1. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Chapter Sixteen Financial Management and Securities Markets

2. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Current Assets and Current Liabilities Current assets: Financial resources that can be converted to cash within a year. –Cash –Marketable securities –Accounts receivable –Inventory Current assets: Financial resources that can be converted to cash within a year. –Cash –Marketable securities –Accounts receivable –Inventory Current Liabilities: Short-term debt obligations that must be paid within a year. –Accounts payable –Wages payable –Taxes payable –Notes (loans) payable Current Liabilities: Short-term debt obligations that must be paid within a year. –Accounts payable –Wages payable –Taxes payable –Notes (loans) payable

3. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Managing Current Assets and Liabilities Working Capital Management Managing Current Assets: –Short-term resources: cash, investments, accounts receivable, inventory Managing Current Liabilities: –Short-term debts: accounts payable, accrued salaries, accrued taxes, short- term bank loans

4. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Managing Current Assets Managing Cash: –Cash flow –Transaction balances –Lockbox

5. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Managing Current Assets Investing Idle Cash: –Marketable securities –US Treasury bills (T-bills) –Commercial certificates of deposit (CDs) –Commercial paper –International investments – the Eurodollar

6. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Short-term Investment Possibilities for Idle Cash

7. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Maximizing Accounts Receivable Accounts Receivable: –Money owed to a business by credit customers. –Typically due within 30, 60, or 90 days. –1-2% discount if paid between 10 and 30 days –1-1.5% penalty charged if paid late

8. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Maximizing Accounts Receivable Optimizing Inventory –The objective is to maximize inventory investment without production cutbacks because of materials shortfalls or lost sales due to insufficient finished goods inventories.

9. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Maximizing Current Liabilities Accounts Payable: –Managing cash collections –Managing trade credit Taking advantage of discounts – “1/10 net 30”

10. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Bank Loans Line of CreditAn arrangement by which a bank agrees to lend a specified amount of money to an organization upon request. Secured LoansLoans backed by collateral that the bank can claim if the borrowers do not repay the debt.

11. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Bank Loans Unsecured LoansLoans backed only by the borrowers’ good reputation and previous credit rating Prime RateInterest rates commercial banks charge their best customers (usually large corporations) for short- term loans

12. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Non-Bank Liabilities Short-term loans from insurance companies, pension funds, money market funds, or finance companies The Eurodollar and commercial paper markets Factoring – selling accounts receivable at a discount

13. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Managing Fixed Assets Long-term (fixed) assets: –Plants –Offices –Equipment –Heavy machinery –Automobiles

14. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Managing Fixed Assets Capital Budgeting: –Analyzing business’ needs and selecting the assets that will maximize its value. Assessing Risk

15. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Qualitative Assessment of Capital Budgeting Risk Introduce a New Product in a Familiar Area Introduce a New Product in Foreign Markets (risk depends on stability of country) Expand into a New Market Add to a Product Line Buy New Equipment for an Established Market Repair Old Machinery Highest Risk Lowest Risk

16. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. The Impact of Organizational Performance on Investment Decisions 15% 14%12% 14%

17. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Pricing Long-term Money Factors to Consider: –How much cash will be generated –Cost of financing –Supply of funds available for investment –Accurately identifying opportunities with the greatest potential for ROI

18. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Financing with Long-Term Liabilities Debts that will be repaid over a number of years, such as long-term loans and bond issues. –Equity Financing –Debt financing

19. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Bonds: Corporate IOUs Bonds: –Debt instruments that larger companies sell to raise long-term funds. –Indenture: The bond contract specifying all terms of agreement between bondholder and the issuing organization

20. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. A Basic Bond Quote

21. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Types of Bonds UnsecuredDebentures, or bonds, that are not backed by specific collateral SecuredBonds that are backed by specific collateral that must be forfeited in the event the issuing firm defaults SerialA sequence of small bond issues of progressively longer maturity

22. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Types of Bonds Floating-rateBonds with interest rates that change with current interest rates otherwise available in the economy JunkSpecial type of high interest rate bond that carries higher inherent risks

23. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Financing With Owners’ Equity Owners’ Equity: –The owners’ investment in an organization. Cash Common Stock Retained Earnings

24. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. A Basic Stock Quote

25. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Investment Banking Investment Banking: –The sale of stocks and bonds for corporations. New Issue Initial Public Offering (IPO) –Primary Market – used to raise capital –Secondary Market – stock exchanges and OTC markets where investors trade securities with each other

26. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. The Securities Markets Securities Markets: –The mechanism for buying and selling securities. Organized Exchanges –Central locations where investors buy and sell securities. Over-the-counter Market (OTC) –A network of dealers all over the country, and world, linked by computers, telephones, and Teletype machines

27. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Measuring Market Performance The Investor’s Key Question: –“How well are my investments performing relative to the market as a whole?”

28. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Measuring Market Performance Indexes Averages A Bull Market A Bear Market FAST FACT: Online investing is the fastest growing area in personal finance management. The number of online investment accounts grew to 20.5 billion in 2001. Source: Dave Pettit, “Still Clicking,” Wall Street Journal, June 11, 2001, p. R4.

29. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. The 30 Stocks in the Dow Jones Industrial Average

30. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Dow’s Milestones The Dow climbed from 860 in August 1982 to a high of 11,497 at the beginning of 2000. The worst drop in history (684.81 points) was on September 17, 2001 after the markets were closed for 4 days following terrorist attacks on September 11 that destroyed the World Trade Center and parts of the Pentagon.

31. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Solve the Dilemma 1.Normally, rapidly increasing sales is a good thing. What seems to be the problem here? 2.List the important components of a firm’s working capital. Include both current assets andcurrent liabilities. 3.What are some management techniques applied to current liabilities that Glasspray might use to improve its working capital position?

32. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Explore Your Career Options What types of skills would be most useful to a financial manager? What are some of the most stressful aspects of the job?

33. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Additional Discussion Questions and Exercises 1.Why would a business use a lockbox to receive payments? 2.What are the advantages of a firm using electronic funds transfer rather than traditional check-clearing procedures? 3.What is a junk bond? Why do investors buy junk bonds? 4.What do companies do with retained earnings? 5.Why is the prime rate of interest important for business firms?

34. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Chapter 16 Quiz 1.Which one of the following is an example of a current liability? a.accounts receivable b.marketable securities c.wages payable d.inventory 2.Which of the following is an example of a current asset? a.cash b.accounts payable c.accrued salaries d.short-term bank loans

35. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Chapter 16 Quiz 3.Which of the following is where new issues of stocks and bonds are sold directly to the public? a.primary market b.secondary market c.over-the-counter market d.investment banks 4.Dividend yield refers to a.the dividend rate divided by the stock market average. b.dividends per share divided by stock price. c.the percentage of return an investor has earned on the original investment. d.the coupon rate on bonds that change with current interest rates.

36. McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved. Multiple Choice Questions about the Video 1.If a company wanted to raise external sources of equity financing it would a.retain earnings rather than pay dividends. b.sell bonds. c.sell common stock. d.sell debentures. 2.Small business would most likely be able to raise external funds by a.selling common stock in the capital market. b.selling bonds. c.borrowing money form friends and relatives. d.retaining earnings.