Prof. Dr. Rudolf Volkart financial management a basic framework for corporate finance Second edition Versus Zurich
This book was originally published in German: Rudolf Volkart: Strategische Finanzpolitik, 3. Auflage Versus Verlag, Zürich 2001, ISBN 978-3-908143-91-8 Bibliographic information published by the Deutsche Nationalbibliothek The Deutsche Nationalbibliothek lists this publication in the Deutsche Nationalbibliografie; detailed bibliographic data are available in the Internet at http://dnb.d-nb.de. The Richard Büchner Stiftung, Zurich, sponsored the translation of this book. All rights reserved. No part of this book may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise without the prior written permission of the copyright owner. 2009 Versus Verlag AG, Zurich www.versus.ch Illustration: Nico Zurich Layout: Versus Verlag Zurich Printed by: Comunecazione Bra Printed in Italy ISBN 978-3-03909-162-1
5 Table of Contents Introductory Comments................................................... 7 Financial Policy as a Value Driver......................................... 11 Problem Areas of Managerial Finance 11 Management Accounting and Financial Information 12 Stakeholders and Financial Management 14 The Two Dimensions of Financial Management............................. 19 Financial Function and Overall Financial Management 19 Key Decisions in Corporate Finance 21 Financial Reporting and Disclosure 22 Problems 26 Cash is King Discounted Cash Flow as Key Concept of Value Creation.................... 29 How Is Financial Value Created? 29 An Example of the Discounted Cash Flow-(DCF-)Based Valuation 31 Value as Managerial Focus 33 Problems 36
6 Table of Contents Financial Controlling and Risk Management................................ 39 Strategic Aspects of Financial Controlling 40 Operational Aspects of Financial Controlling 41 Risk Management and Risk Controlling 42 Problems 46 Value-Based Management, Return on Capital and Shareholder Value.......... 49 Return on Investment (ROI), Return on Invested Capital (ROIC) and Economic Value Added (EVA) 49 Return on Equity (ROE) and Return on Risk-Adjusted Capital (RORAC) 51 Further Considerations on Value Management 52 Problems 56 Investments, Acquisitions and Group Policy................................ 59 Value Contribution of Investments 59 Planning and Realization of Acquisitions 61 Consolidated Financial Group Policy 63 Problems 66 Capital Structure, Dividend Policy and Investor Relations.................... 69 Financial Leverage and Risk-Return-Position 69 Aspects of Dividend Policy 71 Financial Disclosure and Investor Relations 72 Problems 76 Conclusions for the Board of Directors and the Executive Committee.......... 79 Quality Checklist......................................................... 83 References.............................................................. 87 Index................................................................... 89 Commonly used abbreviations........................ Inner page of back cover
7 Introductory Comments Modern managerial finance is very challenging for many firms. This is especially true for members of the board of directors (the Board). Many businesses are facing increasing investment needs. Life cycles of many products are getting shorter and shorter. Cash outflows and inflows are speeding up. Globalization leads to an increasing pressure on profit margins. Meeting the investors target rates is a difficult challenge for many companies since the increasing global competition makes it harder to reach a satisfactory financial performance. The finance function is a vital question whenever a firm gets in trouble. If liquidity (short-term) and solvency (longterm) are out of control a firm may get into serious threats very quickly. This happens most likely when both cash flow and external financing tend to dry up. There is no excuse if management does not impose an effective and efficient financial controlling system. Cash outflows and inflows Financial performance Cash flow from operations External Financing Safeguarding liquidity
8 Introductory Comments Strategic (long-term) financial policy has to be defined at the top management level. The members of the board of directors, as well as those of the lower management, share the responsibility for maintaining the health of the company s finances. The (state) legislature also recognized this matter and decreed corresponding regulations for corporations. In art. 716a of the Swiss Commercial Law (Obligationenrecht) designing management accounting systems, financial planning and controlling are clearly designated as the responsibility of the Board and represent a central duty which cannot be delegated. Similar regulations apply in other countries as well. The financial responsibility of the Board has to be viewed in a broad sense. This means overseeing the financial function (managing liquidity, acquiring capital) as well as providing a clear managerial value orientation. The successful companies of the 1990s will be those that make managing value a central tenet of their corporate and business strategies. (Copeland et al. 1990) In this connection one talks of the so-called shareholder value or stockholder wealth. As well in continental Europe more and more companies are addressing this objective. Additionally there is the significance of financial data as a central information medium between management and investors. A transparent, value-oriented financial disclosure is of greatest importance in the global markets on both, a micro (company) level and a macro (whole economy) level. This guarantees optimal access to the money and capital markets. At the same time the cost of capital can be positively influenced. Finally value orientation and financial publicity become more and more important in connection with value-based compensation schedules (management compensation). Defining financial policy Responsibility of the Board (board of directors) Overall duty-obligation of the Board Managerial value orientation Financial data Money market and capital market Management compensation
Introductory Comments 9 This book is divided into seven parts. In the first part the nature and content of financial policy as a value-driving factor are discussed. Special emphasis is given to accounting as an information tool. Deeper considerations follow in the second part with the explanation of financial tasks and decision areas. The third part is dedicated to the overall importance of cash flow which is at the core of value-based management. The discounted cash flow (DCF) approach is explained with descriptions. Financial controlling and risk management are the core mechanisms of an efficient financial management. These core mechanisms are the subject of the fourth part. Value management, return on capital analysis and shareholder value are further explained in the fifth part. Thereby modern value-based management approaches such as the EVA concept should be discussed as well. The sixth part shows the nature, content and function of investment, acquisition and combine policy. These form a basis for successful value creation in a large modern company dealing on an international level. The areas of capital structure and dividend policy as well as investor relations important for the value contribution in finance are the subject of the seventh part. The occasionally inserted problems allow less hasty readers an in-depth assessment of the subject under discussion. Conclusions for the Board and the executive committee and a quality checklist top off the discussions. A bibliography and tips for further reading together with a list of abbreviations and a comprehensive index help the reader to get the most from the book and to encourage a further deepening into the subject. Structure First part Second part Third part Fourth part Fifth part Sixth part Seventh part Problems Summary Quality checklist