7 : CONTEMPORARY ISSUES IN BUSINESS MANAGEMENT TOPIC 8 : THE MARKETING PROCESS TOPIC 9 : MANANGING BUSINESS STRATEGY TOPIC 10 : BUSINESS ORGANISATION AND THEIR ESTABLISHMENT

SECTION B: BUSINESS MANAGEMENT 512 (2 ND SEMESTER)

TOPIC 1: THE FINANCIAL FUNCTION AND FINANCIAL MANAGEMENT

1.1 Introduction to Financial Function

Week 1

1.2 The Financial Function and Financial Management

1.3 Concepts In Financial Management

1.4 Cost-Volume-Profit Relationship

1.5 The Time Value of Money

Week 2

1.6 Future Value and Present Value

1.7 Financial Analysis, Planning and Control Assessment questions TOPIC 2: ASSEST MANAGEMENT: THE INVESTMENT DECISION

2.1 Introduction

Week 3

2.2 The Management of Current Assets

2.3 The Management Long-Term Investment Decisions and Capital Budgeting Assessment questions TOPIC 3: FINANCING DECISIONS

3.1 Introduction

Week 4

3.2 Financial Markets

3.3 Short-Term Financing

3.4 Long-Term Financing

3.5 Long-Term Debt TOPIC 4: THE OPERATIONS FUNCTION

4.1 The Nature and Definition of Operations Management

Week 5

4.2 The Importance of Operation Management

4.3 The Transformation Model

4.4 The Classification of Operations Processes for Manufacturers And Service Week 6 Providers

Assessment questions TOPIC 5: OPERATIONS MANAGEMENT: ACTIVITIES, TECHNIQUES AND METHODS

5.1 Introduction

Week 7

5.2 Operations Design

5.3 The Stages In The Design Of Products And Services

5.4 Planning And Control of the Operations Process

5.5 Operations Improvement TOPIC 6: THE PURCHASING FUNCTION

6.1 Purchasing In Perspective

Week 8

6.2 Broadening the Provision Function

6.3 The Importance of Purchasing Function to the Business

6.4 The Management Task of the Purchasing Manager

6.5 The Purchasing Cycle

6.6 Quality Decisions as a Purchasing Activity

Week 9

6.7 Deciding On Purchasing Quantities

6.8 The Selection of Suppliers

6.9 Pricing Decisions

6.10 Negotiations In Purchasing TOPIC 7: THE HUMAN RESOURCE FUNCTION: ATTRACTING HUMAN RESOURCES

7.1 Introduction to Human Resource Management

Week 10

7.2 What Is The Task Of The Human Resource Manager?

7.3 Attracting Human Resources

7.4 Recruitment

7.5 Selection

7.6 Placement and Induction

7.7 The Development Of Human Resources

7.8 Performance Management

Week 11

7.9 Remunerating Employees

7.10 Health and Safety

7.11 Labour Relations Assessment questions TOPIC 8: CONTEMPORARY ISSUES IN BUSINESS MANAGEMENT

8.1 The Problem of Productivity In South Africa

Week 12

8.2 The Importance of Productivity Improvement and Level of Productivity in South Africa

8.3 Productivity Improvement in South Africa

8.4 Management in the International Environment Assessment questions TOPIC 9 MANANGING BUSINESS STRATEGY

9.1 Introduction

Week 13

9.2 Strategic planning and it characteristic

9.3. Concept of strategic management

9.4 The strategic management process Assessment Questions TOPIC 10: BUSINESS ORGANISATION AND THEIR ESTABLISHMENT

10.1 Types of business enterprises

Week 14

Assessment Questions

TOPIC 1

1. THE FINANCIAL FUNCTION AND FINANCIAL MANAGEMENT LEARNING OUTCOMES:

After you have read this topic you should be able to:

 Understand the nature and meaning of the financial function and financial management  Understand the basic concepts and techniques that are used in financial management

1.1 INTRODUCTION TO THE FINANCIAL FUNCTION

Managerial finance is identified as one aspect of the functional management areas of, business. The financial function and its management is identified and analyzed. Relationships between financial management, and other functional management areas, related subject disciplines and the environment are outlined. This followed by an introduction to basic concepts and techniques used in financial management. Goals and basic principles of financial management are discussed. Finally, one of the tasks of financial management involves financial analysis, planning and control, which are examined

1.2 THE FINANCIAL FUNCTION AND FINANCIAL MANAGEMENT

A business must have necessary assets, such as land, building, machinery, vehicles, equipment, raw materials and trade inventories, at its disposal if it is to function efficiently. Businesses also need resources such as management acumen, labour and services such as power supply and communication facilities. Funds (capital) are needed to obtain these assets, resources and services. Owners or institutions that make funds available to a business may not use the funds in the short or long term and run the risk of losing some or all of the funds, if the business fails.

Financial Function: is concerned with the flow of funds, and in particular with the following:  The acquisition of funds, which is known as financing  The application of funds for the acquisition of assets, which is known as investment  The administration of and reporting on, financial matters.

1.3 CONCEPTS IN FINANCIAL MANAGEMENT

 Asset side: reflects all the possessions of the business  Balance Sheet: is an ‘instantaneous photograph’ of the financial position of a business.  Fixed assets: comprise of land, buildings, machinery, vehicles and equipment  Current assets: consist of cash in the bank and other possessions of the business that will be  Asset side: reflects all the possessions of the business  Balance Sheet: is an ‘instantaneous photograph’ of the financial position of a business.  Fixed assets: comprise of land, buildings, machinery, vehicles and equipment  Current assets: consist of cash in the bank and other possessions of the business that will be

 Liability (or claim side): This side displays the financing or capital structure of the business as at the balance sheet date. The liability side is subdivided on the basis of 2 criteria.

1) The term for which the funds have been made available

2) The source from which the funds have been obtained.

The liability side contains the following details:  Long-term funds: these comprise of shareholders interest and long-term debt

 Shareholders Interest: made up of ordinary share capital, reserves and undistributed, or retained, profit

 Long-term debt: is usually made up of debentures, mortgage loan, secured loans, and long-term credit

 Short-term funds: represent all debt or credit normally repayable within one-year e.g. bank overdrafts, trade creditors

 Capital referred to as the monetary value of assets that the business possesses. It is needed for investment in fixed assets (fixed capital) and the investments in current assets (working capital). The need for fixed capital is permanent in any business. Similarly, working capital is required in the same light e.g. seasonal

 Costs monetary value sacrificed in production of goods or services produced for resale.  Fixed Cost is the portion of total costs that remains unchanged within the boundaries of a fixed

production capacity regardless of an increase or decrease in the quantity of goods or services produced.

 Variable Costs are that portion of the total costs that changes according to the volume produced. Such variable cost items are manufacturing material costs.

 Semi-variable cost there is not a pure linear relationship between these variable cost items and the volume produced

 Variable cost per unit producing cost of a unit remains more or less constant irrespective of the quantity produced

 Total cost for the production of a specific number of products produced in a particular period consists of total fixed costs plus total variable costs incurred in their production.

 Profit- difference between income earned and the cost incurred. A loss results when costs are greater than income.

e.g. Profit/loss = income –costs

= 100 –30 Profit = 70 Loss =income – costs

= 70-100 = 30

Profit or loss = income – costs

Or

Profit or loss = (selling price * sales quantity) – costs

 Income Statement indicates the profit/loss for a specified period and the way it has been distributed.

The objective and fundamental principles of financial management

The long-term objective should be to increase the value of the business. This may be accomplished by:  Investing in assets that add value to the business

 Keeping the cost of capital of the business as low as possible.  The short-term financial objective should be to ensure the profitability, liquidity and solvency of

the business. Profitability is the ability of a business to generate income that will exceed cost. Liquidity is the ability of the business to satisfy its short –term dates. Solvency is the extent to which the assets of a business exceed its liability. Solvency differs from liquidity in that liquidity pertains to the settlement of short-term liabilities such as debentures and mortgage loans.

Financial Management is based on three principles:

 The risk –return principle is a trade –off between risk and return. The higher the risk, the greater the required rate of return will be.

necessarily lead to the most economic utilization of resources. Sound financial decision-making requires an analysis of the total cost and total benefits, and ensuring that the benefits always exceed the cost.

 The time value of money principle: The time value of money principle means a person can increase the value of any amount of money by earning interest on it.

1.4 COST – VOLUME – PROFIT RELATIONSHIP

The profitability of a business is determined by the unit-selling price of its product, the costs (fixed and variable) of the product, and the level of activity of the business (the volume of production and sales). A change in any one of the three components will results in a change in the total profit made by the business. The components therefore have to be reviewed in conjunction with one another and not in isolation. Consider the example below:

Example:

Selling price (SP)

R12 per unit

Variable cost (V)

R8 per unit

Total fixed cost (F)

R100 000 per year

Number of units manufactured and sold: N

From P =

Income – Cost

It follows that P

(N x SP) – [(N x V) + F]

Where N

P is

(30 000 x R12) – [(30 000 x R8) + R100 000]

R360 000 – R340 000

R20 000

Where N

(40 000 x R12) – [(40 000 x R8) +R100 000]

R480 000 – R420 000

R60 000

The example refers to a break-even analysis. (Where a break-even point is reached, there is no profit or loss realised).

The following formula can be used:

N=__F____ (SP – V)

N – number of units (volume) at which no profit or loss is made (SP – V) – Marginal income or variable profit

1.5 THE TIME VALUE OF MONEY

 Time value of money refers to the combined effect of both interest and time in the context of financial decision-making.

Capital is vital for all businesses to operate. Interest must be paid on loans. Capital used for short or long periods. Time value of money combines the effect of both interest and time in financial decision-making. The principle is directly linked to the opportunity of earning interest in an investment.

Two perspectives are of importance:  Present value –present value or amount  Future value – expected future amount

Applying the concept: The time value of money principle

If you had to choose between receiving a cash gift of R100 today or in a year’s time, what would you

be your choice? Naturally the R100 today. Why?  R100 received today is worth more than R100 will be in one year from now, because it can be

invested now to earn interest. This is pure time value of money.  There is the possibility that the person who wishes to make the gift will no longer wish to do so

in a year’s time, or may only give part of the money – there is therefore risk and uncertainty involved in waiting.

 The real purchasing power of R100 may decline in the course of the time under inflationary conditions

1.6 FUTURE AND PRESENT VALUE

1.6.1 The future value of a single amount

The future value of an initial investment or principal is determined by means of compounding, which means that the amount of interest earned in each successive period is added to the amount of the investments at the end of the preceding period.

FV n = PV (1+I) n Where:  PV is the original investment or present value of the investment  FVn is the future value of the investment after n periods  i is the interest rate per period expressed as a decimal number  n is the number of discrete periods over which the investment extends

The factor (1 + i) n in the formula is known as the future value factor (FV) compound interest factor The factor (1 + i) n in the formula is known as the future value factor (FV) compound interest factor

Example

What is the future value of an investment of R100 for the one-year at an interest rate of 5% per annum?

1 FV 1 = R100 (1+0, 05) =

R100 (1, 05)

R105

 And if the investment is for three years?

1.7 FINANCIAL ANALYSIS, PLANNING AND CONTROL

1.7.1. Financial Analysis – monitor financial position of a business and limit the risk of financial failure. Financial analysis reveals strengths and weaknesses of the business, so that corrective measures can be taken. The following financial statements assist in the financial analysis:  Income statement  Balance sheet  Flow of funds in a business – continuous flow of funds to and from the business. Increased sale

values boost profits. Profits (after tax) are utilized in the distribution of ordinary and preference share (dividends). The balance is reinvested into the business increasing available funds.

 Funds-flow statement- drawn up from other statements (balance sheet, income statement etc). Reflects cash utilization and purposes for use, in a specific period.

Advantages:

 It gives an indication of whether the cash dividends are justified in terms of the cash generated by business activities (profit)

 It gives an indication of how growth in fixed assets has been financed  It gives an indication of possible imbalances in the application of funds  It helps financial management to analyse and evaluate the financing methods of the business

Ratios

Ratios give the relationship between two items (group of items) in the financial statements. It serves as a measure to identify strengths and weaknesses of the business.

The following parties use financial ratios of a business

 Financial Management – view to internal control, planning and decision-making  Suppliers of borrowed capital – evaluate the ability of the business to pay its debts and interests  Potential owners- to determine the feasibility of the business as well as it being an investment

opportunity Financial ratios must be viewed against norms and standards to be useful. Three types of

comparison exist:  Current financial ratios with past and future ratios  With other similar businesses  With norms of the industry as a whole. There is a large variety of financial ratios

A) Liquidity ratio – provide indication of the ability of the business to meet short-term obligations,

without interference in its normal activities. Made up of the current ratio and acid test ratio. Current ratio – reflects the relationship between the value of current assets and the extent of

Current liabilities of a business

Current ratio =

Current Assets

Current Liabilities

Acid test ratio – shows that for each R1 worth of current liabilities, the business has a certain amount of current assets, excluding inventory. Acid Test ratio =

Current Assets - inventory Current Liabilities

B). Solvency ratios- These are an indication whether a business is able to repay its debts from the sale of its assets on termination of its activities. Made up of the debt ratio and gearing ratio

Debt ratio: means that a certain percentage of the assets were financed by debt

Debt Ratio =

Gearing ratio: indicates that for each R1 of debt the business has a certain amount of owner’s equity

Gearing ratio =

owners equity

Debt

C) Profitability, rate of returns or yield ratios Shows the suppliers of capital the percentage of profits earned in the various forms:

a) Rate of return on capital = Operating profit x 100

Total capital

b) Rate on return on capital (after tax) =Operating Profit -tax x 100

Total Capital 1

c) Return on shareholders’ interest

=Net profit after tax x 100

Shareholders interest 1

d) Return on owners equity

=Net profit after tax

Owner’s Equity

e) Return on owners equity (no shareholders)

= Profit attributable to ordinary shareholders x100

Owners’ Equity

Financial budgets

 Used by financial management  Consists of capital expenditure, cash, financing and balance sheet budget. Financial budgets serve

3 major purposes:  Verify the viability of operational planning  Give pointers to financial actions that the business must take to make operations budgets

possible  Indicate how operating plans of the business affects future financial actions and conditions  Capital expenditure budgets: indicates the expected future capital investment in physical

facilities  Financing budgets: ensure the availability of funds to meet budgeted shortfalls-receipts to

payments. Provides the business with funds it needs at times it needs them.  Balance sheet budget: enables management to examine its activities and priorities annually.

Less used because of large amounts of paperwork

ASSESSMENT QUESTION

1. Explain the function or role of the financial manager

PRACTICE QUESTIONS

Current Ratio: It is the relationship between the current assets and current liabilities of a concern. Current Ratio = Current Assets/Current Liabilities If the Current Assets and Current Liabilities of a concern are R4,00,000 and R2,00,000 respectively, then the Current Ratio will be : R4,00,000/R2,00,000 = 2: 1

Current Assets: Raw Material, Stores, Spares, Work-in Progress. Finished Goods, Debtors, Bills Receivables, Cash. Current Liabilities : Sundry Creditors, Installments of Term Loan, payable within one year and other liabilities payable within one year.

 Current Ratio measures short term liquidity of the concern and its ability to meet its short term obligations within a time span of a year.  It shows the liquidity position of the enterprise and its ability to meet current obligations in time.

 Higher ratio may be good from the point of view of creditors. In the long run very high current ratio may affect profitability ( e.g. high inventory carrying cost)  Shows the liquidity at a particular point of time. The position can change immediately after that date. So trend of the current ratio over the years to be analyzed.

ACID TEST or QUICK RATIO: It is the ratio between Quick Current Assets and Current Liabilities. The should be at least equal to 1. Quick Current Assets: Cash/Bank Balances + Receivables up to 6 months + Quickly realizable securities such as Govt. Securities or quickly marketable/quoted shares and Bank Fixed Deposits Acid Test or Quick Ratio = Quick Current Assets/Current Liabilities Example: Cash

1, 50,000 Current Liabilities 1,00,000

Total Current Assets 3, 00,000 Current Ratio = > 3, 00,000/1, and 00,000 = 3: 1 Quick Ratio = > 1, 50,000/1, 00,000 = 1.5: 1

GearingRatio

• Gearing Ratio is the proportion of the capital employed of the firm which come from outside of the business finance, e.g. by taking a short term loan etc

Debtratio

• For example, a company with R2 million in total assets and R500,000 in total liabilities would have a debt ratio of 25%?

Debtratio

• The higher the ratio, the greater risk will be associated with the firm's operation. • In addition, high debt to assets ratio may indicate low borrowing capacity of a firm, which in turn

will lower the firm's financial flexibility. Like all financial ratios, a company's debt ratio should be compared with their industry average or other competing firms.

TOPIC 2

2. ASSET MANAGEMENT: THE INVESTMENT DECISIONS LEARNING OUTCOMES

After you have read this topic you should be able to:

 To explain the management of current assets  To explain the principles and the implementation of capital budgeting techniques in the

management of fixed assets

2.1 INTRODUCTION

Management of the assets requires that decisions regarding investments in current and fixed assets

be taken effectively as possible. It has a direct influence on a scope of the investment in current assets and acquisition of fixed assets that will maximize stakeholder’s wealth.

2.2 THE MANAGEMENT OF CURRENT ASSETS

2.2.1 The cost and Risk of Investing in Current Assets

Current assets include cash, marketable securities, debtors and inventory. They are vital to ensure the continuous functioning of the business. Raw material sustains the manufacturing process. Sales influenced by credit allowed by the businesses. Management of the current assets involves cost and risk

3 reasons why a business should have cash available

 The transaction motive  The precaution motive  The speculative motive

2.2.2.1. The cash budget: cash needs of a business, an important part of Management unused cash surpluses on cash shortages result in cost and risk of cash flows for a specific period and composed of 3 elements:  Cash receipt- cash sales etc  Cash disbursements cash paid for purchases of merchandises  Net changes in cash- difference between cash receipts and cash disbursements

Cash budget can be used to identify temporary cash shortages and arrange bridging finance timorously.

2.2.2.2 Cash cycle

Also known as the Cash Conversion Cycle (CCC) measures how long a firm will be deprived of cash if it increases its investment in resources in order to expand customer sales.

2.2.2.3. The cash cycle: comprises the following  Investigating cash in raw material  Converting raw material to finished products  Selling finished products on credit  Ending the cycle by collecting cash

The cash cycle is a continuous process and if the cycle is speed up, the demand for cash will decrease. This can be achieved by cash collections and efficient management of debtors and stock (inventory)

2.2.3. The management of debtors

Debtors arise when a business sells on credit Four C’s of credit  Character  Capacity  Capital  Conditions

2.2.4. The management of stock (inventory)

The concept stock includes raw and auxiliary materials, work in progress; semi finished products, trading stock, and so forth, and like debtors, represents a considerable portion of the investment in working capital. In inventory management there is once again a conflict between the profit objective (to keep the lowest possible supply of stock, and to keep stock turnover as high as possible, to minimize the investment in stock, as well as attendant cash needs) and the operating objective (to keep as much stock As possible to ensure that the business is never without, and to ensure that production interruptions and therefore loss of sales never occur).

It is once again the task of financial management to optimally combine the relevant variables in the framework of a sound purchasing and inventory policy, in order to increase profitability without subjecting the business to unnecessary risks.

2.3 LONG TERM INVESTMENT DECISIONS & CAPITAL BUDGETING Nature of capital investments

Capital investment –use of business funds to acquire fixed assets. (Land, buildings, equipment etc) the benefits accrue over a period longer than one year.

Long- term the type influences investment projects. The success of a large business depends project Long- term the type influences investment projects. The success of a large business depends project

 Long term nature of capital investment decisions  The strategic nature of capital investment project

2.3.1. The Evaluation of Investment Projects

The basic principle underlying is cost-benefit analysis where the cost of each project is compared to its benefits. Time value of money and cash flow are important factors to examine when evaluation investments

2.3.2.1. Cash flow concepts- represent each transaction Cash revenues (source cash) and cash expenses (use of cash) is the net cash flow Net cash flow=cash revenues-cash expenses

Important cash flow components are distinguished for capital budgeting purposes

 Initial investment money paid at the beginning of a project for equipment or purchases exceeds cash disbursement positive net cash flow insufficient to meet expenses (negative)

 The expected terminal cash flow related to the termination of the project usually positive  Annual cash flows are calculated as the profit after interest and tax.  Initial investment net cash flows are net cash outflow at the beginning of the project  The life project economic life of the project  The terminal cash flow after tax

2.3.2.2. Net Present Value Method

Decisions criteria take the time value of money into account and based on cash flow are called discounted cash flow (DCF) methods. This involves discounting estimated future cash flows to their present values and takes the amount and timing of cash flows into account.

Net Present Value – NPV

NPV compares the value of a dollar today to the value of that same dollar in the future, taking inflation and returns into account. If the NPV of a prospective project is positive, it should be accepted. However, if NPV is negative, the project should probably be rejected because cash flows will also be negative.

For example, if a retail clothing business wants to purchase an existing store, it would first estimate the future cash flows that store would generate, and then discount those cash flows into one lump- sum present value amount, say R565,000. If the owner of the store was willing to sell his business for less than R565,000, the purchasing company would likely accept the offer as it presents a positive NPV investment. Conversely, if the owner would not sell for less than R565,000, the purchaser would not buy the store, as the investment would present a negative NPV at that time and would, For example, if a retail clothing business wants to purchase an existing store, it would first estimate the future cash flows that store would generate, and then discount those cash flows into one lump- sum present value amount, say R565,000. If the owner of the store was willing to sell his business for less than R565,000, the purchasing company would likely accept the offer as it presents a positive NPV investment. Conversely, if the owner would not sell for less than R565,000, the purchaser would not buy the store, as the investment would present a negative NPV at that time and would,

for the first year, R4, 000 for the second year, R2, 500 for the third year, R2, 000 in the fourth year, and R2,000 for the fifth year. The payback would be at 2.8 years.

Example of Payback With Annual

Cumulative

Unequal Annual Cash Flow Cash Flow

Cash Balance

2.4 ASSESSMENT QUESTIONS:

1. Differentiate between over investment and under investment. Determine the level of risk in each

2. What options are available for a company to improve its poor liquidity

3. The most common reasons for enterprises to have cash in hand is a:

a) Transaction motive

b) Precautionary motive

c) Speculation motive

TOPIC 3

3. FINANCING DECISIONS

LEARNING OUTCOMES: After you have read this topic you should be able to:

 To explain the types of short-term financing decision (the financing of current assets)  To describe the forms and sources of long-term financing  To explain the cost of capital  To explain the long-term financing decision and the establishment of an optimal capital structure  To describe the money and capital markets as providers of finance

3.1. INTRODUCTION

This involves making decisions about the types of finance and suppliers of finance, to minimize cost and risk to the business.

3.2. FINANCIAL MARKETS

Financial markets and financial institutions play an important role in the financing of businesses. An economic system comprises of individuals and institutions with surplus funds (the savers) and those with shortage of funds.

 Financial Markets - are the channels through which holders of surplus funds (the savers) make their funds available to those who require additional finance.

 Financial Institutions act as intermediaries on financial markets between the savers and those with the shortage of funds. This financial service is referred to as financial intermediation.

3.2.1. Primary and secondary markets

New issues of financial claims are referred to as issues on the primary market. Secondary markets are types of financial claims that are negotiable and traded on financial markets. The JSE is an example of a financial institution that operates within the financial market.

3.2.2. Money and capital markets

 Money market is the market for financial instruments with a short-term maturity: funds are

borrowed and lent in the money market for periods of one day (i.e. overnight) or for months.  Has no central physical location and transactions are conducted from the premises of the various

participants, for example, banks using telephones or on-line computer terminals.  Capital Market is where funds required for long-term investment are raised and traded by

investors.  In South Africa much of this trading takes place on the Johannesburg Stock Exchange.  Long-term investment transaction is also done privately.  An investor may, for example sell shares held in a private company directly to another investor, investors.  In South Africa much of this trading takes place on the Johannesburg Stock Exchange.  Long-term investment transaction is also done privately.  An investor may, for example sell shares held in a private company directly to another investor,

3.3. THE SHORT –TERM FINANCING DECISION (FINANCING OF CURRENT ASSETS)

 Cost of short-term funds is lower than long-term funds. The reason is that trade credit does not involve a cost.

 Profit is advantageous to use short–term funds. It can become a risk if the business is dependent on such a method of finance. The business can lose its liquidity and the financial position deteriorates.

 The opposite applies to long-term funds. It is costly; long-term funds are more expensive than short-term funds. A less risk factor is guaranteed.

The following are the most common forms of short-term financing:

Trade credit : Important form of finance for businesses, and is mainly in the form of suppliers’ credit. This means that a supplier does not take payment from the business when goods or services are purchased. The business is expected to pay only after 30, 60 or 90 days, depending on the credit terms.

 Accruals: Represent liabilities for services provided to the business, which has not yet been paid for. The most common expenses accrued are wages and taxes.

 Bank overdraft: An overdraft facility is an arrangement with a bank that allows a business to make payments from a cheque account in excess of the balance in the account. The purpose of an overdraft is to bridge the gap between cash income and cash expenses.

 Factoring: Factoring is similar to invoice discounting but goes one-step further. With factoring the financier also undertakes to administer and control the collection of debt.

3.4. LONG-TERM FINANCING DECISIONS

Shareholders Interest comprises of:  Owners Equity – funds made available by legal owners in the form of share capital and indirect

contributions such as undistributed profits.

ORDINARY SHARES

 Gives right of ownership. Receive share. Certificates in exchange for money made available to the business. Consists of 2 types —par value shares (have some value) and non-par value (shares differ).

 The liability of ordinary shareholders is limited to the amount of share capital they contribute to the business.

 Shareholders have no certainty that the money paid for the shares will be recouped, for this depends on the success of the business.