Unit 1-fm-intrduction-1 ppt

Introduction to Financial Management - Dr. Thulasi Krishna K

1. FINANCIAL MANAGEMENT
UNIT 1
Dr. THULASI KRISHNA. K, Ph.D.
Dept. of Management Studies,
MITS, Madanapalle, A.P.

2. DEFINITION OF FINANCIAL MANAGEMENT
–Managerialactivitieswhichdealwithplanningand
controllingoffirmsandfinancialsources.
–Financialmanagementisanareaoffinancialdecisionmaking,
harmonsingindividualmotivesandenterprisegoals.
-Weston Brigham

3. MeaningofFinance
Financeisabranchofeconomicsconcernedwithresourceallocationas
wellasresourcemanagement,acquisitionandinvestment.Simply,
financedealswithmattersrelatedtomoneyandthemarkets.
Financeisoftendefinedsimplyasthemanagementofmoneyor
funds’management.

4. MeaningofBusinessFinance
AccordingtotheWheeler,“Businessfinanceisthatbusiness
activitywhichconcernswiththeacquisitionandconservationof
capitalfundsinmeetingfinancialneedsandoverallobjectivesofa
businessenterprise”.
AccordingtotheGuthumannandDougall,“Businessfinancecan
broadlybedefinedastheactivityconcernedwithplanning,raising,
controlling,administeringofthefundsusedinthebusiness”.

5. OTHER DEFINITIONS OF FINANCIAL MANAGEMENT
Financialmanagementisanintegralpartofoverallmanagement.Itis
concernedwiththedutiesofthefinancialmanagersinthebusinessfirm.
Solomondefinesas,“Itisconcernedwiththeefficientuseofan
importanteconomicresourcenamely,capitalfunds”.
S.C.Kuchaldefinesitas“FinancialManagementdealswithprocurement
offundsandtheireffectiveutilizationinthebusiness”.

6. NATURE OF FINANCIAL MANAGEMENT
Financialmanagementreferstothatpartofmanagementactivity,which
isconcernedwiththeplanningandcontrollingoffirm’sfinancial
resources.
ActivitiesofFinancialManagement
a.Anticipatingfinancialneeds
b.Acquiringfinancialresources
c.Allocatingfundsinbusiness

7. EVOLUTION OF FINANCIAL MANAGEMENT
The Evolution of financial management is classified in to two
categories.
-Traditional approach
-Transitional approach
-Modern approach

8. TRADITIONAL APPROACH (1920 -40)
Accordingtothisapproach,thescopeofthefinance
functionisrestrictedto“procurementoffundsbycorporate
enterprisetomeettheirfinancialneeds.
Theterm‘procurement’referstoraisingoffundsexternally
aswellastheinterrelatedaspectsofraisingfunds.

9. Emphasiswasonlong-termfinance
Intraditionalapproach,theresourcescouldberaisedfrom
thecombinationoftheavailablesourceslikeinternaland
externalsources.

10. LIMITATIONS OF TRADITIONAL APPROACH
This approach is confined to ‘procurement of funds’ only.
It fails to consider an important aspect i.e., allocation of
funds.
Focused only on corporate finance.
It deals with only outsiders i.e., investors, investment
bankers.

11. Theinternaldecisionmakingwascompletelyignoredinthis
approach.
Thetraditionalapproachfailedtoconsidertheproblems
involvedinworkingcapitalmanagement.
Itneglectedtheissuesrelatingtotheallocationand
managementoffundsandfailedtomakefinancial
decisions.

12. TRANSITIONAL PHASE (1940-50)
Emphasis on working capital management
Capital Budgeting Techniques were developed.

13. MODERN APPROACH (from 1950)
Themodernapproachisananalyticalwayoflookinginto
financialproblemsofthefirm.
Accordingtothisapproach,thefinancefunctioncoversboth
acquisitionoffundsaswellastheallocationoffundsto
varioususes.
Financialmanagementisconcernedwiththeissues
involvedinraisingoffundsandefficientandwiseallocation
offunds.

14. MAIN CONTENTS OF MODERN APPROACH
Howlargeshouldanenterprisebeandhowfarit
shouldgrow?
In what form should it hold its assets?
How should the funds required be raised?
-Financialmanagementisconcernedwithfinding
answertotheaboveproblems.(Rationalmatchingof
fundstotheirusesformaximizingshareholders’wealth)

15. Thisphasehasseenadvancementsincapitalstructure
decisions,cashmanagementmodelsanddividend
policies.

16. FUNCTIONS OF FINANCE
There are three finance functions
Investment decision
Financing decision
Dividend decision

17. INVESTMENT DECISION
Investmentdecisionrelatestoselectionsofassetin
whichfundswillbeinvestedbyafirm.
Theassetthatcanbeacquiredbyafirmmaybelong-
termassetandshort-termasset.

18. Decisionwithregardtolong-termassetsiscalled
capitalbudgeting.
Decisionwithregardtoshort-termorcurrentassetsis
calledworkingcapitalmanagement.

19. Capital Budgeting
Capitalbudgetingrelatestoselectionofanassetor
investmentproposalwhichwouldyieldbenefitinfuture.
Itisconcernedwithlong-terminvestmentdecision
making.

20. Itevaluatestheinvestmentproposalintermsofrisk
associatedwithitandsuchevaluationismadeagainst
certainnormsorstandard.Thisstandardisbroadlyknown
ascostofcapital.

21. Working Capital Management
Workingcapitalmanagement orcurrentasset
managementisanimportantpartofinvestment
decision.
Propermanagementofworkingcapitalensuresfirm’s
liquidityandsolvency.
A conflict exists between profitability and liquidity while
managing current asset.

22. Working Capital Management
Ifafirmdoesnotinvestsufficientfundsincurrent
assetsitmaybecomeilliquidandmaynotmeetits
currentobligations.
Thefinancialmanagershoulddeveloppropertechniques
ofmanagingcurrentassetssothatneitherinsufficientnor
unnecessaryfundsareinvestedincurrentassets.
Ifthecurrentassetsarelarge,thefirmwouldloseits
profitabilityandliquidity.

23. Management of Working Capital
The management of working capital has two
aspects.
-Efficient management of individual current
asset such as cash, receivable and inventory.
-Overview of working capital management and

24. FINANCING DECISION
Financing decision is concerned with the
financing mix or capital structure.

25. FINANCING DECISION
Determinationoftheproportionofequityanddebtisthe
mainissueinfinancingdecision.
Oncethebestcombinationofdebtandequityisdetermined,the
nextstepisraisingappropriateamountthroughavailablesources.
The mix of debt and equity is known as capital structure.

26. DIVIDEND DECISION
A firm distribute all profits or retain them or distribute a
portion and retain the balance with it.
Whichcourseshouldbeallowed?Thedecision
dependsuponthepreferenceoftheshareholdersand
investmentopportunitiesavailabletothefirm.

27. Dividend decision has a strong influence on the
market price of the share.
So the dividend policy is to be determined in
terms of its impact on shareholder’s value.
The optimum dividend policy is one which
maximizes the value of shares and wealth of
the shareholders.

28. Dividend Decision
Thefinancialmanagershoulddeterminetheoptimum
payoutratioi.e.,theproportionsofnetprofittobepaid
outtotheshareholders.
Theabovethreedecisionsareinterrelated.Tohavean
optimumfinancialdecisionthethreeshouldbetaken
jointly.

29. OBJECTIVES OF FINANCIAL MANAGEMENT
The term ‘objective’ refers to a goal or decision
for taking financial decisions.
Profit maximisation
Wealth maximisation

30. PROFIT MAXIMISATION
The term profit maximisation is deep rooted in
the economic theory.
It is needed when firms pursue the policy of
maximising profits.
Society’s resources are efficiently utilised.

31. The firm should undertake those actions that
would increase profits and drop those actions
that would decrease profit.
The financial decisions should be oriented to the
maximisation of profits.
Profit provides the yardstick for measuring
performance of firms.

32. It makes allocation of resources to profitable
and desirable areas.
It also ensures maximum social welfare.

33. Favourable Arguments for Profit Maximization
The following important points are in support of the profit
maximization objectives of the business concern:
(i) Main aim is earning profit.
(ii) Profit is the parameter of the business operation.
(iii) Profit reduces risk of the business concern.
(iv) Profit is the main source of finance.
(v) Profitability meets the social needs also.

34. Limitations
The term profit is vague
Ignores Time Value of Money
Ignores the Risk
Ignores Quality, image, technological advancements
etc.
Profitmaximisationasanobjectiveistoonarrow(Itfailstotake
intoaccountthesocialconsiderationssuchastheobligationsto
variousinterestsofworkers,consumers,society,aswellasethical
tradepractices).

35. WEALTH MAXIMISATION
Wealthmaximisationornetpresentvaluemaximisation
providesanappropriateandoperationallyfeasible
decisioncriterionforfinancialmanagementdecisions.

36. Accordingtothisobjective,themanagersshouldtakedecisions
thatmaximizetheshareholders'wealth.Inotherwords,itisto
maketheshareholdersasrichaspossible.
Shareholders'wealthismaximizedwhenadecisiongeneratesnet
presentvalue.Thenetpresentvalueisthedifferencebetween
presentvalueofthebenefitsofaprojectandpresentvalueofits
costs.

37. Using Solomon’s symbols and methods, the net present worth can be
calculated as shown below:
W = V –C
Where, W = Net present worth; V = Gross present worth; C = Investment
(equity capital) required to acquire the asset or to purchase the course of
action.
V = E/K
Where, E = Size of future benefits available to the suppliers of the input
capital;
K = The capitalization (discount) rate reflecting the quality (certainty/
uncertainty) and timing of benefit attached to E.

38. IMPORTANCE OF FINANCIAL MANAGEMENT
(i) Success of Promotion Depends on Financial Administration
(ii) Smooth Running of an Enterprise
(iii) Financial Administration Co-ordinates Various Functional Activities
(iv) Focal Point of Decision Making
(v) Determinant of Business Success
(vi) Measure of Performance
(vii) Determination of fixed assets
(viii) Determination of current assets
(ix) Determination of Capital Structure

39. NEW ROLE OF FINANCE FUNCTION IN THE CONTEMPORARY SCENARIO
Continuous focus on margins and ensure that the organisation stays
committed to value creation.
Work across the functional divide of the company and exhibit leadership
skills.
Understand what's driving the numbers and provide operation insights,
including a sense of external market issues and internal operating trends,
and become key strategy player.
Aware and use the highly innovative financial instruments.
Know the emergence of capital market as central stage for raising money.
Adding more value to the business through innovations in impacting
human capital.

40. Mustbalancetheneedtocutoverheadwiththeneedtocreateafinance
organisationabletomeetlong-termgoalsbydesigningfinancialprocesses,
systemsandorganisationthatcansupportthebusinessinthefutureandinitiating
costreductionsthatfurthercutorganisationalfat,butnotoperationalmuscle.
Liaison(link)tothefinancialcommunity,investorsandregulators(ratingagencies,
investmentandcommercialbankersandpeers),whicharevaluableinformation
sourcesforstrategicandtacticaldecisions.
Assess probable acquisitions, contemplating initial negotiation, carrying out due
diligence, communicating to employees and investors about the horizontal
integration.
Deal with the post-merger integration in the light of people issues.

41. Deal with the new legislation (New Companies Bill, Limited Liability
Partnership), and regulations merely add more formality and, to an extent,
bureaucracy, to what most already subscribe to as best practices in
financial reporting.
Be one of the undisputed arbiter in matters of financial ethics, with the
backing of legislation and stiff penalties.
Finance managers are central to changes in audit and control practices.
Corporate governance is a key issue that must be continuously monitored
and he/she should not push the limit of the P&L and growth.
Be aware of the proposed changes in financial reporting systems such as
International Financial Reporting Standards (IFRS), Goods and Services
Tax (GST), Direct Tax Code (DTC) and Extensible Business Reporting
Language (XBRL). Adapting and optimising within changing tax reforms
would become imperative for then and their organisations.