CHAPTER 1 INTRO TO FINANCIAL MGMT 8 27 2015 FINANCE can be summed up as management of wealth Made up of the investment and financing decisions of a business entity Ex Starting a small business Spending investment Financing where you get the money from investment decisions are probably more important because money financing is available if you have a good idea good investment plan 3 CAREER AREAS Financial Management Capital Management Investments FORMS OF BUSINESS ORGANIZATIONS Proprietorship unincorporated owned by 1 person usually become Partnership unincorporated owned by 2 people usually become LLCs LLPs Corporation legal business entity separate distinct from owners Prop partn easy to form few regulations no corporate income tax Corp unlimited life if owner dies business doesn t die with them easy transfer of ownership limited liability no personal assets are at stake only limited to the investment one has in the company easy to raise capital LLCs LLPs Advantages Disadvantages Prop partn difficult to raise capital unlimited liability can be sued for all personal assets not just limited to investment in company limited life company will die out with owner Corp double taxation cost of setup reports SHAREHOLDER VALUE SOCIETY INTEREST Primary financial goal Maximize shareholder weath similar as maximizing profit but max shareholder weath is more impt Max shareholder wealth translates directly to max stock price Value of any asset measured as the present value of cash flow to owners Changes in stock price occur b c of condition change and more information avail Being socially responsible is not inconsistent with maximizing shareholder value In an equilibrium stock price true or intrinsic value about company s prospects STOCK PRICES INTRINSIC VALUE financing is available if you have a good idea good investment plan Partnership unincorporated owned by 2 people usually become LLCs LLPs Prop partn difficult to raise capital unlimited liability can be sued for all Max shareholder wealth translates directly to max stock price Value of any asset measured as the present value of cash flow to owners Changes in stock price occur b c of condition change and more information avail Being socially responsible is not inconsistent with maximizing shareholder value In an equilibrium stock price true or intrinsic value about company s prospects STOCK PRICES INTRINSIC VALUE Intrinsic value is a long term concept Incorrect predictions cause deviation in IV STOCK PRICE VS PROFIT MAXIMIZATION Profit is not a good measure of wealth Lack of risk consideration Lack of time value factor No unique defintion IMPORTANT BUSINESS TRENDS Stock price relies on current earnings future earnings and cash flow Corporate scandals regulation and corporate oversight Increase in globalization of business AGENCY RELATIONSHIPS Exist whenever principal hires agent to act on their behalf In a corporation Shareholders Managers manager acts as agent for shareholder probably always there more important Shareholders Creditors creditors aka bondholders stockholders act as agent for creditors Share stockholder is agent because creditors give money to SH and let them make decisions probably arise when company is in financial distress A bondholder someone you take a loan from buys bond from creditors Bondholder creditor Stock shareholder Investment Conflicts Manager Shareholder Manager is inclined to act in their own best interest not always in shareholder s best interest Share stockholder is agent because creditors give money to SH and let probably arise when company is in financial distress A bondholder someone you take a loan from buys bond from creditors Bondholder creditor Stock shareholder Investment Conflicts Manager Shareholder Manager is inclined to act in their own best interest not always in shareholder s best interest Factors that influence manager behavior Manager compensation package Direct intervention by SH Threat of firing Threat of takeover Best for motivating stock option annual bonus fixed salary Conflicts Shareholders and Bondholders SH prefer riskier projects b c more of upside is received if project succeeds Bondholders have fixed payments prefer less risk b c their pay doesn t change whether project succeeds or not BH concerned with the use of additional debt BH protects themselves By including covenants in bond agreements Limits use of additional debt constrains manager actions Bondholders have fixed payments prefer less risk b c their pay doesn t