Financial Management for Decision Makers PDF
Preview Financial Management for Decision Makers
Financial Management for Decision Makers Peter Atrill Sixth Edition Financial Management for Decision Makers Visit the Financial Management for Decision Makers, sixth edition, Companion Website at www.pearsoned.co.uk/atrill to find valuable student learning material including: ■ Multiple choice questions and fill in the blank questions to test your learning ■ Additional case-studies with solutions ■ Revision questions with solutions to help you check your understanding ■ Extensive links to valuable resources on the web ■ Flashcards to test your knowledge of key terms and definitions ■ An online glossary to explain key terms We work with leading authors to develop the strongest educational materials in business and finance, bringing cutting-edge thinking and best learning practice to a global market. Under a range of well-known imprints, including Financial Times Prentice Hall, we craft high-quality print and electronic publications which help readers to understand and apply their content, whether studying or at work. To find out more about the complete range of our publishing, please visit us on the World Wide Web at: www.pearsoned.co.uk Financial Management for Decision Makers Peter Atrill 6th Edition Pearson Education Limited Edinburgh Gate Harlow Essex CM20 2JE England and Associated Companies throughout the world Visit us on the World Wide Web at: www.pearsoned.co.uk First published 1997 Second edition published 2000 Third edition published 2003 Fourth edition published 2006 Fifth edition published 2009 Sixth edition published 2012 © Pearson Education Limited 2012 The right of Peter Atrill to be identifi ed as author of this work has been asserted by him in accordance with the Copyright, Designs and Patents Act 1988. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without either the prior written permission of the publisher or a licence permitting restricted copying in the United Kingdom issued by the Copyright Licensing Agency Ltd, Saffron House, 6–10 Kirby Street, London EC1N 8TS. All trademarks used herein are the property of their respective owners. The use of any trademark in this text does not vest in the author or publisher any trademark ownership rights in such trademarks, nor does the use of such trademarks imply any affi liation with or endorsement of this book by such owners. Pearson Education is not responsible for the content of third party internet sites. ISBN: 978-0-273-75693-4 British Library Cataloguing-in-Publication Data A catalogue record for this book is available from the British Library Library of Congress Cataloging-in-Publication Data A catalog record for this book is available from the Library of Congress 10 9 8 7 6 5 4 3 2 1 16 15 14 13 12 Typeset in 9.5/12.5pt Stone Serif by 35 Printed and bound by Rotolito Lombarda, Italy For Simon and Helen Contents Preface xiv Acknowledgements xvi How to use this book xix Guided tour of the book xxii Guided tour of the Companion Website xxiv 1 The world of financial management 1 Introduction 1 Learning outcomes 1 The finance function 2 Structure of the book 4 Modern financial management 4 Why do businesses exist? 6 Balancing risk and return 12 Behaving ethically 14 Protecting shareholders’ interests 17 Shareholder involvement 20 Summary 26 Key terms 27 References 27 Further reading 28 Review questions 29 2 Financial planning 31 Introduction 31 Learning outcomes 31 Planning for the future 32 The role of projected financial statements 33 Preparing projected financial statements 35 Preparing the projected statements: a worked example 36 Projected cash flow statement 37 Projected income statement 41 Projected statement of financial position (balance sheet) 43 Projected financial statements and decision making 44 Per-cent-of-sales method 45 Long-term cash flow projections 49 Taking account of risk 54 CONTENTS viii Summary 58 Key terms 59 Further reading 59 Review questions 60 Exercises 60 3 Analysing and interpreting financial statements 67 Introduction 67 Learning outcomes 67 Financial ratios 68 Financial ratio classifications 69 The need for comparison 70 Calculating the ratios 71 A brief overview 73 Profitability 74 Efficiency 81 Relationship between profitability and efficiency 87 Liquidity 88 Financial gearing 91 Investment ratios 95 Financial ratios and the problem of overtrading 102 Trend analysis 103 Using ratios to predict financial failure 104 Limitations of ratio analysis 109 Summary 113 Key terms 114 References 115 Further reading 115 Review questions 116 Exercises 116 4 Making capital investment decisions 123 Introduction 123 Learning outcomes 123 The nature of investment decisions 124 Investment appraisal methods 125 Accounting rate of return (ARR) 127 Payback period (PP) 131 Net present value (NPV) 136 Why NPV is better 144 Internal rate of return (IRR) 145 Some practical points 151 Investment appraisal in practice 155 Investment appraisal and strategic planning 157 Managing investment projects 158 Investment decisions and human behaviour 163 CONTENTS ix Summary 164 Key terms 166 Further reading 166 Review questions 167 Exercises 167 5 Making capital investment decisions: further issues 173 Introduction 173 Learning outcomes 173 Investment decisions when funds are limited 174 Comparing projects with unequal lives 177 The ability to delay 181 The problem of inflation 181 The problem of risk 183 Sensitivity analysis 183 Scenario analysis 190 Simulations 190 Risk preferences of investors 192 Risk-adjusted discount rate 195 Expected net present value 197 Event tree diagrams 200 Risk and the standard deviation 203 The standard deviation and the normal distribution 207 The expected value–standard deviation rule 208 Measuring probabilities 208 Portfolio effects and risk reduction 209 Summary 216 Key terms 218 Further reading 219 Review questions 220 Exercises 220 6 Financing a business 1: sources of finance 225 Introduction 225 Learning outcomes 225 Sources of finance 226 External sources of finance 226 External sources of long-term finance 227 External sources of short-term finance 247 Long-term versus short-term borrowing 252 Internal sources of finance 253 Internal sources of long-term finance 254 Internal sources of short-term finance 256 CONTENTS x Summary 259 Key terms 261 Further reading 261 Review questions 262 Exercises 262 7 Financing a business 2: raising long-term finance 267 Introduction 267 Learning outcomes 267 The Stock Exchange 268 Stock market efficiency 273 Are the stock markets really efficient? 279 Share issues 282 Long-term finance for the smaller business 289 Business angels 298 Government assistance 301 The Alternative Investment Market (AIM) 301 Amazon.com: a case history 304 Summary 305 Key terms 306 References 306 Further reading 307 Review questions 308 Exercises 308 8 The cost of capital and the capital structure decision 313 Introduction 313 Learning outcomes 313 Cost of capital 314 Weighted average cost of capital (WACC) 329 Specific or average cost of capital? 331 Limitations of the WACC approach 332 Cost of capital – some evidence 333 Financial gearing 334 Degree of financial gearing 338 Gearing and capital structure decisions 339 Constructing a PBIT–EPS indifference chart 344 What determines the level of gearing? 347 The capital structure debate 349 Summary 358 Key terms 359 Reference 360 Further reading 360 Review questions 361 Exercises 361 CONTENTS xi 9 Making distributions to shareholders 369 Introduction 369 Learning outcomes 369 Paying dividends 370 Dividend policies in practice 371 Dividend policy and shareholder wealth 373 The importance of dividends 379 Factors determining the level of dividends 383 Dividend policy and management attitudes: some evidence 387 Dividend smoothing in practice 389 What should managers do? 390 Alternatives to cash dividends 391 Summary 397 Key terms 398 References 398 Further reading 399 Review questions 400 Exercises 400 10 Managing working capital 403 Introduction 403 Learning outcomes 403 What is working capital? 404 The scale of working capital 405 Managing inventories 408 Managing receivables 419 Managing cash 430 Managing trade payables 438 Summary 441 Key terms 443 Further reading 443 Review questions 444 Exercises 444 11 Measuring and managing for shareholder value 449 Introduction 449 Learning outcomes 449 The quest for shareholder value 450 Creating shareholder value 450 The need for new forms of measurement 451 Net present value (NPV) analysis 453 Managing the business with shareholder value analysis 459 Implications of SVA 461 Economic value added (EVA®) 461 EVA® in practice 466 EVA® and SVA compared 468 CONTENTS xii EVA® or SVA? 469 Market value added (MVA) 471 The link between MVA and EVA® 472 Limitations of MVA 473 Total shareholder return 475 Criticisms of the shareholder value approach 478 Measuring the value of future growth 479 Implementing the shareholder value approach 481 Summary 482 Key terms 483 Further reading 483 Review questions 484 Exercises 484 12 Business mergers and share valuation 489 Introduction 489 Learning outcomes 489 Mergers and takeovers 490 Merger and takeover activity 491 The rationale for mergers 491 Forms of purchase consideration 500 Mergers and financial performance 503 Who benefits? 506 Why do mergers occur? 510 Ingredients for successful mergers 511 Rejecting a takeover bid 512 Restructuring a business: divestments and demergers 514 The valuation of shares 516 Choosing a valuation model 528 Summary 529 Key terms 531 References 531 Further reading 531 Review questions 532 Exercises 532 Appendices A Present value table 540 B Annual equivalent factor table 542 C Solutions to self-assessment questions 543 D Solutions to review questions 553 E Solutions to selected exercises 564 Glossary of key terms 587 Index 597 Supporting resources Visit www.pearsoned.co.uk/atrill to find valuable online resources Companion Website for students ■ Multiple choice questions and fill in the blank questions to test your learning ■ Additional case-studies with solutions ■ Revision questions with solutions to help you check your understanding ■ Extensive links to valuable resources on the web ■ Flashcards to test your knowledge of key terms and definitions ■ An online glossary to explain key terms For instructors ■ Complete, downloadable Instructor’s Manual ■ PowerPoint slides Also: The Companion Website provides the following features: ■ Search tool to help locate specific items of content ■ E-mail results and profile tools to send results of quizzes to instructors ■ Online help and support to assist with website usage and troubleshooting For more information please contact your local Pearson Education sales representative or visit www.pearsoned.co.uk/atrill This book has been written for those wishing to achieve a broad understanding of fi nancial management at either undergraduate or postgraduate/post-experience level. It is aimed primarily at students who are not majoring in fi nancial management but who, nevertheless, are studying introductory-level fi nancial management as part of their course in business, management, economics, computing, engineering or some other area. Students who are majoring in fi nancial management should, however, fi nd the book useful as an introduction to the main principles which can serve as a founda- tion for further study. The book should also be suitable for those who are not following a particular course but nevertheless need an understanding of fi nancial management to help them manage their business. As there are several excellent books on fi nancial management already published, you may wonder why another book is needed in this area. A problem with many books is that they are too detailed and demanding to provide a suitable introduction to the subject. They are often around a thousand pages in length and contain mathematical formulae that many fi nd daunting. This book assumes no previous knowledge of fi nan- cial management (although a basic understanding of fi nancial statements is required) and is written in an accessible style. Each topic is introduced carefully and there is a gradual building of knowledge. In addition, mathematical formulae have been kept to a minimum. The book rests on a solid foundation of theory but the main focus throughout is its practical value. It is assumed that readers are primarily concerned with understanding fi nancial management in order to make better fi nancial decisions. The title of the book refl ects this decision-making focus. The book is written in an ‘open learning’ style. That is, it tries to involve you in a way not traditionally found in textbooks. Throughout each chapter there are activ- ities and self-assessment questions for you to attempt. The purpose of these is to help check understanding of the points that are being made and to encourage you to think around particular topics. More detail concerning the nature and use of these activities and self-assessment questions is given in the ‘How to use this book’ section following this preface. The open learning style has been adopted because, I believe, it is more ‘user friendly’. Irrespective of whether you are using the book as part of a taught course or for independent study, the interactive approach employed makes it easier for you to learn. I recognise that most of you will not have studied fi nancial management before and so I have tried to minimise the use of technical jargon. Where technical terminology is unavoidable, I try to provide clear explanations. To help you further, all the key terms are highlighted in the book and then listed at the end of each chapter with a page reference to help you rapidly revise the main concepts. All these key terms are listed alphabetically with a short defi nition in the glossary, which can be found towards the end of the book. Preface
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