An Overview of Financial and Multinational Financial

Management

Corporate Finance

Dr. A. DeMaskey

Learning Objectives Questions to be answered:

What is the role of financial management? What are the three main areas of finance? How are companies organized? What are the goals of the corporation? What key trends are affecting financial

management today? What factors make multinational financial

management different? What agency relationships exist within

corporations?

What three questions does financial management seek to

answer?

What causes a company to have a particular stock value?

How can managers make choices that add value to their companies?

How can managers ensure that their companies don’t run out of cash while executing their plans?

The Field of Finance

Capital Markets/Financial Institutions

Investments

Financial Management

Financial Decisions Within the Firm

Investment Decisions

Financial Decisions

Both

Financial Management and Analysis

Financial Management

Financial Analysis

Alternative Forms ofBusiness Organization

Sole proprietorship

Partnership

Corporation

Sole Proprietorship Advantages:

Ease of formation Subject to few regulations No corporate income taxes

Disadvantages: Limited life Unlimited liability Difficult to raise capital

Partnership

A partnership has roughly the same advantages and disadvantages as a sole proprietorship.

Corporation Advantages:

Unlimited life Easy transfer of ownership Limited liability Ease of raising capital

Disadvantages: Double taxation Cost of set-up and report filing

Goals of the Corporation

The primary goal is shareholder wealth maximization, which translates to maximizing stock price. Should firms behave ethically? YES! Do firms have any responsibilities to

society at large? YES! Shareholders are also members of society.

Goals of the Corporation

Maximizing the owners’ wealth

Maximizing shareholders’ wealth

Maximizing the price per share

Maximizing economic profits

Economic Profit Versus Accounting Profit

Economic profit Opportunity cost Normal profit

Accounting profit Ignores opportunity costs and normal

profits Does not reflect the firm’s actual cash

flows

Is maximizing stock price good for society, employees, and

customers?

Employment growth is higher in firms that try to maximize stock price. On average, employment goes up in: firms that make managers into owners

(such as LBO firms) firms that were owned by the

government but that have been sold to private investors

Is maximizing stock price good for society, employees, and

customers?

Consumer welfare is higher in capitalist free market economies than in communist or socialist economies.

Fortune lists the most admired firms. In addition to high stock returns, these firms have: high quality from customers’ view employees who like working there

Factors That Affect the Firm’s Stock Price

Internal Factors Amount of cash

flows expected by shareholders

Timing of the cash flow stream

Risk of the cash flows

Use of debt Dividend policy

External Factors Legal constraints General level of

economic activity Tax laws Conditions in the

stock market Investor

expectations

Three Determinants of Cash Flows

Sales Current level Short-term growth rate in sales Long-term sustainable growth rate in

sales

Operating expenses

Capital expenses

Factors that Affect the Level and

Risk of Cash Flows Decisions made by financial

managers: Investment decisions (product lines,

production processes, geographic market, use of technology, marketing strategy)

Financing decisions (choice of debt policy and dividend policy)

The external environment

Financial ManagementIssues of the New

Millennium

Use of computers and electronic transfers of information

The globalization of business

Corporate governance

Agency Relationships An agency relationship exists

whenever a principal hires an agent to act on his or her behalf.

Within a corporation, agency relationships exist between: Shareholders and managers Shareholders and creditors

Shareholders versus Managers

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 versus Creditors

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.

What is a multinational corporation?

A multinational corporation is one that operates in two or more countries.

At one time, most multinationals produced and sold in just a few countries.

Today, many multinationals have world-wide production and sales.

Why do firms expand into other countries?

To seek new markets To seek new supplies of raw materials To gain new technologies To gain production efficiencies To avoid political and regulatory

obstacles To reduce risk by diversification

What are the major factors that distinguish multinational from

domestic financial management?

Exchange rate risk Currency differences

Economic risk Political risk

Government roles Cultural, legal, and institutional differences

Cultural differences Language differences Legal differences