Question

1. Discuss the concept of corporate financial management using the simple balance sheet model framework.

Answer 1

Corporate Financial management is a managerial activity that deals with planning and controlling of firms financial resources. It deals with procurement of funds (also called financing decisions) and effective utilisation of funds in business (also called investment decisions).I) procurement of funds can be done in two ways long term sources (equity, preference capital, debentures etc)ii)short term sources (trade credit, short term advances, loans etc) main area of concern here is how to minimise the cost of funds obtained? ii)Utilisation of funds now the funds can be invested for procurement of fixed assets or current assets main objective here is how to maximize the return on investment? The two important objectives of financial management are I)profit maximization which is the basic business motive and also long term objective but has a short term measurement focus (say a financial year) ii)wealth /value maximization which is represented by the market price of its capital(i.e., shares and debentures) which then depends upon likely rate of earnings (EBIT) and capitalisation rate. Let us understand with the help of examples for instance equity capital of 45 lacs and 10% debt of 30 lacs sales $40 lacs. less variable cost (25) contribution 15 less fixed cost. (6) EBIT. 9 less interest (3) EBT 6 now DFL=EBIT/EBT =9 lac/6 lac = 1.50 times. DFL degree of financial leverage it comes under financing decisions.it measures risk of operating with borrowed funds i. e., Use of debt funds is justified only if ROCE is greater than the interest rate. And such a firm is said to be financially favourable.