CHAPTER NO. 1 Nature & Scope of

Financial Management

INTRODUCTIONFinance Finance is defined as the provision of money at the

time when it is required. Every enterprise, whether big, medium , or small needs finance to carry on its operations and to achieve its targets. So, it is rightly said to be the lifeblood of an enterprise.

Classification of Finance Finance deals with the requirements, receipts and

disbursements of funds in the public institutions as well as in the private institutions. On the basis of these finance is classified in to following two parts.

1. Traditional classification2. Modern classification

Classification of Finance in Traditional way

BUSINESS FINANCE

PUBLIC FINANCE

1. GOVERNMENT INSTITUTIONS

2. STATE GOVERNMENTS

3. LOCAL SELF GOVERNMENTS

4. CENTRAL GOVERNMENTS

PRIVATE FINANCE

1. PERSONAL FINANCE2. BUSINESS FINANCE3. FINANCE OF NON

PROFIT ORGANISATIONS

Classification of Finance in Modern way

BUSINESS

FINANCE

PARTNERSHIP FINANCE

SOLE-PROPRITORY

FINANCE

COMPANY OR

CORPORATION FINANCE

APPROACHES TO BUSINESS FINANCEBusiness finance connotes finance of business

activities.It is composed of two words (I) business( state

of being busy related with all creative human activities) (ii) finance (provision of money when it is required) so, business finance concerned with the application of skills in the use and control of money.

Three main approaches to finance indicated in traditional and modern approaches.

(i) Providing of funds(ii) Finance to cash(iii) raising of funds and effective utilization.

Financial Management and Definition

Financial Management refers to :-1. Part of management activity2. Planning and controlling financial resources3. Finding out various sources for raising funds4. Suitable and economical sources5. Proper use of funds So, Financial management is an area of financial

decision making , harmonising individual motives & enterprise goals.

Definition“The area of the business management devoted to a

judicious use of capital and a careful selection of sources of capital in order to enable a spending unit to move in the direction of reaching its goals”

J. F. Bradley

EVOLUTION OF FINANCIAL MANAGEMENT

THREE STAGES

INITIAL

STAGE

(1930)

• EMERGENCE as distinct field & FORMATION of large sized business undertakings

• 1930 economic recession creates difficulties in raising finance & find out improved methods for sound financial structure

IN EARL

Y 1950

• EMPHASIZED on reorganization of industries & selection of sound financial structure

• SHIFTING to profitability to liquidity , techniques of analyzing capital investment & widened the scope of financial management

MODERN PHAS

E AFTE

R 1960

• DISCIPLINE of financial management become more analytical & development of theory , methods, models like CAPM, OPTION PRICING THEORY.

• NEW sources of finance like PCD’s, FCD’s, PD’S etc.

IMPORTANCE OF FINANCIAL MANAGEMENT

#

FOR FINANCIAL PLANNING & SUCCESSFUL PROMOTION

ACQUISITION OF FUNDS AT MINIMUM

COST

SOUND FINANCIAL DECISION

IMPROVING PROFITABILI

TY

PROPER USE AND ALLOCATION OF

FUNDS

INCREASING THE WEALTH OF INVESTORS

& NATION

AIMS OF FINANCE FUNCTION SCOPE OF FINANCE FUNCTION

1. Acquiring sufficient funds

2. Proper utilization of funds

3. Increasing profitability

4. Maximizing firm value

# Estimating financial requirements

# Deciding capital structure# Selecting a source of

finance# Selecting a pattern of

investment# proper cash management#Implementing financial

controls# proper use of surpluses

RELATIONSHIP OF FINANCE WITH OTHER BUSINESS FUNCTIONS

• DISTRIBUTION FUNCTION

• ACCOUNTIONG FUNCTION

• PRODUCTION FUNCTION

• PURCHASE FUNCTION

PRESONNEL FUNCTION

RESARCH AND

DEVELOPMENT

FUNCTION

OBJECTIVES OF FINANCIAL MANAGEMENT1. OBJECTIVE PROFIT MAXIMISATION

Arguments in favour # Profit maximization is

the obvious objectives when profit s the main aim.

# Profitability is a barometer for measuring efficiency & prosperity of a business

# To survive In unfavorable situation

# For the expansion and diversification

# For fulfilling social goals

Arguments in against$ Ambiguity$ Ignores time value of

money$ Ignores risk factors $ Dividend policy

2.OBJECTIVE WEALTH MAXIMISATIONArguments in favour @ It serves the interest of

all shareholders@ Owners economic

welfare@ Long run survival and

growth@ Consider risk factors and

the time value of money@Increase the market

value of the shares@Value maximization of

equity shareholders by increasing price per share

Arguments in against* Objective is not

descriptive* Not socially desirable* Controversial point

that it increases firm’s value or shareholder wealth

* Wealth maximization is difficult when ownership and management are separated

MEASURING SHAREHOLDERS VALUE CREATIONEconomic value added EVA is a measure of performance evaluation

employed by Stewart & Co. It is now used to measure the surplus value created by an investment or a portfolio of investments.

EVA = Net profit after tax – Cost of capital x Capital invested

Market value added MVA is the sum total of all the present values of

future economic value added. It can also defined as

MVA = Current market value of the firm – Book value of capital employed

FINANCIAL DECISIONS & INTER RELATION OF FINANCIAL DECISIONS

FINANCIAL DECISIONS

1. Investment decision2. Financing decision3. Dividend decision

INTER RELATION OF FINANCIAL DECISION----

INVESTMENT

DECISION

DIVIDEND DECISION

FINANCING DECISION

FINANCIAL MANAGEMENT CONCERNED WITH

1. FINANCING DECISION

2. INVESTMENT DECISION 3. DIVIDEND

DECISION

ANALYSISRISK

RETURN RELATIONSHI

P

TO ACHIEVE THE GOALS OF WEALTH MAXIMISATION

FACTORS INFLUENCING FINANCIAL DECISION

INTERNAL FACTORS EXTERNAL FACTORS

A. State of economyB. Structure of capital and

money marketsC. Requirements of

investorsD. Government policyE. Taxation policyF. Lending policy of

financial institutions

• Nature and size of business

• Expected return, cost, risk• Composition of assets• Structure of ownership• Trend of earnings• Age of the firm• Liquidity position• Working capital

requirements• Conditions of debt

agreements

RISK RETURN TRADE OFF

INVESTMENT DECISION1. CAPITAL

BUDGETING2. WORKING CAPITAL

MANAGEMENT

RISK

FINANCING DECISION# CAPITAL STRUCTURE

MARKET VALUE OF THE FIRM

DIVIDEND DECISION

* DIVIDEND POLICY

RETURN

FUNCTIONAL AREAS OF FM

FUNCTIONS OF A FINANCE MANAGER

∞ Determining financial needs

∞ Selecting the sources of funds

∞Financial analysis and interpretation

∞Cost-Volume-Profit analysis

∞Capital budgeting∞Working capital

management∞Profit planning and

control∞Dividend policy

1. Financial forecasting and Planning

2. Acquisition of funds3. Investment of funds4. Helping in valuation

decisions5. Maintain proper

liquidity

FINANCIAL ENGINEERINGDesigning and developing new financial

instruments # Formulating new processes $ Formulating

creative solutions to financial problems.

ORGANISATION OF THE FINANCE FUNCTIONBoard of Directors

Managing Director

Vice President Production

Vice President Finance

Financial Controller

Planning & Control

Annual Reports

Budgeting

Additional Funds

Cash Manageme

ntAudit

Protect Funds &

Securities

Relation with Banks & Financial

Institutions

Profit Analysis

Accounting Payroll

Treasures

Vice President Sales

The Financial Controller Vs. Treasurer

Treasurer Controller

1 Provision of capital 1 Accounting

2 Relation with banks and other financial institutions

2 Preparation of financial reports

3 Cash management 3 Reporting and interpreting

4 Receivables management 4 Planning and control

5 Protect funds and securities 5 Internal audit

6 Investors relations 6 Tax administration

7 audit 7 Reporting to government

THANKS