Financial Management Class 12 Notes

Class 12 Business Studies syllabus is theory-oriented but chapters like Marketing Management, Financial Management, Financial Markets and Consumer Protection require not only theory but also a practical approach to understand these topics better. Having said that, in this blog, we will cover all the important points and sub-topics of the chapter of Financial Management Class 12. So get ready to prepare your study notes on this chapter of Financial Management class 12 for your Business Studies exam. 

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What is Financial Management?

According to the chapter on Financial Management Class 12, Financial Management or FM refers to an efficient and effective

• Acquisition of finance
• Utilisation of finance 
• Distribution and disposal of surplus 

For efficient and smooth functioning of the company. 

According to Howard and Upton in the chapter of Financial Management Class 12, “financial management involves the application of general management principles to a particular financial operation”.

Important Note: Business Finance is the money needed for carrying out the required business operations.

Role/Importance of Financial Management

As per the chapter of Financial Management Class 12 in Business Studies, the role of financial management includes: 

• Looks upon the size of fixed assets and composition in the business.
• Deals with the number and composition of existing assets.
• Look upon the amount of long-term and short-term financing of the business.
• Helps in the fixation of the debt to equity ratio capital 
• The quality of its financial management also determines the business’s overall financial status and financial health. 
• It helps in the planning of plans which further allows new ventures to be carried out smoothly.

Objectives of Financial Management

The primary and most crucial aspect or objective of Financial Management is wealth maximisation. 

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Financial Decisions 

As per the chapter of Financial Management class 12, every company or business organisation working for wealth maximisation is required to take three main financial decisions. These decisions are as follows:

Investment Decision

Also regarded or known as capital budgeting decisions in financial management class 12. This financial decision deals with the careful selection of the resources and/or assets in which the company will invest funds. The factors that affect investment or capital budgeting decisions are as follows:

• The cash flow of the project
• Return on investment
• Risk involved
• Investment criteria

Financing Decision

This is the second most financial decision on the list of three financial decisions that the company has to look upon. The financing decision deals with the composition of various securities in the respective capital structure of the company. Having said that, the main sources of finance can be further divided into 2 categories, i.e.:

• Owners fund
• Borrowed fund

Additionally, factors that affect the financing decisions of an organization or business are as follows: 

• Cost
• Risk
• Cash flow position
• Control consideration
• Floatation cost
• Fixed operating cost
• State of capital market

Dividend Decision

Last but not least is the dividend decision in our list of financial decisions that a company has to look upon as per the chapter of Financial Management class 12. This decision deals with the distribution of profits earned by the business among different shareholders of the company. The factors that widely affect the dividend decision are as follows: 

• Earning
• Stability of earning
• Cash flow position
• Growth opportunities
• Taxation policy
• Access to capital market consideration
• Legal restrictions
• Contractual constraints
• Stock market reaction
• Stability of dividend
• Preference of shareholders

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What is Financial Planning?

Our next topic in the chapter of Financial Management class 12 is financial planning. In simple words, financial planning refers to deciding in advance:

• How much to spend?
• On what to spend?

Based upon or according to the funds at your disposal.

Objectives of Financial Planning

As per the chapter of Financial Management class 12, there are 2 main objectives of financial planning that are performed by a company. These are:

• To ensure the availability of funds and financial resources whenever there is a requirement.
• To see that the company does not raise resources unnecessarily for operations. 

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Importance of Financial Planning

Based on the chapter of Financial Management class 12, the importance of performing or carrying out financial planning is listed below: 

• It makes it easier to raise optimal funds
• It helps to repair the most suitable arrangement of money
• It helps to fund and finance investments in the right projects
• Helps to assist in operating activities
• Financial planning is base on Financial Control
• It helps with the proper use of finance
• It helps in coordination
• It connects the present to the future
• It also helps to prevent shocks and surprises in business
• The link between decisions concerning investment and financing

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Capital Structure

Moving ahead on our blog of study notes on Financial Management class 12, we have another important capital structure topic. In the language of business studies and financial management, the term capital structure refers to or deals with the mix between owners and borrowed funds. In other words, it is the right proportion of debt and equity, which is used for financing the operations of the business.

Capital Structure = Debt/Equity 

Some Important Points to Remember

Here are a few points to remember from the section of Capital Structure in the chapter Financial Management class 12. You can have a look here: 

• Based on ownership, funds are equal to or more than the owners’ funds + borrowed funds.
• Owners funds = equity share capital + preference share capital + reserves and surpluses + retained earnings. This is also known as equity. 
• Borrowed funds = loans + debentures + public deposits. This is also known as Debt. 
• Remember that the interest on the debt is a tax for the company, hence a deductible expense. This brings down the tax liability for a business.
• On the contrary, the dividends are paid out of profit after tax.
• Debt is said to be riskier for the business as it adds to the financial risk.
• Capital structure affects both aspects, i.e. the profitability and the financial risks faced by a business.

Financial Leverage

The term financial leverage refers to the proportion of debt in the overall capital of the business or company. Hence, Financial Leverage is also Debt/Equity. 

Factors Determining the Capital Structure

Listed below are the various factors that help in determining the capital structure of any business. 

• The cash flow position of the company 
• Interest coverage ratio or ICR which is equal to EBIT/Interest (EBIT- earnings before interest and tax).
• Debt Service Coverage Ratio or DSCR
• Return on investment
• Cost of debt
• Tax rate
• Cost of equity
• Floatation cost
• Risk consideration
• Flexibility
• Control
• Regulatory framework
• Stock market conditions 
• The capital structure of other companies

Fixed Capital 

Let us now understand what fixed capital is and why it is required. According to the chapter of Financial Management class 12, fixed assets refers to those assets which remain in the business for a tenure of more than one year like plant and machinery, furniture, land, building etc. So the capital that is being invested in the procurement of fixed assets is known as fixed capital. Having said that, the management of the fixed capital is an important factor to look upon by the company because of the following reasons: 

• The decisions on fixed capital will affect the long term growth of the company or the business. 
• Generally, when deciding to invest in fixed capital or fixed assets, requires a huge amount of capital. 
• It also influences and affects the overall business risk of the company. 
• One taken, these decisions or investment can not be reversed without incurring heavy losses. 

Factors Affecting the Requirement of Fixed Capital

• Nature of business
• Scale of operation
• Technique of production
• Technology up-gradation
• Availability of finance and leasing facility
• Level of collaboration/joint ventures
• Growth prospects
• Diversification

Working Capital 

To understand working capital let us first understand current assets and current liabilities.

• Current assets refer to those assets that can be converted into cash or cash equivalent within a year or less time. 
• On the other hand, current liabilities are those liabilities that are due for payment within one year and less such as bills payable, sundry creditors, outstanding expenses etc. 

Now working capital is the excess of current assets over current liabilities i.e.,

Working capital = Current assets – Current liabilities

There are two types of working capital namely: 

• Gross working capital
• Net working capital

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Factors Affecting the Working Capital

As per the chapter on Financial Management class 12, here are the various factors that affect the working capital of a business:

• The length of the operating cycle 
• The nature of business 
• Scale of operations
• Business cycle fluctuation 
• Seasonal factors 
• Operating efficiency
• Availability of raw materials
• Level of competition
• Inflation
• Growth prospects
• Technology and production 
• Credit allowed 
• Credit avail 

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The chapter of Financial Management class 12 has both theory and practical application, making it slightly tricky for students to understand. Hence, with our blog’s help on study/revision notes on Financial Management class 12, we hope you will score and fetch extra marks in your exams. For more such amazing and interesting reads, stay tuned with Leverage Edu. If you need guidance about which career to choose after commerce class 12th, get in touch with our experts. They will guide you every step of the way. Sign up for a free session today!