Wilson Prelims

FINANCIALMANAGEMENT

5th edition

Principles and Applications

Clive Wilson BA, CPA, ACISBruce Keers Dip. Fin. Man., Dip. Teach. (Tech), CA

Andrew Medlen BComm, Grad. Dip. VET, CPABrian Walters BBus, MEc, Grad. Dip. Tech. Educ., CPA

FINANCIALMANAGEMENT

5th edition

Principles and Applications

Copyright © Pearson Education Australia (a division of Pearson Australia Group Pty Ltd) 2007

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www.pearsoned.com.au

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Printed in China

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National Library of AustraliaCataloguing-in-Publication Data

Financial management : principles and applications.

5th ed. Bibliography.Includes index.For tertiary studentsISBN 9780733978708 (pbk).

1. Corporations – Finance. 2. Business enterprises – Finance. I. Wilson, Clive.

658.15

Every effort has been made to trace and acknowledge copyright. However, should any infringement have occurred,the publishers tender their apologies and invite copyright owners to contact them.

An imprint of Pearson Education Australia

How to use this book xiPreface xiiiTraining package competencies xv

Chapter 1 Goal and function of financial management 1Learning objectives 1Overview 1The financial manager 1Forms of business organisation 2Financial reporting 4The finance function 7Objective of the firm 8Ethics 14Summary 14Problems 15Notes 16Website addresses 16

Chapter 2 Financial mathematics 18Learning objectives 18Overview 19Interest rates and inflation 19Simple interest 20Flat rate interest 21Compound interest 22Present value 26Annuities 28Determining the effective rate of interest 44Summary 46Problems 47Note 53

Chapter 3 Sources of financing 54Learning objectives 54Overview 55Short-term financing 55

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contents

vi F I N A N C I A L M A N A G E M E N T: P R I N C I P L E S A N D A P P L I C A T I O N S

Long-term financing 61Other sources of equity funds 64Debt funds 64Hybrids of debt and equity 70Summary 72Problems 73Note 74

Chapter 4 Analysis of financial statements 76Learning objectives 76Overview 77Purpose of ratios 77Interpretation of ratios 78Case study 79Liquidity ratios 81Activity ratios 82Profitability ratios 86Leverage ratios 90Equity valuation and performance ratios 93Case study—Application 96Comments 97Du Pont system 98Limitations of ratio analysis 100Summary 100Problems 101

Chapter 5 Communication and financial management 114Learning objectives 114Overview 115Assessing the needs of the client 115Analyse data for the client 118Preparing advice for the client 119Communication strategies 122Summary 124Problems 125Note 125

Chapter 6 Working capital management 126Learning objectives 126Overview 127General concepts in working capital management 127The operating cycle 128co

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The matching principle 129Current assets management 131Inventory management 131Accounts receivable management 138Cash and liquid asset management 143Cash budgets 146Summary 171Problems 172

Chapter 7 Cost of capital 182Learning objectives 182Overview 183Measuring the cost of capital 183Weighted average cost 190Summary 193Problems 194

Chapter 8 Capital structure decisions 198Learning objectives 198Overview 199Leverage effects on profits 199Capital structure and earnings per share 203Indifference point 205Optimal capital structure 209Summary 211Problems 212

Chapter 9 Capital investment techniques 216Learning objectives 216Overview 217Administrative aspects 217Types of decisions 219Evaluation methods 219Net present value versus internal rate of return 228Unequal lives 229Capital rationing 231Summary 233Problems 234

Chapter 10 Capital investment applications 240Learning objectives 240Overview 241Estimating cash flows 241Replacement decisions 245

Retirement decisions 248Net working capital requirements 250Risk 250Summary 251Problems 252

Chapter 11 Financing asset acquisitions 256Learning objectives 256Overview 257Leases 257Types of lease 258The lease or purchase decision 259Summary 265Problems 266

Chapter 12 Dividend policy 270Learning objectives 270Overview 271Factors affecting dividend policy 271Dividend effects on share prices 276Alternative dividend policies 279Non-cash forms of dividend 280Summary 282Problems 283Notes 285

Chapter 13 Portfolio theory 286Learning objectives 286Overview 287Return on investment 287Measurement of risk 289The capital asset pricing model 300Valuation of shares 304Dividend imputation 307Summary 308Problems 309

Chapter 14 Financial intermediaries 316Learning objectives 316Overview 317The Australian capital market 317Components of the Australian capital market 319

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Financial institutions 320Market efficiency 323Summary 324Problems 325

Chapter 15 Securities and derivatives markets 326Learning objectives 326Overview 327The securities market 327Regulation of the securities market 328The stock exchanges 329Right issues 330Private placements 333SEATS trading 334Off-SEATS trading 334The derivatives market 339Types of derivatives 339Summary 344Problems 345

Chapter 16 Managed funds 348Learning objectives 348Overview 349Investment outcomes 349Investment markets 350Direct investments 351Indirect investments 353Unit trusts 354Retirement funds 357Summary 361Problems 362Note 362

Chapter 17 Valuation of non-listed companies 364Learning objectives 364Overview 365Valuation of goodwill 365Valuation of shares 369Summary 374Problems 375

ixC O N T E N T S

Appendix A Portfolio exercise 379

Learning objectives 379

Exercise 380

Appendix B Tables 381

Solutions to self-testing questions 392

Glossary 424

Index 437

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The following features and icons have been carefully designed to aid learning as you progressthrough the book.

Learning objectivesat the beginning of each chapter detail the learning goalsrelevant to the chapter and help you focus on the chaptercontent.

Overviewmaps out the ensuing chapter.

Key termsare highlighted to indicate important words anddefinitions. Concise definitions of all key terms areincluded in the Glossary at the back of the book.

Self-testing questionsenable you to assess your competency as you progressthrough each chapter. Solutions to the self-test questionsare included at the back of the book.

Examples and solutionsapply theory to practice. The examples and solutions in eachchapter develop the competencies for each learning objective.

These solutions use arithmetic techniques in a pencil and paper approach, including the use of financial tables.

These solutions use a financial calculator. The symbols in the solutions match the keys on the Sharp EL735.

Chapter summaryprovides a concise review of the chapter content—helpingyou revise the concepts you have learned.

Case studiesillustrate key theories in the chapter with a practical example.

End-of-chapter problemsare included to assist you to revise and consolidate yourskills.

how to use this book

H O W T O U S E T H I S B O O K

The original text of Financial Management: Principles and Applications was first

published in 1987. The fifth edition of this book continues with the successful

format of previous editions by providing students with an introduction to the

complexities of corporate financial management using a clear and practical

approach. The fifth edition has also been designed to meet the competencies and

learning objectives (elements) contained in the national accounting training

packages. In addition to content updates, the new edition includes a new chapter

on the role of communication in financial management. It also continues to use

the style and presentation that is useful in finance courses designed for people

who have a non-accounting background.

The book is developed in a logical sequence by introducing each new

concept as a stepping stone followed by examples and worked solutions. At

appropriate stages throughout a chapter, students are able to assess their

understanding by attempting self-testing questions. Students can find the solutions

to these questions at the back of the book. For further practice, a large number of

problems are provided at the end of each chapter.

The first chapter of the book introduces the concept of maximisation of

shareholders’ wealth as the objective for financial management. This objective is

then applied to the three main decision areas of financial management: finance

decisions, investment decisions and operating decisions. The chapters covering

financing decisions provide information on sources of short- and long-term finance

within the framework of the Australian capital market, examine the impact of

capital structure decisions and evaluate lease finance options. Chapters 9 and 10

focus on investment decisions. These chapters explain the main techniques used to

evaluate and decide on the most profitable combination of assets to be used in the

firm based on the cost of finance. In the area of operating decisions, the book

examines the analysis of financial statements, management of working capital and

xiiiP R E F A C E

preface

dividend policy. To support the portfolio theory chapter, a special student exercise

has been added as Appendix A.

Our thanks to the editorial and production staff of Pearson Education for

their assistance and support to enable the publication of this book. Special

appreciation and thanks go to our respective families for their continued

encouragement and support over the years.

CLIVE WILSON

BRUCE KEERS

ANDREW MEDLEN

BRIAN WALTERS

xiv F I N A N C I A L M A N A G E M E N T: P R I N C I P L E S A N D A P P L I C A T I O N S

pre

face

The following table maps the elements contained in the Financial Services Training

Package competencies to the relevant chapter in this book:

FNSACCT501A Provide financial and business performance information

FNSACCT608A Evaluate organisation’s financial performance

FNSACCT609A Evaluate financial risk

FNSACCT501A Provide financial and business performance information

Element Relevant chapter

1. Assess client needs CChhaapptteerr 11 Goal and function of financial management

CChhaapptteerr 33 Sources of financing

CChhaapptteerr 55 Communication and financial management

CChhaapptteerr 66 Working capital management

CChhaapptteerr 88 Capital structure decisions

CChhaapptteerr 99 Capital investment techniques

CChhaapptteerr 1100 Capital investment applications

CChhaapptteerr 1122 Dividend policy

CChhaapptteerr 1144 Financial intermediaries

CChhaapptteerr 1155 Securities and derivatives market

2. Analyse data CChhaapptteerr 11 Goal and function of financial management

CChhaapptteerr 22 Financial mathematics

CChhaapptteerr 44 Analysis of financial statements






CChhaapptteerr 1111 Financing asset acquisitions

CChhaapptteerr 1133 Portfolio theory

CChhaapptteerr 1177 Valuation of non-listed companies

xvT R A I N I N G P A C K A G E C O M P E T E N C I E S

training packagecompetencies

3. Prepare advice CChhaapptteerr 11 Goal and function of financial management





CChhaapptteerr 77 Cost of capital






CChhaapptteerr 1166 Managed funds

FNSACCT608A Evaluate organisation’s financial performance


1. Evaluate returns to operations CChhaapptteerr 66 Working capital management



2. Determine short- and CChhaapptteerr 22 Financial mathematics

long-term needs CChhaapptteerr 33 Sources of financing






3. Review performance CChhaapptteerr 11 Goal and function of financial management




FNSACCT609A Evaluate financial risk


1. Assess financial risk exposure CChhaapptteerr 66 Working capital management






xvi F I N A N C I A L M A N A G E M E N T: P R I N C I P L E S A N D A P P L I C A T I O N S

train

ing

2. Develop risk management CChhaapptteerr 55 Communication and financial management

processes CChhaapptteerr 66 Working capital management





CChhaapptteerr 1144 Financial intermediaries

CChhaapptteerr 1155 Securities and derivatives markets

CChhaapptteerr 1166 Managed funds


3. Analyse financial histories CChhaapptteerr 44 Analysis of financial statements





4. Establish processes to CChhaapptteerr 55 Communication and financial management

minimise risk CChhaapptteerr 66 Working capital management






xviiT R A I N I N G P A C K A G E C O M P E T E N C I E S

Documents

Wilson Prelims