ACCA Applied Skills · Financial Management

The nature and purpose of financial management: formula sheet

Full chapter guide

Key formulas

Shareholder wealth: Shareholder return = Dividends received + Increase in share price; Wealth is created by dividends and capital growth together. This is a concept to state, not a calculation you will be given.
Total shareholder return (TSR): TSR = (P₁ − P₀ + D₁) ÷ P₀; P₀ is the opening share price, P₁ the closing price and D₁ the dividend in the period. Use it to show whether wealth has increased.
Investment acceptance rule: Accept if expected return ≥ required return (equivalently NPV ≥ 0); The required return reflects the project's risk and the cost of finance. NPV is covered in its own topic.
Total shareholder return (TSR): TSR = (P₁ − P₀ + D₁) ÷ P₀; P₀ is the opening share price, P₁ the closing price, D₁ the dividend per share in the period.
Earnings per share (EPS): EPS = (Profit after tax − preference dividends) ÷ number of ordinary shares; Use earnings available to ordinary shareholders.
Return on capital employed (ROCE): ROCE = Profit before interest and tax ÷ (Total assets − current liabilities) × 100%; Capital employed is equity plus long-term debt. State the definition you use.
Dividend yield: Dividend yield = Dividend per share ÷ Share price × 100%; Capital gain yield is (P₁ − P₀) ÷ P₀. TSR is the sum of the two.
Dividend cover: Dividend cover = Earnings per share ÷ Dividend per share; Shows how many times earnings cover the dividend.
Agency relationship: Principal (shareholders) → appoints → Agent (managers); The agent acts for the principal. Conflict arises when the agent's goals differ from the principal's.
Agency costs: Agency costs = monitoring costs + bonding/incentive costs + residual loss; Residual loss is the value lost when managers still act against shareholders' interests.
Goal congruence: Manager's aims = shareholders' aims; The aim of remuneration and governance design. It is never perfect.
Total shareholder return (TSR): TSR = (P₁ − P₀ + D) ÷ P₀; P₀ is opening share price, P₁ closing price, D dividends in the period. Often used as a performance measure for incentives.
Economy: Economy = spending less on inputs for a given quality (compare actual input cost with expected or benchmark cost); Inputs only. Quality must be held constant, or cheaper inputs may just mean worse inputs.
Efficiency: Efficiency = outputs ÷ inputs (for example, cost per unit of output, or output per employee); Links inputs to outputs. A lower cost per output, or higher output per input, means greater efficiency.
Effectiveness: Effectiveness = actual outcome achieved compared with the objective set; Focuses on outcomes, not cost. Measure against the stated target.
Value for money: VFM = economy + efficiency + effectiveness (all three together); Not a numerical formula. It is the combined judgement that resources were well used.
Typical NFP financial objective: Income ≥ expenditure (break even or within budget); Surpluses are reinvested, not distributed.
Agency problem link: Separation of ownership and control → conflicting goals → agency costs; Use this chain to start any answer on why governance is needed.
Agency costs: Agency costs = monitoring costs + bonding costs + residual loss; Monitoring is cost of oversight such as audits. Bonding is cost of guarantees by managers. Residual loss is the value still lost.
ACCA ethical principles: Integrity, Objectivity, Professional competence and due care, Confidentiality, Professional behaviour; Learn these as a list to name the principle at risk in a scenario.
Key governance committees: Audit committee, remuneration committee, nomination committee; Each should be led by independent NEDs in good practice.

Quick revision

Three decisions: investment, financing and dividend.
Main objective of a company: maximise shareholder wealth.
Shareholder wealth is increased through dividends and share price growth.
Profit maximisation can ignore risk, timing of returns and cash flow.
Agency problem: managers (agents) may not act in the interests of shareholders (principals).
Ways to reduce agency conflict: performance-linked pay, monitoring, audit and governance codes.
Performance-linked rewards can still encourage short-term or risky behaviour.
Stakeholders include lenders, employees, customers, suppliers, government and the community.
Not-for-profit bodies usually have non-financial objectives and often work with limited funds.
Value for money = economy, efficiency and effectiveness.
Economy is lower input cost, efficiency is output per input, effectiveness is achieving the objective.
Good governance supports accountability, transparency and ethical conduct.

Common mistakes

Treating financial management as the same as financial accounting. Fix: Remember that accounting records and reports past results, while financial management makes forward-looking decisions on investing, funding and distributing.
Classifying a share issue or loan as an investment decision. Fix: Raising funds is a financing decision. Spending funds on projects or assets is the investment decision.
Dividing the TSR by the closing price instead of the opening price. Fix: Return is always measured on the amount invested at the start, so divide by P₀.
Leaving the dividend out of the return. Fix: Shareholder wealth is dividends plus capital gain. Add D₁ to the price change.
Swapping principal and agent. Fix: Shareholders are principals. Managers are agents. The agent acts for the principal.
Listing remuneration schemes without saying how they help. Fix: Link each scheme to a performance measure and to the shareholders' aim, then give a weakness.
Saying an NFP must never make a surplus. Fix: State that a surplus is allowed. It is not the main aim and is reinvested in the service.
Confusing economy with efficiency. Fix: Economy is the price of inputs. Efficiency is output per unit of input. Ask whether outputs are involved.
Saying governance removes the agency problem completely. Fix: Say it reduces or manages the problem. Controls cost money and can be bypassed.
Treating ethics and legal compliance as the same thing. Fix: State that an action can be legal yet unethical. Ethics relies on principles and judgement.

Exam tips

In objective questions, first decide which of the three decisions is being described. The wrong options often describe a different decision.
Remember that objective test questions are all or nothing, so read every option before choosing and do not stop at the first plausible one.
In written answers, name the decision, explain it, then apply it to the scenario. Marks usually go to application, not definitions.
Use shareholder wealth as the default objective, and mention risk and timing of returns when you explain why profit alone is inadequate.
Show the links between decisions in at least one sentence, as this is a common way to separate strong answers from average ones.
Always link your explanation to timing, risk and cash. These three words earn most of the marks in written answers.
In OT questions, read whether the options mention profit only. These are usually distractors for the wealth maximisation answer.
When commenting on performance, compare against a target, a prior year or the market. A figure alone earns little.