Financial Management And Its Basic Aspects For Businesses

Financial management comprises of forecasting, planning, organizing, directing, co-ordinating and controlling of all activities relating to acquisition and application of the financial resources of an undertaking while keeping in view its financial objective.

Financial Management is concerned with managerial decisions that result in the acquisition and financing of short-term and long-term credits for the firm.

Financial management deals with procurement of funds and their effective utilization in the business.

Financial management entails planning for the future of a person or a business enterprise to ensure a positive cash flow. It includes the administration and maintenance of financial assets. Besides, financial management covers the process of identifying and managing risks.

The primary concern of financial management is the assessment rather than the techniques of financial quantification. A financial manager looks at the available data to judge the performance of enterprises. Managerial finance is an interdisciplinary approach that borrows from both managerial accounting and corporate finance.

Some experts refer to financial management as the science of money management. The primary usage of this term is in the world of financing business activities. However, financial management is important at all levels of human existence because every entity needs to look after its finances.

Financial Management: Levels

Broadly speaking, the process of financial management takes place at two levels. At the individual level, financial management involves tailoring expenses according to the financial resources of an individual. Individuals with surplus cash or access to funding invest their money to make up for the impact of taxation and inflation. Else, they spend it on discretionary items. They need to be able to take the financial decisions that are intended to benefit them in the long run and help them achieve their financial goals.

The management of all the processes associated with the efficient acquisition and deployment of both short and long-term financial resources.

Basic Aspects of Financial Management
There are two basic aspects of financial management viz., procurement of funds and effective use of these funds to achieve business objectives.

1.Procurement Of Funds
oFunds can be obtained from different sources
oThe sources may be;
Equity share capital
Preference share capital
Long-term loans
Debentures
oFunds may be procured by way of Commercial paper, Deep Discount Bonds, Foreign Direct Investment (FDI), Foreign Institutional Investors (FII), American Depository Receipts (ADR), Global Depository Receipts (GDR) etc.
oDifferent sources have different characteristics.
oProcurement involves two different segments:
i.Identification of the source of fund &
ii.Selecting the finance mix.
oBefore selecting/choosing the finance mix, finance manager has to consider the characteristics of the source of funds.
oThe characteristics of source of funds are;
Risk,
Cost &
Control
oThe cost of funds should be at the minimum level, for which a proper balancing of risk and control factors must be carried out.


2. Effective Utilization of Funds
All the funds are procured at a certain cost and after entailing a certain amount of risk.


Since the procurement itself involves cost, it should be used properly & profitably.


The finance manager is also responsible for effective utilization of funds.


The funds once procured cannot be left to remain idle.


Situations where the funds are being kept idle or where proper use of funds is not being made should be identified.


If these funds are not utilized in the manner that they generate an income higher than the cost of procuring them, there is no point in running the business.


The funds are to be invested in such a way that the business yields maximum return along with maintaining its solvency.


Thus, financial implications of each decision to invest in fixed assets are to be properly analyzed.


For this, the finance manager would be required to possess sound knowledge of techniques of capital budgeting.


He must also keep in view the need for adequate working capital and ensure that while the firms enjoy an optimum level of working capital, they do not keep too much funds blocked in inventories, book debts and cash, etc.
He must also keep in view the need for adequate working capital and ensure that while the firms enjoy an optimum level of working capital, they do not keep too much funds blocked in inventories, book debts and cash, etc.

Characteristics of Source of Funds (Nov.2003, May 2006)
Type of fund
1. Own funds (Equity)

a. Risk
Low risk:
1. No question of repayment of capital except when the company is under liquidation.
2. Hence, best from the view point of risk.

b. Cost
High cost:
1. Most expensive
2. Dividend expectations of shareholders are higher than interest rates.
3. Also, dividends are not tax-deductible.

c. Control

Dilution of control
Since the capital base might be expanded and new shareholders / public are involved.

2. Loan Funds

High risk:

1. Principal amount should be repaid as per agreement.
2. Interest should be paid irrespective of performance or profits.
Low Cost:

1. Comparatively cheaper.
2. Interest rates are considered only after tax impact.

No dilution of control

There is no voting power for loan fund holders except in special situations.

Evolution of Financial Management
1. Traditional Phase
During this phase, financial management was considered necessary only during occasional events such as takeovers, mergers, expansion, liquidation, etc. Also, when taking financial decisions in the organization, the needs of outsiders (investment bankers, people who lend money to the business and other such people) to the business was kept in mind.


2. Transitional Phase

During this phase, the day-to-day problems that financial managers faced were given importance. The general problems relating to funds analysis, planning and control were given more attention in this phase.
3. Modern Phase

Currently business environment is going through Modern phase. The scope of financial management has greatly increased now. It is important to carry out financial analysis for a company. This analysis helps in decision making. During this phase, many theories have been developed regarding efficient markets, capital budgeting, option pricing, valuation models and also in several other important fields in financial management.

Objectives of Financial Management (Nov 2002, May 2003)
There are two basic objectives of Financial Management.

Profit Maximization

The intention behind starting a business is to earn profit.
This implies that the finance manager has to make his decisions in a manner so that the profits of the concern are maximized.
Each alternative has to be analyzed to find out whether it yields maximum profit or not.
It is the main objective of business because:
oprofit acts as a measure of efficiency
oIt serves as a protection against risk
Future is uncertain. A firm should earn more and more profit to meet the future contingencies.
Profit maximization is justified on the grounds of rationality as profits act as a measure of efficiency and economic prosperity.
Arguments against Profit Maximization (Nov 2007)

However, profit maximization cannot be the sole objective of a company.
It is at best a limited objective.
It leads to exploitation of workers and consumers.
It ignores the risk factor associated with profit.
Profit in itself is a vague concept and means differently to different people.
It is a narrow concept at the cost of social and moral obligations.
If profit is given undue importance, many problems can arise.