FINANCIAL MANAGEMENT

WHAT IS FINANCE?

Finance is the science of money. It is the life blood of any commercial undertaking and is essential element of every king of business activity. In a modern economy, Finance may be defined as the provision of money at the time it is wanted. Henry Ford once remarked `Money is like an arm or leg. You either use it or lose it. To Byron, the great poet a ready money is Aladin`s lamp.

A business requires finance for various purposes. From the moment of an organization is born till the death finance is required for various purposes. It is circulatory system of economic body and helps in co-ordination and controlling activities of several bodies. It converts accumulate funds to productive use. Thus finance helps in planning and controlling business activities.

What is financial management?

A mother is trying to decide whether to buy her daughter a new dress now, or wait until next summer so that she does not grow out of the dress too soon.

A school governing body is working out how much money they have, they want to buy new desks for the Grade 1 classroom.

The treasurer of the soccer club is working out how much it will cost to take the club to a regional tournament

FINANCIAL MANAGEMENT:

Financial management means the entire activities of managerial efforts devoted to the management of finance both its sources and uses of the enterprise; it is mainly concerns with the proper management of funds. The finance manager must see that funds ware procured in a manner that the risk, cost and control considerations are properly balanced in a given situation and there is optimum utilization of funds.

According to philipatus, ’’Financial management is concerns with managerial decisions that result in the acquisition and financing of long term and short term credit for the firm. As such it deals with the situations that require selection of specific assets and liabilities as well as the problem of size and growth of an enterprise .The analyze of these decisions is based on the expected inflows and outflows of funds and their effects upon managerial objectives.’’

1. Financial management is and integral part of overall management. Acquisition, maintenance, replacement of assets, sources and costs of different capital, production, marketing, finance and personal decisions etc. have financial implications.so financial management is pervasive throughout the organization.

2. The central focus of financial management is valuation of firm. That is financial decisions are directed at optimizing the value of the firm.

3. It involves risk return trade off. Decisions on investment involve choosing the type of assets which generate returns accompanied by risks. Generally higher the risk , returns must be greater.

4. It is the concern of every concern small or big individual or corporate undertakings.

5. The investor preferences stock market conditions etc. affect financial decision of the business.

6. Finance functions are generally centralized, i.e more decisions are taken at the top level and ensure unified directions to investment and financing functions.

SCOPE OF FINANCIAL MANAGEMENT:

Functions performed Relationships with other activities Approaches to business finance

1. Functions performed: For a long time the finance function was viewed simply as the task of providing funds needed by the business on favourable terms. but later on , it was realized that finance should cover more activities than only the supply of funds.The function of procurement of funds. Allocation of funds to specific assets

Establishing of best possible mix of financing in relation to the overall valuation of the firm.

2. Relationship with other activities: Every business transaction involves funds.hence finance is concerned with all business operations. Guthmann and Dougall rightly pointed out that problems of finance are intimately connected with problems of purchasing production, marketing etc. It also related with the fields of law and accounting.Any financial decision must consider its legality.For presenting the financial position the accountant prepares financial statements.Thus activities of all the departments involve financial problems directly or indirectly.

3. Approaches to business finance: In early day , the scope of business finance was limited to keeping accurate financial records, reports,managing cash position and providing means for payment.In recent years , it has included the responsibilities of allocating funds to specific assets and securing the best possible finance mix.

*Traditionally it emphasized on management of working capital.In modern days , it has increased as financial planning and control.

Earlier, its scope was limited to financial operations and their mechanics, now it emphasis on formulation of financial policies.

In modern times it is concerned with the valuation of the firm in the overall market.

Earlier, it was concerned with external analysis of the firm, now, it also emphasis on decision making within the firm.

FUNCTIONS OF FINANCIAL MANAGEMENT:

Finance functions have been differently defined According to one definition, finance function means merely providing funds on most favouable terms.Another definition suggests that it deals with procurement of funds and their effective utilization in the business.some functions relate to implement decision business and some relate to the business activities of non recurring nature.

Financing functions broadly divided into:

Executive functions

Incidental functions

Executive functions:

Financial planning Financial control Financing decisions Investment decision Management of income and dividend decision Liquidity decision

Financial planning:

Decision making function.It involves three basic steps namely

Determining short term & long term financial objectives

Formulating financial policies Making adjustments and readjustments.

In setting out the objective , Profitability and financial risk should be considered.

After setting the objective the following policies are likely to be formulated.

Total amount of capital required Selection of source of capital Debt equity ratio Guiding the dividend policy Credit policy terms

Investments of funds in fixed assets and current assets.

FINANCIAL CONTROL:

Success of a financial plan depends upon suitably designed control systems and measures control is essential for chexking atual performance with planned one.For control the following steps are needed.

Developing standards of performance Comparing actual performance

For proper control system of reports must be established.The function of financial control should be continuously performed because the working of a firm is continuously changing.

FINANCING DECISIONS:

Financing decisions relate to proportion of debt capital and equity capital in total capital employed.while making this decision the financial manager aims at securing optimal financing mix which secure maximum market price per share in the long run.

Financing decisions are concerned with the choice of the sources of funds and the amounts to be realized from the sources.Selection of sources of particular source of finance is governed by

The cost of financing The nature of commitment The period of raising funds

INVESTMENT DECISIONS:

Investment decision involves the decision of allocating funds to long term assets and current assets which determines the firms risk.Costs of various methods of financing are affected by this risk.The financial manager is to see that funds on profitable investments.Some special investment decisions such as mergers,acquisitions, reorganization etc. are also be taken by financial manager.

MANAGEMENT OF INCOME AND DIVIDEND DECISIONS:

Net profit can be allocated

Either in the form of dividend to shareholders To employees in profit sharing plans Retaining them for further expansion of the concern.

Decisions relating to dividend relates:

Dividend pay out ratio Stability of dividends over a period of time Dividend in the form of shares.

The financial manager has to study the following to determine the dividend pay out ratio.

The preference of investors or current dividends and for capital appreciation

The impact of retained earnings on capital structure. The impact of decisions relating to retained earnings

on weighted average cost of capital.

LIQUIDITY DECISIONS:

Liquidity decisions relates current assets management .It should be managed efficiently otherwise the firm may become liquid and insolvency.Investment in current assets affect assets,firms profitability and liquidity.In order to ensure that insufficient and unnecessary funds are invested in current assets.

DECIDING UPON BORROWING POLICY:

Every organization plans for the expansions of the business for which he requires additional resources.Personal resources being limited borrowing from banks or by issue of new shares and new debentures.The financial manager at this juncture will take a decision about the time when the funds borrowed from outside sources , how long they will be needed and from what source they will be repaid.He must choose the capital

structure keeping various points such as cost of capital, return expected and financial risks involved etc into mind.

CHECKING UPON FINANCIAL PERFORMANCE:

The financial manager is under an obligation to check the financial performance of the funds invested in the business. It requires retrospective analysis of operating period to evaluate the efficiency of financial planning.

The executive finance functions discussed above are interrelated.Therefore, a change in decision with regard to one of the functions is likely to affect change in decision concerning some or all others.

INCIDENTAL FUNCTIONS:

Incidental functions are supplementary to other decision making functions.Some of the important incidental functions include

*supervisions of cash receipts and safe guarding of cash balances.

*proper custody and safe guarding of the important and valuable papers,securities and insurance policies.

*Taking care of all mechanical details of financing.

*Record keeping and reporting.

*Compliance with governmental regulations.

*Opening accounts and depositing funds in bank etc.

The incidental and routine functions are performed by peoples at lower levels.The involvement of chief executive of incidental functions is limited only to setting up rules, establishing standards for carrying out the functions effectively, and revising the performance whether the instructions are being followed properly or not.

METHODS OF FINANCIAL MANAGEMENT:

Financial Management is concerned with raising of financial resources and their effective utilization towards achieving the organization goals. This requires application of appropriate financial methods or logical method or technique to be employed for the purpose of accomplishing the following two goals.

Measuring the effectiveness of firms decisions and actions:

For example a firm may have accepted an approach which has resulted in an income Rs.1 lakh to the firm. Appropriate methods can help in finding whether the approach was eventually succesfull or not.Incase the approach should have

earned only Rs.80,000 it was successful.However if it were to earn a sum of Rs.2 lakhs, the approach has failed.The application of relevant tools can help in providing answer to this problem.

Measuring the validity of the decisions regarding accepting or rejecting future projects:

A firm is confronted with this problem whether the proposed course is the right one or whether any other course can help in better achievement of the firms goals. Financial tools greatly reduce this uncertainly and make the decision making much easier.

Following are the important financial tools or methods used by financial manager in performance of his job:

Cost of Capital Financial leverage or Trading on equity Capital budgeting Appraisal methods ABC analysis,Cash management,Aging schedule of

inventories,Debtors turn-over ratio, etc Ratio analysis Fund flow and cash flow analysis

Relationship between Financial management and other areas of management:

Financial management and Cost Accounting Financial management and Marketing Financial management and Assets management Financial management and Personnel management Financial management and Financial Accounting Financial management and Strategic management

OBJECTIVES AND GOALS:

Financial management is concerned with decision making in regard to the size and composition of asset and the level and structure of financing.To make wise decisions it is necessary to understand its objectives.Of the various financial objective may be taught two of them are not able because of wide support for them.

These are

Profit maximasation Wealth maximasation

PROFIT MAXIMASATION:

The firm should always to be keen on the decisions of financing, investment,

Dividend to maximization of profits.It implies that a firm should select projects and decisions which are profitable and reject those which are not.

It acts as a guide to financial decision making.It is a test of economic efficiency.It provides the economic performance on based of allocation of resources.

Finally, it ensures maximum social welfare i.e, maximum dividend to share holders, timely payments to creditors, more wages to employees, better quality at cheaper rate to consumer more employment to society and maximization of capital to the owners.

Objection and Criticism:

It is Vague

It ignore risk

It ignores the timing of returns.

WEALTH MAXIMATION:

This is operationally and managerially better objective. Wealth maximization means maximizing the net present value of the firm. The net present value is the difference between the gross present value of the benefits and the amount of investment required to achieve those benefits.The gross present value is foundout by discounting its benefits at a rate which reflects their timing and uncertainity.A positive net present value financial action creates wealth and should be accepted.On the other hand, a negative net present value

decision should by rejected.The market price of shares (excluding the impact of speculation)serves as the standard to judge whether financial decisions have been taken and implemented efficiently or not.

Maximisation of the firms market value is considered to be the proper objective.It considers

Time value of money The risk or uncertainity of future earnings Effects of dividend policy on the market price of

shares.

Responsibilites of Financial Manager:

Financial planning Raising of necessary funds Financial control Disposition of profits

Other responsibilities:

Responsibilities to owners Legal obligations Responsibilities to employees Responsibilities to customers

Wealth maximisation

Financial Management : Science or Art

Financial Management is both a science and an art.Of Course is neither a pure science like physics nor an art like painting.It is a science because basic principles and procedures on various theories propounded by financial experts,

Cost of capital,Capital structure,etc. It also helps of various statistical techniques , econometric models,computer technology, etc for taking financial structure decisions, etc. As a result it will be appropriate to say that financial management is applied science.

Financial management is also an art since the application of human judgement and skills is also necessary for effective management of finances. Financial management cannot wholly be derived on the basis of mathematical or computer based packages .A lot of discretion and judgment has to be used by the finance manager. Experience and Training acquired by the finance manager are thus equally important. Thus , Financial management is both art as well as science.

The End