AXIS INSTITUTE OF HIGHER EDUCATION

HATHIPUR , ROOMA ,KANPUR

BBA 1st YEAR
BUSINESS FINANCE
UNIT – I
Asst. Prof. Swarnim Gupta

Business Finance is the life blood of business. Business Finance is not only a
requirement but also a sustaining need for the business. Business Finance being
the most crucial factor of every business requires special attention on its
procurement source, on its management, on its investment, in big business
houses a team is forced in this conduct known as the Finance Committee.
 CH – 1 FINANCIAL MANAGEMENT: INTRODUCTION

Meaning of Financial Management

Financial Management means planning, organizing, directing and controlling the financial activities such
as procurement and utilization of funds of the enterprise. It means applying general management
principles to financial resources of the enterprise.

Scope/Elements

1. Investment decisions- It includes investment in fixed assets (called as capital budgeting).

Investments in current assets are also a part of investment decisions called as working capital
decisions.
2. Financial decisions - They relate to the raising of finance from various resources which will
depend upon decision on type of source, period of financing, cost of financing and the returns
thereby.
3. Dividend decision - The finance manager has to take decision with regards to the net profit
distribution. Net profits are generally divided into two:
a. Dividend for shareholders- Dividend and the rate of it has to be decided.
b. Retained profits- Amount of retained profits has to be finalized which will depend upon
expansion and diversification plans of the enterprise.

Objectives of Financial Management

The financial management is generally concerned with procurement, allocation and control of financial
resources of a concern. The objectives can be-

1. To ensure regular and adequate supply of funds to the concern.

2. To ensure adequate returns to the shareholders which will depend upon the earning capacity,
market price of the share, expectations of the shareholders.
3. To ensure optimum funds utilization. Once the funds are procured, they should be utilized in
maximum possible way at least cost.
4. To ensure safety on investment, i.e, funds should be invested in safe ventures so that adequate
rate of return can be achieved.
5. To plan a sound capital structure-There should be sound and fair composition of capital so that a
balance is maintained between debt and equity capital.

Functions of Financial Management

1. Estimation of capital requirements: A finance manager has to make estimation with regards to
capital requirements of the company. This will depend upon expected costs and profits and
future programs and policies of a concern. Estimations have to be made in an adequate manner
which increases earning capacity of enterprise.
2. Determination of capital composition: Once the estimation has been made, the capital
structure have to be decided. This involves short- term and long- term debt equity analysis. This
will depend upon the proportion of equity capital a company is possessing and additional funds
which have to be raised from outside parties.
3. Choice of sources of funds: For additional funds to be procured, a company has many choices
like-
a. Issue of shares and debentures
 b. Loans to be taken from banks and financial institutions
c. Public deposits to be drawn like in form of bonds.

Choice of factor will depend on relative merits and demerits of each source and period of
financing.

4. Investment of funds: The finance manager has to decide to allocate funds into profitable
ventures so that there is safety on investment and regular returns is possible.
5. Disposal of surplus: The net profits decisions have to be made by the finance manager. This can
be done in two ways:
a. Dividend declaration - It includes identifying the rate of dividends and other benefits like
bonus.
b. Retained profits - The volume has to be decided which will depend upon expansion,
innovation, diversification plans of the company.
6. Management of cash: Finance manager has to make decisions with regards to cash
management. Cash is required for many purposes like payment of wages and salaries, payment
of electricity and water bills, payment to creditors, meeting current liabilities, maintenance of
enough stock, purchase of raw materials, etc.
7. Financial controls: The finance manager has not only to plan, procure and utilize the funds but
he also has to exercise control over finances. This can be done through many techniques like
ratio analysis, financial forecasting, cost and profit control, etc.

Profitability Vs. Shareholder’s wealth maximization:

Maximisation of Profit: The main aim of any form of business is to earn a profit. All the business entity
operates to earn the maximum amount of return in terms of profits. Profit earning capacity is a
measuring technique to evaluate the efficiency of the concerned business. Profit Maximization is the
traditional and narrow approach that aims to maximize the profit for an organization.

Features of Profit Maximization:

Profit Maximization consists of the following features:

• Profit Maximization is also known as cash per share maximization. It helps in achieving the
objects to maximize the business operation for profit maximization.
• The ultimate objective of any business is to earn a huge amount of return in terms of profit.
Thus, this objective of financial management considers all the possible ways to increase the
profitability of the business concern.
• Profit earning capacity is kind of a parameter for measuring the efficiency of a particular
business. Thus, it shows the entire position of business along with the measures to improve and
increase profitability.
• Profit Maximization is an objective that helps in reducing risk.

Advantages of Profit Maximization:

1. When earning the profit is the only motive of doing the business, the objectives to achieve those
targets should be considered feasible; therefore, profit maximization should be the obvious
objectives.
2. Profit earning capacity is the barometer for measuring efficiency and economic prosperity of
business concern, thus this objective is justified based on rationality.
 3. Economic and business situations don’t go the same all the time. There are at times adverse
business conditions like recession, depression, severe competition, etc. During these situations
earned profit works as a savior. Thus, a business should earn more and more profit at the time
of a favorable situation. A business entity will be able to survive under unfavorable situations
only if it has certain funds in the form of past accumulated earnings that it can rely upon.
4. The main source of income and funds for the business is the amount of profit earned. Thus, a
business should aim to maximize its profit for enabling its growth and development.
5. The fulfillment of social goals is also achieved by earning the expected amount of profit. A
business concern by pursuing the objects of maximizing the profit also maximizes socio-
economic welfare.

Criticism of Profit Maximization:

1. A firm pursuing its objective of profit maximization usually starts exploiting its workers as well
as its customers.
2. To earn maximum profits business usually engaged in immoral and number of corrupt practices
such as unfair trade practices, corrupt practices, etc.
3. It affects the ideal social system by leading to colossal inequalities amongst stakeholders such as
customers, suppliers and public shareholders, etc. and lowers the human values.
4. In today’s era of imperfect competition, profit maximization cannot be the legitimate objective.
Thus, it is more suitable in the conditions of perfect competition.

Drawbacks

Irrespective of profit maximization being the best objective as it maximizes the owner’s economic

welfare, this objective is being rejected from practice due to the following drawbacks:
I. Ambiguity: This objective is ambiguous as profit means different things for different people.
Should it mean long term profit or short-term profit? Or we shall consider total profit
earned or only earnings per share are sufficient. Profit before tax is considered or the one
after tax.
II. Ignores the time value of money: Profit Maximization objective does not consider the time
value of money and ignores the magnitude and timings of earnings. It treats all earnings
similar irrespective of the fact that those income has occurred in different periods. It ignores
the fact that cash received today has more value than the same cash received in previous
years.
III. Ignores risk factor: While considering the objective of profit maximization, it does not
consider the fact of risk involved in the prospective earning streams. Like some projects are
riskier than the other. Two firms can have the same expected earnings per share but in case
of earning a stream of anyone is riskier than the market value of its share would be
comparatively less.
IV. Dividend Policy: The effect of dividend policy on its market value of the share is also not
considered in the objective of profit maximization. If the object of the firm is to increase
earnings per share then an enterprise may not be considered paying a dividend because it
can be satisfied by retaining all the profit in the business or investing it in the market.
Maximisation of Wealth: Wealth maximization is also called as value maximization or net present worth
maximization. This objective of Financial Management is universally acceptable in all forms of business
concern. It’s one of the modern approaches that involve the latest innovations and improvement in the
fields of business operations. The term wealth means shareholders’ wealth or the wealth of the persons
involved the business concern.

Profit Maximisation
Maintenance of Liquidity

Wealth Maximisation

Meeting of Financial
Proper Utilisation of Fund Commitments

“Wealth – maximisation is considered to be better objective of financial management, because it is

free from draw backs associated with the goal of ‘profit – maximisation’.
Some advantages of wealth – maximisation are as under:
• It considers Time Value of Money, which is ignored in profit maximisation goal.
• It considers ‘risk’ or uncertainty (usually associated with long-term projects) by discounting the
estimated future cash flows at an appropriate discounting rate.
• The equity share-holders who are the owners do except that they must get a suitable reward for
the risk undertaken by them.
 CH – 2 TIME VALUE OF MONEY
Meaning: The time value of money (TVM) is the concept that a sum of money is worth more now than
the same sum will be at a future date due to its earnings potential in the interim. The time value of
money is a core principle of finance. A sum of money in the hand has greater value than the same sum
to be paid in the future. The time value of money is also referred to as the present discounted value.

Features of time value of money:

• The time value of money means that a sum of money is worth more now than the same sum of
money in the future.
• The principle of the time value of money means that it can grow only through investing so a
delayed investment is a lost opportunity.
• The formula for computing the time value of money considers the amount of money, its future
value, the amount it can earn, and the time frame.
• For savings accounts, the number of compounding periods is an important determinant as well.
• Inflation has a negative impact on the time value of money because your purchasing power
decreases as prices rise.

Present Value: Present value (PV) is the current value of a future sum of money or stream of cash
flows given a specified rate of return. Future cash flows are discounted at the discount rate, and the
higher the discount rate, the lower the present value of the future cash flows. Determining the
appropriate discount rate is the key to properly valuing future cash flows, whether they be earnings or
debt obligations.
Present value is the concept that states an amount of money today is worth more than that same
amount in the future. In other words, money received in the future is not worth as much as an equal
amount received today.

𝐹𝑢𝑡𝑢𝑟𝑒𝑉𝑎𝑙𝑢𝑒
Present Value =
(1+𝑟)𝑛
Where,
r = Rate of return
n = Number of year

Future Value: The future value calculation allows investors to predict, with varying degrees of accuracy,
the amount of profit that can be generated by different investments. The amount of growth generated
by holding a given amount in cash will likely be different than if that same amount were invested in
stocks; therefore, the future value equation is used to compare multiple options.
The future value is important to investors and financial planners, as they use it to estimate how much
an investment made today will be worth in the future.
Knowing the future value enables investors to make sound investment decisions based on their
anticipated needs.

Future Value = Present Value (1+r) n

Where,
r = Rate of return
n = Number of year