Anyone who works in business or finance should be familiar with the idea of financial management because it refers to the successful allocation and management of financial resources. A company with sound financial management may have a stronger place in its sector and be more resilient to market shifts and downturns in the economy.
Knowing what financial management is can help you learn more about your business and increase your chances of getting hired. In this piece, we provide a definition of financial management, discuss its goals and significance, look at the various varieties, and give examples to put things into perspective.
Financial administration – what is it?
What is financial management, you might be asking if you’re curious to learn more about the duties of a finance role? Planning, organising, controlling, and monitoring a company’s financial activities is necessary to make sure it has enough money to run profitably and reach its long-term objectives. Making choices about where to invest the company’s money and how to generate extra cash when necessary is part of financial management. It also entails figuring out how to distribute those funds in a manner that will help the business increase its return on investment.
Financial management’s goals
By ensuring that a company has the financial resources required to accomplish its business goals, financial management’s main goal is to increase a company’s value. This entails striking a balance between the demands for stability, profitability, and growth. The following are some additional financial management goals:
- deciding on the right balance of debt and equity funding for the business
- maximising the yield on investment for the company’s investments made with its money
- controlling the business’s cash flow and working capital to make sure it has enough money to pay its short-term obligations
- creating and executing a financial strategy that is in line with the long-term aims and objectives of the business.
- ensuring the company’s compliance with financial laws and reporting requirements
- safeguarding the business’s assets and lowering its financial dangers
- giving internal and external parties, such as investors, creditors, and regulators, precise and timely financial information
- providing the required financial data and analysis in support of the company’s strategic decision-making processes.
Financial administration in business: its importance
Financial management can be essential to a company’s performance because it can determine the company’s financial health, motivate investors to support the business, and influence public perception. Financial resources guarantee that the business will continue to service its customers and be profitable in the future. Here is a list of the factors that make financial administration so crucial:
- It enables a business to efficiently manage its working capital and cash flow, ensuring that it has enough money to pay its bills on time and seize opportunities as they present themselves.
- It enables a business to allocate its resources in a way that maximises return on investment, fostering expansion and profitability.
- It offers the financial information and analysis required for strategic decision-making, enabling a business to plan for and decide on its future growth.
- A business can better manage their financial risks while safeguarding their assets and ensuring their long-term financial stability.
- It guarantees the business complies with accounting rules and reporting requirements, assisting in upholding the confidence of creditors, investors, and regulators.
financial administration styles
To help you learn more, the following list of financial management categories is provided:
The combination of debt and equity financing that a business uses to finance its activities and expansion is referred to as capital structure. A company’s capital structure plays a key role in determining its overall financial health and success because it establishes how much financial risk it can take on and how much interest and dividends it can potentially pay to its creditors and shareholders. The capital structure of a business is made up of several important elements, such as:
Debt: The cash that a business borrows from creditors, like banks or other financial organisations, is referred to as debt financing. Debt is owed by the business over a predetermined time period and can be in the form of loans, bonds, or other forms of credit.
Equity: The money that a business generates by offering ownership stakes in the business to shareholders is referred to as equity financing. Companies do not have to pay back equity financing, but shareholders may be eligible for dividends that represent a part of the company’s profits.
Retained earnings are the part of a company’s profits that are kept by the business and reinvested in its operations rather than being distributed as dividends to shareholders. Given that they are produced by the company’s internal activities, retained earnings are a type of internal financing.
The process of assessing and choosing long-term expenditures for a business is known as capital budgeting. These investments could be made in brand-new initiatives, acquisitions, or the growth of current businesses. Capital budgeting seeks to pinpoint the initiatives that will yield the greatest returns for the business while also taking into consideration the risks and expenses involved. Typically, capital budgeting involves
Finding potential investments: Finding potential investments that support the company’s strategic goals and objectives is the first stage in capital budgeting. This could entail studying industry trends, reviewing internal proposals, and conducting market research.
Evaluation of potential investments: The business evaluates each potential investment after it has been identified to ascertain its potential returns and risks. This could entail performing a financial analysis to evaluate each investment’s possible cash flows and returns as well as the risks and uncertainties that could be related to each investment.
Choosing the best investments: The business chooses which investments to pursue after assessing the possible investments. They typically base this choice on a variety of elements, including the company’s general financial goals and objectives, potential returns, risks, and costs connected with each investment.
Implementing and tracking investments: After choosing the best investments, the business puts them into action and keeps track of their results. To make sure the investments are living up to the company’s expectations, this may entail allocating resources, working with other departments, and monitoring performance over time.
Working capital administration
The process of ensuring the business has the required funds on hand to maintain operations and cover unforeseen expenses is known as working capital management. This entails controlling the company’s finances, cash flow, and production schedules to guarantee that everything needed to continue operating is accessible. It can also involve setting a budget and limiting resources when doing so is essential to cut costs or keep operations running. There are several important aspects of working capital management, including:
Managing cash flow: Cash flow is the flow of funds into and out of an organisation. This may entail controlling the timing of payments, negotiating favourable terms of payment with suppliers, and reducing the time and money the business spends on testing and unproductive assets.
Managing accounts receivable: The money that a company’s clients due is referred to as accounts receivable. In order to ensure that a business gets payments on time, effective accounts receivable management is essential. This may involve giving customers credit limits, providing early payment discounts, and routinely checking on the customers’ payment status.
Inventory management: The raw materials, finished goods, and work-in-progress that a business has on hand are referred to as inventory. Setting inventory levels, implementing inventory systems, and routinely reviewing inventory levels to make sure they’re appropriate are all part of effective inventory management, which is crucial for ensuring that a business has the proper amount of inventory to meet customer demand.
Financial administration examples
With context, financial administration may be simpler to comprehend. Here are two instances to illustrate how it might affect a company:
Example of a business expenditure
This illustration centres on a commercial investment:
Given the recent advancements in plastic moulding technology, the financial team of a company decides that investing in the plastic moulding sector could offer a significant chance to produce additional cash reserves. A financial analysis of this prospective investment is done by the team, which identifies costs, risks, and potential returns. The material is then presented to the company’s executives for review by them.
After consideration, the executive team decides the investment may represent a good opportunity and authorises the financial team to plan the investment procedure. The team determines how much money the business can fairly afford to risk on the investment, then facilitates the investment process through an investment platform. In order to track the development and success of the investment over time, they also create a tracking sheet and make it available to the company’s executives.
Case of cash flow
This illustration demonstrates how to manage a business’s financial flow:
For a business to increase the profitability of its flagship product, one of its suppliers must offer more benevolent payment terms. To do this, the business approaches the service contract’s conditions and makes an effort to negotiate a new price. In the event that this is unsuccessful, the business looks for a different vendor who can better meet its requirements while keeping the first vendor on hand as a fallback option. The finance department of the business concludes that the product can only be profitable if the supplier offers raw materials at a set price of $5.64 per unit.