CHAPTER 1 An Overview of Financial Management

1. CHAPTER 1An Overview of Financial Management • Role of financial management • Career opportunities • Forms of business organization • Goals of the corporation • Issues of the new millenium • Agency relationships

2. What three questions does financial management seek to answer? • What causes a company to have a particular stock value? • How can managers make choices that add value to their companies? • How can managers ensure that their companies don’t run out of cash while executing their plans?

3. Career Opportunities in Finance • Institutions and capital markets • Investments • Financial management

4. Alternative Forms of Business Organization • Sole proprietorship • Partnership • Corporation

5. Sole Proprietorship • Advantages: • Ease of formation • Subject to few regulations • No corporate income taxes • Disadvantages: • Limited life • Unlimited liability • Difficult to raise capital

6. Partnership • A partnership has roughly the same advantages and disadvantages as a sole proprietorship.

7. Corporation • Advantages: • Unlimited life • Easy transfer of ownership • Limited liability • Ease of raising capital • Disadvantages: • Double taxation • Cost of set-up and report filing

8. Goals of the Corporation • The primary goal is shareholder wealth maximization, which translates to maximizing stock price. • Should firms behave ethically? YES! • Do firms have any responsibilities to society at large? YES! Shareholders are also members of society.

9. Is maximizing stock price good for society, employees, and customers? • Employment growth is higher in firms that try to maximize stock price. On average, employment goes up in: • firms that make managers into owners (such as LBO firms) • firms that were owned by the government but that have been sold to private investors

10. Consumer welfare is higher in capitalist free market economies than in communist or socialist economies. • Fortune lists the most admired firms. In addition to high stock returns, these firms have: • high quality from customers’ view • employees who like working there

11. Factors that Affect Stock Price • Amount of cash flows expected by shareholders • Timing of the cash flow stream • Risk of the cash flows

12. Three Determinants of Cash Flows • Sales • Current level • Short-term growth rate in sales • Long-term sustainable growth rate in sales • Operating expenses • Capital expenses

13. Factors that Affect the Level and Risk of Cash Flows • Decisions made by financial managers: • Investment decisions (product lines, production processes, geographic market, use of technology, marketing strategy) • Financing decisions (choice of debt policy and dividend policy) • The external environment

14. Financial ManagementIssues of the New Millenium • Use of computers and electronic transfers of information • The globalization of business

15. Agency Relationships • An agency relationship exists whenever a principal hires an agent to act on his or her behalf. • Within a corporation, agency relationships exist between: • Shareholders and managers • Shareholders and creditors

16. Shareholders versus Managers • Managers are naturally inclined to act in their own best interests. • But the following factors affect managerial behavior: • Managerial compensation plans • Direct intervention by shareholders • The threat of firing • The threat of takeover

17. Shareholders versus Creditors • Shareholders (through managers) could take actions to maximize stock price that are detrimental to creditors. • In the long run, such actions will raise the cost of debt and ultimately lower stock price.