FM - The Role of Finance in Business [LESSON]

The Role of Finance in Business

Finance

The area dealing with monetary decisions that a business makes.

The role of finance in business is to:

  • Maximize shareholder value over the long-term or the short-term, so the job of the finance department is to determine how best to do both.
  • Figure out how to allocate assets for the overarching goal of maximizing shareholder value. They must ensure that the right assets are in the right place at the right time.
  • Manage the company's liabilities so that all projects are financed in an optimal way without taking on too much risk.

 

Accounting

To understand what is happening in a business, it is essential to understand the language of accounting. As with any language, there are rules that govern how to communicate. Corporations report financial statements following Generally Accepted Accounting Principles (GAAP). These rules are set by the Financial Accounting Standards Board (fasb.org) about how financial statements should be put together. Standardized rules assure to some extent that stakeholders can be assured that the financial statements accurately represent what happened in the company and what its financial status is.

Companies submit three financial statements:

  • The income statement gives an account of what the company sold and spent in the year. Sales, or what the company sold in products and services, less any expenses, less taxes gives the company's income. The income statement summarizes all this type of activity for the year.
  • The balance sheet is a financial snapshot of what the company owns, what it owes, and its worth free and clear of debt. Analyzing a balance sheet informs shareholders about the company's financial health.
  • The cash flow tells what went into and came out of the company in cash. This is necessary because accounting sometimes deals with revenues and expenses that are not real cash. Looking at the actual cash flow gives a better idea of how well the company can meet its cash obligations.

A company may do its financial reporting on a fiscal year that is different from the calendar year (which starts in January and ends in December). Many companies do follow the calendar year. Others, like retail companies, don't like reporting by the calendar year because December is their biggest month, and they don't have much time to sort things out before filing.

  • Income Statement- ''also called profit and loss statement''
  • Sales - ''also called revenues''
  • Expenses - ''expenses are divided into a number of categories''
  • Owns- ''assets''
  •  Worth free and clear of debt - ''equity''
  • Fiscal year - A fiscal year may start in May and end in April.

Business vs. Personal Finance

Business Finance Personal Finance

Concerned with the financial well-being of a business.

Concerned with the financial well-being of an individual person

Business and personal finance are similar in that they employ tactics that look after the well-being of a person or business. Some things that work the same are investing and spending. Investing in resources that will last is a good tactic for either a business or individual. Cutting spending will surely give a company more funds as well as an individual to do with as they please.
One idea that a business can use but is not recommended for an individual, is leveraging or borrowing money to multiply gains. It is not suggested for personal use because if you sell or mortgage your home to invest in the market and the market crashes the individual and their family will be homeless! In business it is just a part of what businesses do.

 

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