UNIT- 3 FM ETC (1).pdf
- 1. UNIT - 3 Introduction To Financial Management:
- 2. Introduction • The raising and management of funds by the business organizations is called business finance. Planning the financial need, analyzing the requirement, controlling the operations are the responsibilities of the financial manager, this person is closely related to the top-level management team. • DEFINITION OF FINANCE According to Khan and Jain, "Finance is the art and science of managing money". • Guthumann and Dougall, "Business finance can broadly be defined as the activity concerned with planning, raising, controlling, administering of the funds used in the business".
- 3. • Business finance refers to the funds needed to start a business, operate it, and expand it in the future. Funds are needed to acquire tangible assets like furniture, machinery, buildings, offices, and factories, as well as intangible assets such as patents, technical experience, and trademarks, among other things. • Aside from the assets listed above, the day-to-day operational operations of a corporation also require cash. Purchasing raw goods, paying employees, bills, and collecting money from clients are all examples of this activity. To sustain and expand a business, you must have a significant quantity of money.
- 4. Goals & Objectives of Financial Management • Profit Maximization: Maximization of profits is very often considered as the main objective of a business enterprise. The objective of financial management is the same as the objective of a company which is to earn profit. The shareholders, the owners of the business, invest their funds in the business with the hope of getting higher dividend on their investment. • Moreover, the profitability of the business is an indicator of the sound health of the organization, because it safeguards the economic interests of various social groups which are directly or indirectly connected with the company e.g. shareholders, creditors and employees.
- 5. • Profit Maximisation Profit maximization should be undertaken and those that decrease profits or EPS are to be avoided. Profit is the test of economic efficiency. It leads to efficient allocation of resources, as resources tend to be directed to uses which in terms of profitability are the most desirable. Financial management is mainly concerned with the efficient economic resources namely capital.
- 6. • Wealth Maximization: The wealth maximization (also known as value maximization or Net Present Worth Maximization) is also universally accepted criterion for financial decision making. The value of an asset should be viewed in terms of benefits it can produce over the cost of capital investment. • The value of a firm is represented by the market price of the company's stock. The market price of a firm's stock represents the assessment of all market participants as to what the value of the firm is.
- 7. Sources of financing • Sources of capital are the most explorable area, especially for the entrepreneurs who are about to start a new business. It is perhaps the most challenging part of all the efforts. There are various capital sources we can classify based on different parameters. Based on a time period, sources are classified as • Long-term • Short-term
- 8. Long- Term Financing • Long-term financing means capital requirements for a period of more than 5 years depending on other factors. • Capital expenditures in fixed assets like plant and machinery, land and building, etc. of business are funded using long-term sources of finance.
- 9. Long Term Financing The long-term sources of finance are as under • Shares • Debentures • Term Loans • Lease • Hire Purchase • Retained Earnings, • Public Deposits • Bonds
- 10. Shares • A share represents a unit of equity ownership in a company. Shareholders are entitled to any profits that the company may earn in the form of dividends. They are also the bearers of any losses that the company may face. • In simple words, if you are a shareholder of a company, you hold a percentage of ownership of the issuing company in proportion to the shares you have bought. • Shares can be further categorized into two types. These are: • Equity shares • Preference shares
- 11. Debentures • A debenture is a type of bond or other debt instrument that is unsecured by collateral. Since debentures have no collateral backing, they must rely on the creditworthiness and reputation of the issuer for support. Both corporations and governments frequently issue debentures to raise capital or funds
- 12. Term loan • A term loan provides borrowers with a lump sum of cash upfront in exchange for specific borrowing terms. • Borrowers agree to pay their lenders a fixed amount over a certain repayment schedule with fixed or floating interest rate. • Term loans are commonly used by small businesses to purchase fixed assets, such as equipment or a new building. • Borrowers prefer term loans because they offer more flexibility and lower interest rates. • Short and Medium-Term loans may require balloon payments while long-term loan come with fixed payments.
- 13. Lease • Lease financing is a contractual agreement between the owner of the asset who grants the other party the right to use the asset in return for a periodic payment. • The owner of the party is known as Lessor and the user of the asset under such agreement is known as lessee and the rental paid is known as lease rental.
- 14. Hire purchase • Hire purchase is an arrangement for buying expensive consumer goods, where the buyer makes an initial down payment and pays the balance plus interest in installments. • The ownership is transferred only after paying last installment. • Hire Purchase is one of the most used modes of financing for acquiring various assets. It helps to spread the huge cost of an asset over a longer period.
- 15. Retained Earnings: • In most cases, a firm does not pay out all of its profits as dividends to its shareholders. A part of the net earnings may be kept in the company for future use. This is referred to as "retained profits." • It is a source of internal finance, self-financing, or 'profit plowing.' The amount of profit available for reinvestment in a company is determined by a variety of factors, including net profits, dividend policy, and the company's age.
- 16. Public Deposit: • Public deposits are deposits raised directly from the public by organizations it is unsecured in nature. Public deposit interest rates are often greater than bank deposits. • Anyone interested in making a monetary contribution to an organization might do so by completing a designated form. In exchange, the organization gives a deposit receipt as proof of payment. While depositors receive a greater interest rate than banks, the cost of deposits to the firm is lower than the cost of bank borrowings.
- 17. Bonds • Bonds refer to high-security debt instruments that enable an entity to raise funds and fulfil capital requirements. It is a category of debt that borrower's avail from individual investors for a specified tenure. • Organizations, including companies, governments, municipalities and other entities, issue bonds for investors in primary markets. The corpus thus collected is used to fund business operations and infrastructural development by companies and governments alike.
- 18. Types of Bonds • Fixed- interest Bonds - Fixed-interest bonds are debt instruments which accrue consistent coupon rates throughout their tenure. • Floating interest bonds - These bonds incur coupon rates which are subject to market fluctuations and elastic within their tenures • Inflation- linked bonds - designed to curb the impact of economic inflation on the face value and interest return. • Perpetual bonds - This investment type does not have any maturity period, and customers benefit from steady interest payments for perpetuity.
- 19. Features of Bonds • Face value - Principal, nominal, or par value is used alternatively to refer to the price of bonds. Issuers are under a legal obligation to return this value to the investor after a stipulated period. • Interest or coupon rate - Bonds accrue fixed or floating rates of interest across their tenure, payable periodically to creditors. • Tenure of bonds - Tenure or term refers to the period after which bonds mature. These are financial debt contracts between issuers and investors. Financial and legal obligations of an issuer to the investor or creditor are valid only until the tenure's end. • Credit quality - Credit rating agencies classify bonds based on the risk of a defaulting on debt repayment. • Tradable bonds - Bonds are tradable in the secondary market.
- 20. Short Term Financing • Short-term finance refers to sources of finance for a small period, normally less than a year. In businesses, it is also known as working capital financing. • This type of financing is usually needed because of the uneven cash flow into the business, the seasonal pattern of business,etc.
- 21. Short Term Financing Some of the Short- term sources of finance are as under: • Bank Financing • Trade Credit • Commercial paper
- 22. Bank financing • Loans are the most traditional type of bank financing. The bank loans you a specific amount, which you repay with interest over a predetermined period. If you fail to repay the loan, the bank can take any assets you have put up as collateral. • Banks have become very picky in approving businesses for traditional loans. • A bank loan is best for business owners who have exceptional credit and a rock- solid business. • Loans are more likely to be approved if the money is being used to expand an already successful business rather than to help a struggling business.
- 23. Commercial paper: • Commercial paper is an unsecured promissory note that a company issues to generate capital for a limited period, usually 90 to 364 days. • It is distributed to other businesses, insurance companies and banks. • large well-known companies with a solid credit rating may issue a CP to raise fund • The Reserve Bank of India is responsible for its regulation.
- 24. Trade Credit • A trade credit account is a line of credit given by one business to another for the purchase of products and services. Trade credit allows you to buy supplies without having to pay right away. Such credit shows up in the buyer of goods' records as sundry creditors' or 'accounts due.'
- 25. Thank you