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3 Basic Financing Decisions In Financial Management For Business Managers To Consider

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There are basically three decision inputs which always confronts a financial manager - the investment decision, the financing decision and the dividend decision.

INVESTMENT DECISION:
Capital investment is the major aspect of this decision input. It is concerned with the allocation of capital to investment proposals whose benefits are to be realized in the future. Future benefits are not known with certainty. Thus, investment proposals involves some risks. The risk exposure should be evaluated in relation to their expected returns. Included also in the investment decision is the decision to re-allocate capital when an asset no longer justifies the capital committed to it economically. In a nutshell, investment decision determines the total amount of assets held by the firm, the composition of these assets as well as the business risk as perceived by the owners of the business.

In addition to the selection of a new investment, a firm must manage existing assets efficiently. For instance, a financial manager must manage current assets efficiently in order to maximize profit relative to the amount of funds tied up in the asset. Determining a proper level of liquidity for the firm is also a part of this management. He should also be instrumental to the allocation of capital to fixed assets by his involvement in capital investment.

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Where necessary, mergers and acquisitions should serve as benchmark in certain investment decisions. Furthermore, failures and re-organizations which involves a decision to liquidate a company or rehabilitate it by changing is capital structure should be based upon the same economic consideration which governs investment decisions.

FINANCING DECISION:
The second major decision of a firm is the financing decision. Here, the financial manager is concerned with determining the best and optimal financing mix or capital structure.for his firm. Capital structure is the long term sources of funds used by the firm. Financial structure on the other hand is the mix of all the items that appear on the right hand side of the company's balance sheet.

Financing decision is usually made in relation to the overall valuation of the firm. As an alternative to attempting to achieve an optimum capital structure, the financing decisions of a firm may be aimed at a target capital structure. The various methods by which a firm obtains short, medium and long-term financing are the major concerns of the financial manager.

DIVIDEND DECISION:
The dividend decision of a firm is the percentage of earnings paid to shareholders in cash dividends, the stability of dividend paid to the stock holders among others. The dividend payout ratio determines the amounts of earnings retained in the firm and this must be evaluated in the light of maximizing shareholders wealth. If the majority of the shareholders are wealthy, they may prefer a low payout ratio otherwise, a high dividend payout ratio may be preferred. If investors at the margin (the average investor into the firm's shares) are not indifferent between current dividends and capital gains, there will be an optimal dividend payout ratio that maximizes shareholder's wealth. The value of a dividend to investors must be balanced against the opportunity cost of retained earnings lost as a means of equity financing.

(Egungwu, 2004:5-6)

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