Finance

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Finance studies and addresses the ways in which individuals, businesses, and organizations raise, allocate, and use monetary resources over time, taking into account the risks entailed in their projects. The term "finance" may thus incorporate any of the following:

The study of money and other assets;
The management and control of those assets;
Profiling and managing project risks;
The science of managing money;
As a verb, "to finance" is to provide funds for business or for an individual's large purchases (car, home, etc.).

The activity of finance is the application of a set of techniques that individuals and organizations (entities) use to manage their money, particularly the differences between income and expenditure and the risks of their investments.

An income that exceeds its expenditure can lend or invest the excess income. On the other hand, an entity whose income is less than its expenditure can raise capital by borrowing or selling equity claims, decreasing its expenses, or increasing its income. The lender can find a borrower, a financial intermediary, such as a bank or buy notes or bonds in the bond market. The lender receives interest, the borrower pays a higher interest than the lender receives, and the financial intermediary pockets the difference.

A bank aggregates the activities of many borrowers and lenders. A bank accepts deposits from lenders, on which it pays the interest. The bank then lends these deposits to borrowers. Banks allow borrowers and lenders, of different sizes, to coordinate their activity. Banks are thus compensators of money flows in space.

A specific example of corporate finance is the sale of stock by a company to institutional investors like investment banks, who in turn generally sell it to the public. The stock gives whoever owns it part ownership in that company. If you buy one share of XYZ Inc, and they have 100 shares outstanding (held by investors), you are 1/100 owner of that company. Of course, in return for the stock, the company receives cash, which it uses to expand its business in a process called "equity financing". Equity financing mixed with the sale of bonds (or any other debt financing) is called the company's capital structure.

Finance is used by individuals (personal finance), by governments (public finance), by businesses (corporate finance), etc., as well as by a wide variety of organizations including schools and non-profit organizations. In general, the goals of each of the above activities are achieved through the use of appropriate financial instruments, with consideration to their institutional setting.

Finance is one of the most important aspects of business management. Without proper financial planning a new enterprise is unlikely to be successful. Managing money (a liquid asset) is essential to ensure a secure future, both for the individual and an organization.

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[edit] Personal finance

Main article: Personal finance

Questions in personal finance revolve around

How much money will be needed by an individual (or by a family) at various points in the future?
Where will this money come from (e.g. savings or borrowing)?
How can people protect themselves against unforeseen events in their lives, and risk in financial markets?
How can family assets be best transferred across generations (bequests and inheritance)?
How do taxes (tax subsidies or penalties) affect personal financial decisions?

Personal financial decisions may involve paying for education, financing durable goods such as real estate and cars, buying insurance, e.g. health and property insurance, investing and saving for retirement.

Personal financial decisions may also involve paying for a loan.

[edit] Business finance

Main article: Corporate finance

In the case of a company, managerial or corporate finance is the task of providing the funds for the corporation's activities. For small business, this is referred to as SME finance. It generally involves balancing risk and profitability.

Long term funds would be provided by ownership equity and long-term credit, often in the form of bonds. These decisions lead to the company's capital structure. Short-term funding or working capital is mostly provided by banks extending a line of credit.

On the bond market, borrowers package their debt in the form of bonds. The borrower receives the money that it borrows by selling the bond, which includes a promise to repay the value of the bond with interest. The purchaser of a bond can resell it so that the actual recipient of the interest payments can change over time. Bonds allow lenders to recoup the value of their loan by simply selling the bond.

Another business decision concerning finance is investment, or fund management. An investment is an acquisition of an asset in the hope that it will maintain or increase its value. In investment management -- in choosing a portfolio -- one has to decide what, how much and when to invest. In doing so, one needs to...

Identify relevant objectives and constraints: institution or individual goals, time horizon, risk aversion and tax considerations;
Identify the appropriate strategy: active v. passive -- hedging strategy
Measure the portfolio performance

Financial management is duplicate with the financial function of the Accounting profession. However, financial accounting is more concerned with the reporting of historical financial information, while the financial decision is directed toward the future of the firm.

[edit] Capital

Capital is the money which gives the business the power to buy goods to be used in the production of other goods or the offering of a service.

[edit] Sources of capital

[edit] Capital market

Long-term funds are bought and sold:
- Shares
- Debentures
- Long-term loans, often with a mortgage bond as security
- Reserve funds

[edit] Money market

Financial institutions can use short-term savings to lend out in the form of short-term loans:
- Credit on open account
- Bank overdraft
- Short-term loans
- Bills of exchange
- Factoring of debtors

[edit] Borrowed capital

This is capital which the business borrows from institutions or people, and includes debentures:

Redeemable debentures
Irredeemable debentures
Debentures to bearer

[edit] Own capital

This is capital that owners of a business (shareholders and partners, for example) provide:

Preference shares:
- Ordinary preference shares
- Cumulative preference shares
- Participating preference shares
Ordinary shares
Bonus shares
Founders' shares

[edit] Differences between shares and debentures

Shareholders are effectively owners; debenture-holders are creditors.
Shareholders may vote at AGMs and be elected as directors; debenture-holders may not vote at AGMs or be elected as directors.
Shareholders receive profit in the form of dividends; debenture-holders receive a fixed rate of interest.
If there is no profit, the shareholder does not receive a dividend; interest is paid to debenture-holders regardless of whether or not a profit has been made.

[edit] Fixed capital

This is money which is used to purchase assets that will remain permanently in the business and help it to make a profit.

[edit] Factors determining fixed capital requirements

Nature of business
Size of business
Stage of development
Capital invested by the owners

[edit] Working capital

This is money which is used to buy stock, pay expenses and finance credit.

[edit] Factors determining working capital requirements

Size of business
Stage of development
Time of production
Rate of stock turnover
Buying and selling terms
Seasonal consumption
Seasonal production

[edit] The desirability of budgeting

[edit] Capital budget

This concerns fixed asset requirements for the next five years and how these will be financed.

[edit] Cash budget

Working capital requirements of a business should be monitored at all times to ensure that there are sufficient funds available to meet short-term expenses.

[edit] Management of current assets

[edit] Credit policy

Credit gives the customer the opportunity to buy goods and services, and pay for them at a later date.

[edit] Advantages of credit trade

Usually results in more customers than cash trade
Can charge more for goods to cover the risk of bad debt
Gain goodwill and loyalty of customers
People can buy goods and pay for them at a later date.
Farmers can buy seeds and implements, and pay for them only after the harvest.
Stimulates agricultural and industrial production and commerce.

[edit] Disadvantages of credit trade

Risk of bad debt
High administration expenses
People can buy more than they can afford.
More working capital needed

[edit] Forms of credit

Suppliers credit:
- Credit on ordinary open account
- Instalment sales
- Bills of exchange
- Credit cards
Contractor's credit
Factoring of debtors

[edit] Factors which influence credit conditions

Nature of the business's activities
Financial position
Product durability
Length of production process
Competition and competitors' credit conditions
Country's economic position
Conditions at financial institutions
Discount for early payment
Debtor's type of business and financial position

[edit] Credit collection

[edit] Overdue accounts

Cards arranged alphabetically in card index system
Attach a notice of overdue account to statement.
Send a letter asking for settlement of debt.
Send a second or third letter if first is ineffectual.
Threaten legal action.

[edit] Effective credit control

Increases sales
Reduces bad debts
Increases profits
Builds customer loyalty

[edit] Sources of information on creditworthiness

Business references
Bank references
Credit agencies
Chambers of commerce
Employers
Credit application forms

[edit] Duties of the credit department

Legal action
Taking necessary steps to ensure settlement of account
Knowing the credit policy and procedures for credit control
Setting credit limits
Ensuring that statements of account are sent out
Ensuring that thorough checks are carried out on credit customers
Keeping records of all amounts owing
Ensuring that debts are settled promptly

[edit] Stock

[edit] Purpose of stock control

Ensures that enough stock is on hand to satisfy demand.
Protects and monitors theft.
Safeguards against having to stockpile.
Allows for control over selling and cost price.

[edit] Stockpiling

This refers to the purchase of stock at the right time, at the right price and in the right quantities.

[edit] Advantages

Losses due to price fluctuations and stock loss kept to a minimum
Ensures that goods reach customers timeously; better service
Saves space and storage cost
Investment of working capital kept to minimum
No loss in production due to delays

[edit] Disadvantages

Obsolescence
Danger of fire and theft
Initial working capital investment is very large
Losses due to price fluctuation

[edit] Influence of stock management on rate of return

Right price
Right quantity
Right quality
Right place
Right time
Right property

[edit] Rate of stock turnover

This refers to the number of times per year that the average level of stock is sold. It may be worked out by dividing the cost price of goods sold by the cost price of the average stock level.

[edit] Determining optimum stock levels

Maximum stock level refers to the maximum stock level that may be maintained to ensure cost effectiveness.
Minimum stock level refers to the point below which the stock level may not go.
Standard order refers to the amount of stock generally ordered.
Order level refers to the stock level which calls for an order to be made.

[edit] Cash

[edit] Reasons for keeping cash

The transaction motive refers to the money kept available to pay expenses.
The precautionary motive refers to the money kept aside for unforeseen expenses.
The speculative motive refers the money kept aside to take advantage of suddenly arising opportunities.

[edit] Advantages of sufficient cash

Current liabilities may be catered for.
Cash discounts are given for cash payments.
Production is kept moving.
Surplus cash may be invested on a short-term basis.
The business is able to pay its accounts timeously, allowing for easily-obtained credit.

[edit] Management of fixed assets

[edit] Depreciation

Depreciation is the decrease in the value of an asset due to wear and tear or obsolescence. It is calculated yearly to ensure realistic book values for assets.

[edit] Insurance

Insurance is the undertaking of one party to indemnify another, in exchange for a premium, against a certain eventuality.

[edit] Uninsurable risks

Bad debt
Changes in fashion
Time lapses between ordering and delivery
New machinery or technology
Different prices at different places

[edit] Requirements of an insurance contract

Insurable interest
- The insured must derive a real financial gain from that which he is insuring, or stand to lose if it is destroyed or lost.
- The item must belong to the insured.
- One person may take out insurance on the life of another if the second party owes the first money.
- Must be some person or item which can, legally, be insured.
- The insured must have a legal claim to that which he is insuring.
Good faith
- Uberrimae fidei refers to absolute honesty and must characterise the dealings of both the insurer and the insured.

[edit] Shared Services

There is currently a move towards converging and consolidating Finance provisions into shared services within an organization. Rather than an organization having a number of separate Finance departments performing the same tasks from different locations a more centralized version can be created.

[edit] Finance of states

Main article: Public finance

Country, state, county, city or municipality finance is called public finance. It is concerned with

Identification of required expenditure of a public sector entity
Source(s) of that entity's revenue
The budgeting process
Debt issuance (municipal bonds) for public works projects

[edit] Financial economics

Main article: Financial economics

Financial economics is the branch of economics studying the interrelation of financial variables, such as prices, interest rates and shares, as opposed to those concerning the real economy. Financial economics concentrates on influences of real economic variables on financial ones, in contrast to pure finance.

It studies:

Valuation - Determination of the fair value of an asset
- How risky is the asset? (identification of the asset appropriate discount rate)
- What cash flows will it produce? (discounting of relevant cash flows)
- How does the market price compare to similar assets? (relative valuation)
- Are the cash flows dependent on some other asset or event? (derivatives, contingent claim valuation)

Financial markets and instruments
- Commodities - topics
- Stocks - topics
- Bonds - topics
- Money market instruments- topics
- Derivatives - topics

Financial institutions and regulation

[edit] Financial mathematics

Main article: Financial mathematics

Financial mathematics is the main branch of applied mathematics concerned with the financial markets. Financial mathematics is the study of financial data with the tools of mathematics, mainly statistics. Such data can be movements of securities—stocks and bonds etc.—and their relations. Another large subfield is insurance mathematics.

[edit] Experimental finance

Main article: Experimental finance

Experimental finance aims to establish different market settings and environments to observe experimentally and analyze agents' behavior and the resulting characteristics of trading flows, information diffusion and aggregation, price setting mechanisms, and returns processes. Researchers in experimental finance can study to what extent existing financial economics theory makes valid predictions, and attempt to discover new principles on which such theory can be extended. Research may proceed by conducting trading simulations or by establishing and studying the behaviour of people in artificial competitive market-like settings.

[edit] Related Professional Qualifications

There are several related professional qualifications in finance, that can lead to the field:

Qualified accountant qualifications: Chartered Certified Accountant (ACCA, UK certification), Chartered Accountant (CA, certification in Commonwealth countries), Certified Public Accountant (CPA, US certification)
Non-statutory accountancy qualifications: Chartered Cost Accountant CCA Designation from AAFM
Business qualifications: Master of Business Administration (MBA), Doctor of Business Administration (DBA)
Finance qualifications: Chartered Financial Analyst (CFA),Certified International Investment Analyst(CIIA), Association of Corporate Treasurers (ACT), Masters degree in Finance, Certified Market Analyst (CMA/FAD) Dual Designation, Master Financial Manager (MFM), Corporate Finance Qualification (CF) Register Financial Planner (RFP), Certified Financial Consultants (CFC)
Quantitative Finance qualifications: Master of Quantitative Finance (MQF), Master of Computational Finance (MCF), Master of Financial Mathematics (MFM)

Funding, a synonym of financing
There are also over 250 other finance articles in Wikipedia. See list of finance topics.
Important publications in finance
Forex
Financial plan
Economic Calendar
Financial planning
Payday loan
Right-financing
Settlement (finance)
Behavioral finance

[edit] External links

Look up Finance in
Wiktionary, the free dictionary.

Wharton Finance Knowledge Project - aimed to offer free access to finance knowledge for students, teachers, and self-learners.
For material covering three areas in finance - corporate finance, valuation and investment management, see Prof. Aswath Damodaran
For links to finance web sites, grouped by topic see Web Sites for Discerning Finance Students, Prof. John M. Wachowicz-
For the introductory finance web site at the University of Arizona, studyfinance.com
For introductory articles, a full glossary and links to resources on behavioral finance see the BF gallery
For the law of the financial markets see SECLaw.com
For stock market related financial definitions see TheStreet.com Glossary
The Finance Director provides access to essential suppliers of financial services and solutions
Middle East Banking & Finance News — ArabianBusiness.com

Finance

Financial Markets Bond market Stock (Equities) Market Forex market Derivatives market Commodity market Spot (cash) Market OTC market Real Estate market
Market Participants Investors Speculators Institutional Investors
Corporate finance Structured finance Capital budgeting Financial risk management Mergers and Acquisitions Accounting Financial Statements Auditing Credit rating agency
Personal finance Credit and Debt Employment contract Retirement Financial planning
Public finance Tax
Banks and Banking Central Bank List of banks Deposits Loan
Financial regulation Finance designations Accounting scandals
History of finance Stock market bubble Recession Stock market crash
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