Financial Literacy, core of life

What is Finance?

Finance is majorly described as the art and science of managing money. It is a procedure to raise funds and thus understanding the system of investment and other monetary and financial instruments. It is the term used to allocate assets, liabilities, expenditures and processes to extract the best out of the activities. It is basically a process to manage and multiply the funds by investing in best opportunities while handling the risks and uncertainties.

What is Literacy?

It refers to the ability to read, write and express by effectively communicating it.

Financial Literacy

It refers to the ability of the person to utilise one’s skills or knowledge to effectively manage their financial resources by understanding the primary concepts of saving, investment strategies, debt management, borrowings etc. which empowers them to weigh the pros and cons of each opportunity to make a financial decision. If a person becomes financially literate he become prepared to encounter all personal and economic distress. People who procure financial literacy are less exposed to the financial frauds significantly.

Financial illiteracy leads to poor financial decisions which in turn can land an individual in turmoil.

If there exist the strong roots of financial literacy then it will serve towards many life objectives like- saving funds for better children education and stress free retirement, meeting out debt obligations timely and running a business.

According to GP Garg, executive director of Securities and Exchange Board of India (SEBI) “ In a country like India we have close to 80% literacy, but when it comes to financial literacy we are not that lucky.”

As per the survey of National Centre for Financial Education there exist only 27% of the population that have knowledge to manage their finances well. So various initiatives are undertaken by different regulators like- Reserve Bank Of India, Insurance Regulatory and Development Authority of India and Pension Fund Regulatory and Development Authority to educate Indians about basic concepts and various strategies used to diversify the business.

Even financial banks and other major authorities have recommended to consider and include finance literacy as a subject and how to manage finances in the school curriculum.

Why Financial Literacy hold its essence?

i. To individuals- Financial literacy is not just considered with long term decisions but also helps individuals take decisions for day to day activities as it aids in prioritising the things that would eventually would turn your life better on adopting by investing in it. It will not only help in planning your expenses well but also teach relevance of budgeting and how to maintain and regulate it.

Financial illiteracy would result into ineffective financial planning and borrowing at higher rates and mismanagement of debt which will in turn make the whole family suffer.

a. Adopting best strategies would free a person from the web of debt.

b. Proper management of funds would gift their children with best education and secure and burden free retirement.

c. Prepared to face and conquer financial risk and pitfalls.

d. Ready to face emergencies with stronger financial support.

ii. To Entrepreneurs- Business entrepreneurs are the ones which lay the foundation of the business, so they are not only burdened with the responsibility of themselves and their families but also of their team, customers and suppliers to be well known and educated in business financial literacy.

Some people simply start a business as they may be technically good at something but they have a lack of financial literacy without which a business fails to prosper. Financial literacy would benefit one with:

• What financial reports actually means and its role in successful running of the business, enabling a person to generate reports with less errors.

• The accurate bookkeeping stands out to be important to generate financial reports which could be used to make comparison between current and previous year performance.

• Financial reports so prepared like- Position statements, income statements, fund flow statement and cash flow statement and other financial ratios by a person would enable one understand the complete picture of one’s business.

• Focusing and adopting financial strategies contributes to the growth of the business.

• Understanding key accounting concepts which helps to take better financial decisions.

• Learn how to better manage debtors and creditors of the company.

• Keeping a check upon the income and expenses so made during the year and thus recording them in a format to represent it to the stakeholders of the company.

• Grabbing the techniques to save time on administrative and operational tasks like- Time Blocking Method, Pickle Jar Theory, Pareto Analysis, etc.

iii. To Business Managers – Managers, the leaders of the business are considered to be the building block of the business acumen. Leaders empowered with financial literacy enables them to make effective decisions and reflecting it through day-to-day choices. A business leader to take informed decisions would require thorough understanding in three fields specifically:

• Financial Reports – Financial reports helps in drafting and reflecting the full picture of the business by preparing primarily 4 different kinds of statements- Balance Sheet (Position statement), Profit & Loss account (Income statement), Cash flow statement (inflow and outflow of cash), Fund Flow statement.

 Balance sheet- Balance sheet shows the position of assets, liabilities and shareholders equities which reflects the amount so originally owned by the business and amount so invested by its investors by the way of equity, debt or preference shares.

Assets- These are the resources which helps in generating current and future economic value for the business firm that owns it. It have further classifications in 2 parts:

o Current assets – these assets can be easily liquidated into cash or exhausted through normal operations within the time gap of one year and thus they are further crumbled down to accounts like: Cash and cash equivalents, Marketable securities, Accounts Receivable, Inventory and Prepaid expenses.

o Non- current or Long- term assets – These are the type of assets which couldn’t be converted with the operating cycle of one year. These accounts include: Fixed assets (property, machinery, land & building), Long term loans and advances, Long term securities, Intangible assets (copyrights, patents).

Liabilities – Liabilities are the obligations that a business owe to others either in form of debt, loan repayments, result of past transactions that sacrifices the economic benefits of future. Its treatment is showed in the balance sheet on the credit side if it increases and on the debit side when it decreases than its original borrowed amount. There exists two types of liabilities:

o Current liabilities – These are short term liabilities which need to be paid back within a year like- Accounts payable( wages, interest, dividends), accrued income.

o Non- current liabilities- Contingent liabilities, bank debt, wages owed, deferred revenue, etc.

 Profit & Loss account – It is the financial statement of the company which summarise the revenue so earned and expenses so incurred during a accounting year. Creditors before joining the firm always scrutinise the income statement to determine the level of risk and returns that they would have. While it is mandatory for the public companies to disclose the statements quarterly and annually and private companies can do the disclosures as per their standards as it is needed for internal management purposes.

 Cash Flow statement – This statement shows the effect of cash inflow and outflow by 3 sub- divisions: operating, financing and investing activities and its impact on position and income statement of the company. It helps in accessing the short term viability of the business.

 Fund Flow statement – This statement helps in figuring out the reason for the flow of funds from one year balance sheet to the next year balance sheet. It even reflects the changes in the working capital of the company. It thus aids in setting financial targets to control the use of company’s finance and developing the strategies to use it effectively.

• Ratios – It helps in evaluating the firms performance by calculating 4 type of ratios:

 Profitability ratios

 Liquidity ratios

 Solvency ratios

 Valuation ratios

• Investment Analysis – It involves researching, analysing and evaluating of a security or a business to estimate its future performance, returns and risks associated. It involves calculations and assessment of investment on the basis of various factors like- past performance, yields and share price movements. It can be done through 2 ways:

 Fundamental Analyses

 Technical Analyses

Financial Literacy is build up with which ingredients?

There exist 5 main components of financial literacy:

a. Interest- Interest can have deep impact upon our finances as compound interest is the amount of interest charged over principal balance of loan plus accrued interest since the last payment which make you get trapped in the web so one should avoid the debt carrying high interests.

b. Budgeting – The most essential component which helps one plan how and where to spend our available and future income efficiently. It is easy to spend the money off which would not only ruin the financial goals but would also land you under high debt if one is reluctant to spend more than one earns. One need to categorise the money for expenses, for retirement contributions and emergency savings in case of contingency.

c. Debt Management – To progress proper planning and management of debt is required to meet the financial goals. High interest borrowings, plastic cards and short term loans are the few type of debts which contributes in crushing down our financial objectives.

d. Savings – One first need to plan for emergency savings to meet the unwanted situations that may rise, then move towards retirement savings to have a relaxing old age.

e. Credit Score- Understanding the credit score is necessary which helps one get low interest rate loans which are determined by various factors like- Payment history, amounts owned, length of credit history, New credit so undertaken.

Conclusion

Financial Literacy involves learning and practicing various concepts and skills so acquired related to budgeting, saving, investment analyses and debt management etc. To lead a stress free life one need to get educated with financial concepts and methods be it managers, business owners or a layman person.