Introduction to Financial Management
Financial management is one of the important aspects of finance. Every beginner needs to start a business or a company with financial knowledge and management strategies.
Finance is directly linked to various departments like marketing, production, and personnel.
For any business, it is important that it expects the investments to be made in such a manner that returns are higher than the cost of finance.
In a nutshell, financial management reduces the cost of finance, ensures sufficient availability of funds, and effective utilization of funds.
J.E. Brandley defines financial management as that area of business management devoted to judicious use of capital and a careful selection of the source of capital in order to enable a spending unit to move in the direction of reaching the goals.
Scope of Financial Management:
The scope of financial management can be explained through the following points:
- Investment decision: Financial management is used in managing all investment aspects of an entity. This includes risk evaluation, measuring the cost of capital, and estimating benefits out of a particular project. Managers are responsible for deciding how available funds should be invested in fixed or current assets to get the best available returns.
- Working Capital Decision: Working capital management is another yet convincing subject of the scope of financial management. The various decisions that are concerned with investment in current assets and current liabilities are covered in working capital decision making. The working capital decision involves effective management of current assets and current liabilities, taking short-term financing as and when needed, and managing receivables. Current assets include cash, inventories, receivables, short-term securities, etc. while on the other hand, current liabilities include creditors, accounts payable.
- Financing decision: It involves deciding what amount of funds need to be raised for the short term and the long term. The finance manager is put in charge to study the proper finance mix or optimum capital structure of the company to raise its value. This means that the entity shall find an adequate mix of equity and debt to provide maximum return to shareholders.
- Dividend decision: The dividend declaration and payout policy are decided by financial management. Dividend decisions include a proper dividend policy regarding the distribution or retaining of company profits. The company decides the optimum payout policy taking the help of the finance manager. The finance manager takes a decision after considering all expansion and growth opportunities available to the organization and should avail them by retaining a proper amount of profit.
- Ensures liquidity: Financial management plays a crucial role in maintaining proper liquidity in an organization. The financial manager shall ensure that there is a regular supply of liquidity in the company monitoring closely all the cash inflows and outflows reducing the instances of underflow and overflow of cash. The finance manager is entrusted with the responsibility to maintain an optimum level of liquidity.
- Profit management: Effective utilization of funds helps to generate good profits in the company. The finance manager shall optimize return on available resources and maintain it over the cost of capital meaning choosing debts wisely. Another way is to simply reduction of costs and optimizing income items.
Nature of Financial Management
The nature of financial management can be explained using the following points:
- Estimates Capital Requirements: Financial management helps to anticipate the fund’s requirements. It estimates working and fixed capital requirements in advance. The finance manager prepares the budget of all expenses and revenues for a particular time period on the basis of which capital requirements are determined.
- Decides capital structure: Decision regarding optimal capital structure helps to achieve better profits. The optimal capital structure decision involves deciding the proper portion of different securities like equity, preferred equity, and debt. The proper balance between debt and equity reduces the cost of capital.
- Select sources of Fund: Financial management helps to choose various sources of funds like the issue of shares, bonds, debentures, venture capital, financial institutions, retained earnings, owner investment, etc. Every company shall properly analyze all sources of funds available and choose those which involve low risk and is the cheapest form.
- Raises Shareholders’ value: Financial management helps to raise the overall value of shareholders. It helps to increase return on investment to shareholders by reducing the cost of operations and increasing profits. The finance manager focuses on raising funds and invests them in the most profitable manner.
- Management of cash: Financial management monitors all the movements of funds in the company. The supervision of cash inflows and cash outflows is done properly. This ensures there is no deficiency or surplus of cash in an organization.