Over the next two days we will be taking a detailed look at the scope , the objectives and the functions of financial management as applied to the business and industry today . Please feel free to ask any questions as and when you like .
It is important to have and know the physical dimension to any business theory and that is the approach I will be following throughout the presentation . I feel that you need to understand everything in physical terms and not only in conceptual terms . I will explain what I mean by that .
If I want to explain to you what is hot . I can basically give you the dictionary meaning of hot which is
Hot - adjective - Having great heat or high temperature, giving off heat , feeling heat .
2. Producing a burning sensation to the taste
Then I have to explain what each of the terms heat or high temperature mean. And even after all this for all that we know we may still be confused as to what hot really means . Then we call that this is all theoretical . It is not theoretical . We have not properly experienced the theory in physical terms and that is why it does not make sense to us .
The other way of explaining what is hot is to ask you to touch this place which I believe is hot . Then in a moment you will know what is hot . You may not be able to express it as eloquently as is given in the books and poems but you will know what it means and that will be a very long lasting learning .
If I tell you as definition of Finance means management of money . I will be right because that is what the dictionary says that is . The most authentic dictionary of English Language . But that is only giving the meaning of the term finance . We need to know much more about finance to be able to appreciate the term finance in its physical sense . As we go along we will se how it can be done .
Now what has all this rhetoric to do with finance and more important to the presentation that we are going to have today and tomorrow ? Bear with me . It is very relevant . I believe in giving the physical meaning of the concepts . This makes the concepts easier to understand and digest if you want to put it that way .
None of the concepts that you use in working life are very complicated . They are made to look complicated because on one hand a large majority of people do not understand them in first place and then these are very people who implement them . If you break it down to the basics each one of the concepts is very simple to understand .
In this seminar we will continuously keep on understanding the simple and then making it a little complicated at each stage . You may even feel bored by the speed but when we do the case study you will know as to how the concepts you learned so far are being used in real life situation .
Also though this is a seminar on financial management , I will not be placing a great emphasis on numbers . Numbers are fine . We need to understand that it is the concepts that are important . Today we have great aids in dealing with numbers , abacuses , comptometers , slide rules , calculators and computers all of which are very well capable of crunching numbers but no aid for conceptual planning or conceptual understanding . So we will use numbers only for illustrations and to sharpen some of our skills but essentially what we will be learning together is the theory and concepts .
Now I come to the most important part of the overview . Learning is not a one way process . When I am teaching you , I too am learning . What I teach is not important . What you get out of it is important . Thus at end of every presentation I will like you to make a one page write up of what you understood and present it here . It will be ten minutes for writing and two minutes for presenting . This is the reason why you are not being given any printed literature prior to the seminar . You do not need to read anything before but what you understand during the seminar you need to assimilate nd digest in the days to come .
Keeping this in view , I will be taking very simple examples to illustrate the points . Some of the examples may even seem to be simplistic but they are intended to only make the point clear . Please feel free to ask any questions at any point during the presentation . As there are only three of us we can be much more informal than otherwise .
Financial Management is broadly concerned with the acquisition and use of funds by a business firm.
The scope can be defined in terms of the following questions
How large a firm should be ?
How fast should it grow ?
What should be the composition of the assets of the firm ?
What should be the mix of firm’s financing ?
How should the firm control , analyze and plan its finances ?
With the passage of time the scope of financial management has changed considerably .
If we want to understand the scope of financial management today we have to follow the growth and development of finance function in line with the industrial , political and social development and then only will we be able to appreciate where we stand today .
In this presentation I will be drawing heavily on the theses by Alvin Toffler regarding the evolution of the society . But before that let us define Finance as we know if today very briefly . We will come back to this point in greater detail later on .
We can see three distinct phases of development for the finance function .
Phase I - Agrarian Economy
| 1 | The main business activities were farming and trading in commodities. | |
| 2 | Banks were nonexistent | |
| 3 | Kings and private money lenders were the main sources of finance . | |
| 4 | In general the producers and the consumers were the same . | |
| 5 | The economy was not monetised and barter trade formed a large part. | |
| 6 | Many currencies and currency equivalent were available viz gold , silver , cattle , land and no standard terms for barter were available. | |
| 7 | The owner controlled all sources of finance and also enjoyed the fruits of investment . | |
| 8 | The government control was minimal . | |
| 9 | Methods of communication , transportation and storage were arcane or nonexistent . | |
| 10 | Most of the trade was local in nature . | |
| 11 | Alternative uses for money were limited. | |
| 12 | Most of the transactions were short term in nature and negotiated on case by case basis . | |
| 13 | Money lending risk was very high. If the rains failed none of the farmers would be able to give back loans . | |
| 14 | Transactions were mainly on cash or near cash basis . | |
| 15 | Role of finance was limited to making money available to farmers and traders for their work . | |
| 16 | Taxation was simple . | |
| 17 | The fund owner was the manager . Thus the objective of profit maximization was in line with wealth maximization. | |
| 18 | The role of finance was limited to bookkeeping and reporting . | |
After the industrial revolution the manufacturing sector began pushing out the farming sector as the flagship of various economies . The factories bought many types of raw materials and converted the same into one or more end products which they will eventually sell in the market through the traders and make profit .
| 1 | Manufacturing industry began playing an important role in the economy . |
| 2 | The demands
on money increased multifold because of following reasons
The use of money increased as bartering was seen inconvenient. The scale of activities increased , thus the volume demand for money increased. The alternative available uses of money increased . |
| 3 | Barter gave way to monetized transactions . |
| 4 | The demand
of money was very high and no individual moneylender could satisfy the
same .
The demand of money was not uniform in the use to which it will be put and thus different yardsticks and different skills were required for money lending itself . Thus banks and financial institutions came into place . The banks followed the strategy of leveraging to lend money . Earlier on as we have seen , the moneylender used to lend his own money and make a profit on it . The banks on the other hand accepted money from moneylenders , and general public and gave them some interest for the same . The banks on the other hand lent the same money to industry and charged them higher interests thus making money by the difference in the interest rates on both sides. |
| 5 | The number
and variety of financial instruments increased .
Borrowing - Short term loans , long term loans . working capital loans . Public Offering , Government bonds Payment - Cheque , Bank draft , Money Order , Letter of Credit Investment - Bank , Post office , business deposits government bonds , Stock market |
| 6 | Institutional
lending took place . This means lending by one institution to another in
the particular area of speciality . Thus many layers were added between
the principal lender and the borrower .
For example in India The loans were Reserve Bank of India -> Government Of India -> Industrial Development Bank -> Agencies -> Industry |
| 7 | The role of finance increased multifold and underwent transformation due to the variety mentioned above . |
| 8 | The demand
for money increased multifold as money was necessary at various stages
Construction of factory Purchase of raw materials Keeping stocks of material ,work in process and finished inventory Maintenance of facilities Payment to workers |
| 9 | The banks went into many other services too . The loans are divided into short term loans and long term loans . loans with collateral and loans without collateral and infrastructure loans and working capital loans and so on . |
| To cope with the changing marketplace the finance function within the companies too underwent systematic development . The finance function was divided into accounting , book keeping and finance as we have stated above . The finance function was further divided into fund management , investment management , Company law and Company secretarial functions management of public offerring , risk management etc . |
III Knowledge Economy
This is the period from 1980 onwards . The third phase in which we are now is the one which focuses more on content than on hard finance .
This is characterized by
Knowledge management and non paper transactions
Multicurrency , multinational transactions
Stock markets fund raising
Computerised accounting and book keeping
Electronic data processing and Electronic Data Interchange
High speed of transactions
24 hours , seven days a week working
increased variety of negotiable instruments
viz cheques , Letters of Credit , Telegraphic transfers , SWIFT transfer
, money rerouting , Underwriting , hedging , forward trading .
| 1 | Computers were introduced to business in a big way 1960 onwards . Also telecommunication developments and transportation facilities across the world improved , making the world a smaller place . |
| 2 | The role
of cash in financial transactions reduced considerably . Today most of
the transactions in developed countries are done without using cash .
Company pays by cheque Customers buy using Visa / Master Card At the toll gate laser beam reads the balance from chip in your car . |
| 3 | The world became a 24 hour market place , long distance trading and paperless transactions through EDI have become common place . |
| 4 | As we progressed further the role of accounting and bookkeeping has become smaller and smaller within the organization while the role of finance increased . The role of accounting and bookkeeping reduced largely due to the technological innovations , computers and so on . Thus today you will see that that finance manger controls the accounting and book keeping functions in most of the companies |
| 5 | The job skills required by the financial manager changed considerably . Earlier on the finance manager had to be numbers man - one who can calculate very fast and accurately . Now the conceptual and managerial skills have become more important . The role of accounting , book keeping totaling and tallying is relegated to variety of machines. |
A good finance manager touches all aspects of the business of a firm as of today . As now he gets a global reach through computers , the finance function has become even more important . Also on the other hand as the repititive work gets pushed down to lower and lower levels - due to computers - the level of each employee in te comany tends to improve . As each employee goes up the rung of organization ,it becomes imperative that he understand the financial consequences of his actions and thus today everyone in the organization has to have a basic understanding of finance to enable them to make a positive contribution to the bottomline .
Case study Questions - Scope of Financial Management
Draw the organization chart of your organization and show the position of financial management relative to other disciplines .
You may take help of following questions
How many people work in your company ?
How many people do work related to finance ?
What are their positions and who do they report to ?
How do you communicate with these people ?
Do you feel their role should be different that what it is today ?
We have seen three phases of growth of economy , at which stage is your organization ?
What can be done to go to the next stage ?