An Introduction to Financial Management  2002, Prentice Hall, In.

Goal of the Firm 1) Profit Maximization? this goal ignores: a) TIMING of Returns (Time Value of Money ) b) UNCERTAINTY of Returns (Risk )

Goal of the Firm 2) Shareholder Wealth Maximization? this is the same as: a) Maximizing Firm Value b) Maximizing Stock Price

Legal Forms of Business 1) Sole Proprietorship A business owned by a single individual. Owner maintains title to the firm’s assets. Owner has unlimited liability. 2) Partnership Similar to a sole proprietorship, except that there are two or more owners.

2a) General Partnership All partners have unlimited liability. 2b) Limited Partnership Consists of one or more general partners, who have unlimited liability, and One or more limited partners (investors) whose liability is limited to the amount of their investment in the business. Legal Forms of Business

3) Corporation A business entity that legally functions separate and apart from its owners. Owners’ liability is limited to the amount of their investment in the firm. Owners hold common stock certificates, and ownership can be transferred by selling the certificates. Legal Forms of Business

The Corporation and Financial Markets cash Investors Secondary markets Government securities Cash flow reinvest tax Corporation dividends, etc.

CONCEPT OF INVESTMENT Concept of Investment Today’s sacrifice Time value Prospective Gain Financial Investment Extent of liability Uncertainty Impact of time and risk

Varieties of Securities The financial stakes represented by securities are stakes in some – Business – Government – other legal entity

Constituents of a financial system Financial System FinancialFinancialFinancial assets markets intermediaries ForexCapitalMoneyCredit marketmarketmarketmarket Primary market Secondary market

Investment alternatives Financial assets Direct investingindirect investing Mutual Closed endUnit investment funds funds assets Non marketableMoney marketCapital marketDerivative securities Treasury billsFixed incomecommon Stock Corporate Futures Negotiable CDs stock option created Commercial paper Treasuries Repurchase Federal agencies convertibles agreement Municipals warrants Bankers acceptance Corporates Calls Foreign securities Foreign Puts Mortgage pass throughs Preferred Stock

Characteristics of the financial markets Market Purpose Players Regulator Money Market Short-term finance Banks, Govt., FIs,MFs, Central Bank Capital MarketLong-term finance Companies, Banks,FIs,MFs, individuals Eg.,SEC, SEBI Forex Market Foreign Currency finance Banks, companies, Forex dealers Central Bank Credit MarketShort/long Term finance Banks, FIs Central Bank

Intermediaries operating in financial markets Intermediary MarketRole Stock exchangeCapital marketSecondary market for securities Investment bankersCapital market, credit market Corporate advisory services/Issue of securities UnderwritersCapital market, money market Subscribe to unsubscribed portion of securities Registrars, depositoriesCapital marketIssue securities to the investors on behalf of the issuer and handle share transfer activity Primary and secondary dealersMoney marketMarket making in government securities Forex dealersForex marketFacilitate exchange in currencies

Primary and secondary markets Primary market Market in which investors buy newly issued securities and issuers of securities receive the proceeds from the sale. Secondary market Market where previously issued securities are traded among the investors.

Money Market Market Characteristics – Wholesale debt market – Market for low risk, highly liquid, short term instruments – Funds can be raised in this market for periods ranging from one day to one year Players in the market – Government – the biggest borrower – Banks – Financial Institutions – Corporations – Mutual funds – Market makers

Money Markets Government & Quasi-Government securities – Treasury bills, notes and bonds – Municipal Notes Banking sector securities – Call money – interbank funds – Negotiable Certificates of Deposit – Bankers Acceptance Corporate sector securities – Commercial paper

The Capital Market Market for financing long term investments Basic instruments for raising finance are shares of stock (equity) and bonds Issues are sold to the investing public in the primary market, through investment bankers- firms that originate, bear the risk of and distribute non-government security issues. Stocks and bonds issued in the primary market are traded in the secondary market.

The issuance process for new securities in the primary market Issuer Originating invt. banks Underwriting syndicate of investment banks Selling group composed of Underwriting syndicate plus any selected retail brokerage houses Investors

SECONDARY MARKET TRANSACTION HOW A TRADE IS MADE Buyer Broking Firm Order Seller Broking Firm Order Clearing House/Depository Bid/Ask Trade Execution Floor Broker Floor Broker Broking firm Broker endorses order & returns to firm Trade confirmation/ Settlement Trade confirmation/ Settlement

Secondary Markets Types of securitiesWhere traded Equity markets (common stock, Organized exchanges - NSE, BSE, preferred stock, rights & warrants) Regional exchanges Over the Counter Third market, fourth market Bond Markets Over-the-counter (Treasuries, agencies, NYSE & ASE (a relatively small amount) municipals, corporates) Organized exchanges Chicago Board Options Exchange Derivatives American Stock Exchange (Options & Futures) Pacific Stock Exchange Philadelphia Stock Exchange,NYSE

Financial Management Axioms 1) Risk - return trade-off 2) Time value of money 3) Cash - not profits - is king 4) Incremental cash flows count 5) The curse of competitive markets 6) Efficient capital markets 7) The agency problem 8) Taxes bias business decisions 9) All risk is not equal 10) Ethical dilemmas are everywhere in finance