Chapter 1Learning ObjectivesLearning Objectives (continued)Definition of FinanceDefinition of Financial Management1.1 The Financial Intermediary FunctionFIGURE 1.1 The money cycleExample 1: The money cycle1.2 Overview of Finance Areas1.3 The Financial Markets1.4 The Finance Manager and Financial Management1.4 The Finance Manager and Financial Management (continued)1.5 Objective of the Finance Manager1.6 Internal and External PlayersFIGURE 1.2 A Basic Organizational Chart for a Company1.7 The Legal Forms of Business1.7 The Legal Forms of Business (continued)Slide 18Slide 191.8 The Financial Management Setting: The Agency Model1.9 Corporate Governance and Business Ethics1.10 Why Study Finance?Copyright © 2010 Pearson Prentice Hall. All rights reserved.Chapter 1Financial ManagementCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-2Learning Objectives1. Describe the cycle of money, the participants in the cycle, and the common objective of borrowing and lending.2. Distinguish the four main areas of finance and briefly explain the financial activities that each encompasses.3. Explain the different ways of classifying financial markets.4. Discuss the three main categories of financial management.5. Identify the main objective of the finance manager and how that objective might be achieved.Copyright © 2010 Pearson Prentice Hall. All rights reserved.1-3Learning Objectives (continued)6. Explain how the finance manager interacts with both internal and external players.7. Delineate the three main types of business organizations and their respective advantages and disadvantages.8. Illustrate agency theory and the principal-agent problem. 9. Review issues in corporate governance and business ethics.Copyright © 2010 Pearson Prentice Hall. All rights reserved.1-4 Definition of Finance •Finance is the art and science of managing wealth. –It is about making decisions regarding what assets to buy/sell and when to buy/sell these assets. –Its main objective is to make individuals and their businesses better off.Copyright © 2010 Pearson Prentice Hall. All rights reserved.1-5Definition of Financial Management•Financial management is generally defined as those activities that create or preserve the economic value of the assets of an individual, small business, or corporation. –Financial management comes down to making sound financial decisions.Copyright © 2010 Pearson Prentice Hall. All rights reserved.1-61.1 The Financial Intermediary Function •Financial intermediaries assist in the movement of money from lenders to borrowers and back again. –This process is termed the cycle of money and its main objective is to make all the participants better offCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-7FIGURE 1.1 The money cycleCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-8Example 1: The money cycle•Example: A mutual fund issues shares, which are bought by individuals•The pooled funds are invested by the mutual fund company in shares that are issued by firms•The firms pay dividends periodically, which are received by the mutual fund and passed through to their shareholders, or reinvested in additional shares, and the cycle of money starts again. –The mutual fund managers earn fees–The firms whose securities are bought are able to raise capital for growth and future returns–The mutual fund shareholders earn dividends and capital gains •Thus, all participants are generally better off.Copyright © 2010 Pearson Prentice Hall. All rights reserved.1-91.2 Overview of Finance AreasFour main interconnected and interrelated areas:1. Corporate Finance2. Investments3. Financial Institutions and Markets4. International FinanceCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-101.3 The Financial Markets•Forums where buyers and sellers of financial assets and commodities meet. •Financial markets can be classified by:–The Type of Asset Traded–The Maturity of the Financial Asset•money market•capital market–The Owner of the the Financial Asset•primary market•secondary market–The Nature of the Transaction•dealer markets •auction marketsCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-111.4 The Finance Manager and Financial Management The Finance Manager –Determines the best repayment structure for borrowed funds –Ensures that debt obligations are met on time–Ensures that sufficient funds are available for carrying out daily operationsCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-121.4 The Finance Manager and Financial Management (continued)Financial management involves three main functions:• Capital Budgeting• Capital Structure• Working Capital ManagementCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-131.5 Objective of the Finance ManagerTo make investment and financing decisions that increase the cash flow of the firm,thereby maximizing the current stock price Profit maximization vs. Stock price maximizationWhy are they not the same?Which one is more important?Copyright © 2010 Pearson Prentice Hall. All rights reserved.1-141.6 Internal and External Players•Financial managers have to interact with various internal and external stakeholders–Internal players include all the departmental managers and other employees–External parties include:•Customers•Suppliers•Government•CreditorsCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-15FIGURE 1.2 A Basic Organizational Chart for a CompanyCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-161.7 The Legal Forms of Business•There are three main legal categories of business organizations: D1. Sole proprietorship2. Partnership3. CorporationD•Besides these three main forms, some other forms of business organizations include:Hybrid CorporationsNot-for-Profit CorporationsCopyright © 2010 Pearson Prentice Hall. All rights reserved.1-171.7 The Legal Forms of Business (continued)Sole Proprietorship•Advantages1. Simplest and easiest form of business2. Least amount of legal documentation3. Least regulated4. Owner keeps all profitsD•Disadvantages1. Owner pays personal tax rate on profits2. Obligations of the business are sole responsibility of owner, and personal assets may be necessary to pay obligations (personal and business assets are commingled)3. Business entity limited to life of owner4. Can have limited access to outside funding for the