Finance Function – Concept, Approaches, Aims, Classification, Objectives, Importance & more
When you hear the term finance function, you need to know that it is a part of financial management.
Additionally, financial management is all about controlling and planning of financial resources.
You can say the finance function includes acquiring and using of funds necessary for efficient operations in business terms. You need to know that finance is the lifeblood of almost all businesses.
Without appropriate finances, companies fail to move smoothly. Irrespective of the type of business you run, you need finances to operate it. It is essential for organizations to maintain their finances.
Thanks to the ever-increasing competition in the market that it is quite challenging for organizations to sustain it. Additionally, if organizations want to strive in the market, then they must learn to cut the cost.
The majority of the companies today are choosing low growth above anything else because they feel that cost-cutting is an inevitable element.
Besides, these companies need to introduce efficiencies in the way they handle the business.
You need to know there must be a link between different processes. Here is where the finance function comes into the picture.
Understanding the Finance Function
Firstly you can understand the finance function as a simple job of offering funds required by the firm. Basically, you can give it on favorable terms, only keeping in mind the firm’s goals.
You can say that the finance function is mainly based on the acquisition of short term or long term goals.
But in recent years, the term finance function has got a broader meaning as companies also include institutions, tools, and practices in it.
In simple terms,
“You can say finance is all about the legal and accounting relationship between the firm and its fund’s sources.”
For instance, as you know that financial management now also includes the debt-equity ratio and different accounting policies.
Additionally, the primary function of a fund manager is to understand how funds can be raised.
Ideally, it is a crucial part of the finance function as it aims to keep the business filled with plenty of funds to meets its goals.
You need to know that this definition is way too small; the finance function is way more than just collecting funds and tracking working capital.
Of all the business functions, the finance function is one of the essential functions. It aims to focus on all the tasks.
Above all, the business needs money on a regular basis. The company starts with setting up, and it is constant all the time.
If you plan to develop and grow your business, then you will need more funds. You can raise funds from a plethora of sources.
Based on the implications applicable, you can ask for funds. Besides raising funds, you need to learn to use these funds correctly.
Once you receive the money, you also need to return it. If you use the funds correctly, then you can quickly replace them.
On the other hand, if you fail to use it properly, then you will find it challenging to repay it on time.
Above all, you need to match the outflows and inflows of funds to ensure that the business runs smoothly.
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Different approaches to Finance
Here are the various approaches which are taken in Financial Functions –
As per the traditional approach, we can say that financial function has its roots back in the 1920s and 1930s. During the same time, people got the term corporation finance.
In today’s world, we can say corporation finance is all about financial management.
As per the traditional approach, you can say that the finance function is all about the procurement of funds that a business needs at different points in time.
This approach says that the finance function also considers the funds. Other departments of the organization make different decisions with regard to the application of funds.
But still, institutions and instruments for raising funds are a part of the finance function.
Under this approach, the scope of finance is restricted to growing institutions of capital market and institutions. But people don’t use the traditional method due to several limitations:
- People don’t use it as it is outside looking approach mainly because it doesn’t take into account the perfect utilization of funds.
- The approach only focuses on the procurement of funds in the long term. Hence, it is left out of the problem of working capital finance and management.
- Additionally, it also ignores the allocation of funds, which plays a crucial role in today’s business.
The best part about the modern approach is that it views finance in a more broad sense. It comprises everything from the raising of funds to the effective utilization of funds.
But you also need to know that the finance function is way more comprehensive as it also considers effective utilization of funds.
You also need to compare the cost of raising funds and returning them. Above all, you need to know that funds must be able to give out more returns as compared to the costs of procuring them.
When it comes to using the funds, then decision making comes into play. You need to consider finance as a crucial part of the entire management.
As per this approach, finance functions include a plethora of things, including raising of funds, financial planning, and utilization of funds.
The best part about the new system is that it offers an analytical view, which helps in dealing with the economic issues of the business.
Under financial management, elements like the techniques of models, simulations and financial engineering, and mathematical programming also play a crucial role.
They help in solving various tricky issues. The three elements under the modern approach are investment decisions, financing decisions, and dividend decisions.
All the details are amid the scope of the functions of finance.
Main Aim of the Finance Function
Here are the major Aims of Financial Functions –
Acquiring Sufficient Funds
The main agenda of the finance function is to determine the financial needs of the firm. Post then you can understand the suitable sources to raise these funds.
You need to ensure that authorities can meet business needs. For instance, if you need funds for the long term, then you must look for sources like debenture, bonds, and share capital.
Well, you can say that the gestation period mainly depends upon the owner’s fund rather than interest bearing securities. It is primarily because there will be negligible profits for a few years.
Proper Utilization of Funds
No doubt raising funds is significant for a firm, but besides that, effective utilization is also essential. You need to use the funds in such a way that you make the most of them.
The returns should be more than the cost of procuring them. Above all, you need to ensure that the funds don’t remain idle for any time. Funds must be used effectively.
The projects need to be preferred as they are advantageous to the business.
Under the finance function, planning and controlling aims at increasing the profitability of the firm. Above all, you need to know that money only makes money.
You need to invest plenty of cash to increase profitability. Additionally, you need to plan the finance function well in advance, so the fund doesn’t end up wasting money or suffers from inadequate funds.
You also need to implement proper control so that limited resources don’t get frittered away on uneconomical elements. The cost of acquiring funds also impacts the business’s profitability.
Furthermore, the profitability goes down if you spend too much on raising funds. Hence, you need to match both cost and returns of the fund to make the most of it.
Maximize the Value of the Firm
Besides everything else; the finance function also aims at maximizing the value of the business. You can say that value of the firm is directly linked with profitability.
No doubt, the profitability of the business impacts the value of the business, but it is not that important.
Along with the profits, the cost of funds, type of sources of funds, condition of the money market, and also demand for products also influence the firm’s value.
Classification of Finance Functions
Long Term Finance – The investment finance here is for three years or more. Some of the long-term finance include debentures, share capital, owner’s capital, internal funds, etc.
Medium Term Finance– under this, finance is for one-three years. You can take this source from financial institutions and banks.
Short Term Finance– You can say short term finance if you need funds for less than one year. Examples of short term funds include commercial paper, bank overdrafts, paper advances, etc.
Objectives of Financial Functions
Here are the most important objectives of Financial Functions –
Under this, the finance manager makes a decision to utilize the funds of the company.
The investment decisions include working capital, management of mergers, capital budgeting decisions, or leasing of assets.
The investment decisions can help in creating revenue, profits, and also minimize costs.
Under this segment, the company decides where they can raise funds. The fund managers can consider equity or borrow the funds.
Based on the decision, fund managers can get finance for long and short terms.
You need to decide how frequently and how much money you can return to the owner.
Above all, the balance between retained profits and the amount paid can be given out as a dividend to the owners.
When it comes to liquidity, it means the firm has plenty of money to pay its expenses and even to have some reserves to meet the emergencies.
Here, you need to manage the current assets of the company, so you don’t fail to pay bills.
Why does a Business need Finance Functions?
Here are various reasons, why a business requires finance functions –
Aids in establishing the business
If you don’t have the money, you also don’t have access to land, labor, etc. Hence when you have capital, you can start your business and understand what you need to run it and always have a plan then.
Help you run a business
To stay static in the competitive market; you must meet the operating costs. It includes buying stationery, raw material and also paying your employees.
Above all, you can ensure that you have plenty of money to pay for these with the proper finance function.
To expand and grow
If you fail to grow your business, then it is most likely possible that it will become redundant soon. Thanks to the finance function, you can get some funds to grow your business.
It is quite common to know that you need money to purchase assets. The assets include tangible investments like furniture or intangible assets like trademarks.
Irrespective of the type of asset you need, one thing is for sure you need finance functions to acquire funds.
Importance of Finance Function
Here are the various benefits & importance of Finance Functions
Learn about the needs of the fund – if you want to start a business, then you need to know how much you need to run it.
Hence with the help of finance, you will learn about the initial capital and how much you need.
The sources of funds – After you know how much funds you require, then you can understand where to raise this from. You can either borrow it or get it from different stakeholders.
Finance Functions – Conclusion
Hence you can say finance is like the pump, which keeps the business moving. Business is nothing without adequate finance.
You can get funds from different sources. Above all, you need to ensure that you use the funds adequately.
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