Business Finance: Introduction to Business Finance, Meaning and Definition of Financial Management, Objectives of Financial Management- (Profit Maximization and Wealth Maximization), Modern Approach to Financial Management- (Investment Decision, Financing Decision, Dividend Policy Decision), Finance and its relation with other disciplines, Functions of Finance Manager

1. 201_ Financial Management
UNIT1:
Business Finance: Introduction to
Business Finance, Meaning and Definition
of Financial Management, Objectives of
Financial Management- (Profit
Maximization and Wealth Maximization),
Modern Approach to Financial
Management- (Investment Decision,
Financing Decision, Dividend Policy
Decision), Finance and its relation with
other disciplines, Functions of Finance
Manager

2. Finance is defined as the provision of money at
the time when it is required.
Every enterprise, whether big, medium, small,
needs finance to carry on its operations and to
achieve its target.
In fact, finance is so indispensable today that it
is rightly said to be the blood of an enterprise.
Without adequate finance, no enterprise can
possibly accomplish its objectives.
INTRODUCATION

3. Meaning of Financial Management
Financial management refers to that part of the
management activity, which is concerned with
the planning, & controlling of firm’s financial
resources.
It deals with finding out various sources for raising
funds for the firm. Financial management is
practiced by many corporate firms and can be
called Corporation finance or Business Finance.

4. ○ According to Guthmann and Dougall:
“Business finance can be broadly defined as
the activity concerned with the planning,
raising controlling and administrating the
funds used in the business.”
○ According to Joseph & Massie: “Financial
Management is the operational activity of a
business that is responsible for obtaining and
effectively utilizing the funds necessary for
efficient operations”
Definations

6. A financial manager has to concentrate on the following areas of the
finance function.
 Estimating Financial Requirements: The first task of the financial
manager is to estimate short term and long-term financial
requirement of his business.
 Deciding Capital Structure: The capital structure refers to the kind and
proportion of the different securities for raising funds. After deciding
about the quantum of funds required it should be decided which
type of security should be raised
 Selecting a Source of Finance: After preparing a capital structure, an
appropriate source of finance is selected. Various sources from which
finance may be raised, includes share capital, debentures, financial
deposits etc
 Selecting a Pattern of Investment: When fund have been procured
then a decision about investment pattern is to be taken. The
selection of investment pattern is related to the use of the funds.
Functions of Financial Management

7.  Proper Cash Management: Cash management is an important
task of financial manager. He has to assess the various cash
needs at different times and then make arrangements for
arranging cash.
 Implementing Financial Controls: An efficient system of financial
management necessitates the use of various control devices.
Financial control device generally used are; Return Investment, Ratio
analysis, Break even analysis Cost control Cost and internal audit.
 Proper use of Surpluses: The utilization of profits or surpluses as
also an important factor in financial management. A judicious
use of surpluses is essential for the expansion and diversification
plans and also protecting the interest of the shareholders.
Functions of Financial Management

8. Effective procurement and efficient use of finance lead to
proper utilization of the finance by the business concern. It
is the essential part of the financial manager. Hence, the
financial manager must determine the basic objectives of
the financial management. Objectives of Financial
Management may be broadly divided into two parts such
as:
1. Profit maximization
2. Wealth maximization.
Objectives of Financial Management- (Profit
Maximization and Wealth Maximization)

9. The term ‘profit maximization’ implies generation of largest amount
of profits over the time period being analysed, secondary to Prof.
Peter Drucker, business profits play a functional role in three
different ways. In the words of Peter Drucker.
i) profits indicate the effectiveness of business profits
ii) they provide the premium to cover costs of staying in business
iii) they ensure supply of future capital.
Profits are source of funds from which organizations are able to
defray certain expenses like replacement, obsolescence,
marketing etc.
It is assumed that profit maximization causes the efficient allocation
of resources under the competitive impact conditions and profit
is regarded as the most appropriate measure of a firm’s
performance.
Profit Maximization

10. Profit maximization consists of the following important features.
1. Profit maximization is also called as cashing per share
maximization. It leads to maximize the business operation for
profit maximization.
2. Ultimate aim of the business concern is earning profit, hence, it
considers all the possible ways to increase the profitability of
the concern.
3. Profit is the parameter of measuring the efficiency of the
business concern. So it shows the entire position of the business
concern.
4. Profit maximization objectives help to reduce the risk of the
business.
FEATURES PROFIT MAXIMIZATION

11. The following important points are in support of the
profit maximization objectives of the business
concern:
(i) Main aim is earning profit.
(ii) Profit is the parameter of the business operation.
(iii) Profit reduces risk of the business concern.
(iv) Profit is the main source of finance.
(v) Profitability meets the social needs also.
Favorable Arguments for Profit Maximization

12. The following important points are against the
objectives of profit maximization:
(i) Profit maximization leads to exploiting workers and
consumers.
(ii) Profit maximization creates immoral practices such
as corrupt practice, unfair trade practice, etc.
(iii) Profit maximization objectives leads to inequalities
among the sake holders such as customers,
suppliers, public shareholders, etc.
Unfavorable Arguments for Profit Maximization

13. Profit maximization objective consists of certain drawback also:
(i) It is vague: In this objective, profit is not defined precisely or
correctly. It creates some unnecessary opinion regarding
earning habits of the business concern.
(ii) It ignores the time value of money: Profit maximization does
not consider the time value of money or the net present value
of the cash inflow. It leads certain differences between the
actual cash inflow and net present cash flow during a
particular period.
(iii) It ignores risk: Profit maximization does not consider risk of the
business concern. Risks may be internal or external which will
affect the overall operation of the business concern.
Drawbacks of Profit Maximization

14. 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 an universally
accepted concept in the field of business.
Wealth Maximization

15. It means that by maximizing stakeholder’s
wealth the firm is operating consistently
toward maximizing stakeholder’s utility.
A stake solder’s wealth in the firm is the
product of the numbers of the shares
owned, multiplied within the current
stock price per share.
Stockholder’s current wealth in the firm =
(No. Of shares owned) * (Current stock
price per share)
Higher the stock price per share, the
greater will be the shareholder’s wealth.
Thus a firm should aim at maximizing its
current stock price, which helps in
increasing the value of shares in the
market.

16. 1. It is superior: This objective is superior to profit maximization as its main
aim is to maximise shareholder’s wealth.
2. It is precise and unambiguous: It is based on the concept of cash
flows rather than profit. The concept of profit in the profit
maximization objective is vague and ambiguous.
3. Considers time value of money: Wealth maximization objective takes
into account the time value of money as it considers timing of cash
inflows. The cash flows occurring at different period of time are
discounted with appropriate discount rate.
4. Considers risk: This objective also considers future risk associated with
occurrence of cash flows. This is done with the help of discounting
rate. Higher the discount rate, higher the risk and vice-versa.
5. Ensures efficient allocation of resources: Resources are allocated
wisely to increase shareholder’s wealth.
6. Ensures economic interest of society: When wealth of shareholder is
maximized, it ultimately upholds economic interest of society.
Arguments in favor of Wealth Maximization objective

17. 1. Creates owner-management problem: The concept of wealth maximization
creates owner-management problem as owners want to maximize their
profits and management want to maximize shareholder’s wealth.
2. Ignores other stakeholders: This objective has been criticized on the ground
that it is inclined towards wealth maximization of shareholders only and
ignores other stakeholders such as creditors, suppliers, employees etc.
3. Criteria of market value is not fair: The criteria of wealth maximization is
based on market value of shares which is not a correct measure. Because
value of shares could increase or decrease due to other economic factors
which are beyond the control of the firm.
4. It is just another form of profit maximization: Ultimate aim is to earn
maximum profits. Without earning profits wealth cannot be maximized.
5. Management alone enjoy certain benefits.
6. It is not suitable for present-day businesses.
Unfavorable arguments for Wealth Maximization objective

18. DIFFERENCE BETWEEN PROFIT AND WEALTH
MAXIMIZATION
Goal Objective Advantages Disadvantages
Profit
maximization
Large amount of
profits
-Easy to calculate profits.
-Easy to determine the link
between financial decisions
and profits.
-Emphasizes the short term.
-Ignores risk or uncertainty.
-Ignores the timing of
returns.
-Requires immediate
resources.
Stockholder
wealth
maximization
Highest market
value of common
stock
-Emphasizes the long term.
-Recognizes risk or
uncertainty.
-Consider stockholders
return.
-Offers no clear relationship
between financial decisions
and stock price.
-Can lead to management
anxiety and frustration.

19. Differences Between Profit Maximization and Wealth
Maximization
Basis for Comparison Profit Maximization Wealth Maximization
Concept
The main objective of a
concern is to earn a larger
amount of profit.
The ultimate goal of the
concern is to improve the
market value of its shares.
Emphasizes on
Achieving short term
objectives.
Achieving long term
objectives.
Consideration of Risks and
Uncertainty
No Yes
Advantage
Acts as a yardstick for
computing the operational
efficiency of the entity.
Gaining a large market
share.
Recognition of Time Pattern
of Returns
No Yes

20. 1) Financial Management and Production Department: The financial
management and the production department are interrelated. The
production department of any firm is concerned with the production
cycle, skilled and unskilled labour, storage of finished goods, capacity
utilisation, etc. and the cost of production assumes a substantial
portion of the total cost.
2) Financial Management and Material Department: The financial
management and the material department are also interrelated.
Material department covers the areas such as storage, maintenance
and supply of materials and stores, procurement etc.
The finance manager and material manager in a firm may come
together while determining Economic Order Quantity, safety level,
storing place requirement, stores personnel requirement, etc. The costs
of all these aspects are to be evaluated so the finance manager may
come forward to help the material manager.
FINANCE AND ITS RELATION WITH OTHER DISCIPLINES

21. 3. Financial Management and Personnel Department: The personnel
department is entrusted with the responsibility of recruitment, training
and placement of the staff. This department is also concerned with the
welfare of the employees and their families. This department works with
finance manager to evaluate employees’ welfare, revision of their pay
scale, incentive schemes, etc.
4. Financial Management and Marketing Department: The marketing
department is concerned with the selling of goods and services to the
customers. It is entrusted with framing marketing, selling, advertising
and other related policies to achieve the sales target. It is also required
to frame policies to maintain and increase the market share, to create
a brand name etc. For all this finance is required, so the finance
manager has to play an active role for interacting with the marketing
department.
FINANCE AND ITS RELATION WITH OTHER DISCIPLINES

22. Finance manager is an integral part of corporate management of
an organization. With his profession experience, expertise
knowledge and competence, he has to play a key role in
optimal utilization of financial resources of the organization.
1) Forecasting of Cash Flow. This is necessary for the successful day
to day operations of the business so that it can discharge its
obligations as and when they rise. In fact, it involves matching of
cash inflows against outflows and the manager must forecast the
sources and timing of inflows from customers and use them to
pay the liability.
2) Raising Funds: the Financial Manager has to plan for mobilising
funds from different sources so that the requisite amount of funds
are made available to the business enterprise to meet its
requirements for short term, medium term and long term.
Functions of Finance Manager

23. 3) Managing the Flow of Internal Funds: Here the Manager has to keep a
track of the surplus in various bank accounts of the organisation and
ensure that they are properly utilised to meet the requirements of the
business. This will ensure that liquidity position of the company is
maintained intact with the minimum amount of external borrowings.
4) To Facilitate Cost Control: The Financial Manager is generally the first
person to recognise when the costs for the supplies or production processes
are exceeding the standard costs/budgeted figures. Consequently, he
can make recommendations to the top management for controlling the
costs.
5) To Facilitate Pricing of Product, Product Lines and Services: The Financial
Manager can supply important information about cost changes and
cost at varying levels of production and the profit margins needed to
carry on the business successfully.
Functions of Finance Manager

24. 6) Forecasting Profits: The Financial manager is usually responsible for
collecting the relevant data to make forecasts of profit levels in future.
7) Measuring Required Return: The acceptance or rejection of an
investment proposal depends on whether the expected return from the
proposed investment is equal to or more than the required return.
8) Managing Assets: The function of asset management focuses on the
decision-making role of the financial manager. Finance personnel meet
with other officers of the firm and participate in making decisions
affecting the current and future utilization of the firm's resources
9) Managing Funds: In the management of funds, the financial manager
acts as a specialised staff officer to the Chief Executive of the company.
The manager is responsible for having sufficient funds for the firm to
conduct its business and to pay its bills.
Functions of Finance Manager

25. 1) Explain the objectives or goals of financial management.
2) Explain the concept of wealth in the context of wealth maximization
objective.
3) “The wealth maximization objective provides an operationally appropriate
decision criterion” – Analyse the statement.
4) In what respect is the objective of wealth maximization superior to the profit
maximization objective?
5) Give the arguments for profit maximization as an objective of a firm.
6) What are the arguments leveled against profit maximization objective?
7) What are the other objectives of financial management?

26. FIVE MARKS QUESTIONS
1) Define Financial management and its objectives?
2) Financial management means maximization of economic welfare of its
shareholders.
3) Compare and contrast profit maximization and wealth maximization?
4) Critically examined wealth maximization is superior to profit maximisation.
5) What is financial management?
6) Define financial management. Explain its significance.
7) Explain the various areas of financial management.
8) Analyse the nature of financial management.
9) Describe the evolution of financial management.
10) Financial management – is it a science or an art.
11)What are key areas of financial management.
12) Explain the role of financial manager in the current scenario.