FInancial Information System (Guide)

Financial Information System Financial Information System is a system that accumulates and analyzes financial data in order to make good financial management decisions in running the business. Financial information systems are the software programs that can be set up to keep track of banking, accounts payable and accounts receivable; to generate standard financial reports such as a profit-andloss statement; and to report the information in various formats. The basic objective of the financial information system is to meet the firm's financial obligations as they come due, using the minimal amount of financial resources consistent with an established margin of safety. Outputs generated by the system include accounting reports, operating and capital budgets, working capital reports, cash flow forecast, and various what - if analysis reports. The evaluation of financial data may be performed through ratio analysis, trend evaluation, and financial planning modeling. FIS must have the following capabilities  Collect accurate, timely, complete, reliable information.  Provide adequate management reporting.  Support budget preparation and execution.  Facilitate financial statement preparation.  Support government-wide and agency policy decision.  Provide complete audit trail to facilitate audits. An FIS will consist of several elements with different functions. The core of an FIS could be expected to include the following modules and systems:     General ledger Budgetary accounting Accounts payable Accounts receivable The noncore or other modules are, inter alia:      Payroll system Budget development Procurement Project ledger Asset module. Advantages of FIS There are many advantages of implementing an FIS. A few of them are listed below:  Integrated financial information  Flexibility of reporting and additional control over expenditure  Tighter views of budgets versus actual  Less administration required within the business Features of Financial Information System a) Clarity/Understandability b) Reliability c) Relevance d) Presentation e) Security f) Cost Effective g) Comparability h) Availability i) Robust in terms of producing information j) Verifiability Clarity/Understandability This implies the expression, with clarity, of financial information in such a way that it will be understandable to users - who are generally assumed to have a reasonable knowledge of business and economic activities Reliability This implies that the financial information that is presented is truthful, accurate, complete (nothing significant missed out) and capable of being verified (e.g. by a potential investor). Security FIS provides security on the financial data so that it can be used only by the authorized personnel. It provides both the authentication and the access control. Relevance This implies that, to be useful, financial information must assist a user to form, confirm or maybe revise a view - usually in the context of making a decision (e.g. should I invest, should I lend money to this business? Should I work for this business?) Presentation The presentation of information is important to the user. FIS provides the information in the way which is easier and effective to the user. The applications of FIS in financial analysis are: a) b) c) d) Cash flow analysis Budget analysis Ratio analysis and management norms Sources and uses of funds e) Maintenance cost analysis Personal Financial Information System Personal finance is the financial management which an individual or a family unit performs to budget, save, and spend monetary resources over time, taking into account various financial risks and future life events. Personal finance is the practice of budgeting, forecasting, and planning to save and spend money for future life events. Features of Personal FIS a) Tax Planning b) Investment planning c) Retirement planning d) Cash Management e) Education Planning etc. Organizational Financial Management It is the process of planning, organizing, controlling and monitoring financial resources with a view to achieve organizational goals and objectives. It means applying general management principles to financial resources of the project. Financial Management includes- Managerial Finance, Corporate Finance and Financial Management for IT services. Financial management system is the methodology and software that an organization uses to oversee and govern its income, expenses, and assets with the objectives of maximizing profits and ensuring sustainability. Why is Financial Management Important? Financial Management is important for various reasons. Take a look at some of these reasons:  Helps organizations in financial planning;  Assists organizations in the planning and acquisition of funds;  Helps organizations in effectively utilizing and allocating the funds received or acquired;  Assists organizations in making critical financial decisions;  Helps in improving the profitability of organizations;  Increases the overall value of the firms or organizations;  Provides economic stability;  Encourages employees to save money, which helps them in personal financial planning. Attributes of a good FMS a) Keeping all payments and receivables transparent. b) Depreciating assets according to accepted schedules. c) Keeping track of liabilities. d) Coordinating income statements, expense statements, and balance sheets. e) Ensuring data integrity and security. f) Keeping all records up to date. g) Minimizing overall paperwork etc. Components of Financial Information System Financial Information System generally consists of six main components: people, procedures, data, software, information technology infrastructure and internal control. People: These are the users of the FIS. Internal users include accountants and other financial ofÏcers o the company. Then there are also users outside the organization that can be given access to the AIS. Some such external users are auditors, consultants, tax authorities etc. Procedures: These are the procedures the system follows to collect and process data. The database for such a process can be internal (like employee names, sales figures) or external databases (like customer orders, tax slabs etc). The feeding of the data can be both manual as well as automated. Data: FIS mainly deals with all kinds of financial and commercial data. Any data that is pertinent to the financial of the firm will be input data for an FIS. Care must be taken that the data entered is accurate and complete. Examples of such data include general ledger, invoices, orders, payroll, bills etc. Software: FIS software performs all the functions of storing, processing, analyzing, retrieving financial data of a company. The software can be generalized software that is available in the market or can be specialized software created specifically for a particular company and it’s accounting needs. Some of this software has an inbuilt internal control and audit options. They even help in tax management. Information Technology Infrastructure: Information technology infrastructure is just a fancy name for the hardware used to operate the financial information system. These can include computers, laptops, servers, printers, scanners, secondary storage hardware etc. Perhaps most importantly, the hardware selected for an FIS must be compatible with the intended software. Internal Controls: Internal controls of a FIS are the security measures it contains to protect sensitive data. These can be as simple as passwords or as complex as biometric identification. FIS must have internal controls to protect against unauthorized computer access and to limit access to authorized users which includes some users inside the company. Financial Calculator A financial calculator or business calculator is an electronic calculator or software that perform financial functions commonly needed in business and commerce communications. Ratio Analysis Ratio Analysis is a form of Financial Statement Analysis that is used to obtain a quick indication of a firm's financial performance in several key areas. Current Ratio Current ratio expresses the extent to which the current liabilities of a business (i.e. liabilities due to be settled within 12 months) are covered by its current assets (i.e. assets expected to be realized within 12 months). Current Ratio= Current Assets Current Liabilities Example If a business has: Cash = $15 million Marketable securities = $20 million Inventory = $25 million Short-term Debt = $15 million Accounts Payables = $15 million Current assets = 15 + 20 + 25 = 60 million Current liabilities = 15 + 15 = 30 million Current ratio = 60 million / 30 million = 2.0 If CL > CA (Current Ratio < 1) Short Term trouble for company If CA > CL (Current Ratio > 1) Company can easily meet its STL Ideal CR > 1.33 1.33 - 3 Good Inventory Turnover Ratio Inventory Turnover Ratio showing how many times a company has sold and replaced inventory during a given period. InventoryTurnover Ratio= Cost of Goods Sold Average Inverntory Example Alpha Inc. has the following information Cost of Goods Sold – $600,000 Beginning inventory – $110,000 Ending inventory – $130,000 Find out the inventory turnover ratios Average inventory of Alpha Inc. would be = (The beginning inventory + the ending inventory)/2 = ($110,000 + $130,000)/2 = $240,000/2 = $120,000. Using the inventory ratio, we get : Inventory Turnover ratio = Cost of Goods Sold / Average Inventories OR Inventory Turnover ratio= $600,000 / $120,000 = 5 Days Sales Outstanding The days sales outstanding calculation, also called the average collection period or day’s sales in receivables, measures the number of days it takes a company to collect cash from its credit sales. Days Sales Outstanding= Accounts Receivable X Number of days∈the year Annual Revenue Example IF a company has an average accounts receivable balance of $200,000 and annual sales of $1,200,000 then its DSO figure is: Days Sales Outstanding= $ 200,000 X 365 $ 1,200,000 = 60.8 days The company requires 60.8 days to collect a typical invoice. Fixed Assets Turnover Fixed assets turnover ratio is an activity ratio that measures how successfully a company is utilizing its fixed assets in generating revenue. ¿ AssetsTurnover= Net Sales ¿ Assets− Accumulated Depreciation For example, ABC Company has gross fixed assets of $5,000,000 and accumulated depreciation is $2,000,000. Sales over the last 12 months totaled $9,000,000. The calculation of ABC's fixed asset turnover ratio is: $9,000,000 / ( $5,000,000 - $2,000,000 ) = 3.0 Turnover per year Total Assets Turnover The Total Assets Turnover Ration shows how efÏciently the total assets of the firm are employed to generate sales. The higher the ratio, the better is the utilization of total assets in the firm Total Assets Turnover= Net Sales∈Revenues Average Total Assets Average Total Assets = (Beginning Assets + Ending Assets)/2 The following data belongs to John Trading Concern: Total assets at the beginning of the year 2016: Total assets at the end of the year 2016: Net sales made during the year 2016: $2,450,000 $2,350,000 $4,800,000 Calculate and interpret total assets turnover ratio of John Trading Concern for the year 2016. Total assets turnover ratio = Sales/Average total assets = $4,800,000/$2,400,000 =2 The total assets turnover ratio is 2 which means every dollar invested in assets generates $2 in sales. Profit Margin on Sales Profit margin usually refers to the percentage of revenue remaining after all costs, depreciation, interest, taxes, and other expenses have been deducted. Profit Margin= Total Sales−Total Expenses Total Sales Example Trisha’s Tackle Shop is an outdoor fishing store that selling lures and other fishing gear to the public. Last year Trisha’s net sales were $1,000,000 and her net income was $100,000. = $100,000 / $1,000,000 = 10% Trisha only converted 10 percent of her sales into profits. Return on Total Assets The return on total assets compares the earnings of a business to the total assets invested in it. The measure indicates whether management can effectively utilize assets to generate a reasonable return. Returnon Total Assets= Net Income( Earning before interest ∧tax) Total Assets Example ABC International reports net income of $100,000. This figure includes interest expense of $12,000 and taxes of $28,000. When these two expenses are added back, the EBIT of the company is $140,000. The total assets figure for the company is $4,000,000. The return on total assets ? $140,000 / $4,000,000 = 3.5% 3.5% Return on total assets Return on Common Equity The return on common equity ratio measures how much money common shareholders receive from a company compared with how much they invested originally. Returnon Common Equity= (Net Income−Preferred Dividends) Average Common Euity Tammy’s Tool Company is a retail store that sells tools to construction companies across the country. Tammy reported net income is $850,000 and issued preferred dividends is $200,000 during the year. In the beginning of 2018, the firms common equity was $2000, 000, whereas at the end of 2018 it grew to $2450,000. Return on common equity? Average common Equity for 2018 ($2000, 000 + $2450, 000)/2 =2,225,000 $850,000 - $200,000) / 2,225,000 = 29.2% For each dollar invested, the company returns 29.2% of its net income to the common stockholders. Price / Earing Ratio The price earning ratio is market prospect ratio that calculates the market value of a stock relative to its earnings. This ratio shows that the amount investors need to pay for earning Rs. 1 from the company. P/ E Ratio= Market Value Per Share Earning Per Share( EPS) Example Island corporation stock is currently trading at RS 500 a share and its earnings per share for the year is Rs 50. Now P/E Ration = ? 500/50 = 10 Island ratio is 10 times. Investors are willing to pay RS 10 for earnings Rs. 1 from the company. Future Value Future value (FV) is the amount to which a current investment will grow over time when placed in an account that pays compound interest. Future Value Using Simple Annual Interest Future Value Using Compounded Annual Interest Future Value Using Simple Annual Interest FV = I * [1 + (R * T)] For Example, assume a $1,000 investment is held for five years in a savings account with 10% simple interest paid annually. In this case, the FV of the $1,000 initial investment is $1,000 * [1 + (0.10 * 5)], or $1,500. Future Value Using Compounded Annual Interest FV = I * [(1 + R) T] Example The first year of investment earns 10% * $1,000, or $100, in interest. The following year, however, the account total is $1,100 rather than $1,000, so to calculate compounded interest, the 10% interest rate is applied to the full balance for second-year interest earnings of 10% * $1,100, or $110. 1000*((1+0.10)*5) = 1610.5 Annuity Annuities are a series of fixed payments required form you, or paid to you, at a specified frequency over the course of a fixed period of time. An annuity is a contractual financial product sold by financial institutions that is designed to accept and grow funds from an individual and then, upon annuitizatio, pay out a stream of payments to the individual at a later point in time. There are two basic types of annuities: a) Ordinary annuities b) Annuities due An ordinary annuity consists of a stream of cash flows that are paid after the end of regular time period like regular monthly pension’s payments, quarterly interest payment on bond and annual dividend payments etc. On the other hand, annuity in which payments are made at the beginning of each period is called annuity due. The present value formula for an ordinary annuity takes into account three variables. They are PMT(period cash payment), r (interest rate per period),and n (total number of periods). Present Value = PMT × ((1-(1+r)^-n)/r) For example, if an ordinary annuity pays $50,000 per year for 5 years and the interest rate is 7%, the present value would be: Present Value = $50,000 x ((1 - (1 + 0.07) ^ -5) / 0.07) = $205,010. Present Value of Annuity Due = PMT + PMT x ((1-(1+r)^-(n-1)/r) If the annuity in the above example was instead an annuity due, the present value of it would be calculated as: Present Value of Annuity Due= $50,000 + $50,000 x ((1 - (1 + 0.07) ^ -(5-1) / 0.07) = $219,360.