Post on 14-Nov-2014
description
PurposeThe financial markets contributed to some
pressures with highly volatile interest rates during the beginning of the last decade.
The main objective of this study is to investigate how large U.S. Corporations have responded to the challenges in terms of financial analysis tools regarding working capital, capital budgeting and sales forcasting techniques.
Literature ReviewThe study has mainly focussed on capital
budgeting process,use of multiple measures of projects,relationship between methods of controlling capital investment,measures of divisional performance and level of organisational autonomy.
The survey investigated wide variety of issues ranging from traditional method used in capital budgeting management areas to analytical techniques employed in the areas of dividend policy,mergers ,acquisitions and cost of capital.
It is an extension of literature on current practices of financial management among large US corporation
Survey Procedures CFO of corporate listed in Fortune Magazine Directory used 1990 as entry
point
Proved to be representative of a board cross section Questionnaire was completed by vice president of finance -27.4% , Assistant
Treasurer -16.3% and treasurer – 15.6% Respondents classified the usage of variety of financial technics into three
catogories.
A) Frequent – Technique is regularly employed as a standard operating procedure
B) Seldom – Technique is not regularly used but may be employed at the discretion
C) Never - technique is not used.
Same questionnaire was conducted in 1980 and 1985
Cricitism about the corporate surveys raised by Aggrawal , Rappaport and Others.
General Financial Management TechniqueThe Coefficient of Variation (CV) of all above techniques is
9%, 43.5%, 26.2%, 13.2% respectivelyCash budget is a schedule showing cash flow (receipts,
disbursements and cash balance)Important for the all the firms.It shows future cash flow and do forecasted financial
statement .almost all (94%) firms use it, therefore its CV is only 9%. Only 38% of the firm uses breakeven analysis because of its
limitations. Higher fixed cost does not mean it is bad all the time.
Higher fixed cost cause lower variable cost. But break-even analysis do not explain this changes properly so CV is high i.e. 43.5%
Leverage affect the level and variability of the firms after-tax earning and hence firm`s overall risk and return.
So, financial and operating leverage are used moderately (40 to 100 percentages and CV 26%).
Cash flow method are used by almost 90% of firms i. e, CV is variation of use of cash flow is only 13.6%
Cash flow statement shows the cash coming from the operation, cash used in the investing activities and financing activities
It gives vital information not only about the company’s performance but also about its major activities during the year.
A cash flow statement is helpful for planning and managing future financial commitments.
Industry1991 sample size proj. cash budget Break-even analysis fin. & oper. Lever.
Source and use of capital
Mining, crude oil production 5 100% 40% 80% 100%
Food, Beverage, tobacco 14 86 43 77 79
Textile, apparel, vinyl floor 6 100 67 83 83
Paper 12 92 36 67 100
Publishing 7 100 17 86 100
Chemicals 17 94 38 69 94
Petroleum Refining 14 100 64 50 93
Rubber and Plastic 3 100 33 100 100
Glass, Concrete, Abrasives 5 80 20 40 100
Metal Manufacturing 8 86 33 71 100
Metal Product Febrication 5 100 40 60 100
Electric and Appliances 14 100 36 71 62
Ship building, RR, Trans. Equipment 4 100 25 50 67
Scientific and Photograpchic Equipments 5 80 40 60 80
Motor Vehicles 6 100 40 60 100
Aerospace 4 75 50 100 100
Pharmaceuticals, Soap, Cosmetic 6 100 0 50 83
Office Equipment and Computer 5 100 40 40 100
Number of Responses 149 144 145 144
Coefficient of Variation(CV) 9 43.5 26.2 13.6
1991 Composite 94 37.5 66.9 89.6
1991 Level of Ch-square Significance 0.78 0.73 0.79 0.21
1985 Composite 95.2 46.5 63.8 91.2
Survey Result:Working Capital ManagementSurvey area Cash
ManagementSecurity Portfolio
Accounts Receivable
Inventory
Models Cash budget - - EOQ
Techniques -Managing collections-Control of disbursements-synchronization of cash flows
-investment in securities with portfolios-CAPM, arbitrage pricing theory, modern portfolio theory
-control of receivables through cr policy elements (cr std,cr terms,cr period,cash discount,discount period)
Inventory control through ABC analysis, Min.-max.analysis,Red line,JIT etc
Survey Result:Working Capital Management..Survey area
Cash Management Security Portfolio Accounts Receivable
Inventory
High usage
Mining,crude oil,Ship building,trans.equipments,Aerospace,Off.equip.
Food beverage,aerospace
Metal manufacturing,office equipment
Aerospace,office equipment
Low usage
Publishing,Food beverage,Industrial equipment
Industrial farm,textiles,paper
Metal production,fabrication,shipbuilding
Publishing,rubber,pharmaceuticals
No usage Publishing,metal fabric.,electric,motor,pharmacy,off.eq
Shipbuilding,transportation
Average usage %
70 20 59 59
CV 28 96 29 49
Significance
.16 .20 .83 .46
Survey Result:Working Capital Management..Components
Cash Management Security Portfolio
Accounts Receivable
Inventory
Conclusion
viz.1991 composite
More than 2/3rd of the companies found to use this model
Usage is very low
Average usage
Average usage
1. Most big US companies were using cash management tech. the most & Sec. portfolio the least while other models were used in average
viz.CV There is consistency in among the companies for usage
Inconsistent usage
consistency
Average
viz.chi-square
There is not much significance in industry data difference
Not much significance
Significance
Average
2.Trend of using Accounts Receivable tools highly increased at 10yrs period
Trend of usage(1980 vs 1990)
Increase not significant (i.e.14%)
NA Significant increase (500%)
Not significant (3%)
Industry Cash Management Security portfolioAccound Receivable Models
Inventory Management Models
Mining, crude oil production 100% 20% 60% 60%
Food, Beverage, tobacco 46 83 43 46
Textile, apparel, vinyl floor 67 17 67 50
Paper 67 17 67 54
Publishing 33 0 67 33
Chemicals 75 27 67 69
Petroleum Refining 86 31 57 43
Rubber and Plastic 67 33 67 33
Glass, Concrete, Abrasives 60 20 40 60
Metal Manufacturing 83 0 100 50
Metal Product Febrication 60 0 25 75
Electric and Appliances 86 36 64 79
Ship building, RR, Trans. Equipment 100 33 33 0
Scientific and Photograpchic Equipments 80 50 50 60
Motor Vehicles 50 0 50 50
Aerospace 100 75 75 100
Pharmaceuticals, Soap, Cosmetic 67 0 50 33
Office Equipment and Computer 100 0 80 100
Industrial and Farm Equipment 46 10 55 64
Number of Responses 145 138 143 143
Coefficient of Variation(CV) 28.2 96.7 29.6 49.6
1991 Composite 70.3 20.3 59.4 59.4
1991 Level of Ch-square Significance 0.16 0.207 0.83 0.46
1985 Composite 71 23.5 53.8 60.3
1982 Composite 61.7 N.A. 10.1 56
Analysis of Capital Budgeting TechniqueThe table below depict the usage of capital budget
techniques like ARR, PBP, NPV, IRR and NPV or IRR. The CV of above techniques is 50%, 29.7%, 24.7%, 28%, 20.3% respectively. Lower CV indicates the greater use of the techniques and vice versa.
Use of Average ROR decreased from 59% to 46% because it does not consider time value of money and uses profit rather than cash flow.
The uses of Payback as capital budgeting technique is also decreasing from nearly 76% to 63%.
It also do not consider time value of money and profitability.
It ignore cash flow after payback period.
The discounting techniques like NPV, IRR and NPV or IRR became popular.
Net Present Value (NPV) and Internal Rate of Return (IRR) have become more widespread and have significantly increased during the decade.
85% of firms use NPV while 82% calculate IRR & 91% of the firms use either of two.
NPV method takes all cash flow into account.NPV is only capital budgeting technique that is
always consistent with shareholders wealth maximization.
Industry Average ROR Payback NPV(DCF) IRR 1991 NPV or IRR 1991
Mining, Crude Oil Production 50 75 100 100 100
Food, Beverage, Tobacco 62 71 86 70 93
Textiles, Apparel, Vinyl Floor 60 83 83 33 83
Paper 58 75 83 92 92
Publishing 43 57 100 100 100
Chemicals 63 77 88 88 88
Petroleum Refining 36 50 86 93 100
Rubber & Plastics 67 67 100 100 100
Glass, Concrete, Abrasivers 40 60 80 100 100
Metal Manufacturing 0 50 88 88 88
Metal Products Fabrication 40 60 100 100 100
Electric & Appliances 43 50 86 79 86
Shipbuilding, RR, Trans.Equipment 25 25 25 25 25
Scientific & Photographic Eqipment 80 60 100 100 100
Motor Vehicles 0 33 50 67 67
Aerospace 75 100 75 100 100
Pharmaceuticals, Soap, Cosmetic 50 67 100 67 100
Office Equpment & Computers 20 40 50 60 80
Industrial & Farm Equipment 36 82 91 82 100
Number of Responses 144 150 150 150 151
Coefficient of Variation(CV) 50 29.7 24.7 28 20.3
1991 Composite 45.8a 63.3a 84.7 81.8b 90.7c
1991 Level of Chi-square Significance 0.27 0.55 0.082 0.018 0.016
1985 Composite 59.3 75.9 82.8 79.6 89.5
1980 Composite 59.1 79.9 68.1 66.4 86.2
Use of Future market for risk hedgingDipsh n Kiran plz….
Industry Raw Material Output Prices Foreign Exchange
Mining, Crude Oil Production 20 40 40
Food, Beverage, Tobacco 54 33 46
Textiles, Apparel, Vinyl Floor 33 0 50
Paper 17 8 33
Publishing 0 0 43
Chemicals 44 25 59
Petroleum Refining 79 64 50
Rubber & Plastics 0 0 67
Glass, Concrete, Abrasivers 0 0 40
Metal Manufacturing 13 0 13
Metal Products Fabrication 40 25 40
Electric & Appliances 36 14 71
Shipbuilding, RR, Trans.Equipment 25 0 50
Scientific & Photographic Eqipment 0 0 80
Motor Vehicles 40 0 17
Aerospace 50 0 75
Pharmaceuticals, Soap, Cosmetic 20 20 67
Office Equpment & Computers 20 2 60
Industrial & Farm Equipment 20 10 82
Number of Responses 146 143 150
Coefficient of Variation(CV) 79 130.2 37.6
1991 Composite 32.2 18.2 52
1991 Level of Chi-square Significance 0.019 0.008 0.3
1985 Composite 24.4 13.1 51
Project Analysis
Industry Expected Return Variance of Return Correlation of Returns
Mining, Crude Oil Production 100 40 50
Food, Beverage, Tobacco 71 15 39
Textiles, Apparel, Vinyl Floor 100 0 67
Paper 75 17 58
Publishing 100 17 33
Chemicals 82 33 40
Petroleum Refining 92 42 25
Rubber & Plastics 67 67 67
Glass, Concrete, Abrasivers 60 0 0
Metal Manufacturing 86 17 43
Metal Products Fabrication 80 20 60
Electric & Appliances 71 43 50
Shipbuilding, RR, Trans.Equipment 100 25 50
Scientific & Photographic Eqipment 100 20 80
Motor Vehicles 80 20 40
Aerospace 100 0 50
Pharmaceuticals, Soap, Cosmetic 67 0 60
Office Equpment & Computers 80 0 0
Industrial & Farm Equipment 82 0 27
Number of Responses 148 140 140
Coefficient of Variation(CV) 16 94.3 47.7
1991 Composite 82.4 21.4 42.9
1991 Level of Chi-square Significance 0.75 0.196 0.48
1985 Composite 88.7 21.2 44.7
ConclusionPopular financial techniques: Cash budget, sources and uses of funds, NPV, IRR,
project expected return and sale forecasting models.NPV and IRR is emerging as most popular financial
tool.Increase of Future market analysis to control
borrowing cost as well as raw material prices. Avg. ROR and payback period are decliningAerospace industry – consistent user of financial
analysis techniques .Shipbuilding, railroad, and transportation equipment
industry- least user of financial analysis techniques.