FINANCIAL MANAGEMENT TERMS
1. Dividend
• A discretionary distribution of a portion of a company’s after-tax profits to its
shareholders.
• Declared by the board and approved by shareholders; paid in cash, additional shares
(bonus/scrip), or other assets.
• Signals financial health, attracts/retains investors, but permanently reduces reserves
available for reinvestment.
2. Working Capital
• The surplus of current assets over current liabilities (WC = CA – CL).
• Indicates a firm’s ability to meet short-term obligations and fund day-to-day operations.
• Managed through inventory, receivables, payables, and cash-balance policies.
3. Shares
• Units of ownership that entitle holders to residual profits, voting rights, and a share of net
assets on liquidation.
• Two broad classes: equity (ordinary) and preference. Tradable in primary (new issues)
and secondary markets.
4. Share Capital
• The aggregate face value of shares that a company has issued to investors.
• May be authorised, issued, subscribed, called-up, and paid-up; provides the permanent,
risk-bearing capital base.
5. Stock Market
• A regulated marketplace where equity, debt, and other securities are issued and traded.
• Facilitates price discovery, liquidity, and efficient allocation of capital between savers and
users.
6. Leverage
• The use of fixed-cost financing (debt or preference shares) to magnify returns to equity.
• Financial leverage ratio = Debt / Equity; higher leverage raises EPS volatility and
financial risk.
7. Equity Share Capital
• Capital raised through equity (ordinary) shares, carrying variable dividends and residual
claim.
• Equity holders bear ultimate risk and control management via voting.
8. Preference Shares
• Hybrid instruments with fixed dividends and priority over equity in dividends and
liquidation.
• May be cumulative, non-cumulative, redeemable, participating, or convertible; generally
no voting rights unless dividends unpaid.
9. Debentures
• Long-term debt instruments acknowledging a loan to the company at a fixed interest rate
and schedule.
• Can be secured or unsecured, redeemable or perpetual, convertible or non-convertible;
interest is tax-deductible.
10. Short-Term Loan
• Borrowing for ≤12 months (overdrafts, trade credits, commercial papers) to plug
working-capital gaps.
• Quick to arrange but usually costlier and subject to rollover risk.
11. Long-Term Loan
• Bank or institutional debt with maturity >1 year, often secured against assets.
• Used for capital expenditure with structured repayment and covenants.
12. Public Deposit
• Unsecured deposits accepted from the public for a fixed period at a stated interest rate
under Companies Act & RBI rules.
• Cheaper than bank borrowing but limited in quantum and subject to strict disclosure
norms.
13. EPS (Earnings per Share)
• Profitability measure: EPS = (PAT – Preference Dividend) ÷ Weighted Avg. Equity
Shares.
• Core variable in valuation ratios (P/E) and in signalling performance trends.
14. Retained Earnings
• Cumulative undistributed profits reinvested for growth, debt reduction, or contingency
reserves.
• An internal, zero-cost source of equity; excessive retention may attract shareholder
discontent.
15. Reserve Capital
• A portion of uncalled share capital that can only be called up on winding-up, adding a
layer of creditor protection.
16. Capital Budgeting
• The systematic appraisal of long-term investment proposals using NPV, IRR, Pay-back,
PI, etc.
• Seeks to maximise shareholder wealth by accepting projects with positive NPV at the
firm’s cost of capital.
17. Cost of Equity Shares (Ke)
• Minimum return demanded by ordinary shareholders. CAPM: Ke = Rf + β(Rm – Rf).
• Reflects business risk (β) and market risk premium; guides hurdle rate for
equity-financed projects.
18. Cost of Preference Shares (Kp)
• Kp = Annual Preference Dividend ÷ Net Issue Proceeds.
• Acts like debt cost (fixed) but non-tax-deductible; influences WACC and dividend policy
decisions.
19. Cost of Debentures (Kd)
• Before-tax Kd = Interest ÷ Net Proceeds; After-tax Kd = Interest × (1 – Tax rate) ÷ Net
Proceeds.
• Lower than equity cost due to tax shield; excessive debt, however, increases financial
distress probability.
QUESTIONS & ANSWERS
A. Dividend
Q1. Is it compulsory for a company to pay dividend every year?
• No. Dividend declaration is discretionary. If the board judges profits need to be
retained or losses exist, it may skip or reduce the dividend, subject to shareholder approval
in some jurisdictions.
Q2. What happens if a company fails to pay dividend for three consecutive years?
• Equity shareholders: no statutory penalty, but market confidence and share price
usually suffer.
• Preference shareholders (India): under Section 47(2) of the Companies Act 2013, if
dividends remain unpaid for two years or more, preference shareholders acquire voting
rights on all resolutions until arrears are cleared.
• Persistent non-payment may also breach debt covenants, restrict future capital
raising, and trigger enhanced regulatory scrutiny for listed firms.
B. Share
Q1. Why is it necessary for a company to invite shares from the public?
• To mobilise large permanent capital without increasing debt, spread ownership risk,
build market reputation, and create liquidity for existing investors. Public equity also
improves leverage capacity and credit standing.
Q2. To invite shares from the public, what must the company do?
• Prepare and file a prospectus or information memorandum with the Registrar of
Companies and SEBI.
• Obtain stock-exchange in-principle approval, appoint merchant bankers/underwriters,
meet eligibility norms (profitability, net worth), and comply with disclosure & advertising
regulations (SEBI ICDR Regulations).
• Conduct due diligence, open escrow/IPO bank accounts, and follow allotment & listing
procedures.
C. Stock Market
Q1. What is SEBI? What are its roles?
• The Securities and Exchange Board of India, established 1992, is the statutory
regulator of India’s securities markets.
• Roles: protect investor interests, regulate stock exchanges & intermediaries, register
and monitor mutual funds & FIIs, prevent insider trading & fraud, frame listing/issue
guidelines, conduct audits & enforcement, and promote market development.
Q2. Write about Stock Exchange.
• A stock exchange is an organised, regulated marketplace (e.g., NSE, BSE) where
securities are listed, bought, and sold through brokers using electronic trading systems.
• Functions: liquidity provision, price discovery, continuous market for capital,
dissemination of information, and enforcement of corporate governance via listing
obligations.
