MODULE- I.pptx

Hsh

1. FOUNDATIONS OF FINANCE MODULE- I SHAHNI SINGH Assist. PROF. (FINANCE)

2. Finance is the life blood of business The financial activities related to running a corporation. Finance is the management of the monetary affairs of a company The process of organizing the flow of funds by a business firm to carry out its objectives in the most efficient manner can be called as financing

3. The F.M. process begins with financial planning and decision. In the course of its implementation, it has to bear some risk and discharge certain return. Financial management is the managerial activity which is concerned with the planning and controlling of the firm’s resources. Financial process / approach are of two types: TRADITIONAL APPROACH MODERN APPROAC H

4. Profit maximization Wealth maximization It is a traditional approach It is a modern approach It emphasizes short term It emphasizes long term It ignores time value of money It considers time value of money It ignores risk and uncertainty It recognizes risk and uncertainty It measures the performance of a business firm only on the basis of its profit It measures the performance of a business firm only on the basis of shareholders wealth It is based on the assumption of perfect competition in the product market It assumes an efficient capital market A firm may not pay regular dividends to its shareholders and reinvest its retained earnings to achieve this goal A firm pays regular dividends to its shareholders to achieve this goal

5. Risk and Risk and Return Risk is the chance or possibility of suffering loss due to future uncertain. It refers to the possibility of incurring a loss in a financial transaction. Elements of Risk may be classified into two groups factors that are external to a company and affect a large number of securities simultaneously. This is uncontrollable and is also known as systematic risk factors which are internal to companies and affect only those particular companies. These are controllable to some extend. This is also known as unsystematic risk.

6. Return The term return refers to income from a security after a defined period either in the form of interest, dividend, or market appreciation in security value. The total gain or loss experienced on an investment over a given period of time

7. Risk Return Trade Off

8. BASIS SYSTEMATIC RISK UNSYSTEMATIC RISK Meaning Systematic risk refers to the hazard which is associated with the market or market segment as a whole. Unsystematic risk refers to the risk associated with a particular security, company or industry. Nature Uncontrollable Controllable Factors External factors Internal factors Affects Large number of securities in the market. Only particular company. Types Interest risk, market risk and purchasing power risk. Business risk and financial risk Protection Asset allocation Portfolio diversification

9. Measurement of risk The expected return from the investment can be calculated as follows: R = ( dividend + end of the period stock price/Initial investment )- 1 R = (D/P ) +(P 1 –P /P ) P0- beginning of they year P1- end of the year Expected Return of the investment is the probability weighted average of all the possible returns.

10. Expected return Expected return = Possible return = Related probability = Risk

11. Measurement of systematic risk The systematic risk is measured by a statistical measure called Beta. Two statistical methods may be used for the calculation of Beta Correlation Method Regression Method

12. Standard deviation It is the most common quantitative measure of risk of an asset. It considers every possible event and weight to its probability is assigned to each to its probability is assigned to each event. Standard deviation is a measure of dispersion around the expected or average mean value.

13. Formula

14. Correlation method

15. Regression method The model postulates a linear relationship between a dependent variable and an independent variable. The Model helps to calculate the values of two constants namely α and β α measure the value of dependent variable even when the independent variable has zero value - β measure the change in the dependent variable in response to unit change in the independent variable

16. regression equation Y ₌α + β X Y = Dependent variable X = Independent variable - β α are constants The formula for the calculation of alpha and Beta - α =Y̅ - β X̅ -β= n∑XY –(∑X)(∑Y)/ n∑ X 2 - (∑X) 2

17. Y ̅ = Mean value of the dependent variable scores X̅ = Mean value of the independent variable scores Y = Dependent variable scores X = Independent variable scores - n = Number of items

18. Time value of money (TVM) The time value of money is the concept that money available at the present time is worth more than the identical sum in the future due to its potential earning capacity. The simple concept of time value of money is that t he value of the money received today is more than the value of same amount of money received after a certain period. In other words, money received in the future is not as valuable as money received today, the sooner one receives money the better it is.

19. Reason for time preference of money The future is always uncertain and involves risk. People generally prefer to use their money for satisfying their present needs in buying more food, or clothes or another car, than deferring in future. Money has time value because of the opportunities available to invest money received at earlier dates at some interest or otherwise to enhance future earnings.

20. Techniques of time value of money Compounding technique – this time preference for money encourages a person to receive money at present instead of waiting for future Discounting- present value shows what the value is today of some future sum of money. The present value of money to be received in future will always be less.

21. Annuities are level streams of payments. Each payment is the same amount and occurs at a regular interval. Annuities are common in business. They can arise in loans, retirement plans, leases, insurance settlements, tax-related calculations, and so forth. Sometimes, one may be curious to learn how much a recurring stream of payments will grow to after a number of periods. This is called the future value of an annuity. When cash flows occur at the end of each period the annuity is called a regular annuity or a deferred annuity. Is the cash flows occur at the beginning of each period the annuity is called annuity due.

22. BASIS COMPOUNDING DISCOUNTING Meaning The method used to determine the future value of present investment is known as Compounding. The method used to determine the present value of future cash flows is known as Discounting. Concept If we invest some money today, what will be the amount we get at a future date. What should be the amount we need to invest today, to get a specific amount in future. Use of Compound interest rate. Discount rate Known Present Value Future Value Factor Future Value Factor or Compounding Factor Present Value Factor or Discounting Factor Formula FV = PV (1 + r)^n PV = FV / (1 + r)^n

23. Where 1,2,3,…..n represents future years FV = Cash flows generated in different years, R = Discount Rate Where R = Discount Rate n = number of years