Financial management is one of the most significant aspects of starting and running a business. It involves applying general management practises to the financial resources of a company. With proper financial management, a company can ensure that it has sufficient finances to expand and maintain profitability.
Read along to know the basics of financial management, its importance and scope.
Financial management refers to the management of all financial functions and aspects of a company or an individual. It involves strategic planning, organizing, controlling and evaluating all financial activities including procurement of funds, utilization, etc.
Good financial management allows the CFO (Chief Financial Officer) of a company to make informed decisions, get insights on how to procure funds and create a long-term vision. It helps in maintaining organizational efficiency, maximizing profits and minimizing expenses.
There are 3 main scopes (elements) of proper financial management:
The following are some of the functions of financial management:
Financial management provides the foundation for proper fund utilisation and strategic planning to uphold fiscal supervision. Managing finances is crucial since it adds value to an organisation and strengthens the customer relationship. Financial management involves managing cash movement, risk management and managing credit.
Imagine a financial institution (banks or Non-banking financial institutions) operating under the strict supervision of the central bank. Since the Central Banks control the monetary mechanism, they can regulate the general functioning of banks by tweaking repo/reverse repo rate values, etc. Banks essentially earn profits from the difference in interest income earned from extending loans and interest paid by their customers.
When banks face financial trouble, they may reach the central bank for policy changes that can keep them running. This may include raising taxes or aiming to reduce non-performing assets.
Some basic objectives or perks of efficient financial management include:
The five A’s of managing finances resourcefully include-
There are four types of financial decisions:
1. Capital budgeting: Employing funds in different assets is integral to any organisation. Long-term investment decisions affect profitability and liquidity. Hence they are generally irreversible and struggle to maintain the organisation’s dignity.
For example, to cope with competition, Mahindra made long term decisions to invest in electric vehicles. This decisive decision can potentially change the course of the Indian automobile sector or can backflip if not done right. Bad capital budgeting can destabilize their financial fortune and affect their position in the stock market.
2. Capital structure: Sourcing funds to ensure smooth functioning is the quintessential decision organisations need to make. Raising funds from long-term sources includes equity, shares, debentures, bank loans, etc. Capital structure essentially considers the risks involved in the repayment of such borrowed funds.
The cost of raising/repaying capital varies, and so does the risk associated with it. Additionally, floatation costs like commissions, brokerage, etc., make funding less appealing.
3. Dividend decision: Profit distribution determines how well a company understands and regards contributions. Sharing dividends among shareholders involves devising an approach determined by the dividend per share. Normally, it does not change concerning minor changes in profits.
Dividend sharing also determines a company’s growth prospects and cash flow positions. Availability of adequate cash is crucial, especially when the economy is vulnerable to fluctuations.
4. Working capital management decision involves effectively employing an organisation’s available working capital. Companies need to analyse their assets and liabilities for a stable cash flow. This would eventually assist them in meeting short term debt obligations and maintaining production costs.
Working capital management works with several financial ratios that can effectively ensure the smooth operation of the cash conversion cycle.
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With Hindustan Motors shutting down operations in 2014, it is evident that growing financial indiscipline, critical fund shortage and inappropriate demand can be fatal for an organisation. Efficient financial management is therefore essential for profit maximisation and long-run survival.
Ans: Some books on financial management include ‘Fundamentals of Financial Management by Eugene Brigham, Financial management: Theory and Practice by Brigham and Ehrhardt, etc.
Ans: Financial management can decide if an organization requires more capital from various means. This is then handled by accountants who use statistics from the balance sheet and analyze the circumstances.
Ans: Treasury dept. implements the financial plans formulated, coordinated and administered by financial managers. Thus the former is short term depending on the execution, while the latter is for the long run.
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Disclaimer: This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information, and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.