Let us unveil what is financial management and why is it important in the real world. With info on the synopsis, scenarios, and explanation of underlying concepts revolving around the same, you would have a better understanding of the same. Read on!
Introduction
Financial management is a process by which your finances are actively managed across all spheres of your life. It can be managing your money or finances in your personal life. Or, it can be companies wanting to manage their finances effectively to make departments function strategically and objectively.
On a broader note, you have a list of principles that are encompassed within the scope of financial management. These principles tell us how to manage funds correctly and appropriately so that the funds are effectively utilized for the growth of companies and the overall spurt of economies.
On this note, let us discuss what is financial management and why is it important. Helping you get started here:
What is financial management- Meaning and conceptualization explained
Financial management is a cluster of financial principles you need to run businesses or maintain active lifestyles on your personal front. You must maintain and manage your finances effectively so that you lead a stress-free life after all.
The global age is exposing today’s millennials to inflationary changes and you are subject to interest-rate fluctuations too while having to deal with financial products. Sudden loss of jobs due to layoffs or uncertainties in employment opportunities also poses serious threats to leading active lifestyles and not comprising essentials.
Therefore, you must follow financial principles diligently and in a principled manner so that you do not miss out on the necessities of life. The absolute necessities of life include having a roof above your head or allowing your kids to receive a reasonable level of education. Above all, you must be able to feed your family members with at least three square meals a day.
On a business front, financial management refers to following the principles of management in a corporate or business setup. Here, you make a business plan and make sure all the departments stay on track with the same.
You have the Chief Finance Officer or the CFO who is the head of the finance department. Using the solid principles of financial management, the funds of the company are actively managed across all the departments of a business organization.
By making use of sound principles of financial management, a business enterprise can:
- Create a long-term vision on how to build brand and goodwill for the business enterprise
- Get practical insights into where to invest or manage funds to procure active yields that facilitate the overall growth or prosperity of a business entity
- How does the company plan to fund its desirable investment portfolios
- Help get cues on maintaining cash budgets, liquidity, and profitability to ensure the overall sustainability of the brand of the business enterprise, and financial control mechanisms must stay in accordance with the same.
What are the functionalities that fall under a sound ‘financial management system?’
These are the overall functionalities that a robust financial management system usually takes care of. Helping you get a run down into the same:
- Accounting Procedures
The accounting procedures include a. Preparation of cash budgets
b. Preparation of balance sheets for business enterprises
C. Review of how much working capital reserves are available in a business enterprise for the purchase of raw materials in the case of a manufacturing hub and assets in the case of a service-oriented firm
Therefore, you need accounting teams that take care of the same. Plus, these financial management principles comprise managing accounting procedures in a neat and easy format.
- Deployment of asset management strategies
Financial management policies guide business enterprises to manage their fixed and variable assets effectively. You have asset management teams that procure assets for business teams or enterprises. These teams also decide what assets have to go in for maintenance.
Maintenance of assets is way cheaper as compared to procuring assets afresh from marketplaces. With the adoption of robust financial software systems, procurement of new assets or maintenance of existing assets becomes hassle-free.
- To determine incomes vs expenditures
From a business perspective, it is quite imperative that you keep stock of the incomes you receive from your clients or shareholders vis-a-vis the expenditures you spend for running your business on a day-to-day basis.
Incomes relate to bagging business deals from clients. While expenses can relate to payment of salaries to staff or employees of the organization, payment of lease or rent for property premises, and purchase of raw materials in a manufacturing hub.
By maintaining financial forecasting software, you can keep the capital structure and working capital models intact.
Importance of financial management
Let us look at how important financial management is on a business front or a personal front. Helping you with a run-down of pointers pertaining to the same:
- Strategizing for your wants
When you adhere to effective financial management practices of earning and saving money, you can do a lot more than imagined.
For instance, when you want to buy your car and you have been setting up an emergency fund in respect to the same, then getting yourself that brand new car is easier than imagined.
You can give your cash savings and apply for an easy collateral loan with a cheaper rate of interest to offset the remaining amount.
Suppose you have been saving money for the last 5 years for building your own home, you find it easier to get a property and set up building your brand new space. You can dispense your cash deposit and offset the remaining sum by applying for a simple home loan that is within your budget.
Likewise, you can strategize your own set of short-term, medium-term, and long-term goals by following a simple three-step financial management strategy here
Earning⇒⇒Investing⇒⇒Saving
- Helping businesses evolve
Financial management practices help businesses utilize their financial resources effectively and therefore provide business leaders with insightful inputs on how to run the business brand successfully and how to evolve the chain of businesses further.
By adopting business-friendly financial management software, business leaders chart out their short-term, medium-term, and long-term goals. They look at current scenarios or trends that are impacting the business enterprise and then identify what kind of financial resources add propensity avenues for the growth or success of their business brands.
- Helping with decision-making
Financial practices have proven steps and scenarios showing you how to utilize your financial resources effectively and in a manner you benefit from the same.
Whether it is evolving yourself to a better lifestyle experience or helping business leaders get vital cues on sharpening their decision-making abilities, it is adaptation and implementation of the right financial practices or strategies that help individuals and business enterprises.
For instance, you have two types of emergency fund accounts. One emergency fund helps you procure cash settlement for buying raw materials and the other fund is for buying a brand new truck for your company. These are the immediate financial requirements for the enterprise wherein you must decide immediately. These expenses are necessary for the supply chain management of the enterprises.
On the other hand, you may have plans to envision your brand by opening a few more branches or franchisees. This can be a goal that can be taken up on a medium or long-term scale.
Therefore, by applying management principles, business leaders make the right decisions that are in favor of growing enterprises or business entities.
- Provides economic stability
When you follow financial principles to the tee, you manage your income levels vis-a-vis the balance of your purchasing needs. When you have dispensable funds at your disposal, it is always better you start on some kind of an investing option.
It can be as simple as investing via SIPs (Simple Investment plans) or through mutual funds or even insurance plans.
This way, you progress way ahead of your peers in enhancing your lifestyle and getting yourself what you have always needed.
For business enterprises, by leveraging effective financial practices into their business units the business owners or leaders get better insights into utilization of funds. You may have received lucrative orders for deals for products or improved your profitability levels for the quarter.
You must appoint well-experienced financial managers to help you divert your business earnings via useful investment plans so that you can enrich your cash cum revenue dispensable in a lucrative manner.
These practices therefore lead to wealth generation of individuals and enterprises allowing the economies to grow or progress. And, when you gain economic stability, the economies or countries improve their purchasing power on the whole and this can lead to wealth and prosperity of economies on the whole.
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Understanding the scope of financial management
Now, it is time to understand in which areas of a business enterprise you actually implement practices of financial management.
Helping you through with a run-down into the same with vivid functions of financial management or general management objectives as outlined under:
- Financial planning
The financial teams sit together and plan on
- maintaining positive cash-flow reserves
- how to allocate funds to add more products or services to your enterprise
and
- how to cope with business events that are unforeseen or completely unexpected
The updates or info is shared among business teams in the form of financial reports to facilitate further courses of action within the departments of the company.
2. Budgeting
Budgeting is another important process that needs initiation in a business environment. The financial manager has to allocate the funds of the company towards:
- Arranging funds towards mortgages or rent of leased out properties or supply material warehouses
- Purchase of raw materials
- Disbursement of salaries to employees
- Allocation of funds towards business emergencies and
- Above all, towards maintaining cash flows towards funding new business opportunities.
The budgets must be allocated for each of these letterheads in a precise and cohesive manner. The finance manager inputs the budgeting data into a master budget document stored online. Sub-budgets are then created wherein the specific allocation of independent overheads takes place.
These are cash or linear budgets that can remain static or flexible. In a crux, you must implement effective management principles in lieu of the above.
3. Managing business investments vis-a-vis their risk factors
The financial manager has to access the types of business investments the enterprise is involved in. He should also make sure that these investments are safe and provide yields to allow the business enterprise to manage its financial resources prudently. Therefore, he is expected to not only manage business investments but also assess the risk factors associated with investment options.
3.1 Assessing risk management
When it comes to investments, there is a whole fleet of risks involved while you deal with the same. These are market risks, issuer risks, and liquidity risks to name a few. The very same level of risks can impact a business enterprise too.
Let us have a run-down into how a business manager assesses risk factors that are connected with the running of business enterprises, factory outlets, or other commercial hubs.
3.2 Market risks
The volatility of the market and external economic scenarios pose serious market risks when it comes to the safety racket of investment options.
For instance, when the entire world was hit by COVID-19, quite a lot of hotels or restaurant chains were typically closed down. This was because the Govt of different countries had issued curfew bans on people leaving their homes. Eventually, this led to online delivery or contactless food delivery websites booming their businesses.
Therefore, it is the responsibility of the business manager or financial manager to divert investment options to other avenues if present market or economic scenarios are not favorable to the business investments you have on hand.
Proper ratio analysis must be done using debt-equity contingency methods to organise debt-equity analysis after charting out the assets and liabilities of the investment portfolios the business enterprise has on hand.
Say, for instance, a dividend earning can imply a favorable overview of a business investment while market crashes can imply liability investments for the enterprise.
3.3 Credit risks
In a business parlance, the credit risks work a little differently. Here, credit risks involve customers not paying their invoices on time. Then, what happens? The business enterprise loses its revenue for the business quarter or for the month-on-month revenue model.
Therefore, it is the overall duty of the finance manager to maintain emergency funds in case the clients or business customers fail to meet their obligations of paying your company for the goods or services procured from your firm as such.
The finance manager must also look into sources wherein the business can borrow loans at favorable interest rates.
Here, the implementation of precise financial management principles holds the key to the business enterprise from losing its credibility.
3.4 Liquidity risks
The financial manager must make sure that the cash flow budgets that are prepared remain up-to-date and relevant to the line of business that is operating.
Current cash flow statements must be tracked thoroughly to analyze what components to carry out the various activities of the business in a streamlined manner.
Managing budgets and cash flows and updating them from time to time helps your enterprise stay ahead of the business and free up working capital as and when needed.
The Bottom line
Financial management principles apply to individuals and business units in a paramount way. Adaptation of these principles frees up your stress and can keep you tension-free.
Proper planning of financial objectives can help business enterprises from dissolving or signing up for bankruptcy.
Above all, you get a clear sense of direction on how to move ahead as a successful individual or as a business entrepreneur.
What are your thoughts on this? Do let us know in the comments!
