FINANCIAL ANALYSIS: TOOLS AND TECHNIQUES

ANALYSIS- a consideration of anything in its separate parts and their relation to each other.

FINANCIAL ANALYSIS- refers to examination of financial data of an entity or firm to determine

its profitability, growth, solvency, stability and effectiveness of its management.

1. Financial Statement
 Are compact reports that summarize the financial position of a firm as of a given
date, or the result of financial operation over a given period of time
 end products of the accounting process
 BASIC FINANCIAL STATEMENTS:

 BALANCE SHEEET/ STATEMENT OF FINANCIAL POSITION

2 FORMS:
1. REPORT FORM-simply lists the assets, followed by the liabilities then by the
owner’s equity in vertical sequence
2. ACCOUNT FORM-which lists the assets on the left and the liabilities and
owner’s equity on the right.
 INCOME STATEMENT/ STATEMENT OF FINANCIAL PERFORMANCE
2 FORMS:
1. NATURAL FORM-also called as Single Step Form where there are two
sections: the revenue section and the operating section
2. FUNCTIONAL FORM-presents the expenses according to function: cost of
sles, selling expenses, administrative expenses and financial expenses

 CASH FLOW STATEMENT

 BALANCE SHEET-shows economic resources it controls, its financial structure(financing

or borrowing), its liquidity and solvency.
-list down the enity’s assets, liabilities, owner’s equity
-shows an information about the economic resources and its capability
to change.
-the increase and decrease of the resources are useful in predicting the
ability of the enterprise to generate cash and cash equivalents in the
future.

COMPONENTS: ACCOUNT TITLES

CURRENT ASSETS
1. CASH-currencies, coins or negotiable instruments such as bank
checks or a postal money order used as a medium of exchange.
 CASH ON HAND
 CASH IN BANK
  CASH EQUIVALENTS
2. MARKETABLE SECURITIES- Highly traded securities-stocks, bonds
3. RECEIVABLES- collectibles from clients, customers and other persons
for the goods, services or money given by the business.
4. OTHER RECEIVABLES- Interest Receivable-collectibles from
promissory note, others: Rent Receivable, Dividends Receivable
5. MERCHANDISE INVENTORY- Stocks available for sale by the business
6. PREPAID EXPENSES- advance payments made for benefits or services
to be received by the business in the future
-PREPAID SUPPLIES, PREPAID RENT, PREPAID
INSURANCE
7. ALLOWANCE FOR BAD DEBTS-CONTRA ASSET
-which represents customer’sdoubtful accounts
NON-CURRENT ASSETS
1. LAND-lot or real estate
2. BUILDING-structured used to house the office, store or factory
3. EQUIPMENT-computers,calculator,filing cabinet
4. FURNITURE AND FIXTURES- chairs,wall decorations,tables
5. ACCUMULTED DEPRECIATION-contra asset or off-set account
representing expired cost of the plant, property, or equipment as a
result of usageang passage of time.
LIABILITIES:
CURRENT-LIABILITIES
1. ACCOUNTS PAYABLE-purchase of goods or services on credit
supported by oral or implied promise to business
-other: NOTE PAYABLE-supported by a promissory
note
2. LOAN PAYABLE- a liability to pay a bank or financing institutions for
amount of money borrowed.
3. UTILITIES PAYABLE- liability to pay utility companies like pldt,meralco
4. OTHER PAYABLES- INTEREST PAYABLE-interest bearing note
- SALARIES PAYABLE—for the employees
- TAXES PAYABLE- based on sales, earnings or value of
property
NON-CURRENT LIABILITY
1. NOTE PAYABLE
2. MORTGAGE PAYABLE
3. BOND PAYABLE

OWNER’S EQUITY-Represents the claim of the owner over assets of the

business after the liabilities have been deducted
 INCOME STATEMENT
- Shows the result (profitability)of operations of a business entity for a given
period of time
-list down revenues and expenses of the enterprise

 CASH FLOW STATEMENT

-statement that traces the inflow of funds from all sources and the disbursement
of funds for different undertakings during the period covered.
- How is cash obtained by the business?, How does it spend its cash? What causes
the change in the cash?
- How cash is being managed.
- AN INFLOW(SOURCE OR RECEIPT), AN OUTFLOW(USE OR DISBURSEMENT)
ACTIVITIES:
1. OPERATING ACTIVITIES-INFLOW: cash comes from revenue collections
-OUTFLOW: Cash goes to payment of expenses
2. INVESTING ACTIVITIES- INFLOW: sale of plant,property,and
equipments, securities
-OUTFLOW: acquisition of plant, property, and
equipments
3. FINANCING ACTIVITIES- INFLOW: loans extended,cash contribution
-OUTFLOW: cash paid to creditors, cash contribution

The goal of every analyst will be to predict whether the company being analyzed will
have sufficient cash to meet its ongoing cash needs and meet necessary requirements for a
smooth sailing business.

The sources and uses of funds will come from the following balance sheet changes:

CURRENT ASSETS CURRENT LIABILITIES

FIXED ASSETS LONG-TERM DEBT
OTHER ASSETS EQUITY

(+) USE (+) SOURCE

(-) SOURCE (-) USE

The changes can be summarized as follows:

1. SOURCES OF FUNDS THAT INCREASE CASH POSITION:
 A net decrease in any asset other cash or fixed assets
 A gross decrease in fixed assets
 A net increase in any liability
 Proceeds from the sale of stocks
 Funds generated from operations
 2. USES OF FUNDS THAT INCREASE CASH POSITION:
 A net increase in any asset other than cash or fixed assets
 A gross increase in fixed assets
 A net decrease in any liability
 A retirement or purchase of stock
 Payment of cash dividends

GENERAL FEATURES OF FINANCIAL STATEMENT

1. Fair presentation and Compliance with PFRS (Philippine Financial Reporting Standards)
2. Going Concern
3. Materiality and Aggregation
4. Offsetting
5. Frequency of Reporting
6. Comparative Information
7. Consistency of Presentation

USERS OF FINANCIAL STATEMENTS

1. Primary Users- parties to whom general purpose financial reports are primarily directed
2. Other Users- users of financial information other than primary users

MARA
CORPORATION
Balance Sheet
( $ in millions)

2006 2007 2006 200

CURRENT ASSETS: CURRENT LIABILITIES:
CASH $ 104 $ 160 ACCOUNTS PAYABLE $ 232 $ 26
ACCOUNTS RECEIVABLE 455 688 NOTES PAYABLE 196 12
INVENTORY 553 555 TOTAL: $428 $ 38
$
TOTAL: $1,112 1,403
LONG TERM DEBT: $408 $ 45
FIXED ASSETS:
$
PLANT AND EQUIPMENT $1,644 1,709 OWNER'S EQUITY:
COMMON STOCK AND 600 64
PAID-IN SURPLUS
TOTAL ASSETS: $2,756 $3,112 RETAINED EARNINGS 1,320 1,62
TOTAL: $1,920 $ 2,2
 TOTAL LIABILITIES AND
OWNER'S EQUITY $2,756 $3,1

CLARA
CORPORATIO
N
Balance Sheet
( $ in millions)

2006 2007 2006 2007

CURRENT ASSETS: CURRENT LIABILITIES:
CASH $84 $ 98 ACCOUNTS PAYABLE $ 312 $ 344
ACCOUNTS RECEIVABLE 165 188 NOTES PAYABLE 231 196
INVENTORY 393 422 TOTAL: $543 $ 540
TOTAL: $642 $ 708
LONG TERM DEBT: $531 $ 457
FIXED ASSETS:
PLANT AND
EQUIPMENT $2, 731 $ 2,880 OWNER'S EQUITY:
COMMON STOCK AND 500 550
PAID-IN SURPLUS
TOTAL ASSETS: $3,373 $3,588 RETAINED EARNINGS 1,799 2,041
$
$2,299
TOTAL: 2,591

TOTAL LIABILITIES AND

OWNER'S EQUITY $3,373 $3,588
FINANCIAL ANALYSIS:

- is the process of evaluating relationships between parts of the firm’s financial statements in
order to judge its performance.
- It provides a sound basis for credit worthiness and evaluates thoroughly and draws
conclusions on the borrower’s / prospective borrower’s performance, strengths, weaknesses
and industry prospects.

STEPS IN FINANCIAL ANALYSIS:

1. Determine relevant information
2. Arrange information to highlight significant relationships
3. Interpret and draw conclusions

BASIS FOR FINANCIAL ANALYSIS:

Financial analysis is based on the client’s audited financial statement which gives us insight on
companies past performance and provide vital information concerning the position of the
business and the results of its operation.

1. PUBLISHED REPORTS- the annual report of a publicly held corporation is an important

soyurce of financial information

2. SEC REPORT- Publicly held corporation must file annual, quarterly and current reports
with the Securities Exchange Commission

3. BUSINESS PERIODICALS

LIMITATIONS OF FINANCIAL STATEMENT:

1. Financial Statements present only information that can e quantified in terms of

monetary unit. Some significant factors affecting the business firms do not always lend
 themselves to such quantifications and are therefore not found in the financial
statements

Examples:
 The character,motivation, experience and age of the people within the
organization
 The quality of its research and development effort.
 The extent of its marketing network
 Details regarding product lines, machine efficiency, advance planning
 Organization of structure, behavioural problems and the extent of influence
exercised by key-position holders.

2. Financial statements are historical in nature and their use for predictive purpose calls
for informed/ careful judgment by the users.
3. Instability of Monetary Unit. The value of money in terms of general purchasing power
has undergone significant fluctuations and has gone pronounced downward trends.
4. Financial statements present the best possible estimates, not absolutely accurate
figures

FINANCIAL STATEMENT ANALYSIS STANDARDS:

1. RULE-OF-THUMB MEASUREMENT/ ABSOLUTE STANTARDS

-Many financial analysts and lenders use “ideal” or rule of thumb measures for key
financial ratios.
-Are those that become generally recognized as becoming desirable regardless of the
type of a company, the time, stage of the business cycle or objectives of the analysts.
- For example: it has been long thought that a current ratio of 2.00:1 is acceptable.

2. PAST PERFORMANCE OF THE COMPANY

- an improvement over the rule-of-thumb method is the comparison of financial
measures or ratios of the same company over a period of time.
-This standard will at least give the analyst some basis for judging whether the measure
or ratio is getting better or worse.
-Helpful in showing possible future trends.

3. INDUSTRY NORMS
- This standard will tell how the company being analyzed compares with other
companies in the same industry
-For example: an average Return on Sales (ROS) of the industry is 8%; in such case
companies below 8% did not perform well.

THREE LIMITATIONS:
1. Although two companies seem to be in the same industry, they may not be strictly
comparable.
 2. Most large companies operate in more than one industry.
3. Companies in the same industry with similar operations use different accounting
procedures.

4. BUDGETED STANDARDS
-a budget, ratios developed from actual performance can be compared to planned
ratios in the budget in order to determine the degree of accomplishment.

TOOLS AND TECHNIQUES

For Short Term Decision Making:

The tools of financial analysis are intended to show relationships and changes:

1. HORIZONTAL ANALYSIS
- it enables one to draw a picture on what changes are taking place in the financial
activities of an enterprise.
- Is a comparative analysis which shows the increases and decreases, in absolute
amounts and in percentages, of financial data for two given periods
- The increase or decrease, specifically if material in amount, will trigger an
inquisition from management to determine whether the changes is good for the
company and what is the reason for the change.

a. Comparative Statements
-shows the increases and/ or decreases of account balances and their
corresponding percentages

b. Trend Ratios
- supplement the comparative statements, showing the behaviour of financial data
for successive periods

2. VERTICAL ANALYSIS
-only one set of financial statement is used
-involves the percentage changes to bring out the quantitative relationships existing
among different items to the total in a single statement.
-It shows the relative importance of an item in relation to other items and to a total.
-It sets a total figure in the statement equal to 100% and computes the percentage
of each component of the figure(this figure would be total assets or total liabilities
and stockholders’ equity in the case of balance sheet and revenues or sales in the
case of the income statement.
 -used in the importance (proportion) of individual items to the specific base item
which is the total revenue (in the income statement) and the total assets (in the
balance sheet)
-It shows changes in the relative size (importance) of each item to the specific base
and whether it is good or not depends on its effect on the financial position or
performance of the business.

a. Common size statement

- a statement wherein each item is expressed in terms of a percentage of a
common base number.

b. Financial Ratio
- shows the significant between items in the financial statements expressed in
mathematical form.

Common Types of Ratios

1. Profitability Ratios-designed to measure the success of the firm in generating
profit
2. Liquidity Ratios- measure the firm’s ability to meet the current obligations as
they fall due .
3. Investibility Ratios- measure the desirability of the shares of a company as an
investment outlet
4. Stability Ratios- measure the firm’s ability to meet its long-term commitments
when they fall due.

RATIO ANALYSIS

1. LIQUIDITY RATIOS
 Measure the amount of cash or investments that can be converted to cash in order to pay
expenses, bills and other obligations as they come due
 The ratios that relate to this goal all have to do with working capital or some part of it, because
it is out of working capital that debts are pad as they mature.
 TWO DIMENSIONS TO PROPER EVALUATE LIQUIDITY ARE:
a. The time necessary to convert the assets into money
b. The degree of certainty associated with the conversion ratio for the assets

CURRENT RATIO- a test of CURRENT ASSETS It indicates the ability to pay

the company’s ability to meet CURRENT LIABILITIES current obligations
its short term obligation. It
shows the strength of those  Too high: Too low-may lead to insolvency
things owed to the company a. Too much idle cash
relative to those things that b. Overextended accounts receivable Too high-inefficient use of capita
the company owed. c. Excessive inventories (current assets generally have th
d. Not maximizing the use of current lowest return)
borrowing power
 Too low (below 1:1)
a. Overavailment of suppliers’ credit
b. Funding of fixed assets through short
term loans
c. Financing repayment of debts through
profits from operations
d. Underinvestment in accounts receivable
and inventories

ACID TEST RATIO-serves a

more rigid test or a refined It indicates the ability to pay
version of the current ratio. It QUICK ASSETS current obligations from the mor
uses only highly liquid assets CURRENT LIABILITIES liquid current assets.
such as cash, marketable
 QUICK ASSETS= CURRENT ASSETS-INVENTORY
securities and trade
receivables
Inventories-excluded in the
computation for these may
not be sold quickly
Prepaid expense-excluded in
the computation, as these
will not in fact be converted
to cash

TURNOVER OF CASH RATIO It measures the adequacy of the

NET SALES company’s working capital, whic
WORKING CAPITAL is required to pay bills and to
finance sales.
 WORKING CAPITAL=CURRENT ASSETS-CURRENT LIABILITIES

 LOW-means that the company has funds tied

up in short term, low yielding assets, and can
get by with less cash
 HIGH- means an inability to pay company
bills.

TRADE/ACCOUNT RECIVABLES X 360 It measures the number of days

DAILY RECIEVABLE OR NET SALES the receivable were outstanding
AVERAGE COLLECTION or the average time it turned int
PERIOD days cash during the period
  A very low collection period might suggest:
a. An excessively restricted credit policy
b. An efficient credit and collection
department
c. Good profitability and financial position
of customers
 A very high collection period might suggest:
a. A liberal credit policy
b. An inefficient collection period
c. Poor credit standards
d. Financial difficulties of customers

INVENTORY X 360
COST OF GOODS SOLD

Days It provides the number of days o

DAYS INVENTORY sales that could be made from
The inventory level depends on the nature of the existing inventory.
business and the seasonality of the demand for the
company’s product. Other attributes are as follows:
a. Expectation for increased demand the
following year
b. Poor business for the year just passed
c. Difficulty in sourcing raw materials
d. Anticipation of a price hike in raw materials
e. Problems in production

2. PROFITABILITY RATIOS
 A company’s long-run survival depends on its being able to earn a satisfactory income.
 An evaluation of past earning power may give the investor and creditor a better
understanding for decision making.
 Measure and help control income.

NET SALES/ REVENUE NETS SALES/REVENUE CURRENT YEAR-NET SALES/REVENUE PREVIOUS YEAR X It measures the
100 increase or decrease
GROWTH NET SALES/REVENUE PREVIOUS YEAR
-shows the increase or of sales.
decrease in sales/revenue from %

year to year.

GROSS PROFIT MARGIN- It indicates the gross

indicates if the average mark- GROSS PROFIT X 100 margin per peso of
up on the goods is sufficient to SALES sales. Used in
cover expenses and ensure a % determining the
reasonable income. adequacy of gross
margin to cover
operating expenses
and provide desired
profit.

OPERATING PROFIT MARGIN- OPERATING PROFIT X 100 It indicates the portion

reflects the ability of the SALES of sales is absorbed by
company to generate income operating cost.
from operations after all costs
and expenses arising from
operations are met.

NET PROFIT MARGIN OR .

RETURN ON SALES (ROS) NET INCOME X 100
-this ratio measures the overall SALES
profitability
%
 A low rate of return on sales is not necessarily bad if
your industry operates on low margins and high volume

 A high rate is usually good if other things are in line- if

payments on debt are kept up, assets are well-
maintained and replaced as needed, and other
expenses are not deferred

RETURN ON INVESTMENT- NET INCOME .

Shows the relationship TANGIBLE NET WORTH/SHAREHOLDER’S EQUITY
between net income and the
capital invested by owner’s of %
the business. It measures how
much was earned for peso  Low return:
invested by owners. Means that another investment may be better. It could indicate
that management is inefficient or that the company is too
conservative and not earning up to its potential.

 High rate:
Indicates that the borrowing may be the source of much of the
capitalization, that management is extremely efficient

RETURN ON ASSETS- NET INCOME It indicates the

measures the net earnings TOTAL ASSETS profitability in the use
before taxes that is generated of assets.
by the assets of the business %

LOW RATIO: the

RETURN ON EQUITY- measures NET INCOME owners or investors
the return on the stockholders’ SHAREHOLDER’S EQUITY could have made
investment. It indicates how more money investing
well management is utilizing NET PROFIT MARGIN X ASSET TURNOVER X EQUITY in something else.
the owners’ investment. MULTIPLIER HIGH RATIO: Means
management has
NET INCOME X NET SALES X TOTAL ASSETS done well
NET SALES TOTAL ASSETS TOTAL EQUITY

LOW: the
EARNINGS PER SHARE RATIO management is not
OR BOOK VALUE RATIO- NET EARNINGS performing well with
measures management’s NUMBER OF COMMON SHARES OUTSTANDING regard to earnings
success in achieving profits for It may be due to
the owners. Php/ $ sluggish sales or high
This is the amount available to costs and/or a large
the common shareholder after number of common
the payment of all charges and shares outstanding
taxes for the accounting period HIGH: means the sock
has a high rate of
return.
Such stock will
generally sell at a
higher multiple of its
book value than a
stock with a low rate
of return.

PRICE/EARNINGS RATIO-
measures how much the MARKET PRICE PER SHARE
investors are willing to pay per EARNINGS PER SHARE
peso/dollar of reported profits
TIMES

 LOW: means the investors are not willing to pay very

much for a share of stock(market perception that the
company will have minimal future earnings growth)
The potential shareholders consider the company to be
risky.
 However,if an investor wants this stock and believes it
will grow, the lower the ratio the better for that
investor,
A low ratio could also mean that a good market has not
been developed for this stock.
 HIGH: means the investors believe that the company
has a high future earnings growth

This ratio can provide an indication of what

theinvestors think about the corporation-its
current,past and future performance

CAPITALIZATION RATE-
measures the rate of return
that the market demands for EARNINGS PER SHARE
the corporation. MARKET PRICE PER SHARE
As the price/earnings ratio
increases, the capitalization %
rate decreases.Reciprocal of LOW: means the investors don’t demand a very high return on
P/E ratio. their money because they consider the corporation to be a
good investment.
HIGH: means the investors want a high return for each
peso/dollar invested. In other words it takes a large payoff to
attract investors.

3. SOLVENCY RATIOS
 Refers to the ability to meet the interest and repayment schedules associated with
debts.
 It enables to point out early whether the company is on the road of bankruptcy.

DEBT/EQUITY RATIO-serves as TOTAL NET WORTH-INTANGIBLE ASSETS = TANGIBLE NET WORTH Measures the
indicator of a corporation’s proportion of
debt paying ability because the TOTAL LIABILITIES OR TOTAL LIABILITIES borrowed capital to
TANGIBLE NET WORTH OWNER’S EQUITY invested capital
ownership’s fund represents a
buffer protecting a creditor %
from loss. Since debts can only LOWER IS SAFER
be repaid with cash, the analyst  The increasing amount of debts in a company’s capital
should determine the extent to structure is thought to be risky.
which debt-to-equity ratio  The larger the debt-to-equity ratio, the more fixed
reflects the company’s cash obligations the company has and so the riskier the
availability. situation.
 It is useful in determining whether cash from external
sources will be made available to company, to the extent
that suppliers of cash( banks,bondholders,equity
holders) rely on this ratio in determining how to invest in
their cash.

EQUITY/DEBT RATIO OWNER’S EQUITY It indicates the margin

TOTAL ASSETS of safety to creditors

TIMES INTEREST EARNED-

measures the extent that EARNINGS BEFORE INTEEST AND TAXES(EBIT)
operating income can decline INTEREST
before the firm is unable to
meet its annual interest TIMES
charges.
LOW: means a low margin of safety. The company have difficulty
borrowing

HIGH: means the company probably has the borrowing capacity

SUNRISE
CORPORATION
Balance Sheet

LIABILITIES AND
ASSETS OWNER'S EQUITY

2007 2006 2007 2

P 138, CURRENT
Cash P 155,750 500 LIABILITIES:
Accounts Receivable 25,000 3,000 Accounts payable P1,000 P5
Supplies 4,500 700 Loans payable 25,000 50
Total Current Assets 185,250 142,200 Rent Payable 10,000
 Utilities payable 1,500 5
Total Current
Property, Plant and Equipment Liabilities 37,500 55
Cars, net of Accum. Dep. 290,000 320,000
Equipment, net of Accum. Dep. 41,500 29,000 Owner's Equity:
Furniture & Fixtures, net of Accum.
Dep. 22,000 23,500 Sylverio, Capital 501,250 45
Total PPE 353,500 372,500
TOTAL ASSETS P538,750 P514,700 TOTAL L & OE P538,750 P51

SUNRISE
CORPORATION
Income Statement

REVENUES EARNED: 2007 2006

P
Service Fees Income P 455,250 364,200
LESS OPERATING EXPENSES:
Rent Exp. 120,000 P108,000
Salary Exp. 90,000 76,000
Gas & Oil exp. 46,250 35,500
Dep. Exp. 34,000 32,500
Utilities Exp. 19,000 15,500
Repair Exp. 11,500 10,000
Supplies exp. 4,330 7,500
325,350 285,000
PROFIT 129,900 79,200

FINANCIAL PLANNING

COST-VOLUME-PROFIT (CVP) ANALYSIS

Breakeven Point Sales Volume (BEPSV) = Fixed Cost (and Expenses)

Contribution Margin per Unit

Where:
CMU=USP-UVC

Breakeven Point Peso Sales (BEPPS) = Fixed Cost (and Expenses)

Contribution Margin Percentage
 Where:
CMP=CMU/USP

Example: Fixed Costs and Expenses amount P80,000. Unit selling price is P40 and unit variable
costs and expenses amount to P30.

Financial planning- refers to the process of determining the best uses of the financial resources
of an organization to attain its predetermined objectives and the procurement of the required
funds at the least cost.

THE FINANCIAL PLANNING PROCESS

1. Analyze the current financial statements of a company.

- It answers the question “where are we now?”
- This is done to detect areas of strengths and weaknesses as indicated by the
measures of liquidity, profitability and stability.

2. Interpret historical data

- It answers the question “how did we get here?”
- This step reveals the causes of current financial stability or difficulty such as
sufficiency or insufficiency of funds inflows from operations, inability to plough back
earnings by declaring the greater portion of annual net income as dividends and
unprofitable operations of some sub-units.

3. Evaluate the different alternatives and choose the best.

- It answers the question “where do we want to go?”
- This requires financial projections such as estimates of cash flows, revenues, costs
and expenses and the resulting financial ratios

CORPORATE PLANNING
- Is a formal, systematic, managerial process, organized by responsibility, time and
information, to ensure the operational planning, project planning and strategic
planning are carried out regularly to enable top management to direct and control
the future of the enterprise.

BUDGETING
- Is the process of translating a plan in quantitative terms

BUDGET
-is a formal statement of a planned course of action expressed in quantitative terms.
 OBJECTIVES OF BUDGETING

1. Planning
- Financial plans of the different sub-units are prepared geared towards the
attainment of the company’s predetermined objectives

2. Coordination
- Budgeting brings harmony and synchronized operations for the different levels of
management

3. Control
- Budgeting provides management with the yardstick in evaluating performance.

BUDGETARY CONTROL
- Refers to the use of budgets and budgetary reports to coordinate, evaluate and
control day-to day operations to attain the goals specified by the budget.

MASTER BUDGET
- Refers to the consolidated budgets of the different sub-units (departments,
branches and sections)

C CORPORATION
CASH BUDGET
For 20XX

FOR THE
  FIRST SECOND THIRD FOURTH YEAR
Cash from Operations:          
Estimates of collection on
sales          
Sales on account P 9,000 P 8,000 P10,000 P7,500 P34,500
Cash Sales 4,000 6,000 5,0 18,
 3,500 00 500
12 12, 53,
12,000
TOTAL ,500 16,000 500 000
Estimates of disbursements          
4,0 29,
9,000
Purchases 9,500 7,000 00 500
2,6 16,
4,500
Operating Expenses 6,000 3,700 00 800
15 6,6 46,
13,500
TOTAL ,500 10,700 00 300
Net Cash flow from (3, 5,9 6,
(1,500)
operations 000) 5,300 00 700
(7, (3,5 (19,5
(5,000)
Payment-Equipment 500) (3,500) 00) 00)
(1, (8 (3,6
(1,000)
Interest expense on loans 000) (800) 00) 00)
Net Cash flows before (11, 1,6 (16,4
(7,500)
financing 500) (1,000) 00 00)

SOURCES OF CAPITAL

The 2 sources of capital in finance:

1. EQUITY CAPITAL
- Refers to the financial resources provided by owners of the business
- These are capital from all investments made (initial and additional) plus the earnings
retained in the business
- CORPORATION: equity of the owners is called stockholders’ equity (consists of the
payment of the stockholders for their shares of stock, increased by additional
issuances of shares of stocks and income retained in business; decreased by
dividends paid to stockholders

2. BORROWED CAPITAL
- Refers to capital acquired that gives rise to liability or to a debtor-creditor
relationship
- Ways of acquiring borrowed capital
1. Buying property, equipment, raw materials and availing of services on credit
2. Loans from financial intermediaries
3. Issuance of commercial papers and bonds
4. Advances from affiliate companies and officers
5. Accounts and notes receivable discounting

FINANCIAL PLANNING MODELS:

 1. SIMPLE PLANNING MODEL

2. PERCENTAGE OF SALES APPROACH

- An extended version of the simple model,
- A financial planning method in which accounts are varied depending on a firm’s
predicted sales level.
- There are those that vary directly with sales and those that do not.

FINANCIAL PLANNING MODEL: THE INGREDIENTS/ ELEMENTS

1. Sales Forecast
- Determine the growth rate
- Driver, most pther values will be calculated based on it.

2. Pro-Forma Statements
- “As a matter of form”
- A financial plan will have a forecast balance sheet, income statement and
statement of cash flows.
- Financial statements are the form we use to summarize the different events
projected.

3. Asset Requirements
- The plan will describe projected capital spending
- Projected growth will make changes in our balance sheet.

4. Financial Requirements
- Plan will include a section about the necessary financing arrangements
- Discuss dividend policy, Debt Policy
- Policy on raising funds

5. The Plug
- Some new amount of financing will often be necessary because projected total
assets will exceed projected total liabilities and equity.
- It is the designated sources and sources of financial planning needed to deal wth
any short fall or surplus.

6. Economic Assumptions
- State explicitly the economic environment

FINANCIAL LEVERAGE
 - The financial advantage derived from having additional funds (use of borrowed
capital) considering the cost involves.
- It arises from the use of borrowed capital to enhance earnings per share and rate of
return on owner’s equity.

ILLUSTRATIVE EXAMPLE:
DY Corporation realizes income of P800,000 before interest and income taxes. Its
balance sheet shows:
Assets= P 1,500,000
Liabilities= P200,000
SHE= P1,300,000

There are 10,0000 shares outstanding, par value of P100 per share. The company is
evaluating a project proposal requiring additional capital of P500,000 so as to
increase its operating income by P200,000.
Two alternative solutions have been presented:
1. Borrow P500,000 from a bank at 18%
2. Issue additional 2,500 shares of capital stock at the market price of P200 per
share
Tax rate is 32%
Compute for the Cost of Capital, Tax Benefit
Solution:
ALTERNATIVE 1 ALTERNATIVE 2
Income before the project
Income derived from the
project
TOTAL
Less: interest expense
Income before tax
Less: income tax
Income after tax
EPS
ROE

ROSENGARTEN CORPORATION
Income
Statement
(in thousands)

Sales $ 1,000
80
Costs 0
20
Taxable Income 0
 6
Taxes (34%) 8
13
Net Income 2

Dividends $44
additional to retained
earnings $88

ROSENGARTEN CORPORATION
Balance Sheet
(in thousands)

ASSETS LIABILITIES AND OWNER'S EQUITY

Current Assets: Current liabilities:
Cash $160 Accounts Payable $300
Accounts Receivable 440 Notes Payable 100
Inventory 600 Total $400
Total $1200
Fixed Assets: Long Term Debt $800
Net plant and Equipment $1,800
Owner's Equity
Common Stock and
TOTAL ASSETS $3,000 Paid-in Surplus $800
Retained earnings 1,000
Total: $1800
TOTAL LIABILITIES
AND OWNER'S
EQUITY $3000