FINANCIAL MANAGEMENT-

AN OVERVIEW
2 CONTENTS
 Introduction
 Nature and Scope of Financial Management
 Role of finance function
 Finance decisions for the firm
• Investment decisions
• Financing decisions
• Dividend decisions
• Working capital decisions
 Integrated view of finance decision-making
 Financial decision making framework
CHAPTER 1
3 CONTENTS

 Key issues in financial decision making

 Objective function in finance
 Financial Management and Accounting
 Financial objectives and organisational
strategy

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

4

I NTRODUCTION
 Basic issues in finance are essentially the
same for diverse businesses.
 The key issues in finance are:
• Where to raise financial resources from?
• Wherein to invest the resources?
• How best to manage the production-
distribution function?
• How much of profit to distribute and how
much to retain?
FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1
 N ATURE A ND S COPE O F F INANCIAL
5
M ANAGEMENT

 Concerned with the management of

financial resources.
 Performs facilitation, reconciliation,
and control functions.
 Covers all decisions having monetary
implications.
 The finance manager is on the top of
the hierarchy

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

6 R OLE O F F INANCE F UNCTION

 Finance is central to all business

activities.
 Finance function reconciles the
conflicting interests of:
• varied stakeholders and
• different functional units.

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7
FINANCE DECISIONS FOR
THE FIRM

 Financial decision-making involves

procurement of funds and their
optimal utilization through:
• Investment
• Financing
• Dividend and
• Working capital decisions.

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

8 I NVESTMENT D ECISIONS

 Aim at selecting the most productive avenues

that maximize the ROI.
 Examples include:
• Expansion
• Modernization and replacement
• R&D expenditure.

 Also referred to as capital budgeting decisions.

 Are critical for long-term survival and growth.

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

9 I NVESTMENT D ECISIONS

 Are taken in the light of their probable

impact on the wealth of shareholders.
 Involve huge capital outlay.
 Have long-term implications.
 Are usually irreversible.

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

10 F INANCING D ECISIONS

 Vaguely referred to as capital structure

decisions.
 Mainly concerned with:
• Identifying the suitable sources of funds
• Tapping of these sources.
 Determine the financial risk.
 Thrust is to bring down the cost of
financing.
FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1
11 F INANCING D ECISIONS

 The main issues involved are:

• Where from to procure the requisite funds?
• What should be the optimal mix of various
sources of capital?
• How much should be the proportion of
short-term and long-term funds?
• How do the expectations of providers of
each source of capital change with
alteration in the capital mix?

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

12 F INANCING D ECISIONS

 Are taken in the light of their likely

impact on the wealth of the
stockholders.
 A right blend of debt–equity affects the
risk return profile of the business.

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

13 D IVIDEND D ECISIONS

 Are mainly concerned with deciding the mix of

profits to be distributed as dividends and those to
be ploughed back for future financing needs of
business.

 Depend on trade off between future financing

needs of the firm and current consumption
requirements of the shareholders.

 Generally, firms in sectors with a high-growth rate

follow a policy of high retention and low payout.

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

14 D IVIDEND D ECISIONS
 Determining the payout ratio and the method of
dividend payment are the two concerns of
dividend policy.
 The payout ratio is decided in the light of its
probable impact on shareholders’ wealth
 Normally, firms follow a policy of stable dividends
 Dividend policy is considered as a residue of
investment and financing policy.

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15
W ORKING C APITAL
D ECISIONS

 Are concerned with the management of

current assets.
 The two key decision points in working
capital management are:
• Level of investment in current assets
• Financing of current assets.

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I NTEGRATED V IEW O F F INANCE
D ECISION - MAKING

 The four key decision areas in finance are

the part of an integrated decision making
framework in finance.
 They are directly linked and reinforce
each other.
 All the decisions have a common
objective function-shareholders’ wealth
maximization.

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17
F INANCIAL D ECISION M AKING
F RAMEWORK

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K EY I SSUES I N
F INANCIAL D ECISION - MAKING
Investment • What business to be in?
Decision • What growth rate is appropriate?
• What assets to acquire?
Financing • What mix of debt and equity to be used?
Decision • Can we change value of the firm by changing the capital
mix?
• Is there an optimal debt–equity mix?
Dividend • How much of the profit should be distributed as dividends
Decision and how much should be ploughed back
• Can we change value of the firm by changing the amount
of dividend?
• What should be the mode of dividend payment

Working • What level of inventory is ideal?

Capital • What level of credit should be given to the customers?
Decision • What level of cash should be maintained?
• How can the blockage of funds in the current assets be
minimized without compromising with profits?

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O BJECTIVE F UNCTION I N
F INANCE

 The goal of wealth maximization is the

widely accepted goal of the business.
 It reconciles the varied, often conflicting,
interest of the stakeholders.
 It is free from the limitations that other
objectives are faced with.

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1

 FINANCIAL MANAGEMENT AND
20
ACCOUNTING

 Financial management is intricately

related to financial and management
accounting.
 The accounting information provides
inputs for financial decision making.
 Financial decisions in turn get
reflected in the accounting
statements.

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21
F INANCIAL M ANAGEMENT A ND
A CCOUNTING

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22
F INANCIAL O BJECTIVES A ND
O RGANIZATIONAL S TRATEGY

FINANCIAL MANAGEMENT – AN OVERVIEW CHAPTER 1