Introduction to financial management

Chapter 6: INTRODUCTION TO FINANCIAL MANAGEMENT
Contents
 Introduction to Financial Management
 Financial Intermediates
 Financial Accounts (Trading ac, P&Lac and B/S)

1. INTRODUCTION:
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Finance is the science of funds management. The general areas of finance are business
finance, personal finance, and public finance. Finance includes saving money and often
includes lending money. The field of finance deals with the concepts of time, money, and
risk and how they are interrelated. It also deals with how money is spent and budgeted.
One aspect of finance is through individuals and business organizations, which deposit
money in a bank. The bank then lends the money out to other individuals or corporations
for consumption or investment, and charges interest on the loans.
Finance is the set of activities dealing with the management of funds. More specifically, it
is the decision of collection and use of funds. It is a branch of economics that studies the
management of money and other assets.
Finance is also the science and art of determining if the funds of an organization are being
used properly. Through financial analysis, companies and businesses can take decisions
and corrective actions towards the sources of income and the expenses and investments
that need to be made in order to stay competitive. Finance is the heart of organisation.
Finance it is regarded as blood of the organisation. Without finance the firm can‟t be
existing. It refers to the financial assets which r necessary for run the business smoothly.
The field of finance refers to the concepts of time, money and risk Finance is used by
individuals (personal finance), by governments (public finance), by businesses (corporate
Finance), as well as by a wide variety of organizations including schools and non-profit
organizations. In general, the goals of each of the above activities are achieved through the
use of appropriate financial instruments, with consideration to their institutional setting. The
company can issue the Equity shares, preference shares and debentures for getting the public
finance in the company.

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Finance is one of the most important aspects of business management. Without proper
financial planning a new enterprise is unlikely to be successful. Managing money (a
Liquid asset) is essential to ensure a secure future, both for the individual and an
organization.
And how they are interrelated.

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The procurement of finance is of 3 types :
1) Personal Finance: Personal finance is the application of the principles of finance to the
monetary decisions of an individual or family unit. It addresses the ways in which individuals
or families obtain, budget, save, and spend monetary resources over time, taking into account
various financial risks and future life events. Components of personal finance might include
checking and savings accounts, credit cards and consumer loans, investments in the stock
market, retirement plans, social security benefits, insurance policies, and income tax
management.
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2) Business Finance:Corporate finance finance dealing with financial decisions business
enterprises make and the tools and analysis used to make these decisions. The primary goal of
corporate finance is to maximizecorporate value while managing the firm's financial risks.
Although it is in principle different from managerial finance which studies the financial
decisions of all firms, rather than corporations alone, the main concepts in the study of
corporate finance are applicable to the financial problems of all kinds of firms.
3) Public finance: Public finance is a field of economics concerned with paying for
collective or governmental activities, and with the administration and design of those
activities. The field is often divided into questions of what the government or collective
organizations should do or are doing, and questions of how to pay for those activities. The
broader term, public economics, and the narrower term, government finance, are also often
used. The company gets the finance from public by issuing equity shares, preference shares
and debentures.
2. FINANCIAL INTERMEDIARIES:
A financial intermediary is a financial institution that acts as the middleman or connects
surplus and deficit agents or investors and firms raising funds. An example of a financial
institution is a bank that transforms bank deposits into bank loans. Financial intermediaries
hold a very important role in the flow of money in the financial world. The assistance of a
financial intermediary is needed by companies who want somebody to act as a middle man in
raising money from the investors. Meeting up between these two parties are often very
difficult without the help of financial intermediaries.
2.1 TYPES OF FINANCIAL INTERMEDIARIES:
Money needs to be circulated for an economy to be productive. If all savings are hoarded, the
surpluses of the community will not be available for investments and this in turn would lead
to economic stagnation. Financial intermediaries play an important economic function by
facilitating a productive use of the community's surplus money. There are various types of
financial intermediaries and their structure comprises of both organized and unorganized
sectors.
1. INSURANCE COMPANIES:
Insurance companies concentrate on fulfilling the insurance needs of the community, both for
life and non life insurance. With the globalization of the Indian economy, a large number of
private players have entered into this field, offering products that allow investors to select the
kind of policies to suit their financial planning needs. Many of these organizations are formed
as subsidiaries of banks that enable the banks to cross sell insurance products to their existing
customers. Banks benefit by way of fee income through referrals and enhanced relationships
with insurance companies for their banking needs.

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2. MUTUAL FUNDS:
These organizations satisfy the needs of individual investors through pooling resources from
a large number with similar investment goals and risk appetite. The resources collected are
invested in the capital market and money market securities and the returns generated are
distributed to investors. The fund managers of MFs are specialists in the fields of investment
analysis and are able to diversify and even out risks through portfolio mix. MFs offer a wide
variety of schemes, such as, growth funds, income funds, balanced funds, money market
funds and equity related funds designed to cater to the different needs of investors.
3. INVESTMENT BROKERS:
The main duty of investment brokers is to transact the security sales. There are discount
brokers and full-service brokers. They provide an opportunity online for some individuals to
promote their trades. Aside from that they can also solicit valuable investment advice to some
clients who may need it that time.
4. INVESTMENT BANKERS:
The main duty of this financial intermediary is to increase monetary amounts of companies
through stocks and bonds. Since conducting stock offerings and issuing bonds is so
expensive, investment bankers focuses on how they can help the firm to earn more capital.
5. PENSION FUNDS:
Pension funds are analysed as financial intermediaries using a functional approach to finance
whichencompasses traditional theories of intermediation. Funds fulfil a number of the
functions of the financial system more efficiently than banks or direct holdings. Their growth
complements that of capital markets and they have acted as major catalysts of change in the
financial landscape. Financial efficiency in this functional sense is not the only reason for
growth. It is also a consequence of fiscal incentives and benefits to employers, as well as
growing demand arising from the ageing of the population.
6. COLLECTIVE INVESTMENT SCHEMES:
A collective investment scheme is a way of investing money alongside other investors in
order to benefit from the inherent advantages of working as part of a group. These advantages
include an ability to hire a professional investment manager, which theoretically offers the
prospects of better returns and/or risk management benefit from economies of scale cost
sharing among others diversify more than would be feasible for most individual investors
which, theoretically, reduces risk.

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3. FINANCIAL ACCOUNTING:
The process of recording, summarizing and reporting the myriad of transactions from a
business, so as to provide an accurate picture of its financial position and performance. The
primary objective of financial accounting is the preparation of financial statements including the balance sheet, income statement and cash flow statement - that encapsulates the
company's operating performance over a particular period, and financial position at a specific
point in time. These statements - which are generally prepared quarterly and annually, and in
accordance with Generally Accepted Accounting Principles (GAAP) - are aimed at external
parties including investors, creditors, regulators and tax authorities.
Financial accounting is a specialized branch of accounting that keeps track of a company's
financial transactions. Using standardized guidelines, the transactions are recorded,
summarized, and presented in a financial report or financial statement such as an income
statement or a balance sheet.
Companies issue financial statements on a routine schedule. The statements are considered
external because they are given to people outside of the company, with the primary recipients
being owners/stockholders, as well as certain lenders. If a corporation's stock is publicly
traded, however, its financial statements (and other financial reportings) tend to be widely
circulated, and information will likely reach secondary recipients such as competitors,
customers, employees, labor organizations, and investment analysts.
It's important to point out that the purpose of financial accounting is not to report the value of
a company. Rather, its purpose is to provide enough information for others to assess the value
of a company for themselves.
Financial accounting is required to follow the accrual basis of accounting (as opposed to the
"cash basis" of accounting). Under the accrual basis, revenues are reported when they are
earned, not when the money is received. Similarly, expenses are reported when they are
incurred, not when they are paid. For example, although a magazine publisher receives a $24
check from a customer for an annual subscription, the publisher reports as revenue a monthly
amount of $2 (one-twelfth of the annual subscription amount). In the same way, it reports its
property tax expense each month as one-twelfth of the annual property tax bill.
By following the accrual basis of accounting, a company's profitability, assets, liabilities and
other financial information is more in line with economic reality.
4. RULES OF FINANCIAL ACCOUNTING:
Debit and Credit are two actions of opposing nature that are relevant to the process of
accounting.
They are as fundamental to accounting as addition (+) and subtraction (−) are to mathematics.
It would not be appropriate to apply this mathematical analogy in all cases as it would give a
distorted meaning. Thus, it would not be appropriate to consider debit to be an equivalent of
addition and credit to be an equivalent of subtraction.

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The rules are been followed for the trading account , profit and loss account and for the
balance sheet of the organisation. The rules say:
1. Dr. what Goes out
Cr. What Comes in
2. Dr. all the expenses
Cr. All the incomes
3. Dr. the assest
Cr. The liabilities
1. TRANDING ACCOUNT:
Trading refers buying and selling of goods. Trading A/c shows the result of buying and
selling of goods. This account is prepared to find out the difference between the Selling
prices and Cost price. If the selling price exceeds the cost price, it will bring Gross Profit. For
example, if the cost price of Rs. 50,000 worth of goods are sold for Rs. 60,000 that will bring
in Gross Profit of Rs. 10,000. If the cost price exceeds the selling price, the result will be
Gross Loss. For example, if the cost price Rs. 60,000 worth of goods are sold for Rs. 50,000
that will result in Gross Loss of Rs. 10,000.
Thus the Gross Profit or Gross Loss is indicated in Trading Account.
Dr.
PARTICULARS
To Opening Stock
TO GROSS PROFIT
(Transferred to P&L
A/C)
TOTAL

Cr.
AMT
XXX
XXX

XXX

PARTICULARS
By Closing Stock
By GROSS LOSS
(Transferred to P&L
A/C)
TOTAL

AMT
XXX
XXX

XXX

The difference between the two sides of the Trading Account indicates either Gross Profit
or Gross Loss. If the total on the credit side is more, the difference represents Gross Profit.
On the other hand, if the total of the debit side is high, the difference represents Gross Loss.
The Gross Profit or Gross Loss is transferred to Profit and Loss A/c.

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2. PROFIT AND LOSS ACCOUNT:
Trading account reveals Gross Profit or Gross Loss. Gross Profit is transferred to credit side
of Profit and Loss A/c. Gross Loss is transferred to debit side of the Profit Loss Account.
Thus Profit and Loss A/c is commenced. This Profit & Loss A/c reveals Net Profit or Net loss
at a given time of accounting year.
The income statement reports a company's profitability during a specified period of time. The
period of time could be one year, one month, three months, 13 weeks, or any other time
interval chosen by the company.
The main components of the income statement are revenues, expenses, gains, and losses.
Revenues include such things as sales, service revenues, and interest revenue. Expenses
include the cost of goods sold, operating expenses (such as salaries, rent, utilities,
advertising), and non-operating expenses (such as interest expense). If a corporation's stock is
publicly traded, the earnings per share of its common stock are reported on the income
statement.

3. BALANCE SHEET:
The balance sheet is organized into three parts: (1) assets, (2) liabilities, and (3) stockholders'
equity at a specified date (typically, this date is the last day of an accounting period).
The first section of the balance sheet reports the company's assets and includes such things as
cash, accounts receivable, inventory, prepaid insurance, buildings, and equipment. The next
section reports the company's liabilities; these are obligations that are due at the date of the
balance sheet and often include the word "payable" in their title (Notes Payable, Accounts
Payable, Wages Payable, and Interest Payable). The final section is stockholders' equity,
defined as the difference between the amount of assets and the amount of liabilities.
The Word „Balance Sheet‟ is defined as “a Statement which sets out the Assets and
Liabilities of a business firm and which serves to ascertain the financial position of the same
on any particular date.”

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On the left hand side of this statement, the liabilities and capital are shown. On the right hand
side, all the assets are shown. Therefore the two sides of the Balance sheet must always be
equal. Capital arrives Assets exceeds the liabilities.

OBJECTIVES OF BALANCE SHEET:
1. It shows accurate financial position of a firm.
2. It is a gist of various transactions at a given period.
3. It clearly indicates, whether the firm has sufficient assents to repay its liabilities.
4. The accuracy of final accounts is verified by this statement
5. It shows the profit or Loss arrived through Profit & Loss A/c.

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Introduction to financial management

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