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Finance 303

wealth
the economic value of the assets someone possesses
stakeholder
Someone other than a owner or creditor who potentially has a claim on the cash flows of the firm., including employees, creditors, suppliers and the government
productive assets
long term assets: !) tangible assets such as equipment, manufacturing facility. 2)Intangible assets-patents, expertise intellectual capital
capital budgeting
the decision making process which the firm uses to purchase long term productive assets.
Financial decisions
are concerned with the ways in which firms obtain and manage long term financing to acquire and support thier productive assets
two basic sources of funds
debt and equity
equity
consists of capital contributions by the owners plus cash flows that have been reinvested in the firm. Most firms borrow from the bank of issue long term debt to finance productive assets.
working capital managements
the management of current assets such as money owed to customers who purchase on credit, inventory and current liabilities, such as money owed to suppliers. management of short term assets and liabilities.
when is a firm successful
when its cash inflows exceed its cash outflows needed to pay expenses, creditors and taxes.
residual cash flows
The remaining cash after meetings its obligations of expenses, the firm can pay the owners with this money as a dividend or can reinvest the cash in the business. The reinvestment of cash flows if the most fundamental way that a business can grow in size. ( Exhibit 1.1 p. 3)
bankruptcy
legally declared inability to pay its creditors. A company will be reorganized or its assets liquidated ( which ever is more valuable) if liquidated the creditors are paid first,a according to the structure of the fin. contracts and bankruptcy laws. If anything is left over that is given to the owners
Three fundamental decisions in Financial Management
1)Capital Budgeting
2)Financing decisions
3) working capital management
Capital budgeting
A list of productive assets a firm wants to buy over a budget cycle, 1 year period usually.Addresses what to buy and how much to invest. Affect the ASSET side of the balance sheet. These decisions have a large impact on the business. First capital ( productive assets ) assets generate most of the cash flow. The firm will own them for a long time and they may be hard to resell without taking a loss.
Sound investment
Are those where the value of the benefits exceeds their cost.
debt financing
A major advantage is the debt payments are tax deductible for many corporations. However they increase a firm’s risk, due to creating contractual obligation to make periodic interest payments and at maturity repay what was borrowed. If not the firm may go into bankruptcy.
equity investment
a major advantage is that equity has not maturity date and there are no guaranteed payments to equity holders. In a corporation the board of directors has the right to decide if dividends are paid to stockholders. No defaults of dividends payments are reduced of omitted. Dividends payments are not tax deductible.
capital structure
the mix and debt and equity on the balance sheet.
capital markets
funds raised for long term funds are considered capital and are raised in capital markets.
net working capital
the dollar difference between the firms totals assets and it’s total liabilities. (Exhibit 1.2 , p. 4). Mismanagement can cause a firm into default if i does not collects its accounts receivable. ALso if it has too much or too little inventory.
sole proprietorship
a business owned by one person.
Advantages-simplest type of business and least regulated, keep all profits and do not have to share management authority.
Disadvantages-has to pay all its debts and has unlimited liability for all debt.Creditors can look beyond the proprietor’s business assets and into his personal wealth. it is hard to transfer ownership-no stock
partnership
consists of two or more people who have joined legally to manage a business. Each enter into an agreement about managements , profits, in even of death of a partner and contribution and roles of each partner.
general partnership
has the same advantages and disadvantages of a sole proprietorship.
limited partnership
the problem of unlimited liability can be solved by forming a limited partnership, which consists of general and limited partners. each limited partner has obligations only of to the amount they have invested. They cannot be actively engaged in managing the business.
corporations
A legal entity organized under a state charter. ( or it is a person distinct of its owners). They can sue, or be sued, borrow money, own assets.They can be general or limited partners in other partnerships and can own stock in other corporations. 15 % of businesses are corporations but hold 90 % of revenues and 80% of profits on the USA. Corporations can be public or private. most are public since large amounts of capital can be raised in public markets at low costs .
forming a corporation
more costly. Must file articles of incorporation and by laws that conform to the laws of the state of the incorporation. These documents spell out the name of the corporation, its purpose, its intended life span, amount of stock issued, the # of directors and responsibilities.
Avantage of corporations
Stockholders have limited liabilities for debts.
disadvantage of corporations
taxes. because corporation is its own person it must pay taxes on its income. if it pays dividend then the stockholders pay taxes on the dividend as income. Thus the corporations are subject to double taxation.. First at the corporate level then at the personal.
corporate veil
corporate veil of limited liabilities exists because corporations are legal persons and borrow money on their names, not in the names of individual owners.
public market
such as the NYSE and NASDAQ are regulated by the federal Securities and Exchange Commission ( SEC).
privately held, or closely held
Owned by small number of investors and their shares are not traded publicly. Typically when a corporation is first formed it is privately owned, as it needs more capital it “goes public” to gain access to public markets.
Subscriber S corporation
Advantage in forming a private business as such is that stockholders receive all the benefits of a corporation while avoiding double taxation. They a re taxed as the partners in a partnership. Public corporation cannot be S corporations because S corporations can only have up to 100 stockholders.
limited liability partnership ( LLP )
An LLP combines the limited liability of a corporation with tax advantage of a partnership. All income to partners of LLP is taxed as personal income, partners have limited liability for the business and they are personally liable for other partner’s malpractice or professional misconduct. ( recent organizational forms of LLPs are LLCs and PCs )
chief financial officer CFO
the senior financial manager or vice president. In a smaller firms the job tends to accounting functions the top financial officer may be called the controller or chief accountant.( exhibit 1.3 p. 9)-structure of corporations. CFO reports to CEO, CEO reports to the board of directors. Many positions report to the CFO
positions reporting to the CFO
Treasurer-looks after collections and disbursement of cash, investing extra cash, raising new capital, overseeing pension funds. Assists CFO in handling Wall Street partnership such as with investment banks and credit rating agencies.
risk manager
manages and monitors the firm’s risk exposure in financial and commodity markets and the firm’s relationships with insurance providers.
The controller
the firm’s chief accounting officer. His staff prepares financial statements and taxes, maintain the firm’s accounting cost systems.
internal auditor
responsible for identifying and assessing major risks facing the firm and performing audits in areas where the firm might inccur losses. the iNternal auditor reports to the CFO.
External Auditors
are hired yearly by corporations to see if the firms financial statements have been presented accurately
audit committee
oversees accounting functions
conducts investigation in fraud, theft
works with the CFO
external auditors work with CFO too
Compliance ethics director
oversees three programs
-a compliance program that ensure the firm follows fed and state laws
-an ethics program that promotes ethical conduct
-a compliance hotline a whistle blower protection
what shouldn’t management maximize
-low costs
-market share
-profits
what should management maximize
the value of the firm’s stock.Analysts consider:
-the size of the expected cash flows
-the timing of the cash flows
-the riskiness of the cash flows
For privately held firm they maximize the owner’s equity.
can management affect stock price ?
Yes . internal ( how cash flows are affected-ad. what products) and external factors( war, inflation). Firms with a better business strategy have a higher stock prices. p. 13 fig 1.4
agency relationship
when the principal hires a n agent to perform its duties and conflict of interest arises between the two.
agency costs
the costs arising from conflicts between a principal and an agent, between a firm’s owner its its management. ex. lavish dinners, trips.
aligning the interest of management to shareholders
-board of directors
-management comp
-managerial labor market
-other managers
-large stockholders
-the take over market
-the legal and regulatory market
sarbanes oxley or 2002
focuses on
-reducing agency costs in corporations
-restoring ethical conduct withing business sector
-improving the integrity of accounting reporting systems within firms.
Plus implement 5 overarching strategies:Ensure greater board independence, establish internal accounting controls, establish compliance programs, establish an ethics program, expand the audit committee’s oversight powers. p.17
informational asymmetry
An informational asymmetry is present when one party to a transaction has more information than another about the characteristics of the good or service to be traded.

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