What Is Finance?
Finance is a term for matters regarding the management, creation, and study of money and investments. It involves the use of credit and debt, securities, and investment to finance current projects using future income flows. Because of this temporal aspect, finance is closely linked to the time value of money, interest rates, and other related topics.
Finance can be broadly divided into three categories:
- Personal finance
- Public finance
- Corporate finance
- Trade finance
There are many other specific categories, such as behavioral finance, which seeks to identify the cognitive (e.g., emotional, social, and psychological) reasons behind financial decisions.
What is Personal Finance?
Personal Finance is managing the finance or funds of an individual and helping them achieve the desired goals in terms of savings and investments. Personal Finance is specific to individuals and the strategies depend on the individuals earning potential, requirements, goals, time frame, etc. Personal finance includes investment in education, assets like real estate, cars, life insurance policies, medical and other insurance, saving and expense management.
Personal Finance includes:
- Protection against unforeseen and uncertain personal events
- Transfer of wealth across generations of the family
- Managing taxes and complying with tax policies (tax subsidies or penalties)
- Preparing for retirement
- Preparing for long term expenses or purchases involving a huge amount
- Paying for a loan or debt obligations
- Investment and wealth accumulation goals
What is Corporate Finance?
Corporate Finance is about funding the company expenses and building the capital structure of the company. It deals with the source of funds and the channelization of those funds like the allocation of funds for resources and increasing the value of the company by improving the financial position. Corporate finance focuses on maintaining a balance between the risk and opportunities and increasing the asset value.
Corporate Finance Includes:
- Capital budgeting
- Employing standard business valuation techniques or real options valuation
- Identifying the source of funding in the form of equity, shareholders’ funds, creditors, debts
- Determining the utility of unappropriated profits for future investment, operational utilization, or distribution to the shareholders
- Acquisition and investment in stock or other assets
- Identifying relevant objectives, opportunities, and constraints
- Risk management and tax considerations
- Stock issuance while going public and listing on the Stock exchange
What is Public Finance?
This type of finance is related to states, municipalities, provinces in short government required finances. It includes long term investment decisions related to public entities. Public finance takes factors like distribution of income, resource allocation, economic stability in consideration. Funds are obtained majorly from taxes, borrowing from banks or insurance companies.
Public Finance includes:
- Identifying the expenditure required by the public entity
- The sources of revenue for the public entity
- Determining the budgeting process and source of funds
- Issuing debts for public projects
- Tax management
The other two famous terms in Finance are the Microfinance and Trade Finance
What Is Microfinance?
Microfinance is also known as microcredit. This type of finance is specifically designed for individuals who do not have easy access to financial services. These individuals include unemployed and lower-income group individuals. Banks may even offer additional services like saving accounts, microinsurance, and trainings. The main motive behind providing microfinance is to provide an opportunity for these individuals to become self-reliant.
Lenders often grant loans after pooling borrowers to ensure better repayment probability. The repayment amount on such microloans is higher than that of conventional financing due to the risk involved.
- Bank checking and savings account
- Educational programs on the principles of investing
- Training on skills like accounting and bookkeeping including cash flow management, profit and loss statements, etc.
- Basic money management training
- Lessons on financial terms and concepts like interest rate, cash flow, budget, debt, etc.
What is Trade Finance?
Trade Finance includes financial services and instruments that enable and facilitate trade internationally. Trade finance is ideal for importers and exporters to carry on smooth international transactions by reducing risk in global trade.
Unlike conventional finance, trade finance is used to protect the two parties from the various risks involved in international trade and does not mean that the parties lack funds or liquidity. The risks involved in international trade are currency fluctuations, non-payment by the party, political instability, creditworthiness of the parties, etc.
- Trade finance involves a third party for conducting a transaction thus eliminating the risk of supply and payment.
- Trade finance can help reduce the risk associated with global trade by reconciling the divergent needs of an exporter and importer.
- In trade finance, the exporter is provided with the payment as per the agreement and the importer can avail of a credit facility to fulfill the trade order.
Apart from protecting against the risks, non-payment, and non-receipt of goods, trade finance also improves the efficiency and revenue.
- It enables the company to receive a cash payment based on the accounts receivables as the buyer’s bank guarantees payment. This also ensures timely payments and assured shipment of goods. The different parties involved in trade finance are importer, exporter, banks, insurers, credit agencies, trade finance companies.