FIN2603 – Finance for Non-Financial Managers (2023)
Study Unit 01: The financial goal of a firm (PB: Chapter 1)
1. The Financial goal of a firm
The goal of the firm is to increase the value of the firm.
Diversification means not placing all your money in a single investment but spreading it over
various investments.
The investor has a choice between various asset classes, the main ones of which are the following:
• Real estate (rent-generating assets)
• Shares dividend-generating assets)
• Fixed-interest securities (interest-generating assets)
• Cash
The long-term financial goal should be to increase the value of the firm, thereby increasing the wealth
of the owners. This may be accomplished by:
• investing in assets that will add value to the firm.
• keeping the firm's cost of capital as low as possible.
The short-term goal of the firm should be to ensure the:
o Profitability - firm’s ability to generate revenues that will exceed total costs by using the
firm’s assets for productive purposes.
o Liquidity - the firm’s ability to satisfy its short-term obligations as they become due.
o Solvency - the extent to which a firm’s assets exceed its liabilities; differs from liquidity
in that liquidity pertains to the settlement of short-term liabilities, while solvency
pertains to the excess of total assets over total liabilities.
Wealth maximisation is preferred to profit maximisation for several reasons, of which the following
three are generally agreed on:
1. Shareholders expect to receive a return in the form of periodic cash dividend payments and
increases in the value of their shares (in the case of a company).
2. Profit maximisation is a short-term approach, while wealth maximisation is based on long-term
prospects.
3. Profit maximisation is not consistent with wealth maximisation, because of:
- The timing of earnings per share
- Earnings that do not represent cash flows available to shareholders.
- A failure to consider risk.
2. Financial management and accounting
Many people regard financial management and accounting in the business environment as
the same thing - however, there is a difference.
Handling of funds and decision making are the two reasons why financial management and
accounting are considered different fields:
Lyana Petzer Page 1 of 5
, FIN2603 – Finance for Non-Financial Managers (2023)
1. Handling of funds:
The primary functions of an accountant are to develop and provide data for measuring the
performance of the firm, to assess its financial position and to see to the payment of taxes.
The financial manager’s role differs in the way in which he/she views the funds of the firm.
➢ Accrual principle - a principle whereby revenues are recognised at the point of sale and
expenses when they are incurred.
The financial manager is more concerned with maintaining a firm’s liquidity and solvency by
providing the cash flows necessary to satisfy its obligations.
2. Decision making:
❖ The accountant devotes the majority of his/her attention to the collection and
presentation of historical financial data.
❖ The financial manager evaluates the accountant’s financial statements, processes and
additional data, and makes decisions based on sub- sequent analysis.
3. Fundamental Principles of Financial Management
Financial management is based on the following principles:
• the cost-benefit principle
• the risk-return principle
• the time value of money
1. The cost-benefit principle:
The cost-benefit principle can be used by means of the following steps:
➢ Obtain clarity about the objectives to be attained.
➢ Identify alternative ways in which the objective can be achieved.
➢ Calculate the cost and benefits of each of the alternatives.
➢ Determine the effectiveness of each alternative.
➢ Decide on a criterion or standard to be used to measure acceptability.
➢ Make a decision about the course of action.
2. The risk-return principle:
➢ A trade-off between risk and return.
➢ The greater the risk, the greater the required rate of return.
➢ The return should exceed the risk.
3. The time value of money:
➢ A concept used to evaluate any financial decision involving differences in the timing of
cash inflows and outflows.
➢ The time value of money is a matter of interest that may be earned if money is available
today and invested, or the opportunity cost if an amount will only be received in the
future.
Lyana Petzer Page 2 of 5
Study Unit 01: The financial goal of a firm (PB: Chapter 1)
1. The Financial goal of a firm
The goal of the firm is to increase the value of the firm.
Diversification means not placing all your money in a single investment but spreading it over
various investments.
The investor has a choice between various asset classes, the main ones of which are the following:
• Real estate (rent-generating assets)
• Shares dividend-generating assets)
• Fixed-interest securities (interest-generating assets)
• Cash
The long-term financial goal should be to increase the value of the firm, thereby increasing the wealth
of the owners. This may be accomplished by:
• investing in assets that will add value to the firm.
• keeping the firm's cost of capital as low as possible.
The short-term goal of the firm should be to ensure the:
o Profitability - firm’s ability to generate revenues that will exceed total costs by using the
firm’s assets for productive purposes.
o Liquidity - the firm’s ability to satisfy its short-term obligations as they become due.
o Solvency - the extent to which a firm’s assets exceed its liabilities; differs from liquidity
in that liquidity pertains to the settlement of short-term liabilities, while solvency
pertains to the excess of total assets over total liabilities.
Wealth maximisation is preferred to profit maximisation for several reasons, of which the following
three are generally agreed on:
1. Shareholders expect to receive a return in the form of periodic cash dividend payments and
increases in the value of their shares (in the case of a company).
2. Profit maximisation is a short-term approach, while wealth maximisation is based on long-term
prospects.
3. Profit maximisation is not consistent with wealth maximisation, because of:
- The timing of earnings per share
- Earnings that do not represent cash flows available to shareholders.
- A failure to consider risk.
2. Financial management and accounting
Many people regard financial management and accounting in the business environment as
the same thing - however, there is a difference.
Handling of funds and decision making are the two reasons why financial management and
accounting are considered different fields:
Lyana Petzer Page 1 of 5
, FIN2603 – Finance for Non-Financial Managers (2023)
1. Handling of funds:
The primary functions of an accountant are to develop and provide data for measuring the
performance of the firm, to assess its financial position and to see to the payment of taxes.
The financial manager’s role differs in the way in which he/she views the funds of the firm.
➢ Accrual principle - a principle whereby revenues are recognised at the point of sale and
expenses when they are incurred.
The financial manager is more concerned with maintaining a firm’s liquidity and solvency by
providing the cash flows necessary to satisfy its obligations.
2. Decision making:
❖ The accountant devotes the majority of his/her attention to the collection and
presentation of historical financial data.
❖ The financial manager evaluates the accountant’s financial statements, processes and
additional data, and makes decisions based on sub- sequent analysis.
3. Fundamental Principles of Financial Management
Financial management is based on the following principles:
• the cost-benefit principle
• the risk-return principle
• the time value of money
1. The cost-benefit principle:
The cost-benefit principle can be used by means of the following steps:
➢ Obtain clarity about the objectives to be attained.
➢ Identify alternative ways in which the objective can be achieved.
➢ Calculate the cost and benefits of each of the alternatives.
➢ Determine the effectiveness of each alternative.
➢ Decide on a criterion or standard to be used to measure acceptability.
➢ Make a decision about the course of action.
2. The risk-return principle:
➢ A trade-off between risk and return.
➢ The greater the risk, the greater the required rate of return.
➢ The return should exceed the risk.
3. The time value of money:
➢ A concept used to evaluate any financial decision involving differences in the timing of
cash inflows and outflows.
➢ The time value of money is a matter of interest that may be earned if money is available
today and invested, or the opportunity cost if an amount will only be received in the
future.
Lyana Petzer Page 2 of 5
