FINANCIAL MANAGEMENT

Q. Introduction, meaning and definition of financial management?

Financial Management is a related aspect of finance function. In the present

business administration financial management is an important branch. Nobody
will think over about-business activity without finance implication

Financial management is the activity concerned with planning, raising, controlling

and administering of funds used in the business.” – Guthman and Dougal

“Financial management is that area of business management devoted to a judicious

use of capital and a careful selection of the source of capital in order to enable a
spending unit to move in the direction of reaching the goals.” – J.F. Brandley

“Financial management is the operational activity of a business that is responsible

for obtaining and effectively utilizing the funds necessary for efficient
operations.”- Massie

Financial management is an organic function of any business. Any organization

needs finances to obtain physical resources, carry out the production activities and
other business operations, pay compensation to the suppliers, etc. There are many
theories around financial management:

1. Some experts believe that financial management is all about providing funds
needed by a business on terms that are most favorable, keeping its objectives
in mind. Therefore, this approach concerns primarily with the procurement of
funds which may include instruments, institutions, and practices to raise funds.
It also takes care of the legal and accounting relationship between an
enterprise and its source of funds.
2. Another set of experts believe that finance is all about cash. Since all
business transactions involve cash, directly or indirectly, finance is concerned
with everything done by the business.
3. The third and more widely accepted point of view is that financial
management includes the procurement of funds and their effective utilization.
For example, in the case of a manufacturing company, financial management
must ensure that funds are available for installing the production plant and
machinery. Further, it must also ensure that the profits adequately
compensate the costs and risks borne by the business.
In a developed market, most businesses can raise capital easily. However, the real
problem is the efficient utilization of the capital through effective financial planning
and control.

Q.What is financial management? What are the scope of financial

management?

1. Estimation of capital requirements: A finance manager has to make

estimation with regards to capital requirements of the company. This will depend
upon expected costs and profits and future programmes and policies of a concern.
Estimations have to be made in an adequate manner which increases earning
capacity of enterprise.

2. Determination of capital composition: Once the estimation have been made,

the capital structure have to be decided. This involves short- term and long- term
debt equity analysis. This will depend upon the proportion of equity capital a
company is possessing and additional funds which have to be raised from outside
parties.

3. Choice of sources of funds: For additional funds to be procured, a company has

many choices likea. Issue of shares and debentures b. Loans to be taken from
banks and financial institutions c. Public deposits to be drawn like in form of
bonds.

Choice of factor will depend on relative merits and demerits of each source and
period of financing.

4. Investment of funds: The finance manager has to decide to allocate funds into
profitable ventures so that there is safety on investment and regular returns is
possible

5. Disposal of surplus: The net profits decision have to be made by the finance
manager. This can be done in two ways:

a. Dividend declaration - It includes identifying the rate of dividends and other

benefits like bonus.

b. Retained profits - The volume has to be decided which will depend upon
expansional, innovational, diversification plans of the company.

6. Management of cash: Finance manager has to make decisions with regards to

cash management. Cash is required for many purposes like payment of wages and
salaries, payment of electricity and water bills, payment to creditors, meeting
current liabilities, maintainance of enough stock, purchase of raw materials, etc.

7. Financial controls: The finance manager has not only to plan, procure and
utilize the funds but he also has to exercise control over finances. This can be done
through many techniques like ratio analysis, financial forecasting, cost and profit
control, etc
OBJECTIVES OF FINANCIAL MANAGEMENT

Effective procurement and efficient use of finance lead to proper utilization of the
finance by the business concern. It is the essential part of the financial manager.
Hence, the financial manager must determine the basic objectives of the financial
management. Objectives of Financial Management may be broadly divided into
two parts such as: 1. Profit maximization 2. Wealth maximization.

Profit Maximization Main aim of any kind of economic activity is earning profit. A
business concern is also functioning mainly for the purpose of earning profit. Profit
is the measuring techniques to understand the business efficiency of the concern.
Profit maximization is also the traditional and narrow approach, which aims at,
maximizes the profit of the concern. Profit maximization consists of the following
important features.

1. Profit maximization is also called as cashing per share maximization. It leads to

maximize the business operation for profit maximization.

2. Ultimate aim of the business concern is earning profit, hence, it considers all the
possible ways to increase the profitability of the concern.

3. Profit is the parameter of measuring the efficiency of the business concern. So it

shows the entire position of the business concern.

4. Profit maximization objectives help to reduce the risk of the business.

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.

Unfavourable Arguments for Profit Maximization

The following important points are against the objectives of profit maximization:

(i) Profit maximization leads to exploiting workers and consumers.

(ii) Profit maximization creates immoral practices such as corrupt practice, unfair
trade practice, etc.

(iii) Profit maximization objectives leads to inequalities among the sake holders
such as customers, suppliers, public shareholders, etc.

Drawbacks of Profit Maximization

Profit maximization objective consists of certain drawback also:

(i) It is vague: In this objective, profit is not defined precisely or correctly. It

creates some unnecessary opinion regarding earning habits of the business concern.

(ii) It ignores the time value of money: Profit maximization does not consider the
time value of money or the net present value of the cash inflow. It leads certain
differences between the actual cash inflow and net present cash flow during a
particular period.
(iii) It ignores risk: Profit maximization does not consider risk of the business
concern. Risks may be internal or external which will affect the overall operation
of the business concern.

Wealth Maximization

Wealth maximization is one of the modern approaches, which involves latest

innovations and improvements in the field of the business concern. The term
wealth means shareholder wealth or the wealth of the persons those who are
involved in the business concern.

Wealth maximization is also known as value maximization or net present worth

maximization. This objective is an universally accepted concept in the field of
business.

Favourable Arguments for Wealth Maximization

(i) Wealth maximization is superior to the profit maximization because the main
aim of the business concern under this concept is to improve the value or wealth of
the shareholders.

(ii) Wealth maximization considers the comparison of the value to cost associated
with the business concern. Total value detected from the total cost incurred for the
business operation. It provides extract value of the business concern.

(iii) Wealth maximization considers both time and risk of the business concern.

(iv) Wealth maximization provides efficient allocation of resources.

(v) It ensures the economic interest of the society.

Unfavourable Arguments for Wealth Maximization

(i) Wealth maximization leads to prescriptive idea of the business concern but it
may not be suitable to present day business activities.

(ii) Wealth maximization is nothing, it is also profit maximization, it is the indirect

name of the profit maximization.

(iii) Wealth maximization creates ownership-management controversy.

(iv) Management alone enjoy certain benefits.

(v) The ultimate aim of the wealth maximization objectives is to maximize the
profit.

(vi) Wealth maximization can be activated only with the help of the profitable
position of the business concern. Q. What is financial management? What are the
various decision taken in financial management?

In organizations, managers in an effort to minimize the costs of procuring finance

and using it in the most profitable manner, take the following decisions:

1.Investment Decisions: Managers need to decide on the amount of investment

available out of the existing finance, on a long-term and short-term basis. They are
of two types:

 Long-term investment decisions or Capital Budgeting mean committing

funds for a long period of time like fixed assets. These decisions are irreversible
and usually include the ones pertaining to investing in a building and/or land,
acquiring new plants/machinery or replacing the old ones, etc. These decisions
determine the financial pursuits and performance of a business.
 Short-term investment decisions or Working Capital Management means
committing funds for a short period of time like current assets. These involve
decisions pertaining to the investment of funds in the inventory, cash, bank
 deposits, and other short-term investments. They directly affect the liquidity
and performance of the business.
2.Financing Decisions: Managers also make decisions pertaining to raising finance
from long-term sources (called Capital Structure) and short-term sources (called
Working Capital). They are of two types:

 Financial Planning decisions which relate to estimating the sources and

application of funds. It means pre-estimating financial needs of an organization
to ensure the availability of adequate finance. The primary objective of
financial planning is to plan and ensure that the funds are available as and
when required.
 Capital Structure decisions which involve identifying sources of funds. They
also involve decisions with respect to choosing external sources like issuing
shares, bonds, borrowing from banks or internal sources like retained earnings
for raising funds.
3.Dividend Decisions: These involve decisions related to the portion of profits that
will be distributed as dividend. Shareholders always demand a higher dividend,
while the management would want to retain profits for business needs. Hence, this
is a complex managerial decision.