Introduction of Finance

By Prof. Shahjahan Mina

07 th September 2015

1.Introduction:
.Definition of Finance
.Functions of Finance
.Major Financial Decisions
.Type of Finance
.Principals of Finance
.Financial Market
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Definition of Finance:
Finance is an art and science of managing money, that deals
with the techniques of Financial Planning, Identification of
Sources of Fund, Analysis and Selection of Sources, Raising
and Utilization of Fund and last, but not the least, Distribution
of Profit.
Ultimate goal of Finance is the maximization of wealth

Functions of Finance
1.

2.

3.

Financial Planning: A detail planning of the sketch or draft in

relation to the need, amount, time and all others before the
starting of the business is said to be the Financial Planning.
Identification of Sources of Fund: After the Financial Planning,
Identifying the sources of fund from either any person, any
friend, relatives, any financial institute or outside sources is
another important function of finance.
Analysis and Selection of Sources: After Identifying the sources
of fund for the business, we have to analysis and then finalizing
the source through a process. This is an important function of
finance.
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4.

5.

Raising and Utilization of Fund: In this stage, there needs to

raise the fund through various rules and regulations where time
period is also a consideration. Simultaneously we have to also
invest the fund into the most profitable project. In this case, we
have to consider and analysis the expenses and incomes of the
project, which is utmost important.
Distribution of Profit: Distribution of profit from the project is
very important function of Finance. Here, we have to decide
that how much from the profit to be re-invested and how much
to be distributed to the shareholders.
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Tips:

In Bangladesh, we have 32 non-banking financial institutes.

Equity capital is the invested money that is not repaid to the
investors in the normal course of business. It represents the risk
capital staked by the owners through purchase of a company's
common stock (ordinary shares).
Debt capital is the amount of the loan incurred for the business. This
is part of a firm's total capital which commonly comprises of loancapital and short term bank loans such as overdraft.
Its very important to balance the ratio of equity capital to debt capital.
Its usually better to have more of debt capital in business for many
advantages which we would discuss in the subsequent chapters.
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Debt/Equity Ratio:

A debt/equity ratio is measured to see the leverage of the company, by

the calculation of dividing companys total liabilities by its stockholders
equity. D/E ratio indicates that how much debt a company is using to
finance its assets relatively to the amount of value represented in the
share holders equity.
Debt-Equity Ratio = Total Liabilities/Shareholders Equity
= Total Liabilities/(Total Assets-Total Liabilities)
As we know, Assets= Liabilities + Equity
The result is often expressed by a no or as %. This form of D/E may
refer to a risk or gearing.
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Major Financial Decisions:

Investment Decision: Financial Planning.
a. Capital Budgeting- Long Term Investment Decision.
b. Working Capital Management Short Term Decision
2. Financial Decision:
a. Identification of sources of funds.
b. Analysis and selection of sources.
c. Raising & utilization of fund.
3. Dividend Decision: Decision of distribution of profit that how much
to re-invest and how much to owners/shareholders.
1.

Classification of Finance:

Personal Finance: All financial decisions and activities by the

individual, this could include budgeting, insurance, savings,
investing, debt servicing, mortgages and more. Financial planning
generally involves analyzing the current financial position and
predicting short-term needs.
Corporate Finance: The financial activities related to running a
corporation. A division or dept. that oversees the financial activities of
a company. Corporate financing is primarily concerned with
maximizing shareholders value through long-term and short-term
financial planning and implementation of various strategies.
Everything from capital investment decisions to investment banking
falls under the domain of corporate finance.
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Three Key Aspects of Corporate Finance:

1.

Capital Budgeting [More than one year]: Process of planning and managing a
firms long term investment.

Financial managers identifies investment opportunities that are worth more to the firm than they
cost to acquire.
Example: A chocolate firm deciding whether or not to open a new factory is a capital budgeting
decision.

2. Capital Structure: How should the firm obtain and manage the long term
financing that needs to support its long term investments;

Capital Structure is the specific mix of short-term debt, long-term debt and equity.
Raising long-term finance can be expensive, therefore the different possibilities must be
considered carefully

3.

Working Capital [Less than one year]: This refers to the

firms short-term assets including inventory and liabilities,
such as cash owed to the suppliers.
Managing working capital is a day-to-day activities related
to the firms receipt and disbursement of cash.

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Public Finance:
It is the study of the role of govt in the economy. It is the
branch of the economics which assesses the govt revenue
and govt expenditure of the public authorities and the
adjustment of one or the other to achieve desirable effects
and avoid undesirable ones.
Collection of the taxes from those who benefit from the
provision of public goods by the govt, and the use of those
tax funds towards production and distribution of the public
goods.

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Principles of Finance:
Principle of Profitability:
a. Solvent
b. Insolvent
c. Default position
c. Cash flow that matters
.Cash flow drives the value of the business.
.Accounts profits are not equal to the cash flow.
.We must determine incremental cash flow (ICF) when
making financial decisions.
1.

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Principle of Risk: We wont take additional risk unless we expect to

be compensated with additional rewards or return.
. High Risk Business
. Low Risk Business
. Investors expects to be compensated for Delaying Consumption
and Taking on Risk
2.

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3.

Principle of Diversity: A risk management technique that mixes a wide variety of

investments within a portfolio. The rationale behind this technique contends that a
portfolio of different kinds of instruments will, on average, yield higher returns and
pose a lower risk than any individual investment found within the portfolio.

4.

Hedging Principle: Making an investment to reduce the risk of adverse price

movements in an assets. Normally, a hedge consists of taking an offsetting position
in a related security, such as a future contract. An example of hedge would be if you
owned a stock, then sold a future contract stating that you will sell your stock at a set
price, therefore avoiding market fluctuations
Long-Term

Short-Term
Duration of sources of fund should be
matched with the duration /longevity of
the assets

Fixed (Capital) Assets

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Current Assets

Principle of Time Value of Money: The idea that money available

today at the present time is worth more than the same amount in
the future due to its potential earning capacity. This core principle of
finance holds that, provided money can earn interest, any amount
of money is worth more the sooner it is received.
. Also referred to as Present Discounted Value
5.

6. Principle of Seasonal Variation: A characteristics of a time series in

which the data experiences regular and predictable changes which
recur every calendar year. Any predictable changes or pattern in time
series that repeats over a one-year period can be said to be seasonal.
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Note that, seasonal effect are different from cyclical effects, as seasonal cycles
are contained within one calendar year while cyclical effects such as boosted
sales due to low unemployment rates can be span time periods shorter or longer
than one year calendar year.

Business Conditions/ Situations:

Boom Situation
Normal Situation
Recession Situation

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Financial Market:

Financial Market is the combination of individual and institutions involved in the

trading of financial assets/securities. This is a system, not a place. There are two
segments of Financial Market:

A.

Money Market: A segment of the financial market in which financial

instruments with high liquidity and very short maturities are traded. The money
market is used by participants as a means for borrowing and lending in the
short term, from several days to just under a year.
The Instruments of Money Markets are:
Treasury Bills (Max One Year) by Bangladesh Bank.
Commercial Papers.
Bankers Acceptance.
Money Market Mutual Fund.
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Inter Corporate Loan.

.
1)
2)
3)
4)
5)

Capital Market: Capital markets are markets for buying and selling equity and
debt instruments. Capital markets channel savings and investment between
suppliers of capital such as retail investors and institutional investors, and
users of capital like businesses, government and individuals. Capital markets
are vital to the functioning of an economy, since capital is a critical component
for generating economic output.
. Instruments of Capital Market:
1) Shares.
2) Corporate Bonds.
3) Debentures.
4) FDR (Long Term)
5) Mutual Fund. (2 years/ 6 Years/ 6 Years etc) by BB
6) Treasury Bond.
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7) Bonds.
B.

Role of BB:
BB is the guardian of Money Market. Role of BB is to regulate money supply min
twice a year to control inflation. To check CRR (Cash Reserve Ratio) and
Statutory Liquid Ratio (SLR).
Cash Reserve Ratio (CRR): Each bank has to keep a certain percentage of its
total deposits with BB as cash reserves.
Statutory Liquidity Ratio (SLR): Amount of liquid assets such as precious
metals(Gold) or other approved securities, that a financial institution must
maintain as reserves other than the cash.
Formula: SLR rate = (liquid assets / (demand + time liabilities)) 100%

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Capital Market is regulated by SEC (Security Exchange Commission). The

components are DSE, CSE, 50 commercial banks, all assets management
companies, Brokerage Houses, all Foreign Banks, All Financial Institutes. Etc.
Banking Division of Finance Ministry controls all the markets of the country.
Relationship of Finance with Economics:
http://www.differencebetween.info/difference-between-finance-and-economics
Relationship of Finance with Accounting:
http://www.differencebetween.info/difference-between-accounting-and-finance

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