Financial Management Economics and Management School Lanzhou University of Technology Yan Fu-hai CPA, FPNA,Professor

Part One Introduction to Financial Management

Learning Objectives Understand the definition of financial management Know the target of financial management Describe function and tasks of financial management Know Financial management system and financial management environment

What is Financial management? At the macro level, finance is the study of financial institutions and financial markets and how they operate within the financial system in both the U.S. and global economies. At the micro level, finance is the study of financial planning, asset management, and fund raising for businesses and financial institutions. Financial management can be described in brief using the following balance sheet.

What is Financial management? A well-developed financial system is a hallmark and essential characteristic of any modern developed nation. Financial markets, financial intermediaries, and financial management are the important components. Financial markets and financial intermediaries facilitate the flow of funds from savers to borrowers. Financial management involves the efficient use of financial resources in the production of goods.

What is Financial management? Working Capital Working Capital Investment Decisions Financing Decisions Macro Finance

1-7 What is Financial management Some important questions that are answered using finance –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?

1-8 What is Financial management Financial managers try to answer some or all of these questions The top financial manager within a firm is usually the Chief Financial Officer (CFO) –Treasurer – oversees cash management, credit management, capital expenditures and financial planning –Controller – oversees taxes, cost accounting, financial accounting and data processing

1-9 Financial Management Decisions Capital budgeting –What long-term investments or projects should the business take on? Capital structure –How should we pay for our assets? –Should we use debt or equity? Working capital management –How do we manage the day-to-day finances of the firm?

1-10 Forms of Business Organization Three major forms in China –Sole proprietorship –Partnership General Limited –Corporation S-Corp Limited liability company

1-11 Sole Proprietorship Advantages –Easiest to start –Least regulated –Single owner keeps all the profits –Taxed once as personal income Disadvantages –Limited to life of owner –Equity capital limited to owner’s personal wealth –Unlimited liability –Difficult to sell ownership interest

1-12 Partnership Advantages –Two or more owners –More capital available –Relatively easy to start –Income taxed once as personal income Disadvantages –Unlimited liability General partnership Limited partnership –Partnership dissolves when one partner dies or wishes to sell –Difficult to transfer ownership

1-13 Corporation Advantages –Limited liability –Unlimited life –Separation of ownership and management –Transfer of ownership is easy –Easier to raise capital Disadvantages –Separation of ownership and management –Double taxation (income taxed at the corporate rate and then dividends taxed at the personal rate)

1-14 Goal Of Financial Management What should be the goal of a corporation? –Maximize profit? –Minimize costs? –Maximize market share? –Maximize the current value of the company’s stock? Does this mean we should do anything and everything to maximize owner wealth?

1-15 The Agency Problem Agency relationship –Principal hires an agent to represent his/her interest –Stockholders (principals) hire managers (agents) to run the company Agency problem –Conflict of interest between principal and agent Management goals and agency costs

1-16 Managing Managers Managerial compensation –Incentives can be used to align management and stockholder interests –The incentives need to be structured carefully to make sure that they achieve their goal Corporate control –The threat of a takeover may result in better management Other stakeholders

1-17 Work the Web Example The Internet provides a wealth of information about individual companies One excellent site is finance.yahoo.com Click on the web surfer to go to the site, choose a company and see what information you can find!

Corporate Organization

The Managerial Finance Function The size and importance of the managerial finance function depends on the size of the firm. In small companies, the finance function may be performed by the company president or accounting department. As the business expands, finance typically evolves into a separate department linked to the president.

The Managerial Finance Function The field of finance is actually an outgrowth of economics. In fact, finance is sometimes referred to as financial economics. Financial managers must understand the economic framework within which they operate in order to react or anticipate to changes in conditions. Relationship to Economics

The Managerial Finance Function The primary economic principal used by financial managers is marginal analysis which says that financial decisions should be implemented only when benefits exceed costs. Relationship to Economics

The Managerial Finance Function The firm’s finance (treasurer) and accounting (controller) functions are closely-related and overlapping. In smaller firms, the financial manager generally performs both functions. Relationship to Accounting

The Managerial Finance Function One major difference in perspective and emphasis between finance and accounting is that accountants generally use the accrual method while in finance, the focus is on cash flows. The significance of this difference can be illustrated using the following simple example. Relationship to Accounting

The Managerial Finance Function Relationship to Accounting The Zasloff Corporation experienced the following activity last year: Sales: $100,000 (50% still uncollected) Cost of Goods:$ 60,000 (all paid in full under supplier terms) Expenses: $ 30,000 (all paid in full) Now contrast the differences in performance under the accounting method versus the cash method.

The Managerial Finance Function Relationship to Accounting INCOME STATEMENT SUMMARY ACCRUAL CASH Sales $100,000 $ 50,000 -COGS (60,000) (60,000) Gross Margin $ 40,000 $(10,000) -Expenses (30,000) (30,000) Net Profit/(Loss) $ 10,000 $(40,000)

The Managerial Finance Function Finance and accounting also differ with respect to decision-making. While accounting is primarily concerned with the presentation of financial data, the financial manager is primarily concerned with analyzing and interpreting this information for decision-making purposes. The financial manager uses this data as a vital tool for making decisions about the financial aspects of the firm. Relationship to Accounting

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