COMM1140 Financial Management - Introduction

Introduction to Financial Management

Learning Objectives

• Differentiate between accounting, finance, and tax.
• Understand different forms of accounting information.
• Differentiate between revenues and expenses.
• Explain accrual accounting, cash accounting, and accounting profit.

What is Financial Management?

• Financial management is the process of planning, organizing, controlling, and monitoring financial resources to achieve company goals and objectives.
• The primary objective is to maximize shareholder value through appropriate resource utilization and decision-making.
• COMM1140 studies processes companies implement to manage profitability, expenses (salaries, insurance, rent, tax), cash, investments, and debt.
• These processes ensure the company's ongoing operation and sustained profitability.
• Financial management integrates expertise from accounting, finance, and tax.

COMM1140 Themes

• Theme 1: Business Management
  • Financial Management, Organizational Resources, Value Creation.
• Theme 2: Business Ecosystem
  • Data, Insights, and Decisions, Business Decision Making, Global Business Environments.
• Theme 3: Skills and Capabilities
  • Evidence-based Problem Solving, Collaboration, and Innovation in Business.

Assessment and Topics Overview

• Week 1: Introduction to Financial Management (Accounting).
• Week 2: Understanding Financial Statements (Accounting).
• Week 3: Analyzing Business Transactions (Accounting).
• Week 4: Financial Statement Analysis (Accounting).
• Week 5: Company Valuation (Finance).
• Week 6: Free Cash Flow Estimation (Finance).
• Week 7: Business Taxation (Tax).
• Week 8: Audit and Internal Control.
• Week 9: Corporate Scandals (Accounting).
• Week 10: Responsible Financial Management.
• Assessment:
  • Tutorial Participation (15%)
  • Group Presentation (25%)
  • Final Exam (60%)

Importance of Studying Financial Management

• Financial management (literacy) is a key life skill.
• Essential for entrepreneurs, leaders, and advisors, and those working in government or NGOs.
• Lays foundations for accounting and finance majors.
• Accounting and finance decisions have implications on all aspects of business operations (Marketing, Management, Tax, Information Systems, Actuary) and vice-versa.
• COMM1140 uses insights from accounting, finance, and tax.

Accounting

• Accounting is how you understand and run a successful business.

Signs of Business Health

• Profitability
• Cash flow
• Short and long term sustainability
• Business value and debt
• Returns on business investments
• Financial security and integrity

Accounting Powers Every Business Decision

• Short-Term (Operational) Accounting: Empowers you to assess business activities and improve performance.
• Long-Term (Strategic) Accounting: Empowers you to appraise the 'big picture' for long-term and sustainable growth.
• Commercial Accounting: Empowers you to evaluate business deals and improve their business value.

Accounting Enables Career Success

• Entrepreneur Accounting: Builds strong foundations for new business ventures.
• Leader Accounting: Explores what drives success in businesses you will lead.
• Advisor Accounting: Advises colleagues/clients in driving successful and responsible businesses.
• Accounting enables career success in Investment Banking, Professional Services, C-Suite ESG/Sustainability, Startups/side hustles and Corporate Finance.

Warren Buffett Quote

• “…you have to be as comfortable with that [accounting] as you are with your own native language to really evaluate businesses.”
• “Unless you are willing to put in the effort to learn accounting … you really shouldn’t select stocks yourself.”

Mark Cuban Quote

• “If you’re going to have and run a business, if you don’t understand accounting, you’re already behind the eight ball.”
• “You can hire an accountant, but they still have to communicate to you.”

Finance

• Finance helps you value a business and make good investment decisions using accounting information.

Finance and Financial Management

• Finance examines how companies source funding and informs how that money is invested.
• Two major areas:
  1. Investments/Asset Pricing: Focuses on the investor's view.
     • What are assets/securities worth?
     • How risky are they?
     • How to form portfolios?
  2. Corporate Finance: Focuses on an entity and its management.
     • Which projects to invest in?
     • How to finance operations?
     • How to pay out earnings?
• The primary objective of financial management is to maximize shareholder value through appropriate resource utilization and decision-making.
• Finance plays a key role in helping organizations decide what to spend, where to spend, and when to spend.

Investments/Asset Pricing

• This sub-discipline of finance focuses on how investors decide what assets or securities are worth.
• Multiple valuation (comparable company analysis) is a valuation tool discussed in COMM1140.
• Multiple valuation draws on accounting information to calculate an estimated valuation for a company’s stock price.
• This can be used by investors to determine if a stock price is undervalued or overvalued when compared to the company’s peers.

Corporate Finance

• A corporation first determines the assets in which it will invest funds according to organizational objectives.
• Competing investment alternatives should be evaluated based on shareholder wealth maximization, considering constraints on financial, physical, and managerial resources.
• In COMM1140, we will study one important step companies make to make these decisions – Free Cash Flow Estimation.

Accounting vs Finance

• Accounting ensures that high-quality numbers are available for analysis.
• Finance needs Accounting to begin the process of VALUATION (i.e., to estimate the value or price of companies/assets/new projects) and make good investment decisions!

Tax

• Tax is the regulatory guidebook that ensures financial responsibility and compliance for a successful business.

Tax and Financial Management

• Tax deals with the laws and regulations around how much money a business or individual needs to contribute to the government.
• It involves understanding and applying tax laws to ensure compliance, minimize tax liabilities, and take advantage of available deductions.
• Tax calculations draw directly on accounting information.
• Knowledge of tax helps minimize liabilities, leverage deductions, and contribute ethically to government revenue.

Who Uses Accounting Information?

• A wide range of stakeholders use accounting information daily.
• Users have different needs that accounting information needs to satisfy.

Different Types of Information in Accounting

• Financial Accounting: Provides information to external users, presented in financial statements.
• Management Accounting: Provides information to users within the enterprise for operational planning and control decisions.
• Audit and Internal Control: Ensures financial statement accuracy and safeguarding of assets.
• Social and Environmental Accounting: Provides non-financial information to external users.

Financial Accounting Information and Decision-Making

• Financial accounting primarily serves external stakeholders (investors/shareholders, creditors, regulatory bodies).
• It provides a comprehensive overview of a company's financial health for external decision-making.
• Analysing financial statements aids managers in evaluating profitability, liquidity, and solvency, enabling strategic decisions.
• Investors rely on financial statements to assess a company’s profitability and financial stability to make investment decisions.

Management Accounting Information and Decision-Making

• Management accounting is designed for internal stakeholders.
• It provides detailed financial information for strategic planning, budgeting, performance evaluation, and internal decision-making.
• Cost accounting helps in determining the cost structure of products or services, enabling managers to optimise pricing and cost efficiency.

Audit and Internal Control Information and Decision-Making

• Audits and internal control systems ensure the reliability and integrity of financial information.
• They serve both external and internal stakeholders by safeguarding assets and promoting operational efficiency.
• Investors trust audited financial statements and internal controls, allowing them to make strategic decisions based on reliable and credible data.

Social and Environmental Accounting Information and Decision-Making

• Social and environmental accounting caters to both internal and external stakeholders.
• Internally, it helps management assess the company’s impact on the environment, society and sustainability.
• Externally, it informs socially-conscious investors, customers, and regulatory bodies about the company’s commitment to social and environmental responsibility.

Revenue

• Revenue represents an increase in company wealth.
• Wealth increases because customers:
  • Pay cash for goods or services; or
  • Promise to pay cash (accounts receivable).

Types of Revenue

• Sales revenue is generated by selling goods or services in the ordinary course of business.
• Other revenue may consist of items such as:
  • Interest income on bank accounts or investments
  • Dividends received from investments in other companies.

Expenses

• Expenses represent decreases in company wealth.
• Expenses must be incurred to earn revenue; they are costs of doing business.
• Expenses do NOT include payments of returns to owners (withdrawals by sole traders or partners, or dividends to shareholders).
• These are “distributions” of net profit to owners and are NOT necessary for a business to earn revenue, so they are NOT expenses.

Cash Accounting

• Cash accounting involves recording revenues and expenses at the time the cash is received or paid.

Limitations of Cash Accounting

• The complexity of business means that the financial health of a company is affected by many transactions that involved a cash flow in the past or will involve a cash flow in the future.
• Examples of events where the timing of cash flows is different from the substance of the transaction:
  • Sell goods or services on credit
  • Use services that will be paid in a later period
  • Companies receive cash in advance for services provided (services that will be provided in the future)

Accrual Accounting

• Most businesses use accrual accounting.
• Accrual accounting involves recording revenues and expenses at the time they occur, not when cash is received or paid.
• The key test for revenue recognition is whether the goods and services have been rendered (delivery to a customer or provision of a service).
• Receipt of cash is NOT required for revenue to be recognised.

Cash Basis vs. Accrual Basis

• In Australia, the ATO says that: Businesses with a turnover of less than $10$ million can use cash accounting & Businesses with a turnover of more than $10$ million must use accrual accounting.
• Benefits:
  • Cash Basis: Simple and effective in managing the cash flow position of a business
  • Accrual Basis: More accurate and clear view of the financial health of the business

Accrual vs. Cash Accounting – Examples

• In June, a company makes cash sales of $10,000$ and credit sales of $20,000$ (all to be collected in July).
  1. Revenue using accrual accounting in June? $10,000 + $20,000 = $30,000
  2. Revenue using cash accounting in June? $10,000
  3. Revenue using accrual accounting in July? $0
  4. Revenue using cash accounting in July? $20,000

Revenue Example (Accrual Accounting)

• A $2,000 credit sale is made in February and cash is collected in March. When is the:
  • Cash recorded? March
  • Revenue recorded? February

Expense Example (Accrual Accounting)

• A contractor carries out repair work in April for $20,000 but the bill will not be paid until July. When is the:
  • Cash recorded? July
  • Expense recorded? April

Accounting Profit: Cash Profit vs. Accrual Profit

• Cash profit – the result of revenues minus expenses when both are calculated using cash accounting.
• Accrual profit – the result of revenues minus expenses when both are calculated using accrual accounting.

Test Your Understanding: Accrual Accounting vs. Cash Accounting

Compare accrual profit with cash profit for a period:

1. Issued shares for $100,000.
2. Borrowed $50,000 from the bank.
3. Provided services to customers which generated sales revenue of $80,000, of which $60,000 had been collected by year-end.
4. Employees earned $30,000 in wages, of which $10,000 will be paid next year.
5. Received an invoice for electricity used during the year for $8,000. The bill will be paid next year.

COMM1140 – What’s Next?

Part One: Foundations of Financial Management

• Topic 1 – Introduction to Financial Management
• Topic 2 – Understanding Financial Statements
• Topic 3 – Analysing Business Transactions
• Topic 4 – Financial Statement Analysis

Part Two: Integrating Financial Management in Organizations

• Topic 5 – Company Valuation
• Topic 6 – Free Cash Flow Estimation
• Topic 7 – Business Taxation
• Topic 8 – Audit and Internal Control – Corporate Scandals
• Topic 9 – Responsible Financial Management