FINANCIAL

MANAGEMENT
UNIT - I
 INTRODUCTION

“Finance is the life blood of

business”

The business concerns are big or

small, they need finance to fulfill
their business activities.
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 Finance - Meaning
Finance may be defined as the
provision of money at the time
when it is required.
According to F.W. Panish, “Finance
may be defined as the position of
money at the time it is wanted”.
“SCIENCE OF MONEY”

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 Types of Finance

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 FINANCIAL MANAGEMENT
‘Financial’ means procuring sources of money supply and
allocation of these sources on the basis of forecasting
monetary requirements of the business.
The word ‘Management’ refers to planning, organising, co-
Ordinating and controlling of human activities and physical
resources for achieving the objective of an enterprise.

Thus, financial management is the part of business management

which is concerned with the planning and controlling of
firm’s financial resources (Effectively and Efficiently).
The Financial Management means
To collect finance for the company at a low cost and
To use this collected finance for earning maximum
profits.
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 Objectives or Goals of financial
management
Profit Maximization 
Profit earning is the main aim of every
economic activity. A business being an
economic institution must earn profit
to cover its cost and provide funds for
growth.
No business can survive without
earning profit.
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 Profit Maximization 
Favourable Arguments for Profit Maximization (Or) Advantages 
The following important points are in support of the profit maximization of the business
concern: 
 Main aim is earning profit.
 Profit is the parameter of the business operation.
 Profit reduces risk of the business concern.
 Profit is the main source of finance.
 Profitability meets the social needs also.
 Internal resources for expansion. 

Unfavourable Arguments for Profit Maximization (Or) Disadvantages 

 Profit maximization leads to exploiting workers and consumers.
 Profit maximization creates immoral practices such as corrupt practice, unfair trade
practice, etc.
 Profit maximization objectives leads to inequalities among the stake holders such as
customers, suppliers, public shareholders, etc.
 It ignores the quality aspects of the benefits and time value of money.
 Social welfare may be ignored.

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 Wealth Maximization

Wealth maximization is one of the modern

approaches, which involves latest innovations and
improvements in the field of the business concern. The
term wealth means shareholder wealth or the wealth
of the persons those who are involved in the
business concern.
Wealth maximization is also known as value
maximization or net present worth maximization.
This objective is a universally accepted concept in the field
of business.
Note:
WM = Present Value of Cash inflow - Present Value of
Cash outflow
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 Financing Decisions of the Firm

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 Functions of Financial Management. (Or)
Functions of Finance Manager
 Estimation of the financial requirements
 Choosing the right Sources of Funds
 Allocation of funds
 Analysis and interpretation of financial
performance
 Analysis of Cost-Volume-Profit (BEP)
 Capital Budgeting
 Working capital management
 Profit planning and control
 Fair returns to Investors
 Maintaining liquidity and Wealth Maximization

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TIME VALUE OF
MONEY
 INTRODUCTION

The money received today is

different in its worth from the
money receivable at some other
time in future. In other words, the
money receivable in future is less
valuable than the money received
today.
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 TIME VALUE OF MONEY

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 What is Future value and Present
value?

The money received today is at the beginning of

the period is called present value or money
received in time period (0) zero.
The amount received in credit sales is after a
gap and may be called future value or time
period (1) one.

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 Techniques or Methods for dealing
with time value of money
(I) COMPOUNDING TECHNIQUES
 Future Value / Compound Value: By compounding the
present money to a future date i.e. by finding out the Future
value of the present money.
 Future value (FV) of a Single cash flow or
compound value
 Future value (FV) of a Multi cash flow or compound
value
 Future value (FV) of a Series of Equal Cash flows
(Or) Compound value of an annuity

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 (II) Discounting Techniques
Present Value / Discount Value: By
compounding the future money to a present date
i.e. by finding out the present value of the future
money.
Present value (PV) of a Single cash flow or
discount value
Present value (PV) of a Multi cash flow or
discount value
Present value (PV) of a Series of Equal Cash
flows (Or) discount value of an annuity

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 COMPOUNDING TECHNIQUES DISCOUNTING TECHNIQUES
(Future) = FC* (Present) = PD*

Finding out the Finding out the

Future value of the present value of the
present money. future money
Future value (FV) of a Single cash Present value (PV) of a Single cash
flow or compound value flow or discount value

Future value (FV) of a Multi cash Present value (PV) of a Multi cash
flow or compound value flow or discount value

Future value (FV) of a Series of Present value (PV) of a Series of

Equal Cash flows (Or) Compound Equal Cash flows (Or) discount
value of an annuity value of an annuity

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 Future Value / Compound Value
Future value (FV) of a Single cash flow or compound value
The compound value is the future value (FV) of money. This is
calculated for a single cash flow or for a series of cash flows.
The future value (FV) consists of the present value (PV), the
rate of interest and the number of years for which it is invested.
The formula for future value is
FV = PV (1 + r) n (OR) FV = PV (FVIF r,n)
Where,
FV = Future value FVIF = Future Value Interest Factor
PV = Present value of cash flow today (given) (OR) initial cash
flow
r = Rate of interest per annum
n = No. of years for which compounding is done.
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 Future value (FV) of a Multi period
compound value
Future value (FV) of a Multiple cash flow or compound value
The compound value is the future value (FV) of money. This is
calculated for a multiple cash flow or for a series of cash flows.
The future value (FV) consists of the present value (PV), the
rate of interest and the number of years for which it is invested.
The formula for future value is
FV = PV (1 + r) n (OR) FV = PV (FVIF r,n)
Where,
FV = Future value FVIF = Future Value Interest Factor
PV = Present value of cash flow today (given) (OR) initial cash
flow
r = Rate of interest per annum
n = No. of years for which compounding is done.
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 Future value (FV) of a Series of Equal Cash flows (Or)
Compound value of an annuity
“An annuity is a stream of equal annual cash
flows”
 If the equal amount of cash flow occur at the end of
each period at specific time horizon called ordinary
annuity (Regular annuity, Deferred annuity)
 If the equal amount of cash flow occur at the
beginning of each period called annuity due

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 Compound value of an annuity -
Formula

FVAn = Accumulation at the end of n years

A = Amount deposited / invested at the end of every year for n years
R = rate of interest
N = time horizon
FVAn = A (FVIFA)
FVIFA = Future Value Interest Factor for Annuity

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 (II) Discounting Techniques
Present Value / Discount Value: By
compounding the future money to a present date
i.e. by finding out the present value of the future
money.
Present value (PV) of a Single cash flow or
discount value
Present value (PV) of a Multi cash flow or
discount value
Present value (PV) of a Series of Equal Cash
flows (Or) discount value of an annuity

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 Present value of Single Cash flow
 
Formula
FV
PV = ----------
(1+ r) n

(OR)

PV = FV (PVIFr,n)

PV – Present value of cash flow

FV = Future value of cash flow
n = Number of years
r = Rate of interest
PVIF = Present value interest factor (Discounting Factor)

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 Present value of Multi Cash flow
 
Formula
FV
PV = ----------
(1+ r) n

(OR)

PV = FV (PVIFr,n)

PV – Present value of cash flow

FV = Future value of cash flow
n = Number of years
r = Rate of interest
PVIF = Present value interest factor (Discounting Factor)

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 Present value (PV) of a Series of Equal Cash
flows (Or) discount value of an annuity
 
Formula
(1+ r) n - 1 PVA = A
-----------------
n (1+ r) n

(OR)

PVA = A(PVIFAr,n)

PVA = Present value of annuity

A = Constant peridioc flow
n = Number of years
r = Rate of discount
PVIFA = Present value interest factor annuity (Discounting Factor)
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 Present value of a Perpetuity
Perpetuities calculate the value of
fixed income for each year
continuously the annual rate of
return on perpetuities is calculated
PV = Annual Cash flow / r

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 RISK & RETURN CONCEPTS OF
SINGLE ASSETS AND PORTFOLIO
 RETURN CONCEPTS OF SINGLE
ASSETS
Return is a reward for and a motivating force
behind in investment, the objective of which
is usually to maximize return.

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 Expected rate of return formula

Expected return
n
X = ∑ Xi P(Xi )
i=1
X = Expected return on stock
Xi = Possible returns
P(Xi) = Probability associated with Xi
n= number of possible outcomes
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 Expected rate of return formula – By
Standard deviation

Expected return - Standard deviation

X = Expected return on stock

Xi = Possible returns
P(Xi) = Probability associated with Xi
n= number of possible outcomes
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 RETURN CONCEPTS OF
PORTFOLIO
A portfolio means a combination of two /
more securities (assets).
n
Xp = ∑ WiXi
i=1

Xp = Expected return on portfolio

Wi = return on individual asset
Xi = Proportion of portfolio initial funds invested in assest
32n= *G.Kanagasabapathy
number of / APassets in portfolio
/ MBA / VCEW* 12/31/20
 RISK

Every investment is
characterized by return and risk.
It refers to the possibility of
incurring a loss in a
financial transaction.

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RISK - TYPES
Total risk = Systematic risk + Unsystematic
risk

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 SYSTEMATIC RISK

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 UNSYSTEMATIC RISK

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VALUATION OF BONDS,SHARES
AND OPTIONS
 VALUATION OF BONDS,SHARES
AND OPTIONS
VALUATION OF BONDS
•A bond is a contract that requires the borrower to
pay the interest income to the lender. It resembles
the promissory note issued by the government and
corporate in a long term nature.
•Debenture / Bond is a security acknowledging
long-term debt, issued by a corporate firm /
Government organisation to investors, with the
under taking of paying interest, period after
period, till the security matures.
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 Features of a Bond
•Face value: face value is called par value. A
bond (debenture) is generally issued at par value
of Rs. 100 or Rs.1000, and interest is paid on
face value.
•Interest Rate: interest rate is fixed and known to
bondholders (debenture holders). The interest
paid on bond / debentures is tax deductible. The
interest is also called coupon rate. Coupons are
detachable certificates of interest.
•Maturity: A bond (debenture) is generally issued
for a specified period of time. It is repaid on
maturity.
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 Bond Valuation - Formula

Where,
P = Value of Debenture / Bond
n = Number of Years
C = Annual coupon payment
r = rate of Interest
t = time period

P= C (PVIFA r, n) + MV (PVIF r, n)
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 VALUATION OF SHARES (or) EQUITY VALUATION

 
Share valuation is the process of assigning a rupee
value to a specific share. An ideal share valuation
technique would assign an accurate value to all shares. It
is a complex topic and no single valuation model can
truly predict the intrinsic value of a share. Likewise
no valuation model can predict with certainty how the
price of a share will vary in the future.
In order to tap the savings of different types of people,
a company may issue different types of shares. They are as
follows,
Preference shares,
Equity shares

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 VALUING PREFERENCE SHARES.
Preference shares are like debentures, are usually subject to a
fixed rate of return / dividend. In case of no stated maturity,
their valuation is similar to that of perpetual bonds.
Symbolically,
∞
V = ∑ DP / (1+ kP) t (or) DP / kP
t=1
Where,
V = Value of Preference share,
DP = Dividend on Preference share
Kp = Discount rate or Rate of Return

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 VALUING EQUITY SHARES.
The value of equity shares is the
discounted value of all expected future
dividends (Dt) to be paid by the company
to its equity shareholders. The
discounted value represents the
investor’s required rate of return on such
investment. Symbolically,
∞
V = ∑ Dt / (1+ ke) t
t=1
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OptionValuation - Formula
An option is a type of a contract between two
parties where one person grants the other
person the right, but not the obligation, to buy
a specific asset at a specific price within a specific
time period.

Call option confers upon the owner the right to

purchase a security at a fixed price whereas,
Put option offers the right to sell a security at a
fixed price.
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END OF
UNIT - I