Financial Concepts and Their Applications Essay Example | Topics and Well Written Essays - 750 words

Financial Concepts and Their Applications - Essay Example Good financial decision making can make or break an organization. Hence, the role of a financial manager is vital to any firm and they are the heart of an organization. Market prices are great indicators for a financial manager. They are usually signals that help the financial managers in planning and controlling, mergers and acquisitions, deciding on financial policy and a lot of other things. A good financial manager does not make decisions based on intuition. Instead, a good decision is only made after a careful examination of the markets and a lot of other external influences. Market prices are one of the external influences that have to be dealt with. Market prices guide the financial managers to set their financial policies and where to invest their funds. If a price of a commodity or an investment is rising, it is better that the financial manager move his funds or resources to that investment and make capital gains by selling those investments when the market has peaked or th e investment prices start falling. Similarly, market prices are also very useful in mergers and acquisitions.... This principle guides the financial managers to determine the accurate price of these investments and hence preventing them to pay in excess of the fair price of an investment. This helps in keeping the profitability of a business high. This is important because most of the business investment is made in portfolio and if one of these investments is made in a venture that is not profitable or less profitable than the previous investments, then the entire portfolio’s profitability would decrease. Therefore, valuation principle is very important to an organization and financial managers. Net present value is calculated by discounting the future net cash flows and then subtracting the investment price of an equipment, plant or machinery. The positive result indicates that the investment is worth undertaking and negative result indicates that the investment in hand is inferior and should not be undertaken. This is similar to cost benefit analysis. Cost benefit analysis calculate th e costs and benefits of an action. It states that only those actions should be undertaken that give more benefits than costs. In the very same way, Net Present value approach suggests that only those investments should be undertaken that give positive result. Positive result indicates that future net cash inflow’s present value is greater than the investment price and hence the investment yields good results. This is an important tool to evaluate and assess the profitability of an investment and helps the financial managers into making shrewd investment decisions. Interest rate is the cost of borrowing money. It is what an investor pays over and above the borrowed amount. Interest rate is the price at which the