Question

In: Finance

study of how individuals prepare for financial emergencies, protect against premature death and the loss of...

study of how individuals prepare for financial emergencies, protect against premature death and the loss of property, and accumulate wealth over time. Personal finance Corporate finance Entrepreneurial finance Investment banking

Solutions

Expert Solution

What Is Personal Finance?

Personal finance is a term that covers managing your money as well as saving and investing. It encompasses budgeting, banking, insurance, mortgages, investments, retirement planning, and tax and estate planning. It often refers to the entire industry that provides financial services to individuals and households and advises them about financial and investment opportunities.

Personal Finance Explained

Personal finance is about meeting personal financial goals, whether it’s having enough for short-term financial needs, planning for retirement, or saving for your child's college education. It all depends on your income, expenses, living requirements, and individual goals and desires—and coming up with a plan to fulfill those needs within your financial constraints. But to make the most of your income and savings it's important to become financially literate, so you can distinguish between good and bad advice and make savvy decisions.

10 Personal Finance Strategies

The sooner you start financial planning the better, but it's never too late to create financial goals to give yourself and your family financial security and freedom. Here are the best practices and tips for personal finance:

1. Devise a Budget

A budget is essential to living within your means and saving enough to meet your long-term goals. The 50/30/20 budgeting method offers a great framework. It breaks down like this:

  • 50% of your take-home pay or net income (after taxes, that is) goes toward living essentials, such as rent, utilities, groceries, and transport
  • 30% is allocated to lifestyle expenses, such as dining out and shopping for clothes.
  • 20% goes towards the future: paying down debt and saving both for retirement and for emergencies

It’s never been easier to manage money, thanks to a growing number of personal budgeting apps for smartphones that put day-to-day finances in the palm of your hand. Here are just two examples: YNAB, aka You Need a Budget, helps you track and adjust your spending so that you are in control of every dollar you spend. Meanwhile, Mint streamlines cash flow, budgets, credit cards, bills, and investment tracking—all from one place. It automatically updates and categorizes your financial data as info comes in, so you always know where you stand financially. The app will even dish out custom tips and advice.

2. Create an Emergency Fund

It’s important to “pay yourself first” to ensure money is set aside for unexpected expenses such as medical bills, a big car repair, rent if you get laid off, and more.

Between three and six months' worth of living expenses is the ideal safety net. Financial experts generally recommend putting away 20% of each paycheck every month (which of course, you’ve already budgeted for!). Once you’ve filled up your “rainy day” fund (for emergencies or sudden unemployment), don’t stop. Continue funneling the monthly 20% towards other financial goals such as a retirement fund.

3. Limit Debt

It sounds simple enough: To keep debt from getting out of hand, don’t spend more than you earn. Of course, most people do have to borrow from time to time—and sometimes going into debt can be advantageous, if it leads to acquiring an asset. Taking out a mortgage to buy a house is one good example. But leasing can sometimes be more economical than buying outright, whether you’re renting a property, leasing a car, or even getting a subscription to computer software.

4. Use Credit Cards Wisely

Credit cards can be major debt traps. But it's unrealistic not to own any in the contemporary world, and they have applications other than as a tool to buy things. Not only are they crucial to establishing your credit rating, but they’re also a great way to track spending, which can be a big budgeting aid.

Credit just needs to be managed correctly, which means the balance should ideally be paid off every month, or at least be kept at a credit utilization rate minimum (that is, keep your account balances below 30% of your total available credit). Given the extraordinary rewards incentives on offer these days (such as cash back), it makes sense to charge as many purchases as possible. Still, avoid maxing out credit cards at all costs, and always pay bills on time. One of the fastest ways to ruin your credit score is to constantly pay bills late—or even worse, miss payments. (See Tip No. 5.)

Using a debit card is another way to ensure you will not be paying for accumulated small purchases over an extended period—with interest.

5. Monitor Your Credit Score

Credit cards are the main vehicle through which your credit score is built and maintained, so watching credit spending goes hand in hand with monitoring your credit score. If you ever want to obtain a lease, mortgage, or any other type of financing, you’ll need a solid credit history behind you. Factors that determine your score include how long you've had credit, your payment history, and your credit-to-debt ratio.

Credit scores are calculated between 300 and 850. Here's one rough way to look at it:

  • 720 = good credit
  • 650 = average credit
  • 600 or less = poor credit

To pay bills, set up direct debiting where possible (so you never miss a payment) and subscribe to reporting agencies that provide regular credit score updates. By monitoring your report, you will be able to detect and address mistakes or fraudulent activity. Federal law allows you to obtain free credit reports from the three major credit bureaus: Equifax, Experian, and TransUnion. Reports can be obtained directly from each agency, or you can sign up at AnnualCreditReport, a site sponsored by the Big Three; you can also get a free credit score from sites such as Credit Karma, Credit Sesame, or Wallet Hub. Some credit card providers, such as Capital One, will provide customers with complimentary, regular credit score updates, too.

6. Consider Your Family

To protect the assets in your estate and ensure that your wishes are followed when you die, be sure you make a will and—depending on your needs—possibly set up one or more trusts. You also need to look into insurance: auto, home, life, disability and long term care insurance. And be sure to periodically review your policy to make sure it meets your family's needs through life's major milestones.

Other critical documents include a living will and healthcare power of attorney. While not all these documents directly affect you, all of them can save your next-of-kin considerable time and expense when you fall ill or become otherwise incapacitated.

And while they're young, take the time to teach your children about the value of money and how to save, invest, and spend wisely.

7. Pay Off Student Loans

There are myriad of loan-repayment plans and payment reduction strategies available to graduates. If you’re stuck with a high-interest rate, paying off the principal faster can make sense. On the other hand, minimizing repayments (to interest only, for instance), can free up other income to invest elsewhere or to put into retirement savings while you're young and will get the maximum benefit from compound interest (see Tip No. 8, below). Some federal and private loans are even eligible for a rate reduction if the borrower enrolls in auto pay. Flexible federal repayment programs worth checking out include:

  • Graduated repayment—progressively increases the monthly payment over 10 years
  • Extended repayment—stretches the loan out over a period that can be as long as 25 years

8. Plan (and Save) for Retirement

Retirement may seem like a lifetime away, but it arrives much sooner than you’d expect. Experts suggest that most people will need about 80% of their current salary in retirement. The younger you start, the more you benefit from what advisors like to call the magic of compounding interest—how small amounts grow over time. Setting aside money now for your retirement not only allows it to grow over the long term, but it can also reduce your current income taxes if funds are placed in a tax-advantaged plan fund like an Individual Retirement Account (IRA), a 401(k) or a 403(b). If your employer offers a 401(k) or 403(b) plan, start paying into it right away, especially if they match your contribution. By not doing so, you're giving up free money! Take time to learn the difference between a Roth 401(k) and a traditional 401(k), if your company offers both.

Investing is only one part of planning for retirement. Other strategies include waiting as long as possible before opting to receive Social Security benefits (which is smart for most people), and converting a term life insurance policy to a permanent life one.

9. Maximize Tax Breaks

Due to an overly complex tax code, many individuals leave hundreds or even thousands of dollars sitting on the table every year. By maximizing your tax savings, you'll free up money that can be invested in the reduction of past debts, your enjoyment of the present and your plans for the future.

You need to start each year saving receipts and tracking expenditures for all possible tax deductions and tax credits. Many business supply stores sell helpful "tax organizers" that have the main categories already pre-labeled. After you're organized, you'll then want to focus on taking advantage of every tax deduction and credit available, as well as for deciding between the two when necessary. In short, a tax deduction reduces the amount of income you are taxed on, whereas a tax credit actually reduces the amount of tax you owe. This means that a $1,000 tax credit will save you much more than a $1,000 deduction.

10. Give Yourself a Break

Budgeting and planning can seem full of deprivations. Make sure you reward yourself now and then. Whether it's a vacation, purchase, or an occasional night on the town, you need to enjoy the fruits of your labor. Doing so gives you a taste of the financial independence you're working so hard for.

Last but not least, don't forget to delegate when needed. Even though you might be competent enough to do your own taxes or manage a portfolio of individual stocks, it doesn't mean you should. Setting up an account at a brokerage, spending a few hundred dollars on a certified public accountant (CPA) or a financial planner—at least once—might be a good way to jump-start your planning.

Corporate finance

Corporate finance is the division of finance that deals with how corporations deal with funding sources, capital structuring, and investment decisions. Corporate finance is primarily concerned with maximizing shareholder value through long and short-term financial planning and the implementation of various strategies. Corporate finance activities range from capital investment decisions to investment banking.

Understanding Corporate Finance

Corporate finance departments are charged with governing and overseeing their firms' financial activities and capital investment decisions. Such decisions include whether to pursue a proposed investment and whether to pay for the investment with equity, debt, or both.

It also includes whether shareholders should receive dividends. Additionally, the finance department manages current assets, current liabilities, and inventory control.

Types of Corporate Finance Tasks

Capital Investments

Corporate finance tasks include making capital investments and deploying a company's long-term capital. The capital investment decision process is primarily concerned with capital budgeting. Through capital budgeting, a company identifies capital expenditures, estimates future cash flows from proposed capital projects, compares planned investments with potential proceeds, and decides which projects to include in its capital budget.

Making capital investments is perhaps the most important corporate finance task that can have serious business implications. Poor capital budgeting (e.g., excessive investing or under-funded investments) can compromise a company's financial position, either because of increased financing costs or inadequate operating capacity.

Capital Financing

Corporate finance is also responsible for sourcing capital in the form of debt or equity. A company may borrow from commercial banks and other financial intermediaries or may issue debt securities in the capital markets through investment banks (IB). A company may also choose to sell stocks to equity investors, especially when need large amounts of capital for business expansions.

Capital financing is a balancing act in terms of deciding on the relative amounts or weights between debt and equity. Having too much debt may increase default risk, and relying heavily on equity can dilute earnings and value for early investors. In the end, capital financing must provide the capital needed to implement capital investments.

Short-Term Liquidity

Corporate finance is also tasked with short-term financial management, where the goal is to ensure that there is enough liquidity to carry out continuing operations. Short-term financial management concerns current assets and current liabilities or working capital and operating cash flows. A company must be able to meet all its current liability obligations when due. This involves having enough current liquid assets to avoid disrupting a company's operations. Short-term financial management may also involve getting additional credit lines or issuing commercial papers as liquidity back-ups.

Entrepreneurial finance

Entrepreneurial finance is the study of value and resource allocation, applied to new ventures and the questions which confront all entrepreneurs:

  • How much money can be raised?
  • How much money should be raised?
  • When it should money be raised?
  • What sources of funding should be approached?
  • What is my startup worth, e.g. what is its value?
  • How should funding contracts and exit decisions be structured?

The importance of entrepreneurial finance for your startup

Depending on the industry and your goals you may need to attract money to fully commercialise your idea, but who should you approach? You could consider friends and family, a bank, government grants, angel investors, venture capital funds, an initial public offering (IPO) or some other source of financing. Entrepreneurs face numerous challenges:

  • Scepticism towards their business and financial plans,
  • Lack of understanding of your business and its potential,
  • Requests for large equity stakes,
  • Restrictive Term Sheets that spell out the conditions that must be met for that investor before they invest money,
  • Performance hurdles that must be met.

Investors will consider the desire to invest in your business and the risk factors associated with the company and the product or service you are supplying. These will include:

  • Your competition,
  • How you can protect (e.g. Patents, Copyright) your idea,
  • Barriers to entry for other companies trying to copy you,
  • Market size,
  • Political risk (also known as Sovereign Risk) where a government can introduce laws that will affect your business,
  • The strength of your team and its ability to carry out the Business Plan

How do I get funding for my entrepreneur idea or project?

The landscape for entrepreneurial finance, however, has changed over the last years. New players such as crowdfunding, accelerators, and family offices have entered the arena, and several new entrepreneurial financing instruments such as peer-to-peer business lending and equity-like mezzanine financing have been introduced. (Mezzanine financing is a hybrid of debt and equity financing that gives the lender the right to convert to an equity interest in the company in case of default, generally, after venture capital companies and other senior lenders are paid). In addition governments around the world are increasingly considering these new players and instruments as fundamental mechanisms to alleviate the financing difficulties of entrepreneurial firms.

An overview and comparison of new players in entrepreneurial finance

Venture capital (VC) and business angel (BA) financing have traditionally been advocated as important sources of financing for young innovative firms that find it difficult to access bank or debt finance.

Some of the new sources of finance for entrepreneurs players value not only financial goals but are also interested in non-financial goals such as social goals in case of social venture funds, strategic and technological goals in case of corporate venture capital (CVC) firms, political goals in case of government-sponsored funds, and product-oriented and community-building goals in case of reward-based crowdfunding. In many cases they have different investment approaches, valuation methods or measures, and business models of entrepreneurial financing.

Entrepreneurial finance has changed with the median pre-money valuation of young companies reaching new heights, especially in later-stage financing evidenced by the increasing number of unicorns (private companies valued >1bn US $).

High valuations sound exciting for entrepreneurs however, caution should prevail as a high valuation will put pressure on the founder/s to perform and deliver the results that will give investors a return of several times what they have invested.

The increasing number of startups, new sources of finance, new financial instruments and new ways of valuing a company have combined to make the task of finding the right investor much more difficult.

What Is Investment Banking?

Investment banking is a specific division of banking related to the creation of capital for other companies, governments and other entities. Investment banks underwrite new debt and equity securities for all types of corporations, aid in the sale of securities, and help to facilitate mergers and acquisitions, reorganizations and broker trades for both institutions and private investors. Investment banks also provide guidance to issuers regarding the issue and placement of stock.

Understanding Investment Banking

Many large investment banking systems are affiliated with or subsidiaries of larger banking institutions, and many have become household names, the largest being Goldman Sachs, Morgan Stanley, JPMorgan Chase, Bank of America Merrill Lynch and Deutsche Bank. Broadly speaking, investment banks assist in large, complicated financial transactions. They may provide advice on how much a company is worth and how best to structure a deal if the investment banker’s client is considering an acquisition, merger or sale. It may also include the issuing of securities as a means of raising money for the client groups, and creating the documentation for the Securities and Exchange Commission necessary for a company to go public.

The Role of Investment Bankers

Investment banks employ investment bankers who help corporations, governments and other groups plan and manage large projects, saving their client time and money by identifying risks associated with the project before the client moves forward. In theory, investment bankers are experts in their field who have their finger on the pulse of the current investing climate, so businesses and institutions turn to investment banks for advice on how best to plan their development, as investment bankers can tailor their recommendations to the present state of economic affairs.

Essentially, investment banks serve as middlemen between a company and investors when the company wants to issue stock or bonds. The investment bank assists with pricing financial instruments to maximize revenue and with navigating regulatory requirements. Often, when a company holds its initial public offering (IPO), an investment bank will buy all or much of that company’s shares directly from the company. Subsequently, as a proxy for the company holding the IPO, the investment bank will sell the shares on the market. This makes things much easier for the company itself, as they effectively contract out the IPO to the investment bank.

Moreover, the investment bank stands to make a profit, as it will generally price its shares at a markup from the price it initially paid. In doing so, it also takes on a substantial amount of risk. Though experienced analysts use their expertise to accurately price the stock as best they can, the investment bank can lose money on the deal if it turns out it has overvalued the stock, as in this case it will often have to sell the stock for less than it initially paid for it.

Example of Investment Banking

Suppose that Pete’s Paints Co., a chain supplying paints and other hardware, wants to go public. Pete, the owner, gets in touch with Jose, an investment banker working for a larger investment banking firm. Pete and Jose strike a deal wherein Jose (on behalf of his firm) agrees to buy 100,000 shares of Pete’s Paints for the company’s IPO at the price of $24 per share, a price at which the investment bank’s analysts arrived after careful consideration. The investment bank pays $2.4 million for the 100,000 shares and, after filing the appropriate paperwork, begins selling the stock for $26 per share. Yet, the investment bank is unable to sell more than 20% of the shares at this price and is forced to reduce the price to $23 per share in order to sell the remaining shares. For the IPO deal with Pete’s Paints, then, the investment bank has made $2.36 million [(20,000 x $26) + (80,000 x $23) = $520,000 + $1,840,000 = $2,360,000]. In other words, Jose’s firm has lost $40,000 on the deal because it overvalued Pete’s Paints.

Investment banks will often compete with one another for securing IPO projects, which can force them to increase the price they are willing to pay to secure the deal with the company that is going public. If competition is particularly fierce, this can lead to a substantial blow to the investment bank’s bottom line. Most often, however, there will be more than one investment bank underwriting securities in this way, rather than just one. While this means that each investment bank has less to gain, it also means that each one will have reduced risk.


Related Solutions

How can we as healthcare professionals prepare ourselves better for emergencies and or disasters in a...
How can we as healthcare professionals prepare ourselves better for emergencies and or disasters in a healthcare and none-healthcare setting?          What preparations should we have in place?             And what type of education should we have in place for our patients and or loved ones?
Discuss how companies can protect themselves against major financial risks of inflation and exchange rates movement.     
Discuss how companies can protect themselves against major financial risks of inflation and exchange rates movement.     
Which of the following terms are found in mortgage loan contracts to protect the lender from financial loss?
Which of the following terms are found in mortgage loan contracts to protect the lender from financial loss?A.Down paymentB.CollateralC.Private mortgage insuranceD.All of the above
The "pigouvian tax" is a good example of how governments regulate companies to protect citizines against...
The "pigouvian tax" is a good example of how governments regulate companies to protect citizines against negative externalities. Explain qualitative and quantitive forms of transport regulation put by government. 1500 words - include :- (a) defination of pigouvian tax, quantitative forms, qualititave forms (b) refrences & citation of defination and evidence statement needed ( important)
How can businesses that make offers protect themselves from the risk of loss associated with the...
How can businesses that make offers protect themselves from the risk of loss associated with the rules of offer and acceptance by post?
How can businesses that make offers protect themselves from the risk of loss associated with the...
How can businesses that make offers protect themselves from the risk of loss associated with the rules of offer and acceptance by post?
Financial planning is a very critical strategy that helps individuals protect themselves from unforeseen perils, catastrophe...
Financial planning is a very critical strategy that helps individuals protect themselves from unforeseen perils, catastrophe and even when one leaves the workforce (retirement). Discuss the concept of financial planning. What is the individual hoping to protect specifically? How does life insurance create that remedy? What are differences between the different life insurance products: term; whole; universal life and annuities?
Using Excel prepare a spreadsheet to show the profit and loss figure for the last financial...
Using Excel prepare a spreadsheet to show the profit and loss figure for the last financial year. The profit and loss should be shown as dollars and as a percentage. Enter the raw data below, applying as many presentation Features (Font, Font Size, Font Color, Number Formats and Color, Cell Shading, Text Rotation, etc) to it as you wish. Apply appropriate number formats to your numbers. Center your spreadsheet horizontally on the page Give your spreadsheet an appropriate title and...
Explain clonal selection and how it works to protect you against many different infectious agents.
Explain clonal selection and how it works to protect you against many different infectious agents.
1- Perform research on the Web and find how Cisco routers and switches can protect against...
1- Perform research on the Web and find how Cisco routers and switches can protect against DDOS. Give a specific example of a Cisco device model. Show the Cisco CLI commands that are used for this purpose 2- The Session Initiation Protocol (SIP) is an important protocol used in Voice over IP phones over the net. Give ONE detailed example of a security attack type of SIP. Explain how we can prevent or mitigate this specific type of attack. Can...
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT