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Financial Management in Any Type Term Paper - 996 Words

Financial Management in Any Type Term Paper

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This is due to the impact of a change in revenue on profit or cash flow. It arises whenever a firm increases its revenues without a proportionate increase in operating expenses.

In deciding the most favorable level of leverage, it is a must for the firm to measure its acceptable or tolerable systematic risk/return on every transaction that corresponds with the way the company would like to finance. In measuring the degree of acceptability, the firm may compare the result to the operational leverage of other firms within the same industry. If the company has a very high degree of leverage, it is not a good indication of stability. The company is more susceptible to experience recession in the business. This is because every sale is being contributed to paying for fixed costs. The company will be compelled to continue its business to meet its obligations regardless of the outcome of sales.

As mentioned earlier, any business activity faces an accompanying risk and uncertainty. Since risk in inevitably present in whatever direction, it is a wise strategy to measure the amount of risk the company is able to handle depending on its financial capacity. There are two measures of risk that is widely used in finance - the Standard Deviation and the Coefficient of Variables.

In analyzing a given set of data, the variation of the dispersion of its values is measured by getting the standard deviation. It is computed by getting the square root of the variance.

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When we say variance, it means that we have to get the average of the squared differences between the data points and the mean. Mean is simply the average of the data being analyzed. If the result of the deviation is small, then the values are close to the mean. On the other hand, if the deviation is large, it means that the samples used are far from the mean, therefore, it can not be considered as reliable or predictable.

In comparing the degree of variation from one data series to another, the coefficient of variables is used to measure risk. The coefficient of variables is computed by getting the ratio of the standard deviation over the mean. It helps in determining the volatility or the amount of uncertainty (risk) about the size of changes in a particular investment. The lower the ratio will mean the better the risk-return. In contrast, the higher the volatility, the riskier is the investment.

Between the standard deviation and the coefficient of variables as types of risk measurement, the latter is better to use because the degree of variation can be compared even if the means are considerably different from each other. Considering the computational perspective in standard deviation, it can cause difficulties for large number of samples. This will also lead to potential rounding off errors. However, in using the coefficient of variables, there is a greater ability to compare data that are representatives of different population......

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