1. Contemporary Financial Management 8th Edition by Moyer, McGuigan, and Kretlow Contemporary Financial Management 8th Edition by Moyer, McGuigan, and Kretlow Prepared by Tom Peacock University of Houston © 2001 South-Western College Publishing

2. Chapter 1 The Role and Objective of Financial Management

3. 3 u How is finance related to other fields of study? u What are the goals and objectives of financial managers? u How has the finance field evolved? u How is the finance field changing today? Questions Faced in Finance

4. 4 Principal Forms of Business Organizations u Sole proprietorship u Partnership u Corporation

5. 5 Sole Proprietorship u Owned by one person u Easy formation advantage u Unlimited liability disadvantage u Difficulty raising funds disadvantage u Represent 75% of all businesses u Account for < 6% of the $ volume

6. 6 Partnership u Owned by two or more persons u Classified as general or limited u Partnership dissolves when a general partner dies

7. 7 Liability of Partners u General Partner Has unlimited liability for all obligations of the business u Limited Partner Liability limited to the partnership agreement

8. 8 Corporation u Limited liability u Permanency u Flexibility u Ability to raise of capital u Legal entity u Have a board of directors u Owners are stockholders u Easy marketability of shares of ownership

9. 9 Stockholders elect a board of directors Board of directors then hire management ( officers )

10. 10 Who Manages ? u Board of directors deals with broad policy u Management makes most of the decisions

11. 11 Stockholder Rights Corporate Securities in Order or Priority Bonds ( highest) Preferred stock Common stock ( C/S ) ( lowest ) DividendAsset VotingPreemptive

12. 12 Optimal Form of Organization Influenced by u Cost u Complexity u Liability u Continuity u Raising capital u Decision making u Tax considerations

13. 13 Shareholder Wealth Maximization (SWM) Objective of the financial manager NOT profit maximization Does not consider time value of money Objectiveof Financial Management ( FM )

14. 14 SWM u Considers the timing and risk of the benefits from stock ownership u Determines that a good decision increases the price of the firm's common stock (c/s) u Is an impersonal objective u Is concerned for social responsibility

15. 15 Social Responsibility u Ethical issues will constantly confront financial managers as they achieve the goal of the firm ( SWM ). u Avoid personal conflicts u Maintain confidentiality u Be objective u Act fairly Managers Must

16. 16 Job security Job security u Management may maximize its own welfare instead of the owners wealth Owners (shareholders) Management and Management and Employees Employees u Problem created by separation of Agency Relationships / Problems

17. 17 Job Security u Management decisions based on retaining management rather than SWM u ExampleA decision to retain suppliers rather than selecting new suppliers providing higher quality or lower cost u Example–A decision to retain suppliers rather than selecting new suppliers providing higher quality or lower cost u WhyIf the transition is mishandled management will be scrutinized but if no change is made the issue will be ignored u Why–If the transition is mishandled management will be scrutinized but if no change is made the issue will be ignored

18. 18 Agency Costs u Management incentives u Monitor performance u Owners protection u Complex organization structures Recent Trends To flatten organization structures to cut costs

19. 19 Problem created by separation of separation of Owners Management A similar problem Owners Creditors Protective covenants Protective covenants in loan agreements in loan agreements

20. 20 Examples of Protective Covenants u Limitations of Common stock dividends u Limitations on additional debts u Not entering into sale and lease back arrangements

21. 21 Shareholder Wealth Maximizing Is a Market Concept and Results in u Maximizing PV of E(R) u Measured by Market Value of C/S

22. 22 3 Basic Factors Determine C/S Market Value u 1) Amount of u 2) Timing of u 3) Risk of Expected cash flows

23. 23 Conditions Affecting Market Value u Economic environment factors u Decisions under management control u Conditions in financial markets u Expected cash flows

24. 24 Competitive Forces Influencing C/S Market Value u New entrants u Substitute products u Bargaining power of buyers u Bargaining power of suppliers u Rivalry among current competitors

25. 25 Cash Flow Concept Used for u Financial analysis u Planning u Resource allocation External sources Cash Internal sources CF does not equal accounting profit

26. 26 NPV of an Investment u NPV = PV of future cash flows minus cash outlays The NPV of an investment represents the contributions of that investment to the value of the firm and passes on to SWM

27. 27 Different Size Businesses Small Business Vs. Large Corporations Fundamental concepts are the same

28. 28 Small Business u Not the dominant firm in the industry u Tend to grow more rapidly u Limited access to financial market u Lack management resources u Have a high failure rate u Stock is not publicly traded u Poorly diversified u Owner/manager frequently the same

29. 29 Controller’s Activities u Financial accounting u Cost accounting u Taxes u Data processing

30. 30 Treasurer’s Activities u Management of cash and marketable securities u Capital budgeting u Financial planning u Credit analysis u Investors relations u Pension fund management

31. 31 EconomicsAccountingMarketingProduction Human Resources Quantitative Analysis Finance Disciplines used in Finance

32. 32 Professional Organizations u Financial Executive Institute u Institute of Charted Financial Analysis u Financial Management Association u Institute of Management Accounting

33. 33 Exciting Career Opportunities in Finance u VP of Finance u Director Investor Relations u Assistant Treasurer u Tax Manager u Financial Analyst u Account Executive Security Broker u Mortgage Analyst u Banking