What is finance?
Finance is the commercial
activity of providing monetary assistance and funds. It is the science that
deals with allocation of monetary assets. It is considered as the life blood of
organizations and individuals. It is the study to manage the cash flow in a
smart, intelligent and responsible manner. Hence, it can fit in any of the following
definitions, “The science that deals with money and assets”, or “Managing
Monetary resources”. It is important to note that the term finance and
financing are interrelated, but with the variation in the meaning. The term
finance as stated above is management of monetary resources and latter is
providing money, banking, investments and credit.
Generally, finance is the
collection of concepts and tools out of which you can analyze the value of
things, and can also discover to optimize the resource to maximize the value.
In common business world, people make investments that can return uncertain
paybacks in the near future. The key aspects of financing enables you to decide
which investments will return more profits likely.
The fundamental concepts are used
by many organizations and individuals in order to manage their own financial
affairs. The main activity is to discover the variance between the income and
the expenditure and also to determine the risks involved in the investments.
If the income of an entity
exceeds its expenditure they can either lend or invest the excess income for
more return on investment. At the same time, if the income of an entity is less
than the actual expenditure they can raise capital by borrowing or minimizing
expenditure, or selling equity claims. If an entity wants to raise the capital
then financial intermediaries comes into the picture. The lender can find the
borrower with the aid of financial intermediaries, such as banks, bond market
etc. The borrower pays high interest while the lender enjoys the interest. This
activity is monitored by the financial intermediary monitors in order to concise
Usually banks collect the
relevant details of lenders and borrowers whom they deal with. A bank accepts
the deposits from the lender and on which it pays the interest to the lender.
The bank pays these deposits to the borrower and in return the borrower pays
the interest to the banks that in turn coordinate all this activity and by
serving as an intermediate between the two.
Three Basic Types:
The most important types are
Individual or personal, Governments or public, Businesses or corporate, and other
organizations for that matter such as schools, non-profit organizations etc...
Individual or personal finance:
It includes budgeting, credit,
savings and investments, record keeping, estate planning, retirement planning,
insurance, taxes as all this are confined to an individual. More specifically we
can say it is a decision taken by an individual for paying money to education,
financing in durable goods say real estate, cars, insurance, and saving for
This type is meant for an
individual, and thus understanding and controlling finances is more important.
Before spending your money make a budget and stick to it, is said that “A real
budget is the best weapon against lavishness” a proper budget will help you to
handle on the flow of your money.
Government or public finance:
This studies and regulates the
government activities by means of financing them. The term “public finance”
deals with budgeting the revenues and expenditures of a public or government sector.
The government sector like any other financial institutions can issue bonds and
invest. These sectors can issue bonds such as tax increment bonds based on the
tax authority of an entity.Business finance:
All the financial activities of an organization are taken by
business or corporate. Every employee in an organization plays a vital role in
an organization’s financial management. It involves understanding and making
better decisions at all levels of the organizations. This type the business or
organizations manage policy and strategy to implement the capital structure,
budgeting, financial modeling and planning, funding, taxation etc. This is the
very specific area where a company deals with financial decisions. The
decisions can be long term or even a short term with the goal of yielding more
returns on investment, without taking any financial risks.
Time value of money:
The concept goes like this,” The money is hand today is
worth more than money that will be received in future”. Let us consider this
example; if you have a choice of making one of two investments, each requires
$1000. Suppose Project I returns $2000 in two years and project II returns
$3000 in three years, but it is equal, you might choose either project I or II,
but what if the same project II returns $1000 in one year and remaining $1000
in five years. At this situation you would definitely go for project I which is
more reliable and returns your investment with in the period of two years. The time value of money is based on the
concept of interest. It uses some of the concepts like simple interest,
compound interest, annuities, present value, future value tables, intrayear
compounding, etc. The time value of money serves as the basic tool for all
other concepts of finance. Hence, it is said that “The value of money at
present is more worth than in the future”, so is very important to know the
value of money.