Class 11 Chapter 1 - 2 - 3

Chapter 1 Introduction To Business Finance

Business finance is the process of raising, managing, and using money in a business. It helps in running daily operations, making investments, and achieving business goals by ensuring proper use of financial resources.

• Business finance is that business activity, which is concerned the acquisition and conservation of capital funds in meeting financial needs and overall objectives of business enterprises
• Business finance is a process of raising, providing and managing of all the money to be used in connection with business activities.
•  Business finance is the management of money within all type of business organization.

v Types of Business Finance

• Sole Trading Finance
• Partnership Finance
• Corporate Finance

Basic area of Finance

1. Business Finance

Business is about managing money within a business. It includes raising capital, using it wisely, and making financial decisions for business growth. It helps in planning for profits, costs, and investments. The main goal is to ensure the business has enough money to run smoothly and grow.

2.Capital Market and Investment

This area focuses on buying and selling financial instruments like shares and bonds. It helps individuals and companies invest money to earn returns. The stock market is a key part of this area. It also supports economic growth by connecting investors with businesses that need funds.

3. Institutional Finance

It deals with financial institutions like banks, insurance companies, and cooperatives. These institutions provide loans, collect savings, and help in economic development. They act as intermediaries between savers and borrowers. Institutional finance plays a key role in the financial system of a country.

4. International Finance

This involves financial activities between countries. It includes foreign trade, currency exchange, and international investments. Multinational companies and global banks are involved in this area. It helps manage the risks and opportunities of doing business globally.

5. Public Finance

It is related to how the government earns money (like taxes) and spends it on public services. It ensures financial stability and development of the country. Budget planning and debt management are key parts of this area. Public finance supports the welfare of society through proper use of funds.

Function of Finance

The function of finance refers to practices and activities directed to manage business finance. The function of business finance can be studied in detail by classifying it into two broad concepts:

1.   Managerial / Executive finance Function

Crucial decision area of business is known as executive finance function, which is performed by

financial manager. The basic decision of managerial/executive finance functions are as follows:

Investment Decision

Investment decision is one of the most important functions of finance to allocate capital on long-term investment alternatives. Investment decisions are made by evaluating different alternatives. This activity is also known as a capital budgeting decision or a long-term asset mix decision.

Financing Decision

Financing decision is the decision regarding to acquisition of capital from right source and at right time to maximize shareholders wealth. The financial manager should take appropriate financing decision for optimal capital structure. Financing decision is also known as capital structure decision.

Dividend Decision

Dividend decision refers to distribution of profit of the firm to shareholders. The financial manager should decide about the distribution of profit weather distribute all profit, retain or distribute portion and retain. The manager should also determine optimal dividend payout ratio.

Working capital Decision (Liquidity Decision)

Working capital decision is concerned with determining the firm's level of investment in current Assets and financing of it. The manager should take appropriate decision for working capital to safeguarding the business form liquidity problem and chance of insolvency.

2.   Incidental finance function ( Routine function)

Incidental finance function is also known as routine function of finance, which are performed by lower level of staff (employee) of the firms finance department. Such function can be listed as follows:

i.      Supervision of cash receipt and disbursements and safeguarding of cash balances.

ii.      Custody and safeguarding of securities, insurance policies and other valuable documents.

iii.      Taking care of mechanical detail of financing.

iv.      Record keeping and reporting.

v.      Supervision of fixed and current assets.

Goal of the firm

Basically goal of the firm refers to the reason of establishment of the firm. In general, goal of the firm may be: Making money, Profit, Capture market, minimizing cost, customer satisfaction etc. In broad sense goal of the firm are:

• 1>       Profit Maximization
• 2>       Wealth Maximization

Profit Maximization Goal

The process or approach that will result in increasing profit of the business is known as Profit maximization goal. In this approach finance functions should be oriented towards the maximization of profit. The financial manager selects projects that are profitable and rejects those, which are not profitable.

Argument in Favor:

• ·         Understandable
• ·         Decision Criteria
• ·         Incentive to work
• ·         Measurement of efficiency

Criticism

1. Ambiguity  or Meaning of profit is not clear
2. Ignores the time value of benefit
3. Ignores the quality of Benefits 
4. Unsuitable for Modern Business environment 
5. Ignores risk element

i. Ambiguity  or Meaning of profit is not clear

The profit maximization goal is not clear due to unclear meanings and the type of profit to maximize, such as before or after tax profit, total profit or per share profit, short-term or long-term profit. Therefore, this goal is vague and ambiguous.

ii. Ignores the time value of benefit

Profit maximization goal ignores the time value of benefits since it does not take into account the fact that a rupee earned today is more valuable than a rupee earned later. This ignores the importance of profit timing, which can lead to poor long-term decision-making.

iii. Ignores the quality of Benefits

Profit maximization goal ignores the quality of benefits, focusing primarily on the amount of profit rather than how it is generated. This means that it ignores important factors such as customer satisfaction, staff well-being, and business practice sustainability, all of which can have an impact on long-term performance and reputation.

iv. Unsuitable for Modern Business environment

Profit maximization is not suitable for modern business environments, as companies must balance profitability with social responsibility, sustainability, and long-term growth. Focusing solely on profits can lead to short-sighted decisions, damage reputation, and fail to meet stakeholder expectations.

iv. Ignores risk element

Profit maximization goal focuses on maximizing returns, often overlooks the potential risks of business decisions, such as market change or economic downturns, leading to short-term gains but long-term losses or instability. A sustainable strategy must balance these elements.

Wealth Maximization

Wealth maximization is the concept of increasing the value of business in order to increase the value of shares held by its stock holders. This goal is also known as value maximization, net present value maximization. Positive or higher Net present value is considered as increase of wealth. So, this goal is focus on positive and higher NPV and also considers risk factor of investment.

Features

1. Shareholders wealth maximization goal is clear

Shareholder wealth maximization aims to enhance a company's long-term value by selecting positive and higher NPV for shareholders, prioritizing long-term value over short-term profits, ensuring the company's actions benefit shareholders and support responsible growth.

2. It consider timing of cash flows

Shareholder wealth maximization is a financial strategy that takes into account the timing of cash flows, valuing today's earnings more than later ones, allowing for better financial planning and long-term growth, making it a realistic and successful decision-making tool.

3. It considers quality of benefits

Shareholder wealth maximization prioritizes the quality of benefits, focusing on sustainable growth, customer satisfaction, and responsible business practices to ensure long-term success and contribute to the company's long-term success by ensuring lasting benefits.

4. It reduces the conflict of interest among the stockholders of a firm

Shareholder wealth maximization reduces conflicts of interest among shareholders by focusing everyone's attention on the same goal: enhancing the company's long-term value. When the goal is to raise the entire wealth of all shareholders, it reduces arguments over short-term earnings or competing priorities, resulting in a clear direction for the firm's performance.

Organization of Finance Functions

Answer the following questions 

1. What is business finance?

2. Explain about the executive finance functions.

3. List out the routine function of finance.

4. What is profit maximization goal? Explain its limitations.

5. Explain shareholders wealth maximization goal with its features.

Chapter 2 Business Entity and Financial Environment 

Forms of Business Organization

The Legal entities formed by one or more persons are known as Business organization. Legal forms of business organization can be categories in to three forms:

·         Sole Proprietorship

·         Partnership

·         Company

Sole Proprietorship

A sole Proprietorship is the business owned and operates by a single person and who has control over all the business assets. The owner also receives all the profit generated by the business but, is personally liable for all its debts and liabilities.

 

Sole proprietorship is establish, operate and wind up under Private Firm Registration Act 1958(2014 BS) In Nepal.

Merits / Advantages:

• Easy to start and wind – up
• Motivation to work or High level of Motivation
• Quick Decision
• Business Secrets
• Small Investment 
• Lower Tax
• Independent control
• Flexibility                                        ( explain yourself)

Demerits / Disadvantages:

• Unlimited Liability
• Limited capital
• limited life
• Limited Managerial ability
•  Difficult in ownership transfer                     ( explain yourself)

Features of Sole Trading

• Easy to start and wind – Up
• single ownership
•  Unlimited Liability
•  Minimum Government Regulation
• Secrecy
•  Management and Control
• No – sharing of Profit or loss
• Lack of continuity of Business
• Flexibility
• Small size

Partnership

A partnership firm is a legal business structure where two or more individuals agree to collaborate and share resources, responsibilities, profit and losses to achieve a common business goal. Partnerships are typically based on written agreement that outlines partner's roles, responsibility, capital investment and profit and loss distribution of each partner.

Partnership firms are establish, operate and wind up under Partnership Act 1964 (2020 BS) In Nepal.

Advantages

1. Easy to start and dissolve

Partnerships are easier to start and dissolve due to fewer formalities and legal processes, requiring only an agreement between partners, and can be dissolved by mutual consent or agreement terms. So, partnership business can start and dissolve easily.

2. Easier for fund raising

A partnership business is easier to fundraise than a sole proprietorship since many partners can contribute additional funds. Furthermore, partnerships may have easier access to loans and investors because having more than one owner reduces risk and boosts the company's its trustworthiness.

3. Synergy

Synergy in a partnership business involves the combined efforts of partners, resulting in greater outcomes than individual efforts. This collaboration creates efficiencies, generates ideas, improves decision-making, leads to better problem-solving, enhances productivity, and strengthens the business.

4. Reduction of Work load

In partnership businesses, the work is shared among partners, which makes it easier for everyone. This teamwork helps save time, lowers stress, and boosts productivity by letting each partner focus on their own tasks or strengths.

5. Effective management and decision

In a partnership business, managing the company and making decisions can be easier because different partners bring their own skills and ideas. This helps with better problem-solving and quicker decisions. Since each partner handles what they’re good at, the decisions are often more balanced and help the business run smoothly.

6. Better Decision
7. Harmonization of different ability
8. Close supervision

Disadvantages

1. Possibility of disputes

Partnership businesses often face disputes due to disagreements on decisions, management, or profit sharing. Without clear agreements and effective communication, these disagreements can escalate, requiring open discussions and a well-structured partnership agreement to prevent and resolve conflicts.

2. Unlimited liability

Unlimited liability in a partnership business means partners are personally responsible for the business's debts and obligations. If the business cannot pay, partners may use personal assets to cover them, increasing financial risk as their finances are tied to the business's success or failure.

3. Uncertain life

In a partnership business, there can be uncertainty about what will happen in the future. If one partner wants to leave or things change in the business, it can create confusion. Without a clear plan for handling these situations, partners may feel unsure and worried about the partnership’s future.

4. Difficult to transfer of ownership

Transferring ownership in a partnership business can be challenging due to the need for agreement from all partners, which can take time and involve finding a new partner who everyone agrees on, making it less straightforward than in other business structures.

5. Limited resource and capital

In a partnership business, partners might have limited money and resources. Since the business relies on what the partners provide, it may not have as much money as larger companies. This can make it hard to grow or take on big projects because they might not have enough funds or resources to invest.

6. Delay in decision
7. Difficult to maintain business secret 

Difference between Sole proprietorship and Partnership Business

 

Corporation/ Company

A company is a type of business structure that is a separate legal entity from its owners, is formed by a group of peoples work together to achieve common business goal. The Company operates on a large scale by collecting large sums of capital.

A company is a legal entity formed by a group of individuals to engage in and operate a business. It can produce goods, provide services, or manage assets with the goal of generating profit.

Companies are establish and operate and under CompanyAct 2006 (2063 BS) In Nepal.

Business which is incorporate under Company act 2006(2063) is known as Company

 - Company act 2006(2063)

Advantages:

1. Unlimited life

"Unlimited life" means a company can keep going forever, even if its owners or managers change. Unlike businesses owned by one person or a small group, which might end if the owner leaves or passes away, a company with unlimited life can continue running without interruptions.

2. Limited Liability

Limited liability is a legal structure where a company's owners are only responsible for the business's debts or losses up to the amount they invested. This means their personal assets, like their home or savings, is protected and cannot be used to pay off the company’s debts.       

3. Easy transfer of ownership

Easy transfer of ownership means that a business’s ownership can be quickly and smoothly transferred from one person to another. Shareholders of public company can easily transfer their ownership by selling their share in financial market.

4. Professional management

Professional management means that a company is run by trained and experienced managers rather than by its owners. These managers are skilled in handling the day-to-day operations, making decisions to help the company grow and succeed. This approach allows owners to rely on experts to manage the business effectively.

5. Common seal

A common seal is an official stamp used by a company to endorse documents. It often contains the company’s name and serves as the company’s legal signature on important documents, like contracts or agreements. By using the common seal, the company formally shows its approval, and it adds an extra layer of authenticity to legal documents.

Disadvantages

1. Double taxation
2. Lengthy legal formalities to establish
3. Chances of conflict 
4. No Secrecy
5.  Delay in decision
6. Lack of flexibility

Business and Tax

A tax is a compulsory contribution from a business and individual to the government without any direct benefits. Every business and individual needs to pay the tax to government based on their income.

Sole trading and partnership firm pay the tax as the individual does whereas company is taxed corporate tax bracket (Rate).

Individual Tax rate for 2082/83

Corporate tax 
Corporate tax is a compulsory contribution to government by a corporation from their incomes. Corporate tax is applicable on taxable income of corporation, which is calculated by deducting business expenses from its revenue.

Corporate income tax rate of Nepalese corporation for fiscal year 2082/83 is as follows: 

For Clear Tax Rates: Click Here

Financial Environment

The Financial environment refers to all the surroundings that have direct or indirect Impact on financial decisions made by business and individuals. The financial environment includes the economic conditions, market structures, institutions, and regulations that influence the flow of money, investment, and financial activity within a given economy.

Components of Financial environment

1. Financial Institutions

Financial institutions are the companies or organizations that channel the funds from savers (surplus unit) to the borrowers (Deficit unit) in the economy. Financial Institutions play a crucial role in the economy by helping individuals and businesses manage their finances and access the capital they need.

Types of Financial Institutions

a) Depository Financial Institutions

• Commercial Banks
• Development Banks
•  Finance company
• Micro finance company
• Saving and Credit Cooperatives

b)  Non-Depository Institutions

( Contractual Saving Institutions) 

• Insurance company 
• Employee Provident Fund 
• Citizen Investment Trust 

  ( Financial service Companies)

•  Investment Banker 
• Stock Brokers/Securities Dealers 
• CDS and clearing Limited
• Credit Rating Agencies
• Deposit and Credit Guarantee Fund

Roles of Financial Intermediaries/ Institutions

• Maturity Intermediation
• Reducing Risk via Diversification
• Cost of Contracting and information processing
• Providing Payment Mechanism

2. Financial Assets

Financial assets are the forms of legal documented representation for claim to income generated by real assets. Share, Bond, Preferred stock, Treasury bill, Commercial paper, Letter of credit etc is the example of financial assets.

3.Financial Market

Financial Market is the market place where Financial Securities (Financial Assets) are bought and sold. This market facilitates the buyers and sellers of Financial Assets to trade their assets at appropriate price. 

IF you want to gather more knowledge then click here:

Advance Saraswati Publication Book Chapter 2

KEC Publication Book (Chapter 2)

Answer the following questions

1. what is sole proprietorship business? Explain advantage and disadvantage of sole proprietorship business.
2. Explain partnership business with advantage and disadvantage of it.
3. Differentiate sole proprietorship with partnership business.
4. Define company. What are the advantages and disadvantages of Company?
5. What is financial environment? Define its components.

Chapter 3     FINANCIAL ASSETS

Financial assets are the forms of legal documented representation for claim to income generated by real assets. Share, Bond, Preferred stock, Treasury bill, Commercial paper, Letter of credit etc is the example of financial assets.

Characteristics of Financial Assets

1. Financial Assets do not have physical character
2. Financial assets are more liquid
3. Financial assets do not have own productive capacity
4. Financial assets have easy mobility
5. Financial assets for one party is financial liability for other

( explain yourself)

Types of Financial Assets

• Long term and short term financial assets
• Government and corporate financial assets
• Fixed and Variable income financial assets
• Creditorship and ownership financial assets
• Other financial assets ( Mutual fund, derivatives etc.)

Derivative sesurities 

Derivative securities are financial contract whose value is derived from one or more underlying assets or securities. It is the financial agreement whose value depends upon the value of other assets.

A derivative is an agreement between two parties to buy, sell or exchange an asset in the future by determining the ratio of current price, premium and discount. Derivative securities are also called contingent claims because they depend on the underlying assets to be received.

Long - term Instruments

Long term Financial instruments are the Financial assets whose maturity period is more  than one year. Long-term assets are investments in a company that will benefit the company for many years. The following are the Long term Financial instruments:

i. Common stock

Common stocks are the type of financial assets that provides ownership in a company and represents a claim on part of the company's assets and earnings. Holders of common stock have voting rights in corporate decisions and may receive dividends, although these are not guaranteed.

Features of Common Stock

1. Par value
2.  No maturity
3. No fixed dividend
4.  Voting right
5.  Preemptive right
6.  Limited liability

( explain yourself)

ii. Bond/ Debenture

A bond is a fixed income instrument that represents a loan made by investor to borrower. It is a long term contract under which a borrower agrees to make payments of interest and principal on specific dates to the bondholders.

 

Features of Bond

• Par value
• Coupon interest rate
•  Maturity
•  Call provision
•  Trustee
• Sinking fund                                 ( explain yourself)           

iii. Preferred Stock

Preferred stock is a type of financial asset that gives shareholders priority over common stockholders in receiving dividends and claims on assets during liquidation. Preferred stockholders typically receive fixed dividends and do not usually have voting rights in the company. It combines features of both equity and debt.

Features of Preferred Stock

1. Par value
2.  Fixed Dividend
3.  Maturity
4.  Cumulative features
5.  Voting Rights
6.  Call features
7.  Conversion features                               ( explain yourself)   

Short - term Instruments

Short term Financial instruments are the Financial assets whose maturity period is one or less than one year. These instruments are also known as money market instruments because these assets are traded on money market. The following are the  Short term Financial instruments: 

1.  Treasury Bills

Treasury Bills are short-term promissory notes issued by the Government of Nepal through Nepal Rastra Bank to raise funds for meeting short-term financial requirements. They are issued at a discount and redeemed at face value on maturity. Treasury Bills have maturities of 28 days, 91 days, 182 days, and 364 days.

(Example of treasury bills of USA)

2.  Commercial Paper

Commercial Paper is a short-term, unsecured promissory note issued by firms with high credit ratings to meet short-term funding requirements. Generally, only large and well-reputed firms with strong financial positions are eligible to issue commercial paper. Commercial paper is usually issued at a discount and redeemed at face value, though it may also be issued on an interest-bearing basis.

3.  Bankers Acceptance

A banker’s acceptance is a written promise made by a bank to pay a fixed amount of money on a specific future date on behalf of its customer. Since the payment is guaranteed by the bank, it is considered safe and reliable.

It is mostly used in international trade, where buyers and sellers may not know each other well. The seller feels secure because the bank guarantees payment, and the buyer gets time to pay later. Therefore, banker’s acceptance helps reduce risk and build trust between trading parties.

3.  Bills of exchange

A bill of exchange is a short-term financial instrument that contains a written order from one party (the drawer) directing another party (the drawee) to pay a fixed sum of money to a third party (the payee). The payment must be made either on demand or on a predetermined future date.

4.  Promissory Note

Promissory Note is a debt instrument that contains a written promise by one party, called the maker or issuer, to pay a definite sum of money to another party, called the payee. The payment is made either on demand or on a specified future date.

It is commonly used in credit and loan transactions as legal evidence of debt and helps ensure repayment under agreed terms.

5.  Promissory Note

A letter of credit is a payment guarantee issued by the buyer’s bank on behalf of the buyer, promising to make payment to the seller (beneficiary). This commitment is usually confirmed by the seller’s bank, which adds further assurance of payment.

Generally, a letter of credit is issued by the importer’s bank and guarantees that the seller will receive payment once all the terms and conditions stated in the letter of credit are fulfilled. It is widely used in international trade to reduce payment risk for both buyers and sellers.

5.  Certificate of Deposit

A certificate of deposit (CD) is a time deposit offered by a bank in which a fixed amount of money is deposited for a fixed period, such as six months, one year, or five years. In return, the bank pays a fixed rate of interest. When the CD matures, the investor receives the original amount invested plus the interest earned. CDs are considered safe investments because they provide assured returns and are issued by banks.