FINANCIAL MANAGEMENT

UPES
Financial Management
Financial Management means the efficient and effective
management of money (funds) in such a manner as to
accomplish the objectives of the organization.
Objectives of Organization
Profit Maximization

Creation of Wealth for Sharehoders

Modes of Achieving Business
Objectives
Increasing Profitability
Most organizations operate because their owners want to
maximize wealth. Therefore, improving profitability is one of
the prime objectives of a business. When a business achieves
incremental profit margins, it shows that the operations of
the business are probably reducing costs proportionally .
Modes of Achieving Business
Objectives
Increasing Return on Investment ( ROI)
Increased return on investment shows how quickly the
business returns profit on the money or capital that
interested parties have invested in it. A higher rate ROI
ensures that owners receive funds more quickly for
investments in other ventures, or that funds can be further
reinvested in the business.
Modes of Achieving Business
Objectives
Maintaining Cash Flow
Increased cash flow is a financial objective that allows smooth
running of the business in the form of timely payments to
employees and creditors. It also enables business owners to
draw earnings in cash from the business.
Modes of Achieving Business
Objectives
Improving Market Share
Businesses often compete to rule a market by growing their
market share. It can obtain increased market share by
increasing revenues; revenue increases as customers buy
more of companys products. Improved market share also
shows that the products or services may be more desirable
Modes of Achieving Business
Objectives
Achieving Business Globilization
Businesses want to grow their market share not only within
their countrys borders, but also across the globe.
Globalization can be measured by identifying the amount or
number of exports that are made.
Modes of Achieving Business
Objectives
Creating Process Improvements
Businesses have significant internal objectives that they try to
achieve to create superior customer values. The company can
eliminate non value-added activities from its processes by
setting process improvement goals. This enables the
organization to be more efficient and cost-effective in
delivering its products and services.
Modes of Achieving Business
Objectives
Research and Development
Research and development, or other learning or innovation
goals, improve the companys capabilities for serving the
market and its interests. A basic market research resulting in
identification of the products minor flaws may go a long way
in helping you attain your financial, market and reputational
objectives
Modes of Achieving Business
Objectives
Improving and Maintaining Goodwill
Some businesses strive to maintain their image and goodwill
in the market. These enterprises want the masses to view
them favorably. For this purpose, enterprises need to comply
with moral, ethical and legal standards, and let these
compliances be known to relevant stakeholders
Modes of Achieving Business
Objectives
Superior Brand Recognition
Superior brand recognition occurs when a business or its
products are readily and positively identified by the masses.
For example, many consumers recognize that the crocodile
on a shirt represents Lacoste. Through heavy advertising and
product differentiation, organizations aim to achieve superior
brand recognition
Modes of Achieving Business
Objectives
Brand Loyalty
Brand loyalty occurs when the customer buys only a
particular brand and is uncomfortable using goods or
services of another entity. Marketers use a partnership of
advertising and the quality of products and services to build
brand loyalty. They also use schemes such as loyalty cards,
which provide discounts to repeat customers, to create brand
loyalty.
Stakeholders in a Business
Organizations
A corporate stakeholder is that which can affect or be
affected by the actions of the business as a whole. The
stakeholder concept was first used in a 1963 internal
memorandum at the Stanford Research Institute. It defined
stakeholders as "those groups without whose support the
organization would cease to exist."
Stakeholders in a Business
Organizations
Stakeholder's concerns:
Government taxation, VAT, legislation, employment,
truthful reporting, diversity, legalities, externalities.
Employees rates of pay, job security, compensation, respect,
truthful communication.
Customers value, quality, customer care, ethical products.
Suppliers providers of products and services used in the
end product for the customer, equitable business
opportunities.
Creditors credit score, new contracts, liquidity.
Stakeholders
Community jobs, involvement, environmental protection,
shares, truthful communication.
Trade Unions quality, worker protection, jobs.
Owner(s) profitability, longevity, market share, market
standing, succession planning, raising capital, growth, social
goals.
Investors return on investment, income.
Financial Statements provide insight into the working of a Business
Enterprise to various Stakeholders
Financial Statements
A financial statement (or financial report) is a formal record of the
financial activities of a business, person, or other entity.

Relevant financial information is presented in a structured manner and in a

form easy to understand. They typically include basic financial statements,
accompanied by a management discussion and analysis

Statement of financial position: also referred to as a balance sheet,

reports on a company's assets, liabilities, and ownership equiy at a given point
in time.

Statement of comprehensive income : also referred to as Profit & Loss

Statement or Account, reports on a company's income, expenses, and profits
over a period of time. A profit and loss statement provides information on the
operation of the enterprise. These include sales and the various expenses
incurred during the processing state.
Financial Statements
Statement of cash flows: reports on a company's cash
flow activities, particularly its operating, investing and
financing activities.
For large corporations, these statements are often complex
and may include an extensive set of notes to the financial
statements and management discussion and analysis.
The notes typically describe each item on the balance sheet,
income statement and cash flow statement in further detail.
Notes to financial statements are considered an integral part
of the financial statements
Accounting Equation
The accounting equation is the mathematical structure of the
balance sheet. It relates assets, liabilities, and owner's equity:
Assets = Liabilities + Capital (where Capital for a corporation
equals Owner's Equity) or
Liabilities = Assets - Capital or
Capital = Assets - Liabilities
Thus the total value of a firms Assets are always equal to the
combined value of its "equity" and "liabilities."
 Profit Equation
Pre 1991
India was a closed Economy.
Consumers did not have much choice. The
producers/manufacturers were limited and so were
products.
The Revenue Equation was
Sales = Cost + Profit
Selling Price was determined by the manufactures on the
basis of cost by adding a margin for profits
Profit Equation
Post 1991 when the economy opened up the consumer prices
were driven by market forces. The equation changed to
SALES COST = PROFIT

A more dynamic form which works on the concept of

profitability is
SALES PROFIT = COST
Profit
In accounting, Profit is the difference between total revenue
and costs properly chargeable against goods sold. The costs
would include purchase and the component costs of
delivered goods and/or services and any operating or other
expenses.
Gross profit equals sales revenue minus cost of goods sold
(COGS), thus removing only the part of expenses that can be
traced directly to the production or purchase of the goods
Profit
Earnings Before Interest, Taxes, Depreciation, and
Amortization (EBITDA) equals sales revenue minus cost of
goods sold and all expenses except for interest, amortization,
depreciation and taxes. It measures the cash earnings that can
be used to pay interest and repay the principal. Since interest
is paid before income tax is calculated.
Profit
Earnings Before Interest and Taxes (EBIT) or
Operating profit equals sales revenue minus cost of goods
sold and all expenses including Depreciation & Amortizations
except for interest and taxes. This is the surplus generated by
operations. It is also known as Operating Profit Before
Interest and Taxes (OPBIT) or simply Profit Before Interest
and Taxes (PBIT).
Profit
Earnings Before Taxes (EBT) or Net Profit Before Tax
equals sales revenue minus cost of goods sold and all
expenses( including depreciation, amortization and interest)
except for taxes. It is also known as pre-tax PROFIT (PBT),
net operating income before taxes or simply pre-tax Income
Profit
Earnings After Tax or Net Profit After Tax equals sales
revenue after deducting all expenses, including taxes. This is
also referred to as PAT (Profit After Taxes)

Earnings After Tax (or Net Profit After Tax) minus payable
dividends becomes Retained Earnings
Assets
In financial accounting, an asset is an economic resource.
Anything tangible or intangible that is capable of being
owned or controlled to produce value and that is held to have
positive economic value is considered an asset. Simply stated,
assets represent value of ownership that can be converted
into cash (although cash itself is also considered an asset).
Simply put, "an asset is something that puts money in your
pocket
Types of Assets
Two major asset classes are
a)tangible assets
b)intangible assets.

Tangible Assets
Tangible assets are those that have a physical substance.
Some of tangible assets are:
a) Land
Types of Assets
b) Building
c ) Plant & Machinery
d) Infrastructure
e) Furniture and Fixtures
f) Vehicles
Types of Assets
Intangible Assets
Intangible assets lack of physical substance and usually are
very hard to evaluate. However they can provide tremendous
value to an organization and contribute to its revenue
streams.
They include patents, copyrights, franchises, goodwill,
trademarks, trade names etc
Classification of Assets
Assets are further classified into
a) Fixed Assets
b) Current Assets

Fixed Assets
Fixed Assets are Long Term assets which provide benefit to
the organization over a sustained period of time. These Assets
are
Classification of Assets
acquired for running the operations of an undertaking and are
generally not meant for sale. The assets acquired for
consumption in process of production or provision of service
or for resale are called Operating Assets or Current Assets.
Some examples of Fixed Assets are Land, Building, Plant and
Machinery etc.

The classification of an assets as Fixed Assets

Classification of Assets
or Current Asset depends on the purpose for which the same
has been acquired or generated and not by simple
nomenclature of the asset.
For instance Land is generally a fixed asset. However if the
same has been acquired by a Builder or a dealer in real estate
it will a part of stock for him since the purpose of acquisition
was to develop and sell the same.
`Classification of Assets
Current Assets
In accounting, a current asset is an asset which can either
be converted to cash or used to pay current liabilities within
12 months. Typical current assets include
a) cash, cash equivalents,
b) short-term investments,
c) accounts receivable, ( debtors)
d) stock inventory
Liabilities
In financial accounting, a liability is defined as an obligation
of an entity arising from past transactions or events, the
settlement of which may result in the transfer or use of
assets, provision of services or other yielding of economic
benefits in the future.
Simply put, "a liability is anything that takes money out of
your pocket."
Liabilities
Long-term liabilities these liabilities are reasonably
expected not to be liquidated within a year. They usually
include issued long-term bonds, notes payables, long-term
leases, pension obligations, and long-term product
warranties, Term Loan From Banks
Current liabilities these liabilities are reasonably expected
to be liquidated within a year. They usually include payables
such as wages, accounts, taxes, and accounts payable,
portions of long-term bonds to be paid this year, short-term
obligations (e.g. from purchase of equipment).
Capital
At the start of a business, owners put some funding into the
business to finance operations. This creates a liability on the
business in the shape of capital as the business is a separate
entity from its owners.
In accounting and finance, equity is the residual claimant or
interest of the most junior class of investors in assets, after all
liabilities are paid; if liability exceeds assets, negative equity
exists. In an accounting context, shareholders'
Capital
equity (or stockholders' equity, shareholders' funds,
shareholders' capital or similar terms) represents the
remaining interest in the assets of a company, spread among
individual shareholders of common or preferred stock; a
negative shareholders' equity is often referred to as a positive
shareholders' deficit.
Capital
External
External Source of Capital is Share Capital
A share is a small unit of Capital of a Company. In other
words share capital of a company is divided into a number of
Equal Parts, each part being known as Share.
Types of Share Capital
There are two types of share Capitals:
a) Equity Shares
b) Preference Shares

Equity Shares
Equity means equal. Equity share is a share that gives equal
rights to holders. Thus equity shareholders have to share the
rewards and
Types of Share Capital
risks associated with ownership of the company.
Equity Shareholders are owners of the company who have
control over the working of the company.
They are entitled to dividend which depends on the profits of
the company. The dividend rate depends on profits. More the
profit, more will be the dividend. If there are no profits, no
dividends will be paid.
Types of Share Capital
Preference Share Capital
Preference Share Capital gives certain advantages to its
holders on equity shareholders. Preference Shareholders
have privilege in two ways:
a) A preferential privilege in payment of a fixed dividend. The
fixed dividend may be in the form of Fixed rate or fixed
amount per share.
Types of Share Capital
b) Preferential right as to repayment of capital in case of
liquidation/ winding up of the company.
Capital
Internal
Internal sources of funds are available only on firms that
exist and are well established. Such sources are :
a) Retained Earnings
Retained Earnings are a important source of internal
financing. Retained Earnings are portion of earnings available
to equity shareholders which are ploughed back in the
company. Thus a
Capital
a part of earnings that are available to equity shareholders are
retained by the company to fund its operations.
The retained earnings, so accumulated, are classified under
the head RESERVES & SURPLUS in the Balance Sheet.
b) Depreciation
Depreciation is the distribution of cost of an
Capital
asset over the estimated useful life of an asset in a systematic
and a rational manner.
In other words depreciation is the allocation of Capital
Expenditure to various periods over which the capital
expenditure is expected to benefit the company.
This expenditure being a Non Cash Expenditure is
considered to be a internal source of finance.
Debt Capital
A debt is a liability on the undertaking. These funds are
raised to meet both long term and short term fund
requirements of the company.

Long Term Funds

a) Debentures/ Bonds
Debenture/ Bonds are important source of Long Term
Funds.
Debt Capital
Debenture is an instrument issued by a company under its
common seal acknowledging a debt and setting forth terms
under which they are issued and are to be paid. A person who
buys debentures is the debenture holder or the creditor of
the company. Debentures can be priced in the same manner
as shares.
Debt Capital
The features of debentures/bonds are as follows:
a) Fixed Rate of Interest
b) Term of Maturity
c) Redemption
d) Convertability
Types of Debentures
a) Redeemable/ Irredeemable
b) Convertible/ Non Convertible
Institutional Finance
Institutional Finance in form of debt is generally available
from Financial Institutions/ Banks to fund the acquisition/
construction of Assets.
Most common form of Institutional Finance is term loans.
These loans are given for a particular ranging from 5 to10
years. Principal is repayable in installments over the term of
the loan. Interest is also payable periodically.
Lease Finance
Leasing is a process by which a firm can obtain the use of
certain fixed assets for which it must pay a series of
contractual, periodic, tax deductible payments.
The lessor is the receiver of services or assets under the lease
contract and the lessor is the owner of the asset.
Under the lease arrangement the lessee uses the
assets/services owned by lessor for a consideration called
lease rent over the term of the lease.
Lease Finance
Thus lease finance denotes procurement of assets through
lease. Leasing is a process by which a firm can obtain the use
of certain assets for which it must pay a series of contractual,
periodic, tax deductible payments.
Types of Lease
The most common form of leases are
Lease Finance
a) Operating Lease
b) Financial Lease

Operating Lease
In case of operating lease the lessee gets to use the asset
for a limited period of time for the consideration of lease
rentals. This is best suited when the asset is required for
temporary use.
Lease Finance
Financial Lease
A financial lease is a means of financing capital asset. It is a
contract between the Financer ( Lessor) and the Customer(
Lessee) for the hire of a specific asset selected from the
manufacturer or vendor selected by lessee to suit the
requirement of the lessee.
The lessee has possession of the asset & uses the same on
payment of specified rentals etc
Lease Finance
while the lessor retains the ownership of the asset.
All the risks and rewards of ownership are normally
transferred to the lessee and the obligations are non
cancellable. The lessee is to bear the costs of insurance,
maintenance and other related costs,
A finance lease is a full payout, non cancellable agreement.
Short Term Sources of Funds
Short Term Funds are required to meet working capital
needs of the undertaking:
Some sources of such funds are:
a) Trade Credits
These refer to credits extended by supplier of goods or
services to their customers in the normal course of business.
Short Term Sources of Funds

Inter Corporate Deposits

These deposits are made by one company to another
company for a period that may extend upto 6 months.

Cash Credits from Banks

Factoring/ Bill Discounting
Format of Balance Sheet
EQUITY & LIABILITIES

Shareholders Funds
Share Capital
Reserves and Surplus
Non Current Liabilities
Long Term Borrowings
Long Term Liabilities
Long Term Provisions
Format of Balance Sheet ( Contd)
Current Liabilities
Short Term Borrowings
Current Maturities of Long Term Borrowings
Trade Payables
Other Current Liabilities
Short Term Provisions

TOTAL
Format Balance Sheet ( Contd)
ASSETS
Non Current Assets
Fixed Assets
Tangible Assets
Intangible Assets
Capital Work In Progress
Intangible Assets under Development
Non Current Investments
Long Term Loans and Advances
Other Non Current Assets
Format of Balance Sheet ( Contd)
Current Assets
Current Investments
Inventories
Trade Receivables
Cash and Bank Bal
Short Term Loans and Advances
Other Current Assets

TOTAL
Format of Profit & Loss Account
Income From Services & Products
Other Income
(A) Total Revenue

Expenses
(B) Cost of Goods Sold
(D) Gross Profit ( A-B)
(E) Employee Benefit Exp
Sales Admin & Other Exp
(F) Operating Profit ( D-E)
(EBIDTA)
Format of Profit & Loss Account (
Contd)
G. Depreciation & Amortization
H. Profit before Interest & Tax ( F-G)
( EBIT)
I . Finance Cost
J. Earning Before Tax ( H-I)
(EBT)
K. Taxation
L. Profit After Tax (J-K)
( Profit After Tax)
M. Dividends
N. Retained Earnings ( L-M)
Format of Cash Flow Statement
INFLOW
a) Opening Balance
b) Share Capital
c) Loans & Borrowings
d) Receipts From Customers
e) Other Incomes

Total
Format of Cash Flow Statement(
Contd)
OUTFLOW
a) Acquisition of Assets
b) Investments
c) Repayment of Loans
f) Payments to Vendors
g) Payment of Sales & Admin Exp
h) Interest and Other Finance Costs
i) Payment of Taxes
j) Dividends
Total Out Flow
Net Cash Balance ( Inflow- Outflow)
Cost ----Concepts
Cost is a sacrifice. It is the amount of resource given up in
exchange of some goods or Services.

The Chartered Institute of Management Accountants,

London defines cost as the amount of expenditure ( actual
or notional) incurred on or attributable to a specified thing
or activity.
Costs-- Classification
By time ( historical or pre determined)
By nature of elements ( material, labour and overhead)
By degree of tracebility to products ( direct, indirect)
Association with product (product, period)
Change in activity or Volume ( Fixed, Variable and semi
variable
Costs-- Classification
By function ( manufacturing, administrative, selling etc)
Relationship with accounting period ( Capital, Revenue)
Costs for analytical and decision making purpose (
Opportunity Costs etc)
Others ( Conversion, traceable)
Costs--- Opportunity Costs
Opportunity Costs
Opportunity Cost is the cost of selecting one course of
action and loosing the other opportunities to carry out that
course of action. It is the amount that can be received if the
asset is utilized in its next best alternative.
Working Capital
Working capital (abbreviated WC) is a financial metric
which represents operating liquidity available to a business,
organization or other entity, including governmental entity.
Along with fixed assets such as plant and equipment, working
capital is considered a part of operating capital. Gross
working capital equals to current assets.
Net working capital (NWC) is calculated as current assets
minus current liabilities. If current assets are less than
current liabilities, an entity has a working capital
deficiency, also called a working capital deficit.
Working Capital
A company can be endowed with assets and profitability but
short of liquidity if its assets cannot readily be converted into
cash. Positive working capital is required to ensure that a
firm is able to continue its operations and that it has sufficient
funds to satisfy both maturing short-term debt and upcoming
operational expenses. The management of working capital
involves managing inventories, accounts receivable and
payable, and cash
Analysis of Financial Statements
Presentation of Financial Statements is an important part of
Accounting Process. These statements are used by various
stakeholders and other interested parties to meet their needs.

The Financial Statements can be properly understood and

interpreted if they are properly analyzed.

Ratio Analysis is an important tool of Analyzing the Financial

Statements.
Ratio Analysis ( Important Ratios)
CURRENT RATIO
= Current Assets/Current Liabilities
Current Ratio establishes the relationship between current
assets and current liabilities. It attempts to measure the
ability of the firm to meets its current obligations.

Gross Profit Ratio

Gross Profit = Sales- Cost of Goods Sold
Gross Profit Ratio = (Gross Profit/Sales)*100
A higher Gross Profit ratio means that the company is working
Ratio Analysis
on a high margin over its cost of goods sold.

Operating Profit Ratio

Operating Profit ( EBIDTA)/Sales
This ratio reveals the overall operating efficiency in
operating the business.

Return on Investment Ratio ( ROI)

Profit after Tax/Shareholders Funds
This ratio measures the return on shareholders investment.
Ratio Analysis
Return on Capital Employed ( ROCE)

PAT/ Capital Employed

Earning Per Share (EPS)

= Profit after tax and Preference Dividend/No of Equity
shares
This ratio measures the earning capacity of the firm from
the owners point of view and is helpful in determining the
price of the shares in the market place.
Ratio Analysis
Dividend Payout Ratio
Equity Dividend/Profit After Tax and Pref Div

This ratio indicates the dividend policy adopted by the

Management and about utilization of divisible profits to pay
dividend or to retain or both.
Dividend Yield Ratio
= Dividend per Share/ Market Value per share
This ratio is a major factor that determines the dividend
income from investors point of view.
Ratio Analysis
Price Earning Ratio ( P E Ratio)
= Market Price per Equity Share/Earning per Share
This ratio highlights the Earning per share reflected by
market price. This ratio helps to find out whether equity
shares of a company are undervalued or not.
Budgets
Budgets are any Financial Plan serving as an estimate of and
a control over future operations.
Budgetary Control is the establishment of budgets, relating
to responsibilities of an executive to the requirement of a
policy and continuous comparison of actual with budgeted
results either to secure by individual action the objectives of
that policy or to provide a firm base for its revision.
Thus Budgetary Control system secures control over
performance and costs in different parts of business :
a) By establishing Budgets
b) By comparing actual attainments against the budgets.
Budgets
c) By taking corrective action and remedial measures or
revision of budgets.
A budget key factor or principal budget factor is
described as a factor which will limit the activities of an
undertaking and which will be taken into account in
preparing budgets.
The limiting factor is usually the demand for the products
or services of the undertaking but it could be a shortage of
productive resources e.g skilled labor, raw material or
machine capacity. Another limiting factor could be Govt.
Regulations or Govt. Restrictions.
Budgets ( Classification)
Sales Budgets
Production Budgets
Materials Budgets
Direct Labor Budgets
Expenses and overheads budgets
Research & Development Budget
Cash Budgets
Master Budgets.
Concept of 51Q
5 YEARS PLAN

Annual Budgets

Quarterly Review
Performance Budgeting
The concept of Performance Budgeting relates to greater
management efficiency.
Performance Budgeting technique is the process of
analyzing, identifying, simplifying, and crystallizing specific
performance objectives of a job to be achieved over a period
in the frame work of the organizational objectives .
Thus the purpose of performance budgeting is to focus
attention on work to be done, services to be rendered rather
than things to be spent for acquired.
Responsibility Accounting
Responsibility Accounting is a method of accounting in
which costs are identified with persons assigned to their
control rather than with products and functions.

Responsibility Accounting is a system of management

accounting under which accountability is established
according to Responsibility delegated to various levels of
management and management information and reporting
system instituted to give adequate feedback in terms of the
delegated responsibility.
Cost Reduction
Cost reduction is the process used by companies to reduce
their costs and increase their profits. Depending on a
companys services or Product, the strategies can vary. Every
decision in the product development process affects cost.

Thus Cost Reduction refers to real and permanent

reduction in the unit cost of Goods manufactured of Services
Rendered.
Cost Reduction ( Contd)
Cost Reduction can be effected by either of the
following ways:
i. By reduction in unit cost of product.
This is usually brought by elimination of wasteful
expenditure and non essential elements in the design of
products and from techniques and practices carried out.
ii. By Increasing Productivity
This refers to increase in the volume of output with
expenditure remaining the same. But this should not be
achieved at the cost of quality or characteristics of the
product or services
 conclusion

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