Nature of Financial Management:

Nature of financial management could be spotlighted with reference to the following

aspects of this discipline:
(i) Financial management is a specialized branch of general management, in the present-daytimes. Long back, in traditional times, the finance function was coupled, either with production
or with marketing; without being assigned a separate status.
(ii) Financial management is growing as a profession. Young educated persons, aspiring for a
career in management, undergo specialized courses in Financial Management, offered by
universities, management institutes etc.; and take up the profession of financial management.
(iii) Despite a separate status financial management, is intermingled with other aspects of
management. To some extent, financial management is the responsibility of every functional
manager. For example, the production manager proposing the installation of a new plant to be
operated with modern technology; is also involved in a financial decision.
Likewise, the Advertising Manager thinking, in terms of launching an aggressive advertising
programme, is too, considering a financial decision; and so on for other functional managers.
This intermingling nature of financial management calls for efforts in producing a coordinated
financial system for the whole enterprise.
(iv) Financial management is multi-disciplinary in approach. It depends on other disciplines, like
Economics, Accounting etc., for a better procurement and utilisation of finances.
For example, macro-economic guides financial management as to banking and financial
institutions, capital market, monetary and fiscal policies to enable the finance manager decide
about the best sources of finances, under the economic conditions, the economy is passing
through.
Micro-economics points out to the finance manager techniques for profit maximisation, with the
limited finances at the disposal of the enterprise. Accounting, again, provides data to the finance
manager for better and improved financial decision making in future.
(v) The finance manager is often called the Controller; and the financial management function is
given name of controllership function; in as much as the basic guideline for the formulation and
implementation of plans-throughout the enterprise-come from this quarter.
The finance manager, very often, is a highly responsible member of the Top Management Team.
He performs a trinity of roles-that of a line officer over the Finance Department; a functional
expert commanding subordinates throughout the enterprise in matters requiring financial

discipline and a staff adviser, suggesting the best financial plans, policies and procedures to the
Top Management.
In any case, however, the scope of authority of the finance manager is defined by the Top
Management; in view of the role desired of him- depending on his financial expertise and the
system of organizational functioning.
(vi) Despite a hue and cry about decentralisation of authority; finance is a matter to be found still
centralised, even in enterprises which are so called highly decentralised. The reason for authority
being centralised, in financial matters is simple; as every Tom, Dick and Harry manager cannot
be allowed to play with finances, the way he/she likes. Finance is both-a crucial and limited
asset-of any enterprise.
(vii) Financial management is not simply a basic business function along with production and
marketing; it is more significantly, the backbone of commerce and industry. It turns the sand of
dreams into the gold of reality.
No production, purchases or marketing are possible without being duly supported by requisite
finances. Hence, Financial Management commands a higher status vis-a-vis all other functional
areas of general management.

4 Major Scope of Financial Management

Some of the major scope of financial management are as
follows: 1. Investment Decision 2. Financing Decision 3.
Dividend Decision 4. Working Capital Decision.
1. Investment Decision:

The investment decision involves the evaluation of risk, measurement of cost of capital and
estimation of expected benefits from a project. Capital budgeting and liquidity are the two major
components of investment decision. Capital budgeting is concerned with the allocation of capital
and commitment of funds in permanent assets which would yield earnings in future.
Capital budgeting also involves decisions with respect to replacement and renovation of old
assets. The finance manager must maintain an appropriate balance between fixed and current
assets in order to maximise profitability and to maintain desired liquidity in the firm.
Capital budgeting is a very important decision as it affects the long-term success and growth of a
firm. At the same time it is a very difficult decision because it involves the estimation of costs
and benefits which are uncertain and unknown.

2. Financing Decision:

While the investment decision involves decision with respect to composition or mix of assets,
financing decision is concerned with the financing mix or financial structure of the firm. The
raising of funds requires decisions regarding the methods and sources of finance, relative
proportion and choice between alternative sources, time of floatation of securities, etc. In order
to meet its investment needs, a firm can raise funds from various sources.
The finance manager must develop the best finance mix or optimum capital structure for the
enterprise so as to maximise the long- term market price of the companys shares. A proper
balance between debt and equity is required so that the return to equity shareholders is high and
their risk is low.
Use of debt or financial leverage effects both the return and risk to the equity shareholders. The
market value per share is maximised when risk and return are properly matched. The finance
department has also to decide the appropriate time to raise the funds and the method of issuing
securities.
3. Dividend Decision:

In order to achieve the wealth maximisation objective, an appropriate dividend policy must be
developed. One aspect of dividend policy is to decide whether to distribute all the profits in the
form of dividends or to distribute a part of the profits and retain the balance. While deciding the
optimum dividend payout ratio (proportion of net profits to be paid out to shareholders).
The finance manager should consider the investment opportunities available to the firm, plans for
expansion and growth, etc. Decisions must also be made with respect to dividend stability, form
of dividends, i.e., cash dividends or stock dividends, etc.
4. Working Capital Decision:

Working capital decision is related to the investment in current assets and current liabilities.
Current assets include cash, receivables, inventory, short-term securities, etc. Current liabilities
consist of creditors, bills payable, outstanding expenses, bank overdraft, etc. Current assets are
those assets which are convertible into a cash within a year. Similarly, current liabilities are those
liabilities, which are likely to mature for payment within an accounting year.

Cost Accounting

Cost accounting is a process of collecting, recording, classifying, analyzing, summarizing,

allocating and evaluating various alternative courses of action & control of costs. Its goal is to
advise the management on the most appropriate course of action based on the cost efficiency and
capability. Cost accounting provides the detailed cost information that management needs to
control current operations and plan for the future.[1]
Since managers are making decisions only for their own organization, there is no need for the
information to be comparable to similar information from other organizations. Instead,
information must be relevant for a particular environment. Cost accounting information is
commonly used in financial accounting information, but its primary function is for use by
managers to facilitate making decisions.

Management Accounting
Introduction :- The scope of Management Accounting is broader than the scope of cost
accounting. In cost accounting, as we have seen, the primary emphasis is on cost and it deals
with collection, analysis, relevance, interpretation and presentation for various problems of
management. Management Accounting is an accounting system which will help the Management
to improve its ef ciency. The main thrust of Management Accounting is towards determining
policy and formulating plans to achieve desired objectives of management. It helps the
Management in planning, controlling and analyzing the performance of the organization in order
to follow the path of continuous improvement. Management Accounting utilizes the principle
and practices of nancial accounting and cost accounting in addition to other modern
management techniques for effective operation of a company. In fact there is an overlapping in
various areas of cost accounting and management accounting. However, the distinguishing
features of Management Accounting are given below.

Financial Statement Analysis

Overview of Financial Statement Analysis
Financial statement analysis involves the identification of the following items for a company's
financial statements over a series of reporting periods:

Trends. Create trend lines for key items in the financial statements over
multiple time periods, to see how the company is performing. Typical trend
lines are for revenues, the gross margin, net profits, cash, accounts
receivable, and debt.

Proportion analysis. An array of ratios are available for discerning the

relationship between the size of various accounts in the financial statements.
For example, you can calculate a company's quick ratio to estimate its ability
to pay its immediate liabilities, or its debt to equity ratio to see if it has taken
on too much debt. These analyses are frequently between the revenues and
expenses listed on the income statement and the assets, liabilities, and
equity accounts listed on the balance sheet.

Financial statement analysis is an exceptionally powerful tool for a variety of users of financial
statements, each having different objectives in learning about the financial circumstances of the
entity.
Users of Financial Statement Analysis
There are a number of users of financial statement analysis. They are:

Creditors. Anyone who has lent funds to a company is interested in its ability
to pay back the debt, and so will focus on various cash flow measures.

Investors. Both current and prospective investors examine financial

statements to learn about a company's ability to continue issuing dividends,
or to generate cash flow, or to continue growing at its historical rate
(depending upon their investment philisophies).

Management. The company controller prepares an ongoing analysis of the

company's financial results, particularly in relation to a number of operational
metrics that are not seen by outside entities (such as the cost per delivery,
cost per distribution channel, profit by product, and so forth).

Regulatory authorities. If a company is publicly held, its financial statements

are examined by the Securities and Exchange Commission (if the company
files in the United States) to see if its statements conform to the various
accounting standards and the rules of the SEC.

Methods of Financial Statement Analysis

There are two key methods for analyzing financial statements. The first method is the use of
horizontal and vertical analysis. Horizontal analysis is the comparison of financial information
over a series of reporting periods, while vertical analysis is the proportional analysis of a
financial statement, where each line item on a financial statement is listed as a percentage of
another item. Typically, this means that every line item on an income statement is stated as a
percentage of gross sales, while every line item on a balance sheet is stated as a percentage of
total assets. Thus, horizontal analysis is the review of the results of multiple time periods, whiile
vertical analysis is the review of the proportion of accounts to each other within a single period.
The following links will direct you to more information about horizontal and vertical analyis:

Horizontal analysis

Vertical analysis

The second method for analyzing financial statements is the use of many kinds of ratios. You use
ratios to calculate the relative size of one number in relation to another. After you calculate a
ratio, you can then compare it to the same ratio calculated for a prior period, or that is based on
an industry average, to see if the company is performing in accordance with expectations. In a
typical financial statement analysis, most ratios will be within expectations, while a small
number will flag potential problems that will attract the attention of the reviewer.
There are several general categories of ratios, each designed to examine a different aspect of a
company's performance. The general groups of ratios are:
1. Liquidity ratios. This is the most fundamentally important set of ratios,
because they measure the ability of a company to remain in business. Click
the following links for a thorough review of each ratio.
o

Cash coverage ratio. Shows the amount of cash available to pay

interest.

Current ratio. Measures the amount of liquidity available to pay for

current liabilities.

Quick ratio. The same as the current ratio, but does not include
inventory.

Liquidity index. Measures the amount of time required to convert

assets into cash.

2. Activity ratios. These ratios are a strong indicator of the quality of

management, since they reveal how well management is utilizing company
resources. Click the following links for a thorough review of each ratio.
o

Accounts payable turnover ratio. Measures the speed with which a

company pays its suppliers.

Accounts receivable turnover ratio. Measures a company's ability to

collect accounts receivable.

Fixed asset turnover ratio. Measures a company's ability to generate

sales from a certain base of fixed assets.

Inventory turnover ratio. Measures the amount of inventory needed to

support a given level of sales.

Sales to working capital ratio. Shows the amount of working capital

required to support a given amount of sales.

Working capital turnover ratio. Measures a company's ability to

generate sales from a certain base of working capital.

3. Leverage ratios. These ratios reveal the extent to which a company is relying
upon debt to fund its operations, and its ability to pay back the debt. Click
the following links for a thorough review of each ratio.
o

Debt to equity ratio. Shows the extent to which management is willing

to fund operations with debt, rather than equity.

Debt service coverage ratio. Reveals the ability of a company to pay its
debt obligations.

Fixed charge coverage. Shows the ability of a company to pay for its
fixed costs.

4. Profitability ratios. These ratios measure how well a company performs in

generating a profit. Click the following links for a thorough review of each
ratio.
o

Breakeven point. Reveals the sales level at which a company breaks

even.

Contribution margin ratio. Shows the profits left after variable costs are
subtracted from sales.

Gross profit ratio. Shows revenues minus the cost of goods sold, as a
proportion of sales.

Margin of safety. Calculates the amount by which sales must drop

before a company reaches its breakeven point.

Net profit ratio. Calculates the amount of profit after taxes and all
expenses have been deducted from net sales.

Return on equity. Shows company profit as a percentage of equity.

Return on net assets. Shows company profits as a percentage of fixed

assets and working capital.

Return on operating assets. Shows company profit as percentage of

assets utilized.

Problems with Financial Statement Analysis

While financial statement analysis is an excellent tool, there are several issues to be aware of that
can interfere with your interpretation of the analysis results. These issues are:

Comparability between periods. The company preparing the financial

statements may have changed the accounts in which it stores financial
information, so that results may differ from period to period. For example, an
expense may appear in the cost of goods sold in one period, and in
administrative expenses in another period.

Comparability between companies. An analyst frequently compares the

financial ratios of different companies in order to see how they match up
against each other. However, each company may aggregate financial
information differently, so that the results of their ratios are not really
comparable. This can lead an analyst to draw incorrect conclusions about the
results of a company in comparison to its competitors.

Operational information. Financial analysis only reviews a company's financial

information, not its operational information, so you cannot see a variety of
key indicators of future performance, such as the size of the order backlog, or
changes in warranty claims. Thus, financial analysis only presents part of the
total picture.

What is the 'Financial Market'

The financial market is a broad term describing any marketplace where trading of securities
including equities, bonds, currencies and derivatives occurs. Although some financial markets
are very small with little activity, some financial markets including the New York Stock
Exchange
Financial Market, in very crude terms, is a place where the savings from various sources like
households, government, firms and corporates are mobilized towards those who need it.
Alternatively put, financial market is an intermediary which directs funds from the savers
(lenders) to the borrowers.
In other words, financial market is the place where assets like equities, bonds, currencies,
derivatives and stocks are traded.
Some of the salient features of financial market are:

Transparent pricing

Basic regulations on trading

Low transaction costs

Market determined prices of traded securities

Basic Functions of Financial Market:

Financial market has emerged as one of the biggest markets in the world. It is engaged in a wide
range of activities that cater to a large group of people with diverse needs.
Six key functions of Financial Market are
1. Borrowing & Lending: Financial market transfers fund from one economic
agent (saver/lender) to another (borrower) for the purpose of either
consumption or investment.

2. Determination of Prices: Prices of the new assets as well as the existing

stocks of financial assets are set in financial markets. Determination of prices
is major function of financial market.
3. Assimilation and Co-ordination of Information: It gathers and co-ordinates
information regarding the value of financial assets and flow of funds in the
economy.
4. Liquidity: The asset holders can sell or liquidate their assets in financial
market.
5. Risk Sharing: It distributes the risk associated in any transaction among
several participants in an enterprise.
6. Efficiency: It reduces the cost of transaction and acquiring information. It help
to increase efficiency in financial market.

Financial Market
Financial Market, in very crude terms, is a place where the savings from various sources like
households, government, firms and corporates are mobilized towards those who need it.
Alternatively put, financial market is an intermediary which directs funds from the savers
(lenders) to the borrowers.
In other words, financial market is the place where assets like equities, bonds, currencies,
derivatives and stocks are traded.
Some of the salient features of financial market are:

Transparent pricing

Basic regulations on trading

Low transaction costs

Market determined prices of traded securities

Basic Functions of Financial Market:

Financial market has emerged as one of the biggest markets in the world. It is engaged in a wide
range of activities that cater to a large group of people with diverse needs.
Six key functions of Financial Market are
1. Borrowing & Lending: Financial market transfers fund from one economic
agent (saver/lender) to another (borrower) for the purpose of either
consumption or investment.

2. Determination of Prices: Prices of the new assets as well as the existing

stocks of financial assets are set in financial markets. Determination of prices
is major function of financial market.
3. Assimilation and Co-ordination of Information: It gathers and co-ordinates
information regarding the value of financial assets and flow of funds in the
economy.
4. Liquidity: The asset holders can sell or liquidate their assets in financial
market.
5. Risk Sharing: It distributes the risk associated in any transaction among
several participants in an enterprise.
6. Efficiency: It reduces the cost of transaction and acquiring information. It help
to increase efficiency in financial market.

Major Players in Financial Market:

The principle participants in the financial market are as follows:
BANKS: Largest provider of funds to business houses and corporates through accepting
deposits. Banks are the major participant in the financial market.
INSURANCE COMPANIES: Issue contracts to individuals or firms with a promise to refund
them in future in case of any event and thereby invest these funds in debt, equities, properties,
etc.
FINANCE COMPANIES: Engages in short to medium term financing for businesses by
collecting funds by issuing debentures and borrowing from general public.
MERCHANT BANKS: Funded by short term borrowings; lend mainly to corporations for
foreign currency and commercial bills financing.
COMPANIES: The surplus funds generated from business operations are majorly invested in
money market instruments, commercial bills and stocks of other companies.
MUTUAL FUNDS: Acquire funds mainly from the general public and invest them in money
market, commercial bills and shares. Mutual fund is also principle participant in financial
market.
GOVERNMENT: Authorized dealers basically look after the demand-supply operations in
financial market. Also works to fill in the gap between the demand and supply of funds.

Components of Financial Market:

The financial market can be classified into several sub-types.
The components are:
CAPITAL MARKET: It consists of stock market and bond market. Works by issuing common
stock or bonds.
COMMODITY MARKET: Provides for trading in commodities.
MONEY MARKET: Facilitates short-term debt financing and investment.
DERIVATIVES MARKET: Specializes in financial risk sharing and risk management.
FUTURES MARKET: Issues contracts for trading commodities at some future date.
INSURANCE MARKET: Also specializes in re-distribution of various risks.
FOREIGN EXCHANGE MARKET: Specializes in trading of foreign exchange and international
currencies.

Capital markets
Capital market refers to a type of financial market, where individuals and institutions are trading
in financial securities. Public and private institutions or organisations usually list their securities
for selling among investors and for raising their funds. This kind of a market is made for both
primary and secondary market. In this market, long term maturity instruments are listed, which
have a period of more than one year.
Investors are investing their money for long periods of time. Various financial institutions
provide the investing facility in capital markets, such as IDBI, UTI, ICICI, LIC, etc. These
agencies play a role of intermediaries or lenders. Capital market has various instruments for
investment.
Capital market is classified into two categories, first one is Primary market and second is
Secondary market. In primary market, the all new shares are traded in market and , on the other
hand, in the secondary market, the existing securities are traded. The institutions of capital
market facilitate foreign exchange loans, underwriting, consultancy, rupee loans, etc.
Capital market provides equity finance and long term debt to government or corporate.

Money markets
The money market is the arena in which financial institutions make available to a broad range of
borrowers and investors the opportunity to buy and sell various forms of short-term securities.
There is no physical "money market." Instead it is an informal network of banks and traders
linked by telephones, fax machines, and computers. Money markets exist both in the United
States and abroad.
The short-term debts and securities sold on the money marketswhich are known as money
market instrumentshave maturities ranging from one day to one year and are extremely liquid.
Treasury bills, federal agency notes, certificates of deposit (CDs), eurodollar deposits,
commercial paper, bankers' acceptances, and repurchase agreements are examples of
instruments. The suppliers of funds for money market instruments are institutions and
individuals with a preference for the highest liquidity and the lowest risk.
The money market is important for businesses because it allows companies with a temporary
cash surplus to invest in short-term securities; conversely, companies with a temporary cash
shortfall can sell securities or borrow funds on a short-term basis. In essence the market acts as a
repository for short-term funds. Large corporations generally handle their own short-term
financial transactions; they participate in the market through dealers. Small businesses, on the
other hand, often choose to invest in money-market funds, which are professionally managed
mutual funds consisting only of short-term securities.
Although securities purchased on the money market carry less risk than long-term debt, they are
still not entirely risk free. After all, banks do sometimes fail, and the fortunes of companies can
change rather rapidly. The low risk is associated with lender selectivity. The lender who offers
funds with almost instant maturities ("tomorrow") cannot spend too much time qualifying
borrowers and thus selects only blue-chip borrowers. Repayment therefore is assured (unless you
caught Enron just before it suddenly nose-dived). Borrowers with fewer credentials, of course,
have difficult getting money from this market unless it is through well-established funds.

TYPES OF MONEY MARKET INSTRUMENTS

Treasury Bills

Treasury bills (T-bills) are short-term notes issued by the U.S. government. They come in three
different lengths to maturity: 90, 180, and 360 days. The two shorter types are auctioned on a
weekly basis, while the annual types are auctioned monthly. T-bills can be purchased directly
through the auctions or indirectly through the secondary market. Purchasers of T-bills at auction
can enter a competitive bid (although this method entails a risk that the bills may not be made
available at the bid price) or a noncompetitive bid. T-bills for noncompetitive bids are supplied at
the average price of all successful competitive bids.

Federal Agency Notes

Some agencies of the federal government issue both short-term and long-term obligations,
including the loan agencies Fannie Mae and Sallie Mae. These obligations are not generally
backed by the government, so they offer a slightly higher yield than T-bills, but the risk of default
is still very small. Agency securities are actively traded, but are not quite as marketable as Tbills. Corporations are major purchasers of this type of money market instrument.
Short-Term Tax Exempts

These instruments are short-term notes issued by state and municipal governments. Although
they carry somewhat more risk than T-bills and tend to be less negotiable, they feature the added
benefit that the interest is not subject to federal income tax. For this reason, corporations find that
the lower yield is worthwhile on this type of short-term investment.
Certificates of Deposit

Certificates of deposit (CDs) are certificates issued by a federally chartered bank against
deposited funds that earn a specified return for a definite period of time. They are one of several
types of interest-bearing "time deposits" offered by banks. An individual or company lends the
bank a certain amount of money for a fixed period of time, and in exchange the bank agrees to
repay the money with specified interest at the end of the time period. The certificate constitutes
the bank's agreement to repay the loan. The maturity rates on CDs range from 30 days to six
months or longer, and the amount of the face value can vary greatly as well. There is usually a
penalty for early withdrawal of funds, but some types of CDs can be sold to another investor if
the original purchaser needs access to the money before the maturity date.
Large denomination (jumbo) CDs of $100,000 or more are generally negotiable and pay higher
interest rates than smaller denominations. However, such certificates are only insured by the
FDIC up to $100,000. There are also eurodollar CDs; they are negotiable certificates issued
against U.S. dollar obligations in a foreign branch of a domestic bank. Brokerage firms have a
nationwide pool of bank CDs and receive a fee for selling them. Since brokers deal in large
sums, brokered CDs generally pay higher interest rates and offer greater liquidity than CDs
purchased directly from a bank.
Commercial Paper

Commercial paper refers to unsecured short-term promissory notes issued by financial and
nonfinancial corporations. Commercial paper has maturities of up to 270 days (the maximum
allowed without SEC registration requirement). Dollar volume for commercial paper exceeds the
amount of any money market instrument other than T-bills. It is typically issued by large, creditworthy corporations with unused lines of bank credit and therefore carries low default risk.

Standard and Poor's and Moody's provide ratings of commercial paper. The highest ratings are
A1 and P1, respectively. A2 and P2 paper is considered high quality, but usually indicates that
the issuing corporation is smaller or more debt burdened than A1 and P1 companies. Issuers
earning the lowest ratings find few willing investors.
Unlike some other types of money-market instruments, in which banks act as intermediaries
between buyers and sellers, commercial paper is issued directly by well-established companies,
as well as by financial institutions. Banks may act as agents in the transaction, but they assume
no principal position and are in no way obligated with respect to repayment of the commercial
paper. Companies may also sell commercial paper through dealers who charge a fee and arrange
for the transfer of the funds from the lender to the borrower.