Corporate Financial Management Responsibilities of CFO

Question: Describe about the Corporate Financial Management for Responsibilities of CFO. Answer: Introduction The Chief Financial Officer (CFO) of a company has the vital task of running the budgeting, controlling, and financial matters of the company. Though it may sound glamorous and exciting, a CFO has various duties that might have conflicting aims. For an operations based company such as BHP Billiton, which deals with discovering, extracting and marketing natural resources, the base of operations covers managing energy assets as well, which is strategic in nature. The roles and responsibilities of a CFO (Chief Financial Officer) have significantly evolved over the years. CFOs role was traditionally being viewed as a financial gatekeeper but it has evolved and expanded to a strategic advisor and partner to the CEO. In the current scenario, there are three general areas of responsibilities for a CFO that includes treasury responsibilities, controllership duties and economic strategy and forecasting (Melville, 2013). Identifying relevant responsibilities of CFO BHP Billiton has Mr. Peter Beaven working on the responsibilities of the CFO (BHP Billiton, 2015). CFOs have three major responsibilities in a companys overall strategy: 1) Controllership This means looking at the past financial performance of the company, ensuring the accuracy of numbers in recording and valuation of core assets. These financial reports build the basis of all decisions of the CEO related to other functions such as operations, marketing, IT, etc. The performance of BHP Billiton is important to its internal stakeholders such as employees and most importantly to the external stakeholders, the government, creditors, customers, and investors on the ASX (BHP Billiton, 2015). A good financial performance will create reserves for new investments in assets of natural resources and newer technology of exploration and extraction. This will increase efficiency, increase production, increase revenues, increase profits and hence the market value and stock price. This will also give confidence to the creditors and government agencies and regulators on the running of the company (Graham Smart, 2012). Therefore, the ripple effect of a good control lership contributes to this objective of the firm that it helps in maximising shareholder value and business standing in the eyes of the society. 2) Treasury duties BHP Billiton has a treasury function where the CFO in conjunction with the management of foreign exchange manages idle cash, investments done for returns, investments done for sale, as majority of trade happens in USD.It is his responsibility to see future funding requirement of various functions. For example, BHP had three Brownfield projects that is yet to be completed and one major pre-development project that is composed of a budget of US$7 billion. It has to earmark a separate budget for exploration expenditure that comes to US$11 billion annually (BHP Billiton, 2015). This is strategized with the treasury function to decide which projects are priorities and where cost needs to be cut down. In addition, in the business of oil, the net price during the time of selling changes owing to the global oil prices. This creates need for management of money to cover up for such losses. BHP Billitons CFO has an important responsibility to manage and create the financial risk management strategy. In addition, one way for a company to ensure supply of money is to raise it via equity, debt, or a mix of both. Each of these has its own implications and in the case of BHP it cancelled the 24,113,658 ordinary shares of US$0.5 each held in treasury and later it allowed the company to undertake market purchase to 211, 207,180 of its ordinary shares, which represented 10% of BHP Billiton share capital at that time. Such decision-making is done to meet the objective of rewarding the shareholder with buy-backs, splits, and bonus each with a specific cost to the company (BHP Billiton, 2015). The CFOs office has to determine the trade-off of cost and benefit. 3) Economic strategy and forecasting for future For a company like BHP, where revenue is decided by the natural resources ever changing prices, its very important to keep track of the economic and macro indicators which create swings in these prices. This is in the CFOs job description to keep an eye on important developments to keep the CEO and other functions posted and updated with major happenings that might affect revenues (Libby et. al, 2011) Billitons activities have made it vulnerable to risks of the market with interest rate movements, foreign exchange, commodity prices. Therefore, it has framed a Cash Flow at Risk (CaFR) framework to evaluate the composite and diversified influence of financial risks as per the targets. The main assessment of risk is CFaR evaluated on a portfolio basis, that is stated as the expected loss, worst in nature in tune to the plan of the business cash flows over a period of one year under normal scenario of the market at a confidence level of 90 per cent (BHP Billiton, 2015). Responsibility of CFO can impact objective of the company Going by the strategy outlined above, Billiton has ensured that its costs of financing, impact on currency, costs of inputs and commodity prices are on a floating or index basis. Following this strategy, increase in the risk of variability in earnings that is measure under the CFaR framework. Risk mitigation Hedging is necessary for reducing risk related to recognized and significant investments or capital expenditure will be executed if it is required to support the strategic objectives Execution of transactions within approved mandates (Spiceland et. al, 2011). Economic hedging of commodity sales, operating costs, and debt instruments is one of the important activities that is undertaken by the CFO to attain a higher return (Needles Powers, 2013). Commodity production are sold to customers on pricing terms that are different from the relevant index target, and where a derivatives market exists, financial instruments are transacted as an economic hedge to match the revenue price exposure with the index target. When debt is issued in a non- US dollar currency and/or at a fixed interest rate, fair value and cash flow hedges may be transacted to match the debt exposure with the companys functional currency of US dollars and/or to swap to a floating interest rate. Risk management process Evaluating the exposure in customer commodity contracts and issued debt instruments. Derivatives are hedged to align the total group exposure to the index target. Derivative market is vulnerable to risk and exposure to it require paramount amount of knowledge so that the risks are minimized (Needles Powers, 2013). These functions give a direction to the strategy of the company and help in giving the CFO an indispensable place in the scheme of things in a company. The CFO determines the strategy and looks for possible solution that helps the business to vouch for different options (Williams, 2012). From the analysis of BHP Billiton, it is seen that the CFO is concerned with the smooth running of the company by undertaking method that have low risks and that brings many opportunities to the business. Activity Strategic financial transactions Some transactions which are opportunistic in nature may be executed with financial instruments to capture value and remove the perceived market over/under valuations. (Parrino et. al, 2012). The CFO makes sound strategic decision and considering this the business is operated. Only a sound strategy can help the business to flourish and cement its position in the market. The CFO looks to various alternatives and ensures that the business is not affected by the changes in the external or the internal environment (Northington, 2011). Therefore, a flexible strategy is involved that bend in any kind of situation. Exposures managed within value at risk and stop loss limits. Execution of transactions within approved mandates. This is one of the major responsibilities that leads to driving of the business in the correct path. Stop loss limit is an important point that requires a vast knowledge and needs continuous monitoring. It is essential to note that no business can make profit without risk hence; risk-taking appetite of the business determines the future of the business (Horngren, 2013). CFO efficiently manages this responsibility and it is seen in BHP that the CFO ascertains the stop loss limit and this is the reason why BHP has conducted well in the past few years. Therefore, all the three general areas of responsibility of a CFO in BHP Billiton are very crucial for attaining the goals and objectives of the company. Their responsibilities have a significant impact on the companys objectives because they ensure maximization of shareholders wealth and other benefits to stakeholders (BHP Billiton, 2015). In other words, their responsibility is link to every aspect of a companys performance whether it is financial or non-financial. The job of a CFO is cumbersome in nature but one thing is evident that the qualities of a great CFO will differentiate from a good CFO by shedding light on the long-term financial horizon of the company and the survival of the company, based on evaluations (Horngren, 2013). Hence, it can be comment that the performance of a company rests entirely upon the shoulder of a CFO and that from the study of BHP Billiton it is clearly notice that CFO has played a pivotal role in driving the business forward. b. Efficient Market Hypothesis As the Efficient Market Hypothesis explains, it is impossible to beat the market or earn that extra alpha (the additional return on investment), because the news spreads so quickly in the market that all decision making of buying and selling stocks takes into account all this news and information. So as per the theory, stocks always trades at their fair value on stock exchanges that makes it impossible for an investor to purchase undervalued stock or sell stock for high prices (Hand, 1990). This means that the information that spread in the market are absorbed and the stock do not contain any extra information apart from the fair value. Following this theory, it would be impossible to earn profit on investment or outperform the market through timing the market or superior stock selection, except by buying riskier assets. The theory is highly regarded as a pillar of modern portfolio theory but equal amount of counter arguments exist. Role of Pension Fund Manager A fund manager is supposed to manage the investments/portfolio on behalf of his clients to generate maximum returns and scout for newer avenues for future investments. A pension fund manager has an additional responsibility of ensuring that the capital stays safe and the stability of the value of capital is intact. This is so because pension funds are created to invest idle funds that are earmarked for the post-retirement expenses of the clients. A fund manager cannot play with this money in risky assets or afford to lose large value of this capital (Kalpan Schoar, 2005). Hence, the pension fund managers operate the capital in a prudent manner and always try to keep an optimum return in sight. Pension fund managers approach in an Efficient Market If it is, assume that the market is highly efficient, and then no matter what decision the fund manager might take, he will never earn more than the market return. Then there will be no need of active portfolio management and his job is redundant (Northington, 2011). However, the counter-arguments for Efficient Market Hypothesis state examples such as market crashes when people lost money whereas there were always few who made money even in these crashes. Investors like Warren Buffett or Rakesh Jhunjhunwala beat the market with high margins that proves that there is certainly some information, which the market does not know and is hence not reflected, in the buying and selling behaviour. This is where the fund managers job is important to ensure that such valuable but relatively unknown information is utilised for maximum gains (Kalpan Schoar, 2005). If the pension fund manager is, allowed to invest in risky assets such as equities, ETFs and futures/options, he can utilise his network and analytical skills to pick and invest securities for best results. Thus, efficiency of the market is questionable and the stock picking skills of the fund manager are important (Goyal Wahal, 2008). The efficiency and skills of the pension fund manager is an important consideration as it helps in choosing the area where to invest. References BHP Billiton 2015, BHP Billiton Annual Report and accounts 2015, viewed 6 September 2016, https://www.bhpbilliton.com/~/media/bhp/documents/investors/annual-reports/2015/bhpbillitonannualreport2015.pdf. Goyal, A. Wahal . S. 2008, The Selection and Termination of Investment Management Firms by Plan Sponsors, Journal of Finance , vol. 63, pp. 1802à ¢Ã¢â€š ¬Ã‚ 1827. Graham, J. Smart, S 2012, Introduction to corporate finance, Australia: South-Western Cengage Learning. Hand. J.R 1990, A Test of the Extended Functional Fixation Hypothesis, Accounting Review, vol. 65, pp. 740à ¢Ã¢â€š ¬Ã‚ 753 Horngren, C 2013, Financial accounting, Frenchs Forest, N.S.W: Pearson Australia Group. Kalpan , S.N Schoar, A 2005, Private Equity Performance: Returns, Persistence, and Capital Flows, Journal of Finance vol. 60, pp. 1795à ¢Ã¢â€š ¬Ã‚ 1823. Libby, R., Libby, P. and Short, D 2011,Financial accounting, New York: McGraw-Hill/Irwin. Melville, A 2013, International Financial Reporting A Practical Guide, 4th edition, Pearson, Education Limited, UK Needles, B.E. Powers, M 2013, Principles of Financial Accounting, Financial Accounting Series: Cengage Learning. Northington, S 2011, Finance, New York, NY: Ferguson's. Parrino, R., Kidwell, D. and Bates, T 2012, Fundamentals of corporate finance, Hoboken, NJ: Wiley Spiceland, J., Thomas, W. and Herrmann, D 2011, Financial accounting, New York: McGraw-Hill/Irwin,University Press Williams, J 2012, Financial accounting, New York: McGraw-Hill/Irwin.