Lecturr 1 - Financial Recourses Management

8/8/2019 Lecturr 1 - Financial Recourses Management

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1.1 AimsBy the end of this session you should:Be understand the meaning of financial management

Be familiar with the main financial management

objectives

Understand the basic concepts underpinning financialmanagement including risk and return

Understand the basic nature of markets and the role offinancial intermediaries


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What is finance?y In a narrow sense, finance refers to money and money

related items of a business concern.

y In the broader sense, finance refers to all financialresources available at the disposal of any business firm

y Finance is the lifeblood of a business firm

y The health of every business concern mainly depends

on the efficient handling of finance functions


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What ismanagement?


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What is Financial Management?y Financial management is the management of the

finances or funds of a business unit in order to realise

the objectives of the firm in an efficient mannery It is the mobilisation and use of funds by a business

firm

y Financial management is the process of procurement

of funds and the judicious use of such funds with aview to realise the objectives functions of a firm moreeffectively and efficiently


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Scopeof Financial Management (1)

Traditional View: Financial Management was mainlyconcerned with the mobilisation of funds from differentsources and it included the following functions:

Procurement of funds from short-term and long-

term sources like bonds, financial instruments,etc.Mobilisation of funds through various financial

instruments such as shares, debentures, etc.Compliance of legal provisions relating to

procurement and distribution of fundsOrientation of finance functions with the

Accounting functions Note:traditionally, the finance managers function was mainly concerned with the

mobilisation of funds without much concern for the effective utilisation of funds


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Scopeof Financial Management (2)Modern View:

Financial management functions have changed with

the increase in the complexities of business situationsand has become complicated

Financial Management functions have thereforeextend beyond the mobilisation of funds to include

their efficient utilisation with a view of achieving theobjectives of the firm, as well as the expectation of allstakeholders(especially the suppliers of such funds)


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Thescientific featuresof ModernApproach to

Financial ManagementThe scope of financial management has extended to

include the effective and efficient utilisation of fundsin the light of appropriate decision criteria

The management of insiders and Outsiders pointof view have become more dominant

Modern financial management decisions are moreanalytical and quantitative.

Application of mathematical and statistical tools havemade the financial management decision makingmore scientific


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ModernFM

Functions

What idsthe total

fundsrequirement of thefirm?

What

specificassetsare tobe acquired?


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FinancialManager

sFunctions

Investment

Decisions

FinancingDecisions


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Financial Managers Functions (1)

Investment Decisions:Securities or portfolio investment decisions

(Investing firms funds in financial assets)

Capital expenditure decisions ( investingfirms funds in fixed assets)working capital management ( planning for

the current assets and their financing)

Note:Generally, investment decisions relates to theselection of the best investment proposal andcommitment of funds to such proposals in order tomaximise the firms earnings and thereby maximisethe value of the firm


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Financing decisionof financial manager The financing decisions relates to the procurement of

funds for the firms investment proposals and its

working capital requirements. The financial manager therefore is required to be

involved in the


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Finance Managers Functions (2)Financing Decisions:

Capitalisation decisions- This involves the finance managerestimating the funds requirements for fixed assets and working capitalpurposes and also to identify the different sources available to realise

such fundsCost of capital decisions:- In addition to identifying the different

sources of raising funds, the financial manager is required to keep in viewthe cost of funds of each source and to assess the individual cost such ascost of debt, cost of equity, etc. And the overall cost of capital of the

financing mix to determine the best mixCapital structure planning:The capital structure refers to the debt-

equity mix in the total capital employed. Depending upon the merits anddemerits of the debt components of the capital employed, the FinanceManager is responsible for determining the degree or level of gearing that

best fit the needs of the firm


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Financial Managers function (3)Dividend Decisions:

This relates to the distribution of earnings of the firm

among the shareholders and amount to be retained bythe firm for future internal use

The financial manager is responsible to determine theright dividend and retention policies in order tomaxmise the objectives functions of the firm

Number of factors like availability of profitableinvestments proposals, tax position of shareholders,and trend of earnings affect the financial managersdividend decisions or policies.


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Objectivesof Financial ManagementProfit maximisation

Wealth maximisation

Market value maximisationSurvival

Non-financial issues: Employee welfare

Service provision Customer focus

Supplier focus

Welfare of society


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Principlesof Financial

ManagementPrinciple ofNo Free Lunch

Principle of Maximisation/minimisation

Principle of Risk-Return trade offPrinciple of social conformity/responsibility


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Risk andReturn tradeOffThe financial manager is responsible for evaluating

different investments based on their risk-return measuresfor choosing the best investment proposal that value to

wealth of shareholdersRisk and return are two inherent elements of everyfinancial decision.

The financial manager is to fix priorities, measure risk anduncertainty in the investment proposal and allocate orration out funds

Return should be commensurate with the risk undertakenThe risk and return have positive correlationHigher risk should be rewarded with higher return, and

low risk with low return


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Financial Intermediaries

The aj r fi a cial i stit ti s are as fi a ciali ter e iaries. They i cl e:

MoneyMar ets ( ommercial andInvestment Banks)

The ca ital markets inance houses

Building societies

Investment trusts

nits trusts

Pensions funds

ational governments

ote: they are called intermediaries ecause they standet eengroups ithdifferent financial re uirements


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PortfolioTheoryBasic Assumption about investors:

portfolio theory makes two overriding assumptionsabout the characteristics of individuals as investors

they want to make a lot of money(desire for profitmaximisation)

but do not like taking risks(aversion to risks).

Investor have a desire to profit maximisation and an

aversion to risks.The two factors ( risk aversion and desire for more

return) are expected to dominate investors behaviour


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Profit MaximisationModern investment theory assumes that investors are

profit maximisers

Ceteris paribus (other this being equal) an investorwill always prefer an investment which produces ahigher yield to an alternative which produces a lowerone.

The yield is usually evaluated by a measure known asthe holding period return


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Risk & Uncertaintyy Risk is the likelihood of return being different from

the average expected (measurable!)

y Uncertaintyimplies a chance happening to which astatistical probability cannot be assigned. (e.g, war,famines)


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RiskAversion

y Does risk aversion totally holds in practice?


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The Banksy Banks operate by storing wealth in the economy by

allowing savers to earn interest on their savings

y

They provide a payment mechanism- cheques, creditcards, debit cards, etc.

y They supply funds for borrowers for both long andshort term


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Thecapital marketsy Capital markets are where capital goods and money

are bought and sold

y

Most operate these days through virtual environments through computers

y The market itself is often only an office building whereno trade is carried out

y There are three basic types of capital markets: primarymarkets, secondary markets and derivatives markets.


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Primary & Secondary capital markets

y Primary markets are where items are originallyoffered for sale e.g. Shares are offered for sale on the

London stock exchangey Secondary capital markets are where the things once

offered to the market are subsequently traded.-theLondon stock exchage also functions as secondary

market for share.


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DerivativesmarketsDerivatives market are capital markets where options,

future, forwards and swaps are traded.

They obtain or derives their prices from prices in theprimary and secondary markets


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Theefficiency Market Hypothesis (EMH)

The EMH assumes that the prices in the capital markets

are the correct prices given the information that theplayers in the market know

It takes three forms depending on the level ofinformation known: The weak-form assumes that only the past history of prices is known by

the market players The semi-strong form assumes that all public available information is

known by all the market players, and The strong form assumes that all information is known by all the market

players

The weight of academic evidence is that, in most

western markets, especially the share markets: the semi-strong form of the market holds thus nobody can beat the market; that is to get more that a fair return by studying public

available information.

Therefore researching into companies is of no value


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TheSeparationTheoremIn a well functioning capitalist economy, two markets

operate side-by-side:

The money markets enable individuals and institutions

to save and borrow at the market interest rate.The capital markets enable companies to issue shares

with a promise of return higher than those in the moneymarkets, albeit at a higher risk,

The separation theorem demonstrate that ifcompanies invest in all projects that promise a returnhigher than the money market interest rate, bothinvestors and companies will maximise returns


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Financial Management and Financial Accounting

Financial accounting is concerned with financial record keeping, theproduction of periodic reports, statements and analyses and thedissemination of information to managers and to some extent to theinvestors and the world outside the firm

Financial Management is concerned with the processes of mobilisationand judicious use of funds with view of achieving firms strategicobjectives and wealth maximisation for shareholders.

Financial may relay heavily on accounting reports and the accountingdatabase. Knowledge of past events may well be a good pointer to thefuture and therefore reliable past information is invaluable

However, the role of finance manager is not to supply mere financialinformation, but to make decisions involving financing.

The finance manager is primarily concerned with the risk of

mobilisation of funds at optimum cost with minimum financial risk. The financial manager ensures that funds are available at the right time

and are utilised for the right purpose In small concerns, the accountant may act as the financial manager

exercising the financial management functions But in large undertakings, they are distinct and specialist functions


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Financial Management and Cost

AccountingCost accounting is mainly concerned with the supply

of cost information to the management for control

purposesThe Finance Manager is concerned with the proper

mobilisation and utilisation funds and theminimisation of operational cost of the firm.

Cost information is very essential for financialdecisions-making, the finance manager offers valuablesuggestions for cost reduction and cost control


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Financial Management and

Personnel ManagementPersonnel management is concerned with the

recruitment, training and placement of employees in

an organisationAs all these functions of the personnel department

involve money expenditure, they cannot be taken inisolation. It should consult the finance department forthe financial commitments


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Financial management and MarketingThe success or failure of a firm depends to a large extend on

its marketing efforts

Appropriate pricing policy for the companys products isvery important for both effective marketing and efficient

financial decision-making.Hence, it should be a joint decision of both managers share

information the marketing manager can supply information about the

influence of different prices on the demand for the firms

productsAt the same time, the finance manager can supply

information about the most cost volume and profitrelationships and enable the firm to formulate suitablepricing policy for the products


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Therefore;Thus it may be observed that the financialmanagement has close link with all other areas ofmanagement

The financial management is a key area, for thestrength and weakness of a firm is judged on the basisof its financial position

The financial soundness or otherwise of the firmdirectly affects the activities in the areas of

management.Eg. The working capital problems will affect the

activities in the production department, salesdepartment, personnel department, etc.

Lecturr 1 - Financial Recourses Management

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