Introduction To Corporate Finance

Introduction To Corporate Finance

Key Concepts and Skills

Ø   Know the basic types of financial management decisions and the role of the financial manager

Ø   Know the financial implications of the different forms of business organization

Ø   Know the goal of financial management

Ø   Understand the conflicts of interest that can arise between owners and managers

Ø   Understand the various types of financial markets

Chapter 1: Outline

Ø          What is Finance?

Ø          Corporate Finance and the Financial Manager

Ø          Forms of Business Organization

Ø          The Goal of Financial Management

Ø          The Agency Problem and Control of the Corporation

Ø          Financial Markets and the Corporation

What is Finance?

Ø  The art and science of managing money.

Corporate Finance

Ø  Some important questions that are answered using finance

l   What long-term investments should the firm take on?

l   Where will we get the long-term financing to pay for the investment?

l   How will we manage the everyday financial activities of the firm?

Corporate Finance

Ø  Corporate Finance, broadly speaking, is the study of ways to answer these three questions.

Financial Manager

Ø   Financial managers try to answer some or all of these questions

Ø   The top financial manager within a firm is usually the Chief Financial Officer (CFO)

l    Treasurer – oversees cash management, credit management, capital expenditures, and financial planning

l    Controller – oversees taxes, cost accounting, financial accounting and data processing

Financial Management Decisions

Ø  Capital budgeting

l   What long-term investments or projects should the business take on?

l   The process of planning and managing a firm’s investments in fixed assets.

l   The key concerns are the size, timing and riskiness of future cash flows.

l   To identify investment opportunities that are worth more to the firm than they cost to acquire.

Financial Management Decisions

Ø  Capital structure

l   How should we pay for our assets?

l   Mix of debt (borrowing) and equity (ownership interest) used by a firm.

l   What are the least expensive sources of funds?

l   Is there an optimal mix of debt and equity?

l   When and where should the firm raise funds?

Financial Management Decisions

Ø  Working capital management

l   How do we manage the day-to-day finances of the firm?

l   Managing short-term assets and liabilities.

l   How much inventory should the firm carry?

l   What credit policy is best?

l   Where will we get our short-term loans?

Forms of Business Organization

Ø  Three major forms in the United States

l   Sole proprietorship

l   Partnership

•   General

•   Limited

l   Corporation

•   S-Corp

•   Limited liability company

Sole Proprietorship

Ø   Advantages

l    Easiest to start

l    Least regulated

l    Single owner keeps all the profits

l    Taxed once as personal income


Ø   Advantages

l    Two or more owners

l    More capital available

l    Relatively easy to start

l    Income taxed once as personal income


Ø   Advantages

l    Limited liability

l    Unlimited life

l    Separation of ownership and management

l    Transfer of ownership is easy

l    Easier to raise capital

Goal Of Financial Management

Ø   What should be the goal of a corporation?

l    To survive?

l    Avoid financial distress and bankruptcy?

l    Beat the competition?

l    Maximize profit?

l    Minimize costs?

l    Maximize sales or market share?

l    Maintain steady earnings growth?

Ø   Does this mean we should do anything and everything to maximize owner wealth?

Goal Of Financial Management

Ø   To maximize the current value per share of the existing stock.

The Agency Problem

Ø   Agency relationship

l    Principal hires an agent to represent his/her interests

l    Stockholders (principals) hire managers (agents) to run the company

Ø   Agency problem

l    Conflict of interest between principal and agent

Ø   Management goals and agency costs

Managing Managers

Ø   Managerial compensation

l    Incentives can be used to align management and stockholder interests

l    The incentives need to be structured carefully to make sure that they achieve their goal

Ø   Corporate control

l    The threat of a takeover may result in better management

Ø   Other stakeholders

Work the Web Example

Ø   The Internet provides a wealth of information about individual companies

Ø   One excellent site is

Ø   Click on the web surfer to go to the site, choose a company and see what information you can find!

Financial Markets

Ø  Cash flows to the firm

l   A. Firm issues securities to raise cash.

l   B. Firm invests in assets.

l   C. Firm’s operations generate cash flow.

l   D. Cash is paid out to govt. as taxes.

l   E. Cash reinvested in the firm.

l   F. Dividends and debt payments are made.

Ø  Primary vs. secondary markets