Management Components Of Corporate Profitability

Planning in Management

Discuss About The Management Component Corporate Profitably?

The primary setting up or establishment of a company depends on various factors but the ultimate binding factor is management. Even when the building for the organization is built, management at different levels of hierarchy is carried out in order to complete the task in a better way rather the best way. Therefore whatever may be the task, management at each and every level is a mandatory process. Similarly in case of an organization, the most fundamental procedure is planning. Planning by the managers regarding marketing strategies to be used, improvement programs to be implemented, scheduling the required employee trainings and other components require management. Therefore a major function of management is planning. But before implementing planning in management, it is very important for the managers to know as to what exactly the subject matter for planning. The subject matter for planning can only be known when it is clear as to what crisis or matter that requires planning will arise in the future. Management of corporate finance also requires proper planning (Agrawal and Matsa 2013).

Corporate finance generally refers to all the financial functions that are implemented and practiced within a company. The professionals that are in charge of corporate financing inside an organization work with the objective of maximizing the profit earned and reducing the risk involved in an unexpected loss.  Corporate financing also helps in understanding as to what is the best possible method to increase the revenue and also produce returns to the investors or shareholders (Mathuva 2015).

Corporate decision making is related to capital budgeting in a way that it helps in decision making about investments. Capital budgeting is an important tool in relation to corporate finance management. Capital budgeting generates huge scope for financial managers to check and assess the various projects on the basis of the percentage of chances to be taken up for investments (Burns and Walker 2015). It also assists in bringing out the risk involved in different types of projects. It also becomes useful in keeping a check on the rate of investments. Finally the prospect of the business depends wholesomely on the optimum utilization of resources. There are a various capital budgeting techniques like net present value and internal rate of return, pay-back period method and accounting rate of return method (Hise and Strawser 2013).

The pay-back period method refers to the time period under which the proposition will lead to generation of cash in order to make up for the initial investment made. It truly focuses on the inflow of cash, the project’s economic life and the amount of investment made without the time value of money being considered (Bierman and Smidt 2012).

Corporate Finance Management

The accounting rate of return method is based on the criteria that any proposition that has an accounting rate of return more than the assumed minimum rate prefixed by the management will be taken into account and the propositions below the accounting rate of return are refused.

The net present value method is one of the widely used methods of capital budgeting. Under this method the inflow of cash that comes in at different points of time  or that is expected at a certain point of time is given a discount at a particular rate. The time value of money is taken into consideration in this method.

The internal rate of return method of capital budgeting technique can be defined as the rate, when the net present value of the investment is zero. Here in this method the discounted value of cash inflow is equal to the discounted value of cash outflow. This method also takes into account the time value of money (Hasan 2013).         

As asked in the question the sensitivity analysis concept in relation to capital budgeting technique is an analysis that measures the sensitivity of the variable that is dependent in relation to the change in an independent variable. In certain situations the historical data available may be used but if the historical data is not available then research has to be conducted. Essentially the sensitivity analysis refers to the entire result or outcome that changes due to change in a single variable.  For instance a manufacturing company might as well find out that a change in a particular raw material may lead to a huge change in the cost of manufacturing. Sensitivity analysis actually projects the viability of the projects. Sensitivity analysis provides a view that more the fluctuations in the initial parameters of a certain proposition the less risk is involved in the project. Sensitivity analysis is generally required to identify the risky parameters, assess their numerical values and measure the consequences of assuming such risks. Experts are of the view that sensitivity analysis is used by managers to monitor and measure the changes in net present value due to a change in the variables used for calculating it. Application of sensitivity analysis may be used to assess situations as to when the net present value reflects a positive value and when it reflects a value that is negative. While conducting sensitivity analysis three areas should be kept in mind, that are, aggregate costs and benefits, critical cost and benefit item and the effect of delays during construction phase. The advantages of using sensitivity analysis are that a certain change in a single variable is very effective in measuring the economic worth of a project; scrutinizing the risk involved in a single project and thirdly the sensitivity analysis is universal in nature (Pianosi, Sarrazin and Wagener 2015).

Capital Budgeting Techniques

Scenario analysis refers to the analysis that is done when more than one assumption is attempted to change. Essentially scenario analysis is an extended version of sensitivity analysis.  Sensitivity analysis may be extended in order to include changed number of variables at the same time. This is known as scenario analysis. However, the assumptions that can be changed and the extent up to which it can be changed is totally dependent on the particulars of the problem. The final and best approach is to observe what will happen at the extremes. The best scenario possible occurs when the outcome is much better than what was expected and in case of the worst scenario possible the outcomes become worse than expected. In order to assess a particular scenario the best or worst case or scenario is taken as the scale for comparison. In clearer terms the best or worst possible scenario that is recorded is used for determining the scenario of a particular case. Scenario analysis is useful for firms that make investments on a large scale because they assume high risk, therefore before investing comparisons must be done using the scenario analysis (Gyamfi and Krumdieck 2012).

Until now no assessment has been done regarding the probabilities of various outcomes. Most of the times it is not possible to provide proper probabilities and it is only possible to predict that something might happen, or the probability of unexpected happenings might be assessed. However, if the proper knowledge is not available about the probabilities the advantage of the technology of computers can be utilized in order to improve upon the scenario analysis. If it is possible to know what the probabilities in case of each and every outcome are, and also the knowledge that how they are interlinked is available, it would be possible to arrive at a point where distribution of NPVs is done with the help of the process is known as simulation. This will definitely provide the probability of each possible NPV. This technique if implemented properly a discount rate can be used in regards to the uncertainty amount about the NPV. The risk involved in a project can be adjusted with the help of the simulation technique. There are essentially two ways to adjust the returns to a project in order to make it face a higher hurdle is increasing the rate of discount and reducing the payment that is more or less expected. It is very much possible to think about the rate of discount as containing a basic rate that is risk-free and an added premium that is dependent on the amount of risk involved that is higher the risk, higher is the premium. As the percentage of uncertainty is more, it will definitely lead to reduction in the Net Present Value of projects that involve a great deal of risk as the rate at which the future payments are discounted is high. Similarly, it is of the implications that projects should obviously have a higher Internal Rate of Return to exceed the hurdle rate (Regan et al., 2015).

Sensitivity Analysis in Capital Budgeting

Break-even analysis is used for the for determining the exact location at which the total profit received is equal to the cost that is incurred with receiving the profit or revenue. The calculation of margin of safety is done with the help of the break-even analysis. The break-even point is the point within which the revenues may fall while they still remain above the break-even point. Break-even analysis is also referred to as analysis that is supply-side in nature. The effect of various price levels on demand is also not analyzed or taken into account. Break-even analysis involves three kinds of costs that are fixed costs, variable costs and semi-variable costs. A fixed cost is the cost that remains unaffected by change in the amount of goods and services produced. Variable costs are variable in nature that is the cost depends upon the output produced. Semi-variable cost is a mixture of fixed costs and variable costs. One of the disadvantages of break even analysis is that it leads to poor accounting decisions and this can be avoided by using NPV break-even analysis. Break-even analysis is a much handy tool that is used to scrutinize the inter-relationship between variable costs, fixed costs and returns. A break-even point generally can be used to predict or research the exact point when a particular investment shall result in a positive return and can also be chalked out graphically or by the help of using simple mathematics. Break-even analysis is advantageous from the point that it calculates the total amount of production at an already provided amount that is needful to cover all the costs (Ghahremani, Aghaie and Abedzadeh 2012)

References

Agrawal, A.K. and Matsa, D.A., 2013. Labor unemployment risk and corporate financing decisions. Journal of Financial Economics, 108(2), pp.449-470.

Bierman Jr, H. and Smidt, S., 2012. The capital budgeting decision: economic analysis of investment projects. Routledge.

Burns, R. and Walker, J., 2015. Capital budgeting surveys: the future is now.

Ghahremani, M., Aghaie, A. and Abedzadeh, M., 2012. Capital budgeting technique selection through four decades: with a great focus on real option. International Journal of Business and Management, 7(17), p.98.

Gyamfi, S. and Krumdieck, S., 2012. Scenario analysis of residential demand response at network peak periods. Electric Power Systems Research, 93, pp.32-38.

Hasan, M., 2013. Capital budgeting techniques used by small manufacturing companies. Journal of Service Science and Management, 6(01), p.38.

Hise, R.T. and Strawser, R.H., 2013. Application of Capital Budgeting Techniques to Marketing Operations. Readings in Managerial Economics: Pergamon International Library of Science, Technology, Engineering and Social Studies, p.419.

Mathuva, D., 2015. The Influence of working capital management components on corporate profitability.

Pianosi, F., Sarrazin, F. and Wagener, T., 2015. A Matlab toolbox for global sensitivity analysis. Environmental Modelling & Software, 70, pp.80-85.

Regan, C.M., Bryan, B.A., Connor, J.D., Meyer, W.S., Ostendorf, B., Zhu, Z. and Bao, C., 2015. Real options analysis for land use management: Methods, application, and implications for policy. Journal of environmental management, 161, pp.144-152.