Introduction to Financial Management P V Viswanath Based

Introduction to Financial Management P. V. Viswanath Based partly on slides from Fundamentals of Corporate Finance Brealey, Myers and Marcus, 4 th ed.

Key Concepts and Skills w Know the basic types of financial management decisions and the role of the financial manager w Know the goal of financial management w Know the financial implications of the different forms of business organization w Understand the conflicts of interest that can arise between owners and managers P. V. Viswanath 2

Chapter Outline w w w Finance: A Quick Look Forms of Business Organization Business Finance and The Financial Manager The Goals of the Corporation The Agency Problem and Control of the Corporation Financial Markets and the Corporation P. V. Viswanath 3

Organizing a Business P. V. Viswanath 4

Corporation w Advantages n n n w Disadvantages Limited liability Unlimited life Separation of ownership and management Transfer of ownership is easy Easier to raise capital P. V. Viswanath n n Separation of ownership and management Double taxation (income taxed at the corporate and then dividends taxed at personal rate) 5

Why Study Finance? w Marketing n Budgets, marketing research, marketing financial products w Accounting n Dual accounting and finance function, preparation of financial statements w Management n Strategic thinking, job performance and profitability w Personal finance n Budgeting, retirement planning, college planning, day-to-day cash flow issues P. V. Viswanath 6

The Role of The Financial Manager (2) Firm's operations Real assets (1) Financial Manager (4 a) Investors (4 b) (3) (1) Cash raised from investors (2) Cash invested in firm (3) Cash generated by operations (4 a) Cash reinvested (4 b) Cash returned to investors P. V. Viswanath 7

What questions does finance answer? w Some important questions that are answered using finance n n n What long-term investments should the firm take on? Where will we get the long-term financing to pay for the investment? How will we manage the everyday financial activities of the firm? P. V. Viswanath 8

Financial Managers w The top financial manager within a firm is usually the Chief Financial Officer (CFO). Under the CFO, we have: n n Treasurer – oversees cash management, credit management, capital expenditures and financial planning Controller – oversees taxes, cost accounting, financial accounting and data processing P. V. Viswanath 9

Financial Management Decisions w Capital budgeting n What long-term investments or projects should the business take on? w Capital structure n n How should we pay for our assets? Should we use debt or equity? w Working capital management n How do we manage the day-to-day finances of the firm? P. V. Viswanath 10

Goal Of Financial Management w What should be the goal of a corporation? n n Maximize profit? Minimize costs? Maximize market share? Maximize the current value of the company’s stock? w General guide: Maximize shareholder wealth, keeping in mind the effects on firm value. w Does this mean we should do anything and everything to maximize owner wealth? P. V. Viswanath 11

The Agency Problem w Agency relationship n n Principal hires an agent to represent their interest Stockholders (principals) hire managers (agents) to run the company w Agency problem n Conflict of interest between principal and agent w Management goals and agency costs P. V. Viswanath 12

Managing Managers 1 - Compensation plans: Incentives can be used to align management and stockholder interests 2 - Board of Directors 3 – Takeovers: The threat of a takeover may result in better management 4 - Specialist Monitoring 5 - Auditors P. V. Viswanath 13

Financial Markets Money Primary OTC Markets Secondary Markets P. V. Viswanath 14

Funding Sources & Financial Markets w Internally Generated Cash flows n Cash generated by the business is retained and reinvested as long as positive value-adding projects can be found. w Primary and secondary markets n n Dealer vs. auction markets Listed vs. over the counter securities l l NYSE NASDAQ P. V. Viswanath 15

Funding Sources & Financial Markets §Financial Intermediaries – raise money from investors and provide financing for companies. w. Mutual Funds – raise money by selling shares to investors w. Financial Institutions – raise financing in special ways w. Banks – raise financing by accepting deposits; they also provide other financial services. w. Insurance Companies – they raise money by selling insurance policies. P. V. Viswanath 16

Functions of Financial Markets and Intermediaries w w w Transporting Cash across time Liquidity Payment Mechanism (e. g. checks) Reducing Risk Providing Information, which firms use to n n n Hedge Make financing decisions Align employee goals with stockholder goals. P. V. Viswanath 17