CHAPTER NO. 1
Nature & Scope of
Financial
Management
 Finance
INTRODUCTION
Finance is defined as the provision of money at the time when
it is required. Every enterprise, whether big, medium , or
small needs finance to carry on its operations and to achieve
its targets. So, it is rightly said to be the lifeblood of an
enterprise.
 Classification of Finance
Finance deals with the requirements, receipts and
disbursements of funds in the public institutions as well as
in the private institutions. On the basis of these finance is
classified in to following two parts.
1. Traditional classification
2. Modern classification
Classification of Finance in Traditional way
BUSINESS FINANCE
PUBLIC FINANCE
PRIVATE FINANCE
1. GOVERNMENT
INSTITUTIONS
3. LOCAL SELF
GOVERNMENTS
1. PERSONAL FINANCE
2. STATE GOVERNMENTS
4. CENTRAL
GOVERNMENTS
3. FINANCE OF NON PROFIT
ORGANISATIONS
2. BUSINESS FINANCE
Classification of Finance in Modern way
SOLEPROPRITORY
FINANCE
COMPANY OR
CORPORATION
FINANCE
PARTNERSHIP
FINANCE
BUSINESS
FINANCE
APPROACHES TO BUSINESS FINANCE
 Business finance connotes finance of business activities.
It is composed of two words (I) business( state of being
busy related with all creative human activities) (ii)
finance (provision of money when it is required) so,
business finance concerned with the application of
skills in the use and control of money.
Three main approaches to finance indicated in
traditional and modern approaches.
(i) Providing of funds
(ii) Finance to cash
(iii) raising of funds and effective utilization.
Financial Management and Definition
Financial Management refers to :1. Part of management activity
2. Planning and controlling financial resources
3. Finding out various sources for raising funds
4. Suitable and economical sources
5. Proper use of funds
So, Financial management is an area of financial decision
making , harmonising individual motives & enterprise goals.
Definition
“The area of the business management devoted to a judicious use
of capital and a careful selection of sources of capital in order
to enable a spending unit to move in the direction of reaching
its goals”
J. F. Bradley
EVOLUTION OF FINANCIAL MANAGEMENT
THREE STAGES
INITIAL STAGE
(1930)
• EMERGENCE as distinct field & FORMATION of large sized business
undertakings
• 1930 economic recession creates difficulties in raising finance & find out
improved methods for sound financial structure
• EMPHASIZED on reorganization of industries & selection of sound financial
structure
• SHIFTING to profitability to liquidity , techniques of analyzing capital
IN EARLY 1950
investment & widened the scope of financial management
MODERN PHASE
AFTER 1960
• DISCIPLINE of financial management become more analytical & development
of theory , methods, models like CAPM, OPTION PRICING THEORY.
• NEW sources of finance like PCD’s, FCD’s, PD’S etc.
IMPORTANCE OF FINANCIAL MANAGEMENT
#
FOR FINANCIAL PLANNING & SUCCESSFUL
PROMOTION
ACQUISITION
OF FUNDS AT
MINIMUM
COST
SOUND
FINANCIAL
DECISION
IMPROVING
PROFITABILITY
PROPER USE AND
ALLOCATION OF FUNDS
INCREASING THE WEALTH
OF INVESTORS & NATION
AIMS OF FINANCE FUNCTION
SCOPE OF FINANCE FUNCTION
 1. Acquiring sufficient funds
# Estimating financial
requirements
# Deciding capital structure
# Selecting a source of finance
# Selecting a pattern of
investment
# proper cash management
#Implementing financial
controls
# proper use of surpluses
 2. Proper utilization of funds
 3. Increasing profitability
 4. Maximizing firm value
• PURCHASE
FUNCTION
• PRODUCTION
FUNCTION
PRESONNEL
FUNCTION
RESARCH AND
DEVELOPMENT
FUNCTION
• ACCOUNTIONG
FUNCTION
• DISTRIBUTION
FUNCTION
OBJECTIVES OF FINANCIAL MANAGEMENT
1. OBJECTIVE PROFIT MAXIMISATION
 Arguments in favour
 Arguments in against
# Profit maximization is the
obvious objectives when
profit s the main aim.
# Profitability is a barometer for
measuring efficiency &
prosperity of a business
# To survive In unfavorable
situation
# For the expansion and
diversification
# For fulfilling social goals
$ Ambiguity
$ Ignores time value of money
$ Ignores risk factors
$ Dividend policy
2.OBJECTIVE WEALTH MAXIMISATION
 Arguments in favour
 Arguments in against
@ It serves the interest of all
shareholders
@ Owners economic welfare
@ Long run survival and
growth
@ Consider risk factors and
the time value of money
@Increase the market value
of the shares
@Value maximization of
equity shareholders by
increasing price per share
* Objective is not descriptive
* Not socially desirable
* Controversial point that it
increases firm’s value or
shareholder wealth
* Wealth maximization is
difficult when ownership
and management are
separated
MEASURING SHAREHOLDERS VALUE CREATION
Economic value added
EVA is a measure of performance evaluation employed
by Stewart & Co. It is now used to measure the surplus
value created by an investment or a portfolio of
investments.
EVA = Net profit after tax – Cost of capital x Capital invested
 Market value added
MVA is the sum total of all the present values of future
economic value added. It can also defined as
MVA = Current market value of the firm – Book value of capital employed
FINANCIAL DECISIONS & INTER RELATION OF FINANCIAL DECISIONS
FINANCIAL DECISIONS 
1. Investment
decision
INTER RELATION OF
FINANCIAL DECISION----
2. Financing
decision
3. Dividend
decision
INVESTMENT
DECISION
FINANCING
DECISION
DIVIDEND
DECISION
FINANCIAL MANAGEMENT CONCERNED WITH
1. FINANCING
DECISION
2. INVESTMENT
DECISION
3. DIVIDEND
DECISION
ANALYSIS
RISK
RETURN
RELATIONSHIP
TO ACHIEVE THE GOALS
OF WEALTH
MAXIMISATION
FACTORS INFLUENCING FINANCIAL DECISION
INTERNAL FACTORS
EXTERNAL FACTORS
A. State of economy
• Nature and size of business
B. Structure of capital and
• Expected return, cost, risk
C.
D.
E.
F.
money markets
Requirements of investors
Government policy
Taxation policy
Lending policy of financial
institutions
• Composition of assets
• Structure of ownership
• Trend of earnings
• Age of the firm
• Liquidity position
• Working capital requirements
• Conditions of debt agreements
RISK RETURN TRADE OFF
INVESTMENT DECISION
1. CAPITAL BUDGETING
2. WORKING CAPITAL
MANAGEMENT
RISK
MARKET
VALUE OF
THE FIRM
FINANCING DECISION
# CAPITAL STRUCTURE
RETURN
DIVIDEND DECISION
* DIVIDEND POLICY
FUNCTIONAL AREAS OF FM
∞ Determining financial
needs
∞ Selecting the sources of
funds
∞Financial analysis and
interpretation
∞Cost-Volume-Profit analysis
∞Capital budgeting
∞Working capital
management
∞Profit planning and control
∞Dividend policy
FUNCTIONS OF A FINANCE MANAGER
1.
2.
3.
4.
5.
Financial forecasting and
Planning
Acquisition of funds
Investment of funds
Helping in valuation
decisions
Maintain proper liquidity
FINANCIAL ENGINEERING
 Designing and developing new financial
instruments
# Formulating new processes
$ Formulating creative
solutions to financial problems.
ORGANISATION OF THE FINANCE FUNCTION
Board of Directors
Managing Director
Vice President
Production
Vice President
Finance
Financial
Controller
Planning &
Control
Additional
Funds
Annual
Reports
Cash
Management
Budgeting
Audit
Vice President
Sales
Treasures
Profit
Analysis
Protect
Funds &
Securities
Accounting
Payroll
Relation with
Banks & Financial
Institutions
The Financial Controller Vs. Treasurer
Treasurer
Controller
1
Provision of capital
1
Accounting
2
Relation with banks and other
financial institutions
2
Preparation of financial reports
3
Cash management
3
Reporting and interpreting
4
Receivables management
4
Planning and control
5
Protect funds and securities
5
Internal audit
6
Investors relations
6
Tax administration
7
audit
7
Reporting to government