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Ans: Corporation finance or broadly speaking business finance or F.M. can be defined as
the process of rising, providing and administrating of all money, fund to be used in a
corporate (Business) enterprise. / According to Wheeler F.M = “that business activity
which is concerned with the acquisition and conservation of capital funds in meeting
the financial needs and overall objectives of business enterprise.”
Q 3. Aims of F.M.
Ans: The primary aim of finance function is o arrange as much funds for the business as
are required from time to time. This function has the following aims: / 1. Acquiring
sufficient funds: The main aim of finance function is to assess the financial needs of an
enterprise and then finding out suitable coerces for raising them. The sources should
be commensurate with the needs of the business. /2. Proper utilization of funds: The
raising of funds is important but their effective utilisation is more important. The funds
should be used in such as way that maximise benefit is derived from them. / 3.
Increasing profitability: The planning and control of finance function aims at increasing
profitability of the concern. It is true that money generates money. To increase
profitability sufficient funds will have to invest. Finance function should be so planed
that the concern neither suffer from inadequacy of funds nor wastage more funds that
required.
Nature of F.M.
Corporation finance or broadly speaking business finance or F.M. can be defined as the
process of rising, providing and administrating of all money, fund to be used in a
corporate (Business) enterprise. / The term nature applied in F.M. refers to its
relationship with the closely related field of economic and accounting i.e. its function,
scope & objectives: - / Functions: - F.M. help in financial planning and successful
promotion of an enterprise b) Acquisition of fund as and when required at minimum
possible cost. C) Proper use and allocation of funds Is another objective of F.M. d) F.M.
takes sound financial decisions e) Improving the profitability through financial control.
F) It Increase the wealth of investor and nation. / Scope: - a) Estimating financial
requirement: - The first task of F. manager is to estimate short term & long term
requirement of its business. For this propose he will prepare a F. plan for present as
well as for future. B) Deciding capital structure: - The C.S. refers to the kind and
proportion of different securities for raising funds. C) Selecting a source of Finance: -
After preparing a C.S. an appropriate S.O.F. is selected various sources from which
finance may be raise include were such as share capital, debenture, F. institutions,
commercial banks, and public debts. Etc. d) Selecting a pattern of investor: - When
funds have been produced then a decision about investment pattern is to be taken. E)
Proper cash management: - C.M. is also an imp. Task of F. Manager. He has to asses
various cash need at different time and then make arrangement for arranging cash. F)
Proper use of surplus: - The utilization of profit and surplus is an imp. Factor in F.M. /
Objectives: - The objective of F.M. is classified under 2 heads Profit maximization and
wealth maximization. P.M.: - P.M. evaluates how are used and procured. In cases it
involves a sound judgment, combined with a logical approach to decision making. The
core of financial policy is to maximize earning in the long run and optimize in the short
term. This call for an evolution of condition alternative use of funds and allocation of
resources with consideration of production and marketing interrelationship. Profit is a
barometer through which the performance of a business unit can be measured. / W.M.:
- The goal of F.M. may be such that they should be beneficial to the owner,
management, employ and customer. This goal may be achieved only by maximize the
value of the firm. W.M. is a clear term. Here the present values of the cash flow are
taken into consideration it also consider the concept of time value money and It take
care of interest of institutions, owner, employee and society at large.
Approaches to F.M
1) Traditional Approach: - the T.A. to the Financial function relates to the initial
stages of its evolution during 1920s and 1930s when the term corporate finance was
used to describe what is known in the academic world today as the F.M. According to
this approach the scope of finance function confined to only procurement of funds
needed by a business on most suitable term. / The T.A. to the scope & function has now
been from much serious limitation / 1) it is out side looking in approach that completely
ignores internal decision making as to proper utilization of funds. 2. The focus of T.A.
was on procurement of long term fund. Thus it ignores the important issue o working
capital finance & management. 3. The issue of allocation of funds, which is so
important today, is completely ignored. 4. it does not lay focus on day to day financial
problems of an organization. / Modern Approach: - The M.A. views, finance function in
brooder scene. It includes both rising of funds as well as their effective utilization under
the preview of finance. The F.F. does not stop only by finding out sources of raising
enough fund, their proper utilization is also to be considered. The cost of raising funds&
the return from their use should raised should be able to give more return than the cost
included in procuring them. The utilization of funds required decision making. Finance
has to be considered as an integral part of overall management.
Significant of COC
COC is an: 1) Acceptance criterion in capital budgeting. 2) Determining of capital fund
in capital structure decision. 3) Basis for evaluating the financial performance. 4) Basis
for taking other financial decision.
Problem in determining the COC
Conceptual Controversies regarding the relationship between the COC and
the capital structure: - Difference author has propounded different theories
regarding this topic. According to the net income approach and the traditional
approach both the COC as well the values of the firm have a direct relationship with the
method & level of financing. 2) Historical Cost & Future Cost: - Another problem in
determining the COC arises on a/c of the difference of opinion as regard the concept of
cost. Itself it is argued that historic cost are book costs which are related to the past
and are irrelevant in the decision making. 3) Problem in computing cost of Equity:
- The COCOE capital depends upon the expected rate of return by its investor. But the
qualification of the expectation of equity shares holders is a very difficult task because
these are many factors which influenced their value about firm. 4) Problem in
computation of Cost of retained Earning: - it is sometime agreed that RE do not
involved any cost. But in reality, it is the opportunity cost of dividend foregone by its
shareholders. For this reason it becomes very difficult to compute CORE. 5) Problem
In assigning weighted: - For determining the weighted average cost of capital,
weighted have to be assigned to the specific cost of individual source of finance. The
choice of using the book value of the source or the market value of the sources posses
another problem in the determination of COC.
WORKING CAPITAL
WC refers to that part of a firm’s capital which is required for financing short term or
current attest such as cash, Marketable securities, Debentures & investors. According
to Shobin “WC is the amt. o fund necessary to cover the cost of operating the
enterprise”
Factor determining the requirement of Working capital
1) The WCR of a firm basically depends upon the nature of its business. Public utility
undertaking like electricity, water supply, and railway needs very limited WC because
they offer cash sale only and supply services not product. On the other hand trading
and financial firm required larger amount of cash assts, which require large amt. of
WC / Size of business or scale of operation: -the WCR of a concern are directly
influenced by the size of its business which may be measured in terms of scale of
operation. Greater the size o business unit required greater amount of WC. / 3)
Production Policy: - In certain industries the demand & subject to wide fluctuation
due to reasonable variation. The requirement of WC depends upon the production
policy. The production could be kept either instead by accumulating inventories during
slack period with a view to meet the demand during the peak period seasons or the
production could be curtailed during the slack seasons & increases during the peak
period. 4) Manufacturing process; - In manufacturing business the requirement of
EC increases indirect proportion to length of MP longer the production period of
manufacturing larger is the amt. of WC required. 5) Seasonal variation: - In certain
industries raw material is not available through out the yr. They have to buy raw
material in bulk during the season to ensure an uninterested flow & process them
during entire yr. which required WC 6) WC Cycle: - in a manufacturing concern WC
starts with the purchasing raw material and end with the realization of cash from the
sale of finished product. This cycle involves purchasing of raw material & stores its
conversion into stock of finished product through work in progress incremental of
labour and services cost, conversion of finished stock into sales, debtor, reliable and
realization of cash. This cycle continuous again from cash to purchase of RM. All this
required large amount of WC.
7) Rate of stock turnover. 8) Credit policy 9) Business cycle 10) rate of growth
of business 11) Earning capacity & dividend policy 12) price level changes 13)
other factors.
Q: TRADE CREDIT:
Trade credit refers to the credit extended by the suppliers of good in the normal course
of the business at present day commerce is build upon credit the trade credit .
Arrangement of a firm with its suppliers is the important source of short term finance.
The credit worth ness of a firm and the confidence of its suppliers are the main basis of
securing trade credit. It is mostly granted or an open account basis where by suppliers
sends good to the buyers 4 the payment to be receive in future as per terms of sale
invoice. It may also takes the form of bill payable where by the buyer sign a bill of
exchange payment on a specified future date.
ITS ADVANTAGE: it is an easy and convent method of finance. 2) It is flexible as the
credit increase with the growth of the firm. 3) It is informal and spontaneous source of
finance.
Capital Gearing: -
The term CG refrs to the relationship between equity capital and long term debt. CG
means the ratio between the various types of securities in the capital structure of a
company.
Q. Operating Leverage
Ans: OL result from the presence of fixed cost that help in magnifying net-operating
income fluctuation flexing from small variation in revenue. The OL occur when a firm
has fixed cost which must be recovered irrespective of sales volume. The fixed cost
remain same, the % change in operating revenue will be more then the % change in
soled. The occurrence is known as OL. OL = Contribution (C) / Operating profit {C =
sales, OP = S-VC-FC, i.e. OP=C-FC}.
Q. Composite leverage
Ans: Both financial operating leverage magnify the revenue of the firm. Operating
leverage affect the income which is the result of production. On the other hand, the
financial leverage is the result of financial decision. The company leverage focuses
attention on the concern. The risk factor should be properly assumed by the
management before using CL.