Chapter 1: Financial Management: An Overview

Financial Management means planning, organizing, directing and controlling the financial
activities such as procurement and utilization of funds of the enterprise. It means applying
general management principles to financial resources of the enterprise.

Scope/Function of Financial Management

1. Financial Planning- Financial Planning is the process of estimating the capital required
and determining it’s competition. It is the process of framing financial policies in relation
to procurement, investment and administration of funds of an enterprise.
Objectives of Financial Planning
a. Determining capital requirements- This will depend upon factors like cost of current and
fixed assets, promotional expenses and long- range planning. Capital requirements have
to be looked with both aspects: short- term and long- term requirements.
b. Determining capital structure- The capital structure is the composition of capital, i.e., the
relative kind and proportion of capital required in the business. This includes decisions of
debt- equity ratio- both short-term and long- term.
c. Framing financial policies with regards to cash control, lending, borrowings, etc.
d. A finance manager ensures that the scarce financial resources are maximally utilized in
the best possible manner at least cost in order to get maximum returns on investment.

Importance of Financial Planning

Financial Planning is process of framing objectives, policies, procedures, programmes and
budgets regarding the financial activities of a concern. This ensures effective and adequate
financial and investment policies. The importance can be outlined as-
a. Adequate funds have to be ensured.
b. Financial Planning helps in ensuring a reasonable balance between outflow and inflow of
funds so that stability is maintained.
c. Financial Planning ensures that the suppliers of funds are easily investing in companies
which exercise financial planning.
d. Financial Planning helps in making growth and expansion programmes which helps in
long-run survival of the company.
e. Financial Planning reduces uncertainties with regards to changing market trends which
can be faced easily through enough funds.
f. Financial Planning helps in reducing the uncertainties which can be a hindrance to
growth of the company. This helps in ensuring stability an d profitability in concern.
 2. Financing- concerned with the financing mix or financial structure of the firm. The
raising of funds requires decisions regarding the methods and sources of finance, relative
proportion and choice between alternative sources, time of floatation of securities, etc. In
order to meet its investment needs, a firm can raise funds from various sources.

The finance manager must develop the best finance mix or optimum capital structure for
the enterprise so as to maximize the long- term market price of the company’s shares. A
proper balance between debt and equity is required so that the return to equity
shareholders is high and their risk is low.

Use of debt or financial leverage effects both the return and risk to the equity
shareholders. The market value per share is maximized when risk and return are properly
matched. The finance department has also to decide the appropriate time to raise the
funds and the method of issuing securities.

3. Investing- involves the evaluation of risk, measurement of cost of capital and estimation
of expected benefits from a project. Capital budgeting and liquidity are the two major
components of investment decision.
Capital budgeting is concerned with the allocation of capital and commitment of funds
in permanent assets which would yield earnings in future.
- Capital budgeting also involves decisions with respect to replacement and renovation
of old assets. The finance manager must maintain an appropriate balance between
fixed and current assets in order to maximise profitability and to maintain desired
liquidity in the firm.
- Capital budgeting is a very important decision as it affects the long-term success and
growth of a firm. At the same time it is a very difficult decision because it involves
the estimation of costs and benefits which are uncertain and unknown.

Objectives of Financial Management

The financial management is generally concerned with procurement, allocation and control of
financial resources of a concern. The objectives can be-
1. To ensure regular and adequate supply of funds to the concern.
2. To ensure adequate returns to the shareholders which will depend upon the earning
capacity, market price of the share, expectations of the shareholders.
3. To ensure optimum funds utilization. Once the funds are procured, they should be
utilized in maximum possible way at least cost.
4. To ensure safety on investment, i.e, funds should be invested in safe ventures so that
adequate rate of return can be achieved.
5. To plan a sound capital structure-There should be sound and fair composition of capital
so that a balance is maintained between debt and equity capital.
Organization of Financial Management

The chief financial officer often distributes the financial management responsibilities between
the controller and the treasurer.
Controller- normally has responsibility for all accounting-related activities. These include such
functions as
Financial Accounting- This function involves the preparation of the financial statements for the
firm, such as the balance sheet, income statement, and the statement of cash flows.
Cost Accounting- This department often has responsibility for preparing the firm’s operating
budgets and monitoring the performance of the departments and divisions within the firm.
Taxes- This unit prepares the reports that the company must file with the various government
(local, state, and federal) agencies.
Data Processing- Given its responsibilities involving corporate accounting and payroll
activities, the controller may also have management responsibility for the company’s data -
processing operations.
The treasurer is normally concerned with the acquisition, custody, and expenditure of funds.
These duties often include
Cash and Marketable Securities Management- This group monitors the firm’s short -term
finances forecasting its cash needs, obtaining funds from bankers and other sources when
needed, and investing any excess funds in short-term interest -earning securities.
Capital Budgeting Analysis- This department is responsible for analyzing capital expenditures
that is, the purchase of long -term assets, such as new facilities and equipment.
Financial Planning- This department is responsible for analyzing the alternative sources of
long-term funds, such as the issuance of bonds or common stock, that the firm will need to
maintain and expand its operations.
Credit Analysis- Most companies have a department that is responsible for determining the
amount of credit that the firm will extend to each of its customers. Although this group is
responsible for performing financial analysis, it may sometimes be located in the marketing area
of the firm because of its close relationship to sales.
Investor Relations- Many large companies have a unit responsible for working with institutional
investors (for example, mutual funds), bond rating agencies, stockholders, and the general
financial community.
Pension Fund Management- The treasurer may also have responsibility for the investment of
employee pension fund contributions. The investment analysis and portfolio management
functions may be performed either within the firm or through outside investment advisors.

Role of Financial Manager

Financial managers perform data analysis and advise senior managers on profit-maximizing
ideas. Financial managers are responsible for the financial health of an organization. They
produce financial reports, direct investment activities, and develop strategies and plans for the
long-term financial goals of their organization. Financial managers typically:
- Prepare financial statements, business activity reports, and forecasts,
- Monitor financial details to ensure that legal requirements are met,
- Supervise employees who do financial reporting and budgeting,
- Review company financial reports and seek ways to reduce costs,
- Analyze market trends to find opportunities for expansion or for acquiring other
companies,
- Help management make financial decisions.
The role of the financial manager, particularly in business, is changing in response to
technological advances that have significantly reduced the amount of time it takes to produce
financial reports. Financial managers’ main responsibility used to be monitoring a company’s
finances, but they now do more data analysis and advise senior managers on ideas to maximize
profits. They often work on teams, acting as business advisors to top executives.
Financial managers also do tasks that are specific to their organization or industry. For example,
government financial managers must be experts on government appropriations and budgeting
processes, and healthcare financial managers must know about issues in healthcare finance.
Moreover, financial managers must be aware of special tax laws and regulations that affect their
industry.

The Philippine Financial System

The “Financial System” is a term used in finance to describe the system that allows the money to
go between savers and borrowers. It allocates or match the supply of savings in the economy to
the users of those savings in a safe and efficient manner.
Elements
a. Financial Institutions- organizations that offer financial services.
b. Financial Market- system that allows people to buy and sell goods and services to each
other.
c. Financial Instruments- these are assets belonging to a person or company. This can
include cash, bonds, or other assets; such as property of items of value.
d. Financial Services- offered by financial institutions such as banking, insurance policies,
loans and mortgages, as well as pensions.
e. Financial Practice- a sort of guideline around how the financial institutions should
operate their services.
f. Financial Transactions- actual exchange of assets for good and services.
These 6 elements are of equal important in maintaining a healthy financial system.
Components of Philippine Financial System
1. Bank
2. Non-bank Intermediaries

The major types of financial institutions in the Philippines are commercial banks, rural
banks, thrift banks, specialized government financial institutions, offshore banks,
insurance companies and non-bank financial institutions.
Key Services Provided by the Philippine Financial System
1. Risk Sharing
2. Liquidity
3. Information
Barriers to Matching Savers and Borrowers
1. Asymmetric information and information cost
2. Adverse selection (can be reduced using screening and monitoring)
 3. Moral hazard
TYPES OF MARKET
PHYSICAL MARKET- a set up where buyers can physically meet the sellers and purchase
the desired merchandise from them in exchange of money.
FINANCIAL MARKET- a type of marketplace that provides an avenue for the sale and
purchase of assets such as bonds, stocks, foreign exchange, and derivatives.
SPOT MARKET- also called the cash market or the physical market, the spot market is
where assets are sold for cash and delivered immediately.
FUTURES MARKET- Futures are financial contracts giving the buyer an obligation to
purchase an asset (and the seller an obligation to sell an asset) at a set price at a future point
in time.
MONEY MARKET- unorganized markets where banks, financial institutions, money dealers
and brokers trade in financial instruments for a short period of time.
- used for short-term lending or borrowing usually the assets are held for one
year or less
CAPITAL MARKET- organized market in which both individuals and business entities (such as
pension funds and corporations) sell and exchange debt and equity securities.
a type of financial market where financial products like stocks, bonds,
debentures are traded for a long duration of time.

PRIMARY MARKET- where the fresh issue of securities are offered to the public.
part of the capital market where new securities are created are directly purchased by the investors
from the issuer. And the creation of new securities facilitates growth within the economy.
SECONDARY MARKET- where issued securities are traded between the investors.
a market where securities are offered to the general public after being offered in the primary
market. These securities are usually listed on the Stock Exchange.
PRIVATE MARKET- Compromises a supermarket securities
Only professional investors (or very wealthy individuals) can invest in this market
Private companies are less heavily regulated
Private companies do not have to report on performance
PUBLIC MARKET- Resemble a free market or bazaar
Individuals can invest in this market
Public companies are heavily regulated
Public companies must report on performance

DEBT MARKET- where debt instruments are traded. Debt instruments are assets that require a
fixed payment to the holder, usually with interest. Examples of debt instruments include bonds
(government or corporate) and mortgages.
it is the market where interest rates are determined.

EQUITY MARKET- (often referred to as the stock market) is the market for trading equity
instruments. Stocks are securities that are a claim on the earnings and assets of a corporation
(Mishkin 1998). An example of an equity instrument would be common stock shares.
it affects both investment spending and consumer spending decisions