FINANCIAL DECISIONS IN A FIRM

There are three broad areas of financial decision making viz. Capital budgeting, capital structure, and working capital management.

Capital Budgeting

The first and perhaps the most important decision that any firm has to make is to define the business or businesses that it want to be this decision has a significant bearing on how capital is allocated in the firm.

Once the managers of a firm choose the business or businesses they want to be in, they have to develop a plan to invest in building, machineries, equipments, research and brands, and other long lived assets. This is the capital budgeting process.

Capital structure

Once a firm has decided on the investment projects it wants to undertake, it has to figure out way and means of financing them.

The key issues in capital structure decision are.

A. What is the optimal debit-equity ratio for the firm?

B. Which specific instruments of equity and debit finance should the firm employ?

C. Which capital markets should the firm access?

D. When should the firm raise finance?

E. At what price should the firm offer it's securities?

Capital structure and dividends decisions should be guided by considerations of cost and flexibility, in the main. The objective should be to minimise the cost of financing without impairing the ability of the firm to raise finance required for value creating investment projects.

Working capital management

Working capital management also referred to as short term financial management refers to the day to day financial activities that deal with current assets and current liabilities.