After reading this essay you will learn about:- 1.

Introduction to
Financial Management 2. Definition of Financial Management 3.
Scope 4. Role in a Business 5. Financial Goals and Objectives 6.
Functions.

Essay Contents:
1. Essay on the Introduction to Financial Management
2. Essay on the Definition of Financial Management
3. Essay on the Scope of Financial Management
4. Essay on the Role of Financial Management in a Business
5. Essay on the Financial Goals and Objectives
6. Essay on the Functions of Financial Management

Essay # 1. Introduction to Financial Management:

A business organisation seek to achieve their objectives by obtaining
funds from various sources and then investing them in different types
of assets, such as plant, buildings, machinery, vehicles etc. Financial
management is managing the finances through scientific decision-
making.

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For making right decisions, financial management needs to

understand financial environment within which these decisions
operate. Financial management will then be able to analyse these
financial information’s to predict likely future results and to plan more
carefully their proposed course of action.

Financial management is concerned with the acquisition (investment),

financing (arranging funds), and management of assets with some
overall goal in mind. Investment decisions begin with a determination
of the total amount of assets required by the firm and to determine the
money value of the same. Assets that cannot be economically justified,
may be reduced, eliminated or replaced.
Financing decisions include decisions regarding mix of financing, type
of financing employed, dividend policy and method of acquiring funds
i.e., getting a short term loan, or a long term lease arrangement, sale of
bonds or stock.

Asset management decisions means managing the assets efficiently

after their acquisition.

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Success of a firm depends on the ability to raise funds, invest in assets

and manage wisely.

Essay # 2. Definition of Financial Management:

Financial management is an internal part of overall management and
not a staff function of the organization. It is not only restricted to fund
raising process but also covers utilization of funds and monitoring its
uses. The finance function is concerned with the process of acquiring
an efficient utilization of funds of a business system, in order to
maximize the value of the enterprise.

Financial management involves the application of principles of general

management to the finance function. These functions influence the
operations of other crucial functional areas of the enterprise or firm
such as marketing production and personnel. Thus the overall survival
of the firm is effected by it financial operations.

“The financial management deals with how the corporation

obtains the funds and how it uses them.” —Hoagland
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“The financial management refers to the application of skills in the

manipulation, use and control of funds.” —Mock, Schultz and
Schuckectat
Financial management can also be defined as that part of
management, which is related mainly with raising or acquiring the
funds for the enterprise or firm in the most economical way, utilizing
those funds as profitably as possible, for a given risk level, planning
the future investment of those funds and controlling the current
performance plus future development by adopting budgeting, cost
accounting and financial accounting.

Essay # 3. Scope and Functions of Financial

Management:
The main objectives of financial management are to arrange the
sufficient funds for meeting short term long term requirements of the
enterprise. These finances are procured at minimum cost in order to
maximize the profitability.

In view of these factors the financial management scope

concentrates on the following areas of finance function.
(i) Estimating the Financial Requirements:
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The first job of the finance manager of an enterprise is to estimate

short term and long term financial requirements of his business. He
will prepare a financial plan for present as well as future for this
purpose.

The finance required for procuring fixed assets as well as the working
capital needs will have to be ascertained. The estimations should be
based on sound financial principles so that funds available with the
firm are neither inadequate nor excess.

(ii) Determining the Capital Structure:

After estimating the financial requirements, the finance executives
have to decide about the composition of capital. The capital structure
refers to the type and proportion of different securities for raising
funds. After deciding the quantum of funds needed it should be
decided which type of securities should be raised.

The finance executives have to determine the relative proportions of

owner’s risk capital and borrowed capital along with short term and
long term debt equity ratio.

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A decision regarding various sources of funds should be linked with

the cost of raising funds. A decision about the kind of securities to be
employed and the proportion in which these should be utilized is an
important decision which affects the short term and long term
financial planning of an enterprise.

(iii) Choice of Sources of Finance:

After preparing a resources structure an appropriate source of finance
is chosen. Various sources from which finance may be raised include:
shareholders’ debenture holders, banks and other financial
institutions and public deposits etc. Finance executive has to evaluate
each source or method of finance and select the best source keeping in
view the various factors.

The need, purpose, objective, cost involved may be the factors

affecting the selection of a suitable source of financing, for instance, if
the finances are required for short periods then banks, public deposits
and financial institutions may be appropriate, and for long term
financial requirements, the share capital and debentures may be
useful.

(iv) Investment Decisions:

When the funds have been poured then a decision regarding pattern of
investment has to be taken. The funds raised are to be intelligently
invested in various assets so as to optimize the returns on investment.
The funds will have to be used first for the purchase of fixed assets and
then an appropriate part will be retained as working capital.
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The utilisation of long term funds requires a proper assessment of

different alternatives through capital budgeting and opportunity cost
analysis. While spending on various assets, management should be
guided by three important principles of safety, liquidity and
profitability. A balance should be struck even in these principles for
the purpose of optimum returns on investment.

(v) Management of Profits:

The utilisation of surpluses or earnings is also an important factor in
financial management. A judicious utilisation of earnings is essential
for expansion and diversification plans of the enterprise.

A certain amount out of the total profit may be kept as reserve

voluntarily, a portion of surplus may be distributed among the
ordinary and preference shareholders, yet another portion may be
reinvested. The finance executive must take into consideration the
merits and demerits of the alternative scheme of utilizing the funds
generated from the enterprise’s own earnings.

(vi) Management of Cash Flow:

Cash flow management is also an important task of finance executive.
He has to assess the various cash requirements at different times and
then make arrangements for cash needed. Cash may be required to (i)
make payments to creditors (ii) for purchase of materials (iii) to meet
wage bill (iv) to meet everyday expenses.

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The cash management should be such that neither there is shortage of

it and nor it is idle. Any shortage of cash will damage the credit
worthiness of the firm. The idle cash with the enterprise will mean that
it is not properly utilized. In order to know the cash requirements
during different periods, the management should arrange for the
preparation of cash flow statement in advance.
(vii) Implementation of Financial Controls:
An efficient system of financial management needs the use of various
control of devices. Financial control devices generally adopted are (i)
Return on Investment (ii) Budgetrary Control (iii) Cost control (iv)
Break Even analysis (v) Ratio analysis. The use of various control
techniques by the Finance Manager will help him in evaluating the
performance in different areas and take corrective action whenever
needed.

Essay # 4. Role of Financial Management in a

Business:
An effective financial management plays a dynamic role in a modern
company’s development.

In earlier days, financial managers were primarily engaged

in:
(a) Raising funds, and

(b) Managing the firms cash flow.

But now-a-days with the developments and increasing complexities in

the business, responsibility of the financial managers have increased
and they are now concerned with the decision-making process
involving finance, i.e., capital investment.

Today external factors, like competition, technological change,

economic uncertainty, inflation problem etc., create financial
managers problem more complicated. He must have flexibility to
adopt to the changing external environment for the survival of his
firm.
Thus in addition to the job of acquisition, financing and managing the
assets, the financial manager is supposed to contribute to the fortunes
of the firm and to the optimal growth of the economy as a whole.

He is required to take decisions on:

(i) Investing funds in assets, and

(ii) Obtaining best mix of financing and dividends.

In order to understand the environment in which a finance

manager is required to take decision, a sketch indicating
business system is given hereunder:
The Financial Management’s main role is therefore to create profit on
the capital invested (fixed as well as working capital). Each and every
decision related to finance/economy must be optimal. Every business
enterprise is set up to earn profit, and no one is interested in taking
risk unless he is assured of fair return on the investment. However
government organisations have no profit motive but are created to
serve the public.

The profit earned by a firm is used for:

(a) Future expansion.

(b) Distributing profit as rewards to owners/shareholders.

Profit earned also serves as an indicator of efficiency and performance
of the firm. So as to enable to perform the role of financial
management, financial managers must be given proper authority,
autonomy, freedom of actions, supporting staff, system for providing
necessary information. He should be accountable also for his role.

Essay # 5. Financial Goals and Objectives:

There may be various objectives of a firm, but the goal of a firm is to
maximise the wealth of the firm’s owners. Thus we can say that, “the
improvement of shareholders value is the one mission that
continually guides all corporate decisions and actions” or
“the goal of a firm is maximizing the shareholders’ value”. This
maximisation of value should be achieved from long term point of
view.
The financial goal can be expressed as:
(a) Required profit levels,

(b) Earnings per shares, and

(c) Required rate of return on investment.

For a large firm, where shareholders do not have direct say and the
firm is managed by the management, an ordinary shareholder can
judge the performance by the market price of the firm’s share. Market
price serves as a gauge for business performance, it indicates how well
management is doing on behalf of its shareholders.

Management is the agents of the owners or shareholders, and financial

management acts for achieving the goal of profit maximization in the
shareholders’ best interests.

Social Goals:
While profit maximisation is the primary goal for any business
organisation, social responsibility is also important for them. In case
of Government organisations and public sector organisations, social
responsibility is the primary goal and profit is secondary.

Social responsibility includes service to the people, protecting the

consumer, paying fare wages to the employees, upliftment of the
weaker sections, welfare facilities like medical education, environment
improvement programmes etc.

Financial Objectives:
In making financial decisions, it is important to set out clear
objectives.

Following are the basic financial objectives:

(a) Profit maximisation.

(b) Maximisation of shareholders’ owners’ wealth.

(c) Reduction in cost.

(d) Minimising risks.

(e) Sustained increase in the value of firm

(f) Wealth maximisation.

Essay # 6. Functions of Financial Management:

Financial manager is concerned with the following aspects:
1. Identifying the present strengths and weaknesses of the
organisation, and the scope for improvement, by conducting the
financial analysis.

2. Planning the financial strategies. This involves the consideration of

methods and levels of funds raising, profitability and the financing of
expansion plan of the organisation.
3. Arranging the funds when required, in the form needed in the most
economical way.

4. Conducting financial appraisal of the possible courses of action. The

appraisals are needed in respect of possible take overs and mergers,
analysis of capital projects, or alternative methods of funding.

5. Advising about capital structure.

6. Consideration of an appropriate level for drawings by dividends to

the owners/ shareholders.

7. Ensuring that assets are controlled and used in an efficient manner.

8. Cash management. Preparation of detailed cash budgets and/or

forecast funds flow statement so that future problems can be foreseen
and remedial measures taken in advance. These take care of both
shortage and excess of cash. Finance managers must find ways of
raising more funds needed, or investing excess funds for an
appropriate length of time.

9. Finance managers are likely to draw attention on other disciplines

also, like accounting and budgeting.

In order to enable financial managers to perform above functions

satisfactorily, he must have good knowledge of accounting, economics,
mathematics, statistics, law especially taxation, financial market etc.

The functions of finance thus involve three major decisions

the firm must make:
(a) The investment decisions,

(b) The financing decisions, and

(c) The dividend decisions.

Each of these decisions are taken in relation to the objective of the

firm, an optimal combination of these three will maximise the value of
the firm to its shareholders. Since the decisions are interrelated, their
joint impact on the market price of the firm’s stock must be
considered.

(a) Investment Decisions:

This is the most important decision. Capital investment, i.e., allocation
of capital to investment proposals is the most important aspect, whose
benefits are to be realised in future. As future benefits are not known
with certainty, the investment proposals involve risk.

These should, therefore, be evaluated in relation to expected return

and risk. Considerable attention is paid to determine the appropriate
required rate of return on the investment.

In addition to taking capital investment decisions, finance managers

are concerned with the management of current assets efficiently in
order to maximise profitability relative to the amount of funds tied up
in asset. Investment decisions also include the decisions about
mergers and acquisition of another company.

(b) Financing Decisions:

Finance manager is required to determine the best financing mix or
capital structure. An optimal financing mix is one in which market
price per share could be maximised. Financing decision are taken in
relation to the overall valuation of the firm.

Various methods of obtaining short, intermediate, and long term

financing are also explored, examined, analysed and a decision is
taken. While taking financing decisions, the influence of inflammation
on financial markets and on the cost of funds to the firm is also
considered.

(c) Dividend Decision:

The dividend decision includes the percentage of earnings paid to
stockholders in cash dividends, stock dividends and splits, and the
repurchase of stock.
To Meet Funds Requirement of a Firm:
Funds requirement is assessed for different purposes, namely for
feasibility study of a project, detailed planning of a project, and for
operation and expansion of the business.

For feasibility study, only broad estimates are sufficient and are
generally obtained from the past experience of the similar works by
interpolating the present trends and the condition of the proposed
project in comparison to the one whose figures are being adopted.
While during detailed planning, estimated requirement is
comparatively more realistic, and prepared after going into details
more thoroughly.

Here we are discussing the funds requirement for a running business

including its long term planning for expansion.

The main function of financial management is to ensure that the firm

must have sufficient funds to meet financial obligations when they are
needed and to take advantage of investment opportunities. To achieve
this objective, a thorough study is conducted about ‘flow of funds’ i.e.,
statement of funds requirement indicating the amount of fund needed
and at what time.

This ‘statement of funds’ is a summary of a firm’s changes in financial

position from one period to another. This indicates that how the funds
will be used and how it will be financed over specific period of time.
This includes the cash as well as non-cash transactions.

Forecast, financial statements are prepared for selected future dates,

generally for middle term and long term plans of the firm. Budgets are
used for one year, and are prepared only to fulfill the firms’ objectives
envisaged in the forecast for that particular year.

These forecast financial statements are based on the sales forecast and
future strategies for expanding the business, and includes, forecast
income statements, forecast assets, liabilities, shareholders, equity etc.
nvestments decisions are long run decisions where consumption and investment alternatives are balanced
over time in the hope that investment now will generate extra returns in the future. There are similarities
between short-run and long – run decision making, for example the choice between alternatives, the need to
consider future costs and revenues and the importance of incremental changes in costs and revenues.On the
other hand there is the additional requirement for investment decision that, because of the time scale
involved, the value of the money invested must be considered. The time scale also makes the consideration
of uncertainty and inflation of ever greater importance than when considering short-term decisions.

The methods used for evaluation of capital investments in practice have been the subject of a number of
research studies over the last 20-30 years. The primary interest of researches has been to establish whether
there is wide acceptance by decision makers of apparently superior methods, and to ask why methods other
than those suggested by theory might be used in practice.
Two particular methods of comparing the attractiveness of competing projects have become known as the
“traditional techniques”. There are the Accounting Rate of Return and Payback.

Payback is a popular technique for appraising projects either on its own or in conjunction with other methods.
Accounting Rate of Return shown in the Table shows the ratio of average annual profits, after depreciation, to
the capital invested. Here, Payback is a period expressed in years which it takes for the project’s net inflows
to recoup the original investment.

This technique has some advantages and disadvantages which should be bear in mind by financial
managers. The advantages include the following features: simple to calculate and understand; uses project
cash flows rather than accounting profits and hence is more objectively based; favours quick return projects
which may produce faster growth for the company and enhace liquidity. On the other hand it is possible to
point out some disadvantages of the Payback method used in Table. The first, Payback described in the
Table does not measure overall project worth because it does not consider cash flows after the payback
period. Payback provides only a crude measure of the timing of project cash flows.

Using the data from Sumsung the profit figures first need to be adjusted to eliminate depreciation machine A
cost $ 125 000. With a five year life and straight line depreciation, the annual depreciation is $25 000. For
machine B , with the six year life, the depreciation is $20 000 per annum.

SEEKING SOLUTIONS

Good financial management involves an ongoing quest for solutions to the

balancing act that confronts all organizations: doing efficiently all that is
necessary with limited resources. The rural practitioners whose solutions
are reported here stress several outlooks that help put the balancing act in
perspective. 

First, they recommend involving many participants in the process of

constructing the budget, notably including staff, parents, and taxpayers.
Building-level and community-level input is particularly important, they
note, in rural areas, where schools are the center of attention. Second, and
equally important, they recommend that the school district develop and
apply a clear sense of priorities as budgets are planned. 
Finally, the issue of forecasting has relevance. One respondent put it this
way: When budgeting, underestimate revenues and overestimate
expenditures. Another advised preparation of three budget scenarios--worst
case, best case, and "best guess" versions. 

The process of seeking solutions requires cleverness, consultation, and

communication. Problems come and go, but the dilemma of fitting the
means to the ends of education remains.