Increasing importance of financial management
The historical trends discussed in the previous section have greatly increased the importance of financial management. In earlier times the marketing manager would project sales, the engineering and production staffs would determine the assets necessary to meet those demands, and the financial manager simply had to raise the money needed to purchase the required plant, equipment, and inventories. That situation no longer exists—decisions are now made in a much more coordinated manner, and the financial manager generally has direct responsibility for the control process.
Eastern Airlines and Delta can be used to illustrate both the importance of financial management and the effects of financial decisions. In the 1960s, Eastern's stock sold for more than $60 per share, while Delta's sold for S10. By 1991, Delta had become one of the world's strongest airlines, and its stock was selling for more than $90 per share. Eastern, on the other hand, had gone bankrupt and was no longer in existence. Although many factors combined to produce these divergent results, financial decisions exerted a major influence. Because Eastern had traditionally used a great deal of debt, while Delta had not, Eastern's costs were increased significantly, and its profits were lowered, when interest rates rose during the 1980s. Rising rates had only a minor effect on Delta. Further, when fuel price increases made it imperative for the airlines to buy new, fuel-efficient planes, Delta was able to do so, but Eastern was not. Finally, when the airlines were deregulated, Delta was strong enough to expand into developing markets and to cut prices as necessary to attract business, but Eastern was not.
The Delta-Eastern story, and others like it, are now well known, so all companies today are greatly concerned with financial planning, and this has increased the importance of corporate financial staffs. Indeed, the value of financial management is reflected in the fact that more chief executive officers (CEOs) in the top 1,000 U.S. companies started their careers in finance than in any other functional area.
It is also becoming increasingly important for people in marketing, accounting, production, personnel, and other areas to understand finance in order to do a good job in their own fields. Marketing people, for instance, must understand how marketing decisions affect and are affected by funds availability, by inventory' levels, by excess plant capacity, and so on. Similarly, accountants must understand how accounting data are used in corporate planning and are viewed by investors.
Thus, there are financial implications in virtually all business decisions, and nonfinancial executives simply must know enough finance to work these implications into their own specialized analyses. ' Because of this, every student of business, regardless of major, should be concerned with finance.
Self-Test Questions
Explain why financial planning is important to today's chief executives.
Why do marketing people need to know something about financial management?
The financial manager's responsibilities
The financial manager's task is to acquire and use funds so as to maximize the value of the firm. Here are some specific activities which are involved:
1. Forecasting and planning.The financial manager must interact with other executives as they look ahead and lay the plans which will shape the firm's future position.
2. Major investment and financing decisions.A successful firm usually has rapid growth in sales, which requires investments in plant, equipment, and inventory. The financial manager must help determine the optimal rate of sales growth, and he or she must help decide on the specific assets to acquire and the best way to finance these investments. For example, should the firm finance with debt or equity, and if debt is used, should it be long-term or short-term?
3. Coordination and control.The financial manager must interact with other executives to insure that the firm is operated as efficiently as possible. All business decisions have financial implications, and all managers —financial and otherwise—need to take this into account. For example, marketing decisions affect sales growth, which in turn influences investment requirements. Thus, marketing decision makers must take account of how their actions affect (and are affected by) such factors as the availability of funds, inventory policies, and plant capacity utilization.
4. Dealing with the capital markets.The financial manager must deal with the money and capital markets. As we shall see in Chapter 5, each firm affects and is affected by the general financial markets where funds are raised, where the firm's securities are traded, and where its investors are either rewarded or penalized.
In summary, financial managers make decisions regarding which assets their firms should acquire, how those assets should be financed, and how the firm should manage its existing resources. If these responsibilities are performed optimally, financial managers will help to maximize the values of their firms, and this will also maximize the long-run welfare of those who buy from or work for the company.