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11
INTRODUCTION TOFINANCIAL MANAGEMENT
INTRODUCTION TO FINANCIAL MANAGEMENT
Chapter -1
economic or
Money required for any activity is known as Finance. Every activity whether
non-economic, requires money to run it.
Business Finance refers to money and credit employed in business. It is procured and
utilized for business purposes.
Significance of Business Finance:
1. To acquire fixed assets
2. To purchase raw materials/goods
3. To acquire services of human being BUSINESS
4. Tomeet other operating expenses
5. Toadopt Modern Technology
6. To meet contingencies
7. To expand existing operations
NANCE
8. To diversify 50000 115
9. To avail of business opportunities
Finance is said to be life blood of business. It is required not only at the time of setting up
of business but at every stage during the existence of business. It must be
available at
the time when it is needed. It must also be adequate for the purpose for
whích it is
needed.

WHAT IS FINANCIAL MANAGEMENT?}

a. Financial Management ismanagement of finances of an
organization in order to achieve
its objectives.
b. Financial Management may be defined as planning,
organizing, directing & controlling of
financial activities in an organization.
Financial Management answers the following basic questions:
1. Where to invest? i.e. Investment Decisions ()
2. From where to raise funds?i.e. Financing
decision (F)
3. How much earnings to be retained and how much to be
distributed? i.e. Dividend
Decision (D)
4. How tomanage Working Capital? i.e. Working
Capital Management Decision (W)
Hence,Wealth of a Company =f (|, F, D, W)

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 a) To Ould be the ON TO
Objective of Financial Management?
b) To
Maximize Profit
c) To Maximize Earning Per Share
FINANCIAL MANAGEMENT
d) To
Minimize Costs
e) To Maximize Market Share
Maximize the Current Value o f the
CFINANCIAL
The DECISION-MAKING)
finance function relates to
Company's Stock FINANCIAI
MAN AGE MEN

I.
the finance
manager haa to take:three major decisions which
Investment Decision
Investment Decision relates to the careful
assets inwhich funds will be selection of
term or short-term. invested by the firm.
Financing Decision Investment decision can be
Financing
long-
Decision relates to the
involves deciding thecomposition ofof relative proportion of various sources
of finance. It
Sources of financing are analysed inproportion equity and debt in capital
This decision the light of cost as well as structure.
determines the financial risk
enterprise. 500 00115overall cost of capital and the financial risk of the involved
Sources ofFinance:
Sources of Finance

External Sources nternal Sources

Share Capital Debt ot BorrowedCapital:
EquityShares Preference Shares

Debentures others
Loan trom Financial Institutions
Dividend Decision
Dividend Decision involves
deciding whether to distribute the
shareholders or to retain profits and reinvest in profits as dividend to
the business.
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 INTRODUCTION TO FINANCIAL MANAGEMENT 1.3
ASPECTS/FUNCTIONS OF FINANCIAL MANAGEMENT
PROCUREMENT OF FUNDS
V Funds can be
obtained from different sources having
of risk, cost,and different characteristics in terms
V The funds raised control.
from the
view. However, it is also theissue of Eguity Shares are the best from the risk point of
shareholders. costliest source of finance due to
dividend expectations or
On the other hand,
Debenture Debentures are cheaper than Equity Shares due to tax
Interest.
V The cost of funds However, they are usually riskier than equity benefit on
should be at
control factors must be carriedminimum level for which a proper shares. of
out by the finance balancing risk and
manager.
EFFECTIVE UTILIZATION OF FUNDS
V The Finance
Manager has to ensure that funds are not kept
improper use of funds. idle or there is no
The funds are to be invested in a
the cost of capital to the firm. manner such that theygenerate returns higher than
Adequate working capital should be maintained so as to
avoid the risk of insolvency.

PHASES OF EVOLUTION OF FINANCIAL

MANAGEMENT
TRADITIONAL PHASE: During this phase, Financial Management was
necessary only during the occasion ike Merger, Acquisition, considered
etc. Takeovers, Liquidations
TRANSITIONALPHASE: During this phase, day to day problems that financial
faced were given importance. Problems related to fund manager
were given more attention.
analysis, planning and control
V MODERN PHASE:This is an on-going
phase. During this phase, many theories are
developed regarding efficient market, capital budgeting, option pricing, valuation
models etc.

[PROFIT MAXIMIZATION AS OBJECTIVE OF FM

V The primary objective of a company is to earn
profits.
The objective of Finance manager is to maximize the profit of a
company and he
must make decision in line with the objectives.

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 INTRODUCTION TO FINANCIAL
ADVANTAGES
must for the
MANAGEMENT
V It is the primary objective of the company andis survival of
an Implied objective.
VEssential for growth and development of the business.
busines.
It impacts the society through Factor Payments.
VOnly profit making firms can pursue social obligations.

DISADVANTAGES
Profit Maximization is not an operationally feasible criterion. It can be a
objective for any firm and cannot be its sole objective. short terr
V The term profit is Vague and does not clarify what exactly it means.
V Profit Maximization objective ignores the risk factor. Higher risk proposition may t
selected by a finance manager if its only objective is to maximize the profit.
V Profit maximization istoo narrow as it ignores social andmoral obligations

(WEALTH MAXIMIZATION AS OBJECTIVE OF FM

VThe value/wealth of a firm is defined as the market price of firm's stock.
V Shareholders wealth are the result of cost benefit analysis
adjusted with their
timing and risk i.e. time value of money.
This is the real objective of Financial Management.

ADVANTAGES
50000 115
/ It considers allfuture cash flows,
A firm that wishes to dividends, earnings per share, risk of a decision etc
maximize shareholders wealth may pay regular
the
Considering long term prospects of the firm, reflects the
the dividends.
the returns, considers risk and
recognizes the
differences in timings of
The maximizationof afirm's value as importance distribution of returns.
of
as a proper goal of afirm.
reflected inthe market price of a
share is viewed
DISADVANTAGES
V Offers no clear relationship
Can lead to between financial decision and share
management anxiety and frustrations. price.

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 INTRODUCTIONTOFINANCIAL MANAGEMENT 1.5

(FUNCTIONS OF FINANCE MANAGER OR CFO

Estimating Requirement of the Fund: The requirement and purpose must be
carefully examined using techniques like budgetary control and range
planning
VFinancial Negotiation: He needs to interact and carry out negotiation with
types of institutions. various
Performance Evaluation:He has to perform performance evaluation of various
units of an organization.
50000 115
Investment Decisions: The decision regarding the investment of long term funds
in fixed assets and inpermanent working
capital must be
Risk Management & Protectionof Assets: The CFO or taken carefully.
Finance Manager must not
only protect tangible but also safeguard
Dividend
intangible assets.
Decisions: The Finance Manager must also assist the management in
deciding as to what amount should be distributed as profits and what
retained in the business. should be
Cash Management Decisions: The Finance Manager has to ensure that all
divisions or unitsof an organization are supplied with adequate funds. He should
also ensure that there is no excessive cash in any division at any point of time.
Market Impact Analysis: It involves evaluation of major trends in Market and
their impact on the Company.

TBALNG
 WORKING CAPITALL
Chapter -2 WORKING CAPITAL MANAGEMENT
MEANING OF WORKING CAPITAL (WC): working Capital refers to fund.
MANAGEMEN
invested in the business for a short period usually upto one year. r
excess of Current Assets over Current Liabilities.
Worklng Capltal = Current Assets -
Working
It is also known as short-term capital or circulating capital. Current Liah,
WORKINGCAPITAL PURPOSE OFWORKING CAPITAL:
To meet day to day operating
For Effective utilization of experc
Fixed Asse:
For holding stocks of raw
materials,
parts, consumables, work in progress and Spar:
goods and book debts (i.e. debtors' finis
receivable).
balances ar-
Adequate WC determines short-term solvency of the firm.

CONGEPTS OF VWORKING CAPITAL

Inventories
PasSORKIANNCCAPIAL:
i. RawMaterial:
 WORKING CAPITAL MANAGEMENT 2.2
2 PERMANENT WORKING CAPITAL: It refers to a certain minimum level of
which is essential for the firm to carry on its current assets,
business irrespective of the level of
operations. This minimum level of
investment in current assets is Working
Capital
permanently locked up in business and is,
therefore, reterred to as permanent or
fixed or hardcore working capital. Value Based Time Based
/ It grows with the size of the business
ie. greater the size of the business,
Gross Net
greater is the requirement of Working Working Temporary Permaner
Capital Capital
Working Working
Permanent Working Capital. Capital Capital
A TEMPORARY WORKING CAPITAL: It refers to the amount of working
above the fixed minimum amount of working capital over and
capital, which is required to meet seasonal
andother temporary requirements. The
amount of temporary working capital fluctuates
depending upon the changes in the production and sales. It is also
called fluctuating or
yariable or seasonal working capital.

WORKING CAPITAL TN CASE OF A STABLE FIRM 500001 15

/ Stable Firm is one which has reached that level of
operation beyond which there are no
or minimal opportunities of growth.
In case of a stable firm, the permanent working capital is stable over time and takes the
shape of a horizontal line while temporary working capital is fluctuating -sometimes
increasing and sometimes decreasing.
Amount
Working
Capitat

Temporary
Working
Capital Line

Levelof TemporaryWorking Capital Permanent

Workíng
Capital Line
Level of PermanentWorking Capital

Time
 WORKING CAPITAL MANAGEMEN
WORKING CAPITAL IN CASE OF AGROWING FIRM
Growing firm is the one which
has ample opportunities of AmountWorking
Capital
growth in the near future.
Incase of a growing firm, the
Capital
permanent working capital Working
may also keep on increasing Temporary
CapBtal
of Working
over time to support a rising Lovel
Permanent
levelof activity and hence Levelof
permanent working capital
line may not always be Time
horizontal.

APPROACHES TO WORKING CAPITAL MANGEMENT

1. AGGRESSIVE APPROACH: Under

TomporaryCurrentAssets
Aggressive Approach, all temporary
current assets and some portion of (b Short
Finan
permanent current assets are financed
ASsets Lon
with short-term sources of funds and PermanentCurrentAssets Fina

some portionof permanent current

assets are financed with long-term
sources of funds. Flxed Assets

Time

2. CONSERVATIVE APPROACH: Under Temporary

Current
Aet
Short
Term
Conservative Approach, all Flnancing

permanent current assets and some

Assets
portion of temporary current assets Long
Term
are financed with long-term sources of Permanent
Cunent As8e
Financing

funds and some portion of temporary

short
current assets are financed with Flxed Assets

term sources of funds.

Time
 WORKING CAPITAL MANAGEMENT 2,4

MATCHING/HEDGING APPROACH:
Under Matching Approach, all Temporary
Curent
Assets Short
Term
permanent current assets are Financing
financed with long term sources of
fund and all the
temporary current
assets are financed
ess
Permanent
CurrentAssots
Long
Term
with short Financing
term sources of funds.
Fixed Assets

Time

NEED FOR WORKING CAPITAL 60000115

1) Working capital is
needed because of the existence of
2) Operating cycle is the operating cycle.
duration of time between acquisition
collection cash from Receivables.
of of Raw Materials and the
a) Allthe sales of the
business do not convert into cash
4) There is alwaysa time gap instantaneously.
between the Sale of Goods and the Receipt of Cash
Debtors. from
S) WC is required to meet
various expenses related tomanufacturing of goods
above said time gap. during the
6) Basically, working capital is
business to run smoothly.
required to finance operations during operating cycle for the
OPERATING CYCLE IN ATRADING FIRM

Cash Inventory of.

Finished Goods Receivables

OPERATING CYCLE IN A MANUFACTURING FIRM

Cash Inventory of Inventory of Inventory of

Raw Materials Work-In Progress Finished Goods

Receivables

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