FINANCIAL MANAGEMENT. | Finance is one ofthe major elements, which activates overall growth ofthe economy. Finance is the life blood of economic activity, An efficient financial system calls for the effective pectormance of financial institutions, financial instruments and financial markets, 2. Finance is generally divided into three areas: financial management, capital markets and investments, 3. Increasing the profit is the main aim of any kind of financial activities. 4, Financial management means the management of finance ofa corporation to achieve financial objectives. The kay objectives offinancial management are to reate wealth forthe business, ‘generate eas ard aan maxincum profits from the investments of the business considering the risk involved. 5, Financial management is concemmed with the efficient acquisition and allocation of funds, 66. Financial management is concerned with flow of funds and involves decisions related to procurement of funds, investment of funds in long-term and short-term assets and distribution of earnings to owners 7. Financial management involves estimation, acquisition and administration of funds of any kind in meeting the needs and objectives of business fiems most efficiently and economically Concept of Financial Management 1. tis concerned with optimal procurement as well as usage of finance, 2. Itaims at reducing the cost of funds procured 3. Itis concerned with the duties ofthe financial manager inthe business Objectives of Financial Management 1, Prim: iv The main and foremost objectives of financial management is to maximize the wealth of equity shareholder,2. Secondary Objectives ¥ Profit maximization ¥ Maintenance of liquidity Y Proper utilization of funds ¥ Meeting of financial commitments with creditors Profit Maximization: Profit maximization i regarded as unrealistic, difficult, appropriated and socially not much preferred goals for any corporation. Criticisms ¥ Its vague conceptually ¥ ignores time value of money ¥ It ignores the risk factor ¥ Tremphasizes generally on short run projects ¥- Temay cause decreasing share price Wealth Maximization: ‘The net present value or wealth can be defined as: W=AI/(1#R1) 4A2/(1#K2) #A3/U#K3) #A1/U#KI) #AN/(14K0) — CO ASAIS(NK) C0 Where, AD on An~ stream of benefits Com cost of action Ke discount rate W~ Wealth’ net present worth sification for Wealth Maximization ¥ tis consistent with the object of maximizing owners’ economic welfare ¥ It considers risk and uncertainty ¥ Iteonsiders time value of money ¥ It considers regular dividends payment ¥ Itmaintains market price of shares Frcs cn be classifi it nite | nance Public Finance Inna Poesy tes coh keh fo am? Fat wr Sk‘or Content of Management 1. Estimating financial requirements 2. Deciding capital structure 3. Selecting a source of finance 4. Selecting patter of investment S. Proper cash management 6. Implementing financial controls 7. Proper uses of surpluses 8 Financial Control T. 1L_ Return on investment 2. Budgetary control 3. Break even analyze 4 Cost control 5. Ratio analysis 6. Cost and internal audit indamental Principles of Financial Management ‘Time value of money Risk and return trade off Cas flows Principe of cost of capital Principle of maturity of payment Principle of equity position Leverage Functions of Financial Management 1. Forecasting and estimating the requirements of capital 2. Determining the capital structure or the composition of capital 3. Choosing the sources of finance 4. Making optimam use of the funds 5. Administering the income of the business and its allocation 6. Managing the cash 7. Exercising financial control and evaluating the financial performance Financial Management Decisions ‘Capital Budgeting (Long-term) ~~ Working Capital (Short-term) > Financing Decision____——— EquityProfit "Retained Eamings & Capital budgeting is related to fixed assets Working capital is related to current assets. Investment Decision ¥ Itrelates to how the firm's funds are invested indifferent assets. So, thatthe firm ean ‘earn the highest possible return on investment. ¥ Investment decisions can be of two types: a, Capital Budgeting Decision, », Working capital Decision The firms invest its funds in acquiring fixed assets as well a current assets. When decision regarding, fixed assets are taken, i is known as capital budgeting decisions, These decisions affect the earning capacity ofthe business inthe long-run, KAN ‘These decisions are very enaial in nature due to ‘Involve huge amount of funds ‘© Involve high risk ‘© These decisions are irreversible © Affect the future earning capacity ofthe firm Capital Budgeting Desisio ¥ Capital budgeting, of investment appraisal, i the planning process used to determine ‘whether an organization’ long term investments such as new machinery, replacement of machinery, new plants, new products, and research development projects are worth the funding of cash through the firm's capitalization structure (debt, equity or retained earnings), ¥ Its the process of allocating resourees for major capital, or investment, expenditures The primary goals of capital budgeting investments are to increase the value of the firm to the shareholders, actors Affecting Capital Bu ¥ Cash flow of the project ¥- Return on investment ¥ Risk involved ¥ Investment criteria “Many formal methods are used in capital budgeting, including the techniques such as, ‘+ Accounting rate of return ‘Average accounting return + Payback period[Net present value Profitability index Internal rate of return Modified internal rate of return Equivalent annual cost Real options valuation Working Capital Desision KS v v Short-term decisions are called working capital decisions ‘These are concerned with the decisions about the level of cash, inventory and receivables. These decisions affect the day to day working of business. ‘These decisions are crucial for liquidity and profitability ofa business, Financing Decision aS Ka558 This decision relates tothe relative portion of various sources of finance. Sources of finance ean be divided into two categories: Owner’ sharcholder’s fund Borrowed fund ‘Shateholder’s fund includes share capital and retained earnings of owners Shareholders fund does not require any commitment of repayment of capital Borrowed funds= Debentures+Loans+ Bonds, Interest on borrowed funds always isto be paid whether loss or profit, Borrowed funds involve a commitment of repayment of capital aftr a fixed time. Factors Affecting Financing Decision Divi s KA 648 Cost Risk Cashflow Position ‘Control Consideration Flotation Cost Fixed Operating Cost Share Capital Market Regulatory Frame Work Decision The dividend decision relates to the dividend policy of the company, in which a ‘manager must decide the quantum of profit to be distributed or retained inthe business. idend isthe portion of profit which is distributed among the shareholders. Dividend provides regular and present income to the shareholders. Retained earnings aim to increase the future earnings of the shareholders Dividend ean be paid only out of current year Dividend can be paid only out current year profit or past after providing depreciation fund,Factors Affect Dividend Decision Amount of earnings Stability of earnings Stability of dividends Growth opportunities Cash flow positions Shareholder’ preference ‘Taxation poliey Stock market reactions ‘Access to capital market Leual constrains ‘Contractual constrains Approaches to Financial Management ‘+The Traditional Approach ‘©The Modern Approach KAR KKK KKK KS ‘The Traditional Approach ¥ The role of financial Management is limited to fund raising and administering needed by the corporate enterprises to meet their financial needs ¥- The scope of finance manager i Himited tothe extent of finance activities ¥ A finance manager merely performs ‘© Arrangement of short-term and long-term funds from financial institutions ‘© Mobilization of funds through financial instruments like- equity. share, preference share, debentures and bonds and so forth ‘Orientation of finance function with the accounting function and compliance of Tegal provisions relating to funds procurement, use and distribution. riticism of Traditional A 4 Ignored day to day problems Ignored working capital financing Ignored allocation of capital 4 Outsider looking approach ‘The Modern Appa ¥ It views finance funetion in broader sense ¥ It includes both raising of funds as well as ther effective utilization under the purview of finance The finance manager is expected to analyze the firm and to determine the following, ©The total funds requirement ofthe fs # Theassets to be acquired ‘© The pattern of financing the assetsDifferent Authors and Their Point of View on Finance Functions Name of the Author Content of Finance Function James C, Vente + ) Investment Decision Financing Decision Dividend Decision Earnest W. Walker ——+| Financial Planning Financial Coordination Financial Control 4. Fred Weston. & | Financial Planning & Control Eugene F Brigham Management of working capital Investment in Fixed Assets Capital Structure Decisions Individual Financing Episodes [Important Theory of Financial Management Year Title ‘Aulbor 1960 _| Porfolio Theory Harry M. Markowity 1964 [A Theory of Market Equilibrium Under | William F. Sharpe Conditions Risk 1965 | Security Prices, Risks and Maximal Gains | John Linter fiom Diversification 1970_| Capital Asset Pricing Model Sharpe 1972_| The Theory of Finance F. Fuma Mewon 1976 |The Arbitrage Theory of Capital Asset |H. Miller Pricing Remember Financial theory has shifted from “Descriptive Analysis” to “Normative Analysis” ‘Traditionally, the financial management was concerned with the mobilization of funds for running the corporations Y Today, it has assumed the role of management of assets, allocation of capital and ‘valuation ofthe firm in the overall markets ¥ Financial decision making within the company isthe main subject matter of financial policy ¥ Financial management is the specialized Functions directly associated with the top management The significance of finance function is not only seen in the “Line” but also in the capacity of stat?” aS