FINANCE (DEFINITION, SCOPE, OBJECTIVES, DECISIONS)

📌DEFINITION AND FUNCTION - the art and science of managing money that includes
financial service and financial instruments. It is also referred to as the provision of money at the

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time when it is needed.

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The concept of finance includes capital, funds, money, and amount.
Finance is central to all business activities.
Finance function: reconciles the conflicting interests of varied stakeholders and different
functional units.

“Business finance is that business activity which concerns with the acquisition and conversation
of capital funds in meeting financial needs and overall objectives of a business enterprise”

Corporate finance is concerned with budgeting, financial forecasting, cash management, credit
administration, investment analysis and fund procurement of the business concern and the
business concern needs.

📌TYPES OF FINANCE
PERSONAL - related with the individuals and the strategies depend on the individuals earning
potential
CORPORATE - is about funding the company’s expenses and building the capital structure of
the company.
PUBLIC/GOVERNMENT - related with the allocation of funds and money by the government
into different areas.

📌TWO PILLARS OF FINANCE

RETURN - refers to income from a security after a defined period.
RISK - refers to uncertainty over the future to get this return.

OBJECTIVES OF FINANCIAL MANAGEMENT

Financial Management is concerned with effective utilization of funds that’s why the
financial manager must determine the basic objectives of the financial management. Objectives
of Financial Management may be broadly divided into two parts such as:
1. Profit maximization

2. Wealth maximization

Profit Maximization - is the capability of a business or company to earn the maximum profit
with low cost which is considered as the chief target of any business. According to financial
management, profit maximization is the traditional approach or process which increases the
profit or Earnings per Share (EPS) of the business.

Important Features of Profit Maximization:

● It can lead to maximizing the business operations.

● Profit is the parameter of measuring the efficiency of the business.
● Helps to reduce the risk of the business.

Some Drawbacks of Profit Maximization:

● It can lead to exploiting workers and consumers.

● It creates immoral practices such as corrupt practice, unfair trade practice, etc.
● Leads to inequalities among stakeholders such as customers, suppliers, public
stakeholders etc.

Wealth Maximization - is one of the modern approaches, which involves latest innovations and
improvements in the field of the business concern. The term wealth means shareholder wealth
or the wealth of the persons those who are involved in the business concern. Wealth
maximization is also known as value maximization or net present worth maximization. This
objective is an universally accepted concept in the field of business.

Favorable Arguments for Wealth Maximization:

● Wealth maximization is superior to profit maximization - because the main aim of the
business concern under this concept is to improve the value or wealth of the
shareholders.
● It ensures the economic interest of the society
● Provides efficient allocation of resources
Unfavorable Arguments for Wealth Maximization:

● Wealth maximization is nothing - it is also profit maximization, it is the indirect name of

the profit maximization.
● Wealth maximization creates ownership-management controversy.
● Management alone enjoys certain benefits.

DECISIONS IN FINANCE
INVESTMENT DECISION
Investment decision is concerned with the selection of assets in which funds will be invested by
a firm. Most important financial decisions as funds available are limited and need to be utilized
properly.

•Further divided into two types

-Long term investment or Capital Budgeting
-Short term investment or Working Capital Management
•Capital Budgeting Decision
This decision has to do with the careful selection of the assets
in which the firms' funds are invested. The firm invests its funds in current assets.
•Factors affecting Investment Decisions
Decisions for long-term investment are important to business as they involve large amounts of
cash within a long time period as well as being irreversible.
- Cash flow of the project
When a company spends significant sums of money on an investment plan, it expects some
regular amount of cash flow to fulfill daily needs.
- Return in Investment
The most crucial factor in choosing an investment proposal is the amount of income it can
provide for the firm in the form of a return.
- Risk involved
The company must try to calculate the risk involved in every proposal and should prefer the
investment proposal with moderate degree of risk only.
- Investment Criteria
These are various other criteria that help in selecting an investment proposal such as availability
of technologies, input, machinery, etc.
•The importance or Scope of Capital Budgeting Decision
- Long term-growth
Long-term investments provide returns in the future, and the future prospects and business
success are solely dependent on these choices.
- Large amout of funds involved
In long term project of funds that is why capital budgeting decisions are taken in after
considering various factors.
- Risk involved
Company has to bear the risk for a long period of time till the return start coming.
- Irreversible decision
These decisions are costly and involve a lot of money, thus changing one's mind or reversing
one's decision could lead to significant financial loss.

FINANCING DECISION

WHAT IS FINANCING DECISIONS?

● Refer to the decisions that companies need to take regarding what proportion of equity
and debt capital to have in their capital structure.
● These decisions have to do with getting the best financing to achieve financial goals and
making sure that fixed and working capital are efficiently managed.

The financial manager needs to possess a good knowledge of the sources of available funds
and their respective costs and needs to ensure that the company has a sound capital structure,
i.e. a proper balance between equity capital and debt.

Managers also need to have a very clear understanding as to the difference between profit and
cash flow, bearing in mind that profit is of little avail unless the organization is adequately
supported by cash to pay for assets and sustain the working capital cycle.

FACTORS AFFECTING FINANCING DECISIONS:

1. Cost: Different ways of getting money cost different amounts, and finance managers
always choose the way that costs the least.
2. Risk: When you borrow money, you take on more risk than when you invest your own
money. The finance manager weighs the risk against the cost and prefers investments
with moderate risk.
3. Cash Flow Position: The company's cash flow also helps in choosing the securities.
Companies can easily buy borrowed fund securities when their cash flow is steady and
steady, but when they don't have enough cash flow, they can only buy owner's fund
securities.
4. Control Considerations: If the current shareholders want to keep full control of the
business, they prefer borrowed fund securities as a way to raise more money. On the
other hand, they may choose owner's fund securities if they don't mind losing control.
5. Floatation Cost: It means the cost of issuing securities, such as the broker's fee, the
underwriter's fee, the cost of the prospectus, etc. The company likes to buy securities
that have the lowest floatation cost.

DIVIDEND DECISION
MEANING AND FACTORS AFFECTING DIVIDEND DECISION

Financial Management is concerned with the management of the flow of funds and involves
decisions related to the acquisition and application of funds in long-term and short-term assets.
It is concerned with two aspects, they are procurement of funds and usage of finance.

Financial decision refers to the decision related to financial matters of a business firm. There
are various financial decisions that the firm makes to maximize shareholders’ wealth. There are
three major decisions that every financial management takes investment decision, financial
decision, and dividend decision.

DIVIDEND DECISION

Ø Dividend decision relates to how much of the company's net profit is to be distributed
to the shareholders and how much of it should be retained in the business for
meeting the investment requirements. This decision should be taken keeping in
mind the overall objective of maximizing shareholders' wealth.

Ø The dividend is that portion of the profit that is distributed to the shareholders. The
decision involved here is how much of the profit earned by the company after paying
the taxes is to be distributed to the shareholders. It also includes the part of the
profit that should be retained in the business. When the current income is
reinvested, the retained earnings increase the firm’s future earning capacity. This
extent of retained earnings also influences the financing decision of the firm. The
dividend decision should be taken keeping in view the overall objective of
maximizing shareholders’ wealth.

Factors affecting Dividend Decision

There are various factors that affect the dividend decision. These are as follows:
Amount of Earnings: Dividends are paid out of the current and previous year’s earnings. More
earnings will ensure greater dividends, whereas fewer earnings will lead to the declaration of a
low rate of dividends.
The main factors affecting dividend decisions

* Amount of Earnings: Dividends are paid out of current and past earnings. Thus, earnings are
a major determinant of dividend decisions.

* Stability in Earnings: A company having higher and stable earnings can declare higher
dividends than a company with lower and unstable earnings.

* Stability of Dividends: Generally, companies try to stabilise dividends per share. A steady
dividend is given each year. A change is only made if the company's earning potential has gone
up and not just the earnings of the current year.
* Growth Opportunities: Companies having good growth opportunities retain more money out
of their earnings so as to finance the required investment. Therefore the dividend declared in
growth companies is smaller than that in the non-growth companies.

* Cash Flow Position: Dividend involves an outflow of cash. Availability of enough case is
necessary for payment or declaration of dividends.

* Shareholders' Preference: While declaring dividends, the management must keep in mind
the preferences of the shareholders. Some shareholders in general desire that at least a certain
amount is paid as dividend. The companies should consider the preferences of such
shareholders.

* Taxation Policy: If the tax on dividends is higher, it is better to pay less by way of dividends.
But if the tax rates are lower, higher dividends may be declared. This is because as per the
current taxation policy, a dividend distribution tax is levied on companies. However,
shareholders prefer higher dividends, as dividends are tax-free in the hands of shareholders.

* Stock Market Reaction: Generally, an increase in dividends has a positive impact on the
stock market and vice-versa. Thus, while deciding on dividends, this should be kept in mind.

* Access to Capital Market: Large and reputed companies generally have easy access to the
capital market and, therefore, may depend less on retained earnings to finance their growth.
These companies tend to pay higher dividends than smaller companies.

* Legal Constraints: Certain provisions of the Companies Act place restrictions on payouts as
the dividend. Such provisions must be adhered to while declaring the dividend.

* Contractual Constraints: While granting loans to a company, sometimes, the lender may
impose certain restrictions on the payment of dividends in the future. The companies are
required to ensure that the dividend payout does not violate the terms of the loan agreement in
this regard.

TYPES OF DIVIDEND DECISION

1. CASH DIVIDEND – shareholders are paid in cash per share.

2. STOCK DIVIDEND – bonus share called stock dividend
3. BOND DIVIDEND - a fixed rate of interest
4. PROPERTY DIVIDEND - a dividend paid to investors with assets other than cash
5. SCRIP DIVIDEND - which shareholders have the option to receive in the form of additional
shares in the company instead of cash. The main benefit for a company of a scrip dividend
is that it retains cash for use in the business.
6. LIQUIDATING DIVIDEND - a type of payment that a corporation makes to its shareholders
during a partial or full liquidation
DIVIDEND POLICY

Ø Financial decision that refers to the proportion of the firm's earnings to be paid out to the
shareholders.

1. REGULAR DIVIDEND POLICY - Investors receive regular dividend payouts from the rental
income, also making a profit when eventually selling the shares.

2. IRREGULAR DIVIDEND POLICY - shareholders are not guaranteed dividends.

IMPORTANCE OF DIVIDEND DECISION

Ø Dividend decisions are important because they determine what funds flow to investors and
what funds are retained by the firm for investment. Dividend yield has a significant positive
effect on share price while retained earnings ratios have a significant negative effect on it.

DIVIDEND POLICY AND ITS IMPORTANCE

Ø A dividend policy is the policy a company uses to structure its dividend payout to
shareholders. Some researchers suggest the dividend policy is irrelevant, in theory, because
investors can sell a portion of their shares or portfolio if they need funds.

WORKING CAPITAL MANAGEMENT

Introduction
Working capital management is also one of the important parts of financial management. It is
concerned with short-term finance of the business concern which is a closely related trade
between profitability and liquidity.
Working capital is described as the capital which is not fixed but the more common uses of the
working capital is to consider it as the difference between the book value of current assets and
current liabilities.
Meaning
Working Capital is another part of the capital which is needed for meeting day to day
requirements of the business concern. It can be easily converted into cash. Hence, it is also
known as short-term capital.
Definitions
Mead, Baker and Malott
- “Working Capital means Current Assets”
J.S.Mill
- “The sum of the current asset is the working capital of a business”.
Weston and Brigham
- “Working Capital refers to a firm’s investment in short-term assets, cash, short-term
securities, accounts receivables and inventories”
Bonneville
- “Any acquisition of funds which increases the current assets, increase working
capital also for they are one and the same”
Shubin
- “Working Capital is the amount of funds necessary to cover the cost of operating the
enterprises”
Genestenberg
- “Circulating capital means current assets of a company that are changed in the ordinary
course of business from one form to another

Concept of Working Capital

Gross Working Capital
- Gross Working Capital is the general concept which determines the working capital
concept.

Net Working Capital

- Net Working Capital is the specific concept, which, considers both current assets
and current liability of the concern.

GWC = CA (Gross Working Capital)

NWC = CA - CL (Net Working CApital)

TYPES OF WORKING CAPITAL

- Working Capital may be classified into three important types on the basis of time.
Permanent Working Capital
- It is also known as Fixed Working Capital. It is the capital; the business concern must
maintain a certain amount of capital at minimum level at all times.

Temporary Working Capital

- It is also known as variable working capital. It is the amount of capital which is required
to meet the Seasonal demands and some special purposes.
- It can be further classified into Seasonal Working Capital and Special Working Capital.

Semi Variable Working Capital

- Certain amount of Working Capital is in the field level up to a certain stage and after that
it will increase depending upon the change of sales or time.