Introduction: An Overview of Business Finance

The Nature of Business

Business – is any lawful economic activity concerned with production and for distribution of goods or
services for profits. Under the free enterprise system, the growth of the economy lies in the ability of
private individuals to achieve economic activities.

3 Main Divisions of Business:

1. Commerce – includes business firms are engaged in the buying and selling of goods and services,
including trading, merchandising and marketing.
2. Industry – includes those business firms mainly concerned with the production of goods
intended for consumption (consumer’s goods) and for use of business and industry ( producer’s
goods):
a. Generic industries – businesses involved in agriculture, forestry and fish culture;
b. Extractive industries – businesses involved in the extraction of goods from natural resources
such as mining, lumbering, hunting and fishing.
c. Manufacturing industries – those businesses involved in the conversion of raw materials
into finished products like manufacturing of drugs, plastics, food, liquor, footwear, motor
cars, tools, office supplies and household appliances.
d. Construction – industries consist of firms engaged in building infrastructures like airports,
seaports, dams, and highways and constructions of dwelling houses.
3. Services – business firms selling services to the society such as:
a. Recreation
b. Personal
c. Finance
d. Education

Profit maximization – business firm’s main objective.

However, short term and long-term profits are sacrificed in order to attain other goals, such as:

1. Political influence;
2. Family control if the business, and
3. Community involvement.

To survive and grow, business firms must attain the following multiple objectives:

1. The provision of goods and services to the community;

2. The satisfaction of personal objectives like:
a. Profits for owners;
b. Adequate salaries and compensation for executives and employees; and
 c. Psychic income for all, including pride in work, security, recognition and acceptance.
3. Protection and enhancement of the human and physical resources of the society; and
4. Economy and effectiveness of operation.

The Nature of Finance

Finance – is the study of the acquisition and investment of cash for the purpose of enhancing value and
wealth. It is the art and science of managing money, like cash flows and involves an array of financial
decisions from pricing of financial assets such as equities and bonds in raising of funds and assessing
investments viability.

CLASSIFICATIONS OF FINANCE:

1. Public Finance – deals with the revenue and expenditure patterns of the government and their
various effects on the economy.
2. Private Finance – are classified as follows:
a. Personal Finance – is concerned with the fundamentals of managing one’s own personal
money affairs.
b. The finance of non-profit organizations – includes private undertakings such as charity,
religion and some private educational institutions.
c. Business Finance – refers to the provision of money for commercial use.

The Nature of Business Finance

Business Finance – is the proper management of funds.

Goals of Business Finance:

1. Maximizing Profit;
2. Maximizing Profitability;
3. Maximizing Profit subject to cash constraint;
4. Maximizing net present worth; and
5. Seeking an optimum position along a risk-return frontier.

Advantages
Economic Survival – profits are a must for survival
of any business.
Measurement Standards – profits are true
measurement of viability of a business. Without
profits, there is a direct risk of survival of the
business.
Social Economic Welfare – The profit
maximization theory indirectly caters to social
Limitations
Haziness in the Concept of “Profit”: The term
“profit” is a vague term. It is because different
mindset and will have different perceptions about
“profits”.
Ignores Time Value of Money: The key concept in
financial management is the time value of money.
Nevertheless, accounting profit does not involve
any discounting of cash flow to reflect this
important concept in finance.
Ignores the Risk of Cash Flows: Risk factor is
normally reflected in the cost of capital of the firm.
 welfare. Ignores Quality: The most problematic aspect of
profit maximization as an objective is that it
ignores the intangible benefits such as quality,
image, technological advancements.

Profit Maximization – means realizing the highest possible income in the Philippine peso or in other
currencies specifically in US dollars. IT is the process that business firms undergo to determine the best
output and price levels to maximize the return.

Profit Maximization Theory is the traditional approach and the primary objective of financial
management. It implies that every decision relating to business is evaluated in the light of profits. All
decision with respect to new projects, acquisition of assets, raising capital, distributing dividends etc are
studied for their impact on profits and profitability. If the result of a decision is perceived to have
positive effect on the profits, the decision is taken further for implementation.

Shareholders’ Wealth Maximization

The primary goal of the firm is to maximize the wealth of its owners, like shareholders of a stock
corporation. A shareholder’s wealth refers to the value of the firm, which is essentially the share price
of the firm. The market value of the share is mainly determined by market forces, I,e. demand and
supply of the share. Investors are concerned with the value of the firm for the decision of demanding
and paying for shares from the firm.

For a firm to be valuable, the following scenarios are directly related to cash flow:

1. Magnitude of expected future cash flows – future cash inflows and cash outflows either raise or
lower the share price. If cash inflows are larger than cash outflows, the result normally raise the
price while larger cash outflows will lower the share price.
2. Timing of future cash flows – sooner or later cash inflows or outflows result in higher share
price.
3. Uncertainty of future cash flows – the higher the risk associated with future cash flows, the
lower the share price.

Challenges and Issues in Business Finance (FIRMS)

1. Foreign Exchange (Forex) Risk – the business recession in Europe affecting the world market;
2. International and Local Markets – the effects to the merchants of the free enterprise system;
3. Rapid Technological Changes – strengths of business-on-line and the E-commerce law;
4. Mergers and Acquisitions – changes in financial markets at the height of Asian Integration;
5. Socio-Economic Impact – the increase in job opportunities elevates the standard of living of the
common people thus improving the Philippine economy.