Topic 3: Finance

Role of Financial Management

Strategic role of financial management
o Financial management is concerned with planning, monitoring and controlling the
allocation of the firms finances in order to link the goals of the business with the
resources that are available to it; planning & monitoring of firms financial resources
to enable the business to achieve its financial goals.

o Role is to make funds available for business activities and to ensure that day-to-day
transactions and operations run smoothly from a financial perspective.

o The strategic role is to achieve business objectives. Financial management has a
strategic role in influencing the profitability, health and structure of the business by
making decisions about matters such as debt and share issues.

o Good financial decisions strengthen the business by giving it sufficient & flexible access
to funds, allowing it to follow a broad range of business approaches in order to fulfil
business objectives.

Objectives of financial management

o Short term goals involve ensuring the business is sufficiently liquid and solvent while also
aiming to boost long-term profitability, growth, and efficiency.

- Profitability, growth, efficiency, liquidity, solvency

o Profitability
Profitability is the ability of a firm to maximise its profits.
Objective of improving a firms profitability.
Profit is determined by the level of revenue less total costs.
Profit can be increased by increasing revenue and/or reducing costs.
Profits satisfy owners and shareholders in short term but its important for long term
sustainability of a firm.

o Growth
Growth refers to the aim of increasing the size of the business.
Growth depends on a firms ability to develop and use its asset structure to increase
sales, profits & market share.
Methods for achieving growth includes mergers, takeovers and by acquiring more
resources.

o Efficiency
Efficiency refers to the level of outputs obtained from inputs in the production
process.
Its the ability of a firm to minimise costs and manage its assets so that maximum
profit is achieved with the lowest possible level of assets.
Financial management aims to reduce costs by maximising the output from each
input.
Achieving efficiency requires a firm o have control measures in place to monitor
assets (monitor levels of inventories & cash and collection of receivables).
Topic 3: Finance

o Liquidity
Liquidity is the ability of a business to pay its debts as they fall due; relates to cash
flow & how easily assets can be turned into cash to finance current liabilities.
Aim is to ensure that the business has adequate liquidity.
Finance aims to manage the flows of money in and out of the firm so that there is
always cash available when needed.
Insufficient cash (current assets) means that the business cant cover its current
liabilities (short-term obligations).
However, excessive liquidity may mean that the firm is missing opportunities to use
the money more profitably such as expanding.

o Solvency
Solvency refers to the firms ability to cover its long-term liabilities (> 12 months);
also known as debt servicing.
Solvency is important to the owners/ shareholders and creditors of a business
because its an indication of the risks to their investment.
Finance must ensure that debt levels dont exceed the business ability to repay the
borrowings in the future.

- Short-term and long-term

o Short-term objectives
Objectives that are the tactical (1-2 years) and operational (day to day) plans of a
business.
These would be reviewed regularly to see if targets are being met and if resources
are being used to the best advantage to achieve the objectives.
E.g. Management has a goal to achieve 15% increase in profit for next 10 years; the
tactical plans might involve purchasing additional machinery.

o Long-term objectives
Objectives that are the strategic plans of a business.
They are determined for a set period of time, generally more than five years.
They tend to be broad goals such as increasing profit or market share, and each will
require a series of short term goals to assist in its achievement.
Management will review their progress annually to determine if changes are needed.

o Conflict with different financial objectives
Liquidity vs profitability
E.g. In order to stay liquid, a business may offer discounts to customers for early
payment even though this means that the business makes less money.
Growth/ profitability vs solvency






Topic 3: Finance

Interdependence with other key business functions

o Operations
Sales of goods results in income (finance) and the processes of operations affect
finance.
Operations need funds to buy materials, run machines, etc. It needs funds at the
right time.

o Human Resources
HR requires funds to pay staff and fund the cost of employing ppl.
Financial management decisions can affect staff levels or relations b/w managers
and the workforce.
Finance depends on HR to manage the workforce and boost productivity as labour is
a big expense.
E.g. Finance may try to delay paying staff to ensure it has enough cash on hand.

o Marketing
Marketing requires funds and funds on time for its activities especially for promotion.
Finance depends on marketing to generate income which it then distributes to other
business functions.

o Example: Interdependence for all functions
Sonys goal is to increase market share of 3D TVs.
Operations would change how TVs are manufactured.
Marketing would develop plans for promoting etc.
HR would employ new employees with necessary skills
Finance will fund the extra resources