FINANCIAL MANAGEMENT

GOALS AND FUNCTIONS OF FINANCIAL MANAGEMENT

Module 1 concerns with the broad issue of how the goals and functions of

managerial finance at the company level relates to the various sectors of society. At the

same time, this would like to examine briefly how society and the politico-economic

environment affect the practice of managerial finance.

In the first topic of this module, it presents some recent theory on how firms should be

viewed in relation to its various constituents particularly with respect to the settings of

goals to guide finance decision-making. Recent developments in the theory of the firm have

pointed out that inherent conflicts between the interests of: (a.) stockholders (owners of

the firm) and internal management (who are not owners); (b.) stockholders and creditors;

and (c.) the firm and society as a whole. This will look at the nature of these conflicts, how

they may be resolved, and some implications on how to expect the firm’s operations to

reflect such conflicts and resolutions.

In the second topic, it will specify a general hierarchy of finance decisions and functions.

This also briefly discuss the types of finance organizations needed to execute these

functions.

In the third and final topic, it will review some predominant and unique local conditions

which influence financial policy and management practices in the firms.

Firm is viewed as simply an organization set up to perform a specific economic goal

or mission. In undertaking this mission, the firm should be able to do two things:

a. meet and adjust to the demands of its environment

b. choose a set of goals and corresponding policies and programs to meet

these demands

The firm consists of two groups:

 Stockholders/Owners

A stockholder or shareholder, is any person, company, or institution that

owns at least one share of a company's stock. As equity

owners, shareholders are subject to capital gains (or losses) and/or

dividend payments as residual claimants on a firm's profits.

 Management

Management (or managing) is the administration of an organization. This

includes the activities of setting the strategy of an organization and

coordinating the efforts of its employees to accomplish

its objectives through the application of available resources, such

as financial, natural, technological, and human resources. The term

"management" may also refer to those people who manage an

organization - managers.
 Several Influences which are immediately recognizable that the firm cannot be

separated from various sectors of society:

1. The preference of stockholders and the goals they set for the firm will partly depend

on alternative uses and returns for the capital invested in the firm.

2. The firm exists within a legal or political and economic framework.

3. Management could not act as if it is accountable only to the its stockholders and not

to society.

4. The firm’s choice of operating plans.

The Potential Conflict in Owner and Management Goals

1. Managers may overspend on salaries and perquisites because these also have the

effect or increased personal consumption.

2. Managers may engage in shrinking behavior, preferring leisure over any further

exertion to achieve or even exceed the stockholders’ goals.

3. Managers may supplant the stated goals of stockholders with some of their own.

4. Managers may engage in outright manipulation and misrepresentation of corporate

performance in order to show attainment of the owners’ goals.

Goals of the Firm

1. Maximize Corporate Profits

Traditionally, the concept of profit maximization carries a definite appeal

due to its simplicity and its consistency with classical views of economic efficiency.

Operationally, however, “profit” is not quite easy to define. There are several

interpretations like:
 (a.) net income from accounting reports;

(b.) earnings per share and

(c.) return on investment.

2. Maximize Wealth of Stockholders

Because of the basically single focus of profits as an objective, the business

can propose an alternative measure - maximization of stockholder’s wealth as

reflected in the market price of the company’s common stock.

3. Constrained Goals

In practiced, there could be a number of corporate goals like profit

maximization, target market share attainment, minimization of default risk and

maintenance of a given level of presence in national development priorities, just to

name a few. When this happens, the firm is faced with two questions, namely:

(a.) can the firm afford some trade-offs among its multiple objectives?

and

- in this case, the firm’s problem is to strike a balance among

several goals of equal importance.

(b.) do some objectives precede others in importance?

- It is to develop a hierarchy of goals, with the requirement that

intermediate goals be satisfied first but only minimally and the

maximization of the ultimate goal is addressed last.

4. Maximize the Value of the Firm to Its Present Stockholders

maximization of the value of the firm to its present shareholders as an alternative to

the unbiased (and preferred, where feasible) goal of share price maximization.

Operationally, the goal of value maximization implies increasing the proceeds to its

shareholders should they decide to sell the company, lock, stock and barrel, to any

other stockholder or group. The qualification that the value maximization is with

respect to its present stockholders is an important one. This is because the current

impediment to adopting the most preferred goal of share price maximization is an

institutional (weak stock market), rather than a conceptual one.

The adjustment being proposed in our recommended corporate goal is for

management to conduct an internal assessment of the impact of its financial policies

and decisions on the stockholders' wealth position. Relative to the "objective"

guideline of share price maximization, this process can be clearly subjective. For

one, the management should be continuously aware of his shareholders' other

investments and personal wealth position. Secondly, the diversity of shareholder

interests implies the need, as a first step, to "unify" the shareholders into one or two

dominant groups whose common interests will be sewed by the current

management. We observe, in fact, that in the first place, top management is selected

by the controlling shareholder block and it is hardly unusual for the chairman of the

stockholder's board to be also the chief operating executive of the company

Financial Policy, Planning and Control Functions

Approach focusing on the organizational hierarchy for finance in our classification

of the finance function into three types, namely:

Financial policies and strategies of corporation are associated with the raising

and use of funds. A corporation's financial policy denotes to the company's overall

approach to manage its financial decisions. 

 Investment Policy

- Choice of product lines and capital projects.

 Capital Structure Policy

- Working Capital Policy: balancing short-term versus long-term

assets and liabilities.

- Leverage Policy: balancing long-term financing, i.e., debt versus

equity.

 Growth Strategy

- Whether growth should be pursued using internally generated

funds or through mergers and consolidation.

- Whether to integrate toward raw material production and

marketing (vertical integration) or toward diverse

products/services (conglomerate or horizontal integration)

 Dividend Policy

- Whether to follow a systematic pattern of earnings retention or

dividend distribution.
 Financial Management and Control

Financial Management and Control is a system of policies, procedures and

activities established by the head of the entity in order to provide reasonable assurance

that the entity's objectives are achieved.

 Project Management

- Assure that long-term projects are implemented according to

planned investment outlays and to yield forecasted cash returns.

 Working Capital Management

- Cash Management

- Accounts Receivable Management

- Inventory Management

 Management of Fund Sources

- Identify possible sources of short-term and long—term funds.

- Negotiate and monitor credit facilities with financial institutions.

 Dividend Policy Implementation

- Determine divided amounts and form

- Schedule dividend payments

Financial Management and Control

its strategic goals and objectives. Usually, a company creates a Financial Plan immediately

after the vision and objectives have been set.

 Financial Forecasting

- Cash Budgeting

- Profit Planning

- Balance Sheet Forecasting

 Financial Analysis

- Capital Budgeting Techniques

- Operating Leverage Analysis

- Financial Leverage Analysis

- Analysis of Pricing and Costs

 Financial Performance Evaluation

- Financial ratios as overall indicators of performance.

- Market-wide financial indicators.