Finance Function it deals with the procurement and administration of funds with the view of achieving the objective

e of the business. The goal of the finance function is to serve the organization's financial/accounting needs while laying a platform for the future. The Finance Function: A Process Flow
DETERMINATION OF FUND REQUIREMENTS

1. Long Term 2. Short Term

PROCUREMENT OF FUNDS

1. Long Term 2. Short Term

EFFECTIVE AND EFFICENT USE OF FUNDS

1. Long Term 2. Short Term

THE DETERMINATION OF FUND REQUIREMENTS Any organization, including the engineering firm will need funds for the following specific requirements: 1. 2. 3. 4. To finance daily operations To finance the firms credit services To finance the purchase of inventory To finance the purchase of major assets

Financing Daily Operations The day-to-day operations of the engineering firm will require funds to take care of expenses as they come. Money must be made available for the payment of the following: 1. 2. 3. 4. 5. Wages and salaries Rent Taxes Power and light Marketing expenses like those for advertising, entertainment, travel expenses, telephone and telegraph, stationary and printing, postage, etc. 6. Administrative expenses like those for auditing, legal, services, etc.

Any delay in the settlement of the foregoing expenses may disrupt the effective flow of work in the company. It may also erode the publics confidence in the ability of the company to operate on a longterm basis. Creditors, for instance, may withhold the extension of credit to the company. Financing the Firms Credit Services It is oftentimes unavoidable for firms to extend credit to customers. If the engineering firm manufactures products, sales terms vary from cash to 90-day credit extensions to customers. Construction firms will have to finance the construction of government projects that will be paid many months later. When a new chemical manufacturing firm finds difficulty in convincing distributors to carry their products, a credit extension may solve the problem. A new problem, however, will be created, i.e., how the credit arrangement will be financed. Financing the Purchase of Inventory The maintenance of adequate inventory is crucial to many firms. Raw materials, supplies, and parts are needed to be kept in storage so they will be available when needed. Many firms cannot cope with delays in the availability of the required material inputs in the production process, so these must be kept ready whenever required. The purchase of adequate inventory, however, will require sufficient funding and this must be secured. Sometimes, inventories unnecessarily tie-up large amount of funds. The engineer manager must devise some means to make sure this situation does not happen. Financing the Purchase of Major Asset Companies, at times, need to purchase major assets. When top management decides on expansion, there will be a need to make investments in capital assets like land, plant and equipment. It is obvious that the financing of the purchase of major assets must come from long term sources.

THE PROCUREMENT OF FUNDS 1. Short-Term Sources of Funds Loans and credit may be classified as short-term, medium-term, or long term. Short-term sources of funds are those with repayment schedules of less than one year. Collaterals are sometimes required by short-term creditors. Advantages of Short-Term Credits. When the engineering firm avails of short-term credits, the following advantages may be derived:

1. They are easier to obtain. Creditors maintain the view that the risk involved in short-term lending is also short-term. Thus, short-term credits are made easily available to qualified borrowers. 2. Short-term financing is often less costly. Since short-term financing is favoured by creditors, they make it available at less cost. 3. Short-term financing offers flexibility to the borrower. After the borrower has settled his short-term debt, he may consider other means of financing, if he still requires it. Long-term financing, in contrast, eliminates this option. He is stuck with the long-term funds even if he no longer requires it. Disadvantage of Short-Term Credits. Short-term financing has also some disadvantages. They are as follows: 1. Short-term credits mature more frequently. This may place the engineering firm in a tight position more often than necessary. When the frequencies of the firms cash inflows are more than twelve months apart, the firm could be in serious trouble meeting its short-term obligations. 2. Short-term debts may, at times, be more costly than long-term debts. When short-term debts are used to finance long-term expenditures, the frequent renewals, adjustment of terms, and shopping for new sources may prove to be more costly. Supplies of Short-Term Funds. Short-term financing is provided by the following: 1. 2. 3. 4. 5. 6. Trade creditors Commercial banks Commercial paper houses Finance companies Factors, and Insurance companies

Trade creditors refers to suppliers extending credit to buyer for use in manufacturing, processing or reselling goods for profit. The instruments used in trade credit consist of the following: (1) open-book credit, (2) trade acceptance, and (3) promissory notes. The open-book credit is unsecured and permits the customer to pay for goods delivered to him in a specified number of days. For financially weak engineering firms, the open-book credit is a very useful source of financing. The trade acceptance is a time draft drawn by a seller upon a purchase payable to the seller as payee, and accepted by the purchaser as evidence that the goods shipped are satisfactory and that the price is due and payable. Under the terms granted in the trade acceptance, the seller allows the buyer to pay within a certain number of days. The arrangement provides the buyer some relief in financing his shortterm requirements. A promissory note is an unconditional promise in writing made by one person to another, signed by the maker, engaging to pay, on demand or at fixed or determinable future time, a certain sum of money to, or to the order of, a specified person or to bearer.

Commercial banks are institutions which individuals or firms may tap as source of short-term financing. Commercial banks grant two types of short-term loans: those which require collateral, and those which do not require collateral. Examples of commercial banks granting short-term loans are City Trust, Premier Bank, and Land Bank. Commercial paper houses are those that help business firms in borrowing funds from the money market. Under this scheme, the business firm in need of funds issues a commercial paper, which is a short-term promissory note, generally unsecured, and issued by large, established firms. The commercial paper is sold to investors through the commercial paper house. Business finance companies are financial institutions that finance inventory and equipment of all types and sizes of business firms. Examples of finance companies in the Philippines are Philacor Credit Corporation and Consolidated Orix Leasing and Finance Corporation. Factors are institutions that buy the accounts receivables of firms, assuming complete accounting and collection responsibilities. Engineering firms which maintain sizable amounts of accounts receivable may avail of the services of factors when they are in dire need of cash. Insurance companies are also possible sources of short-term funds. Industry reports indicate that insurance companies in the Philippines regularly make investments in short-term commercial papers and promissory notes. 2. Long-Term Source of Funds There are instance when the engineering firm will have to tap the long-term sources of funds. An example is when expenditures for capital assets become necessary. After the amount required is determined, a decision has to be made on the type of source to be used. Long-term source of funds are classified as follows: 1. Long-term debts 2. Common stocks, and 3. Retained earnings Long-term debts are sub-classified into term loans and bonds. Term Loans. A term loan is commercial or industrial loan from a commercial bank, commonly used for plant and equipment, working capital, or debt repayment. Term loans have maturities of 2 to 3 years. The advantages of term loans as long-term source of funds are as follows: 1. Funds can be generated more quickly than other long-term sources. 2. They are flexible, i.e., they can be easily tailored to the needs of the borrower. 3. The cost of assurance is low compared to other long-term sources. Bonds. A bond is a certificate of indebtedness issued by a corporation to a lender. It is a marketable security that the firm sells to raise funds. Since the ownership of bonds can be transferred to

another person, investors are attracted to buy them. It is a formal contract to repay borrowed money with interest at fixed intervals. Thus a bond is like a loan: the issuer is the borrower (debtor), the holder is the lender (creditor), and the coupon is the interest.

The Firms Finance and Cash Flow

CUSTOMERS
LONG-TERM ASSETS Production Equipment Land Buildings LONG-TERM FINANCING Long-term debt Common stock Retained earnings

SALES

ACCOUNTS RECEIVABLE

INVENTORY

CASH

Marketable Securities

Supplies Materials

Taxes Salaries Wages Rent Insurance

SHORT-TERM FUND SOURCES Commercial banks Commercial paper houses Finance companies Factors Insurance companies

DETERMINING THE BEST SOURCE OF FINANCES As there are various fund sources, the engineer manager, or whoever is in change, must determine which source is the best available for the firm. To determine the best source, Schall and Haley recommends that the factor must be considered: 1. Flexibility 2. Risk 3. Income 4. Control 5. Timing 6. Other factors like collateral value, flotation costs, speed, and exposure.

Flexibility Some fund sources impose certain restrictions on the activities of the borrowers. An example of a restriction is the prohibition on the issuance of additional debt instruments by the borrower. As some funds sources are less restrictive, the flexibility factor must be considered. In general, however, short-term fund sources offer more flexibility than long-term sources. This is so because after settling the debt, short-term borrowers may shift to other types of financing. Long-term borrowers are given this opportunity only after a longer period of waiting. Risk Risk refers to the uncertainly concerning loss or injury. The engineering firm with a long list of exposure to risks, some of which are as follows: 1. 2. 3. 4. 5. 6. 7. Fire Theft Floods Accidents Non-payment of bills by customers (bad debt) Disability and death Damage claim from other parties

Types of Risk 1. Pure risk is one which there is only a chances of loss. This means that there is no way of making gains with pure risk. 2. Speculative risk is one in which there is chance of either loss or gain. This type of risk is not insurable. Operating engineering firms is a kind of speculative risk. Generally, short-term debt subjects the borrowing firm to more risk than does financing with long-term debt.

Income The monetary payment received for goods or services, orfrom other sources, as rents or investme nts. Income also refers to a company's remaining revenues after all expenses and taxes have been paid. In this case, it is also known as "earnings". Control When new owners are taken in because of the need for additional capital, the current group of owners may lose control of the firm. If the current owners do not want this to happen, they must consider other means of financing. Timing The financial market has its ups and downs. This means that there are times when certain means of financing provide better benefits than at other times. The engineer manager must, therefore, choose the best time for borrowing or selling equity. Role of a Financial Manager A financial manager is a person who takes care of all the important financial functions of an organization. The person in charge should maintain a far sightedness in order to ensure that the funds are utilized in the most efficient manner. His actions directly affect the Profitability, growth and goodwill of the firm. Following are the main functions of a Financial Manager: 1. Raising of Funds The primary goal of fund raising is, of course to raise money, but it should be recognized that fund raising is also an opportunity to build good public relations. Fund raising activities may lead folks to find out more about your group after they, for instance, talk with one of your volunteers at your bake sale. 2. Allocation of Funds Allocation of funds is essential to a business from the very beginning. You need to have a clear idea of how you will allocate your funds before you can hope to receive financial assistance from investors or capitalists. 3. Profit Planning Profit planning refers to proper usage of the profit generated by the firm. Profit arises due to many factors such as pricing, industry competition, state of the economy, mechanism of demand and supply, cost and output 4. Understanding Capital Markets The capital market is the market for the issue and trading of long-term securities. The term in this instance is measured as the term to maturity of the security and in order to be classified as a capital market instrument, the term to maturity should be longer than 3 years.

Two types of Capital Markets -primary market is the market for the first issue of securities. This issue is normally done by means of a public issue or by private placement . -secondary market is the market for trading securities once they have been issued. THE FIRMS FINANCIAL HEALTH In general, the objectives of engineering firms are as follows: 1. To make profits for the owners; 2. To satisfy creditors with the repayment of loans plus interest; 3. To maintain the viability of the firm so that customers will be assured of a continuous supply of products or services, employees will be assured of employment, suppliers will be assured of a markets, etc. The foregoing objectives have better chances of achievement if the engineering firm is financially healthy and has the capacity to be on a long-term basis. INDICATORS OF FINANCIAL HEALTH The financial health of an engineering firm may be determined with the use of four basic financial statements. These are as follows: 1. Balance sheet: also referred to as statement of financial position or condition, reports on a company's assets, liabilities and Ownership equity at a given point in time. 2. Income statement: also referred to as Profit and Loss statement (or a "P&L"), reports on a company's income, expenses, and profits over a period of time. Profit & Loss account provide information on the operation of the enterprise. These include sale and the various expenses incurred during the processing state. 3. Cash flow statement or Statement of changes in financial position: reports on a company's cash flow activities, particularly its operating, investing and financing activities. 4. Statement of retained earnings: explains the changes in a companys retained earnings over the reporting period. To be able to determine the financial health of a firm, the appropriate financial analysis must be undertaken

TERMS: Finance It is the science of funds management. The general areas of finance are business finance, personal finance and public finance. Finance includes saving money and often includes lending money. The field of finance deals with the concepts of time, money, risk and how they are interrelated. It also deals with how money is spent and budgeted. It is the art and science of managing money. Function The normal action, faculty, power or duty of anything. Procurement Acquisition: Complete process of obtaining goods and services from preparation and processing of requisition through to receipt and approval of the invoice for payment.

Collateral Assets pledged by a borrower to secure a loan or other credit and subject to seizure in the event of default. Dividend The term dividend relates to the portion of profit, which is distributed to shareholders of the company. It is a reward or compensation to them for their investment made in the firm. The dividend can be declared from the current profits or accumulated profits. Allocation Finance: An authorization to incur expense or obligation up to a specified amount, for specific purpose, and with specific period. Surplus A surplus means that the budget is likely healthy, at least in the short-term, and in any case the government does not have to resort to borrowing.