Financial Analysis And CFO Responsibilities

Describe the Financial and Accounting Management for Financial Expertise.

Project A

Years	Cash Flows	Cumulative Cash Flows
0	-$3,300,850	-$3,300,850
1	$580,652	-$2,720,198
2	$600,645	-$2,119,553
3	$648,000	-$1,471,553
4	$678,000	-$793,553
5	$690,000	-$103,553
6	$700,000	$596,447
7	$710,000	$1,306,447
	Payback Period=	5+ (103553/(596447+103553))
	Payback Period	5.15 years

However, use of payback period model will give absurd results as it is not taking into account the time value of money. Thus, we are required to calculate discounted payback period.

Discounted payback period

	Cash Flows	DCF @ 10%	PV	Cumulative PV
0	-$3,300,850	1.000	-$3,300,850.00	-$3,300,850.00
1	$580,652	0.909	$527,865.45	-$2,772,984.55
2	$600,645	0.826	$496,400.83	-$2,276,583.72
3	$648,000	0.751	$486,851.99	-$1,789,731.73
4	$678,000	0.683	$463,083.12	-$1,326,648.61
5	$690,000	0.621	$428,435.71	-$898,212.89
6	$700,000	0.564	$395,131.75	-$503,081.14
7	$710,000	0.513	$364,342.26	-$138,738.88

 

No payback period is there in case of Project A as the project is not able to generate net cash inflow throughout its life span.

Project B

Years	Cash Flows	Cumulative Cash Flows
0	-$3,899,900	-$3,899,900
1	$680,652	-$3,219,248
2	$700,645	-$2,518,603
3	$748,000	-$1,770,603
4	$798,000	-$972,603
5	$820,000	-$152,603
6	$901,000	$748,397
7	$919,050	$1,667,447
	Payback Period=	5+ (152603/152603+748397))
	Payback Period	5.17

 

	Cash Flows	DCF @ 10%	PV	Cumulative PV
0	-$3,899,900	1.000	-$3,899,900.000	-$3,899,900.000
1	$680,652	0.909	$618,774.545	-$3,281,125.455
2	$700,645	0.826	$579,045.455	-$2,702,080.000
3	$748,000	0.751	$561,983.471	-$2,140,096.529
4	$798,000	0.683	$545,044.737	-$1,595,051.792
5	$820,000	0.621	$509,155.485	-$1,085,896.307
6	$901,000	0.564	$508,591.011	-$577,305.296
7	$919,050	0.513	$471,617.969	-$105,687.327

Under both the project alternatives the cost of initial investment will be recovered in 5 years and few months as per simple payback model. However, Project B will take few months more than Project A.

But as per discounted payback period model, there will no payback period in both the cases. 

Part b: Accounting Rate of Return (ARR)

It is assumed that accounting profits and cash flows are equivalent to each other as no information of accounting profits is given in case.

Project A

Years	Cash Flows
0	-$3,300,850
1	$580,652
2	$600,645
3	$648,000
4	$678,000
5	$690,000
6	$700,000
7	$710,000
Average Earnings	$658,185
Initial Investment	$3,300,850.00
Average Earnings	($580,652+$600,645+$648,000+$678,000+$690,000+$700,000+$710,000)/7
ARR	19.94%

Project B

	Cash Flows
0	-$3,899,900
1	$680,652
2	$700,645
3	$748,000
4	$798,000
5	$820,000
6	$901,000
7	$919,050
Average Earnings	$795,335
Initial Investment	$3,899,900
Average Earnings	($680,652+$700,645+$748,000+$798,000+$820,000+$901,000+$919,050)/7
ARR	20.39%

Project B has a higher ARR than Project A. Hence, Project B is more suitable to be opted than Project A.

Part c: Net Present Value

Project A

	Cash Flows	DCF @ 10%	PV
0	-$3,300,850	1.000	-$3,300,850.00
1	$580,652	0.909	$527,865.45
2	$600,645	0.826	$496,400.83
3	$648,000	0.751	$486,851.99
4	$678,000	0.683	$463,083.12
5	$690,000	0.621	$428,435.71
6	$700,000	0.564	$395,131.75
7	$710,000	0.513	$364,342.26
	NPV		-$138,738.88

Project B

	Cash Flows	DCF @ 10%	PV
0	-$3,899,900	1.000	-$3,899,900.000
1	$680,652	0.909	$618,774.545
2	$700,645	0.826	$579,045.455
3	$748,000	0.751	$561,983.471
4	$798,000	0.683	$545,044.737
5	$820,000	0.621	$509,155.485
6	$901,000	0.564	$508,591.011
7	$919,050	0.513	$471,617.969
	NPV		-$105,687.33

Both the projects are generating negative cash outflows and negative NPV hence both are not suitable for the proposed investment. However, Project B is better than Project A because of involvement of less net cash outflows.

Part d: Internal Rate of Return

Project A

	Cash Flows	8.76%
0	-$3,300,850	1.000	-3300850.000
1	$580,652	0.919	533888.935
2	$600,645	0.845	507794.338
3	$648,000	0.777	503709.321
4	$678,000	0.715	484584.668
5	$690,000	0.657	453444.418
6	$700,000	0.604	422968.479
7	$710,000	0.556	394460.305
IRR	8.76%		$0.5

 

Project B

	Cash Flows	9.22%
0	-$3,899,900	1.000	-$3,899,900.00
1	$680,652	0.916	$623,209.65
2	$700,645	0.838	$587,375.88
3	$748,000	0.768	$574,154.43
4	$798,000	0.703	$560,840.10
5	$820,000	0.643	$527,665.94
6	$901,000	0.589	$530,858.82
7	$919,050	0.539	$495,795.33
			$0.14
IRR	9.22%

 

IRR shows that at IRR, the project will not have any net cash outflow or inflow and therefore the NPV will remain Zero at this point. Since the IRR is less than the overall discounting rate which, the projects are not going to be profitable for the business.

Requirement II

From the above analysis, it can be concluded that project B must be selected as it involves less of net cash outflows and also the ARR of project B is higher than project A. Though, both the project entails negative NPVs and hence are not able to recover the initial investment cost but yet the project B is more feasible than Project A.

Part 2a)

Room Division	October	November	December	Total
Average Occupancy	320	336	384
Average Room Rate	380	452	428
Revenue from renting	$             121,600.00	$  151,872.00	$  164,352.00	$  437,824.00
Average Room Rate	$                      380.00	$          452.00	$          428.00	$      1,260.00
Variable cost per room	$                        38.00	$            38.00	$            41.00	$          117.00
Labour	$                        68.40	$            81.36	$            77.04	$          226.80
Contribution	$                      273.60	$          332.64	$          309.96	$          916.20
Total Contribution	$                87,552.00	$  111,767.04	$  119,024.64	$  318,343.68
Revenue from renting	$             121,600.00	$  151,872.00	$  164,352.00	$  437,824.00
Less: Cost
Variable Cost	$                12,160.00	$    12,768.00	$    15,744.00	$    40,672.00
Labour Cost	$                21,888.00	$    27,336.96	$    29,583.36	$    78,808.32
Total Variable Cost	$                34,048.00	$    40,104.96	$    45,327.36	$  119,480.32
Contribution	$                87,552.00	$  111,767.04	$  119,024.64	$  318,343.68
Less: Fixed Cost	$                94,000.00	$    94,000.00	$    94,000.00	$  282,000.00
Net Revenue/Profit	-$                 6,448.00	$    17,767.04	$    25,024.64	$    36,343.68

Total Revenue:

October: $ 121,600

November: $ 151,872

December: $ 164,352

Net Revenue:

October: -$ 6448

November: $ 17767.04

December: $ 25024.64 

Part 2b

Foods and Beverages Division	October	November	December
Average Occupancy	320	336	384
No. of guests per room	2	2	2
Total guests	640	672	768
% of Guests opting for breakfast	82%	88%	94%
Guests opting for breakfast	525	591	722
Breakfast Rate per customer	$                        29.00	$            29.00	$            29.00
Breakfast Revenue	$                15,219.20	$    17,149.44	$    20,935.68
	18%	18%	20%
F& B Cost	$                  2,739.46	$      3,086.90	$      4,187.14
Wage Cost	$                  3,956.99	$      4,458.85	$      5,443.28
Contribution	$                  8,522.75	$      9,603.69	$    11,305.27
Fixed Cost	$                12,333.33	$    12,333.33	$    12,333.33
Profit/Loss	-$                 3,810.58	-$      2,729.65	-$      1,028.07

Estimated sales revenue:

October:             $ 15,219.20

November           $17,149.44

December           $ 20,935.68

Net Revenue/Loss:

October:      -$      3,810.58

November:  -$      2,729.65 

December:  -$      1,028.07 

Part 2c: What if analysis

Foods and Beverages Division	October	November	December
Room Bookings	288	309	384
Rate of Room	$                      380.00	$          452.00	$          428.00
Room Revenue	$             109,440.00	$  139,722.24	$  164,352.00
Variable cost housekeeping division	$                12,800.00	$    13,440.00	$    16,512.00
Variable cost F&B	$                  2,821.64	$      3,179.51	$      4,312.75
Fixed Cost
Room Divisions	$                95,880.00	$    95,880.00	$    95,880.00
F&B Divisions	$                12,580.00	$    12,580.00	$    12,580.00

Changes in the overall profitability

	October	November	December	Total
Room Revenue	$  109,440.00	$  139,722.24	$  164,352.00	$  413,514.24
F&B Revenue	$    15,219.20	$    17,149.44	$    20,935.68	$    53,304.32
Total	$  124,659.20	$  156,871.68	$  185,287.68	$  466,818.56
Variable Cost	$    15,621.64	$    16,619.51	$    20,824.75	$    53,065.90
Wages	$    25,844.99	$    31,795.81	$    35,026.64	$    92,667.44
Contribution	$    83,192.57	$  108,456.36	$  129,436.29	$  321,085.22
Fixed Cost	$  108,460.00	$  108,460.00	$  108,460.00	$  325,380.00
Profit	-$   25,267.43	-$              3.64	$    20,976.29	-$      4,294.78

The what-if analysis has shown that the overall profitability of business of Zelma Hotel of $ 36343.68 has turned down to the loss of $ -4294.78.

Part 2d)

If the number of room bookings are reduced by 10% in October and 8% in November and the total fixed cost is increased by 2% for both room division as well as foods and beverage division along with the increase in the variable cost of both housekeeping department and food & beverage department, Zelma Hotel will have no profits after meeting all the costs and expenses of the business. As the number of room bookings has reduced and the variable cost as well as fixed cost has increased, the overall profitability of the business has declined. The food and beverages department of Zelma Hotel is entailing losses in all the three months under consideration as the revenue of this department is not sufficient to cover the costs and expenses and hence it is entailing  overall loses to the company. The hotel management must bring out some schemes and offers to attract more customers so as to increase its revenue generation. Further, the hotel management must also adopt the breakeven technique to identify the level beyond which it will start earning profits. 

A chief financial officer is appointed in an organisation to overlook financial, administrative as well as risk management functions. The CFO of the company is generally entrusted with the function of strategic financial planning and developing and monitoring the controls which could preserve the assets of the company. Also, the CFOs have the duty of reporting to the company about the financial results achieved by it during a given period of time. Since last few decades, the role of CFO has changed with the increasing complexities of the business. During the era of nineties, CFOs were considered as mere guardians of entity’s financial health by implementing the controls in the areas of company’s financial performance (Lewis, 2018). With the increased scope of globalisation of both capital and markets the role of CFO in an organisation has also increased (Mian, 2001). Thus, in the modern times CFOs are charged with more and more responsibilities in driving the companies to fulfil their strategic objectives.

 The increasing information needs in the market has enhanced the responsibilities of CFO of the companies.  The CFOs in the current times are expected to contribute in achievement of the strategic objectives of their organisation, in addition to being a financial gatekeeper of such organisation. Apart from core finance and accounting function, the responsibilities of CFO includes following:

Demonstration of ethical form of leadership as well as business integrity;

• Maintaining the balance between the short-run matters and pressures like managing appropriate flow of cash, maintaining liquidity, profitability as well as defining the long term vision of the company along with its sustainable success;
• Fulfilment of stewardship responsibilities by ensuring that effective compliances are made with the relevant laws and provisions such as corporate social responsibility, financial reporting, code of corporate governance, capital requirements etc. CFOs are expected to continuously respond to the increasing regulatory developments (Collins, Masli, Reitenga, Sanchez, 2009).
• Sharing effective strategic leadership responsibilities with the company’s CEO and various other managers. Also, the CFOs are responsible to ensure that finance and accounts function in an organisation supports the business at the strategic as well as operational level.
• Bringing and managing the change as well as innovation within the company in which they are employed.
• Engaging and continuously communicating with their colleagues and with the stakeholders of company such as investors, customers, suppliers, governmental agencies and so on (IFAC, 2013).

The stewardship responsibilities of CFOs have become more complex nowadays, particularly in the areas of accounting, taxation and treasury management, regulatory and legal compliances of different jurisdictions. Further, they have large roles to be played in the corporate governance of the company as they have to work as the executive support for the board of directors in their decision making process. Furthermore, they often have to support the CEOs of the companies (Gore, Matsunaga & Eric Yeung, 2011). A CFO of the company can also be its director with various statutory and fiduciary duties. Their duties as CFO are extended to whole of the organisation which employs them. Hence, they must be aware of their legal or fiduciary duties at the time of undertaking such processes which are aimed at providing support to the board of directors as well as other members of management understanding and taking the responsibility towards the fulfilment of their duties towards the stakeholders of the company.

Moreover, the CFOs of the company must bring their professional qualities to their responsibilities and they must also encourage the ethical behaviour as well as decision making across the organisation so as to ensure that sustainable value creation is achieved in their organisation (IFAC, 2013). They must strictly adhere to the basic principles of ethical conduct while performing their responsibilities. These principles are: integrity, objectivity, professional care and diligence, professional behaviour and confidentiality.  CFOs have the direct responsibility of ensuring that their employing organisation is attuned to strong ethical standards which are aligned with its goals and objectives. They have to encourage professionalism and the ethical behaviour throughout the organisation. As per the integrity principle CFOs must remain straight-forward and honest while providing their professional services to the company in which they are appointed as CFO. They must prepare all the information in the most transparent manner by following all the applicable professional standards. As per the objectivity principle, the CFOs must apply their professional judgment without acting in the biased manner. They must avoid any conflict of interest.  As per confidentiality principle, CFOs must give due respect to the sensitive information of the company which is acquired by them during the course of their professional engagements. Further, CFOs must maintain high degree of professionalism while performing their duties and responsibilities as CFOs so as to avoid discredit to the institute (IFAC, 2013).

The CFOs in the contemporary times have to be focused on being the key leader of the organisation and also the communicator of the financial information of the company with its stakeholders (Bedard, Hoitash & Hoitash, 2014). It requires the CFOs to remain highly professional and to have an ethical foundation to their practices. Given the professional education as well as training along with relevant experience, professional accountants who are placed at the role of CFO of the company must manage the expectations and responsibilities of their designation (IFAC, 2013). They must hold the requisite degree in the certified course of professional accountancy Chartered Accountant (CA), Certified Public Accountant (CPA), Chartered Professional Accountant (CPA), Certified Accountant, Chartered or Certified Management Accountant (CMA) (Aier, Comprix, Gunlock & Lee, 2005).

There are various challenges faced by CFOs of the companies while they undertake the decisions in relation to various critical areas (Deloitte, 2015). The investment in long-lived assets is one of those critical areas where the CFOs have to face various challenges (Deloitte.  2015). Long-lived assets involve huge time investments and hence require significant financial planning as they continue to provide economic benefits to the company for more than one year. Also, investment in the long lived assets requires a deep analysis of future predictions in the market for the demand of the products dealt by company so as to determine the possibilities of impairment. These challenges can be curtailed by the CFOs by making use of various tools and techniques of assessing the feasibility of investment in such assets. Further, the CFOs must prepare and keep aside funds for the immediate replacement of long-lived assets.

Aier, J.K., Comprix, J., Gunlock, M.T. and Lee, D., 2005. The financial expertise of CFOs and accounting restatements. Accounting Horizons, 19(3), pp.123-135.

Bedard, J.C., Hoitash, R. and Hoitash, U., 2014. Chief financial officers as inside directors. Contemporary Accounting Research, 31(3), pp.787-817.

Bierman Jr, H. and Smidt, S., 2012. The capital budgeting decision: economic analysis of investment projects. Routledge.

Collins, D., Masli, A., Reitenga, A.L. and Sanchez, J.M., 2009. Earnings restatements, the Sarbanes-Oxley Act, and the disciplining of chief financial officers. Journal of Accounting, Auditing & Finance, 24(1), pp.1-34.

Deloitte.  2015. The CFO Journey Opportunities and uncertainties facing the finance leader. Available at: https://www2.deloitte.com/content/dam/Deloitte/br/Documents/finance/cfo/TheCFOJourney_.pdf Accessed on: 11.10.2018.

Gore, A.K., Matsunaga, S. and Eric Yeung, P., 2011. The role of technical expertise in firm governance structure: Evidence from chief financial officer contractual incentives. Strategic Management Journal, 32(7), pp.771-786.

Graham, J. and Harvey, C., 2002. How do CFOs make capital budgeting and capital structure decisions?. Journal of applied corporate finance, 15(1), pp.8-23.

IFAC, 2013. The Role and Expectations of A CFO: A Global Debate on Preparing Accountants for Finance Leadership Discussion Paper. Available at: https://www.ifac.org/system/files/publications/files/Role%20of%20the%20CFO.pdf Accessed on: 11.10.2018.

Lewis, M., 2018. 6 Responsibilities & Duties of a Modern Chief Financial Officer (CFO). Available at:  https://www.moneycrashers.com/chief-financial-officer-cfo-responsibilities/ Accessed on: 11.10.2018.

Mian, S., 2001. On the choice and replacement of chief financial officers. Journal of Financial Economics, 60(1), pp.143-175.

Truong, G., Partington, G. and Peat, M., 2008. Cost-of-capital estimation and capital-budgeting practice in Australia. Australian journal of management, 33(1), pp.95-121.