CHAPTER 1 An Overview of Financial Management - Maha

penredheadManagement

Nov 18, 2013 (3 years and 9 months ago)

101 views


Financial Management


Alternative Form of Business Organization


Financial Staff’s Responsibility


The Goal of the Corporation


Organization of the Financial Management
Function


Financial Management vs. other Managerial
Functions


Finance?











Finance is the life
-
blood of business.
Without finance neither any business
can be started nor successfully run .
Finance is needed to
promote

or
establish business,
acquire fixed assets,
make necessary investigations
, develop
product keep man and machines at work
,encourage management to make
progress and create values.


Management?



Management is the process of reaching organizational goals by
working with and through people and other organizational
resources.



Thus



Concerns the
acquisition
,
financing
, and
management

of assets with
some
overall goal

in mind













James, Van Horne



Financial management is the application of planning and control
function of the finance function”




Howard and Upton


Most important of the three decisions



What is the optimal firm size?


What specific assets should be acquired?


What assets (if any) should be reduced or
eliminated?


What is the best type of financing
?


What is the best financing mix?


What is the best dividend policy?


How will the funds be physically acquired?

Determine how the assets (LHS of balance sheet)
will be financed (RHS of balance sheet).


How do we manage existing assets
efficiently
?



Financial Manager has varying degrees of
operating responsibility over assets.



Greater
emphasis on
current asset
management

than
fixed asset management
.


Sole
proprietorship



Partnership



Corporation


Sole Proprietorship


A business owned by a single individual


Partnership


An association of two or more individual
joining together as co
-
owners to operate a
business for profit


Corporation


An entity that legally functions separate and
apart from its owners
.


Advantages



Ease
of formation


Subject to few regulations


No corporate income
taxes



Disadvantages



Difficult
to raise capital


Unlimited liability


Limited life



Advantages



Unlimited
life


Easy transfer of ownership


Limited liability


Ease
of raising capital



Disadvantages



Double
taxation


Cost of set
-
up and report filing


Maximize stock value by:


Forecasting and planning


Investment and financing decisions


Coordination and control


Transactions in the financial markets


Managing risk


The effect of
changing
technology


The
globalization of
business

Maximization of Shareholder
Wealth!

Value creation occurs when we
maximize the share price for current
shareholders.


Could increase current profits while
harming firm (e.g., defer maintenance,
issue common stock to buy T
-
bills, etc.).


Ignores changes in the risk level of the
firm.

Profit Maximization


Maximizing a firm’s earnings after
taxes.

Problems


Does not specify timing or duration of
expected returns.


Ignores changes in the risk level of the firm.


Calls for a zero payout dividend policy.

Earnings per Share Maximization


Maximizing earnings after taxes
divided by shares outstanding.

Problems


Takes account of:
current and future profits and
EPS
;
the timing, duration, and risk of profits
and EPS
;
dividend policy
; and all other relevant
factors.


Thus,
share price

serves as a barometer for
business performance.

There exists a SEPARATION between owners
and managers.

Modern Corporation

Shareholders

Management


An
agent

is an individual authorized by
another person, called the principal, to
act in the latter’s behalf.

Management acts as an
agent

for
the owners (shareholders) of the
firm.


Agency Theory

is a branch of economics
relating to the behavior of principals and
their agents.


Jensen and
Meckling

developed a
theory of the firm based on
agency
theory
.


Incentives include

stock options
,

perquisites
,

and

bonuses
.


Principals must provide
incentives

so
that management acts in the
principals’ best interests and then
monitor

results.


Wealth maximization does
not

preclude the
firm from being
socially responsible
.



Assume
we view the firm as producing
both

private and social goods.




Then

shareholder

wealth

maximization

remains the appropriate goal in governing
the firm.

Board of Directors

President

(Chief Executive Officer)

Vice President

Operations

Vice President

Marketing

VP of

Finance

Treasurer


Capital Budgeting


Cash Management


Credit Management


Dividend Disbursement


Fin Analysis/Planning


Pension Management


Insurance/Risk



Management


Tax Analysis/Planning

VP of Finance

Controller


Cost Accounting


Cost Management


Data Processing


General Ledger


Government



Reporting


Internal Control


Preparing Fin
Statements


Preparing Budgets


Preparing Forecasts


No, despite a generally high correlation
amongst stock price, EPS, and cash flow.


Current stock price relies upon current
earnings, as well as future earnings and
cash flow.


Some actions may cause an increase in
earnings, yet cause the stock price to
decrease (and vice versa).


Managers are naturally inclined to act in their
own best interests.


But the following factors affect managerial
behavior:


Managerial compensation plans


Direct intervention by shareholders


The threat of firing


The threat of takeover


Shareholders (through managers) could take
actions to maximize stock price that are
detrimental to creditors.


In the long run, such actions will raise the
cost of debt and ultimately lower stock price.



Financial management is a managerial activity
concerned with planning and controlling of
the firm
'
s financial resources to generate
returns on its invested funds.


Thus


Raising & Using of Capital


Generating Funds


Paying returns to the supplier of Capital


Managerial Functions:


Greater Planning, control and execution of financial
activities.



Routine Functions:

o
Supervision of cash receipts and payments and
safeguarding of cash

o
Custody and safeguarding of securities, insurance policies
and other valuable papers

o
Taking care of the methodological procedures of new
outside financing

o
Preparation of the reports arid keeping of the records.