Definition

Strategic financial management refers to specific planning of the usage and management of a company's
financial resources to attain its objectives as a business concern and return maximum value to
shareholders. Strategic financial management involves precisely defining a company's business
objectives, identifying and quantifying its resources, devising a plan for utilizing finances and other
resources to achieve its goals, and establishing procedures for collecting and analyzing data, making
financial decisions, and tracking and analyzing variance between budgeted and actual results to identify
problems and take appropriate corrective actions.
OR
Strategic financial management is basically about the identification of the possible strategies
capable of maximizing an organization's market value. It involves the allocation of scarce capital
resources among competing opportunities. It also encompasses the implementation and
monitoring of the chosen strategy so as to achieve agreed objectives.

Financial Manger Decision.

Financing Decision
Financial decision is yet another important function which a financial manger must perform. It is important
to make wise decisions about when, where and how should a business acquire funds. Funds can be
acquired through many ways and channels. Broadly speaking a correct ratio of an equity and debt has to
be maintained. This mix of equity capital and debt is known as a firms capital structure.

A firm tends to benefit most when the market value of a companys share maximizes this not only is a
sign of growth for the firm but also maximizes shareholders wealth. On the other hand the use of debt
affects the risk and return of a shareholder. It is more risky though it may increase the return on equity
funds.

A sound financial structure is said to be one which aims at maximizing shareholders return with minimum
risk. In such a scenario the market value of the firm will maximize and hence an optimum capital structure
would be achieved. Other than equity and debt there are several other tools which are used in deciding a
firm capital structure.

2. Investment decision - this involves the profitable utilization of firm's funds especially in
long-term projects (capital projects). Because the future benefits associated with such projects
are not known with certainty, investment decisions necessarily involve risk. The projects are
therefore evaluated in relation to their expected return and risk. For these are the factors that
ultimately determine the market value of the company. To maximize the market value of the
company, the financial manager will be interested in those projects with maximum returns and
minimum risk. An understanding of cost of capital, capital structure and portfolio theory is a
prerequisite here. OR

One of the most important finance functions is to intelligently allocate capital to long term assets. This
activity is also known as capital budgeting. It is important to allocate capital in those long term assets so
as to get maximum yield in future. Following are the two aspects of investment decision

a. Evaluation of new investment in terms of profitability

 b. Comparison of cut off rate against new investment and prevailing investment.

Investment decision not only involves allocating capital to long term assets but also involves decisions of
using funds which are obtained by selling those assets which become less profitable and less productive.
It wise decisions to decompose depreciated assets which are not adding value and utilize those funds in
securing other beneficial assets. An opportunity cost of capital needs to be calculating while dissolving
such assets. The correct cut off rate is calculated by using this opportunity cost of the required rate of
return (RRR)

3. Dividend decision - dividend decision determines the division of earnings between

payments to shareholders and reinvestment in the company. Retained earnings are one of the
most significant sources of funds for financing corporate growth, dividends constitute the cash
flows that accrue to shareholders. Although both growth and dividends are desirable, these
goals are in conflict with each other. A higher dividend rate means rate means less retained
earnings and consequently slower rate of growth in future earnings and share prices. The
finance manager must provide reasonable answer to this conflict. OR

Earning profit or a positive return is a common aim of all the businesses. But the key function a financial
manger performs in case of profitability is to decide whether to distribute all the profits to the shareholder
or retain all the profits or distribute part of the profits to the shareholder and retain the other half in the
business.

Its the financial managers responsibility to decide a optimum dividend policy which maximizes the
market value of the firm. Hence an optimum dividend payout ratio is calculated. It is a common practice to
pay regular dividends in case of profitability Another way is to issue bonus shares to existing
shareholders.

Liquidity Decision
It is very important to maintain a liquidity position of a firm to avoid insolvency. Firms profitability, liquidity
and risk all are associated with the investment in current assets. In order to maintain a tradeoff between
profitability and liquidity it is important to invest sufficient funds in current assets. But since current assets
do not earn anything for business therefore a proper calculation must be done before investing in current
assets.

Current assets should properly be valued and disposed of from time to time once they become non
profitable. Currents assets must be used in times of liquidity problems and times of insolvency.

Functions of Financial Management

1. Estimation of capital requirements: A finance manager has to make estimation with regards to
capital requirements of the company. This will depend upon expected costs and profits and future
programmes and policies of a concern. Estimations have to be made in an adequate manner
which increases earning capacity of enterprise.
2. Determination of capital composition: Once the estimation have been made, the capital
structure have to be decided. This involves short- term and long- term debt equity analysis. This
will depend upon the proportion of equity capital a company is possessing and additional funds
which have to be raised from outside parties.
3. Choice of sources of funds: For additional funds to be procured, a company has many choices
like-
a. Issue of shares and debentures
b. Loans to be taken from banks and financial institutions
c. Public deposits to be drawn like in form of bonds.
 Choice of factor will depend on relative merits and demerits of each source and period of
financing.

4. Investment of funds: The finance manager has to decide to allocate funds into profitable
ventures so that there is safety on investment and regular returns is possible.
5. Disposal of surplus: The net profits decision have to be made by the finance manager. This can
be done in two ways:
a. Dividend declaration - It includes identifying the rate of dividends and other benefits like
bonus.
b. Retained profits - The volume has to be decided which will depend upon expansional,
innovational, diversification plans of the company.
6. Management of cash: Finance manager has to make decisions with regards to cash
management. Cash is required for many purposes like payment of wages and salaries, payment
of electricity and water bills, payment to creditors, meeting current liabilities, maintainance of
enough stock, purchase of raw materials, etc.
7. Financial controls: The finance manager has not only to plan, procure and utilize the funds but
he also has to exercise control over finances. This can be done through many techniques like
ratio analysis, financial forecasting, cost and profit control, etc.

Importance of Financial Planning

Financial Planning is process of framing objectives, policies, procedures, programmes and budgets
regarding the financial activities of a concern. This ensures effective and adequate financial and
investment policies. The importance can be outlined as-

1. Adequate funds have to be ensured.

2. Financial Planning helps in ensuring a reasonable balance between outflow and inflow of funds
so that stability is maintained.
3. Financial Planning ensures that the suppliers of funds are easily investing in companies which
exercise financial planning.
4. Financial Planning helps in making growth and expansion programmes which helps in long-run
survival of the company.
5. Financial Planning reduces uncertainties with regards to changing market trends which can be
faced easily through enough funds.
6. Financial Planning helps in reducing the uncertainties which can be a hindrance to growth of the
company. This helps in ensuring stability an d profitability in concern.

Start-Up Costs
A new business venture, even those started by existing companies, has start-up costs.
An existing manufacturer looking to release a new line of product has costs that may
include new fabricating equipment, new packaging and a marketing plan. Do not make
the mistake of assuming you can use existing resources to bring your plan to life.
Include your start-up costs in your financial strategy.

Competitive Analysis
Your competition affects how you make money and how you spend money. It affects
how you make money because of the market share the competition has that you do not.
It affects how you spend money in your pursuit of getting more of that market share for
yourself. The products and marketing activities of your competition should be included
in your financial strategy. An analysis of how the competition will affect revenue needs
to be included in your planning.

Ongoing Costs
Once your plan is in place, it is important to understand what your ongoing costs will be.
These include labor, materials, equipment maintenance, shipping and facilities costs,
such as lease and utilities. Break down your ongoing cost projections into monthly
numbers to include as part of your financial strategy. It will make it easier to compare
your ongoing costs to your incoming revenue to determine profit.

Revenue
The purpose of a financial strategy is to create revenue. But in order to create an
effective financial strategy, you need to forecast revenue over the length of the project.
A comprehensive revenue forecast is necessary when determining how much will be
available to pay your ongoing costs, and how much will remain as profit.

The efficient market hypothesis (EMH) states that financial markets are
efficient and that prices already reflect all known information concerning a stock
or other security and that prices rapidly adjust to any new information.
Information includes not only what is currently known about a stock, but also
any future expectations, such as earnings or dividend payments. It seeks to
explain the random walk hypothesis by positing that only new information will
move stock prices significantly, and since new information is presently unknown
and occurs at random, future movements in stock prices are also unknown and,
thus, move randomly. Hence, it is not possible to outperform the market by
picking undervalued stocks, since the efficient market hypothesis posits that
there are no undervalued or even overvalued stocks (otherwise, one could earn
abnormal profits by selling short).

What is the 'Time Value of Money - TVM'

The time value of money (TVM) is the idea that money available at the present time is
worth more than the same amount in the future due to its potential earning capacity.
This core principle of finance holds that, provided money can earn interest, any amount
of money is worth more the sooner it is received. TVM is also referred to as present
discounted value.
The time value of money is one of the basic theories of financial management. The theory of states
that the value of money you have now is greater than a reliable promise to receive the same amount
of money at a future date. This may sound simple, but it underpins the concept of interest, and can
be used to compare investments, such as loans, bonds, mortgages, leases and savings.

Discounted cash flow DCF is an application of the time value of money conceptthe idea that money to be
received or paid at some time in the future has less value, today, than an equal amount actually received or
paid today.

In modern finance, time value of money concepts play a central role in decision support and planning. When
investment projections or business case results extend more than a year into the future, professionals trained
in finance usually want to see cash flows presented in two forms, with discounting and without discounting.
Financial specialists, that is, want to see the time value of money impact on long-term projections.

Discounted cash flow (DCF) is one application of this concept, while interest paid for a loan is another. With
DCF, the discounting lowers the present value PV of future funds below the future value FV of the funds for at
least three reasons:
1. Opportunity. Money you have now could (in principle) be invested now, and gain return or interest
between now and the future time. Money you will not have until a future time cannot be used now.
2. Risk. Money you have now is not at risk. Money expected in the future is less certain. A well known
proverb states this principle more colorfully: "A bird in hand is worth two in the bush."
3. Inflation: A sum you have today will very likely buy more than an equal sum you will not have until
years in future. Inflation over time reduces the buying power of money.

What is 'Cost Of Equity'

The cost of equity is the return a company requires to decide if an investment meets
capital return requirements; it is often used as a capital budgeting threshold for required
rate of return. A firm's cost of equity represents the compensation the market demands
in exchange for owning the asset and bearing the risk of ownership. The traditional
formulas for cost of equity (COE) are the dividend capitalization model and the capital
asset pricing model.

Cost of Equity
There are two ways in which a company can raise capital: debt or equity. Debt is cheap,
but it must be paid back. Equity does not need to be paid back, but it generally costs
more than debt due to the tax advantages of interest payments. Even though the cost of
equity is higher than debt, equity generally provides a higher rate of return than debt.
Analysts calculate the cost of equity with the dividend growth model and the capital
asset pricing model (CAPM).
Cost of Equity Models and Theory
The dividend growth model is used to calculate the cost of equity, but it requires that a
company pays dividends. The calculation is based on future dividends. The theory
behind the equation is the company's obligation to pay dividends is the cost of paying
shareholders and therefore the cost of equity. This is a limited model in its interpretation
of costs. The capital asset pricing model, however, can be used on any stock even if the
company does not pay dividends. That said, the theory behind CAPM is more
complicated. The theory suggests the cost of equity is based on the stock's volatility and
level of risk compared to the general market.

What is the 'Gordon Growth Model'

The Gordon growth model is used to determine the intrinsic value of a stock based on a
future series of dividends that grow at a constant rate. Given a dividend per share that is
payable in one year, and the assumption the dividend grows at a constant rate
in perpetuity, the model solves for the present value of the infinite series of future
dividends.

The Gordon growth model assumes a company exists forever and pays
dividends per share that increase at a constant rate. To estimate the value of a
stock, the model takes the infinite series of dividends per share and discounts
them back into the present using the required rate of return. The result is a
simple formula, which is based on mathematical properties of an infinite series of
numbers growing at a constant rate.

Limitations of the Gordon Growth Model

The main limitation of the Gordon growth model lies in its assumption of a constant
growth in dividends per share. It is very rare for companies to show constant growth in
their dividends due to business cycles and unexpected financial difficulties or
successes. Therefore, the model is limited to firms showing stable growth rates. The
second issue has to do with the relationship between the discount factor and the growth
rate used in the model. If the required rate of return is less than the growth rate of
dividends per share, the result is a negative value, rendering the model worthless. Also,
if the required rate of return is the same as the growth rate, the value per share
approaches infinity.