While corporate finance and financial management sound similar, they each have different functions. Business managers use both for financial planning and control of a company's operations.
Here's a look at the difference between corporate finance and financial management.
What Is Corporate Finance?
Corporate finance focuses on the long-term, overall picture of the financial structure and plans for a business. Its areas of responsibility are financing, capital structure, investment decisions, and dividends and return of capital.
Financing: Corporate finance has the responsibility for:
- The analysis and budgeting for capital projects. It determines which projects are approved, how they are financed, the interest rates, and the schedule of loan payments.
- Finding sources of capital as debt or as additional equity contributions. A company can borrow from commercial banks, issue debt securities in the capital markets, or raise equity by selling more shares of stock.
- Maintaining a proper balance between debt and equity. Too much debt puts the firm at risk of default in economic downturns, while too much equity dilutes the company's earnings return to investors.
Capital Structure: Corporate finance has the objective of optimizing the company's capital structure with a balance of debt and equity to obtain the lowest possible weighted average cost of capital.
Investment Decisions: Corporate finance uses various methods, such as the Internal Rate of Return or Net Present Value, to evaluate the viability of long-term capital investments. These methods estimate an investment's potential return on capital, prepare the schedule of outflows for expenses, and make projections of future returns from cash flow.
Finance managers recommend capital investments if the rate of return is greater than the company's cost of capital, also known as the hurdle rate.
Dividends and Return of Capital: Corporate finance managers make decisions about how profits are allocated. Are funds reinvested in the business or distributed as dividends to shareholders? Which choice generates the highest return for the shareholders?
The purpose of corporate finance is to ensure that shareholders receive a good return on their investment.
What Is Financial Management?
Financial management involves planning, organizing, and controlling the financial activities of an organization. It applies general management principles to oversee the resources of a business efficiently.
The objectives of financial management include:
- Maintaining a system of controls and creating reporting systems that compare actual results to budgeted expectations and note any discrepancies that require management actions.
- Using ratio analysis and key performance indicators to identify nonperforming areas and taking corrective actions.
- Controlling a company's cash flow to make sure that adequate funds are always available to pay wages, suppliers, creditors and utility bills.
- Maintaining adequate working capital. Financial management monitors the collection of accounts receivable, maintains optimal inventory turnover, and keeps adequate cash balances to support operations.
The relationship between financial accounting and financial management provides the reports and metrics that managers need to gauge the performance of the business by comparing the data with budgets and standards to keep the company on track toward its goals.
Entrepreneurial Finance vs. Corporate Finance
Although corporate finance may seem to apply only to large corporations, entrepreneurial finance applies the same principles and objectives on a smaller scale. Small-business owners also need to think about the viability of investments, the effects of borrowing money, the need to raise equity capital, and keeping enough cash flowing to pay the bills.
Although they interact with each other, corporate finance and financial management have different objectives. Corporate finance aims to maximize the value of the firm by optimizing the capital structure of the business, while financial management is more focused on maximizing profits with efficient planning and control of day-to-day operations.