Chapter 1

Finance and Business

Areas of Finance

• Business Finance – Decision making within

a business setting• Investments – Allocation of money to earn

future return• Markets and Institutions – System through

which funds (money) flow to productive

uses

Economic/Finance

Economics - Making decisions on how to best allocate scare resources (land, labor, capital) to meet the needs of society

Finance – Making decisions on how to best allocate financial resources (money)

Goal of Individuals

Maximize their utility (satisfaction)

Allocate (spend vs. invest) financial resources to maximize satisfaction

Objective of Finance

• Maximize wealth of owners• Maximize value of the firm• Maximize price of firm’s stock

Maximizing wealth of owners who can then maximize their personal satisfaction

Managers cannot decide for individual owners how to best maximize their personal satisfaction

Shareholders vs. StakeholdersThere are many advocates for looking after the

welfare of stakeholders over shareholders (a stakeholder is anyone having a stake in the company – owners, employees, suppliers, the community)

How do we balance competing stakeholders wishes

Shareholders wealth cannot be maximized in the long run at the expense of other stakeholders

Agency Problem

Agent (manager) vs. Principal (owner)

Assuring managers don’t take care of there own interests over other stakeholders

Importance of Cash Flows

• When can “less” be worth more than “more”

• Time Value of Money

• Risk

Finance Functions (Decisions)

• Investment Decision

• Financing Decision

• Working Capital

How to Make Decisions

• Determine how decision will effect cash flows of the firm

• Adjust change in cash flows for time value of money

• Evaluate the change in cash flows for risk

What Defines Finance?

• Time Value of Money

• Risk

Financial Statements

• Balance Sheet

• Income Statement

• Statement of Cash Flows

• Statement of Changes in Retained Earnings

Forms of Business

• Proprietorship – Individual

• Partnership

• Corporation

Ethics and Global Economy

• Making ethical decision

• Dealing with global economy