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This document provides an overview of principles of corporate finance across 8 sessions. It introduces key concepts such as the goals of financial managers being profit maximization and shareholder wealth maximization. It also discusses the managerial finance function and its relationships to economics and accounting. Additionally, it outlines the key activities of a financial manager including investment, financing, and asset management decisions. It explores the risk-return tradeoff and agency issues that financial managers must consider.

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Samia Elsayed
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128 views

Chapter - 1

This document provides an overview of principles of corporate finance across 8 sessions. It introduces key concepts such as the goals of financial managers being profit maximization and shareholder wealth maximization. It also discusses the managerial finance function and its relationships to economics and accounting. Additionally, it outlines the key activities of a financial manager including investment, financing, and asset management decisions. It explores the risk-return tradeoff and agency issues that financial managers must consider.

Uploaded by

Samia Elsayed
Copyright
© © All Rights Reserved
Available Formats
Download as PPT, PDF, TXT or read online on Scribd
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Principles of

Corporate Finance
Session 1 & 2
Unit I: INTRODUCTION

Why study Managerial


Finance?
Prepare for the workplace of tomorrow.
Broadening expectations of financial
knowledge and skills.
Use and understand financial terminology
and concepts in team communication.
Developing cross-functional capabilities.
Critical thinking.

Career Opportunities in Finance


Capital Budgeting Analyst
Project Finance Manager
Cash Manager
Banking & Financial Institutions
Personal Financial Planning
Investments
Pension Fund Manager
Real Estate
Insurance

What is Finance?
Finance is the art and science of managing
money.
Finance affects all individuals, businesses,
and governments in the process of the transfer
of money through institutions, markets, and
instruments.

Managerial Finance

Managerial finance is concerned with the duties of the


financial manager in the business firm.
The financial manager actively manages the financial
affairs of any type of business, whether private or
public, large or small, profit-seeking or not-forprofit.
Increasing globalization has complicated the
financial management function.
Changing economic and regulatory conditions also
complicate the financial management function.

Principles of
Corporate Finance
Session 3

Firm and its Legal forms


A Firm is a transformation unit, which
transforms inputs ( 5 Ms) into Outputs
(Goods & Services)

Firm and its Legal forms


Four basic forms of business organization
(Firm):
Sole Proprietorships
Partnerships (general and limited)
Corporations
Limited liability companies

Sole Proprietorship
A business form for which there is one
owner. This single owner has unlimited
liability for all debts of the firm.
Oldest form of business organization.

Summary for
Sole Proprietorship

Advantages
Simplicity
Low setup cost
Quick setup
Single tax filing on
individual form

Disadvantages
Unlimited liability
Hard to raise
additional capital
Transfer of
ownership
difficulties

Partnership
A business form in which two or more
individuals act as owners.
Types of Partnerships
General Partnership all partners have unlimited
liability and are liable for all obligations of the
partnership.
Limited Partnership limited partners have liability
limited to their capital contribution (investors only).
At least one general partner is required and all
general partners have unlimited liability.

Summary for Partnership

Advantages
Disadvantages
Unlimited liability for
Can be simple
the general partner
Low setup cost, higher
than sole proprietorship Difficult to raise
additional capital, but
Relatively quick setup
easier
than
sole
Limited liability for limited
proprietorship
partners
Transfer of ownership
difficulties

Corporation
A business form legally separate from its
owners.
An artificial entity that can own assets and
incur liabilities.

Summary for Corporation

Advantages
Limited liability
Easy transfer of
ownership
Unlimited life
Easier to raise large
quantities of capital

Disadvantages
Double taxation
More difficult to
establish
More expensive to
set up and
maintain

Limited Liability Companies


A business form that provides its owners
(called members) with corporate-style
limited personal liability and the federal-tax
treatment of a partnership.

Principles of
Corporate Finance
Session 4 & 5

The Managerial Finance Function


Relationship to Economics
The primary economic principal used by financial
managers is marginal analysis which says that
financial decisions should be implemented only when
benefits exceed costs.

The Managerial Finance Function


Relationship to Accounting
One major difference in perspective and
emphasis between finance and accounting is
that accountants generally use the accrual
method while in finance, the focus is on cash
flows.
The significance of this difference can be
illustrated using the following simple
example.

The Managerial Finance Function


Relationship to Accounting
The Zasloff Corporation experienced the following
activity last year:
Sales:

$100,000 (50% still uncollected)

Cost of Goods:

$ 60,000 (all paid in full under supplier terms)

Expenses:

$ 30,000 (all paid in full)

Now contrast the differences in performance under the


accounting method versus the cash method.

The Managerial Finance Function


Relationship to Accounting
INCOME STATEMENT SUMMARY
Sales
-COGS
Gross Margin
-Expenses
Net Profit/(Loss)

ACCRUAL
$100,000
(60,000)
$ 40,000
(30,000)
$ 10,000

CASH
$ 50,000
(60,000)
$(10,000)
(30,000)
$(40,000)

Principles of
Corporate Finance
Session 6

Key Activities of the Financial Manager

Investment Decisions
Most important of the three
decisions.
What is the optimal firm size?
What specific assets should be
acquired?
What assets (if any) should be
reduced or eliminated?

Financing Decisions
Determine how the assets (LHS of
balance sheet) will be financed (RHS of
balance sheet).
What is the best type of financing?
What is the best financing mix?
What is the best dividend policy (e.g.,
dividend-payout ratio)?
How will the funds be physically acquired?

Asset Management
Decisions
How do we manage existing assets
efficiently?
Financial Manager has varying degrees of
operating responsibility over assets.
Greater emphasis on current asset
management than fixed asset
management.

Principles of
Corporate Finance
Session 7

Goal of the Financial Manager


Profit maximization (profit after tax)
Shareholders Wealth Maximization

Goal of the Financial Manager


Profit Maximization
Maximizing the Rupee Income of Firm
Resources are efficiently utilized
Appropriate measure of firm performance
Serves interest of society also

Goal of the Financial Manager


Objections to Profit Maximization

It is Vague
It Ignores the Timing of Returns
It Ignores Risk
Assumes Perfect Competition
In new business environment profit
maximization is regarded as

Unrealistic
Difficult
Inappropriate
Immoral.

Goal of the Financial Manager


Why?

Maximize Shareholder Wealth!!!

Because maximizing shareholder wealth properly


considers cash flows, the timing of these cash flows,
and the risk of these cash flows.
This can be illustrated using the following simple
valuation equation:
Share Price = Future Dividends
Required Return

level & timing


of cash flows
risk of cash
flows

Goal of the Financial Manager


What About Other Stakeholders?
Stakeholders include all groups of individuals who have
a direct economic link to the firm including:
Employees
Customers
Suppliers
Creditors
Owners
The "Stakeholder View" prescribes that the firm make a
conscious effort to avoid actions that could be
detrimental to the wealth position of its stakeholders.
Such a view is considered to be "socially responsible."

Principles of
Corporate Finance
Session 8

Risk-return Trade-off
Risk and expected return move in tandem; the
greater the risk, the greater the expected
return.
Financial decisions of the firm are guided by
the risk-return trade-off.
The return and risk relationship:
Return = Risk-free rate +
Risk premium
Risk-free rate is a compensation for time and
risk premium for risk.

The Agency Issue


The Problem

Whenever a manager owns less than 100% of the


firms equity, a potential agency problem exists.
In theory, managers would agree with shareholder
wealth maximization.
However, managers are also concerned with their
personal wealth, job security, fringe benefits, and
lifestyle.
This would cause managers to act in ways that do not
always benefit the firm shareholders.

The Agency Issue


Resolving the Problem
Market Forces such as major shareholders and the
threat of a hostile takeover act to keep managers in
check.
Agency Costs may be incurred to ensure management
acts in shareholders interests.
Structure management compensation to make
shareholder interests their own

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