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Corporate Finance
Chapter
One
Ross  Westerfield

Jaffe
1
Sixth Edition
Introduction to Corporate
Finance
Anwar Zahid
Lecturer
Independent University, Bangladesh (IUB)
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1-1
The Corporate Firm
A business created as a distinct legal entity composed
of one or more individuals or entities is called a:
corporation.
Few key terms need to understand Private Corporation/company
 Public Corporation/company
 Directors and Board of directors
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Forms of Business Organization
The Sole Proprietorship
The Partnership
The Corporation
Advantages and Disadvantages
Liquidity and Marketability of Ownership
Control
Liability
Continuity of Existence
Tax Considerations
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Corporate Finance, 7/e
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A Comparison of Partnership
and Corporations
Corporation
Partnership
Liquidity
Shares can easily be
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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Corporate Finance, 7/e
© 2005 The McGraw-Hill Companies, Inc. All Rights Reserved.
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What is Corporate Finance?
Corporate Finance addresses the following
three questions:
1. What long-term investments should the firm
engage in? [ Capital budgeting ]
2. How can the firm raise the money for the required
investments? [ capital structure ]
3. How much short-term cash flow does a company
need to pay its bills? [ Net working capital]
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The Balance-Sheet Model of the Firm
Total Value of Assets:
Current Assets
Total Firm Value to Investors:
Current
Liabilities
Long-Term
Debt
Fixed Assets
1 Tangible
2 Intangible
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Shareholders’
Equity
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The Balance-Sheet Model of the Firm
Asset
The Capital Budgeting Decision
Lib & OE
Current
Liabilities
Current Assets
Long-Term
Debt
Fixed Assets
1 Tangible
2 Intangible
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What longterm
investments
should the
firm engage
in?
Shareholders’
Equity
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The Balance-Sheet Model of the Firm
Asset
The Capital Structure Decision
Current Assets
How can the firm
raise the money
for the required
Fixed Assets
investments?
1 Tangible
2 Intangible
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Lib & OE
Current
Liabilities
Long-Term
Debt
Shareholders’
Equity
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The Balance-Sheet Model of the Firm
The Net Working Capital Investment Decision
Current Assets
Fixed Assets
1 Tangible
2 Intangible
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Current
Liabilities
Net
Working
Capital
How much shortterm cash flow
does a company
need to pay its
bills?
Long-Term
Debt
Shareholders’
Equity
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The Goal of Financial Management
Primary goal is to maximize the wealth* of
the company’s shareholders (owners) by
increasing the market value (price) of their
shares.
*Wealth or Value of a business is defined as the market price
of the capital invested by shareholders.
* Wealth is a much broader concept than mere profit. Wealth creation
concerns with both monetary and non-monetary issues (e.g. Goodwill, social
responsibility, ethical issues)
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Separation of Ownership and Control
Board of Directors
Shareholders
Assets
Debt
Debtholders
Management
Equity
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Financial Market
Money Market vs. Capital Markets
Content
Money Market
Capital Markets
Duration
Less than 1 year
More than 1 year
Nature
Debt
Debt + Equity
Instrument
CD, T-bill, Commercial papers
Share, bond etc
Liquidity
Quick
Longer
Investor
Larger institutional investors
( Mutual fund agency)
Larger institutional
investors
plus general public
Type of
Requirement
Working capital management
Fixed capital requirement
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Financial Markets
Primary versus Secondary Markets
• Primary Market
– When a corporation issues securities, cash flows
from investors to the firm.
– Usually an underwriter is involved
• Secondary Markets
– Involve the sale of “used” securities from one
investor to another.
.
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Financial Markets
Firms
Stocks and
Bonds
Money
Investors
securities
Anas
Muaz
money
Primary Market
Secondary
Market
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Think !!
Should Firm management care about the
secondary market trade? If yes why?
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Some Important Terms You Should Know
•
•
•
•
•
•
•
•
•
Do shareholders have to be directors?
Does shareholder can replace directors?
Articles of incorporation.
Treasurer.
Controller.
Chief financial officer.
Capital budgeting.
Capital structure.
Working capital management.
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