CHAP 1 FM

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FINANCIAL MANAGEMENT

AUTHORS:

H.KENT BAKER

BRIGHAM

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Chapter No 1

INTRODUCTION TO

FINANCIAL MANAGEMENT

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INTRODUCTION

• Fia!ia" Maa#e$et i% that $aa#eria" a!ti&it' (hi!h i%

!o!ere) (ith the p"ai# a) !otro""i# o* the *ir$+%

*ia!ia" re%o,r!e%. It (a% a -ra!h o* e!oo$i!% ti"" 1/0a) a% a %eparate )i%!ip"ie it i% o* re!et ori#i.

• Fia!e $a' -e )e*ie) a% the pro&i%io o* $oe' at the

ti$e (he it i% re2,ire).

• Fia!e re*er% to the $aa#e$et o* *"o(% o* $oe'

thro,#h a or#ai3atio. It !o!er% (ith the app"i!atio o*

%4i""% i the $aip,"atio ,%e a) !otro" o* $oe'.

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Definition and Meaning of

Financial Management• According to F.W.Paish, “Finance may be defined as the position of

money at the time it i% (ate)5.

• According to the John J Hampton, “The term finance can be defined

as the $aa#e$et o* *"o(% o* $oe' thro,#h a or#ai3atio

(hether it (i"" -e a !orporatio %!hoo" -a4 or #o&er$et a#e!'5.

• According to Weston & Brigham, “Financial management is an area

of financial )e!i%io $a4i# har$oi3i# i)i&i),a" $oti&e% a)

eterpri%e #oa"%.

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• FINANCIAL MANAGEMENT IS THE

6ROCESS OF A7UIRING ANAL89ING

AND UTLI9ATION OF FUNDS FOR6RES6ER THE ORGANI9ATION

GOALS H.KENT;

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vo ut on o nanc a

Management

• Traditional Phase: In the traditional phase the focus of financial

management was on !ertai e&et% (hi!h re2,ire) *,)% e.#. $a<or

e=pa%io $er#er reor#ai3atio et!. It i% a"%o !hara!teri3e) -' a hea&'

e$pha%i% o "e#a" a) pro!e),ra" a%pe!t% a% at that poit o* ti$e the

*,!tioi# o* !o$paie% (a% re#,"ate) -' a p"ethora o* "e#i%"atio.

• Transitional Phase: During the transitional phase the nature of financialmanagement (a% the %a$e -,t $ore e$pha%i% (a% "ai) o pro-"e$% *a!e)

-' *ia!e $aa#er% i the area% o* *,) aa"'%i% p"ai# a) !otro".

• Modern Phase: The modern phase is characterized by the application of

economic theorie% a) the app"i!atio o* 2,atitati&e $etho)% o* aa"'%i%.

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Objectives of Finance

• The $aa#e$et o* *ia!e i% to a!hie&e *ia!ia" o-<e!ti&e%. The

*o""o(i# are the $ai o-<e!ti&e% o* *ia!e

To !reate (ea"th *or -,%ie%%To #eerate !a%h

To pro&i)e a)e2,ate ret,r o* i&e%t$et -eari# i $i) the ri%4 o*

-,%ie%% a) the re%o,r!e% i&e%te);

To e%,re that %,**i!iet *,) i% pro&i)e) at ri#ht ti$e to $eet the ee)%o* the B,%ie%%

S f Fi

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Scope of Finance• >hat i% *ia!e? >hat are a *ir$+% *ia!ia" a!ti&itie%? Ho( are the' re"ate) to the

*ir$+% other a!ti&itie%? Fir$% !reate $a,*a!t,ri# !apa!itie% *or pro),!tio o*

#oo)%@• %o$e pro&i)e %er&i!e% to !,%to$er%. The' %e"" their #oo)% or %er&i!e% to ear pro*it.

The' rai%e *,)% to a!2,ire $a,*a!t,ri# a) other *a!i"itie%. Th,% the three $o%t

• i$portat a!ti&itie% o* a -,%ie%% *ir$ are:

• 6ro),!tio

• Mar4eti#• Fia!e

• A *ir$ %e!,re% (hate&er !apita" it ee)% a) e$p"o'% it *ia!e a!ti&it'; i

a!ti&itie% (hi!h #eerate ret,r% o i&e%te) !apita" pro),!tio a) $ar4eti#

a!ti&itie%;.

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Functions of Financial Management• The *,!tio% o* rai%i# *,)% i&e%ti# the$ i

a%%et% a) )i%tri-,ti# ret,r% eare) *ro$ a%%et%to %hareho")er% are re%pe!ti&e"' 4o( a%

financing decision, inestment decision and

diidend decision.

Functions of Financial Management

• I&e%t$et De!i%io

• Fia!e De!i%io• Di&i)e) De!i%io

• Li2,i)it' De!i%io

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• Lo#ter$ *ia!ia" )e!i%io%:

Lo#ter$ a%%et$i= or i&e%t$et )e!i%io

Capita"$i= or *ia!i# )e!i%io

6ro*it a""o!atio or )i&i)e) )e!i%io

• Shortter$ *ia!ia" )e!i%io%:

Shortter$ a%%et$i= or "i2,i)it' )e!i%io

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Investment Decisions: A firms investment decisions involve

capital e=pe)it,re%. The' are there*ore re*erre) a% !apita"

-,)#eti# )e!i%io%. There i% a -roa) a#ree$et that the

!orre!t !,to** rate or the re!"ired rate of ret"rn oninestments is the opport"nity cost of capital. The opport"nity

cost of capital is the e#pected rate of ret"rn that an inestor

co"ld earn by inesting hi% or her $oe' i *ia!ia" a%%et% o*

e2,i&a"et ri%4.• Financing Decisions: A financing decision is the second

important function to -e per*or$e) -' the *ia!ia" $aa#er.

He or %he $,%t )e!i)e (he (here *ro$ a) ho( to a!2,ire

*,)% to $eet the *ir$+% i&e%t$et ee)%. The $i= o* )e-ta) e2,it' i% 4o( a% the *ir$+% capital str"ct"re. The

financial $aa#er $,%t %tri&e to o-tai the -e%t *ia!i# $i=

or the optim"m capital str"ct"re for his or her firm.

• .

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• Dividend Decisions: A dividend decision is the third ma!or financial

decision" The *ia!ia" $aa#er $,%t )e!i)e (hether the *ir$ %ho,")

)i%tri-,te a"" pro*it% or retai the$ or )i%tri-,te a portio a) retai the

-a"a!e. The proportio o* pro*it% )i%tri-,te) a% )i&i)e) i% !a""e) the diidend$

payo"t ratio a) the retaie) portio o* pro*it% i% 4o( a% the retention ratio "• #i$uidity Decision: Investment in current assets affects the firms

profitability a) "i2,i)it'. Maa#e$et o* !,rret a%%et% that a**e!t% a *ir$

"i2,i)it' i% 'et aother i$portat *ia!e *,!tio. A proper tra)eo** $,%t -e

a!hie&e) -et(ee pro*ita-i"it' a) "i2,i)it'. The profitability$li!"idity trade$

off re2,ire% that the *ia!ia" $a#er %ho,") )e&e"op %o,) te!hi2,e% o*$aa#i# !,rret a%%et%

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Role of Financial Management in the Organization• Finance and Management Functions: There e%ists an inseparable

relationship between *ia!e o the oe ha) a) pro),!tio $ar4eti# a)

other *,!tio% o the other. A"$o%t a"" -,%ie%% a!ti&itie% )ire!t"' or

i)ire!t"' i&o"&e the a!2,i%itio a) ,%e o*

• *,)%. For e=a$p"e re!r,it$et a) pro$otio o* e$p"o'ee% i pro),!tio

i% !"ear"' a re%po%i-i"it' o* the pro),!tio )epart$et@ -,t it re2,ire%

pa'$et o* (a#e% a) %a"arie% a) other -ee*it% a) th,% i&o"&e% *ia!e.

• &eal and Financial Assets: A firm re$uires real assets to carry on itsbusiness" Tangible real assets are physical assets that incl"de plant,

machinery, office, factory, f"rnit"re a) -,i")i#. %ntangible real assets

incl"de technical no'$ho', technological !o""a-oratio% patet% a)

!op'ri#ht%. Fia!ia" a%%et% a"%o !a""e) %e!,ritie% are *ia!ia" paper% or

i%tr,$et% %,!h a% %hare% a) -o)% or )e-et,re%. Fir$% i%%,e %e!,ritie% toi&e%tor% i the pri$ar' !apita" $ar4et% to rai%e e!e%%ar' *,)%. The

%e!,ritie% i%%,e) -' the *ir$% are tra)e) -o,#ht a) %o") -' i&e%tor% i

the %e!o)ar' !apita" $ar4et% re*erre) to a% %to!4 e=!ha#e%.

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• '$uity and (orrowed Funds:

There are two types of funds that a firm can raise: e$uity *,)%

%i$p"' !a""e) e2,it'; a) -orro(e) *,)% !a""e) )e-t;. A *ir$

%e""% %hare% to a!2,ire e2,it' *,)%. Share% repre%et o(er%hipri#ht% o* their ho")er%. B,'er% o* %hare% are !a""e) %hareho")er% or

%to!4ho")er%; a) the' are "e#a" o(er% o* the *ir$ (ho%e %hare%

the' ho"). Shareho")er% i&e%t their $oe' i the %hare% o* a

!o$pa' i the e=pe!tatio o* a ret,r o their i&e%te) !apita".

The ret,r !o%i%t% o* )i&i)e) a) !apita" #ai. Shareho")er%

$a4e !apita" #ai% or "o%%e%; -' %e""i# their %hare%

Th i * i * h

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The $ai *,!tio% o* the

*ia!ia" $aa#er :• F,)% Rai%i#

• F,)% A""o!atio

• 6ro*it 6"ai#

• U)er%ta)i# Capita" Mar4et%

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Agency heory

• Agency Theory A gency Theory i% a -ra!h o* e!oo$i!%

re"ati# to the -eha&ior o* pri!ipa"% a)their a#et%.

e%e a) Me!4"i# )e&e"ope) a

theor' o* the *ir$ -a%e) o agencyagencytheorytheory.

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Agency heory

• I!eti&e% i!",)e %to!4 optio% per2,i%ite%%to!4 optio% per2,i%ite%a) -o,%e% -o,%e%.

6ri!ipa"% $,%t pro&i)e incentiesincenties %o that

$aa#e$et a!t% i the pri!ipa"% -e%t

itere%t% a) the monitor monitor re%,"t%.

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Social Responsibility

• >ea"th $a=i$i3atio )oe% not pre!",)e the

*ir$ *ro$ -ei# %o!ia""' re%po%i-"e%o!ia""' re%po%i-"e.

• A%%,$e (e &ie( the *ir$ a% pro),!i# both pri&ate a) %o!ia" #oo)%.

• The %hareho")er %hareho")er (ea"th(ea"th $a=i$i3atio$a=i$i3atio

re$ai% the appropriate #oa" i #o&eri# the*ir$.

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!orporate "overnance

• (orporate goernance) represents the system

by 'hich corporations are managed and

controlled . I!",)e% %hareho")er% -oar) o* )ire!tor%

a) %eior $aa#e$et.

• The %hareho")er %hareho")er (ea"th(ea"th $a=i$i3atio$a=i$i3atio re$ai% the appropriate #oa" i #o&eri# the

*ir$.

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#oard of Directors

• T'pi!a" re%po%i-i"itie%: Set !o$pa'(i)e po"i!'@

A)&i%e the CEO a) other %eior e=e!,ti&e%@

Hire *ire a) %et the !o$pe%atio o* the CEO@

Re&ie( a) appro&e %trate#' %i#i*i!at i&e%t$et% a)

a!2,i%itio%@ a)

O&er%ee operati# p"a% !apita" -,)#et% a) *ia!ia" report% to

!o$$o %hareho")er%.

• CEOChair$a ro"e% !o$$o"' %a$e per%o i US -,t

%eparate i Britai US $o&i# thi% )ire!tio;.

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Sarbanes$O%ley Act of &''&

• Sar-ae%O="e' A!t o* 00 SO;: a))re%%e% !orporate#o&era!e a,)iti# a) a!!o,ti# e=e!,ti&e !o$pe%atioa) eha!e) a) ti$e"' )i%!"o%,re o* !orporate i*or$atio

I$po%e% e( pea"tie% *or &io"atio% o* %e!,ritie% "a(% E%ta-"i%he) the 6,-"i! Co$pa' A!!o,ti# O&er%i#ht

Boar) 6CAOB; to a)opt a,)iti# 2,a"it' !otro" ethi!%)i%!"o%,re %ta)ar)% *or p,-"i! !o$paie% a) theira,)itor% a) po"i!i# a,thorit'

Geera""' i!rea%i# the %ta)ar)% *or !orporate#o&era!e

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Organization of the Financial

Management Function

Boar) o* Dire!tor%

6re%i)et

Chie* E=e!,ti&e O**i!er;

i!e 6re%i)et

Operatio%

i!e 6re%i)et

Mar4eti#

6 o*

Fia!e

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Trea%,rer Capita" B,)#eti#

Ca%h Maa#e$et

Cre)it Maa#e$et

Di&i)e) Di%-,r%e$etFi Aa"'%i%6"ai#

6e%io Maa#e$et

I%,ra!eRi%4 M#$t

Ta= Aa"'%i%6"ai#

Organization of the Financial

Management Function

6 o* Fia!e

Cotro""er Co%t A!!o,ti#

Co%t Maa#e$et

Data 6ro!e%%i#

Geera" Le)#er Go&er$et Reporti#

Itera" Cotro"

6repari# Fi St$t%

6repari# B,)#et%

6repari# Fore!a%t%

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THANKYOU

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