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The Financial Management Problem

20th century financial management gives us intangible assets,

unknown costs, unknown value, and unknown worth

Now, as we go into the 21st century, there is a growing need to go beyond financial

management fundamentals and change the way enterprise capital is managed:

Cash is electronically recorded and transferred, facilitating control

Tangible fixed and movable assets are being superseded by other assets as a

growing percentage of enterprise worth and importance

Information, business, intellectual, and management capital are becoming more

important, and can no longer be ignored as ‘intangible assets’

Recording expenditures in terms of what money is spent on has beensuperseded by the need to know the value and use of what was received

The full business cycle must be financially managed to know value for money

spent, subsequent value added, and value provided for money received.

The emphasis on financial management prompts neglect in management of other

capital, which now is more important and must be managed

“Intangible assets” cost tangible money to develop and utilize. “Intangible assets”

are actually unmanaged assets of increasing worth that must be managed. Capital management must include operation, support, and improvement of all

capital to meet user needs

Capital management must manage capital development to know the value

created by development, the precise investment costs of developed capital, and

the return on the capital investment

Capital management also must manage the performance of capital in utilization

to produce value and provide returns on investments

Many of the principles of financial management apply to all capital not just

financial capital. It is no longer necessary to emphasize financial managementover other capital management.



III. Traditional financial management prevents professional

facility capital management

The 20th century enterprise administers tangible equipment, supplies and accounts,

rather than managing facility capital to be operated, developed, and utilized to producevalue. The focus is on cash, which is managed separately, while other capital

administered or neglected. Cash and other facility capital require experience with the

capital and application of expertise to support and manage.

IV. Enterprise chiefs must manage capital within their capability

There is a growing recognition of the problem of enterprise chiefs, such as Chief

Information Officers, who are responsible for diverse capital, and the need to relate thecapability of the chief to the category of capital that is managed. It is more important to

distinguish all capital, both tangible and “intangible” by the capabilities needed to

manage the capital properly. All capital must be managed from the strategic need,

though investment analysis, through acquisition or development, through

implementation, through utilization to gain the return, and beyond.

V. Emphasis on financial capital causes other capital to be

neglected

All enterprise capital requires investment, has worth, and incurs costs when consumed

to create value. The emphasis on conventional financial management often leads to

20th century problems in unmanaged non-financial capital and the presence of

“intangible assets” that are not financially-managed properly to produce specific value

and to increase capital worth. Basic financial management problems in unknown value

created across the business, unknown costs incurred in the business, unknown

investment costs in specific capital utilized in the business, unknown worth of capital

that builds up to unknown business net worth, and inability to manage the return onspecific capital investments have remained unsolvable since the beginning of business

and can only be solved by managing the business and financial capital as part of the

business



AGENCY PROBLEMS IN ACHIEVEMENT OF OBJECTIVES OF FM

The decision making authority in a company lies in the hands of managers.

Shareholders as owners of a company are the principles and managers are their agents. Thus there is a principle agent relationship between shareholders and

managers. Shareholders as owners of the enterprise have the right to change the

management. With the threat of being dislodged for poor performance, the

management would have a natural inclination to achieve a minimum acceptable

level of performance to satisfy the shareholders goals while focusing primarily on

their own personal goals. Management would aim at satisfying instead of

maximizing shareholders wealth.

In practice managers may not necessarily act in the best interest of shareholders,

and they may pursue their own personal goals. Managers may maximize their

own wealth (in the form of high salaries and perks) at the cost of shareholders, or

may lay safe and create satisfactory wealth for shareholders than the maximum.

In order to ensure that management would take optimal decisions compatible

with shareholders interest of the value maximization and minimize agency

problems in terms of conflict of interest, two remedial measures that could be

implemented are provision of appropriate incentives (stock option, performanceshares, cash bonus etc) and monitoring of agents/managers (done by auditing

financial statements and limiting decision making by the management, obtaining

a fidelity bond from the bonding company to the effect that the managers will

compensate the former up to a certain specified amount of losses caused by

dishonest acts of managers.

The Financial Management Solution

Money is the easiest form of capital to manage, yet takes the bulk of enterprise effort.

All capital can be equated to money and the enterprise is subject to loss if any capital is



not managed properly. But, non-financial capital is not managed as capital to be utilized

for specific benefit in the 20th century enterprise.

I. Financial strategies, investments, assets, supply, and records

must be integrated with other strategies, investments, assets,supply, and records

Financial strategy is part of the integrated enterprise management strategy and should

not be separated out. Financial investments are the easiest investments to analyze and

manage. They should be incorporated with professional investment management of all

enterprise funds and cash flows, for all financial, business, and capital development

investments, to produce shareholder value.

Financial assets are a subset of tangible assets in enterprise facility capital. Enterprise

financial facilities are the easiest-to-manage part of reusable tangible assets or facilityequipment capital. Enterprise cash in working capital is the easiest-to-manage part of

consumable facility supply capital. Financial accounts must be integrated with other

financial and non-financial facility records, so that complete financial and non-financial

records are maintained on the business.

II. Financial capital is managed as a part of all capital in

21

st

century business management

The solution to the financial management problem is provided by organizing and

managing the enterprise business. The enterprise business organizes all capital by the

capabilities required to manage the capital properly for utilization, improvement,

development, and benefit.

Business management manages enterprise capital through four categories to apply the

required capability:

Business capital requires business knowledge and analysis capability to defineand manage

Human capital requires human handing and development capabilities

Facility capital, including the financial capital subset, requires expertise in the

operation, maintenance, and support of the subsets

Management capital requires management judgment and research capabilities



All categories of capital are sub-defined into the specific capital solutions utilized to

create value in specific results.

The business manages all capital to eliminate intangible assets,

unknown costs, unknown worth, and unknown value creation

So, when the enterprise organizes all of its capital to be managed:

Intangible assets become tangible

Worth of capital in capital solutions and the enterprise worth are assessable

Capital is managed for support, improvement, development, and utilization

Capital is implemented to performance domains to be utilized to produce specific

results

Capital consumed in performance is managed to know all costs

Performance costs are charged against the specific result produced by the cost

Results produced are managed to know value created and result value added

over costs

Result value created and result value-added are attributed to each solution

utilized

Result value created by capital solution provides the return on investment to

date, and indicates the solution worth in projected value creation over the

remaining solution life

The business plans and measures performance costs, result value, and strategic valuecreation for 21st century management. Managing financial capital as part of the business

eliminates the unsolvable financial management problems inherent in 20thcentury

enterprise management.



TIPS FOR FM

In some organizations, managers and leaders fall into the trap of believing that financial

management is something that the accounts team is fully responsible for. While there

will be areas like cash management, payroll, paying suppliers and collecting payments

from customers that are likely to be handled by the accounts team, financial

management falls into the remit of all managers and leaders. Mangers often have

concerns about this area, often believing that it is difficult and complex. The truth is that

if you are an expert in your area of the business, you can excel in financial

management. So what are my key tips?

Tip 1: Be actively involved in setting a budget

Most businesses now devolve budget responsibility as much as they possibly can. As a

result, managers have a chance to be actively involved in determining things like: Sales

volumes, Temporary staffing cover for vacancies, Staffing levels to deliver the sales,

buying preferences in terms of products that will be used in delivering agreed volumes,

Investment in new equipment or facilities and don’t miss out on your chance to

determine your budget.

Tip 2: Be clear on your assumptions

A budget is a plan for the future based on the best evidence you have at the time you

prepare it. You will have to make assumptions about things like sales growth, staff

turnover, sickness, price inflation, etc. Make sure that when presenting your budgets the

assumptions are clearly stated.

Tip 3: Work with your accountant

Your accountant who works with you in the business is essentially your personal

business advisor. Use your accountant in this way and you will reap numerous benefits.

Your accountant gets a better understanding of your area of the business and what the

key drivers of revenues and costs are, which will be immensely helpful when it comes to

reviewing performance throughout the year. In addition, your accountant can model



results for you based on different assumptions and help you to get a much clearer

picture of the risks that might need to be managed.

Tip 4: Share the budget with your team

As a manager and leader, your success depends on the results of the team. Take the

time to share your budget with your team, including the key assumptions on which it is

based. If the team knows what they are aiming for in terms of financial results, they will

look to do the right things operationally to get the best result.

Tip 5: Take responsibility

When the going gets tough it is so easy to start to look elsewhere for excuses. If you

have been involved in setting a budget which you have signed up to, focus your

energies on getting results rather than the injustice of the current situation.

Tip 6: Monitor performance and take action

Make sure that you have a process in place to carefully monitor your actual

performance against the budget. If things are going well see if there is more you can doto boost performance even further. If on the other hand things are not going as well as

expected, focus on the changes you need to make or action you need to take to get

back on track.

Tip 7: Focus on the most important numbers

When it comes to financial management, managers can sometimes get lost in lots of

detail and trivia. Be clear on what are the 2-3 big numbers that you need to payattention to, as they will more than likely constitute about 90% of your budget. In most

businesses this will be: Income from sales or services, Salary costs of employees,

Major non salary cost such as materials

Make sure that you have as good an understanding of what impacts on these numbers

at the business unit level so that you can keep things on track.



At the end of the day, internal financial statements such as budgets merely reflect what

is happening operationally in a common currency called money. Keep this at the

forefront of your mind and you have a great chance to excel as a manager.

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