Finance is defined as the management of money and includes activities like investing, borrowing,

lending, budgeting, saving, and forecasting. There are three main types of finance: (1) personal, (2)
corporate, and (3) public/government.

Finance is a simple task of providing the necessary funds (money) required by the business of entities
like companies, firms, individuals and others on the terms that are most favorable to achieve their
economic objectives.

What is Financial Management?

Financial management concerns the acquisition, financing, and management of assets with some overall
goal in mind. There are three important decision functions of financial management:

 Investment decision
 Most important of the three decisions functions.
 What is the optimal firm size?
 What specific assets should be acquired?
 What assets (if any) should be reduced or eliminated?
 Should the firm operations be expanded by introducing new products or services

 Financing Decision
 Determine how the assets (current and long term) will be financed (short term or long
term debt and equity).
 What is the best type of financing?
 What is the best financing mix?
 What is the best dividend policy (e.g., dividend-payout ratio)?
 How will the funds be physically acquired?
 Asset management
 How do we manage existing assets efficiently?
 Financial Manager has varying degrees of operating responsibility over assets.
 Greater emphasis on current asset management than fixed asset management as the
fixed assets are being operated by the operation mangers.

Primarily financial managers used to raise funds and manage their firms cash positions.

Role of financial managers has become more important due to increasingly complex nature of
transactions, e.g.

• Increased corporate competition

• Rapid technological changes

• Volatility in inflation and interest rates

 • Worldwide economic uncertainty

• Fluctuating exchange rates

• Changing tax laws

• Ethical concerns over financial dealings

Scope of Financial Management

Scope of Financial Management is to determine the Capital Structure: Capital structure is how a
firm finances its overall operations and growth by using different sources of funds. Once the
requirement of funds has estimated, the financial manager should decide the mix of debt and
equity and also types of debt.

This is the main objective of Financial Management. Wealth maximization means maximization
of shareholders' wealth. It is an advanced goal compared to profit maximization. Survival of
company is an important consideration when the financial manager makes any financial
decisions. Financial Management means planning, organizing, directing and controlling the
financial activities such as procurement and utilization of funds of the enterprise.

Forms of business organization

There are three main forms of business organization:

(1) Proprietorship;
An unincorporated business owned by one individual.
Starting a proprietorship is fairly easy. Sometimes proprietorship licensed by municipality.
Advantages;
 It is easily and inexpensively formed.
 Effected by few govt. regulation.
 Income included and taxed only on proprietor’ personal tax return.
Limitations;
 Unlimited personal liability for business debts
 Lack continuity when proprietor dies
 Transfer of ownership is somewhat difficult
 Limited fund raising power tends to inhabit growth.

Note: most large businesses start out as proprietorships and then convert to corporations when their
growth causes the disadvantages of being a proprietorship to outweigh the advantage.

(2) Partnership
An unincorporated business owned by two or more persons.
Advantages;
 Formation is easy and relatively inexpensive.
 Effected by few govt. regulation.
  It is taxed like an individual, not a corporation.
Limitations;
 Unlimited liability for the owners.
 Limited life of the organization.
 Difficulty of transferring ownership.
 Difficulty of raising large amounts of capital.

(3) Corporation

A legal entity created by a state, separate and distinct from its owners and managers, having unlimited
life, easy transferability of ownership and limited liability.

 Unlimited life
 Ownership transfer more easily
 Limited liability
 Unlimited life easy transferability of ownership interest and limited liability make it easier for
corporations than for proprietorships or partnerships to raise money in the financial markets.

Drawbacks;

 Setting up a corporation and filing required state and federal reports is more complex and time
consuming than for a proprietorship and partnership.
 Double taxation

Corporate Charter and bylaws

The value of any business probably will be maximized if it is organized as a corporation for the following
reasons:

 Limited liability reduces the risk borne by investors. Low risk, high market value.
 A firm current value is related to its future growth opportunities.
 More easy to transfer the ownership than proprietorship and partnership.

Goals of the corporation

 Stockholder wealth maximization

This should be the primary goal of a finance manager
 Social responsibility
 Stock price maximization and social welfare

Goals of business finance

 Profit maximization

Maximization of profits is very often considered as the main objective of a business enterprise. The
objective of finance management is the same as the objective of a company is to earn profit. The
 shareholders, the owners of the business, invest their funds in the business with the hope of getting
higher dividend on their investment. Moreover, the profitability of the business is an indicator of the
sound health of the organization, because, it safeguards the economic interests of various social
groups which are directly or indirectly connected with the company e.g. shareholders, creditors and
employees.

 Wealth maximization

The wealth maximization (also known as value maximization or Net Present worth maximization) is
also universally accepted criterion for financial decision making. The value of an asset should be
viewed in terms of benefits it can produce over the cost of capital investment.

The value of a firm is represented by the market price of the company’s stock. The market price of a
firm’s stock represents the assessment of all market participants as to what the value of the
particular firm is.

4 Multinational Firms

What is the Goal of the Firm?

The goal of a firm is maximization of Shareholder Wealth. Value creation or wealth maximization
occurs when we maximize the share price for current shareholders. Share price of a firm is the
reflection of the firms investment, financing, and asset management decisions. Firms spending more
on R&D and advertisement normally have higher value for their stocks.

There exists a SEPARATION between owners and managers. Management acts as an agent for
the owners (shareholders) of the firm. An agent is an individual authorized by another person,
called the principal, to act in the latter’s behalf.
Agency Theory is a branch of economics relating to the behavior of principals and their agents.
Principals must provide incentives so that management acts in the principal’s best interests and
then monitor results. Incentives include stock options, perquisites, and bonuses.

Social Responsibility

Wealth maximization does not preclude the firm from being socially responsible such as
protecting the consumers, welfare of the employees, fair hiring practices and safe working
conditions, supporting education, and becoming involved in environmental issues as clean air
and water.
Along with the share-holders wealth maximization, the interests of the stakeholders must also
be protected, i.e. creditors, employees, customers, suppliers, communities and others. Then
shareholder wealth maximization remains the appropriate goal in governing the firm. Along
with the share-holders wealth maximization, the interests of the stakeholders must also be
protected, i.e. creditors, employees, customers, suppliers, communities and others.
Corporate Governance
Corporate governance: represents the system by which corporations are managed and
controlled.

Includes shareholders, board of directors (BOD), and senior management. Three categories of
individuals are thus key to corporate governance success:

First, the common shareholders, who elect the BODs; second, the BODs themselves; and third,
the top executive offices led by the CEO

Role of BOD

Typical responsibilities:

Set company-wide policy;

Advise the CEO and other senior executives;

Hire, fire, and set the compensation of the CEO;

Review and approve strategy, significant investments, and acquisitions; and

Oversee operating plans, capital budgets, and financial reports to common shareholders.

CEO/Chairman roles commonly same person in US, but separate in Britain.

 Organization of the Financial Management Function

Board of Directors

President (CEO)

Vice President Vice President Vice President

Operation Finance Marketing

Treasurer Controller
 Capital Budgeting  Cost Accounting
 Cash Management  Cost Management
 Credit Management  Data Processing
 Dividend Disbursement  General Ledger
 Fin Analysis/Planning  Government Reporting
 Pension Management  Internal Control
 Insurance/Risk  Preparing Fin Statements
Management  Preparing Budgets
 Tax Analysis/Planning  Preparing Forecasts
Finance management VS other managerial functions
Financial Management refers to that part of management activity which is normally
concerned with planning and controlling a firm's financial resources. This branch of
management deals with finding out various sources for raising funds for the firm.
Financial Management is practiced by many corporate firms and can be called
corporate finance or Business finance.
A financial manager has to concentrate on the following key areas of finance function:
 Estimating financial requirements of the firm
 Deciding suitable capital structure of the firm
 Selecting a source of finance
 Selecting a pattern of investment suitable for the firm
 Proper cash management
 Implementing financial controls.
The main objective of a business is to maximize the owner's economic welfare.
Financial management provides a framework for selecting a proper course of action and
deciding a commercial strategy. These are some of the elements that differentiates
financial management from other managerial functions.
Other managerial functions
1 Planning
Planning is looking ahead. According to Henri Fayol, drawing up a good plan of action is
the hardest of the five functions of management. This requires an active participation of
the entire organization. With respect to time and implementation, planning must be
linked to and coordinated on different levels. Planning must take the organization’s
available resources and flexibility of personnel into consideration as this will guarantee
continuity.
Or
It is the basic function of management. It deals with chalking out a future course of
action & deciding in advance the most appropriate course of actions for achievement of
pre-determined goals. According to KOONTZ, “Planning is deciding in advance - what
to do, when to do & how to do. It bridges the gap from where we are & where we want
to be”. A plan is a future course of actions. It is an exercise in problem solving &
decision making. Planning is determination of courses of action to achieve desired
goals. Thus, planning is a systematic thinking about ways & means for accomplishment
of pre-determined goals. Planning is necessary to ensure proper utilization of human &
non-human resources. It is all pervasive, it is an intellectual activity and it also helps in
avoiding confusion, uncertainties, risks, wastages etc.
2 Organizing
An organization can only function well if it is well-organized. This means that there must
be sufficient capital, staff and raw materials so that the organization can run smoothly
and that it can build a good working structure. The organizational structure with a good
division of functions and tasks is of crucial importance. When the number of functions
increases, the organization will expand both horizontally and vertically. This requires a
different type of leadership. Organizing is an important function of the five functions of
management.
Or
It is the process of bringing together physical, financial and human resources and
developing productive relationship amongst them for achievement of organizational
goals. According to Henry Fayol, “To organize a business is to provide it with everything
useful or its functioning i.e. raw material, tools, capital and personnel’s”. To organize a
business involves determining & providing human and non-human resources to the
organizational structure. Organizing as a process involves:

3 Identification of activities.
4 Classification of grouping of activities.
5 Assignment of duties.
6 Delegation of authority and creation of responsibility.
7 Coordinating authority and responsibility relationships.
3 Commanding
When given orders and clear working instructions, employees will know exactly what is
required of them. Return from all employees will be optimized if they are given concrete
instructions with respect to the activities that must be carried out by them. Successful
managers have integrity, communicate clearly and base their decisions on regular
audits. They are capable of motivating a team and encouraging employees to take
initiative.
4 Staffing
It is the function of manning the organization structure and keeping it manned. Staffing
has assumed greater importance in the recent years due to advancement of technology,
increase in size of business, complexity of human behavior etc. The main purpose o
staffing is to put right man on right job i.e. square pegs in square holes and round pegs
in round holes. According to Kootz & O’Donell, “Managerial function of staffing involves
manning the organization structure through proper and effective selection, appraisal &
development of personnel to fill the roles designed un the structure”.
Staffing involves:

 Manpower Planning (estimating man power in terms of searching, choose the

person and giving the right place).
 Recruitment, Selection & Placement.
 Training & Development.
  Remuneration.
 Performance Appraisal.
 Promotions & Transfer.
5 Coordinating
When all activities are harmonized, the organization will function better. Positive
influencing of employees behaviour is important in this. Coordination therefore aims at
stimulating motivation and discipline within the group dynamics. This requires clear
communication and good leadership. Only through positive employee behaviour
management can the intended objectives be achieved.
6 Directing
It is that part of managerial function which actuates the organizational methods to work
efficiently for achievement of organizational purposes. It is considered life-spark of the
enterprise which sets it in motion the action of people because planning, organizing and
staffing are the mere preparations for doing the work. Direction is that inert-personnel
aspect of management which deals directly with influencing, guiding, supervising,
motivating sub-ordinate for the achievement of organizational goals. Direction has
following elements:
 Supervision
 Motivation
 Leadership
 Communication
Supervision- implies overseeing the work of subordinates by their superiors. It is the
act of watching & directing work & workers.

Motivation- means inspiring, stimulating or encouraging the sub-ordinates with zeal to

work. Positive, negative, monetary, non-monetary incentives may be used for this
purpose.
Leadership- may be defined as a process by which manager guides and influences the
work of subordinates in desired direction.
Communications- is the process of passing information, experience, opinion etc from
one person to another. It is a bridge of understanding.
7 Controlling
By verifying whether everything is going according to plan, the organization knows
exactly whether the activities are carried out in conformity with the plan.
Control takes place in a four-step process:
Establish performance standards based on organizational objectives
Measure and report on actual performance
Compare results with performance and standards
Take corrective or preventive measures as needed
Or

It implies measurement of accomplishment against the standards and correction of

deviation if any to ensure achievement of organizational goals. The purpose of
controlling is to ensure that everything occurs in conformities with the standards. An
efficient system of control helps to predict deviations before they actually occur.
According to Theo Haimann, “Controlling is the process of checking whether or not
proper progress is being made towards the objectives and goals and acting if
necessary, to correct any deviation”. According to Koontz & O’Donell “Controlling is the
measurement & correction of performance activities of subordinates in order to make
sure that the enterprise objectives and plans desired to obtain them as being
accomplished”.
Therefore controlling has following steps:
 Establishment of standard performance.
 Measurement of actual performance.
 Comparison of actual performance with the standards and finding out deviation if
any.
 Corrective action.