Slide 2
Key Concepts and Skills
CHAPTER
1
‰Know the basic types of financial
management decisions and the role of the
Financial Manager
‰Know the financial implications of the
various forms of business organization
‰Know the goal of financial management
‰Understand the conflicts of interest that
can arise between owners and managers
‰Understand the various types of financial
markets
Introduction to Corporate
Finance
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Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved
Slide 3
Chapter Outline
1.1 What is Corporate Finance?
1.1 What is Corporate Finance?
Corporate Finance addresses the
following three questions:
1.2 The Corporate Firm
1.3 The Goal of Financial Management
1.4 The Agency Problem and Control of the
Corporation
1.5 Financial Markets
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Slide 4
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1. What long-term investments should the firm
choose?
2. How should the firm raise funds for the
selected investments?
3. How should short-term assets be managed
and financed?
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Slide 5
Balance Sheet Model of the
Firm
Total Value of Assets:
Current
Assets
Slide 6
The Capital Budgeting Decision
Total Firm Value to Investors:
Current
Liabilities
Current
Assets
Long-Term
Debt
Fixed Assets
1 Tangible
2 Intangible
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Fixed Assets
1 Tangible
Shareholders’
Equity
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Current
Liabilities
2 Intangible
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Long-Term
Debt
What long-term
investments
should the firm
choose?
Shareholders’
Equity
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1
Slide 7
The Capital Structure Decision
Slide 8
Short-Term Asset Management
Current
Liabilities
Current
Assets
Net
Working
Capital
1 Tangible
Shareholders’
Equity
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Long-Term
Debt
How should
short-term assets
be managed and
financed?
Fixed Assets
2 Intangible
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Current
Assets
Long-Term
Debt
How should the
firm raise funds
for the selected
Fixed Assets
investments?
1 Tangible
Current
Liabilities
2 Intangible
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Shareholders’
Equity
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Slide 9
Capital Structure
The Financial Manager
The Financial Manager’s primary goal is to
increase the value of the firm by:
1. Selecting value creating projects
2. Making smart financing decisions
The value of the firm can be
thought of as a pie.
25%50%30%
70%
DebtDebt
Equity
The goal of the manager is
to increase the size of the
pie.
Slide 10
50%
75%
Equity
The Capital Structure
decision can be viewed as
how best to slice the pie.
If how you slice the pie affects the size of the pie,
then the capital structure decision matters.
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Slide 11
Hypothetical Organization Chart
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The Firm and the Financial
Markets
Slide 12
Board of Directors
Firm
Firm issues securities (A)
Chairman of the Board and
Chief Executive Officer (CEO)
Invests
in assets
(B)
President and Chief
Operating Officer (COO)
Treasurer
Cash Manager
Capital Expenditures
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Retained
cash flows (F)
Short-term debt
Cash flow
from firm (C)
Controller
Credit Manager
Tax Manager
Financial Planning
Financial Accounting
Cost Accounting
Data Processing
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Dividends and
debt payments (E)
Taxes (D)
Current assets
Fixed assets
Vice President and
Chief Financial Officer (CFO)
Ultimately, the firm
must be a cash
generating activity.
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Financial
markets
Government
Long-term debt
Equity shares
The cash flows from
the firm must exceed
the cash flows from
the financial markets.
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Slide 13
1.2 The Corporate Firm
Forms of Business Organization
• The corporate form of business is the
standard method for solving the problems
encountered in raising large amounts of
cash.
• However, businesses can take other
forms.
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Slide 14
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• The Sole Proprietorship
• The Partnership
– General Partnership
– Limited Partnership
• The Corporation
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Slide 15
Corporation
Partnership
Liquidity
Shares can be easily
exchanged
Subject to substantial
restrictions
Voting Rights
Usually each share gets one
vote
General Partner is in charge;
limited partners may have
some voting rights
Taxation
Double
Partners pay taxes on
distributions
Reinvestment and
dividend payout
Broad latitude
All net cash flow is
distributed to partners
Liability
Limited liability
General partners may have
unlimited liability; limited
partners enjoy limited
liability
Continuity
Perpetual life
Limited life
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Slide 16
1.3 The Goal of Financial
Management
A Comparison
• What is the correct goal?
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– Maximize profit?
– Minimize costs?
– Maximize market share?
– Maximize shareholder wealth?
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Slide 17
Slide 18
1.4 The Agency Problem
• Agency relationship
– Principal hires an agent to represent his/her
interest
– Stockholders (principals) hire managers
(agents) to run the company
• Agency problem
– Conflict of interest between principal and
agent
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Managerial Goals
• Managerial goals may be different from
shareholder goals
– Expensive perquisites
– Survival
– Independence
• Increased growth and size are not
necessarily equivalent to increased
shareholder wealth
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Slide 19
Slide 20
Managing Managers
1.5 Financial Markets
• Managerial compensation
• Primary Market
– Incentives can be used to align management and
stockholder interests
– The incentives need to be structured carefully to make
sure that they achieve their intended goal
• Corporate control
– The threat of a takeover may result in better
management
– Issuance of a security for the first time
• Secondary Markets
– Buying and selling of previously issued
securities
– Securities may be traded in either a dealer or
auction market
• Other stakeholders
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• NYSE
• NASDAQ
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Slide 21
Slide 22
Quick Quiz
Financial Markets
Firms
Stocks and
Bonds
• What are the three basic questions
Financial Managers must answer?
• What are the three major forms of
business organization?
• What is the goal of financial management?
• What are agency problems, and why do
they exist within a corporation?
• What is the difference between a primary
market and a secondary market?
Investors
securities
Money
Bob
Sue
money
Primary Market
Secondary
Market
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Slide 23
Contact Information
• Our course website (e.g. WEBCT or
Ulearn, or Blackboard)
• Instant Messenger:
mba8622@hotmail.com
• Cell Phone: 770-301-8648
• Office Phone: 678-839-4816
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