FINANCIAL MANAGEMENT, ROLE OF FINANCIAL MANAGEMENT, IMPORTANCE OF FINANCIAL MANAGEMENT, FEATURES OF FINANCIAL MANAGEMENT, SCOPE OF FINANCIAL MANAGEMENT, FUTURE OF FINANCIAL MANAGEMENT, etc.

1. FINANCIAL MANAGEMENT
CHARAK RAY
LIBRA.CHARAK@GMAIL.COM

2. LEARNING OBJECTIVES
1. Explain why the role of the financial manager today is so
important.
2. Describe "financial management" in terms of the three
major decision areas that confront the financial manager.
3. Identify the goal of the firm and understand why
shareholders' wealth maximization is preferred over
other goals.

3. CONTINUED…
4. Understand the potential problems arising when
management of the corporation and ownership are
separated (i.e., agency problems).
5. Understand the basic responsibilities of financial
managers and the differences between a "treasurer" and
a "controller."

4. THE ROLE OF
FINANCIAL MANAGEMENT - COVERS
• What is Financial Management?
• The Goal of the Firm
• Corporate Governance
• Organization of the Financial Management Function

5. WHAT IS FINANCIAL MANAGEMENT?
Concerns
the acquisition, financing, and management
of
assets
with
some overall goal in mind.

6. INVESTMENT DECISIONS
Most important of the three decisions.
 What is the optimal firm size?
 What specific assets should be acquired?
 What assets (if any) should be reduced or
eliminated?

7. FINANCING DECISIONS
Determine how the assets (RHS of balance sheet) will
be financed (LHS of balance sheet).
What is the best type of financing?
What is the best financing mix?
What is the best dividend policy (e.g.,
 What is the best type of financing?
 What is the best financing mix?
 What is the best dividend policy (e.g., dividend-
payout ratio)?
 How will the funds be physically acquired?

8. ASSET MANAGEMENT DECISIONS
• How do we manage existing assets efficiently?
• Financial Manager has varying degrees of operating
responsibility over assets.
• Greater emphasis on current asset management than
fixed asset management.

9. WHAT IS THE GOAL OF THE FIRM?
Maximization of Shareholder Wealth!
Value creation occurs when we maximize the
share price for current shareholders.

10. SHORTCOMINGS OF ALTERNATIVE PERSPECTIVES
• Profit Maximisation : Maximising firm’s profit
after tax.
Problems:
Could increase current profits while harming the firm
(e.g., Compromise on quality of input,deferring
maintenance, inadequate compensation to employees
etc.).
Ignores changes in the risk level of the firm.

11. SHORTCOMINGS OF ALTERNATIVE PERSPECTIVES
• Earning Per Share maximisation :Problems:
 Does not specify timing or duration of expected
returns.
 Ignores changes in the risk level of the firm.
 Calls for a zero payout dividend policy.

12. STRENGTHS OF SHAREHOLDER WEALTH
MAXIMIZATION
• Takes account of: current and future profits
and EPS; the timing, duration, and risk of
profits and EPS; dividend policy; and all other
relevant factors.
• Thus, share price serves as a barometer for
business performance.

13. WHAT SHOULD MANAGEMENT’S PRIMARY OBJECTIVE BE?
• The primary objective should be shareholder
wealth maximization, which translates to
maximizing stock price.
Should firms behave ethically? YES
Do firms have any responsibilities to society at large?
YES! Shareholders are also members of society.

14. WHAT THREE MAJOR FACTORS AFFECT
STOCK PRICES?
• Amount of cash flows expected by
shareholders
• Timing of the cash flow stream
• Risk of the cash flows

15. WHAT FACTORS DETERMINE OF CASH FLOWS?
• Sales revenues
• Current level
• Short-term growth rate in sales
• Long-term sustainable growth rate in sales
• Operating expenses (e.g., raw materials, labor, etc.)
• Necessary investments in operating capital (e.g., buildings,
machines, inventory, etc.)

16. WHAT FACTORS AFFECT THE LEVEL AND
RISK OF CASH FLOWS?
• Decisions made by financial managers:
• Investment decisions (product lines, production processes,
geographic market, use of technology, marketing strategy, etc.)
• Financing decisions (choice of debt policy and dividend policy)
• The external environment (taxes, regulation, etc.)

17. WHAT COMPANIES SAY ABOUT THEIR CORPORATE GOAL ?
• Cadbury Schweppes: “governing objective is growth in
shareowner value”
• Credit Suisse Group: “achieve high customer satisfaction,
maximize shareholder value and be an employer of choice”
• Dow Chemical Company: “maximize long-term shareholder
value”
• ExxonMobil: “long-term, sustainable shareholder value”

18. WHAT ARE FINANCIAL ASSETS?
• A financial asset is a contract that entitles the owner to
some type of payoff.
• Debt
• Equity
• Derivatives
• In general, each financial asset involves two parties, a
provider of cash (i.e., capital) and a user of cash.

19. WHO ARE THE PROVIDERS (SAVERS) AND USERS
(BORROWERS) OF CAPITAL?
• Households: Net savers
• Non-financial Companies: Net users
(borrowers)
• Governments: Net borrowers
• Financial corporations: Slightly net
borrowers, but almost breakeven

20. WHAT ARE THREE WAYS THAT CAPITAL IS TRANSFERRED
BETWEEN SAVERS AND BORROWERS?
• Direct transfer (e.g., Preferential Issues /Private
placement to FIs/FIIs/ MFs)
• Through an merchant banking house (e.g., IPO
and FPOs of Equity and Issue of Debt Instruments)
• Through a financial intermediary (e.g., individual
deposits money in bank, bank makes commercial
loan to a company)

21. WHAT ARE SOME FINANCIAL INTERMEDIARIES?
Commercial banks
Non-Banking Finance Companies
 Insurance companies
 Mutual funds

22. THE MODERN CORPORATION
There exists a SEPARATION between
owners and managers.
Modern Corporation
Shareholders Management

23. ROLE OF MANAGEMENT
Management acts as an agent for the owners
(shareholders) of the firm.
An agent is an individual authorized by another
person, called the principal, to act in the latter’s
behalf.

24. AGENCY RELATIONSHIPS
An agency relationship exists whenever a principal hires an
agent to act on their behalf.
Within a corporation, agency relationships exist between:
• Shareholders and managers
• Shareholders and creditors

25. SHAREHOLDERS VERSUS MANAGERS
• Managers are naturally inclined to act in their own best
interests.
• But the following factors affect managerial behavior:
• Managerial compensation plans
• Direct intervention by shareholders
• The threat of firing
• The threat of takeover

26. SHAREHOLDERS VERSUS CREDITORS
• Shareholders (through managers) could take
actions to maximize stock price that are
detrimental to creditors.
• In the long run, such actions will raise the cost
of debt and ultimately lower stock price.

27. STOCKHOLDER INTERESTS VS. MANAGEMENT
INTERESTS
• Theory: The stockholders have significant control
over management. The mechanisms for
disciplining management are the annual meeting
and the board of directors.
• Practice: Neither mechanism is as effective in
disciplining management as theory posits.

28. STOCKHOLDERS' OBJECTIVES VS. BONDHOLDERS'
OBJECTIVES
• In theory: there is no conflict of interests between
stockholders and bondholders.
• In practice: Stockholders may maximize their wealth at the
expense of bondholders.
• Increasing dividends significantly:
• Taking riskier projects than those agreed to at the outset

29. FIRMS AND FINANCIAL MARKETS
• In theory: Financial markets are efficient. Managers convey information
honestly and truthfully to financial markets, and financial markets make
reasoned judgments of 'true value'. As a consequence-
• A company that invests in good long term projects will be rewarded.
• Short term accounting gimmicks will not lead to increases in market value.
• Stock price performance is a good measure of management performance.
• In practice: There are some holes in the 'Efficient Markets' assumption.

30. ARE MARKETS SHORT SIGHTED? SOME EVIDENCE
THAT THEY ARE NOT..
• There are hundreds of start-up and small firms, with no earnings expected in the near future, that raise
money on financial markets
• If the evidence suggests anything, it is that markets do not value current earnings and cash flows
enough and value future earnings and cash flows too much.
• The market response to research and development and investment expenditure is generally positive

31. TRADITIONAL CORPORATE FINANCIAL THEORY
BREAKS DOWN WHEN ...
• The interests/objectives of the decision makers in the firm conflict with the interests of stockholders.
• Bondholders (Lenders) are not protected against expropriation by stockholders.
• Financial markets do not operate efficiently, and stock prices do not reflect the underlying value of the
firm.
• Significant social costs can be created as a by-product of stock price maximization.

33. CORPORATE GOVERNANCE
• Corporate governance: represents the system
by which corporations are managed and
controlled.
• Includes shareholders, board of directors,
and senior management.
• Then shareholder wealth maximization
remains the appropriate goal in governing the
firm.

34. ORGANIZATION OF THE FINANCIAL
MANAGEMENT FUNCTION
Board of Directors
President
(Chief Executive Officer)
Vice President
Operations
Vice President
Marketing
VP of
Finance

35. Treasurer
Capital Budgeting
Cash Management
Credit Management
Dividend
Disbursement
Fin Analysis/Planning
ORGANIZATION OF THE FINANCIAL
MANAGEMENT FUNCTION
VP of Finance
Controller
Cost Accounting
Cost Management
Data Processing
General Ledger
Government Reporting
Internal Control etc.

36. THANK YOU…