Important Business Activities
Finance is defined as the provision of money
at the time when it is required.
• PUBLIC FINANCE
– GOVERNMENT INSTITUTIONS
– STATE & CENTRAL GOVT.
– LOCAL SELF-GOVT.
BUSINES S FINANCE
FINANCE OF NON-PROFIT ORGN.
Financial management is that managerial
activity which is concerned with the planning
and controlling of the firm’s financial resources
Scope of Finance Function/Financial
Estimating Financial Requirements
Deciding Capital Structure
Selecting a Source of Finance
Selecting a Pattern of Investment
Proper Cash Management
Implementing Financial Control
Proper use of Surpluses
Who is the Finance Manager
• A person responsible for the supervision and handling of the
financial affairs of an organization.
• A financial manager is responsible for providing financial advice
and support to colleagues and clients to enable them to make
sound business decisions.
• Financial managers must understand all aspects of the business
so that they are able to adequately advise and support the chief
executive officer in decision-making and ensuring company
growth and profitability.
The Role of The Financial Manager
(1) Cash raised from investors
(2) Cash invested in firm
(3) Cash generated by operations
(4a) Cash reinvested
(4b) Cash returned to investors
Financial management, in the modern sense of the term,
divided into four major decisions
The investment decision
The financing decision
The dividend policy decision
The funds requirement decision or Liquidity or short-term
Investment decision or capital budgeting involves the decision
allocation of capital or commitment of funds to long-term assets
that would yield benefits in the future .
Two important aspects of the investment decision are:
(a) The evaluation of the prospective profitability of new investments.
(b) The measurement of a cut-off rate against that the prospective return of new
investments could be compared.
Here the point is to decide where and how to acquire funds to
meet the firm’s investment needs .
The central issue is to determine the proportion of equity and
debt . The mix of debt and equity is known as the firms capital
The financial manager must strive to obtain the best financing
mix or the optimum capital structure .
The use of debt affects the return and risk of shareholders; it
may increase the return on equity funds but it always increases risk.
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• The finance manager must decide whether the firm should
distribute all profits , or retain them, or distribute a portion and
retain the balance .
• The financial manager should also consider the questions of
dividend stability, bonus shares and cash dividends in practice.
• Most profitable companies pay cash dividends regularly.
• Sometime additional shares, called bonus share are also issued to
the existing shareholders in addition to the cash dividend.
It is ascertained on the basis of three important considerations.
Forecasting cash flows
i.e., matching the inflows against cash
i.e., financial manager will have to ascertain
the sources from which funds may be raised and the time when
these funds are needed.
Managing the flow of internal funds.
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APPROACHES TO FINANCE FUNCTION/FINANCIAL
The approach to the scope and functions of
management is divided , in order to have a better exposition, into
two broad categories.
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The traditional approach, which was popular in the early stage, deals with the
Arrangement of funds from financial institutions
Arrangement of funds through financial instruments like share, bonds etc.
Looking after the legal and accounting relationship between a corporation and its sources
Main limitations of Traditional Approach
Ignored working capital financing
No Emphasis on allocation of funds
Time value of money is not considered
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According to modern approach the term financial management provides that
the finance function covers both acquisition of funds as well as their allocation.
The main contents of this approach are:
What is the total volume of funds an enterprise should commit?
What specific assets should an enterprise acquire.
How should the funds required be financed.
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OBJECTIVE OF FINANCIAL MANAGEMENT
The objectives of financial management can be broadly classified into two categories.
Maximization of Profit :
“Profit maximization” is a term which denotes the maximum profit to be earned by an
organization in a given time period.
The profit- maximization goal implies that the investment, financing and dividend policy decision
of the enterprise should be oriented to profit maximization.
Arguments in favour of Profit Maximization
It is barometer for measuring efficiency and economic prosperity.
Able to survive at the time of adverse business condition due to profit maximization.
Profit is the main source of finance for the growth.
Profitability is essential for fulfilling social goals.
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Drawbacks of Profit maximization
it is Vague
The Term ‘Maximum’ is also ambiguous
It Ignores Time Value
it Ignores the Risk Factor
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• This is also known as Value Maximisation or Net Present Worth Maximization.
• Value is represented by the market price of the company’s Equity Shares.
• Shareholders Wealth can be calculated by the following formula:
Shareholders Wealth=No. of equity shares outstanding X Market Price of
Hence , the higher the share price per share the greater will be the shareholders
Thus, a firm should aim at maximizing its current share price.
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LONG TERM FINANCE
SHARES RETAINED EARNING
Loans from financial
• SHARE REFERES TO THE SMALLEST SEGMENT OF CAPITAL OF A COMPANY.
•A SHARE HAS BEEN DEFINED BY THE INDIAN COMPANIES ACT, 1956 , “SHARE
MEANS SHARE IN THE SHARE CAPITAL OF THE COMPANY & INCLUDES STOCK
EXCEPT WHERE A DISTINCTION BETWEEN STOCK & SHARE IS EXPRESSED
• THE LIABILITY OF THE SHAREHOLDER IS LIMITED TO THE EXTENT OF THE
FACE VALUE OF THE SHARES.
• Equity shares, also known as ordinary shares
or common shares, represent the owners
capital in a company .
Characteristics of Equity Share
• Permanent capital
• Residual claim to asset & income
• Right to control or voting rights and Limited
PREFERENCE SHARES :
Preference share capital gives certain privilege to
its holders on the equity shareholders.
A preferential privilege in payment of a fixed
Preferential right as to repayment of capital in
case of liquidation
FEATURES OF PREFERENCE SHARES
•PREFERENCIAL RIGHT ON FIXED DIVIDENDS.
•DEMAND UNPAID ARREARS
• VOTING RIGHTS
•CONVERSION OF SHARES
•RIGHT TO SHARE SURPLUS PROFITS
INSTEAD OF DISRTIBUTING THE ENTIRE PROFITS TO THE SHAREHOLERS, COMPANY
RETAINS SOME PROFITS FOR THE PURPOSE OF:
1. ACCUMULATIONS OF EARNINGS
2. INVESTMENT IN FIXED ASSETS
3. TO MEET WORKING CAPITAL NEEDS
A company may raise long-term finance through public borrowings.
These loans are raised by the issue of debentures.
A debenture is an acknowledgement of a debt.
A debenture is a document under the company’s seal which provides
for the payment of a principal sum and interest thereon at regular
intervals, which is usually secured by a fixed charges on the company’s
property and which acknowledge a loan to the company .
A debenture holder is a creditor of the company.
Types of debenture
Simple or unsecured debentures
Secured or mortgaged debentures
Bearer debentures(Easily transferable)
Registered debentures(not easily transferable )
First debentures and Second Debentures
Zero coupon bonds
Deep discount bonds
Floating rate bonds
Inflation adjusted bonds
Term loans represent long-term debt with a maturity
of more than one year .
Features of term loans :
• Fixed maturity period
• Term loans are secured
• Restrictive contracts
Sources of Short term Financing
• Bank credit
• Customer advance
• Trade credit
• Commercial paper
• Installment credit
• Bill discounting
Questions to be asked before deciding the sources of finance
• How much is required?
• What is the finance is needed for?
• How soon is the finance required?
• How long finance is needed?
• What is the cost of finance?
• What are the risks involved?
• What are the tax implications?
• What is the nature of business?
Tips for Choosing Sources of Finance
• The sources of finance should be matched to its purpose.
• Capital investment should be finance by long term loans or
• Working capital should be finance by short term loans or
Case Study 1
A medium-sized engineering firm with an annual return of over
Rs. 25 lakhs before interest and tax has decided to install a new
piece of machinery to help improve its productivity. The
equipment needs to be housed in a new building to be construed
on the site.
The forecast of the building is Rs. 50 lakhs and the
equipment Rs. 40 lakhs. Firm already issued 12 % Debentures of
Rs. 50 lakhs and Equity Shares Rs. 100 lakhs Face Value Rs. 100
As a manger of finance decide the sources of finance with
The appropriate source of finance for this case would be to
take 50% from the retained earnings and 50% from the bank
This approach will reduce the number of years to pay back in
installment and will result in less amount of interest to pay
from the amount borrowed.
An individual has been made redundant after 20 years with a major
organization and has received a lump sum redundancy payment of Rs.
The individual is planning to set up a bookmakers and has identified a
suitable premises valued at Rs. 180,000 near to a major town centre
As a financial consultant advise the person to take appropriate steps.
Case 2- Solution
Joint venture will be ideal for this case, as the individual has a
capital sum of Rs. 70,000 and another partner will put in a capital
and will be able to borrow a smaller amount of money from the
• The advantage for joint venture is that the risk is spread, advice
will be bought in through experience and the company will be
able to bring expertise for higher growth and for long term basis.
• And the disadvantage for is that profits will be shared with a
• On the other hand the disadvantage of the bank loan will be that
the bank may not be able to provide a loan due to the
redundancy; unless the owner provides good business strategy
plan which will forecast to give a good return and also owns an
assets or security i.e. Property, land etc.
A rugby club is anticipating turning fully
professional after the team secured
promotion to the Zurich premiership.
To take its place in the league, the
league committee have insisted that it
also improves facilities at the ground. It
has been estimated that the cost of
these two measures will be Rs.
550,000. Find out the appropriate
sources of finance with explanations.
A small news agent in a rural village
centre has decided to purchase a
oven/roasting unit to provide hot
meals for village workers and for
students at the secondary school
which serves the surrounding area
which is located half a mile from the
village centre. The cost of the units
is £3,500. As a owner of this
business, how and from which
sources you should arrange the
Following the construction of a new housing
estate on the outskirts of a major city, a
group of 10 ambitious young professionals
has decided to try to exploit the type of
resident moving into the area by setting up a
gym and health centre on earmarked land
within the development. The building has
been bought by the group for £800,000 but
needs to be furnished and fitted out for the
purpose intended. The cost of the bar,
restaurant and gym facilities is estimated at
£95,000 but the other major cost is the
swimming pool, spa and sauna area. This
could be utilized on a separate project to the
fitness centre as the local council want to
secure use for local school children and
elderly residents - this being part of the
purchase arrangements associated with the
new housing development.
• A large Public Limited Company is planning on
moving a major part of its production facility to
Pune. It has identified a site near industrial estate at
Pune that is now not used. The estimated cost of the
facility is Rs. 45 lakhs.
• A long term bank loan will be suitable to for a large
company planning to move as the estimated cost is Rs.
45 lakhs and share issue will also be ideal as this can
raise capital that can be used for the move, this is a long
term source of finance.
• Shareholders will have to share the control of business,
each share gives the shareholder a vote on the direction
of the company and will spread the risk to the number
of shareholders, and this will also reduce the amount of
loan to borrow from the bank which will also result to
fewer installments and less interest to pay.