Financial Management Definition
Financial management consists of two important concepts i.e. Finance and Management. Finance is all about money and nature of money where as management is how you appropriate and utilize your available resources. Hence, financial management is how you manage the money or money related consideration. It is one of the most important concepts in modern finance. It focuses on the responsibilities of financial managers.
In words of Howard and Upton, “Financial management as an application of general managerial principles to the area of financial decision-making.”
In the views of Joshep and Massie ,” Financial management is the operational activity of a business that is responsible for obtaining and effectively utilizing the funds necessary for efficient operations.”
S.C. Kuchal provides the most popular and well acknowledged definition of financial management. According to him “Financial Management deals with the acquisition of cash and their optimal application in the business.”
Thus, Financial administration is primarily concerned with the appropriate management of funds in the business. Corporation Finance or Business Finance is another term for Financial Management.
Objectives of Financial Management
The efficient use of finance leads to the proper usage of finance by the business concern, and it is an essential aspect of the financial manager’s job. The primary objectives of Financial management can be expressed into two, which are as follows: a. Profit Maximization b. Wealth Maximization
The primary goal of every type of economic activity is to make a profit. Earning profit is the ultimate goal of any business organization. Profit represents the overall commercial effectiveness of any company and reflects the performance of the company. Hence, financial management considers profit maximization as its primary objective. It means, with the help of financial knowledge, businesses, from its economic activity, tries to manage the funds available in such a way that the business earns profit. All the activities thus performed in the organization serves the purpose of profit maximization. Profit maximization entails the following key elements.
- Profit maximization is often referred to cashing per share maximization. It leads to the optimization of business operations in order to maximize profits.
- The ultimate goal of a company concern is to make a profit; so, it explores all potential strategies to boost the profitability of the concern.
- Profit reflects the effectiveness of a firm. As a result, it reflects the complete stance of the corporate organization.
- Profit maximization goals aid in lowering corporate risk.
Arguments in favor of Profit Maximization
- The primary goal is to make a profit.
- Profit is the metric by which a business operates.
- It is the main source of finance.
- Profit lowers the risk of the business concern.
Arguments against Profit Maximization
- Profit maximization leads to labor and consumer exploitation.
- This leads to immoral acts such as corruption, unfair trade practices, and so on.
- Profit maximization goals create inequities among sake holders such as customers, suppliers, public shareholders, and so on.
Drawbacks of Profit Maximization
Profit maximization has the following drawbacks:
- It is ambiguous: Profit is not defined precisely or appropriately in this objective. It generates some unneeded opinions on the earning behaviors of the business concern.
- Profit maximization disregards the time value of money: Profit maximization does not take into account the time worth of money or the net present value of cash inflows. It causes some disparities between the actual cash inflow and the net present cash flow within a given period.
- It ignores risk: Profit maximization does not take into account the risk of the business concern. Risks might be internal or external, and they can have an impact on the whole operation of the firm.
Wealth maximization is a new technique that incorporates the most recent breakthroughs and advancements in the world of business concern. The term wealth refers to shareholder wealth or the wealth of those involved in the firm. Wealth maximization is more welfare based approach and considers that fulfilling the desire of investors through maximization of value of their each share. Wealth maximization is also known as value maximization or net present worth maximization. This objective is a widely accepted concept in the business world.
Arguments in Favor of Wealth Maximization
- Wealth maximization is preferable to profit maximization since the primary goal of a business under this notion is to increase the worth or wealth of its owners.
- Wealth maximization takes into account both the time and the risk of the business concern.
- It ensures optimal resource allocation.
- It ensures society’s economic interests.
Arguments Against Wealth Maximization
- Wealth maximization leads to a prescriptive conception of the business concern, which may not be applicable to modern company activity.
- Wealth maximization is nothing more than profit maximization; it is simply the indirect name for profit maximization.
- Wealth maximization leads to ownership-management conflict.
- Wealth maximization is only possible with the support of the business’s successful position.
APPROACHES TO FINANCIAL MANAGEMENT
The financial management approach assesses the extent of financial management in numerous sectors, including the critical component of finance. Financial management is an evolving notion rather than a revolutionary one. The concept and scope of financial management have evolved through time, and different innovations have been implemented. From a theoretical standpoint, the financial management strategy can be separated into two fundamental sections.
- Traditional Approach
- Modern Approach
The traditional approach is the first stage of financial management that was used from 1920 to 1950. This strategy is based on previous experience and well established methodologies. The traditional strategy is primarily concerned with raising finances for the business concern. The traditional approach includes the following key areas.
- Obtaining funds from a lending institution.
- Arrangement of funds using various financial mechanisms.
- Identifying the many sources of funding.
The modern method began in the mid-1950s. It has a broader scope since it includes a conceptual and analytical framework for financial decision-making. In other words, it encompasses both the acquisition and the allocation of funds. Allocation is not just arbitrary allocation; it is efficient allocation among diverse investments that will help enhance shareholder wealth.
In accordance with the modern approach, the Finance manager is supposed to analyze the firm and determine the following::
- The firm’s overall capital need
- The assets to be acquired
- The pattern of financing the assets.
Financial Management by T. Subramanian and C. Pramasivan