Chapter 1

An overview of managerial finance

Prepared by
Dr. Mahnoor Sattar (MNS)
Course instructor: FIN501
East West University
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 What is Finance?
❑ Finance is a subject that deals with
money.
How money is raised and used by
business, government and individuals.
❑ General concepts to make rational
decisions (everything else equals):
• More value is preferred to less;
• Sooner cash is more valuable than later;
• Less risky assets are more valuable.
❑All firms deals with Managerial
Finance, whether they are public or
private, deal with financial services, or
manufacture products. 2
@Dr. Mahnoor Sattar (MNS)
 Career opportunities in Finance

• Commercial banker
• Investment banker/Underwriter
• Asset Management/Fund Manager
• Financial Analyst/Credit Analyst
• Chief Financial Officer
• Real Estate
• Insurance
❑Do other disciplines need finance
knowledge?
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Importance of Finance in Non-Finance areas

Management

Economics Marketing
Finance

Information
Accounting
System

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Difference between finance and accounting
Finance
• Fin deals with how money will be raised and spent.
• Future oriented (i.e. where will we invest in next year).
• Analysis based.
• Fin careers: Banker, Fund manager, Financial analyst etc.
• Cash basis.
Accounting
• Act deals with record keeping of business transactions
• Past oriented (i.e. Last year Income statement will record what already happened in
that year).
• Rules and regulations based. i.e. International Financial Reporting Standards (IFRS)
• Act careers: Auditor, Accountant etc.
• Accrual basis. @Dr. Mahnoor Sattar (MNS)
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 What goal(s) should business pursue?
• Profit Maximization?
Ans: No, correct goal is Shareholder’s wealth maximization. This in
turns maximizes the value of the firm.
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• Why profit maximization is not the correct goal?
registrations
Ans: Profit maximization is a short-sighted goal. Profit and cash is not
the same thing. Profit does not consider timing and risk of cashflow.
Many profitable firms have faced cash crisis and failed to survive.

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Main functions (decisions) of Finance manager
• Capital Structure Decisions:
Where will the money come from? How much Debt and Equity
should be used to finance the firm?
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• Capital Budgeting Decisions:
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Where to invest the money or what assets to buy to generate future
cashflows?
• Dividend Policy Decisions:
How much of the net income should the firm give as dividend to
shareholders and how much should be re-invested into the firm?
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Agency Problem and Ways to Reduce It
A potential conflict of interest between Shareholders/owners
(Principals) and managers/employee (Agents). Managers are hired
by the shareholders to run the firm.

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3 ways to reduce agency problem:
registrations
• Managerial compensation (incentives):
Managers should be rewarded on the basis of long-term
performance rather than performance of a particular year. For
example, managers can be given “Stock Bonus” instead of cash
bonus. This way managers will become shareholders and
maximizing shareholder’s wealth will also maximize their own
wealth. @Dr. Mahnoor Sattar (MNS) 8
Agency Problem and Ways to Reduce It
• Shareholder intervention:
Institutional investors (such as Mutual Fund, Pension fund etc.) or
large shareholders have enough voting power to fire management if
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they perform poorly and cause agency problem.
•registrations
Threat of Hostile Takeover:
When managers perform poorly, the value of the firm goes down
relative to its potential. Competitors see this and might want to
purchase the firm against management’s will. This is called hostile
takeover. After taking over, these poor performing managers are
fired and they find it very difficult to get job elsewhere.
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Business Ethics and Corporate Governance
• Business Ethics:
Fair and honest treatment of all parties involved in the business
• Corporate Governance:
Governance includes the ‘‘set of rules’’ that identify who is accountable
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for major financial decisions. Good corporate governance can maximize
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shareholder’s wealth.
• Regulators in Bangladesh:
• Bangladesh Bank (BB): Regulator for Banks, NBFIs, Foreign
exchange market
• Securities and Exchange Commission (SEC): Regulator for
capital market
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Basic principles of financial management
• Principles of risk and return:
Higher the risk, higher the expected return. So, there should be a
trade-off between risk and return. Investors can lose money if
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funds are invested in highly risky project in the expectation of
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higher return.
• Principles of time value of money:
This principle states that a dollar in hand today is worth more than
a dollar in the future. This is because the dollar in hand today can
be invested to earn interest and become more than a dollar in the
future.
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 Basic principles of financial management
• Principles of cash flow:
A financial manager places more importance on cash flows rather than
accounting profit. The net cash generated from normal business activities
is called Operating cash flow. Before investing in any project, investors
seeShelf
whether cash inflows are higher than outflow. In other words, net cash
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flow needs to be positive.
• Principles of diversification:
This principle states that all the money should not be invested in one
project, rather investment should be diversified (invest in multiple
projects). This principle is highly important for reducing risk as loss from
one project can be offset by profit from another one.
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The End

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