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Learning Outcomes
Chapter 1
Explain what finance entails and why everyone should have an
understanding of basic financial concepts
Identify different forms of business organization as well as the
advantages and disadvantages of each.
Identify (1) major goals that firms pursue and (2) what a firm’s
primary goal should be.
Explain the role that ethics and good governance play in
successful businesses.
Describe how foreign firms differ from U.S. firms and identify
factors that affect financial decisions in multinational firms.
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What is Finance?
Finance is concerned with decisions about
money (Cash Flows)
Finance decisions deal with how money is
raised and used
Everything else being equal:
 More value is preferred to less
 The sooner cash is received the more value it has
 Less risky assets are more valuable than riskier
assets
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General Areas of Finance
Financial Markets and Institutions
Investments
Financial Services
Managerial Finance
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Finance in the Organizational Structure of
the Firm
Board of Directors
President (CEO)
Vice-President:
Sales
Credit
Manager
Vice-President:
Operations (COO)
Inventory
Manager
Director of
Capital
Budgeting
Vice-President:
Finance (CFO)
Treasurer
Controller
Vice-President:
Information Systems (CIO)
Financial
Tax
and Cost
Department
Accounting
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Alternative Forms of
Business Organization
Proprietorship
Partnership
Corporation
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Proprietorship
Advantages:
 Ease of formation
 Subject to few government regulations
 No corporate income taxes
Limitations:
 Unlimited personal liability
 Limited life
 Transferring ownership is difficult
 Difficult to raise capital
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Partnership
Like a proprietorship, except two or more
owners
A partnership has roughly the same
advantages and limitations as a
proprietorship
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Corporation
Advantages:
 Unlimited life
 Easy transfer of ownership
 Limited liability
 Ease of raising capital
Disadvantages:
 Cost of set-up and report filing
 Double taxation
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Hybrid Forms of Business
Limited Liability Partnership (LLP)
Limited Liability Company (LLC)
S Corporation
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Business Organized as a Corporation:
Value Maximized
Limited liability reduces risk increasing market
value
Ease of raising capital allows taking
advantage of growth opportunities
Ownership can be easily transferred thus
investors would be willing to pay more for a
corporation
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Goals of the Corporation
Primary goal: stockholder wealth maximization
— translates to maximizing stock price.
Managerial incentives
Social responsibility
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Managerial Actions to
Maximize Stockholder Wealth
Capital Structure Decisions
Capital Budgeting Decisions
Dividend Policy Decisions
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Value of the Firm
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Factors Influenced by Managers
that Affect Stock Price
Projected cash flows
Timing of cash flow streams
Risk of projected cash flows (earnings)
Use of debt (capital structure)
Dividend policy
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Agency Relationships
An agency relationship exists whenever a
principal hires an agent to act on his or her
behalf.
An agency problem results when the agent
makes decisions that are not in the best
interest of principals
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Stockholders versus Managers
Managers are naturally inclined to act in their
own best interests.
Mechanisms to motivate managers to act in
shareholder’s best interest
 Managerial compensation (incentives)
 Shareholder intervention
 Threat of takeover
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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
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Corporate Governance
The “set of rules’ that a firm follows when
conducting business
As a result of the Sarbanes-Oxley Act of
2002, firms are revising their corporate
governance policies
Good corporate governance generates higher
returns to stockholders
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Forms of Business in
Other Countries
Non-US firms have higher concentrations of
ownership
 Nature of relationship with financial
institutions differs from U.S.
U.S. firms have a more dispersed ownership
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Multinational Corporations
Five reasons firms go “international”
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
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Factors Distinguishing Domestic
Firms from Multinational Firms
Different currency denominations
Economic and legal ramifications
Language differences
Cultural differences
Role of governments
Political risk
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