The ultimate objective of financial management is value creation. A business proposal creates value only if its net present value is positive. The fundamental finance principle can be applied to major corporate decisions Profit is essential for a firm to sustain long-term growth.

1. CreatingValueThrough Financial
Management.
Presented by-Zil Shah
eMBA-81

2. introduction
• The ultimate objective of financial management is value
creation.
• A business proposal creates value only if its net present
value is positive.
• The fundamental finance principle can be applied to major
corporate decisions
• Profit is essential for a firm to sustain long-term growth.

3. ROLE OF FINANCIAL MANAGEMENT
• Efficient and effective management of money
• how to raise the capital
• how to allocate capital
• Not only long term but the short term budgeting is done.
• It also deals with the dividend policies.
• Processing data only once in order to reduce cycle times.
• Structuring data so that it provides information
• Leveraging people and technology to improve transaction
processing.

4. THE FUNDAMENTAL FINANCE PRINCIPLE
Before making a business decision manager should ask : Will
the decision createraise value for the firm?
It can be answered with the help of the fundamental finance
principle - A business proposal such as:
• a new investment
• the acquisition of another company
• a restructuring plan
will raise the firm’s value only if its net present value is
positive

5. MEASURING VALUE CREATION
• Net present value
• Time value of money
Principle of compounding
Principle of discounting
• Cost of capital

6. Cost of capital
Weighted average cost of capital or WACC
= (weight of debt × cost of debt)+(weight of
equity × cost of equity)
WACC = [6% × 50%] + [16% × 50%]
= 3% + 8% = 11%

7. Capital budgeting
• Capital budgeting is also known as investment decision.
• Capital budgeting means a decision relating to planning
for capital assets as to whether or not money should be
invested in long term projects.

8. Capital budgeting method
• Payback period
• Average rate of return
• Net present value
• Internal rate of return

9. Pay-back period
Project Original
investment
Cash inflow
1
Year
2 3
Payback period Rank
A 5000 5000 250 250 1 year 1
B 5000 2500 2500 2500 2 year 2
C 5000 1000 1500 1500 2year 4months 3
It can be defined as number of year required to recover
the cost of the investment
Pay back period = original investment
annual net cash inflow

10. Average rate of return
• It is an attempt to measure the rate of return on
investment on the basis of the accounting
information contained in financial statements.
• ARR = × 100
C
N
ARR(A)=( 5000+250+250)-5000 × 100 = 3.33%
3 5000
ARR(B)=16.67%
ARR(C)=26.67%
𝑛=1
𝑁
𝑅𝑛 − 𝐶

11. Net present value
• NPV is difference between a project value and
its cost.
• NPV= 𝑛=1
𝑁
𝑅𝑛 - C
(1+r)n
NPV(A)= 5000+ 250 + 250 -5000= Rs. -60
1.1 1.21 1.331
NPV(B)= Rs.1217
NPV(C)= Rs.2070

12. Internal rate of return
C = N Rn
∑
n=1 (1+r)n
• Discount rate which equates the present value
of an investment cash inflow & outflow
• IRR is rate at which NPV=0
• IRR > Market rate of interest
• Project with higher IRR is preferred.

13. Sources of Value Creation in a Business Proposal
• Capital structure
• Business acquisition
• Foreign investment
• Financial markets
• Equity markets
• Business cycle

14. BUSINESS CYCLE

15. FINANCIAL ACCOUNTING

16. PROFITABILITY OF FIRM
• THE PROFITABILITY OF EQUITY CAPITAL
Return on equity (ROE) = Earnings after tax(EAT)
Owners’ equity
• THE PROFITABILITY OF INVESTED CAPITAL
Return on invested capital (ROIC)
= After tax operating profit
Invested capital

17. market value added
• This net present value is usually referred to as
the firm’s market value added or MVA.
• If MVA is positive, the firm is creating value
because the market value of its capital
exceeds the amount of capital invested in it.
• If MVA is negative, the firm is destroying
value.

18. Economic value added
EVA = After-tax operating profit – (Capital
employed × WACC)
= $120 million – $1,000 million × 10%
= $120 million – $100 million = $20 million
Or
EVA = (ROIC – WACC) × Invested capital L&T’s ROIC
in year 2013 is 12 %
EVA= [12% – 10%] × $1,000 million
= 2% × $1,000 million = $20 million