What is finance ?

The field of finance is broad and dynamic. It directly affects the lives of every person and every organisation. There are many areas for study and large number of career opportunities available in the field of finance. Finance has been defined in different ways. Each definition however reflects the perception of finance relative to its role and scope. However, it may not be possible to give a precise and very comprehensive definition to such a wide, complex and important subject which is of interest to everybody.

Webster’s third International Dictionary, for example, defines finance as “the system that includes the circulation of money, the granting of credit, the making of investments and the provision of banking facilities.” This definition gives an indication to the fact that finance is a system by itself and thus a broad field of activities at the centre of economic operations or social activities with economic implication.

The Shorter Oxford English Dictionary defines finance as “to lend, to settle debt, pay ransom, furnish, and procure, etc. [--- the management of money] --- [the science of levying revenue in a state, corporation] --- [the provision of capital.]” This definition looks at finance as a science which applies to both the public and private sectors.   

The Encyclopaedia of Banking and Finance has however given a broader definition of finance.  Its definition is classified into three categories as follows:

i) to raise money necessary to organise, re-organise or expand an enterprise whether by sales of stocks, bonds, notes, etc
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ii) a general term to denote the theory and practice of monetary credit, banking and promotion of operations in the most comprehensive sense. It includes money, credit, banking, securities, investment, speculation, foreign exchange, promotion, underwriting brokerage trusts, etc.

iii) originally applied to raising money by taxes or bonds issues and the administration of revenues and expenditure by government.

Finance, as seen by the Encyclopaedia of Banking and Finance, is much more comprehensive than the concept of finance as reflected in earlier definitions. The above concepts of finance are synonymous with business finance, money and credit and public finance, international finance, investments, etc.

Lastly, Gitman (2000) defines finance as the art and science of managing money. In contrast with Christy and Roden (1973), money is mentioned here. Virtually all individuals and organisations earn or raise money and spend or invest money. Finance is the study of applying specific value to things we own, services we use, and decisions we make. Finance is concerned with the process, institutions, markets, and instruments involved in the transfer of money among and between individuals, businesses and governments.  

The Finance Functions
Finance pervades all disciplines and all facets of human, economic and social activities. It influences the psychological behaviour of individuals as well as the socio-cultural and economic environments of both natural and legal persons (Emerson, 1904).  Finance has therefore evolved to assume a very important position in the decision process of households, businesses, governments and other non-business organisations. Households, businesses, governments and non-governmental entities cannot escape the influence of finance on their daily decision activities.  

What is now known as finance evolved as a branch of economics in the later part of the 19th Century. Since then, finance has exerted the most important influence on technological and industrial development, the turnaround of depression or recession, consumer behaviour, administrative strategies and styles of governments and research and development etc. Finance can be classified into two broad categories, namely: micro and macro finance

a) Micro finance relates to financing decisions and practices of individual households, businesses and non-business organisations.

b) Macro finance relates to the financing decisions and practices of the entire economy.  Finance has as its area of concentration the use and impact of money and money substitutes.

Therefore, the principle of finance has brought about the concept of financial management which involves the management of instruments of finance. No decision involving finance can be efficiently and effectively implemented without financial management.  
The functions of finance include sourcing and application of funds, and demands that money is used in the firm wisely, that is, when and where it is desired. Money sourced, for example, to improve on the production base of a firm should be appropriated wisely. It will be most inappropriate to use such funds to acquire assets unrelated to the course of production

The concept of merger and acquisition

Corporate restructuring occurs when a company carries out a fundamental change in the structure of its operations or its financial position.. Its investments in the assets of the company and the way and manner those investments are financed. This may arise from either a change in the economic environment in which it operates or in the objectives it earlier set for itself. It should be noted that any form of restructuring that is carried out should seek to add value thereby maximising shareholders wealth.

Mergers and acquisitions (M&A) are a way of expanding and growing a business by purchasing another company in its entirety . Although used interchangeably there is a slight difference between the two. A merger occurs when two or more seperated companies come together to form a single one. The companies so mentioned go into liquidation and an entirely new one is formed to acquire their shares. And acquisition or take over occurs when one company buys shares in another company substantial enough to acquire enough to acquire controlling interest. The former is called the bidding company while the latter is  the target company.

Take over could either be friendly take over or hostile take over.  Friendly take over is when the target company is willing to be taken over and its management is in agreement with the management of the bidding company. While hostile take over is when the target company is resisting the bidding company from taking over the company. It is characterized by rancor and in some cases serious litigation.

The major objective of M&A is to maximize shareholders wealth through creation of what is known as "synergy ". This refers to the effect of combining resources instead of using them independently so as to give maximum benefits. Any merger should create synergy in order to add value. The concept usually expressed mathematically as 1+1=3 states that combination of inputs produces a greater output than the sum of the seperated individual inputs.

Types of mergers

Typically there are three main types of merger and they are as follow

Horizontal Merger
This involves combination of two companies engaged in similar line of activities. This type of merger usually results in removal of duplicate facilities and filling of the supply gap to meet increased demand for the companies products.

Vertical Merger
This occurs where bidding company decides to integrate forward to take advantage of the sales outlet of the target company or integrate backward to have access to the source of raw materials of the target company.

Conglomerate Merger
This is a combination of two companies that are totally different in activities. This type of merger is normally undertaken for diversification purposes.

Motives For Merger

The following factors have been advanced as reasons for mergers.

a). Access to the market

Merger may create greater access to the market for the bidding company thereby, continually increasing   sales.

b). Access to source of supply

The target company may be the supplier of a critical raw materials for the bidding company. The latter may  want to protect or control this source to ensure continued supply.

c). Reduction of competition

Where two companies compete in the same market for their output, a merger may bring a larger market share which may enable the enlarged company to raise prices without a cut in sales volume.

d). Economies of scale

These are advantages to be gained from operating on a large scale. They come in form of lower prices being paid for raw materials, lower set up costs from large production runs.

e). Better management

The assets of the target company may either be underutilized or untapped because of poor management. This will create an opportunity for the bidding company to inject better and skilled managers to enable the target company's potentials to be tapped and fully utilized.

f). Diversification

Here, the bidding company merges with another company in a totally different activity in order to make up for a fall in its traditional core business or to reduce the risk arising from cyclical savings in returns.

g) Show of serious intent

A merger announcement may be a positive signal that the company's future potential is big. Information about impending merger may jerk up the market price of its share.

h). Stronger asset base

A company in a high risk industry with high level of earnings in relation to its net assets, may want to mitigate its risk by acquiring another company with a lot of assets.

i). Enhance quality earning

Similarly, a company may improve its risk complexion by acquiring another company with a more stable earnings.

j). Improved liquidity

The acquiring company's liquidity might improve if the target company has substantial free cashflow, that is, cash lying idle and not intended to be used as dividends because of lack of profitable investments.

k). Lower cost

This occurs, if management believes that it is cheaper to achieve growth via merge.

l). Tax

This is a deliberate strategy to acquire tax losses that may be used as tax relief, with a view to paying lower tax.

CONCEPT OF FINANCIAL MANAGEMENT

The activities of organisations whether business or non-business, have finance as their centrepiece. The role of finance however reflects the objectives of an organisation. Therefore, financial management is a reflection of the nature and objectives of the organisation.  Financial management is thus a very important aspect of finance although it is not easy to separate financial management from the rest of other finance activities (Myres, 1976). However, an attempt to limit the areas of financial management can be made if one agrees with the fact that financial management itself requires the simultaneous consideration of three key financial decisions (Christy and Roden, 1973), namely:  

i) anticipation of financial needs of the organisation;

ii) acquisition of financial resources for the organisation;  

 
iii) allocation of financial resources within the organisation.

These three key financial decisions provide the basis for periodic financial analysis and interpretation of historical financial practices. The control measures which may be  contemplated by management or re-orientation of management strategies in turn depend on the analysis and interpretation of historical financial data.  

Financial management is, therefore, a dynamic and evolving art of making daily financial decisions and control in households, businesses, non-business organisations and government. It is a managerial activity which is concerned with planning, providing and controlling the financial resources at the disposal of an organisation. Thus, a financial manager continues to answer some basic questions like:   

√ What specific assets should the organisation    acquire?  

√ How much of funds should the organisation commit?   

√ How can such funds be acquired?  

Financial management system is, therefore, very important for adaptation in government, business and other organisations as it provides the theoretical concepts and analytical models and insights for making skillful financial decisions. However, the definition of financial management is influenced by its objectives. It can however, in general, be defined as the use of accounting knowledge, financial models, mathematical rules and some aspects of systems analysis and behavioural science for the specific purpose of assisting management in its function of financial planning, implementation and control.

The role of financial management in a simplified form is the synchronisation of receipts and payments flows. Thus, payments must be planned against receipts in order that the firm may remain liquid to the extent desired by management. In other words, financial management involves the management of funds inflows and outflows efficiently and effectively in order to guarantee the firm adequate liquidity. This implies effective management of financial resources in order to achieve a firm’s two most important objectives, namely: the maximisation of profits or maximisation of shareholder’s wealth and the maintenance of adequate liquidity level.

Functions of a Financial Manager

The financial manager assumes different names depending on the nature, size and organisational structure of the business. In some organisations, he is known as Finance Director or Director of Finance, in others, he is known as Finance Controller or General Manager (Finance).  Here, it will be assumed that the financial manager refers to the person in charge of the finance department of an organisation, whatever name he may be called. The financial manager is usually a member of the Board of Directors and he normally enlightens the board on financial implications of a firm’s decisions since most members of the Board are not usually adequately versed in financial terms and practices.

The functions of a financial manager pervade all the departments of an organisation in that he has to make key decisions affecting the operations of these departments as far as finances are concerned. And some of the functions are as follows,

1 Anticipation of the Financial Needs of an Organisation

Anticipation of the financial needs of an organisation involves the determination of how much the organisation would need within a certain period to run its activities.  This in essence is a forecasting activity. In other words, the financial manager has the responsibility of deciding how much funds his organisation would need within the short term, medium term and long term periods.  The short-term needs for funds are usually determined by considering series of cash inflows and outflows.  The financial manager can make a forecast of the firm’s financial requirements for a period of one month, one year or many years ahead. Forecasts are normally made in the form of budgets.

Forecast of the financial needs of an organisation should normally depend on the long term growth and profit plan of the organisation. By this, the financial manager will be able to determine the nature of funds needed by his organisation. This is because funds could be needed for expansion, in which case, such funds are of long-term nature.

2 Acquisition of Financial Resources  

Acquisition of financial resources is another important responsibility of the financial manager. This is based on the nature of funds needed by the organisation. The financial manager has to determine the time at which such funds could be acquired in order to make them available to his organisation when it most needs them. Thus, timing of funds acquisition is very important in financial management. Timing can equally help to reduce the cost of borrowing if the financial manager knows when to raise such funds from the market. The most important thing for the financial manager to do in terms of funds acquisition is to decide on where he is going to acquire such funds.

The nature and source of funds will determine the cost of borrowing. Funds could be raised from a bank, a non-bank financial  institution or from the capital market. The ability of a financial manager to raise funds from any of the sources would be determined by the size as well as the level of credit worthiness of the business organisation. The financial manager has to make the basic decision of whether funds should come from external or internal sources.  In the case of internal sources, he has to help in the formulation of appropriate dividend policy which will help him to achieve his objectives.

3 Allocation of Financial Resources  

Allocation of financial resources is the third important responsibility of the financial manager. Since the objectives of most businesses are profitability and liquidity, the financial manager has to allocate funds to assets that would help in the achievement of these objectives. The allocation of funds is normally done in a way that would minimise or eliminate over investment in fixed assets, or stock piling of inventory. In allocation of funds, the financial manager is normally conscious of maturity transformation in order to guarantee the firm its needed liquidity level.

4 Funds Management  

Funds management is highly related to allocation of funds. The financial manager can invest temporary surplus funds in securities to earn interest income for the company. He should know when to invest and when to divest. It is also the responsibility of the financial manager to prepare periodic reports on the finances of the organisation for the information of Management, Board of Directors, shareholders and the general public who may be interested in the affairs of the organisation.

5 Financial Analysis and Interpretation

The financial manager can also undertake the analysis of the historical financial data of the company in order to advise management on appropriate corporate and management strategies to adopt. An appropriate interpretation of financial analysis can always afford him to do this.  By his close association with the financial markets, the financial manager is in a position to determine the anticipated influence of fiscal and monetary policies on his company’s operations. It is his responsibility to pass informed judgement to management in order to adopt appropriate management strategies which can minimise such effects on the company’s operations.

6 Financial Planning and Control

The responsibility of the financial manager includes participation in product pricing. The determination of unit cost of production is done by accounting method and is under the control of the financial manager. Thus, pricing of products also attracts his attention since his objective is to maximise the difference between revenues and costs. Long-range planning, financial planning and control and budget preparation are very closely related.