Financial Management Flashcards
Main motive of financial management?
To increase the shareholder’s wealth
(Wealth maximisation concept)
Importance of financial planning?
Project ke liye optimum capital hona chahiye present aur future mein utilise karne ke liye, taaki shock na lage
Types of financial decisions?
Investment, financing, dividend
Factors affecting investment decisions?
1- cash flow
2- ROI
3- Risk
4- criteria
Factors affecting financing decisions or capital structure?
1- cash flow
2- return on investment
3- risk
4- cost of debt
5- cost of equity
6- floatation cost
7- tax rate
8- control consideration
9- state of capital market
10- fixed operating cost
11- ICR
12- DSCR
13- Regulatory framework
14- flexibility
Factors affecting dividend decisions?
1- cash flow
2- earning
3- stability
4- dividend stability
5- taxation policy
6- growth opportunity
7- access to the capital market
8- types of shareholders
9- stock market reaction
10- legal constraints
11- contractual constraints
Factors affecting working capital requirements?
1- credit availed
2- credit allowed
3- business cycle fluctuation
4- seasonal factors
5- nature
6- available raw material
7- technology
8- extent of competition
9- operating efficiency
10- growth prospects
11- length of operating cycle
12- scale of operating cycle
13- inflation
Factors affecting fixed capital requirements?
1- nature
2- production technique
3- collaboration
4- diversification
5- growth prospect
6- lease assets
7- upgradation
8- scale of operations
What is business finance?
Money required for carrying out business activities is called business finance
What is financial management and what are its aims?
Financial management is concerned with optimal procurement as well as the usage of finance in the business.
Aims - 1) Reducing the cost of funds procured
2) Keeping the risk under control
3) Ensuring availability of enough funds
4) Avoiding idle funds
Importance/Role of financial management?
1- All items in the profit and loss account
2- the quantum of current assets and its break up into cash, inventory and receivables
3- The size and the composition of fixed assets of the business
4- The amount of long term and short term funds to be used
5- break up of long term financing into debt, equity etc.
Thus, overall financial health of a business is determined by the quality of its financial management
When does the market price of equity share increase?
When the benefit from a decision exceeds the cost involved.
Types of investment decisions?
Short term (working capital) related to cash, receivables, inventory.
Long term (capital budgeting) which are irreversible except at a huge cost
Why is debt considered the cheapest of all sources?
Due to tax deductibility of interest
What is financial planning, and what is the objective? Consequences of more or less funds?
It is the preparation of a financial blueprint of an organisation’s future operations
Its objective is to ensure that enough funds are available at the right time.
If adequate funds are not available the firm will not be able to honour its commitments and carry out its plans.
If excess funds are available, it will add to the cost and may encourage wasteful expenditure
Is financial planning the same as financial management? Can it be substituted?
Financial planning is not equivalent to, or substitute for, financial management.
Financial management aims at choosing the best investment and financing alternatives by focusing on their costs and benefits.
Financial planning on the other hand aims at smooth operations by focusing on fund requirements and their availability in the light of financial decisions.
Twin objectives of financial planning?
1- to ensure availability of funds whenever required
2- to see that the firm does not raise resources unnecessarily
What does financial planning include? Explain.
Financial planning includes both short term as well as long term planning.
Long term planning relates to long term growth and investment, it focuses on capital expenditure programmes.
Short term planning covers a short term financial plan called budget.
Process of financial planning?
1- sales forecast
2- hypothetical financial statements
3- expected profits to ascertain meeting of requirements from internal sources
4- budget made based on external requirements
Things that are affected by the capital structure? What is an optimal capital structure? What is financial leverage and its relation with these two things?
Capital structure of a company affects both the profitability and the financial risk.
A capital structure will said to be optimal when the proportion of debt and equity is such that it results in an increase in the value of the equity shares.
The proportion of debt in the overall capital is also called financial leverage.
It has direct relation with both profitability and financial risk, which means that as the financial leverage increases, profitability increases due to the increased use of cheaper debt but the financial risk increases.
What is favourable financial leverage? What does the company do in such cases? On the contrary, what is unfavourable financial leverage?
Favourable financial leverage is that situation where the return on investment is higher than the cost of debt.
In such cases, companies often employ more of cheaper debt to enhance the EPS. Such practice is called Trading on equity.
It refers to the increase in profit earned by the equity shareholders due to the presence of fixed financial charges like interest.
On the other hand, unfavourable financial leverage refers to that situation where the cost of debt is higher than the return on investment. Trading on equity is clearly unadvisable in such a situation.
Can we recklessly use trading on equity in the case of favourable financial leverage?
Even in the case of favourable financial leverage, reckless use of trading on equity is not recommended. An increase in debt may enhance the EPS but it also raises the financial risk.
Ideally, a company must choose that risk-return combination which maximises shareholder’s wealth. The debt-equity mix that achieves it, is the optimum capital structure.
Why should fixed assets never be financed through short-term sources?
Investment in these assets would also include expenditure on acquisition, expansion, modernisation and their replacement.
