 Finance is the set of activities dealing with the management of funds
 Finance is also the science and art of determining if the funds of an organization are being used properly
 Finance studies and addresses the ways in which individuals, businesses, and organizations raise, allocate and use monetary resources over time, taking into account the risks entailed in their projects

 Public finance (Government Finance)
Public finance means collection of money through taxes or other sources and management of revenue and expenditure by the government
 Corporate finance (Business Finance)
 Personal finance
Involve paying for education, financing durable goods, buying insurance, investing and saving for retirement etc.

 Marketing & Sales
 Production & Operations
 Finance

 Corporate Finance refers to any decisions made by a firm that will have an impact on its financial position.
 These decisions may be from production, marketing or any other department and are assumed to have a strategic impact.
 These decisions are:
◦
Investment Decisions
◦
Financing Decisions
◦
Dividend Decisions

 Aditya Birla Group to invest $ 500 mn in Turkey
 NTPC Ltd to invest Rs 18,346 crore in 2 projects
 Groupe SEB buys 55% in Maharaja Whiteline
 Srei Equipment Finance, a unit of SREI Infrastructure
Finance is planning to raise Rs 700 million rupees via
5-year 7-month bonds at 12.60 percent

 Goodwill Hospital and Research Centre, a multi speciality hospital in Noida under the name " Ojjus Medicare", is entering the capital market to raise Rs 62 crore with its initial public offer on December 30, 2011
 Liquor maker United Spirits said late on Wednesday its board approved raising up to $225 million via foreign currency convertible bonds ( FCCBs) to cut high cost debt and help improve earnings.

Nestlé India Ltd has declared second interim dividend of Rs.
27.00 per equity share for the year 2011

The financial management is generally concerned with procurement, allocation and control of financial resources of a concern. The objectives can be-
 To ensure regular and adequate supply of funds to the concern.
 To ensure adequate returns to the shareholders which will depend upon the earning capacity, market price of the share, expectations of the shareholders.
 To ensure optimum funds utilization. Once the funds are procured, they should be utilized in maximum possible way at least cost.
 To ensure safety on investment, i.e. funds should be invested in safe ventures so that adequate rate of return can be achieved.
 To plan a sound capital structure-There should be sound and fair composition of capital so that a balance is maintained between debt and equity capital.

 The scope of financial management can be broken down into three major decisions as functions of finance:
◦
What long-term investments should the firm take on?
◦
Where will we get the long-term financing to pay for the investment?
◦
How will we manage the everyday financial activities of the firm?

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What long-term investments or projects should the business take on?
Main elements:
◦
Long term assets and their composition
◦
Risk
◦
The concept and measurement of the cost of capital
Magnitude of cash flows, timing and riskiness of the cash flows are crucial to consider

 They influence the firm’s growth in the long run
 They affect the risk of the firm
 They involve the commitment of large amount of funds
 They are irreversible, or reversible at substantial loss
 They are among the most difficult decisions to make

 Working capital management
◦
How do we manage the day-to-day finances of the firm?
Trade-off between profitability and liquidity
Overall Working Capital management
Efficient management of the individual current assets



Capital structure
◦
How should we pay for our assets?
◦
Should we use debt or equity?
Capital Structure theory
Capital Structure decision o o

How to deal with the profits of a firm?
How much profits should be distributed to the shareholders and how much to retain in the business?

 What a firm should attempt to achieve with its investments, financing and dividend policy decisions
 Profit maximization (profit after tax)
 Maximizing earnings per share
 Wealth maximization
But WHOSE WEALTH?
The real reason behind failure in defining the proper objective is the conflict between stakeholders of the firm.

 Stockholders or Owners
 Bondholders or Lenders
 Employees
 Financial Markets
 Society

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
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Maximizing the rupee income of firm
Resources are efficiently utilized
Appropriate measure of firm performance
Serves interest of society also
 o o o o o o o o
Objections to Profit Maximization
It is Vague
It Ignores the Timing of Returns
It Ignores Risk
In new business environment profit maximization is regarded as
Unrealistic
Difficult
Inappropriate
Immoral

 Maximising PAT or EPS does not maximise the economic welfare of the owners.
 Ignores timing and risk of the expected benefit
 Market value is not a function of EPS.
 Maximizing EPS implies that the firm should make no dividend payment so long as funds can be invested at positive rate of return—such a policy may not always work.

 Maximizes the net present value of a course of action to shareholders.
 Accounts for the timing and risk of the expected benefits.
 Benefits are measured in terms of cash flows.
 Fundamental objective—maximize the market value of the firm’s shares.

CRITIQUE AND DEFENCE OF SHAREHOLDER WEALTH MAXIMISATION GOAL
Critique
• The capital market sceptics argue that stock prices fail to reflect true values
• The balancers argue that a firm should seek to
‘balance’ the interests of various stakeholders
Defence
• Financial economists argue that stock prices are the least biased estimates of intrinsic values in developed markets
• Balancing the interests of various stakeholders is not a practical governing objective
• Advocates of social responsibility argue that a business firm must assume wider social responsibilities
• The only social responsibility of business is to create value and do so legally and with integrity

 In your own words, explain the role and importance of financial management to a manufacturer whose objective is to improve quality

 to make sure there are sufficient funds for the organisation to buy all the resources it needs to achieve its objectives i.e.
appropriate quality of raw materials, correctly trained staff, well maintained machinery
 to make sure there is enough money to recruit and train appropriately skilled staff to satisfy the objective of improving quality.
 to make sure that all the costs/expenses are under control
 to make sure that the organisation is performing profitably and efficiently without compromising quality
 to reduce costs of raw materials by ensuring the best value for money from suppliers.

 Estimation of capital requirements
 Determination of capital composition
 Choice of sources of funds
 Investment of funds
 Disposal of surplus
 Management of cash
 Financial controls

Stockholders
Hire/Fire &
Control Managers
Maximize Stockholder’s
Wealth
Lend Money Trace Economic Cost
& Returns
Bondholders
Provide Debt Service &
Protect their Interests
Managers taking
Financial Decisions
Real & True
Information
No Negative
Social Impact
Market Price
= True Value
Society
Financial Markets

 The Agency Theory was first introduced by Jensen and Meckling in 1976.
 This theory explains how the conflict between various stakeholders can result in sub-optimal allocation of resources.
 Agency relationship exists when one party (the principal) hires another party (the agency) to perform some services and in doing so, delegates DM (Decision Making) authority to the agent.
 Shareholders are principal and CEO is the agent; if CEO is principal then managers are agents.


Divergent Objectives

Non-observability of Agent’s Actions

Stockholders
Have Little Control
Maximize Managers Interest at
Stockholder’s Expense
Lend Money
Cannot Trace Cost
Bondholders
Exploitation by Owners &
Default in Payments
Delayed &
Managers taking
Financial Decisions
Misleading Information
Negative
Social Impact
Market Price
≠ True Value
Society
Financial Markets

 Agency costs include the less than optimum share value for shareholders and costs incurred by them to monitor the actions of managers and control their behaviour.

 Managerial compensation
◦
Attractive monetary and non monetary incentives
◦
Incentives can be used to align management and stockholder interests
◦
Close monitoring by stakeholders, board of directors and outside analysis
◦
The threat of firing
◦
The threat of takeover
1.28

Stockholders
Control by Incentive
& Other Systems
Maximize Stockholder’s
Wealth
Lend Money
Laws & Regulations
Bondholders Managers taking
Financial Decisions
Put Stringent Covenants
To Safeguard interests
Information from
Various Sources
& Legal Remedies
Negative Social
Impact Reduced
Market Price
≈ True Value
Society
Financial Markets

The importance of the finance function depends on the size of the firm. Financial management is an integral part of the overall management of the firm. In small firms, the finance functions are generally performed by the accounting departments. In large firms, there is a separate department of finance headed by a specialist known by different designations such as vice-president, director of finance, chief finance officer and so on.

Board of Directors
Managing Director/Chairman
Vice-President/Director (Finance)/Chief Finance Officer (CFO)
Treasurer
Financial planning and fund-raising manager
Cash
Manager
Credit
Manager
Foreign exchange manager
Tax manager
Controller
Cost accounting manager
Capital expenditure manager
Pension fund manager
Corporate accounting manager
Financial accounting manager
Organization of Financial Management Function


 http://business.gov.in/starting_business/loc ation_industry.php
http://www.scribd.com/doc/40015911/Form s-of-Business-Organization-Indian-Context

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Key macro-economic factors like the growth rate of the economy, the domestic savings rate, the role of the government in economic affairs, the tax environment, the nature of external economic relationships, the availability of funds to the corporate sector, the rate of inflation, the real rate of interests, and the terms on which the firm can raise finances define the environment in which the firm operates. No finance manager can afford to ignore the key developments in the macro economic sphere and the impact of the same on the firm.

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Growth
Control of inflation
Full employment
External balance (or Balance of payments)