Are we really making the best decisions concerning money management in our business, however big or small?
Most of us, no matter how big or small our businesses are, sometimes ask ourselves whether it is all correct. Money lies at the core of every business, and improper management can cause everything to crumble within a very short time. We have witnessed good businesses going bad just because of poor management of their finances.
From managing daily costs to long-term investment planning, financial management plays a role at every step of the business. It talks about prudent money decisions- to raise funds, control costs, or assess risk.
Unless controlled and managed financially, there is no way businesses can sustain themselves. It’s what keeps the company in the right financial position so it thrives rather than surviving.
And so, dive into the core aspects that make financial management so vital.
What is Financial Management?
In simple terms, financial management refers to the process of arranging, organising, directing, and controlling financial resources for proper use of funds given for steadily achieving organisational goals and, over time, stability.
Financial management is not mere record-keeping of the income brought in or out. It is prudent planning and steps in making decisions that will help us survive and, more importantly, grow.
The nature of financial management is to help us in proper planning, organisation, and control, as well as the direction of financial resources for our realisation of goals. The extent of responsibility is huge, but proper execution goes quite a long way in keeping a business float.
The Role of Financial Planning in the Success of Business Resource Allocation
What happens when we don’t plan our finances?
It results in chaos: unbudgeted expenses, missed opportunities, and failure to achieve business goals in the end. Financial planning is a roadmap.
In simple words, it can be considered an answer to how we decide what money goes where and what should be given priority. We have to consider both immediate needs and the future vision of a business.
For example, if a small business wants to expand, it does not just start throwing money at things. It has to plan out where the money goes. The owners would sit together and calculate budgeting for new equipment, rent on another location, and even marketing for more customers. Planning this way allows the owners not to overspend and to have enough cash flow to cover day-to-day activities while still implementing the expansion.
Also Read: What is the Scope of a Career in Financial Management?
Here are some of the major things that we consider in terms of financial planning:
- Realistic goals: What do we want to achieve? Do we want to expand, launch a new product, or even maintain what cash flow is coming in?
- Making a budget: We draw up a budget so we have something more or less like a structure and to ensure our spending fits within our goals.
- Forecasting our future needs: We have to think ahead and, in doing so, be able to anticipate whatever potential challenge or opportunity is on the horizon.
Without financial planning, we are driving in the dark. No business can afford that.
Understanding Risk and Return for Better Financial Decision-Making
Risk and Return allow us to differentiate between a good investment and a bad one.
Obviously, one of the most difficult decisions we make as entrepreneurs or business managers is the evaluation between risk and return. The more risk we take, the more money we get; however, on the other hand, there also exists a potential chance to lose money.
That’s where the evaluation of risk and return comes into place.
This is an element in the nature of financial management. We decide by weighing the risks with the rewards so that our ends are served.
Consider a mid-sized company doing IT work and investing in AI technology. The front-end cost is too high, and there is no certainty of payback at the moment, but with the trend of the market and the scope for increase and hike, the financial manager at the company may invest since the benefit will eventually come ahead of the risk.
This is what we call:
- Market assessment: What are the trends? Is the demand for our investment growing or declining?
- Assessment of the financial health of the company: Are we flushing the cash reserves for this risk, or does it put our daily operations at risk?
- The returns: Are we looking at money that is going to give us high returns that justify taking this risk, or would we be better off playing it safer with investments that pay us returns that do not blow us sky-high?
The bottom line is all about balance. We have to know when to take calculated risks and when to hold back.
Estimating Capital Requirements to Maintain Financial Stability and Drive Growth
How much does a business really need?
This is just one of the main questions that most business owners face. True enough, the right capital requirements must always go hand in hand with business development, but it must also have an explanation of how to keep the financial aspect stable.
It may be a simple or daily operation or long-term expansion, so we must know how much money we need to keep things running.
For example, let’s assume that a manufacturing company wishes to expand its production line. Capital would be required for new machinery, additional workers, and possibly inventory. However, if this capital requirement is not properly estimated, then big trouble ensues, like running out of funds right in the middle of an expansion.
So, when estimating capital requirements, we subdivide it like this:
- Fixed capital: This comprises long-term assets, including equipment, buildings, or land.
- Working capital: This includes the daily running costs, such as salaries, raw materials, utility bills, etc.
- Future capital needs: We need to factor in growth plans. Are we planning to scale up in the next year or two? If so, we need to ensure we have the funds for that.
By getting the appropriate capital requirements, we ensure the business has the amount of money needed to pay both current and future expenses on hand. It avoids cash shortages and gives room for proper judgments on resource allocation.
Developing an Optimal Capital Structure at the Minimum Cost of Funds
How do we balance between debt and equity?
Getting that balance correct is tricky. Too much debt and we are likely to drown in interest payments. If there is too much equity, we may lose too much control over the business. Getting a balance of capital structure right is the sweet spot. It helps us cut financing costs while maintaining flexibility in the business.
How it works out:
- Debt: Financing by loan or bond involves paying back interest. The upside? It doesn’t dilute equity, but we do require a continuous flow of cash-to-service repayments.
- Equity: We sell shares for cash without the pressures of repayment. However, it means sacrificing some piece of ownership. The cost is the loss of control over decisions.
Proper Cash Flow Management to Maintain Smooth Business Operations
Do we have the cash to keep the wheels turning?
Cash flow management is literally the bread and butter of the company and very often breaks or makes its survival probability. We require the availability of cash for the running of operations on a daily basis but do not want it to accumulate too much such that it lies idle. Here come proper cash flow management steps.
And this is precisely what one needs to manage one’s cash flow effectively.
- Track cash inflows and outflows regularly: We know exactly where the cash is coming from and where it’s going.
- We should keep emergency reserve cash accounts: We need to give way for some safety net for the unwarranted downfalls.
- Deposit surplus cash wisely: Rather than letting it sit there, we can invest it back into the business or park it in low-risk, short-term investments.
Also Read: Cash Flow Analysis
Maximising Company Value and Shareholder Wealth through Financial Decisions
How do we boost the company’s value while keeping shareholders happy?
Our financial decisions impact the value of the company. Whether we are expanding our business into a new market, reducing unnecessary costs, or investing in technology, all our actions impact shareholder wealth. This is precisely why the nature of financial management is not just ensuring smooth-running businesses but increasing company value over time.
How do we grow company value?
- Strategic investments: Decide what investments will bring in long-term returns, whether it’s technology, expansion, or product development.
- Cost control: Monitor the expense areas that can have cuts without affecting the quality or the operation of the business.
- Dividend policy: Decide if earnings should be reinvested or paid out as dividends to ensure pleasing shareholders.
Also Read: What are the 15 Key Objectives of Financial Management
Proper Funding Sources for Business Expansion and Growth
Where do we find the money to raise?
The source of funding is what will either make or break our growth strategy. Do we go out and raise a loan? Are we to issue more shares? Perhaps finding out government grants? Each and every option has a profit and a drawback.
The funding options we usually consider are as follows:
- Debt financing (bank loans, bonds): Loans where money will be paid back with interest.
- Equity financing (issuance of shares): Generating funds without paying them back since you don’t have to give them back, but you give up part of the ownership of the business.
- Grants and government funding: Reliable sources of funding if they are available; they do not usually require payment back, but of course, the competition would be tough.
- Retention earnings: Using profit from the business itself to fund new projects—no debt, no equity dilution, but it depends on the profitability.
The Importance of Financial Controls in Achieving Financial Performance Goals
How do we know that our business is performing just as it should be?
This is where financial controls come in. Without them, we are flying blind. The nature of financial management is to ensure constant monitoring and measuring of financial activities and then align them with the required adjustments, keeping everything on track toward meeting the performance goals.
Think of them as the dashboard of the business—offering real-time insights into how the business is doing, financially speaking.
Financial controls help in the following ways:
- Cost control: Waste no penny. Are we overpaying suppliers or perhaps overmarketing?
- Revenue control: Do we know if sales are meeting our expectations? We can adjust immediately.
- Profitability analysis: Are all our hard work and striving really profitable?
Controls help measure what is happening and why and drive swift adjustments to move the company closer to, not further from, financial goals. Without controls, we risk missing very important financial goals or really getting into trouble.
Conclusion
Financial management is the nucleus of any successful business. The nature of financial management is to maximise all resources with excellent efficiency, thereby taking control over costs, risk management, and decision-making.
A well-managed capital strategy keeps its financing cost under control, and the careful management of cash flow will help in making daily operations stable. Financial control acts as a defence, keeping the business on track in terms of profitability and growth.
Effective financial management is what lets a business get on solid footing and be there in the long run to surmount challenges and take advantage of opportunities. When those guidelines are commonly applied, businesses can look forward to constructing durable success on their journey toward long-term financial health.
If you want to learn more about financial management, check out the Financial Analysis, Valuation, & Risk Management course by Hero Vired. It is designed by industry experts for the benefit of hands-on experience and advanced knowledge, ensuring you are fully equipped to apply essentials in finance management to propel your business forward.
