FINANCIAL MANAGEMENT

Financial Management is that specialised function of

general management which is related to the procurement of finance and its effective utilisation for the achievement of common goal of the organisation. Financial Management is the operational activity of a business that is responsible for obtaining and effectively, utilizing the funds necessary for efficient operations.- Joseph and Massie.
From the above definitions, it is clear that financial management is that specialised activity which is responsible for obtaining and affectively utilizing the funds for the efficient functioning of the business and, therefor, it includes financial planning, financial administration and financial control.
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SCOPE OF FINANCIAL MGMT.

1. Financial Management in New Companies: A new company spends large amount on production and marketing but it should not ignore proper use of its fund by managing cash, inventory, debtors and fixed assets Financial Management in Old Companies: Old company can survive in long run, if it is capable to pay debt timely, to pay salary on time and to pay other daily expenses. Because old company has good reputation in financial market, so financial managements some part like working capital management is very significant Financial Management in NGO: Only NGO are working not for profit aim. Its aim is not to earn money but to survive. For long run existence NGO need to properly manage its cost

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Scope of financial mgmt. Contd.

Financial management, at present is not confined to raising and allocating funds. The study of financial institutions like stock exchange, capital, market, etc. is also emphasized because they influenced under writing of securities & corporate promotion. Company finance was considered to be the major domain of financial management. The scope of this subject has widened to cover capital structure, dividend policies, profit planning and control and depreciation policies. It covers areas like:

Determining financial needs:- Funds are needed to meet promotional expenses, fixed and working capital needs. The requirement of fixed assets is related to types of industry. A manufacturing concern will require more investments in fixed assets than a trading concern. The working capital needs depend upon scale of operations. Larger the scale of operations, the higher will be the needs for working capital.

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Choosing the sources of funds:- A number of sources may be available for raising funds. A concern may be resort to issue of share capital and debentures. Financial institutions may be requested to provide long-term funds. The working capital needs may be met by getting cash credit or overdraft facilities from commercial bands. Financial analysis and interpretation:- The analysis & interpretation of financial statements is an important task of a finance manager. He is expected to know about the profitability, liquidity position, short term and long-term financial position of the concern. For this purpose, a number of ratios have to be calculated. Cost-volume profit analysis:- This is popularly known as CVP relationship. For this purpose, fixed costs, variable costs and semi variable costs have to be analyzed. Fixed costs are more or less constant for varying sales volumes. Variable costs vary according to the sales volume. Semi-variable costs are either fixed or variable in the short-term. The financial manager has to ensure that the income of the firm will cover its variable costs

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Working capital management:- Working capital refers to that part of firms capital which is required for financing short-term or current assets such as cash, receivables and inventories. It is essential to maintain proper level of these assets. Finance manager is required to determine the quantum of such assets. Dividend policy:- The investors are interested in earning the maximum return on their investments whereas management wants to retain profits for future financing. These contradictory aims will have to be reconciled in the interests of shareholders and the company. Dividend policy is an important area of financial management because the interest of the shareholders and the needs of the company are directly related to it. Capital budgeting:- It is an expenditure the benefits of which are expected to be received over a period of time exceeding one year. It is expenditure for acquiring or improving the fixed assets, the benefits of which are expected to be received over a number of years in future. Capital budgeting decisions are vital to any organization. Any unsound investment decision may prove to be fatal for the very existence of the concern
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DECISIONS BY A FINANCIAL MANAGER

FM is concerned with the acquisition, financing, and management of assets with some overall goal in mind. Investment Decisions deal with questions like:
What is the optimal firm size? What specific assets should be acquired? What assets (if any) should be reduced or eliminated?

Financing Decisions: Determine how the assets (LHS of balance sheet) will be financed (RHS of balance sheet)
What is the best type of financing? What is the best financing mix? What is the best dividend policy (e.g., dividend-payout ratio)? How will the funds be physically acquired?

Asset Management Decisions

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OBJECTIVES OF FINANCIAL MGMT. Profit Maximization: Profit maximization is considered as

the goal of financial management. In this approach, actions that Increase profits should be undertaken and the actions that decrease the profits are avoided. The term 'profit' is used in two senses As per first concept it refers to the amount and share of national Income that is paid to the owners of business. The second way is an operational concept i.e. profitability. This concept signifies economic efficiency. It means profitability refers to a situation where output exceeds Input. It means, the value created by the use of resources is greater that the Input resources. Thus in all the decisions, one test is used I.e. select asset, projects and decisions that are profitable and reject those which are not profitable.
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OBJECTIVES OF FINANCIAL MGMT. Contd.

Wealth Maximization:
Wealth maximization decision criterion is also known as Value Maximization or Net PresentWorth maximization.
This involves increasing the Earning per share of the shareholders and to maximize the net present worth. Wealth is equal to the difference between gross present worth of some decision or course of action and the investment required to achieve the expected benefits. The Wealth Maximization approach is concerned with the amount of cash flow generated by a course of action rather than the profits.

Value of business = EPS (EPS = Net Earnings / Outstanding Shares ) /

Capitalization rate

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An equation for net income

= = = = Net sales revenue Cost of goods sold (O/P Inventory + Purchases C/L Inventory) Gross profit SG&A expenses (selling, General and Administrative Expenses) EBITDA Depreciation & amortization(writing off an intangible asset that is being) EBIT Interest expense (cost of borrowing money) EBT Tax expense = Net income (EAT)
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Wealth Maximization versus Profit Maximization

Timing profit maximization does not take into account the timing of earnings, while wealth maximization does
Risk wealth maximization takes risk into account the associated risk but profit maximization does not Dividend payments if profit maximization was the goal, a firm would never pay dividends

Qualitative factors profit maximization does not take into account future activities such as sales growth, stability and diversification.
Stock price maximization since investors want to maximize their own wealth, they prefer the firm adopt strategies that will maximize stock price
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Profit maximization features

1. Profit maximization is also called as cashing per share

maximization. It leads to maximize the business operation for profit maximization 2. Ultimate aim of the business concern is earning profit, hence, it considers all the possible ways to increase the profitability of the concern 3. Profit is the parameter of measuring the efficiency of the business concern. So it shows the entire position of the business concern 4. Profit maximization objectives help to reduce the risk of the business

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Favourable Arguments for Profit Maximization

Main aim is earning profit Profit is the parameter of the business operation Profit reduces risk of the business concern Profit is the main source of finance Profitability meets the social needs also

Unfavourable Arguments for Profit Maximization

Profit maximization leads to exploiting workers and consumers Profit maximization creates immoral practices such as corrupt practice, unfair trade practice, etc Profit maximization objectives leads to inequalities among the sake holders such as customers, suppliers, public shareholders, etc

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Drawbacks of Profit Maximization

(i) It is vague: In this objective, profit is not defined precisely or correctly. It creates some unnecessary opinion regarding earning habits of the business concern (ii) It ignores the time value of money: Profit maximization does not consider the time value of money or the net present value of the cash inflow. It leads to certain differences between the actual cash inflow and net present cash flow during a particular period

(iii) It ignores risk: Profit maximization does not consider risk of the business concern. Risks may be internal or external which will affect the overall operation of the business concern

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Favourable Arguments for Wealth Maximization

1. Wealth maximization is superior to the profit maximization because the main aim of the business concern under this concept is to improve the value or wealth of the shareholders Wealth maximization considers both time and risk of the business concern Wealth maximization provides efficient allocation of resources It ensures the economic interest of the society as total cost of project undertaken is compared to its value for the organization and the society as whole

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Unfavourable Arguments for Wealth Maximization

Wealth maximization is nothing, it is also profit maximization, it is the indirect name of the profit maximization
Wealth maximization creates ownership-management controversy The ultimate aim of the wealth maximization objectives is to maximize the profit Wealth maximization can be activated only with the help of the profitable position of the business concern

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AGENCY PROBLEM---Management versus Stockholders

Management serves as an agent to the stockholders (owner)
Stockholders delegate authority to management to act on their behalf and are expected to act in their best interest Managements objectives may differ from those of stockholders In many large corporations, where ownership is largely diversified, the situation arises where management may act in their own best interests rather than in the best interests of the stockholders

Management may attempt to amass income, power and prestige

Appropriate incentives such as stock options, bonuses and perquisites, should be given to managers to ensure they act in the best interest of the stockholders

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ROLE/FUNCTIONS OF FINANCE MANAGER

Finance manager is one of the important role players in the field of finance function. He must have entire knowledge in the area of accounting, finance, economics and management. His position is highly critical and analytical to solve various problems related to finance. 1.Forecasting Financial Requirements He should estimate, how much finances required to acquire fixed assets and forecast the amount needed to meet the working capital requirements in future 2. Acquiring Necessary Capital After deciding the financial requirement, the finance manager should concentrate how the finance is mobilized and where it will be available 3.Investment Decision The finance manager must carefully select best investment alternatives and consider the reasonable and stable return from the investment. He must be well versed in the field of capital budgeting techniques to determine the effective utilization of investment

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ROLE/FUNCTIONS OF FINANCE MANAGER Contd.

4. Cash Management Proper cash management is not only essential for effective utilization of cash but it also helps to meet the short-term liquidity position of the concern 5. Interrelation with Other Departments Finance manager deals with various functional departments such as marketing, production, personnel, research & development, etc. Finance manager should have sound knowledge not only in finance related area but has to be well versed in other areas too. He must maintain a good relationship with all the functional departments of the business organization

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IMPORTANCE OF FINANCIAL MANAGEMENT

Financial Planning Long-term profit planning aimed at generating greater return on assets, growth in market share, and at solving foreseeable problems Acquisition of Funds Financial management involves the acquisition of required finance to the business concern. Acquiring needed funds play a major part of the financial management, which involve possible source of finance at minimum cost Proper Use of Funds Proper use and allocation of funds leads to improve the operational efficiency of the business concern. When the finance manager uses the funds properly, they can reduce the cost of capital and increase the value of the firm. Financial Decision Financial decision will affect the entire business operations of the concern because there is a direct relationship with various department functions such as marketing, production personnel, etc

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IMPORTANCE OF FINANCIAL MGMT. Contd.

Improve Profitability Financial management helps to improve the profitability position of the concern through effectiveness utilization of funds with the help of strong financial control devices such as budgetary control, ratio analysis and cost volume profit analysis Increase the Value of the Firm Ultimate aim of any business concern is to achieve maximum profit. Higher profitability leads to the maximization of the wealth of investors as well as the nation Promoting Savings Savings are possible only when the business concern earns higher profitability and maximizing wealth. Effective financial management helps to promoting and mobilizing individual and corporate savings. Nowadays financial management is also popularly known as business finance or corporate finances. The business concern or corporate sectors cannot function without the importance of the financial management.
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Areas of financial Mgmt.

1. Financial Management and Economics Economic concepts like micro

and macroeconomics are directly applied with the financial management approaches. Financial management also uses the economic equations like money value discount factor, economic order quantity etc.
2. Financial Management and Accounting Accounting records include the

financial information of the business concern. Hence, we can easily understand the relationship between the financial management and accounting. In the olden periods, both financial management and accounting are treated as a same discipline and then it has been merged as Management Accounting because this part is very much helpful to finance manager to take decisions. But nowadays financial management and accounting discipline are separate and interrelated.

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Areas of financial Mgmt. Contd.

3. Financial Management and Mathematics Economic order quantity,

discount factor, time value of money, present value of money, cost of capital, capital structure theories, dividend theories, ratio analysis and working capital analysis are used as mathematical and statistical tools and techniques in the field of financial management 4. Financial Management and Production Management Profit of the concern depends upon the production performance. Production performance needs finance, because production department requires raw material, machinery, wages, operating expenses etc. These expenditures are decided and estimated by the financial department and the finance manager allocates the appropriate finance to production department.

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Areas of financial Mgmt. Contd.

5. Financial Management and Marketing Produced goods are sold in the market with innovative and modern approaches. For this, the marketing department needs finance to meet their requirements. The financial manager or finance department is responsible to allocate the adequate finance to the marketing department 6.Financial Management and Human Resource Financial management is also related with human resource department, which provides manpower to all the functional areas of the management. Financial manager should carefully evaluate the requirement of manpower to each department and allocate the finance to the human resource department as wages, salary, remuneration, commission, bonus, pension and other monetary benefits

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