FINANCIAL MANAGEMENT

Introduction

Financial Management deals with the management of all the processes associated
with the efficient acquisition and deployment of both short and long-term financial
resources with a business entity or organisation. In all organisations, managers face
the problem of achieving organisational goals using the usually limited resources
available to them. All businesses are engaged in deploying their resources to optional
effects and also in augmenting those resources. In business finance, the key resource
is cash. Hence, financial managers want to utilise cash to achieve maximum benefits
for the owners of the company (ie maximisation of shareholders wealth). This hinges
on the key finance functions.

The Finance Functions

The key finance functions within an organisation are the:

a) Investment decision:- what assets should the firm invest money in?

b) Financial Decision:- having decided what to invest in, how best can the firm pay
for it? (ie what funds to raise?)

c) Dividend decision:- having successfully managed the financial resources at their

disposal, how best can managers return value to owners, (ie should they pay a
dividend and if so how much, and how much should they retain in the firm?)

Funds are raised from a external financial sources and allocated for different uses. The
flow of funds in the operations of the firm is monitored and the benefits to the
financing sources take the form of returns, repayments, products and services.
The financial manager’s main functions are to plan for obtain, and use funds to
maximise the value of a firm. Several important activities are involved.

1.In panning and forecasting, the financial manager must interact with the executives
who are responsible for the general planning activities of the firm.
2.The financial manager is concerned with investment and financing decisions and
their interactions. A successful firm usually achieves a high rate of growth in
sales, which requires the support of increased investments by the firm. They
determine a sound rate of sales growth and must rank alternative investment
opportunities. They assist to decide the specific investments to be made and
alternative sources and forms of funds for financing these investments. Decisions
must be made about the use of internal and external funds, of debt and equity
funds and of long-term and short-term financing.
3.The financial manager interacts with other managers in the business to help the firm
operates as efficiently and effectively. All business decisions have financial
implications, and all managers need to take this into account
4.The financial manager links his firm to the financial markets in which funds are
raised and the firms’ securities are traded both in the money and capital markets.
GOALS OF THE FIRM

The goal of financial management is to maximise the value of the firm. However,
there are potential conflict between a firm’s owners and its creditors.
If the company does very well, the value of its ordinary shares will increase while the
value of the firm’s debt is not likely to be affected greatly. On the other hand, if the
firm does poorly, the claims of the debt holders will have to be honoured first and the
value of the ordinary shares will decline greatly.
Thus the value of the ownership shares provides a good index for measuring the
degree of a company’s effectiveness in performance. It is for this reason that the goal
of financial management is generally expressed in terms of maximising the value of
the ownership share of the firm-in short, maximising share price.
It is important to recognise that; value maximisation is broader than profit
maximisation.

Reasons

a) Maximising value takes the time value of money into account. Funds received
today are worth more than that receive in ten years from now.

b) It considers the riskiness of the income stream, eg. The rate of return required an
risk-free government securities would be lower, than the rate of return required on an
investment in starting new business.

c) The quality of the expected future fund flows may vary. Profit figures can vary
widely, depending upon accounting rules and conventions used. Value maximisation
avoid some of these problems by emphasing cash or fund flows, rather than being
dependent on the way that profit or net income is measured.

Social Responsibility

Another important aspect of the goals of the firm and the goals of financial
management is consideration of social responsibility. If financial management seeks
maximise share price, this requires efficient, well-managed operations related to
consumer demand patterns. Successful firms are at the forefront of efficiency and
innovation, so that value maximisation leads to new products, new technologies and
greater employment. In recent years externalities (such as pollution, product safety
and job safety) have increase in importance. As economic agents whose actions have
considerable impact, business must take into account the effects of their policies and
actions on society. The expectations of workers, consumers and various interest
groups create other dimensions of external environment that firms must respond to in
order to achieve long-run wealth maximisation.
It is critical that industry and government cooperate in establishing rules for corporate
behaviour and that firms follow the spirit as well as the letter of the law in their
actions. Firms should strive to maximise shareholders wealth within external
constraints.

The Financial Environment

An important part of the environment within which financial managers functions is

the financial sector of the economy, which consist of :
Financial markets
Financial institutions
Financial instruments

Financial Markets

Financial markets are markets where funds are transferred from people who have an
excess of available funds to those with shortage. It performs the essential economic
function of channelling funds from households, firms and government that have a
saved surplus funds by spending less than their income to those that have shortage of
funds because they wish to spend more than their income. The transfer of funds from
a savings surplus unit, or the acquisition of funds by a saving deficit unit, creates a
financial asset and a financial liability. Eg funds deposited in a savings account in a
bank represent a financial asset on the account holder’s personal balance sheet but a
liability accounts to the bank. The creation and transfer of such asset and liabilities
constitute financial market.

Structure of Financial Market

Financial market consist of

1.Bond Market (a market for debt)
2.Stock Market (a market for stock/shares)
3.The foreign exchange market (a market for foreign exchange)
4.Mortgage market (a market for collateralised loans)
5.Money market (a market for short-term, low risk and highly liquid securities.

Primary Market and Secondary Market

A primary market is a financial market in which new issues of a security such as

bonds or stocks/shares are sold to initial buyers by the firm or government agency
borrowing the funds.

A secondary market is a financial market in which securities that have been

previously issued can be resold.

Money Market and Capital Market

The money market is a financial market in which only short-term debt instruments are
sold. Eg Treasury bills.

Capital market on the other hand is a financial market in which long-term debt and
equity instruments are traded

Financial Institutions

Financial institutions serve the purpose of facilitating the accumulation and allocation
of capital by channelling individual savings into loans to governments, business and
individual household. The transactions of financial institutions thus consist of making
loans to customers and the purchase of investment securities in the market place.
Financial institutions also offer a wide variety of other financial services raging from
insurance protection to the sale of retirement plans and the provision of a mechanism
for making payments transferring funds and storing financial information.
When the institution, markets and arrangements for transferring financial assets are
put together, we have a financial system.

Categories of Financial Institutions

1) CENTRAL BANK

Is the most important financial institution in the financial system. It is the central
agency charged with the responsibility of the conduct of monetary policy. It also acts
as the bankers bank.

Examples
Bank of Ghana
Bank of England (U.K)
Federal Reserve (U.S.A)

2) DEPOSITORY INSTITUTIONS

Banks are financial institutions that accept deposit and give loans to individuals,
business and the Government. They include
Commercial Banks
Merchant banks
Savings and loan associations
Mutual savings banks
Credit unions

3) NON-DEPOSITORY INSTITUTION

Contractual savings institutions

- Insurance companies (eg SIC/Vanguard Assurance)
- Pension fund (eg SSNIT )
Collective Investment institution
- Mutual funds
- Unit Trusts
Finance companies (eg UT financial services col)
Leasing
Securities market
- Brokerage companies
- Discount houses.
The Structure of the Banking System in Ghana

CENTRAL BANK

- Bank of Ghana

Commercial Banks

- Ghana Commercial Bank

- Standard Chartered Bank
- SG-social security bank
- The trust bank
- International commercial bank
- Stanbic bank
- Barclays bank (Gh Ltd)
- Unibank (Gh Ltd)
- United bank for Africa (UBA)
- Zenith bank

Merchant Banks

- Merchant bank (Gh) Ltd

- Cal merchant bank Ltd
- Ecobank Gh Ltd
- First atlantic merchant bank
- Amalgamated bank

Development Banks

- Agricultural development bank

- National investment bank
- Prudential bank

Community Bank

- La community bank

Rural Banks

- Lower pra rural bank

- Anlo rural bank
- Ga-damgbe rural bank
- Garu rural bank
- Ahantaman rural bank
- Amanano rural bank
FINANCIAL INNOVATION

In the past, all banking transactions (ie deposits, withdrawal, balance checking etc)
were done over-the-counter in the banking hall.
An improvement in information technology has led to a modern way of discharging
financial services electronically which is known as e-finance. Individuals use the
Automated Teller Machine (ATM) to withdraw money, check balance, print mini-
statement etc.

FINANCIAL INSTRUMENTS

Within the framework of the financial markets and financial institutions, financial
managers have a wide range of financial instruments in which they can invest and
form of financing by which they can raise funds.
A security (ie financial instrument) is a claim on the Issuer’s future income or assets.
That is any financial claim or piece of property. That is subject to ownership.
A bond is debt security that promises to make payments periodically for a specific
period of time.
Equity (ordinary) shares represent the ownership claims in companies. In addition, a
wide range of debt financing is used. This includes short-term debt, such as treasury
bills, bank loans/overdrafts, and amount payable to the suppliers of goods and
services
Long-term debt can be secured by the physical assets of the firm, such as mortgage
debentures.
International financial markets extend the range of alternatives available to financial
managers. Surplus funds can be invested at advantageous rates in the many different
types of international financial instruments. Financing can be obtained in the Euro
currency market for short-term borrowing or in the Eurobond market for long-term
debt financing.

FORMS OF BUSINESS ORGANISATIONS

There are various forms of business organisations with diverse objectives. These
include,
Sole Proprietor
Partnership organisation
Private limited companies
Public companies/corporations
Not-for-profit organisations

OBJECTIVES OF NOT- FOR- PROFIT ORGANISATIONS

Organisations such as charities and trade unions are not run to make profits but to
benefit prescribed groups of people. Since the services provided are limited primarily
by the funds available, the key objective is to raise the maximum possible sum each
year and to spend them as effectively as possible on the target group.
They normally set targets for particular aspects of each accounting period’s finances,
such as the following.
Total to be raised in grants and voluntary income
Maximum percentage that fund raising expenses represents of this total
Amount to be spent on specific projects
Maximum permitted administration costs

The actual figures achieved can then be compared with these targets and control
actions taken if necessary.

FINANCIAL OBJECTIVES IN PUBLIC CORPORATIONS

This category of organisation includes such bodies as nationalised industries and local
government organisation. They represent a significant part of an economy and sound
financial management is essential if their affairs are to be conducted efficiently. The
major problem here lies in obtaining a measurable objective.
There are two questions to be answered.
a) In whose interest one they run?
b) What are the objectives of the interested parties?

Presumably such organisations are run in the interest of society as a whole and
therefore we should seek to attain the position where the gap between the benefits
they provide to society and the costs of their operation is the widest (in positive
terms). The cost is relatively easily measured in accounting terms, however, the
benefits are intangible, eg services of National health services or local educations
authorities are not easily quantify.
Because of the above, most public bodies operate under objectives determined by the
government. It includes.
a) Obtaining a given accounting rate of return
b) Cash limits
c) Meeting budget
d) Break even in the long-run.

Since the profit motive is not applicable in most public sector situations, instead we
must measure the services provided in relation to the cost of providing those services.
In recent years, governments have been concerned with measuring service provision.
They have employed a value for Money (VFM) audit that aims to get the best possible
combination of services firm the least possible resources. This is done by pursuing the
three E’s

1) EFFECTIVENESS

It is a measure of output. Effectiveness is achieved if the outputs produced matched

the predetermine objectives. Here we match the service provision to the need.

2) EFFICIENCY

It can be seen as a ratio of output to inputs. If we achieve a high level of output in

relation to the amount of resources employed, we have been efficient. Once again,
there is no guarantee that the output achieved is sufficient to meet the organisation’s
objectives
Here, we maximise the output of services for a given level of input.
3) ECONOMY

It is achieved by minimising the cost of inputs required to achieve a defined level of

output. Here we source the resources input at the lowest cost.

The three E’s are the fundamental prerequisites of achieving Value for Money (VFM).
Their importance cannot be overemphasized.

Performance indicators are useful particularly when making comparisons between

departments etc. however, no two areas are identical and allowances must be made for
this.