Transcript Chapter 3

Chapter 3
Financial Decision
Making
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Learning Objectives
• Differentiate between cash inflow and cash
outflow
• Explain the steps in financial decision
making
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Cash Flows and Your Financial
Future
• Cash inflows include
all the money you
receive from all
sources
• Cash outflows are all
the monies you have
going out
• Cash flows are important to each
component of a financial plan
• Each component of the plan reflects
decisions about how you get or use
cash
• Figure 3.1 shows the central role of
cash in your financial plan
• Figure 3.2 shows example of questions
you might have as you build your
financial plan
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Figure 3.1
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Figure 3.2
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Check Your Financial IQ
• What are cash inflows and cash outflows?
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Check Your Financial IQ
• Cash inflows include all the money you
receive from all sources. Cash outflows are
all the monies you have going out.
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The Step-by-Step Decision-Making
Process: Step 1
• Establish your financial goals
– Short term goals are those you plan to accomplish
within the next year
– Intermediate-term goals are those you achieve
within the next 1 to 5 years
– Long-term goals will take more than 5 years to
accomplish
• Set realistic goals!
• Take a look at Figure 3.3 for an example of financial
goals
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Goals become effective when they are SMART
S-M-A-R-T GOAL
CRITERIA
Specific
Measurable
Attainable
Realistic
Time-Limited
SMART Goals
for lodging, transportation, meals
Specific…….. “Pay
for a 5-day trip to Washington, D.C.”
through fundraising, $50 from
Measurable… “$300
birthday money, save $25 a week.”
I stick to my plan, I’ll have the money
Attainable….. “If
when I need it.”
Realistic……. “I still have enough money to live on
while I work toward this goal.”
need to have all the money by 6
Time-Limited.. “Imonths
from now.”
Specific
• Which one is Specific?
a) I want to go somewhere over Christmas break
that’s fun.
b) I want to go to Copper Mountain in Colorado for
a week over Christmas break.
Measurable
•
Which one is Measurable?
a) I need $250 for my share of the hotel room, gas,
and food for the week.
b) I need some money to pay for the trip.
Attainable
• Which one is Attainable?
a) I’ll hope my grandma comes through with some
really “big” birthday money this year to help me
pay for the trip.
b) I’ll save $20 a week as soon as Labor Day is over
to pay for the trip.
Realistic
• Which one is Realistic?
– I plan to drive to Colorado in about 5 hours, and
I’ll bring along lots of food so I don’t have to
spend any money for food on the road.
– I plan to drive to Colorado in about 10 hours and
split the driving, each of us will drive about 5
hours. I’ll need $20.00 for food and snacks on the
road.
Time-bound
•
Which one is Time-bound?
a) I’ll have the $250.00 I need for the trip by the end
of the first week in December.
b) I want to save up enough money by Christmas.
Figure 3.3
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Math for Personal Finance
• Dewanna needs to save $1,500 by August to
pay for her tuition. She only has 12 weeks
remaining before school starts, and her boss
is letting her work 20 hours per week. She
brings home about $9 an hour after taxes are
withdrawn from her check.
• Is it possible for her to save the $1,500?
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Math for Personal Finance
• Solution: Yes, it is possible. She makes $9
an hour x 20 hours per week = $180 per
week x 12 weeks = $2,160 she will make
prior to school starting.
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The Step-by-Step Decision-Making
Process: Step 2
• Evaluate your current financial position
• Your decisions on how much money to
spend or to save depend on your current
situation
• Financial goals are tied to your income
• Better the income = loftier goals
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The Step-by-Step Decision-Making
Process: Step 2
• Forecast is a
projection about
what will
happen in the
future
• Income is cash
inflow
• Making accurate forecasts will help
you achieve your goals
• This involves making projections
about cash flows
• Cash flows (income) can come from
external sources such as a job or a
scholarship
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Math for Personal Finance
• Jared anticipates working 10 hours a week
during the 34-week school year. He will
work 40 hours per week for the remaining 18
weeks when school is out.
• Assuming he makes $8 an hour, what is his
forecast for income next year?
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Math for Personal Finance
• Solution: 34 weeks x 10 hours per week =
340 hours worked during the school year.
Forty hours per week x 18 weeks while not
in school = 720 hours. His total hours
worked = 340 + 720 = 1,060 hours x $8 an
hour = $8,480 in forecasted income.
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The Step-by-Step Decision-Making
Process: Step 2
• An expense is
anything on
which we spend
money
• People also have to consider cash
outflows (expenses)
• Examples include phone bill or car
payment
• Expenses can be fixed or variable
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The Step-by-Step Decision-Making
Process: Step 2
• A fixed expense
remains the same
from period to
period
• A variable
expense changes
from one period
to the next
• An example of a fixed expense
is a car payment
• An example of a variable
expenses is a phone bill
• Take a look at Figure 3.4 to see
an example of a cash flow
forecast
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Figure 3.4
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The Step-by-Step Decision-Making
Process: Step 3
• Identify and evaluate your options for achieving
your goals
• There are several ways to achieve a financial goal
• What will the best decision to make in the long
run?
• Take a look at Figure 3.5 for an example of how to
evaluate options
• Refer to Figure 3.6 for an example of making a
pros and cons list
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Figure 3.5
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Figure 3.6
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The Step-by-Step Decision-Making
Process: Step 4
• Risk if often
defined as
the
likelihood of
loss
• Pick the best plan
• Choose the goal that is more realistic
• Your tolerance for risk and your self
discipline often determine which plan
is the best option for achieving a
specific goal
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The Step-by-Step Decision-Making
Process: Step 4
• Some people choose plans with a higher
level of risk of loss
• These plans also have a higher potential
payoff
• Others choose plans with lower risk that are
more certain to accomplish the ultimate goal
• Refer to Figure 3.7 for an example of how
there can be different paths to the same goal
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Figure 3.7
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The Step-by-Step Decision-Making
Process: Step 5
•
•
•
•
Periodically evaluate your plan
Monitor your progress
Sometimes plans may get off track
This will help you notice if there is a
problem or if you should make adjustments
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Math for Personal Finance
• Lesia’s original financial plan required that
she save $100 a month for two years in order
to have $2,400 for the down payment on a
car. However, after one year she has only
managed to save $1,000.
• What will Lesia need to do in order to
accomplish her original goal?
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Math for Personal Finance
• Solution: Lesia needs to save another $1,400
to reach her original goal or $2,400 - $1,000
she has saved = $1,400. To accomplish that
goal in 12 months she will need to save
$1,400/12 = 4116.67 per month. She will
have to increase her savings to 4116.67 per
month to accumulate the original $2,400 by
the end of next year.
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The Step-by-Step Decision-Making
Process: Step 6
• Revise your financial plan as necessary
• If the plan becomes unachievable or too
restrictive, adjust it
• If you need to revise one part of your plan,
other aspects might also need to be revised
as well
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Check Your Financial IQ
• What are the steps of financial decision making?
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Check Your Financial IQ
1. Establish your goals
2. Evaluate your current financial position
3. Identify and evaluate the options for reaching
your goals
4. Pick the best plan
5. Evaluate your plan periodically
6. Revise your plan as necessary
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Summary
• Financial decisions and planning start with
questions about cash flows
• Decisions about cash inflows and outflows
affect each component of your financial plan
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Summary
• There are 6 steps for making financial decisions
and creating your financial plan:
1. Establish your goals
2. Evaluate your current financial position
3. Identify and evaluate the options for reaching
your goals
4. Pick the best plan
5. Evaluate your plan periodically
6. Revise your plan as necessary
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Vocabulary
•
•
•
•
•
•
Cash inflow
Cash outflow
Expense
Fixed expense
Forecast
Income
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•
•
•
•
•
Long-term goal
Middle-term goal
Risk
Short-term goal
Variable expense
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URLs
• www.nwanews.com/adg/News/210471
• www.mymoneyanswers.com/goals.htm
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