ADVANCED

FINANCIAL MANAGEMENT
MBAG COURSE CODE 516

Prepared by
Dr.T.Hymavathi Kumari,
M.Com., MBA,M.Phil.,Ph.D.
Associate Professor
 CHAPTER -1
An overview of financial management
• Introduction
• Meaning of finance
• Classification of finance
• Evolution of finance
• Sources of finance
• The Nature and scope of financial management
• The goals of a firm in financial management
• Concepts of value and return
 CHAPTER – 2
Financial analysis and planning
• The need for financial analysis
• Sources of financial data
• Types of financial analysis and interpretation
• Financial planning and forecasting
• The planning process
• Importance of Sales forecasting
• Techniques of determining future financial needs
• Relationship between financial analysis and planning
 CHAPTER – 3
Dividend decisions
• Dividend theory
• Dividend policy
 CHAPTER – 4
Valuation and cost of capital
• Valuation of Bonds
• Valuation of stocks
• Cost of capital
• The concept of cost of capital
• Capital structure
• Specific/components of cost of capital
• The overall cost of capital and the marginal cost of capital
 CHAPTER – 5
Long-term investment and financing
decisions
• Introduction to investment and capital budgeting
• Investment appraisal techniques
• Non-discounted cash flow techniques
• Payback period
• Accounting rate of return
• Discounted cash flow techniques
• Net present value
• Internal rate of return
• Multiple IRR and Modified internal rate of return
• Profitability index
 CHAPTER – 6
Special issues in financial management
• Merger and acquisition
• Financial disaster and reorganization
 CHAPTER ONE
OVERVIEW OF FINANCIAL MANAGEMENT
INTRODUCTION:

Finance is the lifeblood of business organizations.

According to the economics concept, factors of production are land, labor, capital and
organization.

Rent given to landlord, wage given to labour, interest given to capital and profit given to
shareholders or proprietors.

A business concern needs finance to meet all the requirements. Hence finance may be called
as capital, investment, fund etc., but each term is having different meanings and unique
characters.

Increasing the profit is the main aim of any kind of economic activity.
MEANING OF FINANCE
 
Finance may be defined as the art and science of managing money. It includes financial service and
financial instruments. Finance is also referred to as the provision of money at the time when it is needed.
Finance function is the procurement of funds and their effective utilization in business concerns.

DEFINITION OF FINANCE
 
According to Khan and Jain, “Finance is the art and science of managing money”.

According to Oxford dictionary, the word ‘finance’ connotes ‘management of money’.

 
Webster’s Ninth New Collegiate Dictionary defines finance as

“the Science on study of the management of funds’ and the management of fund as the system that
includes the circulation of money, the granting of credit, the making of investments, and the
provision of banking facilities.

 
DEFINITION OF BUSINESS FINANCE
 
According to the Wheeler, “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.

TYPES OF FINANCE

Finance

P riv a P u b li
te c
F in a n F in a n
ce ce

In d iv id u P a rtn e rs h i B u s in e s C e n tra l S ta te Sem i

al p s G o v ern m e G o v ern G o v ern m e
F in a n c e F in a n c e F in a n c e nt m ent nt
Classification of finance:
There are three main types of finance: (1) personal, (2) corporate, and (3) public/government.
 
Personal finance: It refers to all the financial decisions which the individual needs to make so that
his future is secured. These decisions include:
Receiving the monetary resources
Budgeting
Planning on the application of income
Deciding on the mode of saving and the amount
Spending on the monetary resources

Corporate finance: It is the task of raising and administering the funds for conducting various
organization’s activities. The corporate finance main function is to analyze the fund requirements and
find different sources of funding like the general public, financial market, and other financial
institutions.

Public finance: It borders on fields of political science and government. It is the study of public
authorities and the government’s financial activities. Public finance describes the government’s
expenditure and all the techniques and methods used by the governments to finance the
expenditures.
Functions of Finance:
Finance is closely bounded with money after the barter system has been replaced as a means of
exchange. In business, finance is defined as the means to raise funds through sale and issuance of
equity or debt. It encompasses different functions like:
Acquiring Sufficient Funds:
Proper Utilization of Funds:
Increasing Profitability
Maximizing Firm’s Value

Evolution of finance
The Traditional Approach
According to this approach, the scope, of finance function was confined to only procurement of
funds needed by a business on most suitable terms. However, institutions and instruments for
raising funds were considered to be a part of finance function. The emphasis is on three C’s –
compliance, cost and control.

The Modern Approach: The modern approach views finance function in broader sense. It includes
both rising of funds as well as their effective utilization under the purview of finance. The finance
function does not stop only by finding out sources of raising enough funds; their proper utilization is
also to be considered.
 
Sources of finance:
DEFINITION OF FINANCIAL MANAGEMENT
 
Financial management is an integral part of overall management. It is concerned with the
duties of the financial managers in the business firm.
The most popular and acceptable definition of financial management as given by S.C.
Kuchal is that “Financial Management deals with procurement of funds and their effective
utilization in the business”.
 
Howard and Upton : Financial management “as an application of general managerial
principles to the area of financial decision-making.

 Weston and Brigham :Financial management “is an area of financial decision-making,

harmonizing individual motives and enterprise goals”.

There are three key elements to the process of financial management:

(1) Financial Planning
(2) Financial Control
(3) Financial Decision-making:
NATURE AND SCOPE OF FINANCIAL MANAGEMENT:
Anticipation: Financial management estimates the financial needs of the company. That
is, it finds out how much finance is required by the company.
Acquisition: It collects finance for the company from different sources.
Allocation: It uses this collected finance to purchase fixed and current assets for the
company.
Appropriation: It divides the company's profits among the shareholders, debenture
holders, etc. It keeps a paid of the profits as reserves.
Assessment: It also controls all the financial activities of the company. Financial
management is the most important functional area of management.

Finance Functions of Financial Management:(Modern Approach)

Finance decision
Investment decision
Dividend decision
Working Capital decisions
GOALS / OBJECTIVES OF FINANCIAL MANAGEMENT
1. Profit maximization 2. Wealth maximization. 3.Other Objectives
Favourable Arguments for Profit Maximization
  (i) Main aim is earning profit.
(ii) Profit is the parameter of the business operation.
(iii) Profit reduces risk of the business concern.
(iv) Profit is the main source of finance.
(v) Profitability meets the social needs also.
 
Unfavourable Arguments for Profit Maximization
 
(i) Profit maximization leads to exploiting workers and consumers.
(ii) Profit maximization creates immoral practices such as corrupt practice, unfair trade practice, etc.
(iii) Profit maximization objectives leads to inequalities among the stake holders such as customers, suppliers, public
shareholders, etc.

Drawbacks of Profit Maximization

 
(i) It is vague:  
(ii) It ignores the time value of money:  
(iii) It ignores risk:
Wealth Maximization
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.
Favourable Arguments for Wealth Maximization
 (i) Wealth maximization is superior to the profit maximization because the main aim of the business concern under this
concept is to improve the value or wealth of the shareholders.
 (ii) Wealth maximization considers the comparison of the value to cost associated with the business concern.  
(iii) Wealth maximization considers both time and risk of the business concern. (iv) Wealth maximization provides efficient
allocation of resources.
(v) It ensures the economic interest of the society.

Unfavourable Arguments for Wealth Maximization

 
(i) Wealth maximization leads to prescriptive idea of the business concern but it may not be suitable to present day
business activities.
 (ii) Wealth maximization is nothing, it is also profit maximization, it is the indirect name of the profit maximization.
 (iii) Wealth maximization creates ownership-management controversy.
(iv) Management alone enjoy certain benefits.
(v) The ultimate aim of the wealth maximization objectives is to maximize the profit.
 (vi) Wealth maximization can be activated only with the help of the profitable position of the business concern.

 
IMPORTANCE OF FINANCIAL MANAGEMENT
 
Financial Planning
  Acquisition of Funds
  Proper Use of Funds
  Financial Decision
Improve Profitability
Increase the Value of the Firm
Promoting Savings

FINANCIAL MANAGEMENT AND OTHER DISCIPLINES

1.Financial Management and Economics

2.Financial Management and Accounting
  3. Financial Management and Mathematics
  4. Financial Management and Production Management
5. Financial Management and Marketing
  6. Financial Management and Human Resource
THE CONCEPT OF VALUE AND RETURN:

The value of money changes with change in time. Most financial decisions, such as the purchase of
assets or procurement of funds, affect the firm’s cash flows in different time periods.

For example, if fixed asset are purchased it will require immediate cash outlays and will generate
cash flows during many future periods.

Reasons for Individual’s Time Preference for Money:

Risk:
Consumption preference:
Inflation:
Investment opportunities
3 Methods of Time Value of Money:
 
Compounding: We find the Future Values (FV) of all the cash flows at the end of the time period at a given rate of
interest.
Discounting: We determine the Time Value of money at time “O” by comparing the initial outflow with the sum of
the Present Values (PV) of the future inflows at a given rate of interest.

Compounding (Future Value) Discounting(PresentValue)

  Single Flow  
Single Flow
Multiple Flows   UnevenMultiple
 
  Flows
Annuity
Annuity  

Perpetuity  
FUTURE VALUE OF A SINGLE FLOW
 
Formula: The general formula for the value of single flow as: S = pv (1+i) n
 
Where S = Future value n years hence, pv = Amount invested today,
 
i = Interest rate per period, and
 
n = Number of periods of investments.

FUTURE VALUE OF AN ANNUITY:

Annuity is of two types.
Regular Annuity(at the ending of each year): two types
Even cash flows
Uneven cash flows
Annuity Due(at the beginning of each year)
Regular Annuity(at the ending of each year): two types

Even cash flows= Sn= R [((1+i)n -1)/i

Uneven cash flows = we should find out compounding value factors

Annuity Due(at the beginning of each year)

FV of Annuity due= Ordinary Annuity FVx(1+r)

PRESENT VALUE:
 
Present value of a Single Flow
S = p(1+i)n

Present Value of an Annuity

1 (1x i)−n S = i
A −

 
S = Present value of an annuity A = Amount of each instalment i = Interest rate per period
n = Number of periods.
Where pn = present value of an annuity which has a duration of n periods, R =constants periodic flow, and
i = interest (discount) rate.
 THE END
End of Chapter I