PAGE 3 AIM To develop knowledge and understanding of financial management methods for analysing the benefits of various sources of finance and capital investment opportunities, and of the application of management accounting techniques for business planning and control. OBJECTIVES On completion of this paper candidates should be able to: • explain the role and purpose of financial management • evaluate the overall management of working capital • evaluate appropriate sources of finance for particular situations • appraise capital investment through the use of appropriate methods • identify and discuss appropriate costing systems and techniques • prepare budgets and use them to control and evaluate organisational performance • understand the basic principles of performance management • critically assess the tools and techniques of financial management and control • demonstrate the knowledge, understanding, skills, abilities and critical evaluation expected in Part 2. POSITION OF THE PAPER IN THE OVERALL SYLLABUS Students must have a thorough knowledge of the material in Paper 1.2 Financial Information for Management and a good knowledge of other Part 1 papers. Financial Management and Control is integrated with other Part 2 papers by providing a management decision framework within which some aspects of the Part 2 syllabus are developed. The effects of capital allowances and corporation tax on capital investment appraisal are examinable. Knowledge gained from Paper 2.3 Business Taxation (UK) will be useful in this respect. Financial Management and Control is developed in Part 3 into advanced study of Performance Management (Paper 3.3) and Strategic Financial Management (Paper 3.7). SYLLABUS CONTENT 1 Financial management objectives (a) The nature, purpose and scope of financial management. (b) The relationship between financial management, management accounting and financial accounting. (c) The relationship of financial objectives and organisational strategy. (d) Problems of multiple stakeholders in financial management and the consequent multiple objectives. (e) Objectives (financial and otherwise) in not-for-profit organisations. 2 The financial management environment (a) Financial intermediation and credit creation. (b) Money and capital markets (i) Domestic and international (ii) Stock markets (both major markets and small firm markets). 3.3 Performance Management 3.7 Strategic Financial Management 2.4 Financial Management and Control 1.2 Financial Information for Management Paper 2.4 Financial Management and Control PAGE 4 (c) The Efficient Markets Hypothesis. (d) Rates of interest and yield curves. (e) The impact of fiscal and monetary policy on business. (f) Regulation of business (for example, pricing restrictions, green policies and corporate governance). 3 Management of working capital (a) The nature and scope of working capital management. (b) Funding requirements for working capital. (c) Working capital needs of different types of business. (d) The relationship of working capital management to business solvency. (e) Management of stock, debtors, short term funds, cash, overdrafts and creditors. (f) Techniques of working capital management (including ratio analysis, EOQ, JIT, credit evaluation, terms of credit, cash discounts, factoring and invoice discounting, debtors cycles, efficient short-term fund investing, cash forecasting and budgets, Miller-Orr model, basic foreign exchange methods, probabilities and risk assessment, terms of trade with creditors). 4 Sources of finance (a) Sources and relative costs (including issue costs) of various types of finance and their suitability to different circumstances and organisations (large and small, listed and unlisted) including: (i) access to funds and the nature of business risk (ii) the nature and importance of internally generated funds (iii) capital markets (types of share capital, new issues, rights issues, loan capital, convertibles, warrants) (iv)the effect of dividend policy on financing needs (v) bank finance (short, medium and long term, including leasing) (vi) trade credit (vii) government sources: grants, regional and national aid schemes and tax incentives. (viii) problems of small company financing (collateral, maturity funding gap, risk) (ix)problems of companies with low initial earnings (R&D, Internet, and other high-technology businesses) (x) venture capital and financial sources particularly suited to the small company (xi)international money and capital markets, including an introduction to international banking and the finance of foreign trade. (b) Requirements of finance (for what purpose, how much and for how long) in relation to business operational and strategic objectives. (c) The importance of the choice of capital structure: equity versus debt and basic analysis of the term profile of funds. (d) Financial gearing and other key financial ratios and analysis of their significance to the organisation. (e) Appropriate sources of finance, taking into account: (i) cost of finance (ii) timing of cash payments (iii) effect on gearing and other ratios (iv)effect on company’s existing investors. 5 Capital investment appraisal (a) Discounted cash flow techniques (i) simple and compound interest (ii) net present value (iii) annuities and perpetuities (iv) internal rate of return (v) future value (vi)nominal interest. (b) Appraisal of domestic capital investment opportunities for profit making and not-for-profit organisations through the use of appropriate methods and techniques (i) the risk / return relationship (ii) return on capital employed (iii) payback (iv)internal rate of return (v) net present value (vi)single and multi-period capital rationing (vii) lease or buy decisions Financial Management and Control (Continued) PAGE 5 Paper 2.4: Financial Management and Control (Continued) (viii) asset replacement using equivalent annual cost . Including (in categories (i)-(viii)) the effects of taxation, inflation, risk and uncertainty(probabilities, sensitivity analysis, simulation). 6 Costing systems and techniques (a) The purpose of costing as an aid to planning, monitoring and control of business activity. (b) Different approaches to costing (c) Costing information requirements and limitations in not-for-profit organisations. (d) Behavioural implications of different costing approaches including performance evaluation. (e) Implications of costing approaches for profit reporting, the pricing of products and internal activities/ services. 7 Standard costing and variance analysis (a) Standard costing (i) determination of standards (ii) identification and calculation of sales variances (including quantity and mix), cost variances (including mix and yield); absorption and marginal approaches (iii) significance and relevance of variances (iv)operating statements (v) interpretation and relevance of variance calculations to business performance. (b) Planning and operational variances. (c) Behavioural implications of standard costing and variance reporting. 8 Budgeting and budgetary control (a) Objectives of budgetary planning and control systems including aspects of behavioural implications. (b) Evaluation of budgetary systems such as fixed and flexible, zero based and incremental, periodic, continuous and activity based. (c) Development, implementation and coordination of budgeting systems: functional, subsidiary and master/ principal budgets (including cash budgeting); budget review. (d) Calculation and cause of variances as aids to controlling performance. (e) Quantitative aids to budgeting and the concepts of correlation, basic time series analysis (seasonality) and forecasting; use of computer based models. (f) Behavioural implications of budgeting and budgetary control. 9 Performance measurement (a) Measurement of productivity, activity, profitability and quality of service (b) Relationship of measure to type of entity and range of measures, both monetary and non-monetary (c) Indices to allow for price and performace changes through time (d) Evaluating performance against objectives and plans, and identifying areas of concern from the infomation produced (e) The impact of cost centres, revenue centres, profit centres and investment centres on management appraisal (f) Difference between business performance and management performance (g) Benchmarking EXCLUDED TOPICS The following topics are specifically excluded from the syllabus: • Calculations involving the derivation of cost of capital in discounting problems. Candidates will always be supplied with an appropriate discount rate. • Calculations relating to Modigliani and Miller propositions. KEY AREAS OF THE SYLLABUS The core of the syllabus is aimed at developing the skills required in supporting managerial decision making. They reflect the core competencies needed for students to satisfy the aim of the paper identified above; The core areas are: • financial management objectives • management of working capital • sources of finance • capital investment appraisal • costing systems • standard costing and variance analysis • budgeting and budgetary control • performance management. Financial Management and Control (Continued) PAGE 6 APPROACH TO EXAMINING THE SYLLABUS The examination is a three hour paper in two sections. Financial management issues will always, but not exclusively, be examined in Section A. The Section A question will typically be a scenario based question. Most of the Section B questions will contain a mix of computation and discursive elements although it is intended that at least one question will be entirely discursive. The balance between computation and discursive elements will remain largely constant from one examination to the next. Number of marks Section A: One compulsory scenario-based question 50 Section B: Choice of 2 from 4 questions (25 marks each) 50 100 ADDITIONAL INFORMATION Present value and annuity tables will be provided in the examination. The Study Guide provides more detailed guidance on the syllabus. RELEVANT TEXTS There are a number of sources from which you can obtain a series of materials written for the ACCA examinations. These are listed below: Foulks Lynch – ACCA's official publisher Contact number: +44 (0)20 8831 9990. Website: www.foulkslynch.com Accountancy Tuition Centre (ATC) International Contact number: +44 (0)141 880 6469. Website: www.ptc-global.com BPP Contact number: +44 (0)20 8740 2211. Website: www.bpp.com The Financial Training Company Contact number: +44 (0)174 785 4302. Website: www.financial-training.com Candidates may also find the following texts useful: C Drury Management and Cost Accounting (5th Edition) International Thomson Business Press ISBN 1861525362 A Griffiths & D Wall Applied Economics (9th Edition) F T Prentice Hall ISBN 0273651528 D Watson, A Head Corporate Finance: Principles and Practice FT Prentice Hall ISBN 0273651323 Wider reading is also desirable, especially regular study of relevant articles in ACCA's student accountant. Financial Management and Control (Continued) STUDY SESSIONS 1 The Economic Environment I Macroeconomic objectives (a) Identify and explain the main macro- economic policy targets (b) Explain how government economic policy may affect planning and decision-making in business (c) Define and explain the role of fiscal, monetary, interest rate and exchange rate policy Fiscal Policy (d) Identify the main tools of fiscal policy (e) Explain how public expenditure is financed and the meaning of PSBR (f) Explain how PSBR and taxation policy interact with other economic indicators (g) Identify the implications of fiscal policy for business 2 The Economic Environment II Monetary, inflation and exchange rate policy (a) Identify the main tools of monetary policy (b) Identify the factors which influence inflation and exchange rates, including the impact of interest rates (c) Identify the implications of monetary, inflation and exchange rate policy for business PAGE 7 Aspects of government intervention and regulation (d) Explain the requirement for and the role of competition policy (e) Explain the requirement for and the role of official aid intervention (f) Explain the requirement for and the role of Green policies (g) Identify examples of government intervention and regulation 3 The nature and scope of financial management (a) Broadly describe the relationship between financial management, management accounting and financial accounting (b) Discuss the nature and scope of financial objectives for private sector companies in the context of organisational objectives (c) Discuss the role of social and non- financial objectives in private sector companies and identify their financial implications (d) Identify objectives (financial and otherwise) in not-for-profit organisations and identify the extent to which they differ from private sector companies (e) Discuss the problems of multiple stakeholders in financial management and the consequent multiple objectives and scope for conflict 4 The financial management framework (a) Identify the general role of financial intermediaries (b) Explain the role of commercial banks as providers of funds (including the creation of credit) (c) Discuss the risk/return trade-off (d) identify the international money and capital markets and outline their operation (e) Explain the functions of a stock market and corporate bond market (f) Explain the key features of different types of security in terms of the risk/ return trade-off (g) Outline the Efficient Markets Hypothesis and assess its broad implications for corporate policy and financial management (h) Explain the Separation Theorem (i) Explain the functions of, and identify the links between, the money and capital markets 5 Management of Working Capital I General issues (a) Explain the nature and scope of working capital management (b) Distinguish between cash flow and profits (c) Explain the requirement for effective working capital management (d) Explain the relationship between working capital management and business solvency (e) Distinguish between the working capital needs of different types of business Management of stock (f) Calculate and interpret stock ratios (g) Explain the role of stock in the working capital cycle (h) Apply the tools and techniques of stock management (i) Analyse and evaluate the results of stock management techniques 6 Management of Working Capital II Management of creditors (a) Explain the role of creditors in the working capital cycle (b) Explain the availability of credit and the role of the guarantee (c) Identify the risks of taking increased credit and buying under extended credit terms (d) Explain how methods of paying suppliers may influence cash flows of both parties (e) Discuss the particular problems of managing overseas accounts payable (f) Calculate and interpret creditor ratios (g) Apply the tools and techniques of creditor management (h) Analyse and evaluate the results of creditor management techniques Management of debtors (i) Explain the role of debtors in the working capital cycle (j) Explain how the credit-worthiness of customers may be assessed Financial Management and Control (Continued) PAGE 8 (k) Evaluate the balance of risks and costs of customer default against the profitability of marginal business (l) Explain the role of factoring and invoice discounting (m) Explain the role of early settlement discounts (n) Discuss the particular problems of managing overseas debtors (o) Calculate and interpret debtor ratios (p) Apply the tools and techniques of debtor management (q) Analyse and evaluate the results of debtor management techniques 7 Management of Working Capital III Management of cash (a) Explain the role of cash in the working capital cycle (b) Calculate optimal cash balances (c) Describe the functions of, and evaluate the benefits from, centralised cash control and Treasury Management (d) Calculate and interpret cash ratios (e) Apply the tools and techniques of cash management (f) Analyse and evaluate the results of cash management techniques 8 Sources of finance I: small and medium sized enterprises (SMEs) (a) Explain financing in terms of the risk/return trade-off (b) Describe the requirements for finance of SMEs (purpose, how much, how long) (c) Describe the nature of the financing problem for small businesses in terms of the funding gap, the maturity gap and inadequate security (d) Identify the role of risk and the lack of information on small companies to help explain the problems of SME financing (e) Explain the role of information provision provided by financial statements (f) Describe the particular financing problems of low-earning/high growth companies (g) Describe the response of government agencies and financial institutions to the SME financing problem (h) Explain what other measures may be taken to ease the financial problems of SMEs such as trade creditors, factoring, leasing, hire purchase, AIM listing, business angels and venture capital (i) Describe how capital structure decisions in SMEs may differ from larger organisations (j) Describe appropriate sources of finance for SMEs (k) Calculate and interpret appropriate ratios 9 Sources of finance II: equity financing (a) Describe ways in which a company may obtain a stock market listing (b) Describe how stock markets operate, including the AIM (c) Explain the requirements of stock market investors in terms of returns on investment (d) Calculate, analyse and evaluate appropriate financial ratios (e.g. EPS, PE ratio, dividend yield, etc.) (e) Outline and apply the dividend valuation model, including the growth adjustment (f) Explain the importance of internally generated funds (g) Describe the advantages and disadvantages of rights issues (h) Calculate the price of rights (i) Explain the purpose and impact of a bonus issue, scrip dividends and stock splits 10 Sources of finance III: debt and near- debt financing (a) Explain the features of different types of preference shares and the reasons for their issue (b) Explain the features of different types of long-term straight debt and the reasons for their issue (c) Explain the features of convertible debt and warrants and the reasons for their issue (d) Broadly describe the reasons for the choice of financing between preference shares, debt and near- Financial Management and Control (Continued) PAGE 9 debt instruments in terms of the risk/ return trade-off (e) Assess the effect on EPS of conversion and option rights (f) Broadly describe international debt markets and the financing of foreign trade (g) Calculate and interpret appropriate ratios 11 Sources of finance IV: the capital structure decision (a) Explain and calculate the level of financial gearing (b) Distinguish between operational and financial gearing (c) Outline the effects of gearing on the value of shares, company risk and required return (d) Explain how a company may determine its capital structure in terms of interest charges, dividends, risk and redemption requirements (e) Explain the role of short term financing in the capital structure decision (f) Explain the relationship between the management of working capital and the long term capital structure decision (g) Calculate and interpret appropriate ratios 12 Investment decisions (a) Define and distinguish between capital and revenue expenditure (b) Compare and contrast fixed asset investment and working capital investment (c) Describe the impact of investment projects on financial statements (d) Calculate payback and assess its usefulness as a measure of investment worth (e) Calculate ROCE and assess its usefulness as a measure of investment worth 13 Interest and discounting (a) Explain the difference between simple and compound interest (b) Explain the relationship between inflation and interest rates, distinguishing between nominal and real interest rates, and calculate nominal interest rates (c) Explain what is meant by future values and calculate future values, including application of the annuity formula (d) Explain what is meant by discounting and calculate present values, including the application of the annuity and perpetuity formula, and the use of present value and annuity tables (e) Explain the importance of the time value of money and the role of the cost of capital in appraising investments 14 Investment appraisal using DCF methods (a) Explain the importance of the time value of money and the role of the cost of capital in appraising investments (b) Identify and evaluate relevant cash flows of potential investments (c) Calculate present values to derive the NPV and IRR measures of investment worth (d) Explain the superiority of DCF methods over payback and ROCE (e) Assess the merits of IRR and NPV (f) Apply DCF methods to asset replacement decisions 15 Project appraisal allowing for inflation and taxation Inflation (a) Distinguish general inflation from specific price increases and assess their impact on cash flows (b) Evaluate capital investment projects on a real terms basis (c) Evaluate capital investment projects on a nominal terms basis Taxation (d) Calculate the effect of capital allowances and Corporation Tax on project cash flows (e) Evaluate the profitability of capital investment projects on a post-tax basis Financial Management and Control (Continued) PAGE 10 16 Project appraisal allowing for risk (a) Distinguish between risk and uncertainty (b) Identify the sources of risk affecting project profitability (c) Evaluate the sensitivity of project NPV to changes in key variables (d) Apply the probability approach to calculating expected NPV of a project and the associated standard deviation (e) Explain the role of simulation in generating a probability distribution for the NPV of a project (f) identify risk reduction strategies for projects (g) Evaluate the usefulness of risk assessment methods 17 Capital rationing (a) Distinguish between hard and soft capital rationing (b) Apply profitability index techniques for single period divisible projects (c) Evaluate projects involving single and multi-period capital rationing 18 Leasing decisions (a) Distinguish between operating and finance leases (b) Apply DCF methods to projects involving buy or lease problems (c) Assess the relative advantages and disadvantages of different types of lease (d) Describe the impact of leasing on company gearing 19 Costing systems and techniques (a) Outline and distinguish between the nature and scope of management accounting and the role of costing in meeting the needs of management (b) Describe the purpose of costing as an aid to planning, monitoring and controlling business activity (c) Different approaches to costing (i) marginal costing and absorption costing (ii) service costing (iii) theory of constraints and throughput accounting (iv)activity based costing; use of cost drivers and activities (v) life cycle costing (vi)target costing (d) Describe the costing information requirements and limitations in not- for-profit organisations (e) Broadly outline the behavioural implications of different costing approaches including performance evaluation (f) Explain the potential for different costing approaches to influence profit reporting and the pricing of products and internal services (g) Explain the role of costing systems in decision making 20 Standard costing I (a) Explain the uses of standard costs and the methods by which they are derived and subsequently reviewed (b) Calculate and evaluate capacity limitations when setting standards (c) Describe the types of standard (ideal, attainable, current and basic) and their behavioural implications (d) Calculate basic labour, material, overhead (variable and fixed) and sales variances, including problems of labour idle time (e) Explain the reasons for variances (f) Assess appropriate management action arising from the variances identified 21 Standard costing II (a) Prepare reconciliations using operating statements which (i) reconcile budgeted and actual profit figures, and/or (ii) reconcile the actual sales less the standard cost of sales with the actual profit (b) Calculate and explain operational and planning variances (c) Demonstrate how absorption and marginal approaches can be used in standard costing (d) Calculate mix and yield variances for materials (e) Calculate mix and quantity variances for sales (f) Demonstrate an understanding of the inter-relationships between variances (g) Explain the reasons for variances (h) Assess appropriate management action arising from the variances identified Financial Management and Control (Continued) PAGE 11 22 Budgetary planning and control I (a) Identify the purposes of budgetary planning and control systems (b) Describe the planning and control cycle, and the control process (c) Explain the implications of controllability for responsibility reporting (d) Prepare, review and explain a budget preparation timetable (e) Prepare and evaluate functional, subsidiary and master budgets, including cash budgets (f) Explain the processes involved with the development and implementation of budgets (g) Explain the process of participation in budget setting and how this can address motivational problems 23 Budgetary planning and control II (a) Prepare and evaluate fixed and flexible budgets and evaluate the resulting variances (b) Prepare flexed budgets when standard fixed overhead absorption is employed (c) Assess the behavioural implications of budgetary control and performance evaluation, including participation in budget setting 24 Budgetary planning and control III (a) Describe and evaluate the main features of zero based budgeting systems (b) Describe the areas/organisations in which zero based budgeting may be applied (c) Describe and evaluate incremental budgeting and discuss the differences with zero based budgeting (d) Describe and evaluate periodic and continuous budgeting systems 25 Quantitative aids to budgeting (a) Describe and apply the techniques of (i) high-low method (ii) least squares regression (iii) scatter diagrams and correlation (iv) forecasting with least squares regression (v) time series to identify trends and seasonality (vi) forecasting with time series (b) Evaluate the results of quantitative aids 26 Indices (a) Explain the purpose of index numbers, and calculate and interpret simple index numbers for one or more variables (b) Deflate time-related data using an index (c) Construct a chained index series (d) Explain the term 'average index', distinguishing between simple and weighted averages (e) Calculate Laspeyres and Paasche price and quantity indices (f) Describe the relative merits of Laspeyres and Paasche indices 27 Performance measurement (a) Outline the essential features of responsibility accounting for various types of entiy (b) Describe the range of management performance measures available for various types of entity (c) Calculate and explain the concepts of return on investment and residual income (d) Explain and give examples of appropriate non-montary performance measures (e) Describe the various types of responsibility centre and the impact of these on management appraisal (f) Discuss the potential conflict in the use of a measure for both business and management performance (g) Analyse the application of financial performance measures including cost, profit and return on capital employed (h) Assess and illustrate the measurement of profitability, activity and productivity (i) Discuss the measurement of quality and service (j) Identify areas of concern from information supplied and performance measures calculated (k) Describe the features of benchmarking and its application to performance appraisal 28 Revision Financial Management and Control (Continued) PAGE 12 Financial Management and Control (Continued) . Management 3.7 Strategic Financial Management 2.4 Financial Management and Control 1.2 Financial Information for Management Paper 2.4 Financial Management and Control PAGE 4 (c) The Efficient Markets. variances identified Financial Management and Control (Continued) PAGE 11 22 Budgetary planning and control I (a) Identify the purposes of budgetary planning and control systems (b) Describe the planning and control cycle,. scope of financial management (a) Broadly describe the relationship between financial management, management accounting and financial accounting (b) Discuss the nature and scope of financial