B. Com, M. Com, I.C.W.A, M.B.A.

(Finance),
M.A.(Economics), UGC-NET, Ph.D.
Author of the books Financial Management &
Management of Working Capital .
 FOCUSES ON FUTURE DECISION BASED ON ACCOUNTING FINANCIAL STATEMENTS

 Share Capital
 Equity
 Preference
Capital structure and
 Reserve &Surplus
Cost of Capital
 Secured Loans
 Debentures
 Loans and advances
 Unsecured Loans
Working Capital
 Current Liabilities and Provisions
financing policy
 Trade Creditors
 Provisions
 Fixed Assets (net)
 Gross block Capital Budgeting
 Less: depreciation
 Investments
Portfolio Management
 Current Assets, loans and advances
 Cash and bank
Cash Management

 Receivables Credit Management

 Inventories Inventory Management

Miscellaneous expenditure and losses
 Finance is the life blood of business.
 Finance is very essential for the smooth
running of the business.
 Without finance neither any business can be
started nor successfully run.
 There is a need to efficiently manage the
finances of a company.
 Without adequate finance no business can
survive and without efficient financial
management no business can prosper & grow.
 Financialmanagement is one the functional
area of management. It refer to that part of
the management activity which is concerned
with the planning and controlling of firms
financial resources.

“Financial management is the application of

planning and control function of the finance
function”
Howard and Upton
 Financial
Management

Financing Investment Dividend

Decision Decision Decision

Capital Structure Working Capital Current Assets

Decisions Financing Capital
or
Expenditure
(Long Term (Short Term Decisions Working Capital
Sources) Sources) Management
 Investment Decisions:-
Long term investment decisions
Short term investment decisions
 Financing Decisions:-
Best source of raising funds and deciding
optimal mix
 Dividend Decisions:-
Determination of quantum of profit which
is to be distributed.
Profit maximization:-
Everyone likes profit. Profit earning is the
prime aim of every economic activity. Being
an economic institution, a business firm must
earn profit to cover its costs and provide
funds for growth. No business can survive in
long run without earning profit. Profit is a
measure of efficiency of a business
enterprise.
 i) When profit earning is the aim of business then
profit maximization should be the obvious
objective.
 ii) Profitability is a barometer for measuring
efficient and economic prosperity of a business
enterprise; thus, profit maximization is justified
on the grounds of rationality.
 iii) Economic and business conditions do not
remain same at all the times. There may be
adverse business conditions like recession,
depression, severe competition, etc. A business
will be able to survive in an unfavorable
situation, only if it has some past earnings to
rely upon. Therefore, a business should try to
earn more and more when situation is favorable.
 iv)Profit is the main source of finance for the
growth of a business. So, a business should aim at
maximization of profit for enabling its growth and
development.

 v) Profitability is essential for fulfilling social goals

also. A firm by pursuing the objective of profit
maximization also maximizes socio-economic
welfare.
 According to Prof. Solomon Ezra, the
ultimate goal of the financial management
should be the maximization of the owner’s
wealth. According to him, the maximization
of profit is half and unreal motive. The
proper goal of financial management is
wealth maximization of equity shareholders
as it is expressly concerned with the
relationship of profitability and the volume
of capital being used in the enterprise. In
other words, the finance manager should
attempt to maximize the value of the
enterprise to its shareholders
THIS IS YOUR’S ASSIGNMENT
 Determining Financial Needs
 Determining Sources of Funds
 Financial Analysis
 Optimal Capital Structure
 Cost Volume Profit Analysis
 Profit Planning & Control
 Fixed Asset Management
 Project Planning & Evaluation
 Capital Budgeting
 Working Capital Management
 Dividend Policies
 Acquisitions & Mergers
5A’s
Anticipation: Estimate financial need
Acquisition: collect finance
Allocation: uses collected finance for
purchasing fixed and current assets
Appropriation: DPS & Retained earning
Assessment: control all the financial activities
Estimating Financial Requirements
Deciding Capital Structure
Selecting Source of Finance
 Proper Cash Management
Selecting Pattern of Investment
Implementing Financial Controls
Proper Uses of Surpluses
 Financial Planning
 Raising of Necessary Funds
 Controlling the Use of Funds
 Disposition of profits
 Other Responsibilities
 Responsibilities to Owners
 Legal Obligations
 Responsibilities to Employees
 Responsibilities to Customers
 Wealth Maximization
 The concept of Time Value of Money
(TVM) refers to the fact that the money
received today is more in its worth from
the money receivable at some other time
in future. For example, if an individual is
given an option to receive Rs.500 today or
to receive the same amount after one
year, he will definitely choose to receive
the amount today because the value of
that money is going to be decreased to
less than Rs. 500.
Preference for Consumption
Investment Opportunities
Future Uncertainties
Inflationary Economy
 There are two different concepts:

1. Compound Value Concept (Future Value or

Compounding)

2. Present Value Concept (Discounting)

Future Value (FV) =Present Value (PV) + Interest (r)

The compounding technique to find out the FV to

present money can be explained with reference
to:
1) The FV of a single present cash flow,
2) The FV of a series of equal cash flows and
3) The FV of a multiple flows.
 The future value of a single cash flow is
defined in term of equation as follows:
 FV = PV (1 + r)n
Where, FV = Future value
PV = Present value (given)
r = % Rate of interest, and
n = Time gap after which FV
is to be ascertained.
 An investor deposits Rs. 1,000 in a bank
account for 3 years at 10% interest. Find the
amount which he will have in his account if
interest is compounded:
 1) Annually
 2) Half Yearly
 3) Quarterly.

 Ans: 1- 1331.00
 2- 1340.10
 3- 1344.88
Amit arora makes a deposit of Rs.10,000 in a
bank which pays 8% interest compounded
annually for 8 years. You are required to find
out the amount to be received by him after 8
years.
FVn = PV (1 + r)n

PVn = Rs.10,000, r = 8% and n = 8 years

FVn = 10,000 (1 + 0.08)8

FVn = Rs.10,000 (1.8509)

FV n = Rs.18,509
 FVAn = A {(1+r)n -1}
r
Where, FVAn = Future value of an annuity
which has duration of n years.
A = Constant periodic flow
r = Interest rate per period
n = Duration of the annuity
 Amit is required to pay five equal annual
payments of Rs.10,000 each in his deposit
account at the end of each period that pays
10% interest per year. Find out the future
value of annuity at the end of five years. (If
nothing is mentioned about the time it is
considered at the end of the period)

ANS- 61,051
Example:
Suppose the investment is Rs.1,000 now
(beginning of year 1), Rs.2,000 at the
beginning of year 2 and Rs.3,000 at the
beginning of year 3, how much will these
flows accumulate to at the end of year 3 at a
rate of interest of 12 percent per annum?
Suppose the investment is Rs.1,000 now
(beginning of year 1), Rs.2,000 at the
beginning of year 2 and Rs.3,000 at the
beginning of year 3, how much will these
flows accumulate to at the end of year 3 at a
rate of interest of 12 percent per annum?
To determine the accumulated sum at the
end of year, add the future compounded
values of Rs.1,000, Rs.2,000 and Rs.3,000
respectively.
FV (Rs.1,000) + FV (Rs.2,000) + FV
(Rs.3,000)
= 0.12, the above sum is equal to
= Rs.1,000 × FVF(12,3) + 2,000 ×
FVF(12,2) + 3,000 × FVF(12,1)
= Rs.[(1,000 × 1.405) + (2,000 × 1.254) +
(3,000 × 1.120)] = Rs.7,273
The present value is calculated by
discounting technique by applying the
following equation:
PV = FV/(1 + r)n

Example:

1.Find out the present value of Rs.3,000

received after 10 years hence, if the discount
rate is 10%.
1.Find out the present value of Rs.3,000 received
after 10 years hence, if the discount rate is 10%.

 2. , a service agency offers the following

options for a 3-year contract:
Pay only Rs.2,500 now and no more payment
during next 3 years, or
Pay Rs.900 each at the end of first year, second
year and third year from now. A client having
rate of interest at 10% p.a. can choose an option
on the basis of the present values of both
options as follows:
 The payment of Rs.2,500 now is already in terms
of the present value and therefore do not
require any adjustment.
 Option II:
 The customer has to pay an annuity of Rs.900 for
3 years.
Year Amount PVF @10% P.V.
1 900 .909 818
2 900 .826 744
3 900 .751 676
2238
 Risk
is the variability which may likely to
accrue in future between the estimated /
expected returns and the actual returns.

TYPES OF RISK

 Systematic Risk or Market Risk

 Unsystematic Risk
It is that part of that risk which cannot be
eliminated by diversification. This part of the risk
arises because every security has a built in
tendency to move in line with the fluctuations in
the market. The systematic risk arises due to
general factors in the market such as money
supply, inflation, economic recession, industrial
policy, interest rate policy of the government,
credit policy, tax policy etc. These are the
factors which affect almost every firm. No
investor can avoid or eliminate this risk,
whatsoever precautions or diversification may be
resorted to. So, it is also called non diversifiable
risk, or the market risk.
 The unsystematic risk is one which can be
eliminated by diversification. This risk
represents the fluctuation in returns of a
security due to factors specific to the
particular firm only and not the market as a
whole. These factors may be such as
worker’s unrest, strike, change in market
demand, change in consumer preference etc.
This risk is also called diversifiable risk and
can be reduced by diversification.
Diversification is the act of holding many
securities in order to lesser the risk.
Avoidance of Risk
Prevention of Risk
Retention of Risk
Transfer of Risk
Insurance
 Risk Averse: Under this category those investors
appear who avoid taking risk and prefer only the
investments which have zero or relatively lower
risk. These investors ignore the return from the
investment. Generally risk averse investors are:
Retired, Aged and Pensioners.
 Risk Seekers: Under this category those
investors are nominated who are ready to take
risk if the return is sufficient enough (according
to their expectations). These investors may be
ready to take: Income risk, Capital risk or Both.
 Neutrals: Under this category those investors lie
who do not care much about the risk. Their
investments decisions are based on consideration
other than risk and return.
The principle that potential “return rises
with an increase in risk”. Low levels of
uncertainty (low risk) are associated with
low potential returns, whereas high levels of
uncertainty (high risk) are associated with
high potential returns. According to the risk-
return tradeoff, invested money can render
higher profits only if it is subject to the
possibility of being lost. Because of the risk-
return tradeoff, you must be aware of your
personal risk tolerance when choosing
investments for your portfolio
 The capital asset pricing model (CAPM) attempts
to measure the risk of a security in the portfolio
sense. It considers the required rate of return of
a security on the basis of its contribution to total
portfolio risk. The core idea of the CAPM is that
only undiversified risk is relevant to the
determination of expected return on any assets.
Since the diversifiable risk can be eliminated,
there is no reward for it. In fact, the CAPM can be
used to examine the risk and return of any type
of capital assets such as individual security, an
investment project, or a portfolio of
assets/investment.
 1) The investors are basically risk averse.
 2) All investors want to maximize the wealth
and therefore choose a portfolio solely on the
basis of risk and return assessment.
 3) All investors can borrow or lend an unlimited
amount of funds at risk free rate of interest.
 4) All investors have identical estimates of risk
and return.
 5) All securities are perfectly divisible and liquid
and there is no transaction cost.
 6) All investors are efficiently diversified and
have eliminated the unsystematic risk.
 This is a popular approach to estimate the cost
of equity. According to the CAPM, the cost of
equity capital is:
 Ke = Rf + (Rm - Rf ) ß
 Where:
 Ke = Cost of equity
 Rf = Risk-free rate
 Rm = Equity market required return (expected
return on the market portfolio)
 ß = beta is Systematic Risk Coefficient.
 Beta is the measure of market risk. Market risk
is the risk that cannot be diversified away.
 Calculate the cost of equity capital for a
company whose Risk-free rate =10%, equity
market required return =18%, with a beta of
0.5.
 Ke = 0.10 + 0.5(0.18 - 0.10)
= 0.14 or 14%.
 Fromthe following information, calculate the
expected rate of return of a portfolio:
Risk Free rate of interest 12%
Expected return of market portfolio 18%
Standard deviation of an asset 2.8%
Market standard deviation 2.3%
Co-relation co-efficient of portfolio with market 0.8%

Ans: 17.82 per cent

 The arbitrage pricing theory was developed by the
economist Stephen Ross in 1976, as an alternative to
the capital asset pricing model (CAPM). Unlike the
CAPM, which assume markets are perfectly efficient,
APT assumes markets sometimes misprice securities,
before the market eventually corrects and securities
move back to fair value. Using APT, arbitrageurs hope
to take advantage of any deviations from fair market
value. The CAPM only takes into account one factor—
market risk—while the APT formula has multiple
factors.
 APT factors are the systematic risk that cannot be reduced
by the diversification of an investment portfolio. The
macroeconomic factors that have proven most reliable as
price predictors include unexpected changes in
inflation, gross national product (GNP), corporate bond
spreads and shifts in the yield curve. Other commonly used
factors are gross domestic product (GDP), commodities
prices, market indices, and exchange rates.
 Arbitrage pricing theory (APT) is a multi-factor asset pricing
model based on the idea that an asset's returns can be
predicted using the linear relationship between the asset’s
expected return and a number of macroeconomic variables
that capture systematic risk.
 The following four factors have been identified as
explaining a stock's return and its sensitivity to
each factor and the risk premium associated with
each factor have been calculated:
 Gross domestic product (GDP) growth: ß = 0.6, RP
= 4%
 Inflation rate: ß = 0.8, RP = 2%
 Gold prices: ß = -0.7, RP = 5%
 Standard and Poor's 500 index return: ß = 1.3, RP
= 9%
 The risk-free rate is 3%
 Expected return = 3% + (0.6 x 4%) + (0.8 x 2%) + (-
0.7 x 5%) + (1.3 x 9%) = 15.2%