what is business finance

what is business finance

Understanding Business Finance: A Comprehensive Guide

1. Introduction to Business Finance

Finance is the lifeblood of companies and it is crucial for business managers to have a sound understanding of business finance. Management must be aware of the importance of finance and know how to manage it. Without the necessary financial resources, companies cannot survive. It is of vital importance to be able to generate cash and organize the appropriate financing to fund your operations. Many great business concepts and ideas have never come to fruition simply because the quality of financial management was insufficient. Sales are always easier to achieve than cash generation, and many business failures can be attributed essentially to the mismanagement of capital.

The purpose of this series is to provide an understanding of the main areas of business finance. The first six chapters cover the basics of financial management. In the second part of the series, we show the importance of developing a sound financial strategy. The third part deals with the different sources of external financing and capital structure, and explains how to make your company attractive for investors.

2. Key Financial Concepts in Business

Most discussions on business finance focus on corporate finance, focusing mainly on company and managerial aspects involved in financial decisions. A business consists of various types of economic resources invested in some kind of asset-producing organizations, also known as operating or service units, providing goods or services to various consumer and industry need markets in cities, rural, and foreign areas. Capital and management are the two most important resources combined for operating such entities. Capital resources are needed to purchase goods for resale, raw materials, and equipment for creating services in demand or to invest in productive income-generating activities. Management then ensures that these resources are properly combined and operate in a manner likely to reinforce each other, maximizing profit or value for the stakeholders.

2.1 Key Business Finance and Concepts

This chapter aims to give readers a broad perspective and brief outline on what actually business finance is all about, specifically its main responsibilities and tasks, important finance functions or activities carried out by a finance department or manager, and several directly and indirectly related concepts designed to protect personal and business interests while limiting potential future financial difficulties. In simpler but broader terms, business finance itself is not only about financial problems, solutions, and decision-making, but it is also about the optimal use of all current and long-term business resources.

Finance really rules as one of the most important guiding principles in business operations and decision-making, including relations with customers, suppliers, employees, competitors, and the government. Comprehensive and relevant business finance information is therefore a strategic asset, essential for successful entrepreneurs, managers, and other professionals involved in operating or managing such activities. This will be discussed in some depth in the following chapters.

3. Financial Statements and Analysis

The “bottom line” of the income statement, net income, represents the change in owner value which results from normal business operations. Analysts often focus mainly on net income itself when evaluating income statement performance. It should be recognized, though, that this aggregate is affected by a large number of accounting policy alternatives and therefore may not, by itself, be a reliable indicator of periodic performance or general earning power. Comments made next may help those who use the financial statement. First, if financial statement users understand the attributes of net income that relate to performance and value, the advantages and disadvantages of accounting methods and policy practices will be recognized more easily. Second, because informative communication requirements concerning the income statement are many, users must be satisfied from other data sources that they have all essential data. Third, net income should normally be reviewed only in the context of these other data sources. After summarizing alternative approaches to income determination, I shall conclude with a few comments about income statement fundamentals that I hope will be of value to those who use the statement in analyzing business performance.

Most of the general principles for the operations of the capital statement apply also to the income statement, but due to its periodic nature, its analysis is much simpler. Although some regard the income statement as a record of earning power, it in fact measures the change in owner value resulting from business operations during specific periods. Most income statement analysis therefore is concerned with evaluating factors that influence the change between balances of retained earnings on the beginning and ending dates of the period. In doing so, analysts consider both data reported on the statement and factors that are not reflected in reported account balances.

4. Sources of Business Finance

Business finance is of two major types namely local and foreign sources. Sources of both local and foreign funds can be internal and external. Production and sales independently bring the business the applicable revenue which is collected locally or sent out as quickly as possible depending on prevailing circumstances. The funds which are expended on production and sales processes are the local funds, and the funds which are received are also local. However, since not all of the funds are necessarily invested in production and sale processes, funds which are not invested locally are considered external. Internal is what the business can maintain internally and external is money that the bank can fund loan. The two should always balance, in order to respect the debt-to-equity ratio which shows the creditworthiness of the business. Equities are also the shareholders’ funds which include share capital, reserves, and profits held in undistributed reserves. Share capital is the money injected into the business by shareholders – they receive a share certificate to prove it.

The well-known statement that finance is the heart of a business institution is a pointer to the very important place of finance. A number of definitions of business finance have been given, but fundamentally it is concerned with the provision of funds required for a business and the prudent allocation of these funds in the business. However, it could also be concerned with the application of these funds and needs very close control over the acquisition, employment, and allocation of these resources.

5. Financial Planning and Decision Making

Irrespective of whether the size of the firm or the ownership pattern, clear-cut financial goals flow from the general goals of the concern. These goals depend upon the knowing of the factors determining the operating capacity of the concern. Such factors consist of the policies and organization setups, which will goad a concern in a particular direction. When the assets of the concern are known and its policies clear, the extent of the firm’s liability to outsiders determines the amount of debt capital required, creating an analytical problem. The various resources available for creating assets have relevance to decisions on the investment of funds. The inter-relationship between the operating and financing decisions involves an understanding of the concept of a trade-off. The finance manager has, therefore, to evolve a feasible capital structure to translate the expected benefits to all concerned. The relationships studied in this chapter form the cornerstone of financial management.

In order to achieve an organization’s objectives, it is necessary to plan where those objectives are to be ones and how it should be done. Irrespective of the size and nature of the activities of the business, every organization is required to undertake financial planning. Financial plans relate to the financial implications of the enterprise. It is related to preparing forecasts, financial statements, and budgeting. It helps in establishing financial policies. It also helps in evaluating the financial aspects of different financial decisions. Hence, it is an essential part of the general plans of the business. Financial planning is required for raising funds from various sources. It is needed for utilizing and investing the funds so as to achieve the goals of the business concerned.