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FIN 3403 Exam 1 Chapters 1,2,5,6Chapter 1 Introduction to corporate financeWhat is corporate finance?• What long-term investments should you take on?• Where will you get the long term financing to pay for your investment?• How will you manage your everyday financial activities?Financial manager• The owners (stockholders) are usually not directly involved in making business decisions.• The corp employs managers to represent the owners’ interestsFinancial Management decisions• Capital budgetingo The first question concerns the firm’s long term investmentso Capital budgeting- The process of planning and managing a firm’s long term investmentso Evaluating the size, timing, and risk of future cash flows is the essence of capital budgeting• Capital structureo The second question for the manager concerns ways in which the firm obtains and manages the long term financingo A firms capital structure is the specific mixture of long term debt and equity the firm uses to finance its operationo Two concerns How much should the firm borrow? What are the least expensive sources of funds?• Working capital managemento Third question concerns working capital management, a firms short term assets and short term liabilities on a daily basiso Questions about working capital How much cash and inventory? Should we sell on credit? How will we obtain any needed short term financing?Forms of Business Organizations• Sole proprietorshipo A business owned by one persono Simplest, least regulated form of organizationo More proprietorships than any other type of organizationo The owner keeps all the profitso Disadvantages Unlimited liability No distinction between personal and business income Unable to exploit new opportunities• Partnershipo Similar to proprietorship but there are two or more ownerso In a general partnership, all the partners share in gains or losses and have unlimited liabilityo In a limited partnership, one or more general partners will run the business and have unlimited liabilityo Advantages Easy and inexpensive to form Unlimited liability for partnership debts All income tax is taxed as personal incomeo Central problem The ability to grow can be seriously limited by inability to raise cash for investment• Corporationo A legal “person”, separate and distinct from its owners, and has many of the rights, duties, and privileges of an actual persono Must prepare articles of incorporation and a set of bylawso Corp is a “resident” of the stateo The stockholders and managers are usually separate groupso Advantages Ownership can be readily transferred and the life of the company is unlimited Borrows money in its own name Stockholders have limited liabilityo Disadvantages Double taxation, at corporate level and personal levelo A limited liability corporation (LLC) operates and is taxed like a partnership but retains limited liability for owners Essentially a hybrid of partnership and corp IRS will consider an LLC a corp, thereby subjecting it to double taxationGoal of Financial Management• To maximize the current value per share of the existing stock• A more general way of stating the goal is: Maximize the market value of the existing owners’ equity• Sarbanes Oxley 2002o “sarbox” is intended to protect investors from corp abuseso Sarbox makes company management responsible for the accuracy of the company’s financial statementso Hundreds of firms have chosen to “go dark”, meaning their shares are no longer traded on the major stock exchangesThe agency problem and control of the corp• Agency problemso The relationship between stockholders and management is called an agency relationshipo An agency problem is a possibility of a conflict of interest between the principal and the agent• Management goalso Agency costs refer to the costs of the conflict of interest between stockholders and managemento Direct agency costs come in two forms A corp expenditure that benefits management but costs the stockholders An expense that arises from the need to monitor management actionso Management may tend to overemphasize organizational survival to protect job security• Managerial compensationo Incentive to increase share value for two reasons Managerial compensation is usually tied to financial performance Promotions • Control of the firmso An important mechanism by which unhappy stockholders can act to replace existing management is a proxy fighto A proxy is the authority to vote someone else’s stocko Another way managers can be replaced is by takeover• Stakeholderso Someone other than the stockholder or creditor who potentially has a claim on the cash flows of the firmFinancial Markets and the Corp• Cash flows to and from the firmo Cash flows to the firm from financial marketso The firm invests the cash in current and fixed assetso These assets generate casho Some of this cash goes to pay corp taxeso After taxes are paid, some of this cash flow in reinvested in the firmo The rest goes back to the financial markets as cash paid to creditors and shareholders• Primary versus secondary marketo Equities are issued solely by corpso Debt securities are issued by both governments and corps• Primary marketso The corp is the seller and the transaction raises money for the corpo Two types Public offerings• Registered with the securities and exchange commission• Costs can be considerable Private placements• Secondary marketso Provide the means for transferring ownership of corporate securities• Dealer versus auction marketso Dealers buy and sell for themselves at their own risko Dealer markets in stock and long term debt are called over the counter marketso An auction market has a physical location like wall streeto Purpose of auction market is to match those who wish to sell with those who wish to buyChapter 2 Financial Statements, taxes, and cash flowsThe balance sheet• A snapshot of the firm that organizes and summarizes what a firm owns, what it owes, and the difference between the twoAssests: the left side• Classified as either current or fixedo Fixed Relatively long life Can be tangible or intangibleo Current A life of less than one yearLiabilities and owner’s equity: the right side• Classified as either current or long termo Current Have a life of less than one year, ex account payableo Long term A debt that is not due in the coming year


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FSU FIN 3403 - Exam 1

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