AN OVERVIEW OF FINANCIAL MANAGEMENT

TRADITIONAL CLASSIFICATION

1. PUBLIC FINANCE – DEALS WITH THE REQUIREMENTS, RECEIPTS AND DISBURSEMENTS OF FUNDS IN THE GOVT. INSTITUTIONS.

2. PRIVATE FINANCE – CONCERNED WITH PERSONAL FINANCE, BUSINESS FINANCE AND FINANCE OF NON-PROFIT ORGANIZATION.

DEFINITION

• “FINANCIAL MANAGEMENT MAY BE CONSIDERED TO BE THE MANAGEMENT OF THE FINANCE FUNCTION”

- RAYMOND CHAMBERS

• FINANCE FUNCTIONS – PROCUREMENT OF FUND, UTILIZATION OF FUND AND DISTRIBUTION OF EARNINGS TO OWNERS.

SCOPE / APPROACHES OF F M

• TRADITIONAL APPROACH – ARRANGEMENT OF FUNDS AND MANAGEMENT OF FUND RAISING PROGRAMME.

• MODERN APPROACH – ARRANGEMENT, MANAGEMENT AND EFFECTIVE UTILIZATION OF FUND.

FINANCE FUNCTIONS

1. CAPITALIZATION OR INVESTMENT DECISION – DETERMINE HOW MUCH CAPITAL REQUIRED BY THE FIRM.

2. FINANCING DECISION – ARRANGEMENT OF FUNDS ACCORDING TO THE REQUIREMENT.

3. DIVIDEND DECISION – DISBURSEMENT OF PROFIT TO INVESTORS WHO SUPPLIED CAPITAL TO THE FIRM.

FACTORS INFLUENCING FINANCIAL DECISION

• EXTERNAL – STATE OF ECONOMY, CAPITAL AND MONEY MARKET CONDITIONS, REQUIREMENTS OF INVESTORS, GOVT. POLICY, ETC.

• INTERNAL – NATURE AND SIZE OF BUSINESS, TREND OF EARNINGS, AGE OF THE FIRM, WORKING CAPITAL REQUIREMENTS, CREDIT POLICY, ETC

GOALS OF F M

MAIN GOAL IS TO MAXIMISE OWNERS’ – SHAREHOLDERS’ ECONOMIC WELFARE.

• THIS OBJECTIVE CAN BE ACHIEVED BY:

1. PROFIT MAXIMIZATION AND

2. WEALTH MAXIMIZATION

1. PROFIT MAXIMIZATION

• MAXIMISING INCOME OF THE FIRM

• PROFIT IS THE YARDSTICK OF COMPANY’S OPERATIONS.

• NEED - TO PREVENT THE RISK IN FUTURE.

ARGUMENTS – IN FAVOUR

• PROFITABILITY IS THE BAROMETER TO MEASURE THE ECONOMIC EFFICIENCY.

• CAN SURVIVE UNDER UNFAVOURABLE CONDITIONS LIKE RECESSION AND DEPRESSION.

• MAIN SOURCE OF GROWTH AND EXPANSION

• ESSENTIAL IN FULFILLING SOCIAL GOALS LIKE SCHOLARSHIP, FUND ASSISTANCE, ETC

ARGUMENTS - AGAINST

• THERE IS CHANCES OF EXPLOITING WORKERS AND CONSUMERS.

• SOCIAL INEQUALITY – RICH AND POOR• DOESN’T CONSIDER TIME FACTOR.• DIVIDEND POLICY IS NOT AN ACCURATE ONE – DOES

NOT CONSIDER MARKET VALUE OF SHARES.• THERE IS NO CLEAR CUT IDEA ABOUT THE TERM

PROFIT.• OBJECTIVE OF VARIOUS INTERESTED PARTIES ARE

DIFFERENT FROM PERSON TO PERSON.

2. WEALTH MAXIMIZATION

• APPROPRIATE DECISION MAKING CRITERIA

• MAXIMIZING THE MARKET VALUE OF SHARES.

ARGUMENTS – IN FAVOUR

• TIME FACTOR IS CONSIDERED

• RISK ASSOCIATED IS ALSO CONSIDERED

ARGUMENTS - AGAINST

• NOT DESCRIPTIVE OF WHAT THE FIRM ACTUALLY DO.

• NOT SOCIALLY DESIRABLE

CONCEPT OF VALUE AND RETURN

• TO ACHIEVE THE OBJECTIVE OF OWNERS’ WELFARE, MANAGEMENT SHOULD CONSIDER TIME FACTOR AND RISK FACTOR.

TIME VALUE OF MONEY

• IT IS BASED ON THE FACT THAT A RUPEE RECEIVED TODAY IS MORE VALUABLE THAN A RUPEE TOMORROW.

• A RATIONAL INDIVIDUAL VALUE THE OPPORTUNITY TO RECEIVE MONEY NOW HIGHER THAN A RECEIPT IN FUTURE.

REASONS

• RISK AND UNCERATINTY – WE ARE NOT SURE ABOUT FUTURE CASH INFLOWS

• INVESTMENT OPPORTUNITIES – WE CAN INVEST THE PRESENT RECEIPT AND CAN EARN SOME INCOME OUT OF IT.

• PREFERENCE FOR CONSUMPTION – MOST PEOPLE HAVE PREFERENCE OF TODAYS CONSUMPTION.

SUMMARY

• A PERSON WILL HAVE TO PAY IN FUTURE MORE FOR A RUPEE RECEIVED TODAY OR

• A PERSON MAY ACCEPT LESS FOR A RUPEE TODAY THAN IN FUTURE.

TWO CONCEPTS IN TIME VALUE OF MONEY

1. COMPOUNDING – FUTURE VALUE OF PRESENT SUM.

2. DISCOUNTING – PRESENT WORTH OF FUTURE AMOUNT.

RISK

• IT IS A SITUATION WHERE THE POSSIBLE CONSEQUENCES OF THE DECISION THAT IS TO BE TAKEN ARE KNOWN.

• SIMPLY RISK IS THE CHANCE OF LOSS IN FUTURE BECAUSE FUTURE IS UNCERTAIN.

• UNCERTAINTY – PROBABILITIES ARE UNKNOWN.

TYPES OF RISK

• SYSTEMATIC RISK – EXTERNAL TO THE ORGANIZATION WHICH CAN NOT CONTROL.

• UNSYSTEMATIC RISK – INTERNAL TO THE ORGANIZATION WHICH CAN CONTROL.

SYSTEMATIC RISK

1. MARKET RISK – STOCK VARIABILITY DUE TO CHANGES IN INVESTORS’ ATTITUDES AND EXPECTATIONS.

2. INTEREST RATE RISK – PRICES OF ALL SECURITIES RISE OR FALL DEPENDING ON THE CHANGE IN INTEREST RATES.

3. PURCHASING POWER RISK – REDUCTION IN THE PURCHASING POWER OF MONEY. – INFLATION RISK

UNSYSTEMATIC RISK

• BUSINESS RISK – FIRM’S LIMITING ENVIRONMENT WITHIN WHICH IT CONDUCTS ITS BUSINESS.

• FINANCIAL RISK – ARISED DUE TO FALSE PLAN OF FINANCIAL STRUCTURE

RISK AND RETURN

• THERE IS A POSITIVE RELATIONSHIP BETWEEN THE AMOUNT OF RISK ASSUMED AND AMOUNT OF EXPECTED RETURN.

• GREATER IS THE RISK, THE LARGER IS THE EXPECTED RETURN AND LARGER THE CHANCES OF SUBSTANTIAL LOSS.