Chapter 1 Notes
Describe the cycle of money, the participants in the cycle, and the
common objective of borrowing and lending.
The cycle of money is the movement of money from lender to borrower and
back again. It is often accomplished through a financial intermediary like a
bank. The common objective is to make both the lender and the borrower
better off.
Distinguish the four main areas of finance and briefly explain the
financial activities that each encompasses.
The four main areas of finance are corporate finance, investments, financial
institutions and markets, and international finance. Corporate finance
supports the operations of a company. Investments are the activities centered
on buying and selling stocks and bonds. Financial institutions and markets
are the organizations that promote the cycle of money and the buying and
selling of financial assets. International finance is concerned with the
multinational element of finance activities.
Explain the different ways of classifying financial markets.
There are a number of ways to classify financial markets: by type of asset
traded, by maturity of assets, by owner of the assets, or by method of sale.
Discuss the three main categories of financial management.
Financial management can be subdivided into three categories: capital
budgeting, capital structure, and working capital management. Capital
budgeting is the process of choosing the products and services the company
will produce. Capital structure is concerned with choosing the lenders the
company will use to finance its operations. Working capital management
involves choosing the policies that manage the day-to-day operating needs
of the company.
Identify the main objective of the finance manager and how he or she
might meet that objective.
The primary goal of the finance manager is to maximize the current stock
price (equity value) of the firm. The finance manager works with multiple
players inside and outside the firm to create and preserve the economic value
of the firm's assets.
Explain how the finance manager interacts with both internal and
external players.
Business activities are accomplished by a diverse set of players inside and
outside the organization. The finance manager provides critical knowledge
and guidance to marketing, manufacturing, human resources, supporting
suppliers, and customers and interfaces with agencies like banks to meet the
needs of the company.
Delineate the three main legal categories of business organizations and
their respective advantages and disadvantages.
There are three main legal categories of business organizations: sole
proprietorship, partnership, and corporation. The key advantage of the
corporate form of business is the limited liability of the shareholders
(owners). The key disadvantage is double taxation, in which profits are taxed
both before and after distribution to owners. The key advantage for the sole
proprietorship form of business are that the owner can make all the decisions
and can keep all profits. The disadvantage is the limited access to funding.
Partnerships have more funding potential, but must share the profits and
losses.
Illustrate agency theory and the principal-agent problem.
Companies are run by managers who may have different goals than the
owners. The resolution of these potential problems is the domain of agency
theory. The principal-agent problem is the conflict between the owners of
the company and the managers hired by the owners to work in the owners'
best interests.
Review issues in corporate governance and business ethics.
Corporate governance deals with how a company conducts its business and
what controls are put in place to ensure proper procedures and ethical
behavior. Although many managers and owners operate in an ethical
manner, some do not. The government may add rules and regulations about
the conduct of business and its officers to encourage ethical and hones
behavior.