Question

•What are the three types of financial management decisions and what questions are they designed to answer?

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•What are the three major forms of business organization?

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•What is the goal of financial management?

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•What are agency problems and why do they exist within a corporation?

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•What is the difference between a primary market and a secondary market?

Answer 1

(1). The three types of financial management decisions are :

Investment Decision- A financial decision which is concerned with how the firm’s funds are invested in different assets is known as investment decision.  

Investment decision can be long-term decisions which involve huge amounts of long term investments and are irreversible except at a huge cost. Short-term investment decisions are called working capital decisions, which affect day to day working of a business.

Financing Decision- A financial decision which is concerned with the amount of finance to be raised from various long term sources of funds like, equity shares, preference shares, debentures, bank loans etc. Is called financing decision. it is a decision on the ‘capital structure’ of the company.

Dividend Decision- A financial decision which is concerned with deciding how much of the profit earned by the company should be distributed among shareholders (dividend) and how much should be retained for the future contingencies i.e. retained earnings is called dividend decision.

(2) The major forms of Business Organization are

Sole Proprietorship- The simplest and most common form of business ownership, sole proprietorship is a business owned and run by someone for their own benefit.

Partnership- A partnership is a formal arrangement by two or more parties to manage and operate a business and share its profits.

Corporation- Corporations are, for tax purposes, separate entities and are considered a legal person. This means, among other things, that the profits generated by a corporation are taxed as the “personal income” of the company.

Limited Liability Company (LLC)- Limited Liability Company provides owners with limited liability while providing some of the income advantages of a partnership.

(3) The goal of Financial Management are Profit maximization,Wealth maximization,Proper estimation of total financial requirements,Proper mobilization,Proper utilization of finance,Maintaining proper cash flow,Survival of company,Creating reserves.

(4). The agency problem does not exist without a relationship between a principal and an agent. In this situation, the agent performs a task on behalf of the principal. Agents are commonly engaged by principals due to different skill levels, different employment positions or restrictions on time and access.

The agency problem arises due to an issue with incentives and the presence of discretion in task completion. An agent may be motivated to act in a manner that is not favorable for the principal if the agent is presented with an incentive to act in this way.

Agency problems are common in fiduciary relationships, such as between trustees and beneficiaries; board members and shareholders; and lawyers and clients.

(5). There is a lot of difference between the primary and secondary markets-

Funding to Enterprises- The primary market helps in supplying funds to existing enterprises and budding enterprises for their diversification and expansion. However, the secondary market doesn’t finance the enterprises.

Times of Selling Securities- Under the primary market, the securities can be sold just once in the market. But under the secondary market, the securities can be sold multiple times.

Exchange of Securities- In the primary market, the exchange takes place between investors and the issuer company. However, buying & selling securities in the secondary market takes place among the investors itself.

Intermediaries- In the primary market, the underwriters take responsibility to sell the shares in the market and even take a guarantee of it. However, in the secondary market, brokers play the role of intermediaries and take responsibility for the sale & purchase of shares.

Prices- In the primary market, the prices are fixed. They don’t fluctuate as per market conditions. However, the secondary market securities’ prices fluctuate to a great extent with changing market conditions.

Organizational Difference- In the primary market, the organization is not rooted in any geographical location or a specific place. However, the secondary market has a physical existence.