Prof.P.S.
Ravindra
FINANCE – AN INTRODUCTION
Introduction to Finance-Significance of Finance-Features of Finance-Types of Finance- Business
Finance- Direct Finance-Indirect Finance-Public Finance-Private Finance-Corporate Finance-
Finance in Relation to other Allied Disciplines- Discussion Questions
INTRODUCTION:
In spite of challenging economic climate, Indian economy is set for an exciting growth
and a substantial component of this growth potential is dependent on the financial sector.
Finance is the lifeblood and nerve center of a business, just as circulation of blood is essential in
the human body for maintaining life; finance is a very essential to smooth running of the
business. It has been rightly termed as universal lubricant that keeps the enterprise dynamic. No
business, whether big, medium or small can be started without an adequate amount of finance.
Right from the very beginning, i.e. conceiving an idea to business, finance is needed to promote
or establish the business, acquire fixed assets, make investigations such as market surveys, etc.,
develop product, keep men and machine at work, encourages management to make progress and
create values. Even an existing concern may require further finance for making improvement or
expanding the business. Thus the importance of finance cannot be over-emphasized and the
subject of business finance has become utmost important both to the academicians and practicing
managers. The academicians find interested in the subject because the subject is still in its
developing stage and the practicing managers are interested in the subject because among the
most crucial decisions of a firm.
MEANING OF FINANCE:
If we trace the origin of finance, there is evidence to prove that it is as old as human life
on earth. The word finance was originally a French word. In the 18th century, it was adapted by
English speaking communities to mean “the management of money.” Since then, it has found a
permanent place in the English dictionary. Today, finance is not merely a word else has emerged
into an academic discipline of greater significance. Finance is now organized as a branch of
Economics.
Furthermore, the one word which can easily replace finance is “EXCHANGE." Finance
is nothing but an exchange of available resources. Finance is not restricted only to the exchange
and/or management of money. A barter trading system is also a type of finance. Thus, we can
say, Finance is an art of managing various available resources like money, assets, investments,
securities, etc.
At present, we cannot imagine a world without Finance. In other words, Finance is the
soul of our economic activities. To perform any economic activity, we need certain resources,
which are to be pooled in terms of money (i.e. in the form of currency notes, other valuables,
etc.). Finance is a prerequisite for obtaining physical resources, which are needed to perform
productive activities and carrying business operations such as sales, pay compensations, reserve
for contingencies (unascertained liabilities) and so on.
Hence, Finance has now become an organic function and inseparable part of our day-to-
day lives. Today, it has become a word which we often encounter on our daily basis.
Prof.P.S.Ravindra
DEFINITION OF FINANCE
Finance is defined in numerous ways by different groups of people. Though it is difficult
to give a perfect definition of Finance following selected statements will help you deduce its
broad meaning.
In General sense, "Finance is the management of money and other valuables, which can
be easily converted into cash."
According to Experts, "Finance is a simple task of providing the necessary funds
(money) required by the business of entities like companies, firms, individuals and others on the
terms that are most favourable to achieve their economic objectives."
According to Entrepreneurs, "Finance is concerned with cash. It is so, since, every
business transaction involves cash directly or indirectly."
According to Academicians, "Finance is the procurement (to get, obtain) of funds and
effective (properly planned) utilisation of funds. It also deals with profits that adequately
compensate for the cost and risks borne by the business."
According to F.W.Paish, Finance may be defined as “the position of money at the time it
is wanted”
In the words of John J.Hampton, the term finance can be defined as “the management of
the flows of money through an organization, whether it will be a corporation, school, bank or
government agency.”
According to Howard and Upton, finance may be defined as that administrative area or
set of administrative functions in an organization which relates with the arrangement of each and
credit so that the organization may have the means to carry out the objectives as satisfactory as
possible.
An analysis of the aforesaid definitions makes it clear that finance directs the flow of
economic activity and facilities the smooth operation. Finance provides the required stimulus for
continued business operations of all categories. Finance is essential for expansion,
diversification, modernization, establishment, of new projects and so on. The financial policy of
any organisation to a greater extent, determine and success of that organisation. Finance is
required for investment, purposes as well as to meet substantial capital expenditure projects.
SIGNIGICANCE OF FINANCE:
The term finance is very important for a flourishing economy. It holds a great importance
in the lives of individuals and business corporations. By finance, we mean to manage the funds
in an economy. It involves the concept of lending and borrowing. These days, the process of
lending and borrowing is also done through banks. What people do is that they deposit their
money in the banks, who lend money to the other people by charging some interest for earning
profits.
Finance is the elixir that assists in the formation of new businesses, and allows businesses
to take advantage of opportunities to grow, employ local workers and in turn support other
businesses and local, state and federal government through the remittance of income taxes. The
strategic use of financial instruments, such as loans and investments, is key to the success of
Prof.P.S.Ravindra
every business. Financial trends also define the state of the economy on a global level, so central
banks can plan appropriate monetary policies.
It is not possible to realize long-term and short-term objectives without efficiently
running finances. Ineffective supervision of finances could direct to liquidity deficiencies. It’s
essential to have finance for business development, market struggle, and to maintain business
equipped and keep client’s intact. If finances are limited, risks that can depressingly affect the
buildup of important business supports should be protected with sufficient insurance exposure
and successful control on the inside.
NEED AND IMPORTANCE OF FINANCE:
Business is identified with the generation and circulation of products and services for fulfilling of
needs of society. For successfully doing any operation, business requires money which is known
as business finance. Therefore, funds are known as the lifeblood of any business. A business
would not function unless there is adequate money accessible for use.
The capital contributed by the businessman to establish the business isn’t adequate to meet the
financial needs of the business. Consequently, the businessman needs to search for an option to
generate funds. A research of the financial needs and options to fulfill those needs must be done
with a specific end goal to arrive at effective financial management to maintain the business.
The fundamental necessities of business would be to buy a plant or apparatus, or it could be to
buy raw materials, development of a business that prompts more enrollments, paying wages and
so on. The money related necessities of a business can be classified as follows:
Fixed Capital Requirement:
In order to begin a business, money is required to buy fixed assets like land, building, plant and
machinery. This is called the Fixed Capital Requirement.
Working Capital Requirement:
A business needs funds for its day to day activities. This is known as Working Capital
Requirements. Working capital is required for the purchase of raw materials, paid salaries,
wages, rent, and taxes.
Business Solutions and Expansion:
Financial affairs are also essential for the modern age’s expansion and development of all
commercial activity. Various products can be bought, traded, or generated with funds. Money
(capital) is also necessary for acquiring methods, technology, and gear and developing
laboratories, among other things.
Technology upgrading:
Finances are needed to adopt the latest technology for example use of particular software and the
latest computers in business.
Incorporation of Business Entities:
The development the formation of any business requires financial resources. Finance is needed to
register a company, establish, acquire a license for beginning a firm, and receive a permission
letter. Aside from these expenses, funds are required to set up the working environment,
equipment, technology, working materials, furnishings, and employees’ wages.
Prof.P.S.Ravindra
TYPES OF FINANCE:
Business Finance:
Business finance refers to money and credit employed in business. It involves
procurement and utilization of funds so that business firms may be able to carry out their
operations effectively and efficiently. The following characteristics of business finance will
make its meaning more clear:
(i) Business finance includes all types of funds used in business.
(ii) Business finance is needed in all types of organisations large or small, manufacturing or
trading.
(iii) The amount of business finance differs from one business firm to another depending upon its
nature and size. It also varies from time to time.
(iv)Business finance involves estimation of funds. It is concerned with raising funds from
different sources as well as investment of funds for different purposes.
Direct Finance and Indirect Finance:
Direct finance is a method of financing where borrowers borrow funds directly from the
financial market without using a third party service, such as a financial intermediary. Indirect
finance is where borrowers borrow funds from the financial market through indirect means, such
as through a financial intermediary. Direct financing is usually done by borrowers that sell
securities and/or shares to raise money and circumvent the high interest rate of financial
intermediary.
Public Finance:
Public Finance deals with the provision, distribution arid governance of resources which
are required to perform the governmental functions. Public finance is the study of the role of the
government in the economy. It is the definitive branch of Economics which assesses the
Government revenue and Government expenditure of the Public Authorities and the adjustment
of one or the other to achieve desirable effects and avoid undesirable ones. Collection of taxes
from those who benefit from the provision of public goods by the government, and the use of
those tax funds toward production and distribution of the public goods.
Private Finance:
Private Finance is a method of providing funds for major capital investments where
private firms are contracted to complete and manage the projects. These contracts are typically
given to construction firms and last a long time, sometimes up to 30 years. The public services
are leased to the public and the government authority makes annual payments to the private
company.
Private finance is an alternative corporate finance method that helps an organization raise
cash to avoid limited time frame monetary shortfalls. This method typically serves a firm that is
not listed on a securities exchange or is unable to seek financing on such markets. A private
financing plan also may be suitable for a nonprofit entity.
Prof.P.S.Ravindra
Corporate Finance:
Corporate finance is the area of finance dealing with the sources of funding and the capital
structure of corporations and the actions that managers take to increase the value of the firm to
the shareholders, as well as the tools and analysis used to allocate financial resources.
The main goal of corporate finance is maximizing the shareholder value while managing
the financial risk of the firm. Even though it is different in principle from managerial finance
which studies all firms’ financial decisions, instead of the corporations alone, the core concepts
included in the study of corporate finance are applicable to the financial problems of all types of
firms.
The term corporate finance is also considered to be associated with investment banking.
The specific role of an investment bank is evaluating the financial requirements of a company
and thus raising the correct type of capital which fits those requirements in the best possible way.
Therefore, the term ‘corporate financier’ or ‘corporate finance’ can be linked with transactions
which involve raising capital so as to create, develop, grow, or acquire businesses
FINANCE AND OTHER RELATED DISCIPLINES:
Finance is called “The science of money”. It studies the principles and the methods of
obtaining control of money from those who have saved it, and of administering it by those into
whose control it passes. Finance, is an integral part of the overall management, on other
disciplines and fields of study like economics, accounting, production, marketing, quantitative
methods etc. The relationship of finance with other fields of study is explained asunder:
Finance and Economics
Finance is a branch of economics. Economics deals with supply and demand, costs and
profits, production and consumption and so on. The relevance of economics to financial
management can be described in two broad areas of economics i.e., micro economics and macro
economics.
Micro economics deals with the economic decisions of individuals and firms. It concerns
itself with the determination of optimal operating strategies of a business firm. These strategies
include profit maximization strategies, product pricing strategies, strategies for valuation of firm
and assets etc. The basic principle of micro economics that applies in financial management is
marginal analysis. Most of the financial decisions should be made taken into account the
marginal revenue and marginal cost. So, every financial manager must be familiar with the basic
concepts of micro economics.
Macro economics deals with the aggregates of the economy in which the firm operates.
Macroeconomics is concerned with the institutional structure of the banking system, money and
capital markets, monetary, credit and fiscal policies etc. So, the financial manager must be aware
of the broad economic environment and their impact on the decision making areas of the
business firm.
Finance and Accounting
Accounting and finance are closely related. Accounting is an important input in financial
decision making process. Accounting is concerned with recording of business transactions. It
generates information relating to business transactions and reporting them to the concerned
Prof.P.S.Ravindra
parties. The end product of accounting is financial statements namely profit and loss account,
balance sheet and the statements of changes in financial position. The information contained in
these statements assists the financial managers in evaluating the past performance and future
direction of the firm (decisions) in meeting certain obligations like payment of taxes and so on.
Thus, accounting and finance are closely related.
Economics Accounting
Information
Technology Production
Insurance Marketing
Banking Finance Quantitative
Methods
Treasure Management Costing
Taxation Law
Figure 1.1 Finance and other related Disciplines
Finance and Production
Finance and production are also functionally related. Any changes in production process
may necessitate additional funds which the financial managers must evaluate and finance. Thus,
the production processes, capacity of the firm are closely related to finance.
Finance and Marketing
Marketing and finance are functionally related. New product development, sales
promotion plans, new channels of distribution, advertising campaign etc. in the area of marketing
will require additional funds and have an impact on the expected cash flows of the business firm.
Thus, the financial manager must be familiar with the basic concept of ideas of marketing.
Finance and Quantitative Methods
Financial and Quantitative methods are closely related such as linear programming,
probability, discounting techniques, present value techniques etc. are useful in analyzing
complex financial management problems. Thus, the financial manager should be familiar with
the tools of quantitative methods. In other way, the quantitative methods are indirectly related to
the day-to-day decision making by financial managers.
Finance and Costing
Cost efficiency is a major strategic advantage to a firm, and will greatly contribute
towards its competitiveness, sustainability and profitability. A finance manager has to
Prof.P.S.Ravindra
understand, plan and manage cost, through appropriate tools and techniques including Budgeting
and Activity Based Costing.
Finance and Law
A sound knowledge of legal environment, corporate laws, business laws, Import Export
guide-lines, international laws, trade and patent laws, commercial contracts, etc. are again
important for a finance executive in a globalized business scenario. For example The guidelines
of Securities and Exchange Board of India [SEBI] for raising money from the capital markets.
Similarly, now many Indian corporate are sourcing from international capital markets and get
their shares listed in the international exchanges. This calls for sound knowledge of Securities
Exchange Commission guidelines, dealing in the listing requirements of various international
stock exchanges operating in different countries.
Finance and Taxation
A sound knowledge in taxation, both direct and indirect, is expected of a finance
manager, as all financial decisions are likely to have tax implications. Tax planning is an
important function of a finance manager. Some of the major business decisions are based on the
economics of taxation. A finance manager should be able to assess the tax benefits before
committing funds. Present value of the tax shield is the yardstick always applied by a finance
manager in investment decisions.
Finance and Treasury Management
Treasury has become an important function and discipline, not only in banks, but in every
organization. Every finance manager should be well grounded in treasury operations, which is
considered as a profit center. It deals with optimal management of cash flows, judiciously
investing surplus cash in the most appropriate investment avenues, anticipating and meeting
emerging cash requirements and maximizing the overall returns, it helps in judicial asset li-
ability management. It also includes, wherever necessary, managing the price and exchange rate
risk through derivative instruments. In banks, it includes design of new financial products from
existing products.
Finance and Banking
Banking has completely undergone a change in today’s context. The type of financial
assistance provided to corporate has become very customized and innovative. During the early
and late 80’s, commercial banks mainly used to provide working capital loans based on certain
norms and development financial institutions like ICICI, IDBI, and IFCI used to provide long
term loans for project finance. But, in today’s context, these distinctions no longer exist. More-
over, the concept of development financial institutions also does not exist any longer. The same
bank provides both long term and short term finance, besides a number of innovative corporate
and retail banking products, which enable corporate to choose between them and reduce their
cost of borrowings. It is imperative for every finance manager to be up-to date on the changes in
services & products offered by banking sector including several foreign players in the field.
Finance and Insurance
Evaluating and determining the commercial insurance requirements, choice of products
and insurers, analyzing their applicability to the needs and cost effectiveness, techniques,
Prof.P.S.Ravindra
ensuring appropriate and optimum coverage, claims handling, etc. fall within the ambit of a
finance manager’s scope of work & responsibilities.
Finance and Information Technology
Information technology is the order of the day and is now driving all businesses. It is all
pervading. A finance manager needs to know how to integrate finance and costing with
operations through software packages including ERP. The finance manager takes an active part
in assessment of various available options, identifying the right one and in the implementation of
such packages to suit the requirement.
