Evolution of financial management

by admin on July 3, 2006

EVOLUTION OF FINANCIAL MANAGEMENT

Financial management emerged as a distinct field of study at the turn of this century. Its evolution may be divided into three broad phases (though the demarcating lines between these phases are somewhat arbitrary): the traditional phase, the transitional phase, and the modern phase.

The traditional phase lasted for about four decades. The following were its important features:

1. The focus of financial management was mainly on certain episodic events like formation, issuance of capital, major expansion, merger, reorganization, and liquidation in the life cycle of the firm.

2. The approach was mainly descriptive and institutional. The instruments of financing, the institutions and procedures used in capital markets, and the legal aspects of financial events formed the core of financial management.

3. The outsider’s point of view was dominant. Financial management was viewed mainly from the point of the investment bankers, lenders, and other outside interests.

The transitional phase begins around the early forties and continues through the early fifties. Though the nature pf financial mgmt during this phase was similar to that of the traditional phase, greater emphasis was placed on the day to day problem faced by the finance managers in the area of funds analysis, planning, and control. These problems however were discussed within limited analytical framework.

The modern phase begin in mid 50s and has witnessed an accelerated pace of development with the infusion of ideas from economic theories and applications of quantitative methods of analysis. The distinctive features of modern phase are:

* The scope of financial management has broadened. The central concern of financial management is considered to be a rational matching of funds to their uses in the light of appropriate decision criteria

* The approach of financial management has become more analytical and quantitative

* The point of view of the managerial decision maker has become dominant

Since the beginning of the modern phase many significant and seminal developments have occurred in the fields of capital budgeting, capital structure theory, efficient market theory, optional pricing theory, agency theory, arbitrage pricing theory, valuation models, dividend policy, working capital management, financial modeling, and behavioral finance. Many more exciting developments are in the offing making finance a fascinating and challenging field.

Goals of financial management:

Financial theory in general rests on the premises that the goal of the firm should be maximized the value of he firm to its equity share holders. This means that the goal of the firm should be to maximize the share value of the equity share which represents the value of the firm to its equity share holders. It appears to provide a rational guide for business decision making and promote an efficient allocation of resources in the economic system.

Savings are allocated primarily on the basis of expected returns and risk and the market value of the firm’s equity stock reflects the risk return trade off investors in the market place. If a firm makes decision aimed at maximizing the market value of its equity, it will raise capital only when its investments warrant the use of capital from the overall point of the economy. This suggests that resources are allocated optimally.

If a firm does not pursue the goal of shareholders wealth maximization, it implies that its action results in a sub optimal allocation of resources. This in turn leads to inadequate capital formation and lower rate of economic growth.

Equity shareholders provide the venture capital required to start a business firm and appoint he management of the firm indirectly through the board of directors.. Therefore it is obligatory on the part of corporate management to take care of the welfare of equity shareholders.





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