1 - 0 Copyright © 2002 by Harcourt, Inc.All rights reserved. CHAPTER 1 An 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

1 - 1 Copyright © 2002 by Harcourt, Inc.All rights reserved. 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? What three questions does financial management seek to answer?

1 - 2 Copyright © 2002 by Harcourt, Inc.All rights reserved. Institutions and capital markets Investments Financial management Career Opportunities in Finance

1 - 3 Copyright © 2002 by Harcourt, Inc.All rights reserved. Sole proprietorship Partnership Corporation Alternative Forms of Business Organization

1 - 4 Copyright © 2002 by Harcourt, Inc.All rights reserved. Advantages: Ease of formation Subject to few regulations No corporate income taxes Disadvantages: Limited life Unlimited liability Difficult to raise capital Sole Proprietorship

1 - 5 Copyright © 2002 by Harcourt, Inc.All rights reserved. A partnership has roughly the same advantages and disadvantages as a sole proprietorship. Partnership

1 - 6 Copyright © 2002 by Harcourt, Inc.All rights reserved. Advantages: Unlimited life Easy transfer of ownership Limited liability Ease of raising capital Disadvantages: Double taxation Cost of set-up and report filing Corporation

1 - 7 Copyright © 2002 by Harcourt, Inc.All rights reserved. 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. Goals of the Corporation

1 - 8 Copyright © 2002 by Harcourt, Inc.All rights reserved. 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

1 - 9 Copyright © 2002 by Harcourt, Inc.All rights reserved. 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

Copyright © 2002 by Harcourt, Inc.All rights reserved. Amount of cash flows expected by shareholders Timing of the cash flow stream Risk of the cash flows Factors that Affect Stock Price

Copyright © 2002 by Harcourt, Inc.All rights reserved. Sales Current level Short-term growth rate in sales Long-term sustainable growth rate in sales Operating expenses Capital expenses Three Determinants of Cash Flows

Copyright © 2002 by Harcourt, Inc.All rights reserved. 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

Copyright © 2002 by Harcourt, Inc.All rights reserved. Use of computers and electronic transfers of information The globalization of business Financial Management Issues of the New Millenium

Copyright © 2002 by Harcourt, Inc.All rights reserved. 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 Agency Relationships

Copyright © 2002 by Harcourt, Inc.All rights reserved. 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 Shareholders versus Managers

Copyright © 2002 by Harcourt, Inc.All rights reserved. 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. Shareholders versus Creditors