(1) What Is Finance?

 Finance is a term for matters regarding the management, creation, and study of money
and investments. It involves the use of credit and debt, securities, and investment to
finance current projects using future income flows.
 The term "finance" refers to financial activities that support the lives of individuals,
businesses, and governments. Some of those activities include banking, borrowing,
saving, and investing. Finance also refers to the study of money and financial tools that
are part of a country's financial system.

 Key Finance Terms:-

These are some key finance terms you should be familiar with

 Asset: An asset is something of value, such as cash, real estate, or property. A business may
have current assets or fixed assets.

 Liability: A liability is a financial obligation, such as debt. Liabilities can be current or

long-term.

 Balance sheet: A balance sheet is a document that shows a company's assets and its
liabilities. Subtract the liabilities from the assets to see the firm's net worth.

 Cash flow: Cash flow is the movement of money into and out of a business or household.

 Compound interest: Unlike simple interest, which is interest added to the principal one
time, compound interest is calculated and added periodically. This results in interest being
charged not only on the principal, but also on the interest already accrued.

 Equity: Equity means ownership. Stocks are called equities, because each share represents
a portion of ownership.
 Liquidity: Liquidity refers to how easily an asset can be converted to cash. For example,
real estate is not a very liquid investment, because it can take weeks or months to sell.

 Profit: Profit is the money left over after expenses. A profit and loss statement shows how
much a business has earned or lost for a particular period

 TYPES OF FINANCE:-

Individuals, businesses, and government entities all need funding to operate. Therefore,
the finance field includes three main subcategories:
 Personal finance
 Corporate finance
 Public finance

(1) Personal Finance:-

Personal Finance is managing the finance or funds of an individual and helping them achieve the
desired goals in terms of savings and investments. Personal Finance is specific to individuals and
the strategies depend on the individuals earning potential, requirements, goals, time frame, etc.
Personal finance includes investment in education, assets like real estate, cars, life insurance
policies, medical and other insurance, saving and expense management.

 Personal Finance includes:

 Protection against unforeseen and uncertain personal events

 Transfer of wealth across generations of the family
 Managing taxes and complying with tax policies (tax subsidies or penalties)
 Preparing for retirement
 Preparing for long term expenses or purchases involving a huge amount
 Paying for a loan or debt obligations
 Investment and wealth accumulation goals
(2) Corporate Finance:-

Corporate Finance is about funding the company expenses and building the capital structure of
the company. It deals with the source of funds and the channelization of those funds like the
allocation of funds for resources and increasing the value of the company by improving the
financial position. Corporate finance focuses on maintaining a balance between the risk and
opportunities and increasing the asset value.

 Corporate Finance Includes:

 Capital budgeting
 Employing standard business valuation techniques or real options valuation
 Identifying the source of funding in the form of equity, shareholders’ funds, creditors,
debts
 Determining the utility of unappropriated profits for future investment, operational
utilization, or distribution to the shareholders
 Acquisition and investment in stock or other assets
 Identifying relevant objectives, opportunities, and constraints
 Risk management and tax considerations
 Stock issuance while going public and listing on the Stock exchange

(3) Public Finance:-

This type of finance is related to states, municipalities, and provinces in short government
required finances. It includes long term investment decisions related to public entities. Public
finance takes factors like distribution of income, resource allocation, and economic stability in
consideration. Funds are obtained majorly from taxes, borrowing from banks or insurance
companies.

 Public Finance includes:

  Identifying the expenditure required by the public entity
 The sources of revenue for the public entity
 Determining the budgeting process and source of funds
 Issuing debts for public projects
 Tax management

 Is the Financial Services Industry Important?

 Yes. Companies that offer financial services have always been important because they help
facilitate for individuals and businesses transactions that involve money. The financial
services industry is also important for its role in the health of a country's economy.

(2) FINANCE FUNCTIONS:-

 The finance function refers to practices and activities directed to manage business
finances. The functions are oriented toward acquiring and managing financial resources
to generate profit. The financial resources and information optimized by these functions
contribute to the productivity of other business functions, planning, and decision-making
activities

 Finance is the lifeblood of any business; without proper financial resources, no business
can run smoothly; the finance processes can be related to planning, execution, control,
and maintenance of financial resources. Moreover, its scope is ever increasing; it widens
as the company grows because larger companies have the resources to support the
increase in functions.
 TYPES OF FINANCE FUNCTION:-

There are different classifications for finance functions, and it varies with organization types.
The finance department functions like bookkeeping, budgeting, forecasting, and management
of taxes, and the finance manager functions like financial report preparations contribute to
the overall financial wellbeing of an entity. Let’s look into some of the popular
classifications.

(1)Investment decision:-
The investment decision function revolves around capital budgeting decisions. Capital budgeting
in an organization involves the analysis of investment opportunities, specifically long-term
projects, and associated cash flows, to determine the profit potential. They revolve around
making a sound investment that must ripe sufficient and sometimes maximum returns for the
business in the long run. Hence these decisions are challenging and complex. Payback Period,
Net Present Value (NPV) Method, Internal Rate of Return (IRR), and Profitability Index (PI) are
the popular methods to carry out capital budgeting.

(2)Financing decision:-
Expertise in forming financing decisions leads to optimized capital structure, enhanced
performance, and growth. Financing functions deal with acquiring capital (like when and how)
for the various functioning of the entity, like whether to use equity capital or debt to finance
business events. The debt and equity mix of an entity are called its capital structure. The
financing decisions always focus on maintaining good capital structure ratios.

(3) Dividend Decision:-

Companies share profits with their shareholders in the form of dividends. There are different
types of shares, shareholder’s dividends, and dividend policies Furthermore, a company’s
dividend policy influences the company’s market value and stock prices. Hence dividend
decision, including the division of net income between dividends and retained earnings, is an
important function.

(4) Liquidity Decision:-

Liquidity decision generally revolves around working capital decisions and management.
Therefore, the priority is managing current assets to follow the going concern concept. The lack
of liquidity results in issues like financial crisis and insolvencies. At the same time, a lot of
liquidity can also lead to more danger. Hence, it is important to have the right mix of current
assets and current liabilities.
(3) Business Finance:-

 Business finance is the cornerstone of every organization. It refers to the corpus of funds and
credit employed in a business. Business finance is required for purchasing assets, goods, raw
materials and for performing all other economic activities. Precisely, it is required for
running all the business operations.
 To understand what business finance is, we must know that business finance includes
activities concerning the acquisition and conservation of capital funds for meeting an
organization’s financial needs and objectives. The importance of business finance is evident
from the fact that business finance is required to undertake every business operation
successfully.
 The amount of capital that is pooled by a business owner into their company is often not
enough to meet the financial needs of a company. Herein, the importance of business finance
and its management rises even more. Consequently, business owners along with their teams
look out for various other ways to generate funds.
 A business may require additional funds for anything ranging from buying plant or apparatus,
raw materials or further development. Different types of business finance are:
 Fixed Capital
 Working Capital
 Diversification
 Technology upgrading

 Importance of Business Finance:-

Here are some reasons why business finance is important for all organizations:

 Maximization of wealth

Business finance ensures that a shareholder’s wealth is maximized. It is also important to

understand that wealth maximization is different from profit maximization. Wealth maximization
is holistic and ensures the growth of an organization.

 Ensure constant availability of money

For any business to survive, it should be in optimum financial condition. This includes the
availability of funds at the time they are needed. Unless there are enough funds, the business may
not be able to function properly.

 Attaining optimum capital structure

This requires a perfect combination of shares and debentures. This way the organization will be
able to maintain a perfect balance and not give away too much equity.

 Effective utilization of funds

This is another reason for the high importance of business finance and its efficient utilization. A
business should be able to cut down unnecessary costs and not invest funds in assets that are not
required. An exhaustive course in financial management, diploma in banking and finance or any
other course related to finance can give your career in financial management a head start. Or, if
you are already in the field, it can give your career the necessary boost.
 SOURCE OF FINANCE:-

The source of finance is a provision of finance for a business to fulfil its operational
requirements. This includes short-term working capital, fixed assets, and other investments in the
long term. There are two sources of finance: internal and external. Internal sources of finance
come from inside the business, meanwhile, external sources of finance come from outside the
business.

(1) Internal sources of Finance:-

The internal sources of finance signify the money that comes from inside the organization.
There are various internal ways an organization can utilize, for instance, owner’s capital, retained
profit, and sale of assets. Internal finance can be considered as the cheapest type of finance, this
is because an organization will not have to pay any interest on the money.
(i) Capital brought by the owner:-

This is the investment that the entrepreneur brings into the business. This typically originates
from their personal savings. This source of finance is the least expensive as there is no interest. It
is generally the most significant source of finance for a startup business because the business will
not have the assets or trading record which will help to get a bank loan.

(ii) Retained profit:-

It is when a business makes a profit, so it can reinvest it into the business if it decides to expand.
Retained profit is also a good source of finance for the business as there is no interest charge,
therefore, it is a desired type of finance.

(iii) Discount selling:-Retail businesses have the choice to sell the unsold inventory
in order to generate the much-required finance.

(iv)Selling of fixed assets:

This money is raised from the sale of fixed assets in the business which may not be required
anymore. Several businesses have additional vehicles, equipment, or machinery that they can
simply sell.

 Advantages and disadvantages of internal sources of finance:-

 Some of the advantages of internal sources of finance include:

 Internal sources of finance let the business sustain complete control When the
business is utilizing its internal sources of finance, then it does not have any repayment
 obligations as it’s the case in external debt. There is no pressure to match the payment roster
to the earnings roster.
 It enhances the planning process Businesses are more cautious with the use of internal
finance when planning a project than in comparison to external finance. There is no
misapprehension that the business has the cash to spare while using internal sources of
finance. It is just spending the money that the business has generated or kept on a side for a
project. This means that there is less spending on inessential things and therefore, presents
positive spending habits over a period of time.
 It lowers the overall cost of projects when the business is using external sources of
finance, then it will have to pay interest on it which makes it expensive to borrow. However,
if it’s using internal sources of finance to purchase something, then it will pay just the
expense of purchase without having to pay any interest charges on it.
 It will improve the reputation and value of the business a great deal of external debt
borrowed by the business is not liked by the investors. Higher debt ratios show higher risk
levels, hence reducing the value of the business as a whole.

 Some of the disadvantages of internal sources of finance include:

 There will be an adverse effect on the operating budget . Since the business is
utilizing internal sources to finance its needs, that money should come from somewhere. For
the majority of businesses, it means using cash from the capital or operating budget. Hence,
there is not sufficient money available for managing daily expenses. That is why businesses
use internal sources only to finance the short-run project.
 It needs accurate estimations to be effective. If the business is using internal sources of
finance for a project, then the project’s cost estimations should be considered accurate for it
to be effective. Precise estimates are needed in order to calculate the forecasted return, which
is essential for future needs to plan a budget.

 It may take longer to finish projects. With external financing, the business will
immediately get all the funding needed for the project and allow it to start the work right
away. But with internal financing, access to money can at times be slow. The business might
need to create funding levels prior to starting a project.
(2) External sources of finance:-

External sources of finance can come from individuals or other sources which do not have direct
trade with the organization.

 Long-term external sources of finance

(i) Equity shares:-They are a common source of financing for established businesses.
All businesses cannot utilize this form of financing as it is administered by several
regulations. The main element is the division of ownership rights in equity shares;
hence, the present shareholder rights are reduced to a certain extent.
 (ii) Debentures:-Debentures are a usual source of finance utilized by businesses who
choose debt on equity. Debt is regarded as the cheapest form of finance in
comparison to equity. There is no sharing of control with investors. This is due to the
reason that the interest given to debenture holders is tax-deductible.

(iii) Term loan:-The components of a term loan are identical to debentures apart from
that it does not have a lot of cost of issuing as it is provided by a bank or other
financial institutions. A thorough evaluation of the organization’s financials and
forthcoming plans is done by the bank to assess the debt servicing capability of the
business. Such loans are assured by some assets.

 Short-term external sources of finance

(i) Bank overdraft:-It is a simple form of short-term finance. At times a business may require
money for daily expenses which may be because of a time gap amid the collection and payments.
So, in order to fill this gap, a bank draft is a perfect short-term source of financing.

(ii)Trade credit:-It is the credit that is provided to a company by its creditor or suppliers. This
permits a company to postpone its payments for a certain period of time. This time of credit is
subject to the credit terms among the company and the suppliers.

 Example of external source of finance:-

(1) Family and friends:-
 A business can borrow money from family and friends and it is fast and cheap to arrange
in comparison to a bank loan. There can be negotiations about flexible interest charges
and repayment.
(2) Share issues:-
Businesses can generate cash with the sale of shares to external investors. This is a long-
run and comparatively tension-free way to raise funds because there are no repayments
and interest to be paid on capital being raised. Nonetheless, this will give away some of
the ownership stakes in the business. Profits will be divided as dividends are paid to
shareholders and there will be no complete control of the business.
(3) Business angels:-
Business angels are professionals and investors who offer finance to companies with
increasing growth potential. They also provide not just the cash but also their skills,
experience, and networking that will be vital for a startup. The drawback is that shares in
the business are given away and no complete control over how the business will run.

 Advantages and disadvantages of an external source of finance

 Some of the advantages of external sources of finance include:

 Conserving the internal resources - External financing permits the business to

utilize the internal financial resources for some other usage. If a business has an
investment that has a high-interest rate in comparison to the bank loan, then it's logical
that the business preserves its internal resources and places its money in that investment,
and uses external sources of finance for business operations
 Growth - One of the reasons that businesses go for external financing is that it permits
them to finance growth projects that the business cannot finance on its own.
  Guidance and expertise - Institutions that finance a business are usually valuable
sources of expert assistance. Also, an investor may be willing to offer his expertise or
direct towards suitable sources of advice.

 Some of the disadvantages of external sources of finance

 Loss of ownership - Certain external sources of finance may require the

business to share ownership in the company for their funding. The business
may get a large amount of money it requires to launch or promote a new
product but will also have to give the investor this right to vote on the
company's decisions.
 Interest charges - External sources of finance need a return on their investments For
example, a bank will have an interest charge on the loan and an investor will require a
return on his investment. Typically, interest will add up to the cost of investment making
it a greater burden than in the initial planning.