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Capital Management

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Capital-Management

The concept of capital is used to denote any form of wealth that firms use to generate more income. According to Thukaram (2003), there are three forms of capital in financing. The first one is the fixed capital, which organizations use for the sole purpose of purchasing its fixed assets such as land and building, machinery among others. The second set of capital is working capital. Firms use such capital in supporting their short-term financial needs. Lastly, organizations also need the growth capital that is principally used to finance the expansion or growth of a company.

Part A: Sources of Capital

As noted in the case study, Johnsons P/L is considering an expansion of its production in order to meet the rising demand for its products in the new international market. Initial estimations indicate that the firm may require up to $60 million. Thus, the management is contemplating getting these funds through debt and equity financing. Equity financing comes from the owners of the company. Therefore, they tend to have some risks that are inherent in them, which also come along with control rights over the business. On the other hand, debt is usually a loan that a firm must pay back within an agreed duration. One of the peculiar features of a loan is that it must be paid together with interest. There are various sources of equity and debts for Johnsons P/L to raise the much-needed amount as discussed herein.

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The company may consider the option of generating these finances through the issuance of its shares. In that case, it could be ordinary or preference shares. An ordinary share is risk finance that attracts dividend’s payment when the firm makes some profits. Ordinary shareholders have voting rights and their dividends are also taxable. Equally, it requires a high rate of return. However, the preference shares normally have its fixed dividends experiencing lower risk as compared to the ordinary shares. The shares do not have voting rights and the holders of such shares can only vote if there are some arrears for their dividends. In case of participating and redeemable preference shares, there is a possibility of an increment in dividends if the company makes more profit and the buying of these shares on a predetermined future date respectively. The financiers of the shares could be business partners, corporations, companies that specialize in venture capital, and through the public stock. Nevertheless, such financing may dilute a company’s ownership and lead to loss of control and privacy, incurred filing expenses, and even increased pressure for accountability and short term performance from the shareholders.

Unlike the shares, debts are sources of finance that must be paid back together with a predetermined interest. For that reason, debts are usually a liability on the balance sheet. They must be repaid even if the firm makes losses. There are different sources of this form of capital which could either be financial or nonfinancial. The leading sources of this type of capital are the commercial banks. They include commercial loans, discounting of accounts receivables, financing of inventories, floor planning, trade credits, and lines of credit among others. Also, equipment suppliers constitute another source of debt finance that is almost similar to trade credit but with some small variation in terms of their usage and repayment period. Commercial finances are also similar to bank loans, but they usually have risky lending practices.

Loans and saving organizations could also prove useful in helping Johnsons P/L raise the needed $60 million. They include commercial and industrial mortgages that do have longer repayment periods of up to 30 years. The brokerage of stock houses also issues low-interest loans to their clients than banks due to the high quality and liquid forms of collateral such as bonds and stocks. Insurance firms also extend finances through mortgage and policy loans. Unlike equity financing, debts do not dilute the ownership of the company. Also, they are treated as expenses allowing for tax deductions on both the principle and interest of the borrowed amount. However, some of them attract high-interest rates and the repayment is mandatory irrespective of whether the business makes profits or losses. Moreover, there is a need for cash or collateral before the advancement of the debt and may end up affecting the credit rating of the firm.

Therefore, Johnsons P/L can have a mix of both the equity and debt financing to help them finance the projected expansion of $60 million.

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Part B: Analysis of ARB Corporation Limited (ARP)

ARB Corporation Limited is an Australian manufacturing company that deals with the designing, manufacturing, distributing, and selling four-wheel drive motor vehicles accessories. It has its headquarters in Victoria. It also engages in the engineering of light metals. It has outlets in over 100 countries globally. The company was founded in 1975 and got listed in Australia Stock Exchange (ASX) in the year 1987. Currently, the firm has a total asset base of over $177,543, 000 with its shares trading at $13 each in the stock market, and a market capitalization of $914 Million. The annual sales are worth about $300 million.

The company has had a spectacular growth rate recording an average of 14.9% annual profit increment for the past decade. In the year 2013, the company had realized profit after tax of $42 million as compared to $38million in 2012. It symbolized a 10% increase in profits. ARB Corporation Limited (2013) notes that the results were impressive considering the volatile business environment in Australia (its largest market share) that the firm had to contend with during this financial year. The increased profit was achieved on an increased sales volume of $292million up from $269million. The consistency in the realization of profits and the annual issuance of dividends is a good indication that the company is progressing. Thus, it would be a good investment if a person considers buying or ARP shares.

Shares are broadly grouped into 2 categories: ordinary shares and preference shares. However, ARB Corporation Limited has only ordinary shares. The company has 72,481,302 ordinary shares, which have been issued and paid. The shares are traded at the ASX with the current value averaging at $13. Each share holds one voting right. The number of shares has not changed since 2012. In 2013, the company distributed a sum of $19million profits to the shareholders that were an increment from $17million in the year 2012.

An auditor is any trained personnel with the responsibility of evaluating and ascertaining whether the financial statement of an organization is valid and reliable. Therefore, an external auditor is an independent audit or accounting company that an organization hires to give their opinion on whether the financial statements are valid, reliable, and devoid of any misstatements. The hiring of an external auditor ensures that there is no conflict of interest in the process of auditing. From the definition, the main responsibility of an auditor is to verify whether the financial statements are valid and reliable. The auditor's report should also ascertain that the financial statements were prepared according to the existing standards. In addition, the independent auditor should check the effectiveness of the laid out internal controls and make certain recommendations. Thus, they tend to protect the shareholders and prospective investors from incurring losses due to embezzlement of the companies’ finances.

Part C: Journal Entries of the IPO Transactions

Summary of Transactions

DateTransaction
18th April Received $24,320,000 from shareholders being payment of $0.8 per share
12th May Paid back $320, 000 being returns for oversubscription by 400, 000 shares
12th May Received $15,000,000 from shareholders being the second payment of shares at $0.5 per share
30th June Received $21,000,000 from shareholders being the last payment of shares at $0.7 per share

Journal

For the Year Ended 30th June 2013

DateAccountDebit ($)Credit ($)
18th April Cash
        Equity
Being payment of $0.8 per share
24,320,000 24,320,000
12th May Equity
        Cash
Being returns for oversubscription of IPO by 400, 000 shares
320, 000 320,000
12th May Cash
        Equity
Being the second payment of shares at $0.5 per share
15,000,000 15,000,000
30th June Cash
        Equity
Being the third payment of shares at $0.7 per share
21,000,000 21,000,000

Conclusion

Such corporations as ARB have various sources of capital. However, there are a number of considerations that have to be made before settling on the source of capital to go for. Moreover, the management of any organization must understand that capital management is critical to their success. It must broadly entail proper identification of the appropriate sources of capital depending on their availability, the interest charged, urgency, amount, and even the overall needs of organization among other factors. The case study of Johnsons P/L presented in the paper has demonstrated the fact that even though there are a number of sources of various equity and debt capitals that can be exploited to meet the financial demands of the organization, the management must be careful in its financial dealings.

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