Finance may be defined as the art and science of managing money. It includes financial service and financial instruments.

Finance also is referred as the provision of money at the time when it is needed. Finance function is the procurement of funds and their effective utilization in business concerns. The concept of finance includes capital, funds, money, and amount. But each word is having unique meaning. Studying and understanding the concept of finance become an important part of the business concern.

According to Khan and Jain, Finance is the art and science of managing money

 According

to the Wheeler, Business finance is that business activity which concerns with the acquisition and conversation of capital funds in meeting financial needs and overall objectives of a business enterprise.

Finance

Private Finance

Public Finance

Individual Finance

Partnership Finance

Business Finance

Central Government

State Governm ent

Semi Governm ent

Suppose you decide to start a firm to make tennis balls. To do this you hire managers to buy raw materials, and you assemble a workforce that will produce and sell finished tennis balls. In the language of finance, you make an investment in assets such as inventory, machinery, land, and labor. The amount of cash you invest in assets must be matched by an equal amount of cash raised by financing. When you begin to sell tennis balls, your firm will generate cash. This is the basis of value creation. The purpose of the firm is to create value for you, the owner. The value is reflected in the framework of the simple balance sheet model of the firm.

Net working capital

Current liabilities

Current assets

Long term debt Fixed assets Tangible fixed asset Intangible fixed asset
Total value of assets

Share holders equity

Total value of the firm investors

 The

Sole Proprietorship The Partnership The Corporation

A sole proprietorship is a business owned by one person. Here are some factors that are important in considering a sole proprietorship:

The sole proprietorship is the cheapest business to form. No formal charter is required, and few government regulations must be satisfied for most industries. The sole proprietorship has unlimited liability for business debts an obligations. No distinction is made between personal and business assets. The life of the sole proprietorship is limited by the life of the sole proprietor. Because the only money invested in the firm is the proprietors, the equity money that can be raised by the sole proprietor is limited to the proprietors personal wealth.

Any two or more people can get together and form a partnership. Partnerships fall into two categories: (1) general partnerships and (2) limited partnerships. In a

some fraction of the work and cash and to share the profits

general partnership

all partners agree to provide

and losses. Each partner is liable for all of the debts of the partnership. A partnership agreement specifies the nature of the arrangement. The partnership agreement may be an oral agreement or a formal document setting forth the understanding.

Limited partnerships permit the liability of some of the partners to be limited to the amount of cash each has

contributed to the partnership. Limited partnerships usually require that (1) at least one partner be a general partner and (2) the limited partners do not participate in managing the business.

Partnerships are usually inexpensive and easy to form. Written documents are required in complicated arrangements. Business licenses and filing fees may be necessary. General partners have unlimited liability for all debts. The liability of limited partners is usually limited to the contribution each has made to the partnership. If one general partner is unable to meet his or her commitment, the shortfall must be made up by the other general partners.

The general partnership is terminated when a general partner dies or withdraws (but this is not so for a limited partner). It is difficult for a partnership to transfer ownership without dissolving. Usually all general partners must agree. However, limited partners may sell their interest in a business. It is difficult for a partnership to raise large amounts of cash. Equity contributions are usually limited to a partners ability and desire to contribute to the partnership. Income from a partnership is taxed as personal income to the partners. Management control resides with the general partners. Usually a majority vote is required on important matters, such as the amount of profit to be retained in the business.

Of the forms of business enterprises, the corporation is by far the most important. It is a distinct legal entity. As such, a corporation can have a name and enjoy many of the legal powers of natural persons. For example, corporations can acquire and exchange property. Corporations can enter contracts and may sue and be sued. For jurisdictional purposes the corporation is a citizen of its state of incorporation (it cannot vote, however).

Starting a corporation is more complicated than starting a proprietorship or partnership. The incorporators must prepare articles of incorporation and a set of bylaws. The articles of incorporation must include the following: 1. Name of the corporation. 2. Intended life of the corporation (it may be forever). 3. Business purpose. 4. Number of shares of stock that the corporation is authorized to issue, with a statement of limitations and rights of different classes of shares. 5. Nature of the rights granted to shareholders. 6. Number of members of the initial board of directors.

The finance function in a large firm is further subdivided into two categories: the functions of the treasurer and the functions of the controller.
The following table will identify the activities undertaken by these functionaries:

Functions as a treasurer
Acquisition of funds Banking relationships Cash management Credit management Capital budgeting Dividend decision Insurance

Functions as a Controller
Financial accounting Internal auditing Taxation Management accounting Cost control Record keeping Tax planning

Research and Development Corporate Finance is needed for Research and Development. Today, a company cannot survive without continuous research and development. The company has to go on making changes in its old products. It must also invent new products. If not, it will be get automatically thrown out of the market.

Motivating Employees Manager and employees must be continuously motivated to improve their performance. They must be given financial incentives, such as bonus, higher salaries, etc. They must also be given non-financial incentives such as transport facilities, canteen facilities (eatery), etc. All this requires finance.

Smooth Conduct of Business : Finance is needed for conducting the business smoothly. It is needed as working capital. It is needed for paying day-to-day expenses. It is needed for advertising, sales promotion, distribution, etc. A company cannot run smoothly without finance.

Promoting a Company : Finance is needed for promoting (starting) a company. It is needed for preparing Project Report, Memorandum of Association, Articles of Association, Prospectus, etc. It is needed for purchasing Land and Buildings, Plant and Machinery and other fixed assets. It is needed to purchase raw materials. It is also needed to pay wages, salaries and other expenses. In short, we cannot start a company without finance.

Expansion and Diversification : Expansion means to increase the size of the company. Diversification means to produce and sell new products. Modern machines and modern techniques are needed for expansion and diversification. Finance is needed for purchasing modern machines and modem technology. So, finance becomes mandatory for expansion and diversification of a company.

Meeting Contingencies : The company has to meet many contingencies. For e.g. Sudden fall in sales, loss due to natural calamity, loss due to court case, loss due to strikes, etc. The company needs finance to meet these contingencies

Government Agencies : There are many government agencies such as Income Tax authorities, Sales Tax authorities, Registrar of Companies, Excise authorities, etc. The company has to pay taxes and duties to these agencies. Finance is needed for paying these taxes and duties.

Dividend and Interest : The company has to pay dividends to the shareholders. It has to pay interest to the debenture holders, banks, etc. It also has to repay the loans. Finance is needed to pay dividends and interest.

Replacement of Assets : Plant and Machinery are the main assets of the company. They are used for producing goods and services. However, after some years, these assets become old and outdated. They have to be replaced by new assets. Finance is needed for replacement of old assets. That is, finance is needed to buy new assets.

THE FINANCIAL SYSTEM

Suppliers of Funds Individuals Businesses Governments

Funds

Private Placement

Demanders of Funds Individuals

Securities

Businesses Governments

Transferring Capital
Direct

Transfer of Funds

saver

Transferring Capital
Direct

Transfer of Funds

saver

firm

Transferring Capital
Direct

Transfer of Funds

Cash saver firm

Transferring Capital
Direct

Transfer of Funds

Cash saver firm

Securities

Transferring Capital
Indirect

Transfer using a Financial Intermediary

saver

Transferring Capital
Indirect

Transfer using a Financial Intermediary

saver

financial intermediary

Transferring Capital
Indirect

Transfer using a Financial Intermediary

Funds

saver

financial intermediary

Transferring Capital
Indirect

Transfer using a Financial Intermediary

Funds

saver

financial intermediary

firm

Transferring Capital
Indirect

Transfer using a Financial Intermediary

Funds

Funds

saver

financial intermediary

firm

Transferring Capital
Indirect

Transfer using a Financial Intermediary

Funds

Funds

saver

financial intermediary Firm Securities

firm

Transferring Capital
Indirect

Transfer using a Financial Intermediary

Funds

Funds

saver

financial intermediary Firm Securities

firm

Intermediary Securities

Transferring Capital
Direct

Transfer using Financial Market

saver

Transferring Capital
Direct

Transfer through Financial Markets

saver

Financial Markets

firm

Transferring Capital
Direct

Transfer through Financial Markets

Funds saver

Financial Markets

firm

Transferring Capital
Direct

Transfer through Financial Markets

Funds saver

Funds

Financial Markets

firm

Transferring Capital
Direct

Transfer through Financial Markets

Funds saver

Funds

Financial Markets

firm

Securities

Transferring Capital
Direct

Transfer through Financial Markets

Funds saver

Funds

Financial Markets

firm

Securities

Securities

Finance
Financial Markets Financial Institution Financial instruments

Money market Capital market

Banking institutions Non banking financial institutions

Primary securities Secondary securities

 Defined

as the market in which financial assets are created or transferred.

assets represent a claim to the payment of a sum of money sometime in the future and/or periodic payment in the form of interest or dividend.

These

 Classification
Money

market (Short term instrument)

Capital

markets (Long term instrument)

The

two:

most important distinction between the

difference in the period of maturity.

The

 Main
To

Function

channelize savings into short term productive investments like working capital .

Instruments
Call

money market Treasury bills market Markets for commercial paper Certificate of deposits Bills of Exchange Money market mutual funds Promissory Note

in Money Market

Part of the national money market

Day-to day surplus funds mainly of banks are traded

Short term in nature Maturity of these loans vary from 1 to 15 days Lent for 1 day: Call money Lent for more than 1 day but less than 15 days: Notice money Convenient interest rate Highly liquid loan repayable on demand

 Referred It

as note payable in accounting

is a contract detailing the terms of a promise by one party (the maker) to pay a sum of money to the other (the payee).

The

obligation may arise from the repayment of a loan or from another form of debt.
example, in the sale of a business, the purchase price might be a combination of an immediate cash payment and one or more promissory notes for the balance.

For

Unsecured Promissory note.

Issued by well known companies with strong and high credit rating.
Sold directly by the issuers to investors or through agents like merchant banks and security houses. Flexible Maturity Low interest rates with compared to banks. Imparts a degree of financial stability to the system.

 Defined

as short term deposit by way of using promissory notes. flexibility to investors in the deployment of surplus funds.

Greater

Permitted
Maturity

by the RBI to banks

1 year.

of not less than 3 months and upto in nature

Transferable Free

negotiability and limited flexibility

 Invest

primarily in money market instruments of very high quality.

RBI

and public financial institution can set it either directly or through its existing subsidiaries.

Introduction of t-bill market A particular kind of finance note put out by the government of the country. Treasury bills are highly liquid because there cannot be a better guarantee of repayment than the one given by the government. They are claims against the government. That means when you buy a Treasury, we are actually loaning money to the government and the government in turn is paying you interest on the borrowed money

Treasury Bills, one of the safest money market instruments, are short term borrowing instruments of the Central Government of the Country issued through the Central Bank (RBI in India). They are zero risk instruments, and hence the returns are not so attractive. It is available both in primary market as well as secondary market. It is a promise to pay a said sum after a specified period. T-bills are short-term securities that mature in one year or less from their issue date. They are issued with threemonth, six-month and one-year maturity periods. The Central Government issues T- Bills at a price less than their face value (par value). They are issued with a promise to pay full face value on maturity. So, when the TBills mature, the government pays the holder its face value. The difference between the purchase price and the maturity value is the interest income earned by the purchaser of the instrument. T-Bills are issued through a bidding process at auctions

A non-interest-bearing written order used primarily in international trade that binds one party to pay a fixed sum of money to another party at a predetermined future date. A bill of exchange is an instrument in writing. It must be signed by the maker or drawer. It contains an unconditional order. The order must be to pay money and money only. The sum payable must be specific. The amount must be paid within a stipulated time or on demand. The name of the drawee must be clearly mentioned. It must be dated and stamped

Provided resources needed by medium and large scale industries. Purpose for these resources
Expansion Capacity Expansion Investments Mergers and Acquisitions

Deals in long term instruments and sources of funds

 Main

Activity

Functioning

as an institutional mechanism to channelize funds from those who save to those who needed for productive purpose. opportunities to various class of individuals and entities.

Provides

Primary Markets
When companies need financial resources for its expansion, they borrow money from investors through issue of securities.

Secondary Markets
The place where such securities are traded by these investors is known as the secondary market.

A primary market is one in which a borrower Secondary financial markets are those obtains funds from a lender by selling newly where people can buy and sell existing issued securities. securities Securities issued a) Preference Shares b) Equity Shares c) Debentures Equity shares is issued by the under writers and merchant bankers on behalf of the company. People who apply for these securities are: a) High net worth individual b) Retail investors c) Employees d) Financial Institutions e) Mutual Fund Houses f) Banks Securities like Preference Shares and Debentures cannot be traded in the secondary market. Equity shares are tradable through a private broker or a brokerage house. Securities that are traded are traded by the retail investors.

Financial Instruments: The written legal obligation of one party to transfer something of value, usually money, to another party at some future date, under certain conditions. The enforceability of the obligation is important. Financial instruments obligate one party (person, company, or government) to transfer something to another party. Financial instruments specify payment will be made at some future date. Financial instruments specify certain conditions under which a payment will be made.

A financial instrument is a trade able asset of any kind; either cash, evidence of an ownership interest in an entity, or a contractual right to receive or deliver cash or another financial instrument. Primary Securities: Equity, Preference, Debt and Various combinations. Secondary Securities: Mutual Fund Units and Insurance Policies etc.

Banking Institutions: Participate in the economy's payment mechanism, deposit liabilities constitute a major part of national money supply.
Non-Banking Institutions: LIC, SIDBI, IIBI, IFCI ( All India Financial Institutions), SFCs & SIDCs

 To

link the savers & investors. To inspire the operators to monitor the performance of the investment. To achieve optimum allocation of risk bearing. It makes available price - related information. It helps in promoting the process of financial deepening and broadening

 Depositories
Custodial Credit

Rating Leasing Portfolio Management Underwriting etc.

 Financial

Institutions Financial Markets Financial Instruments Financial Services