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Free Solved assignments of MBA Semester 2- MB0045- Q1. Explain the liquidity decisions and its important elements. Write complete information on dividend decisions.

Answer: Liquidity decisions:The liquidity decision is concerned with the management of the current assets, which is a pre-requisite to long-term success of any business firm.This is also called as working capital decision. The main objective of the current assets management is the trade-off between profitability and liquidity, and there is a conflict between these two concepts. If a firm does not have adequate working capital, it may become illiquid and consequently fail to meet its current obligations thus inviting the risk of
bankruptcy. On the contrary, if the current assets are too enormous, the profitability is adversely affected. Hence, the major objective of the liquidity decision is to ensure a trade-off between profitability and liquidity. Besides, the funds should be invested optimally in the individual current assets to avoid inadequacy or excessive locking up of funds. Thus, the liquidity decision should balance the basic two ingredients, i.e. working capital management and the efficient allocation of funds on the individual current assets.

The important elements of liquidity decisions are:

  • Formulation of inventory policy
  • Policies on receivable management
  • Formulation of cash management strategies
  • Policies on utilisation of spontaneous finance effectively

Dividend decisions

Dividends are payouts to shareholders. Dividends are paid to keep the shareholders happy. Dividend decision is a major decision made by the finance manager. Dividend is that portion of profits of a company which is distributed among its shareholders according to the resolution passed in the meeting of the Board of Directors. This may be paid as a fixed percentage on the share capital contributed by them or at a fixed amount per share. The dividend decision is always a problem before the top management or the Board of Directors as they have to decide how much profits should be transferred to reserve funds to meet any unforeseen contingencies and how much should be distributed to the shareholders.

Payment of dividend is always desirable since it affects the goodwill of the concern in the market on the one hand, and on the other, shareholders invest their funds in the company in a hope of getting a reasonable return.

Retained earnings are the sources of internal finance for financing of corporate’s future projects but payment of dividend constitute an outflow of cash to shareholders. Although both - expansion and payment of dividend - are desirable, these two are in conflicting tasks.

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