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Management
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MONEY:
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MONEY
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MONEY & FINANCE
A currency as long as you have with you it
is money only.
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MEANING OF FINANCIAL
MANAGEMENT
FM is concerned with the acquisition,
financing and management of assets to
achieve organizational goal.
ACQUISITION
OF ASSETS
MANAGEMEN FINANCING
T OF ASSETS THE ASSETS
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MEANING OF
FINANCIAL MANAGEMENT
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1. Anticipating financial needs: Estimation
of funds required for investment in fixed and
current assets.
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FINANCIAL DECISIONS
The financial management can be broken
down into 3 major decisions. (which are
important finance functions)
A firm takes these decisions simultaneously
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FINANCIAL
DECISIONS
INVESTMEN
FINANCING DIVIDEND
T
DECISION DECISION
DECISION
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Investment Decision
Decision which is related to the selection of
assets.
The required assets fall into 2 groups:
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Dividend decision
Which relates to dividend policy. Dividend is
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FINANCIAL MANAGER SHOULD DETERMINE
OPTIMUM DIVIDEND POLICY, WHICH
MAXIMIZES MARKET VALUE OF THE SHARE
THERE BY MARKET VALUE OF THE FIRM.
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INTER-RELATION AMONG
FINANCIAL DECISIONS.
There is a interrelation between investment
decision and financing decision, without
knowing the amount of funds required and
types of funds (short-term & long-term) it is
not possible to raise funds.
These two are dependent on each other.
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Financing decisions influences and is
influenced by dividend decision, since
retention of profits for financing selected
projects reduces the profit available to
ordinary shareholders, there by reducing
dividend payout ratio.
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Dividend decision and investment decisions
are interrelated because retention of profits
for financing the selected assets depends
on the rate of return of proposed
investment and the opportunity cost.
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INTER-RELATION AMONG
FINANCIAL DECISIOINS
INVESTMENT
DECISION
FINANCING DIVIDEND
DECISION DECISION
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FEW INDIAN COMPAYNIES
BUY BACK OFFER
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Profit maximization
VS Wealth
maximization
Broadly, there are two alternative
objectives that a business firm can pursue
Profit Maximization
Wealth Maximization
Profit Maximization
It is a term which denotes the maximum profit to
be earned by an organization in a given period of
time.
The profit maximization goal implies that the
Investment, Financing and Dividend decisions of
the enterprise should be oriented to profit
maximization.
Merits of Profit
Maximization
Best Criterion on decision making.
Optimum utilization.
Drawbacks of Profit
Maximization
It ignores time value of money.
It is vague conceptually.
It ignores the risk factor.
It may tempt to make such decisions which
may in the long run prove disastrous.
Its emphasis is generally on Short run projects.
In the new business environment Profit
maximization is regarded as unrealistic,
difficult, inappropriate and immoral.
Wealth Maximization
What is Risk?
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RISK
It
is the variability of actual
return from the expected return
associated with a given asset.
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RETURN
It
is the actual income received
plus any change in market price
of an asset / investment
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Trade of
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Risk Return Trade of
What is Risk? Many investors view investment risk
as the possibility of losing part of your capital.
Think of risk as the potential for a negative return
on an investment -- the higher the probability of a
negative return, the greater the risk.
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If investment's returns have been going up
and down like a roller coaster ride and
keeping you up at night, then understanding
a fundamental investment principle called
Risk/Return Trade-off may help.
The concept is also known as the "ability-to-
sleep-at-night test".
A common misconception is that higher risk
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Deciding what amount of risk an investor can
take while remaining comfortable with
investments is very important.
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Standard deviation
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Low levels of uncertainty (low risk) are associated
with low potential returns. High levels of
uncertainty (high risk) are associated with high
potential returns.
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Risk/Return Tradeof
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A common misconception is that higher risk
equals greater return. The risk/return
tradeoff tells us that the higher risk gives us
thepossibilityof higher returns. There are
no guarantees. Just as risk means higher
potential returns, it also means higher
potential losses.
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Determining what risk level is most
appropriate for an investor isn't an easy
question to answer. Risk tolerance differs
from person to person.
Investor decision will depend on his goals,
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On the lower end of the scale, therisk-free
rate of returnis represented by the return
on Government Securities because their
chance ofdefaultis next to nothing. If the
risk-free rate is currently 6%, this means,
with virtually no risk, we can earn 6% per
year on deposited money.
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Definition:Higher risk is associated with greater
probability of higher return and lower risk with a greater
probability of smaller return. This trade off which an
investor faces between risk and return while considering
investment decisions is called the risk return trade off.
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The finance manager must keep the Time
factor in mind to take the appropriate
decisions on financing, investment and
dividends.
Finance Manager must know the various
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Money has time Value means that the
value of money changes over a period of
time. The value of a rupee, today is
different from what it will be, say, after one
year.
Factors contributing to the Time Value
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CURRENT
CONSUMPTION
POSSIBILITY
OF
UNCERTAINTY INVESTMENT
OPPORTUNITY
RATIONALE
(JUSTIFICATION)
OF THE TIME
PREFERENCE FOR
MONEY
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Compound value
concept
Valuation
Concepts
Discounting /
present value
concept
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COMPOUND VALUE CONCEPT
(INTEREST)
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Ex:- Rs.1,000 invested at 10% is
compounded annually for three years,
calculate the compound value after 3 years.
Particulars Amount
Amount at the end of 1st year will be 1000 X 1,100
110/100
Amount at the end of 1st year will be 1100 X 1,210
110/10
Amount at the end of 1st year will be 1210 X 1,331
110/100
This compounding process will continue for an indefinite
time period. We can calculate the same by using an
equation also.
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CV = Po ( 1 + I ) n
CV = Compound Value
Po = Principal amount
( I ) = Interest rate per annum
n = Number of years for which compound is
done.
CV = 1,000 ( 1 + .10 ) 3
= 1,331.
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Ex. 1:- Mr. X who is deposited `10,00,000 in
a financial institute, which pay 8%
compound interest for a period of 5 years.
Calculate the amount to be received at the
end of 5 years.
CV P (1 I ) n
0
10,00,000 ( 1 + 0.08) 5
10,00,000 (1.469328)
14,69,328
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Computation by this formula can also
become very time consuming if the
number of years increase, say 10, 20 or
more. In such cases to save upon the
computational efforts, Compound Table
Value can be used. The table gives the
compound value of Rs.1, after n years
for a wide range of combination of I and
n.
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Ex. 2:- Mr. Shravan who is deposited `.
28,000 in a financial institute, which pay 6%
compound interest for a period of 7 years.
Calculate the amount to be received at the
end of 7 years.
CV = P0 ( 1 + I ) n
P0 = 28,000;
I=6%;
n=7
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Ex. 3:- Mr. X who is deposited `.1,00,000 in
a Bank, which pay 10% compound interest
for a period of 5 years. Calculate the
amount to be received at the end of 5
years.
CV P0 (1 I ) n
1,00,000 ( 1 +
0.10) 5
1,00,000 (1.610)
1,61,051 3/22/17 86
VARIABLE COMPOUNDING PERIODS
Generally compounding is done once in a
year. In the above problem and we assumed
also that the compound is done annually.
If the investor promised to pay compound
interest for variable periods (semi annual,
quarter etc). This is calculated as follows:
CV n = P0 (1 + I/m) m x n
CV n = compound value at the end of year n
CV n = P0 (1 + I/m) mxn
40,000 [ 1 + 0.06/2] 2 x 10
CV n = P0 (1 + I/m) mxn
P0 = ?
m = ?
m x n = ?
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Ex. 3:- Mr. Aditya who is deposited `
1,00,000 with an investment company,
which pay 10% interest with semi
annual compounding. How much the
deposit grows to 5 years. Calculate the
amount to be received at the end of 5
years.
CV n = Po (1 + I/M) mxn
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COMPOUND VALUE OF SERIES OF
CASH FLOWS:
Annuity means a series of cash flows
(inflow/outflow) of a fixed amount for
specified number of years. This can be
divided in to 2 types.
1. Uneven cash flows 2. Even cash flows
Where..
. CV n = compound value at the end of year n
. P 1 = Payment at the end of year 1
. P 2 = Payment at the end of year 2
. I = Interest rate
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1. Uneven cash
flows
Mr. Raj kumar deposits Rs.5,000, Rs.10,000,
Rs.15,000 Rs.20,000, and Rs.25,000 in his
savings bank account in the of year 1,2,3,4
and 5 respectively. Interest rate is 6%. He
wants to know his future value of deposits at
the end of 5 years.
CV n = P1 (1 + I) n-1 + P2 (1 + I) n-2 +.
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= 5,000(1 .262) + 10,000(1.191) +
15,000(1.124) +20,000(1 .060) + 25,000(1 .00)
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No. of
Compound
Amount times Future
Year ing factor
paid compounde value
(6%)
d
1 2 3 4 5=2x4
CV n = P1 (1 + I) n-1
+ P2 (1 + I) n-2
+..
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2. Even cash flows : Annuity is a series of
even cash flows for a specified duration. It
involves a regular cash outflow or inflow.
Ex:- payment of LIC premium, depositing in a
recurring deposit account.
Cash flows may happen either at the end of
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COMPOUND VALUE OF DEFERRED ANNUITY:
Use the above formula
Shortcut formula: CV n = P (1 + I) n 1
I
P = fixed periodic cash flow, I = interest rate,
0.06
= 500 { 6.975} = 3,487.5
Ref. pg.no.54 HP.
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No.of
Compoundi
Amount times Future
Year ng factor
paid compounde value
(6%)
d
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COMPOUND VALUE OF ANNUITY DUE:
When the cash flows involves at the beginning
. Pn (1 + I) n
(OR)
CV n = P (1 + I) 1 n (1 + I)
I
Ex: if you deposit Rs.2,500 at the beginning of
every year for 6 years in a saving bank
account at 6% compound interest. What is
maturity value of your money at the end of 6
years.
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0
No.of times
Amount Compoundin Future
Year compounde
paid g factor (6%) value
d
1.419
1 2,500 6 3,547.50
TOTAL 18,485.00
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THANK YOU ..
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