Financial Decisions

Managers about an organisation’s finances take financial decisions. Investment decisions are immense decisions involved in financial matters.

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Financial decisions are the decisions taken by managers about an organization’s finances. These decisions are of great significance for the organization’s financial well-being. The financial decisions pertaining to expenditure management, day-to-day capital management, assets management, raising funds, investment, etc. The assets and liabilities of the organisation are affected by financial decisions. Undertaking efficient financial decisions can lead to immense revenue over a long term period. Investment decisions are significantly immense decisions. Besides this, financing and dividend are also essential aspects of financial decisions. Keep on reading to know more about it, including the various factors affecting financial decisions.

Investment Decisions

Investment decisions pertain to how managers must invest in various securities, instruments, assets etc. These decisions are considered more important than financing and dividend decisions.

Here, the decision is taken regarding how investment should occur in different asset classes and which ones to avoid. It also involves whether to go for short term or long term assets. This decision is taken under the organisational requirements.

Financing Decisions

Managers take these decisions to facilitate financing for the organisation. The relation of financing decisions is to raise equity while reducing debt as much as possible. Often, they are taken in light of the investment decisions.

These decisions must be taken continuously as the organisation needs funds regularly. Financing decisions should not be very rigid to allow room for manoeuvre if an emergency arises or the economic situation changes suddenly. 

Dividend Decision

After making a profit, an organisation has to decide how much reward to give to its shareholders. This reward must be given to them in return for their investment in the company’s stock. Giving too little can cause a loss of trust and confidence of shareholders in the organisation. However, giving too much would reduce the profit margin of the organisation. So, an optimum balanced dividend decision must be taken in this situation.

These decisions involve how many profit portions to hand over to the shareholders in dividends.  It also consists of the timing of giving dividends to the shareholders. An excessive delay in giving dividends would be bad for the reputation of the organisation in the eyes of the shareholders and the public.

Factors Affecting Financial Decisions

Let’s look at the factors affecting investment, financing, and dividend decisions.

Factors Affecting Investment Decisions:

  • Capital budgeting- The evaluation of investment proposals must occur by techniques of capital budgeting. This means considering factors like rate of return, interest rate, investment amount, etc.
  • Cash flows of the project- A proper estimation must be made of the expected cash receipts and payments during the entire tenure of an investment proposal.
  • Rate of return- The expected returns from an investment proposal must be considered. 
  • Factors Affecting Financing Decision:
  • Cost- The cost of raising funds varies from one source to another. For example, equity is generally more expensive than debt.
  • Cash flow position- A good cash flow position means ease in using borrowed funds.
  • Economic condition- Finances can be raised easily during an economic boom, while a recession makes it hard to raise finances.
  • Risk- The risk associated with various financing sources is not the same. Borrowed funds involve more risk than the owner’s fund as interest.
  •  Flotation cost- This is the cost involved in issuing securities like expenses on the prospectus, the fee of underwriting, and the commission or brokerage.
  • Factors affecting Dividend Decision:
  • Preference of shareholders- Shareholders’ preferences must be considered when deciding the dividend amount.  If this amount falls too below the shareholders’ expectations, the organisation’s reputation will be affected. This is a risk that every organisation must avoid.
  • Earnings- High dividend rate can be declared by organisations with stable earnings.
  • Dividends stability- Organizations try to stabilise dividends as much as follows. As such, no altering in dividend share should occur due to small or minor changes.
  • Taxation policy- A high tax on dividends would mean that organisations would do lower dividend payouts generally. The situation would be reversed if tax rates were lower.
  • Growth prospects- If the estimated growth prospects of the organisation are good shortly, the number of dividends will be low.
  • Cash flow- When declaring dividends, an organisation must ensure that it has sufficient cash available. As such, the organisation’s cash flow position is a crucial factor to consider.

Conclusion

Financial decisions are the decisions that managers of an organisation make about the finances. These decisions play a huge role in the financial well-being of an organisation. There are three types of financial decisions- investment, financing, and dividend. Managers take investment decisions regarding various securities, instruments, and assets. They take financing decisions to ensure regular and continuous financing of the organisations. The dividend decision has to do with the correct amount of reward to its shareholders. Finally, read the various factors affecting financial decisions.

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Frequently asked questions

Get answers to the most common queries related to the CBSE Class 11th Examination Preparation.

What is the purpose of financial decisions?

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