FINANCIAL MANAGEMENT

By
D M L Kasilo
[MBA CPA PhD]
2013

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 TOPIC I: NATURE AND SCOPE OF
FINANCIAL MANAGEMENT

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 INTRODUCTION TO CORP
MANAGERIAL FINANCE
1.1 WHY FINANCE FUNCTION
 A wider conception of the finance function is
derived from the monetized economies into
which the medium of exchange for goods
and services between demanders and
suppliers is cash/money!
 The global village, comprising of individuals,
national institutions/corporations and
multinational/institutions/corporations
underline the significance of the finance
function.
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 INTRODUCTION TO CORP
MANAGERIAL FINANCE
• 1.2 WHAT IS CORPORATE FINANCE?
 Finance, is the science of managing money.
 The World’s monetary economy – use money as
the medium of exchange through which prices of
goods and services are negotiated and
consummated between and amongst individuals,
business organizations, and governments within
a local or international setting.
 All the parties are involved in earning / raising
money, and spending / investing money.

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 1.2: WHAT IS CORPORATE
MANAGERIAL FINANCE?
 Finance can collectively mean (i) money
that is, notes and coins, and (ii) the
process; individuals; institutions; markets;
and instruments involved in the transfer of
money between and among individuals,
businesses, NGOs, and governments.

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 1.2: WHAT IS CORPORATE FINANCE?
 Corporate Finance therefore is concerned
with planning and managing financial
resources of corporations/institutions,
keeping them liquid and technically solvent
throughout; hence enabling them to carry
out their activities implementing their
strategic plans
 The corporate finance function MUST
culminate into higher returns on
investments or value for money
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 1.3 CONCEPTUALIZATION
• Figure 1: Conceptualizing key corporate finance
challenges (and then Figure 2)
• (A) Business Opportunities
• (B) Capital Budgeting
• (C) Financing
• (D) Working Capital Management

• (E)Net Profit (competitive)

• (F) Investors commit funds and receive
• Dividends OR distributed profits

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 Figure 1: Conceptualizing key
corporate finance challenges
• Corporate finance challenges
(A) (D) Working
(B) Capital (C) Capital
Business
Budgeting Financing Management
Opportuniti
es

(F) Investors commit

(E)
funds and receive
Net Profit
Dividends OR distributed
(competitive)
profits

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 Key to figure 1
• Key to figure 1:
 (A) = Business Opportunities (existence of demand for products or
services)
 (B) = Capital Budgeting (types, cost, and profitability of fixed
assets);
 (C) = Financing (sources and proportions of funds/cash for
buying/investing in fixed assets);
 (D and E) = Working Capital Management (managing for
competitive profitability resulting into positive net operating cash
flows for sustainable and growing business operations)
 (F) = Investors commit funds and receive a share of profits
according to the terms of financing that might be in form of
dividends, interest, or any other form of agreement

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 Figure 2
• Figure 2 reflects the big picture of the financial
management function
 Who:
 Individuals Persons;
 Basic Forms of Business Organisations (Sole Proprietorship,
Partnerships, Joint Ventures, Corporations)
 Other Forms (NGOs, Charity Organisations, etc)
 Government (Central Government, and Local Authorities)
 What: UNDERTAKE SPECIFIC ACTIVITIES needed by society
 Why: For SURVIVAL, GROWTH, AND PROSPERITY
 How: CONSUME INPUTS PAYABLE FINANCIAL terms
 OUTPUT: FINANCIAL INFLOWS AND OUTFLOWS NEEDING
BEST PRACTICES IN CORPORATE FINANCE
•

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 CONCEPTUALIZATION 2
• It is quite clear that organized
institutions worldwide have been
created to cater for specific needs of
society; which in the commercial word,
these needs create business
opportunities

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 CONCEPTUALIZATION 3
• 1.2 Entrepreneurs take advantage
of these opportunities by investing in
different types of commercial
organizations for making more money!

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 1.4 RE-DEFINING CORP FINANCE

• Putting together figure 1 and

figure 2 one is likely to answer the
question: What is corporate
finance all about?

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 RE-DEFINING CORP FINANCE 2

• [a] Finance, is the science of managing

money.
• [b] Finance collectively mean (i) money
and (ii) the processes individuals;
institutions; markets; and instruments
involved in the transfer of money between
and among individuals, businesses,
NGOs, and governments

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 1.5 The corporate finance function
answers three fundamental questions

• Q1: What long-term investment

strategy should a company/firm take on
given the business opportunities within the
selected industry?
• Q2: How can cash be raised for
meeting the required costs of investments
in response to Q1?

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 finance function answers three
fundamental questions 2
• Q3: How much short-term cash flow
does the company need to pay its
maturing bills/financial obligations?

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 Income Statement and Balance
Sheet
The Income Statement Model
• NET INCOME (LOSS) = REVENUE –
EXPENSES ------------------------------- (1)
• NET INCOME (LOSS) = REVENUE –
COST OF GOODS (SERVICES) SOLD –
OPERATING EXPENSES – TAXES
• NI = R – COGS (COSS) – OE – T ----- (2)

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 The Income Statement
What does the Income statement
do?
It measures the results of
operations of an
enterprise/institution/corporation
in FINANCIAL TERMS noting that
the results of operations can be
financial and non-financial

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 1.6 The Balance Sheet Model
and Corporate Finance Theory
• (i) A classified Balance Sheet Model figure
3 indicates the dichotomy of the
investment and the financing side of the
firm
• (ii) The financing side of the firm is
presenting sources and amounts of money
used to buy (invest in) the types of assets
presented on the investment side

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 Figure 3: The balance sheet model
Figure 3: The balance sheet model

Investment side Financing Side

Current
Net working
Current Assets Liabilities
capital

Long-term
Debt
C
a
Fixed Tangible pi
Assets ta
Shareholders’ l
Fixed Intangible Equity
Assets

Total Value of Total Value of the

Assets Firm to Investors

Source: Modified from Ross, Westerfield, and Jaffe (2002, 3).

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 The Balance Sheet Model and
Corporate Finance Theory 2
• (iii) The sources and amounts of money
used to buy (invest in) the types of assets
on the financing side are categorised into
current liabilities, long-term liabilities, and
shareholder’s equity

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 The Balance Sheet Model and
Corporate Finance Theory 3
• (iv) The types of assets presented
on the investment side are
categorised into current assets,
fixed tangible assets, and fixed
intangible assets

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 The Balance Sheet Model and
Corporate Finance Theory 4
• According to the balance sheet model,
answering the three fundamental questions
in 1.6 above leads to the following aspects:
• in answering Q1: what long-term investment
strategy should a company/firm take on
given the business opportunities within the
selected industry leads to decisions on the
type of long-lived assets the company
should invest in.

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 The Balance Sheet Model and
Corporate Finance Theory 5
• These are fixed tangible and fixed
intangible assets (capital budgeting
and capital expenditure decisions).

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 The Balance Sheet Model and
Corporate Finance Theory 6
• in answering Q2: How can cash be
raised for meeting the required costs of
investments in response to Q1 leads to
decisions on a combination of different
types of sources of cash from which
the costs of fixed assets determined in
(i) can be met. Simply, this is a capital
structure decision;

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 The Balance Sheet Model and
Corporate Finance Theory 7
• (iii) in answering Q3: How much short-
term cash flow does the company need
to pay its maturing bills/financial
obligations leads to decisions on
working capital management: how to
much current liabilities and current
assets so that the firm remains
technically solvent throughout and
grows.
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 FOOD FOR THOUGHT QUESTIONS

 Q1: What are financial services?

 Q2: What types of financial services are
available to professionals in finance and
financial institutions and how are they delivered?
 Q3: Given the nature of corporate finance
function, list the career opportunities (typical jobs
of a finance professional) available both in
commercial and non-commercial service
industries as well as in manufacturing industries.

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 1.7 Key Activities of the Financial
Manager
Monday 25 /3 Start here
• Key Points
 Any financial manager is challenged to have
finance theories, concepts, techniques, and
contemporary financial management practices at
the fingertips so s/he can make founded
decisions regarding Investment, Financing, and
Dividends after conducting financial analysis and
planning.
 1.7.1 Basically, the three key financial
manager’s jobs are inside the Financial
Statements of a Firm: the Balance Sheet, the
Income Statement, and the Statement of Cash-
flows
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Key Activities of the Financial Manager

• 1.7.1 The three key activities of the Chief

Financial Officer are:
 The most important job of the chief financial
officer is to create value from the firm’s
capital budgeting, financing, and liquidity
activities by ultimately buying assets that
generate more cash than they cost, and sell
bonds and stocks and other financial
instruments that raise more cash than they
cost.
 Overall, the firm must create more cash
inflows than it uses: it must make more cash!

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 The most important jobs of the
chief financial officer are:
• (a) Performing Financial Analysis and Planning
 (i) Transforming financial data into information for
monitoring the firm’s financial condition
 (ii) Evaluating the need for increasing or reducing the
productive capacity
 (iii) Determining what additional or reduced financing is
required
 (iv) Having assessed the firm’s cash flows, plans are
developed to ensure that adequate cash flows will be
available to support achievement of short and long-term
objectives.

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 The most important jobs of the
chief financial officer ----
• (b) Making Investment Decisions
• This involves determining the firm’s assets mix
(current and fixed assets mix) that are needed
for the accomplishment of short and long term
objectives:
 Which new assets?
 Which be replaced?
 Which be liquidated? etc. are crucial
questions. Investment decisions deal with the
left-hand side of the balance sheet.

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 The most important jobs of the
chief financial officer START -----
• (c) Making Financing Decisions
• By dealing with the right-hand side of the
balance sheet, the financial manager
determines:
 (i) the optimal mix of short-term and long-term
financing for the firm, and
 (ii) the appropriate sources of short-term and
long-term financing considering available
financing alternatives, their costs, and their short
and long term implication to the firm

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2 THE GOAL OF THE FINANCIAL MANAGER
• Key Points
 Activities of the financial manager, that is,
financial analysis and planning, investment
decisions, and financing decisions should
be taken to achieve the objectives of the
Firm’s Owners – the shareholders.
 BUT “What is the Goal of
Shareholders?”

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 2.1 Is it the Profit Maximization Goal?

 Assuming that the goal of shareholders is

profit maximization, the Financial Manager
takes those actions contributing most to
the firms overall profits.
 Given several alternative courses of
actions, the Financial Manager chooses
one leading to highest PROFITS.

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 Is it the Profit Maximization Goal?

• Earnings Per Share (EPS)

 (a) The EPS is the measure of the amount of
profit earned by each ordinary share or common
stock during the period covered by the income
statement (quarterly, yearly).
EPS = (Net Profit) / (Number of Shares outstanding)
= Net PROFIT) / (Number of Share)

(b) Given Profit maximization goal, the Finance
Manager takes decisions and actions leading to
the highest EPS.

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 Weaknesses of the Profit
Maximization Goal
• (a) Timing
• If two or more 4 years’ investment
projects are chosen on the basis of EPS,
timing of cash inflows is important rather
than total EPS over the four years’
period. Because receipt of earlier
returns can be reinvested.

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 Weaknesses of the Profit
Maximization Goal 2
• (b) Cash Flows – Disregarded by the Profit
Maximization Goal
 Profits are not cash flows and shareholders are
paid dividends whose decisions do not
necessarily take into account the EPS.
 Likewise higher EPS does not necessarily imply
higher share prices in Stock Exchange Market
(SEMs)- A higher stock price would result only
when earnings increases are accompanied by
increased current and/or expected cash flows.

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 Weaknesses of the Profit
Maximization Goal 3
(c) Risk
• Risk- the chance that actual outcomes
may differ from those expected – is also
disregarded by the profit maximization
goal
• Stockholder (are risk averse – seek to
avoid risk): they expect to earn higher
rates of returns from investments of higher
risks and vice-versa.

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 Weaknesses of the Profit
Maximization Goal 4
• Since Risk affects the value of investment
that can be decided under the ‘profit
maximization goal” – it is important that it
is considered: two investments with equal
lives and cash flows but with different risks
will have different rates of returns hence
different EPSs.

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 2.2 Maximising Shareholder
Wealth – The Goal of the Firm
• The goal of the firm, and therefore all
managers and employees “should be to
maximize the wealth of the owners
(shareholders/stockholders) for whom it is
being operated for/employees are working for”.
• 1.6.2.2 The Wealth of a firm at any time is the
Market Value of the Firm – determined by the
share price:
• “Wealth = Share Price x Number of
Shares.”

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 Maximising Shareholder Wealth
– The Goal of the Firm
 The price of a share is a function of the
timing of returns (cash flows), their
magnitude, and their risk.
 When Financial Managers are pursuing
the wealth maximization goal, they should
accept only those actions that are
expected to increase share price –
because the share price represents
‘Owners Wealth’.

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Wealth 
   f (Re turns, Risk ,....)

Maximising Shareholder Wealth

 Maximization 

– The Goal of the Firm

Hence shareholders’ wealth
maximization goal must be translated
into “share price maximization goal”,
which can mathematically be
expressed as:
Wealth maximization = f(returns,
risks, etc., ---)

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 Maximising Shareholder Wealth
– The Goal of the Firm
 It is important to pursue the goal of
maximization of shareholders wealth
while preserving stakeholders
(employees, customers, suppliers,
creditors, etc. with direct economic
link) interest because they can affect
negatively the performance of the firm.

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• END HERE DR KASILO NEXT
MATERIALS ARE BEYOND THE
SCOPE OF THIS SYLLUBUS

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 Food for Thought
• QUESTION: How can the agency issue be addressed in the Tanzanian Public sector?
• Local Government Authorities?
• Central Government?
• Public Corporations: TOL, TATEPA, TBL?

• THEORIES AND CONCEPTS IN PRACTICE IN REVIEW

• Q1 What is Finance?
• Q2 What is Financial Management?
• Q3 What are the basic forms of business organizations?
• Q4 Describe the roles and basic relationships between the stockholders/shareholders,
board of directors, and the president?
• Q5 Considering the balance sheet, what are the three key activities of the financial manager?
• Q6 Why profit maximization goal fails to be consistent with wealth maximization?
• Q7 What is the goal of the firm? Should this be the goal of all managers and
employees? How does one measure its achievement?
• Q8 What is the agency problem? How do market forces, shareholders activism and threat of
• hostile takeover, act to prevent or mitigate this problem?
• Q9 Why has corporate ethics [Good Governance] become so important in recent years?
• Q10 What is the nature of the Risk-Return trade off faced in financial decision making?
• NB: It may not be prudent to tell you to provide answers to each of these questions!!!

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 The Agency Costs
• The shareholder is very concerned!!

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