9/8/2010
FIN 3200
Business Finance
Professor Christopher
p
Korth
christopher.korth@wmich.edu
homepages.wmich.edu/~korth
Prerequisites

Business Statistics
• MATH 2160
• MATH 3660

Principles of Accounting
• ACTY 2100
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Office & Office Hours

Room 3342

Tuesday & Thursday:
• 9 - 10:00 A.M.
• 2 - 3:00 P.M.

Monday: 2 – 4:00 P.M.
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Text
Essentials of Corporate Finance (7th)
Ross,, Westerfield & Jordan
[McGraw--Hill/Irwin: 2011]
[McGraw
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Other Materials

Financial calculator (mandatory
(mandatory)
)
• Hewlitt
Hewlitt--Packard 10
10--B
• Texas Instruments BA II +

Study Guide (recommended)
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Objectives of FIN 3200—
3200—
to Understand:


The role of financial management
in the firm
Basic financial p
principals
p
&
analytical techniques

The nature of financial markets

Current events affecting finance
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Evaluation

Class participation

Exams
• I
• II
• III
15%
25%
30%
30%
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Participation

You are expected to attend all
classes
• More than 3 absences will reduce
your participation grade 5% per
absence.
b


Assigned readings and problems
are to be done before class.
class.
There will be extensive class
discussion.
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Final Grade
90%
85%
80%
75%
5%
70%
65%
60%
<60%
A
BA
B
CB
C
C
DC
D
E
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Chapter 1
Overview of Financial
Management
Major Topics of
Chapter 1
1. The 4 basic areas of finance
2. The 3 forms of business
organizations
3. The 3 basic financial problems
4. The key financial managers
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Major Topics of
Chapter 1
5. The primary goals of the firm
6. The owner
owner--manager conflict
7. Financial ethics
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The 4 Basic Areas of Finance
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The 4 Basic Areas of Finance
1. Institutional finance
2. Investments
3. Financial institutions
4. International finance
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1. Institutional Finance

Businesses—
Businesses
—not just corporations

Governments & their agencies

Non--profit institutions
Non
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2. Investments

Short term vs. long term

Debt vs. equity
q
y

Organized exchanges vs. private
markets
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3. Financial Institutions

Commercial banks

Investment banks

Stock markets

Debt markets
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4. International Finance

Foreign--exchange (FX) markets
Foreign

Foreign stock & debt markets

“Offshore” debt markets
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
What is the difference between
debt and equity?

What
Wh t d
does the
th b
borrower pay?
?

What does the stock issuer pay?
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The 3 Forms of Business
Organizations

Proprietorships

P t
Partnerships
hi

Corporations
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Proprietorships

A single owner

Not incorporated

~ 75% of all US businesses are
proprietorships
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Advantages of Proprietorships


Easy & inexpensive to form
(Usually) least regulated of all
business forms
• Minimum reporting requirements
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Other Advantages of
Proprietorships
The proprietor is the sole
decision maker.


All profits belong to the proprietor.

No double taxation of profits
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Disadvantages of Proprietorships


Unlimited liability for investor
Proprietor is sole owner—
owner—can’t
sell stock to raise capital

Difficult to borrow

Difficult to transfer ownership

Death of proprietor
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Partnership


Businesses with 2 or more owners
that are not incorporated
~ 10% of all US businesses are
partnerships
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Advantages of Partnerships



Simpler & less expensive than
corporation to form
Generally have less regulation &
required reports
No double taxation of profits
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Disadvantages of Partnerships



Unlimited liability
More difficult & expensive to
form than proprietorships
Detailed partnership contract
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Other Disadvantages of
Partnerships

Difficulties involving:
• Withdrawal of a partner
• Death of a partner
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General Partnerships


Similar to a proprietorship
All partners have unlimited
liability!
• Regardless of how much of the
business they own!!!
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Limited Partnerships


General partners have unlimited
liability.
Limited partners have limited
liability!
• A limited partner must be passive—
passive—
cannot be actively engaged in the
business.
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Hybrid Businesses

Special business forms that
combine:
• Limited
Li it d liability
li bilit off a corporation
ti
• Tax advantages of a partnership
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Hybrid Businesses

Limited-liability partnership
Limited(LLP)

Li i d li
Limited
liability
bili company (LLC)

Professional corporation
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The 3 Basic Financial Problems
1. What major expenditures
should the business make?
capital budgeting
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The 3 Basic Financial Problems
2. The financing decision:
decision: How
should the firm pay for the
investments chosen in the
capital--budgeting process?
capital
 Debt vs. equity
 Short vs. longlong-term debts
 Capital structure
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The 3 Basic Tasks of Corporate
Finance
3. Day
Day--toto-day financial operations
operations::
• Gathering the funds
• Paying the bills
• Investing surplus funds
working--capital management
working
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The Key Financial Managers

Chief financial officer (CFO
CFO)
)
• Treasurer: chief financing manager
• Controller: chief accounting officer
• Risk manager: primarily external
• Internal auditor: primarily internal
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Primary Goal of the Firm
Widely said to be shareholder
wealth maximization (SWM)

• Capital gain plus dividends
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Shareholder Wealth Maximization


SWM is used almost exclusively in
Anglo--American countries
Anglo
However, SWM ignores the firm’s
reliance upon, and responsibility
to its other major stakeholders!
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Shortcomings to Shareholder
Wealth Maximization

Encourages short
short--term focus

Encourages excessive debt

Can harm relationships w/ other
stakeholders
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
What are stockholders?

What are stakeholders?
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The Stakeholders








Shareholders (the owners)
Managers
Other employees
C stome s
Customers
Creditors
Suppliers
Governments
Local community
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Stakeholder Complaints








Shareholders (wasteful spending)
Managers (nepotism)
Other employees (unfair layoffs)
Customers (poor service)
Creditors (paying late)
Suppliers (paying late)
Governments (tax evasion)
Local community (pollution)
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Corporate Wealth Maximization


Stresses the importance of
numerous stakeholders
It is the management philosophy
in most of the rest of the world.
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Not Simply Profit Maximization!!!


Short--term focus
Short
Encourages
g
managers
g
to target
g
profits to maximize their bonuses
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The Owner
Owner--Management Conflict



In large businesses, owners do not
usually actually manage the firm.
They
y hire managers—
managers
g
—the agents
g
of
the owners.
The interests of the managers are
not always the same as those of
the owners—
owners—the agency conflict.
conflict.
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Overcoming the Agency Conflict

Compensation
• Salary
• Bonus
• Stock options
• Retirement package
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Financial Ethics in Business


Treating all stakeholders “fairly.”
“Fairness” and “ethics” are not
moral,, ethnic or p
political
absolutes.
• What is ethical in one culture or
country, may not be ethical in others
others..
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Next Class
The Financial Environment &
Interest Rates
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Financial Environment

Forms of financing and investing
• Debt
• Equity
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The Financial Institutions

Commercial banks

Investment banks

Organized exchanges (stock,
bond, commodity, FX)
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The Markets

Money markets

Capital
p
Markets

Primary markets

Secondary markets
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The Players

Commercial bankers

Investment bankers

Dealers [the “market makers”]

Brokers
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The Institutional Investors

Insurance companies

P
Pension
i
& other
th
retirement
ti
t funds
f d

Mutual funds
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Interest Rates

Nominal USG interest rate
• = Real interest rate + inflation
• Real interest rate—
rate—no risks of any
sort
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