The shareholder value represents the interest of stakeholders in a business. Shareholders experiences or seems to see an increase in the value of their shares through dividends or gains at stock exchange. Share value maximization is one of the principles used by management to prioritize the interests of shareholders through projects that will increase profits and ultimately the share dividends. Stock price maximization involves adoption of low cost and efficient processes so as to manufacture goods and services of high quality at the lowest cost possible.
Thus, by adopting new technology to produce required goods and services by consumers, is beneficial to the society both in the short and long term basis. In addition, it facilitates courteous and efficient services as well as adequate stocks of merchandise (Kellison, 1991). Discuss the time value of money concept. What is discounting and how is it related to compounding? What is compounding? Explain why earning interest on interest is called compound interest?
Time value of money is concept used in financial management to compare alternatives in investment as well as solving problems that involve mortgages, savings, loans, annuities, and leases. Time value of value of money is based on the idea that the amount of money one holds today is worth more than the expectation that he/she the same amount in future. The currently held money has high value in future as it can be invested and earn interest after some time.
Discounting involves calculating or converting specific future amount/value of money at certain discount rate to establish its present value. Thus, a person is able to make judgment on whether to invest such amount of money and reap rewards in future. On the other hand, compounding refers to adding interest earned to the principal amount so that it can go on earning higher interests in its own right. The reason that initial interest earns additional interest i. e. compounded is why it is called compound interest (Kellison, 1991).
Explain the following statement: While the balance sheet can be thought of as a snapshot of the firm’s financial position as of a point in time, the income statements reports on operations over a period of time? The balance sheet shows the financial position of an enterprise in terms of net assets, capital (stockholder’s or owner’s equity), and liabilities as at the end of a specific fiscal period. At any moment in time, assets are equal to the owner’s equity plus liabilities. Liabilities represent creditor’s claims against the assets of an enterprise.
Thus, a balance sheet facilitates a business owner to quickly assess the financial capability and of his/her business. Income statement shows all the business transactions in terms of sales and purchases made, revenue collected, and expenses incurred in given period of time. Therefore, the primary use of income statements is to testify if a company is making profit or loss for a given period of time to the shareholders or potential investors (Frank, 2004). Why is it sometimes misleading to compare a company’s financial ratios with those of other firms that operate in the same industry?
First, it is in doubt that different companies apply or use different accounting policies to govern their financial operations. Therefore, a specific accounting policy applied by a certain company may not be similar to another’s policy. For instance, a company may apply accrual basis concept whereas another doest not recognize accruals until they are paid. Secondly, companies operate differently in terms of business activity and management for instance, companies may be in the same industrial sector but they engage in different activities such as production of raw materials and processing.
In such a case a production company may be affected by adverse conditions like weather whereas the other is favored by industrial-processing subsidies offered by the government which translates to healthier financial ratios. In addition, some financial managers of certain companies are unscrupulous and such individuals can calculate unprofessionally to lure potential investors. Proper comparison can only be achieved if there are established industrial standards within which all companies can draft their financial ratios (Ibid, 2004).