Chapter 1 An Overview of Managerial Finance © 2005 Thomson/South-Western

2 Career Opportunities in Finance  Financial Markets and Institutions  Investments  Managerial Finance

3 Managerial Finance in the Twentieth Century  Business globalization  Information technology  Regulatory attitude of the government

4 Alternative Forms of Business Organization  Proprietorship  Partnership  Corporation

5 Proprietorship  Advantages:  Ease of formation  Subject to few government regulations  No corporate income taxes  Limitations:  Unlimited personal liability  Difficult to raise capital  Transferring ownership is difficult  Limited life

6 Partnership  Like a proprietorship, except two or more owners  A partnership has roughly the same advantages and limitations as a proprietorship

7 Corporation  Advantages:  Unlimited life  Easy transfer of ownership  Limited liability  Ease of raising capital  Disadvantages:  Double taxation  Cost of set-up and report filing

8 Finance in the Organizational Structure of the Firm Board of Directors President TreasurerController Credit Manager Inventory Manager Director of Capital Budgeting Cost Accounting Financial Accounting Tax Department Vice-President: Finance Vice-President: Sales Vice-President: Information Systems Vice-President: Operations

9 The Financial Manager’s Responsibilities  Forecasting and planning  Major investment and financing decisions  Coordination and control  Dealing with financial markets

10 Goals of the Corporation  Primary goal:stockholder wealth maximization-- translates to maximizing stock price.  Managerial incentives  Social responsibility  Stock price maximization and social welfare

11 Managerial Actions to Maximize Stockholder Wealth  Capital Structure Decisions  Capital Budgeting Decisions  Dividend Policy Decisions

12 Factors Influenced by Managers that Affect Stock Price  Projected earnings per share  Timing of earnings streams  Riskiness of projected earnings  Use of debt (capital structure)  Dividend policy

13 Value of the Firm Market Factors/Considerations Economic Conditions Government Regulations and Rules Competitive Environment Firm Factors/Considerations Normal Operations Financing Policy Investing Policy Dividend Policy Investor Factors/Considerations Income/Savings Age/Lifestyle Interest Rates Risk Attitude Net Cash Flows, CF Rates of Return, k Value of the Firm N = CF 1 + CF CF N =  CF t (1+k) 1 (1=k) 2 (1+k) N (1+k) t t=1 ^^^^

14 Agency Relationships  An agency relationship exists whenever a principal hires an agent to act on their behalf.  Within corporations, agency relationships exist between:  Stockholders and managers, and  Stockholders and creditors.

15 Stockholders versus Managers  Managers are naturally inclined to act in their own best interests.  But the following factors affect managerial behavior:  The threat of firing  The threat of takeover  Structuring managerial incentives

16 Stockholders versus Creditors  Stockholders (through managers) could take actions to maximize stock price that are detrimental to creditors.  In the long run, such actions will raise the cost of debt and ultimately lower stock price.

17 External Constraints: 1.Antitrust Laws 2. Environmental Regulations 3. Product and Workplace Safety Regulations 4.Employment Practices Rules 5. Federal Reserve Policy 6.International Developments Strategic Policy Decisions Controlled by Management 1.Types of Products and Services Produced 2. Production Methods Used 3. Relative Use of Debt Financing 4.Dividend policy Level of Economic Activity and Corporate Taxes Stock Market Conditions Expected Profitability Timing of Cash Flows Degrees of Risk Summary of Major Factors Affecting Stock Prices Stock Price The External Environment

18 Business Ethics  Webster: “A standard of conduct and moral behavior.”  Business Ethics: A company’s attitude and conduct toward its employees, customers, community, and stockholders

19 Forms of Business in Other Countries  Non-US firms have higher 19concentrations of ownership  Nature of relationship with financial institutions differs from U.S.  U.S. firms have a more dispersed ownership

20 Multinational Corporations Firms that operate in two or more countries 1.To seek new markets 2.To seek raw materials 3.To seek new technology 4.To seek production efficiency 5.To avoid political and regulatory hurdles Five reasons firms go “international”

21 Multinational Versus Domestic Managerial Finance

22 Factors Distinguishing Domestic Firms from Multinational Firms 1.Different currency denominations 2.Economic and legal ramifications 3.Language differences 4.Cultural differences 5.Role of governments 6.Political risk

23 End of Chapter 1 An Overview of Managerial Finance