Money and the Financial System The Functions and Characteristics of - - PowerPoint PPT Presentation

Money and the Financial System

The Functions and Characteristics of Money

 Medium of Exchange: Accepted as payment for

products and resources

 Measure of Value: Single standard for assigning and

comparing values of products and resources

 Store of Value: Means of retaining and accumulating

wealth.

Acceptability Divisibility Portability Stability Durability Difficulty to Counterfeit

Money Cash Cheques Demand Drafts

Near Money Savings account Money market account Certificate of deposit Credit card Debit card Traveler’s cheques

The Indian Financial System

Reserve Bank of India/Banking Institutions/Financial Institutions/Money and Capital Markets/Informal Financial Enterprises.

• Provides services that are essential in a modern economy
• Use of a stable, widely accepted medium of exchange reduces the

costs of transactions

• Facilitates trade and, therefore, specialization in production
• Financial assets with attractive yield, liquidity and risk

characteristics encourage savings

• By evaluating alternative investments and monitoring the activities
• f borrowers, financial intermediaries increase the efficiency of

resource use

• Access to a variety of financial instruments enables an economic

agent to pool, price and exchange risks in the markets

• The most catalyzing agent for growth of the economy, making it one
• f the key inputs of development

BASIS FOR COMPARISON FISCAL POLICY MONETARY POLICY

Approach and Objectives

The tool used by the government in which it uses its tax revenue and expenditure policies to affect the economy is known as Fiscal Policy The tool used by the central bank to regulate the money supply in the economy is known as Monetary Policy

Administered by

Ministry of Finance Reserve Bank of India

Nature

The fiscal policy changes every year The change in monetary policy depends on the economic status of the nation

Related to

Government Revenue & Expenditure Banks & Credit Control

Focuses on

Economic Growth Economic Stability

Policy Instruments

Tax rates and government spending Interest rates and credit ratios

Monetary and Fiscal Policies

Accounting and Financial Statements

Business Entity

Customers Who Buy Products and Services Sold by the Business Sources of Debt Capital Bank and other Financial Institutions who Loan Money to the Business on which Interest is Paid Government Agencies Collect Taxes from the Business Employees who are paid wages and salaries and provided other benefits Vendors of Materials, Services, Supplies, Parts, Tools, Equipment and Machines Bought by the Business Sources of Equity Capital Individuals and Financial Institutions who Invest money in the business as owners, not creditors the business has to earn Profit on the Capital Invested in the Venture

Six-Spoke Wheel of Business

You are NOT the company.

The Nature of Accounting

 The recording, measurement, and interpretation of

financial information, often used in making business decisions.

 Bookkeeping is much narrower and more mechanical

than accounting

 Bookkeeping is typically limited to routine day-to-day

business transactions and obtaining and recording information that accountants use in financial analysis

• Internal Uses:
• Managerial

Accounting

• Cash Flow
• Budget
• External Uses:
• Reporting financial performance to outsiders
• Filing Income Taxes
• Obtaining Credit
• Reporting to Stockholders

Who Uses Accounting Information?

Tax authorities

IT Department State Municipal Other

Regulatory Agencies

SEBI Stock Exchanges National and International Other agencies

Economic Planners

NITI Aayog Reserve Bank

• f India

Government planners

Other groups

Employees and labor unions Financial advisors Customers and the general public

Management

Owners, partners Boards of directors Officers of the company Managers Department heads Supervisors

Those with Direct Financial Interest

Present or potential investors Present or potential creditors

Those with Indirect Financial Interest

Actions That Affect Business Activities

Business Activities Accounting

The Accounting Process: The Accounting Equation

Assets = Liabilities + Owners’ Equity Things

• f value

that a firm owns A firm’s debts and

• bligations

The difference between a firm’s assets and its liabilities

The Accounting Cycle and Statements

• 1. Examining Source Documents
• 4. Preparing Financial Statements
• 3. Posting Transactions
• 2. Recording Transactions

The Income Statement

A financial report that shows profitability over a period of time – month, quarter or year.

Revenue Cost of Goods Sold Gross Income Expenses Selling, general & administrative R&D, engineering Interest Depreciation Net Income

A “snapshot” of an

• rganization’s financial position

at a given moment.

The Balance Sheet

Assets Accounts Receivable Liabilities Accounts Payable Accrued Expenses Owner’s Equity

Ratios

Profitability Asset utilization Liquidity Debt utilization Per share data

Double-Entry Bookkeeping

Video

Raw Material Work in Process Finished Goods Cost of Goods Sold

Cost of materials available for use Materials used Labor overheads Total manufacturing costs incurred this period Cost of goods manufactured Cost of goods Sold Ending raw material inventory Ending work in process inventory Ending finished Goods inventory

Balance Sheet Income Statement

ABC Income S Statement Year Ended December 3 31, 2 2016

Reve venues: Net Sal ales 123,850 Consulting: 73,850 To Total al Reve venues 197,700 Expenses: Cost of Goods Sold 72,600 Selling Expenses 37,700 General al & Admin. 8,400 Other expen 5,600 To Total al Expenses 134,300 Net Income 63,400

ABC Bal alan ance S Sheet a t as o

• n

December 3 31, 2 2016

Assets: Current Assets: Cash: 17,850 Accounts Receivable 10,200 Merchandise Inventory 8,750 Total Assets: 36,800 Property & Equipment Equipment 11,050 Office Building 73,850 Total Prop. & Equip. 84,900 Total Assets: 121,700 Liabilities & Owner’s Equity Current Liabilities Acct’s Payable 12,600 Total Current Liabilities 12,600 Long-term Liabilities Mortgage Payable 23,600 Total Liabilities 36,200 Owner’s Equity: ABC, Capital 85,500 Total Liabilities & Owner’s Equity 121,700

Income/Sales = 63,400/197,700 = 32% Sales/ Fixed Assets = 197,700/84,900 = 2.3 Current Ratio = 36,800/12,600 = 2.9 Debt/Equity = 23,600/85,500 = 0.3 EPS = 63,400/85,500 = 0.75

Balance Sheet

Fixed Assets

• 1. Tangible fixed

assets

• 2. Intangible

fixed assets Long term debt Shareholders' equity Total Value of Assets Total Value of Liabilities & Shareholders' Equity Current Assets Current Liabilities

The Time Value of Money

 The Interest Rate  Simple Interest  Compound Interest  Amortizing a Loan  Compounding More Than Once per Year

Obviously, Rs 10,000 today. You already recognize that there is TIME VALUE TO MONEY!!

The Interest Rate

Which would you prefer – Rs 10,000 today or Rs 10,000 in 5 years?

Why is TIME such an important element in your decision?

TIME allows you the opportunity to postpone consumption and earn INTEREST.

Types of Interest

 Compound Interest

Interest paid (earned) on any previous interest earned, as well as

• n the principal borrowed (lent).

 Simple Interest

Interest paid (earned) on only the original amount, or principal, borrowed (lent).

SI = P0(i)(n) = Rs1,000(.07)(2) = Rs140

FV = P0 + SI Rs 1,140

5000 10000 15000 20000 1st Year 10th Year 20th Year 30th Year

Future Value of a Single $1,000 Deposit

10% Simple Interest 7% Compound Interest 10% Compound Interest

FVn = P0 (1+i)n The “Rule-of-72” Years to Double = 72 / i% Rs 1,145

Continuous Compounding and EMI

 Car worth Rs 5.95 lakh.  Down payment of Rs 1.5 lakh  Auto loan at 12% interest per annum for four years.  EMI = [P x R x (1+R)^N]/[(1+R)^N-1],  where P stands for the loan amount or principal, R is the interest rate per

month [if the interest rate per annum is 12%, then the rate of interest will be 12/(12 x 100)], and N is the number of monthly instalments. EMI = 4,45,000x0.01x(1.01)^48 [(1.01)^48 – 1] = 11,170 Annual Compounding: FV = $10,000 x (1 + (15% / 1)) ^ (1 x 1) = $11,500 Quarterly Compounding: FV = $10,000 x (1 + (15% / 4)) ^ (4 x 1) = $11,586.50 Monthly Compounding: FV = $10,000 x (1 + (15% / 12)) ^ (12 x 1) = $11,607.55 Continuous Compounding: FV = $10,000 x 2.7183 ^ (15% x 1) = $11,618.34

FV = PV x e ^ (i x t)

(FV) = PV x (1 + (i / n)) ^ (n x t)

Current Assets and Current Liabilities

• Current assets:

Financial resources that can be converted to cash within a year.

• Cash
• Marketable securities
• Accounts receivable
• Inventory
• Current Liabilities:

Short-term debt obligations that must be paid within a year.

• Accounts payable
• Wages payable
• Taxes payable
• Notes (loans) payable

Optimizing Inventory The objective is to maximize inventory investment without production cutbacks because of materials shortfalls or lost sales due to insufficient finished goods inventories.

Annual requirement quantity (D) = 10,000 units Cost per order (K) = 40 Cost per unit (P)= 50 Yearly Carrying cost percentage = 10% Yearly carrying cost per unit (h) = 50 * 10% = 5

Cost of Holding Inventory

Total costs of holding inventory Carrying costs Restocking costs Optimal size of inventory order Q*

[2.D.K/h]^1/2 [2.10,000.40/5]^1/2 400

Number of orders per year (based on EOQ) = 10,000/400 = 25 Total cost = P.D + K(D/EOQ) + h(EOQ/2) Total cost = 50.10,000 + 40(10,00/500) + 5(400/2) = 502,000

Long-Term Assets and Financing

• Long-term (fixed)

assets:

• Plants
• Offices
• Equipment
• Heavy

machinery

• Automobiles
• Debts that will be

repaid over a number of years, such as

• long-term loans

and

• bond issues
• Equity Financing
• Debt financing

Financial Accounting & Its Economic Context

Financial Accounting Statements Interest & Principal Debt Investments Dividends Equity Investment Attest Auditors Professional Reputation & Ethics Companies (Managers) Compen- sation Contracts Debt Contracts Providers of Capital l Debt Investors Equity Investors Legal Liability Audit Fees

Expected Returns on Venture Capital

Stage Expected Annual Return

 Seed

80%

 Startup

60%

 First stage

50%

 Second stage

40%

 Third stage

30%

 Bridge

25%

The main factor that determines the rate of return for new venture financing Stage of Venture Development: High Risk at Earlier Stage

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