Unit 1: Overview of Financial Management

🌺 Finance
-> application of economic principles to decision making
-> Involves the allocation of money under uncertainty

Decisions:
1. Where to get the funds
2. How to get the funds
3. What should we do with the funds
4. How to allocate the funds
5. Where to spend the funds

-> the study on how to raise money and invest it productively

🌺 Branches of Finance
1. Personal Finance
2. Financial Economics
- Financial securities
- Financial market (bonds, certificate of indebtedness,
stocks, currency)
- Financial institutions (banks, pawnshops)
3. Financial Management
Functions of management:
Planning, organizing, directing, controlling
4. Investment

Money market -> short term, less than one year

Capital market -> long term financing security, more that one year
🌺 Areas of Finance
1. Capital Markets and Capital Market Theory
-> focuses on the study of financial system

Three components:
● Financial market
* pricing efficiency is whether the investors can “beat the
market” means outperforming the market by generating
an ROI beyond what is expected.
● Financial intermediaries (banks, brokers)
● Financial regulators

★ Principle of Valuation - the present value of the expected

cash flows
Know the value today and compare it to your investment

2. Financial Management
-> primarily concerned with financial decision making within a
business establishment

2 major financial decisions:

Investment decisions
financing decisions

Other decisions according to Stephen Ross:

capital budgeting
capital structuring
working capital management

-> also called Business Finance, Corporate Finance, and

Managerial Finance
 3. Investment Management
-> management of individual or institutional funds
-> also known as asset management, portfolio management,
money management, and wealth management

3 analyses in making investment:

Security analysis
Market analysis
Portfolio analysis

🌺 Roles and Objectives of Financial Management

Objectives
● Allocating the financial resources of the company
● Procurement of funds needed
● Efficient and effective utilization of these funds

Roles of financial managers

1. Managing investment in non-current assets through evaluation of

capital projects.

2. Evaluating, obtaining and servicing long-term financial

requirements through borrowing, leasing, retaining funds or
issuing stocks and securities.

3. Distribution of dividends to shareholders.

4. Collection and custody of cash as payment of bills .

5. Managing investments in current assets such as cash, marketable

securities, accounts receivable and inventory.

6. Obtaining and servicing short-term finance.

 7. Managing risks associated with changes in interest rates and
exchange rates.

8. Assessing the viability of growth through acquisition of other

businesses.

9. Planning the future development of the business

10. Development and implementation of financial policies.

Responsibilities of Financial Manager

1. Financial analysis and planning – determining the proper

amount of funds to employ in the firm

2. Investment decisions – the efficient utilization of funds to specific

assets

3. Financing and capital structure decisions – raising funds on a

favorable terms

4. Management of financial resources such as working capital

5. Risk management – protecting assets

Decisions made by financial managers (Stephen Ross)

1. Capital budgetting
- Concerned with planning and managing the frim;s
long-term investments.
- Evaluates the size, timing, and risk of future cash flows
 2. Capital structuring
- Evaluates ways which the firm obtains and manages
long-term financing to support long-term investments
- The mixture of long-term debt and equity

3. Working capital management

- The administration of the firm’s short-term assets and
short-term obligations

Working capital are also called short-term assets or

current assets

Net working capital = current aseet - current liabilities

🌺 Agency Relationships
-> exists when one or more individuals, called principals, employ
other individuals or organization, called agents, to perform some services
and delegate decision-making authority to that agent

Primary agency relationships

1. Stockholders/Shareholders and manager

Mechanisms used to motivate managers

● Managerial compensation
● Direct intervention by stockholders
● The threat of firing
● Threat of takeover

2. Managers and creditors or debt holders

Market Interest Rates

Interest rate – compensation paid by the borrower (debtor)

Basic types of loans

1. Pure discounts loan

-> the debtor (borrower) receives money today and repays a single
lump sum (principal amount and interest) at some other time in
the future.

Eg. 2-year P100-loan at 10% interest will be paid after two

years at P120 (P100 principal and P20 interest)

2. Interest-only loan
-> the debtor is allowed to pay interest only in each period and to
repay the principal at some point in time.

Eg. A 3-year loan of P100 at 10% can be paid every year

an interest of P10 for three years and the P100 principal at
year 3.

3. Amortized loan
-> requires the debtor (borrower) to repay parts of the loan
amount over time. The debtor pays the interest for each period
plus fixed amount as loan payments on the principal balance.