the goals and functions of financial management chapter 1
TRANSCRIPT
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The Goals and Functions of
Financial Management
Chapter 1
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Chapter 1 - Outline
Introduction to FinanceShort-Term vs. Long-Term Financing
DecisionsRisk-Return Trade-OffFinancial vs. Real CapitalStocks vs. BondsForms of OrganizationGoals of Financial ManagementCorporate Governance
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Finance Is a Combination of Accountingand Economics
Financial Management (or Business Finance) is concerned with managing a corporation’s money
For example, a company must decide:–where to invest its money– whether or not to replace an old asset– when to issue new stocks and bonds– whether or not to pay dividends
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Relationship between Finance, Economics and Accounting
1-4
Economics provides structure for decision making in many important areas− Provides a broad picture of economic
environmentAccounting provides financial data in
various formsIncome statementsBalance sheetsStatement of cash flows
Finance links economic theory with the numbers of accounting
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Financial Management
1-5
Financial management or business finance is concerned with managing an entity’s money
Functions:Allocate funds to current and fixed assetsObtain the best mix of financing alternativesDevelop an appropriate dividend policy
within the context of the firm’s objectives
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FIGURE 1-1Functions of thefinancial manager
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Short-Term vs. Long-TermFinancing
Working Capital is concerned with short-term (S/T) financing decisions <1 yearex., managing cash and other current assets
Capital Budgeting is concerned with long-term (L/T) financing decisions >1 yearex., purchasing a new machine in the future
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The Risk-Return Tradeoff
Profitability Risk Profitability Risk
ex., investing in stocks vs.savings accountsStocks are more profitable but riskierSavings accounts are less profitable and less
risky(or safer)
Financial manager must choose appropriate combinations
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Financial capital vs.Real capital
Financial Capital (or Accounting Capital) = money
Real Capital (or Economic Capital) =
plant and equipment
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Stocks vs. Bonds
Stock = ownership or equityStockholders own the company
Bond = debt or IOUBondholders are owed $ by company
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Forms of Organization
Sole Proprietorship (one owner) - largest in actual number but smallest in total sales revenue
Partnership (two or more owners)
Corporation (legal entity unto itself) - smallest in actual number but largest in total sales revenue
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Sole Proprietorship
1-12
Represents single-person ownership Advantages:
Simplicity of decision-makingLow organizational and operational costs
DrawbacksUnlimited liability to the ownerProfits and losses are taxed as though they
belong to the individual owner
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Partnership
1-13
Similar to sole proprietorship except there are two or more ownersArticles of partnership specifies:
The ownership interestThe methods for distributing profitsThe means of withdrawing from the partnership
Carries unlimited liability for the owners
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Partnership (cont’d)
1-14
Limited partnershipOne or more partners are designated general
partners and have unlimited liability for the debts of the firm
Other partners designated limited partners and are liable only for their initial contribution
Not all financial institutions will extend funds to a limited partnership
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Corporation
1-15
CorporationIs unique—it is a legal entity unto itself− Articles of incorporation− Specify the rights and limitations of the entity
− Owned by shareholders who enjoy the privilege of limited liability
− Has a continual life− Key feature− Easy divisibility of ownership interest by
issuing shares of stock
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Corporation (cont’d)
1-16
Disadvantage:The potential of double taxation of earnings
Subchapter S corporationIncome is taxed as direct income to
stockholders and thus is taxed only once as normal income
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Goals of Financial Management
Maximizing Shareholder Wealth
Corporate Social Responsibility
Ethical Behavior
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Social Responsibility
1-18
Adopting policies that:Maximize values in the market Attracts capitalProvides employmentOffers benefits to the society
Certain cost-increasing activities may have to be mandatory rather than voluntary initially, to ensure burden falls equally over all business firms
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Corporate Governance
1-19
Agency theoryExamines the relationship between the
owners and managers of the firmInstitutional investors
Have more to say about the way publicly owned companies are managed
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Sarbanes-Oxley Act
1-20
Set up a five-member Public Company Accounting Oversight Board (PCAOB) with responsibility for:Auditing standards within companiesControlling the quality of auditsSetting rules and standards for the independence
of the auditorsMajor focus is to make sure that publicly-
traded corporations accurately present theirAssetsLiabilitiesEquity and income on their financial statements