Financial management means planning, organizing, controlling, and directing all the financial activities like procurement, funds utilization, etc. Financial management is applying the management principles to financial resources.
Explanation: Most of the business leaders and managers should develop basic skills of financial management. You cannot expect others to manage the financials of your organization. Basic skills of the financial organization begin with critical areas of bookkeeping, cash management which should be done as per the financial controls to ensure integrity in the process of accounting. Managing finances is not financial management, but managing them to succeed is called financial management. However, before the company can start managing its finances, it should be able to define its objectives clearly and quantify all its available resources. The company has to have a specific plan to use its funds as well as other capital resources to achieve its goals.
Financial management includes investment decisions like investing in fixed assets, investing in current assets, and decisions related to working capital. Other financial decisions like period of financing, cost of financing, and the expected returns on investments are to be taken under financial management.
The finance manager should take decisions related to dividend after discussion with the board of directors. Net profits are usually divided into parts which are dividends for shareholders and the retained profits, which will depend on the diversification and expansion plans of the company.
Objectives of financial management
As mentioned above, financial management is concerned with procurement, controls and allocation of financial resources. Therefore, the objectives of financial resources can be stated as follows:
- To ensure an adequate and continuous supply of funds.
- To guarantee proper returns to the shareholders and investors, which will depend on the earning capacity, market share, and the expectations of shareholders.
- To ensure safety on the investment of the investors. Funds should always be invested in safe ventures so that proper returns can be given to the investors.
- To plan a sound capital structure which should be fair so that balance is maintained between equity and debt capital.
Strategic financial management
Managing the finances of the company to succeed is strategic financial management. It is about creating profitability for the business and ensuring that a proper return on investment is present. Financial management can be accomplished by the financial plans of the company and setting up appropriate financial controls as well as economic decision making.
Strategic financial management covers all of the above plus consistent evaluation, planning, and adjusting so that the company does not lose focus on the long-term goals. When the company is being managed strategically, the short-term issues are dealt with swiftly in a way that they do not disturb the long-term vision.
Tactical versus strategic financial management
While we have already seen that strategic financial management is focused on long-term success, tactical management decisions are short-term focused.
If a company decides to be strategic and not tactical, then the financial decisions are made based on the results that it wants to achieve ultimately, which is not in the present but the future. This also means that the firm should be ready to accept some losses in the present.
Elements of strategic financial management
A company will select to apply strategic financial management throughout the company. It often involves designing the elements which will increase the financial resources of the company and using them efficiently.
The organization needs to be creative since there is no standard approach for strategic management. Every company will have to be creative and devise their strategy. It also devices its elements that reflect their needs and their vision and mission. However, the following are a few of the common elements of financial management:
Define your financial objectives clearly and precisely. Identify the available as well as potential resources which will be helpful in your financial management. Write a specific business plan.
The company should form a budget that will function with proper financial efficiency and should have minimum waste. Point Out the areas which have the most expenditure and exceed the budget.
Ensure that enough liquidity is present to cover the operating payments without using any external sources. Uncover the specific areas in the company which should invest to achieve the goal more efficiently.
3. Management and assessment of risk
The financial manager should identify, properly analyze, and take steps to mitigate the uncertainty in the decisions related to investment. You have to revisit all the potential for financial exposure and examine the capital expenditures as well as the workplace policies. Also, the risk metrics, such as standard deviation and value at risk strategies, should be assessed.
4. Establishment of ongoing procedures
Collect and analyze the data and make the financial decisions that are consistent with your vision and mission. Variants if any should be tracked and analyzed, which is the difference between actual and budgeted results. Identify the problems and take appropriate actions to rectify them.
Effectiveness of strategic financial management
One of the essential steps of effective strategic financial management involves re-adjusting your short-term goals so that you can attain the long-term objectives of the company. For example, if a company suffers losses for the previous financial year, then it may choose to reduce the assets by closing facilities or reducing the employees, which will reduce the operating expenses.
Taking these steps will result in restructuring costs, and these may affect the finances negatively but only in the short term. On the other hand, the position of the company becomes better in the long term. That is what strategic financial management is all about.
Every company often chooses between these long-term and short-term decisions with various stakeholders in mind. The stakeholders, maybe internal stakeholders like employees of the organization or external stakeholders like vendors or customers.
Types of financial managers
There are different types of financial managers, all of them focusing on a particular area of management.
Controllers are the ones who direct the preparation of all the essential financial reports that forecast the financial position of the company, such as income statements, balance sheets, etc. Controllers are also in charge of preparing special reports that are required by different government agencies which regulate many businesses. More often, controllers see the accounting, budgeting, and auditing departments.
The financial officer can scan and direct the budget of the organization to meet the financial goals of the company. They also oversee the investment of the funds. They carry out multiple strategies to raise capital and also to develop proper financial plans which are required for mergers and acquisitions.
2. Credit managers
Credit managers are the ones who oversee the credit business of the company. They are the ones who set the credit rating criteria and determine the upper and lower limit of credit.
They also monitor the collections of overdue accounts. Credit managers also control and manage the cash flow, which comes and goes out of the organization. The schedule will be utilized further for the investment needs of the company.
3. Risk managers
They are the ones who control the financial risk by the use of hedging to them at the probability of financial loss.
4. Insurance Managers
They are the ones who are involved in deciding how to minimize or limit the loss of the company by obtaining insurance against risks. These risks may include disability payments for an employee who gets hurt on the job or the costs which are imposed by a lawsuit against an organization.
Functions of financial management
1. Determination of capital composition
once a proper estimation of capital requirement is made, then the capital structure is to be decided. This involves short as well as long term analysis of debt-equity. This will also depend on the amount of equity capital that a company is possessing; and even the additional funds that have to be raised from third parties.
2. Estimation of capital requirements
The estimation of capital requirements has to be made by the financial manager of the company. This will depend entirely on profits, costs, and future programs and policies. These estimations have to be made correctly So that the earning capacity of the company increases.
3.Choosing the sources of funds:
a company has to choose between various sources for the procurement of additional funds. These choices are as follows:
- Loans which are to be taken from multiple financial institutions
- Issuing of debentures and shares
- Public deposits should be drawn in the form of public bonds
The choice of these sources will depend on the advantages and disadvantages of every source and also on the total tenure of financing.
4. Investment of funds
The finance manager has to make decisions regarding the allocation of funds. This allocation of funds has to be into profitable ventures so that the investment is safe, and there are consistent returns on investment.
The investment of funds can also be into fixed assets. Still, the viability of that investment has to be determined by the financial manager along with the executive officers and board of directors.
Investment can also be in the form of a new business venture in which the financial manager will have a prominent say. The approval will depend on the return on investment and the viability of the business venture.
5. Consumption of surplus
Decisions regarding the net profits have to be taken by the finance manager. This can be done in one of the two methods: The company can declare dividends which will include identifying the rate of dividends and all other benefits of surplus like a bonus for employees.
It can also be done as retained profits. The volume of retained profits has to be decided, and it will depend upon the expansion and diversification plans of the organization.
6. Cash Management
The finance manager has to make decisions regarding the management of cash in the organization. Cash is required for multiple purposes including payments of salaries, wages, payment of bills, payment to creditors, and other things.
The cash flow must be managed according to the cash flow statement, and any surplus cash is utilized correctly. The report of cash has to go to the executive officers.
7. Financial control
The finance manager has to plan the finances of the organization and also procure and utilize the funds in an appropriate way so that he has complete control over the finances. There can be many techniques like financial forecasting, ratio analysis, cash flow management, cost and profit reports, and statements that can be used for implementing financial control.