Finance

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Finance

• February 9, 2006

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Quiz

• Provide 2 major sources of financing for Clarkson
  Lumber between 1993 and 1995.
• Define whether each is a long term or short
  term form of financing?
• Bonus What was the Return on Assets for
  Clarkson Lumber in 1993, 1994, 1995?

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Finance

• Financial management is the field that addresses
  the issue of obtaining and managing the funds and
  resources to run a business successfully
• Many business failures can be directly linked to
  managerial ignorance of the trends and other
  information hidden inside the financial
  statements

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Prep Questions

• Why has Clarkson Lumber borrowed increasing
  amounts despite its consistent profitability?
• How has Mr. Clarkson met the financing needs of
  the company during the period 1993 through 1995?
• What would Ram Charan think of Clarkson Lumber as
  a business? Be prepared to discuss/present the
  key metrics that would go into Ram's analysis?

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Long Term Capital for Companies

• Commercial Mortgages (low risk, secured by
  buildings and land, little upside for investors)
• Secured Bonds (low risk, secured by specific
  assets, little upside for investors)
• Commercial Leasing (low risk, secured by specific
  assets, no upside)
• Unsecured Bonds (more risk, credit based on track
  record and current debt to equity ratios, some
  upside)
• Unsecured Bank Loans (like unsecured bonds, but
  held by commercial bank(s), no upside)
• High Yield Bonds (higher risk bonds issued by
  companies hoping to improve fundamentals, some
  upside including higher yields and price
  appreciation)
• Preferred Stock (higher risk, but it gets paid a
  preferred dividend, some upside)
• Common Stock (high risk, but has high upside if
  company is successful)
• Venture Capital (highest risk but has highest
  upside if company successful)

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Let Us Review

• Assets Liabilities Equity or
• Current Assets Long Term Assets Current
  Liabilities Long Term Liabilities
• Managing the timing and relationship between
  these components is what Finance people (and
  Finance Departments)do.
• Helping Finance Departments do this is what
  Wall Street wants to do.

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A Closer Look

• Current Assets
• Cash (and securities) are very nice
• Accounts Receivables are sort of nice
• Inventories are actually not that nice at all
• Current Liabilities
• Accounts Payable actually can be kind of nice
  (maybe even nicer than Accounts Receivables)
• Accrued Expenses are often a good sign
• Taxes Payable may mean you are doing good stuff
• Current Portion of Long Term Debt just is

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Working Capital

• Current Assets- Current Liabilities
• A positive number is a must
• Good finance people spend a lot of time making
  sure this is a positive number
• Companies want to collect cash quickly but pay
  out cash slowly

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Managing Working Capital (Current Liabilities)

• Trade Credit (Accounts Payable)
• Better to get than to give
• Non Bank Liabilities (Accrued Expenses)
• Wages Payable
• Taxes Payable
• Bank Loans (revolving credits, secured vs.
  unsecured)
• The best ones are ones that you never touch

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Managing Working Capital (Current Assets)

• Managing Cash (and securities)
• Getting the best risk adjusted return
• Managing Accounts Receivables
• Discounts vs. Profitability
• Sales force management (policies and procedures)
• Managing Inventories
• The smoking gun behind many companys problems
• Less is More
• High Turnover is good (actually its very good)

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A Few Tools in Working Capital

• Current Ratio Current Assets (CA)/Current
  Liabilities (CL)
• Will/Can this thing run out of money ???
• Quick Ratio Current Assets (less
  inventory)/Current Liabilities
• A better judge of the potential to run out of
  money
• Inventory Turnover Cost of Sales/Average
  Inventory
• A high number means good things
• Every dollar invested in Inventory is a
  dollar unavailable for investment in some
  other area of the organization

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Long Term Assets and Long Term Capital

• Generally, long term assets should be financed
  with long term capital.
• Examples of long term assets
• Property (land)
• Plant (factories, stores, offices)
• Equipment (computers, printers, manufacturing
  machines, trucks and cars)
• Patented Technology
• Examples of long term capital (debt and equity)
• Commercial Mortgages
• Long Term Debt (ex Bonds)
• Preferred Stock
• Common Stock
• Owners Equity

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Managing Long Term Capital

• How Risky is the Business?
• Lower risk (established) business tend to use
  debt
• Riskier business tend to use equity
• Predictability of Cash Flow is everything in
  terms of what kind of capital can be /will be
  used.