a) Investment of Long-term asset-mix decisions
These decisions (also referred to as capital budgeting decisions) relates to the allocation of funds among investment projects. They refer to the firm’s decision to commit current funds to the purchase of fixed assets in expectation of future cash inflows from these projects. Investment proposals are evaluated in terms of both risk and expected return.
Investment decisions also relates to recommitting funds when an old asset becomes less productive. This is referred to as replacement decision.
b) Financing decisions
Financing decision refers to the decision on the sources of funds to finance investment projects. The finance manager must decide the proportion of equity and debt. The mix of debt and equity affects the firm’s cost of financing as well as the financial risk. This will further be discussed under the risk return trade-off.
c) Division of earnings decision
The finance manager must decide whether the firm should distribute all profits to the shareholders, retain them, or distribute a portion and retain a portion. The earnings must also be distributed to other providers of funds such as preference shareholder, and debt providers of funds such as preference shareholders and debt providers. The firm’s dividend policy may influence the determination of the value of the firm and therefore the finance manager must decide the optimum dividend – payout ratio so as to maximise the value of the firm.
d) Liquidity decision
The firm’s liquidity refers to its ability to meet its current obligations as and when they fall due. It can also be referred to as current assets management. Investment in current assets affects the firm’s liquidity, profitability and risk. The more current assets a firm has, the more liquid it is. This implies that the firm has a lower risk of becoming insolvent but since current assets are non-earning assets the profitability of the firm will be low. The converse will hold true.
The finance manager should develop sound techniques of managing current assets to ensure that neither insufficient nor unnecessary funds are invested in current assets.
Kavungya answered the question on March 11, 2019 at 12:50