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Chapter Fifteen Finance: Balancing Risk and Return to Increase Profitability © 2007 The McGraw-Hill Companies, Inc., All Rights Reserved. McGraw-Hill/Irwin.

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Presentation on theme: "Chapter Fifteen Finance: Balancing Risk and Return to Increase Profitability © 2007 The McGraw-Hill Companies, Inc., All Rights Reserved. McGraw-Hill/Irwin."— Presentation transcript:

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2 Chapter Fifteen Finance: Balancing Risk and Return to Increase Profitability © 2007 The McGraw-Hill Companies, Inc., All Rights Reserved. McGraw-Hill/Irwin Introduction to Business

3 15 - 3 Learning Objectives 1.Appreciate the crucial relationship between risk and return and the way it affects all business finance decisions. 2.Understand short-term capital management and the tools managers use to increase the rate of return on capital. 3.Understand long-term capital management and the tools used to manage it, like net present value and breakeven analysis.

4 15 - 4 Learning Objectives 4.Describe four different methods companies can use to finance capital investments. 5.Differentiate between the roles debt and equity securities play in financial decision making.

5 15 - 5 What is Finance? Finance -the set of activities people and companies engage in to decide how to invest their capital so that it generates more cash, profit, and wealth

6 15 - 6 The Relationship Between Risk and Return Value of the Asset Now – Value at Time of Purchase X 100 Value of the Asset at Time of Purchase

7 15 - 7 Question? What is the extra reward investors demand for bearing the additional risks associated with a speculative investment? A.Speculation B.Bond portfolio C.Risk premium D.Risk leverage

8 15 - 8 The Relationship Between Risk and Return Risk premium -the extra reward investors demand for bearing the additional risks associated with a speculative investment

9 15 - 9 Business Finance The role of business finance is to ensure that the methods a company uses to borrow, invest, spend, and even lend capital lead to a rate of return that maximizes the present market value of its stock

10 15 - 10 The Cycle of Profit Figure 15.1

11 15 - 11 Four Ways to Use Capital Figure 15.2

12 15 - 12 Capital Investment and Budgeting Capital investment and budgeting -the development of a financial plan and budget to manage and invest capital so that it leads to the highest return on invested capital that can be obtained

13 15 - 13 Short-Term Capital Management Decisions Short-term capital management -the financial decisions involved when a company purchases resources to make products that will be sold within a one-year period

14 15 - 14 Managing the Short-Term Operating Cycle Figure 15.3

15 15 - 15 Long-Term Capital Budgeting Decisions Long-term capital budgeting -the financial decisions involved when a company chooses how to invest capital for extended periods of time

16 15 - 16 Long-Term Capital Budgeting Decisions Net present value analysis -the financial analysis needed to determine the true rate of return of a proposed capital investment -tells a manager how much a long-term project would earn in today’s dollars

17 15 - 17 Long-Term Capital Budgeting Decisions Breakeven point -the sales level that just covers all of a project’s costs but where no profit is earned Variable costs -costs that are only incurred when the firm makes and sells products

18 15 - 18 Breakeven Analysis Figure 15.4

19 15 - 19 Long-Term Capital Budgeting Decisions Capital budget -a set of rules for allocating funds to the different functions of a firm to achieve a predetermined rate of return on its investment

20 15 - 20 Breakeven Analysis and Inventory Turnover Figure 15.4

21 15 - 21 A Company as a Portfolio of Investments Brand manager -a manager responsible for managing a brand-name product

22 15 - 22 Capital Financing Capital financing -the development of a financial plan to allow a company to obtain the money it needs to fund its activities at the lowest possible cost

23 15 - 23 Short-Term Financing Methods Cash reserves Unsecured and secured loans Accounts receivable financing Commercial paper

24 15 - 24 Question? What is a loan not backed by valuable assets pledged to guarantee the loan will be paid back? A.Secured loan B.Unsecured loan C.Line of credit D.Commercial paper

25 15 - 25 Short-Term Financing Methods Unsecured loan -a loan not backed by valuable assets pledged to guarantee the loan will be paid back Line of credit -a short-term unsecured loan a company can draw against as its accounts payable become due

26 15 - 26 Short-Term Financing Methods Secured loan -a loan backed by valuable fixed or current assets Commercial paper -short-term, unsecured debts or notes issued at a certain rate of interest for up to nine months

27 15 - 27 Long-Term Financing Methods Leverage -the ability to use borrowed capital in ways that have the potential to lead to high rates of return

28 15 - 28 Methods of Obtaining New Capital Figure 15.6

29 15 - 29 Long-Term Financing Methods Hedge funds -mutual funds that use highly leveraged investments to try to rapidly increase investors’ capital returns

30 15 - 30 Long-Term Financing Methods Principal -the amount of money originally borrowed Capital structure -the balance between the amount of capital a company raises through debt and the amount it raises through equity

31 15 - 31 Debt Securities: Bonds Debt securities -investment documents that provide evidence of a company’s legal obligation to repay within a certain period of time the money it borrows and make regular interest payments on that money in the meantime

32 15 - 32 Debt Securities: Bonds Bonds -common types of debt securities issued by a company for a period of more than one year Find out how to buy bonds at eHow.comeHow.com

33 15 - 33 Debt Securities: Bonds Call provision -a company’s legal right to buy its bonds back early from bondholders to avoid high interest-rate payments

34 15 - 34 Debt Securities: Bonds Current yield -a financial measure of a bond’s current rate of return -obtained by dividing the bond’s original interest rate by its current closing price

35 15 - 35 How to Read a Corporate Bond Table Figure 15.7

36 15 - 36 Equity Securities: Stocks Equity securities -the capital stock certificates a company issues giving shareholders the legal right to its assets and dividends from its profits

37 15 - 37 Equity Securities: Stocks Initial public offering -the first time the owners of a company’s stock offer it for sale to the general public

38 15 - 38 Types of Stock Blue-chip Growth Income Speculative

39 15 - 39 Equity Securities: Stocks Price-to-earnings ratio -a way of valuing a stock by dividing its closing price by its annual earnings per share

40 15 - 40 Non-Operations Investing and Financing Treasury stock -stock a company buys back from the public and becomes part of stockholders’ equity on the firm’s balance sheet

41 15 - 41 Video: Jack Welch Several questions are asked of Jack Welch who at the time of this interview had recently authored his book, “Winning.” What is the best thing about being a manager, according to Welch?


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