8 Capital Budgeting‘The Process of planning and managing a firm’s long term investments’evaluating the size, timing and risk of future cash flows are the key components of capital budgetingoverall objective is to identify and invest in projects & assets that will generate a return greater than the firm’s cost of capital
9 Cqpital Structure‘addresses the the question of how a firm should obtain and manage the long term financing needed to support its long term investments and’it is the specific mixture of long term debt and equity capitalthe decision on how much debt vs. Equity impacts the risk level for the firm and the firm’s
10 Working Capital Management Working capital refers to a firms short term assets and short term liabilitiesincludes accounts receivable, inventory and accounts payablehow much cash to keep on hand, inventory to carry, credit terms to offer to customers are examples of working capital management decisions
11 Financial Risk Management The process of identifying, quantifying and decisions to manage certain types of risk:currency risksinterest rate riskscommodity price riskOther risks such as strategic, operating and commerical risks need to be considered by the firm as a whole - ideally looking at risk on an enterprise wide basis (holistic risk management)
12 T1.2 A Simplified Organizational Chart (Figure 1.1) Board of DirectorsChairman of the Board andChief Executive Officer (CEO)President and ChiefOperations Officer (COO)Vice PresidentMarketingVice PresidentFinance (CFO)Vice PresidentProductionTreasurerControllerCash ManagerCredit ManagerCost AccountingManagerTax ManagerCapitalExpendituresFinancialPlanningFinancialAccountingManagerData ProcessingManager
13 Forms of Organization Sole Proprietorship Partnership Corporation General Partnership / Limited PartnershipCorporationLimited Liability Company
14 CorporationsA corporation is a legal entity separate and distinct from its ownershas many of the same rights, duties and privileges of an actual person:borrow moneycan own propertycan enter into contractsshareholders and management are usually separate in most larger corporationsthe sharedolders elect the board of directorsthe board then selects the senior managers who in theory are charged with running the affairs in the interests of the shareholders
15 Advantages/Dis-advantages of the Corporate Form ownership (shares) can be readily transferrredlife of the corporation is not limitedlimited liability makes this form attractive to investorsall of the above make it easy to raise cash - sells new stockDis-advantagesdouble taxation of its profits
16 The Goal of Financial Management What are firm decision-makers hired to do?“General Motors is not in the business of making automobiles. General Motors is in the business of making money.”Alfred P. SloanPossible goalsMaximize profitsMaximize shareholder wealth/valueMaximize share priceMaximize firm value
17 The Agency Problem and Control of the Firm Agency Relationships and Management Goalspotential for conflict - is their too much emphasis on corporate survival, job security and (more recently) with mangement wealth creation?Do managers Act in the Shareholders’ interests? They are influenced by:how they are compensated - does their compensation encourage them to make decisions that will enhance shareholder valuehow easily are they replaced if they do not pursue shareholder goals - control here is with the board of directorsYou may use this space for a description of the slide.
18 T1.6 The Agency Problem Continued Agency costsAgency Costs - defined as the costs associated with the conflict of interests :Direct agency costsIndirect agency costsImpact of Agency Costs on Shareholder Wealth or Valuedirect - expenditures benefiting Management e.g. the unneeded corporate jet ordirect - monitoring costs e.g. outside auditorsindirect - lost opportunity where Management is not acting in the best interests of its shareholders e.g. costly acquisitions driven more by desire for power and prestige
19 Conflict of InterestWill Managers work in the Shareholder’s best interest?Mechanisms to ensure Managers are acting in shareholders’ interest:managerial compensationactive and knowledgable iboard of directorsActive institutional investorsTakeover activity
20 Financial Institutions, Markets and the Corporation T1.7 Financial MarketsFinancial Institutions, Markets and the CorporationFinancial InstitutionsAct as intermediaries between investors and firms raising funds - banks, trust companies, investment dealers, insurance companies, etc.direct financeindirect finance
21 T1.7 Financial Markets Continued Financial Markets - brings buyers and sellers of debt and equity securities togetherHow do financial markets differ?Type of securities traded/how trading is conducted and who the buyers and sellers areMoney markets and capital marketsmoney market - short term debt securitiescapital market - long term debt and equity
22 T1.7 Financial Markets Continued Primary vs. secondary marketsPrimary Market- where the original sale of issue of a security by a government or corporation occurspublic offering - underwritten by an investment dealer and registered with provincial securities commissionsprivate placement - debt and equity sold directly to a buyer - typically life insurance companies and , pension funds
23 T1.7 Financial Markets Continued Secondary Market - trading of securities subsequent to the initial sale - enables the transfer of ownershipauction market - TSEdealer market - ‘over the counter (OTC) ‘How do financial markets benefit society?
24 Financial Markets and Society what is the benefit to society?Channel savings into investmentproduce and transmit information on returns and riskprovide a media and a payments systemenable the shifting of the timing of consumption over a life cycleenable the management of riskenable the diversification of portfolios
25 T Financial Markets and the Corporation - Cash Flows Between the Firm and the Financial Markets (Figure 1.2)You may use this space for a description of the slide.
26 T1.9 Chapter 1 Quick QuizQuick Quiz1. Who performs the financial management function in the typical corporation?2. What are the major advantages and disadvantages of the corporate form of organization?3. Why is shareholder wealth maximization a more appropriate goal than profit maximization?You may use this space for a description of the slide.