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Financial Concepts Application

   

Added on  2020-05-28

16 Pages2677 Words365 Views
Running Head: Application of various financial conceptsFINANCIAL MANAGEMENT

Application of various financial concepts1Question 1There is a wide range of goals of corporate financial managers. They are primarily concerned with the financial growth and survival of the company. Their main objective is to maximise the profits of the company so that any situation of financial distress and solvency could be avoided. They also aim at achieving the goal of maximising the wealth of shareholders.Question 2The corporate form of business organisation has various advantages over sole- proprietorship and partnership form of business organisation. The advantages are: As the companies are separate legal entities, the personal assets of the shareholders are not held in risk for the company’s debt. It is easier for the corporations to arrange funds for the business. Companies have the option of raising funds through the issue of shares to the potential investors. Such option is not available with other forms of business.As corporate bodies have to file separate tax returns from its shareholders, these bodies availsvarious tax benefits on the salaries and dividends they pay out.However, it has some disadvantages also such as the incorporation of company form of business involves a huge span of time and heavy costs. Question 3The connection between the company’s owners i.e. its shareholders and managers is of principle and agent and hence such relationship is called agency relationship. The shareholders desires the management to enhance the company’s value but the managers desires to achieve their personal benefits from the company’s operations. These conflict of interests results in agency problems (Ahmed, Billings, Morton, Stanford-Harris, 2002). Due to such problems the company has to incur various direct and indirect agency costs.Question 4Role of primary market:The main role that primary market plays is to facilitate the capital growth of the country by allowing the individuals to convert their savings into investments on which return can be

Application of various financial concepts2earned. These markets exists to facilitate corporate and governmental bodies in issuing new securities to the investors directly.Role of secondary markets:These markets plays most pivot role in the economy’s growth as they facilitate subsequent trading of securities issued by the corporate bodies in the initial public offerings. They help indetermining the interest rates and prices of shares and securities traded in the stock market (Mishkin & Eakins, 2006)The IPO function is performed by the primary markets.Question 5:If the current ratio is increased and quick ratio is fallen it shows that the liquid assets such as inventories and prepaid expenses of the company has decreased. No the liquidity position hasnot improved.Question 6:Working capital is the excess of company’ current assets over its current liabilities. A positive working capital of the company shows that it has sufficient amount of funds to continue its basic business operations and meeting its operational expenses as well as short term debt (Brigham & Ehrhardt, 2013). The main components of working capital investment are:Current assets which includes inventories, cash and bank balance, prepaid expenses, trade receivables etc.Current liabilities which includes trade payables, short term borrowings, outstanding expenses etc.Question 7:Simple interest is the interest determined as a percentage of principle amount whereas compound interest is the interest that is determined as a percentage of both principle amount and the accrued interest thereon. Compound interest keeps on increasing every year whereas simple interest remains uniform for every period.Illustration: Alex has borrowed loan of $1000 at 10% interest rate for 3 years.

Application of various financial concepts3Now, if simple interest is to be paid by him, the interest will be calculated as =$1000 x 10% =$ 100 for all the three years but if interest is to be compounded annually then interest payment will be calculated as follows:1000 x 10% = $ 100(1000+ 100) x 10% = $110(1100+110) x 10%= $ 121.This shows that interest amount is rapidly increasing every year.As an investor, compound interest scheme will be preferred as it will have higher returns.Question 8:The difference between the annuity and perpetuity lies in the ending period. In annuity, the payment of anything last for a particular period whereas in case of perpetuity payment lasts forever (Brigham & Houston, 2012).Question 9:Debt is the amount of funds owed by any firm to any party whereas equity is the amount of funds raised through the issue of shares by the company.Question 10: Common stock entitles the holders to possess a share in company’s ownership as they get voting rights whereas the holders of preferred stock of the company do not hold any voting rights in the company but have greater claim on assets of company (Heaton, 2002). As an investor, preferred stock will be preferred as it will provide regular and fixed income.Question 11:Interest rate of bonds and their prices are inversely related as with the increase in one, the other declines.Question 12:Both the techniques are used in capital investment appraisal. But, Net present value is the aggregate of all the cash flows of the project and is denoted in amount terms and PI is denoted in terms of percentage. NPV is more reliable than PI.

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