ppt int. 16 (kasi)
TRANSCRIPT
-
8/3/2019 ppt Int. 16 (Kasi)
1/36
Copyright 2003 Pearson Education, Inc. Slide 1-0
FIN516 CORPORATE
FINANCE
LECTURE 1
-
8/3/2019 ppt Int. 16 (Kasi)
2/36
Copyright 2003 Pearson Education, Inc. Slide 1-1
Learning Goals1.Define Corporate finance, the major areas of finance,
and the career opportunities available in this field, and
the legal forms of business organization.
2.Describe the managerial finance function and its
relationship to economics and accounting.
3. Identify the primary activities of the financial manager
within the firm.4.Explain why wealth maximization, rather than profit
maximization, is the firms goal and how the agency
issue is related to it.
-
8/3/2019 ppt Int. 16 (Kasi)
3/36
Copyright 2003 Pearson Education, Inc. Slide 1-2
What is Corporate Finance? At the macro level, finance is the study of financial
institutions and financial markets and how they
operate within the financial system in both the U.S.
and global economies. At the micro level, finance is the study of financial
planning, asset management, and fund raising for
businesses and financial institutions.
Financial management can be described in brief using
the following balance sheet.
-
8/3/2019 ppt Int. 16 (Kasi)
4/36
Copyright 2003 Pearson Education, Inc. Slide 1-3
Assets: Liabilities & Equity:
Current Assets Current Liabil ities
Cash & M.S. Accounts payable
Accounts receivable Notes Payable
Inventory Total Current Liabilities
Total Current Assets Long-Term Liabilities
Fixed Assets: Total Liabilities
Gross f ixed assets Equity:Less: Accumulated dep. Common Stock
Goodw ill Paid-in-capital
Other long-term assets Retained Earnings
Total Fixed Assets Total Equity
Total Assets Total Liabilities & Equity
ABC CompanyBalance Sheet
As of December 31, 19xx
WorkingCapital
WorkingCapital
InvestmentDecisions
FinancingDecisions
Macro Finance
-
8/3/2019 ppt Int. 16 (Kasi)
5/36
Copyright 2003 Pearson Education, Inc. Slide 1-4
What is Corporate Finance?A well-developed financial system is a hallmark and essential
characteristic of any modern developed
nation.
Financial markets, financial intermediaries, and
financial management are the importantcomponents.
Financial markets and financial intermediaries
facilitate the flow of funds from savers (surplus economic units)to borrowers (deficit economic units).
Financial management involves the efficient use of financial
resources in the production of goods.
-
8/3/2019 ppt Int. 16 (Kasi)
6/36
Copyright 2003 Pearson Education, Inc. Slide 1-5
Corporate Finance Corporate finance is concerned with the duties of the
financial manager in the business firm.
The financial manageractively manages the financial
affairs of any type of business, whether private or
public, large or small, profit-seeking or not-for-
profit.
Increasing globalization has complicated the
financial management function.
Changing economic and regulatory conditions also
complicate the financial management function.
-
8/3/2019 ppt Int. 16 (Kasi)
7/36
Copyright 2003 Pearson Education, Inc. Slide 1-6
Basic Forms ofBusiness Organization
-
8/3/2019 ppt Int. 16 (Kasi)
8/36
Copyright 2003 Pearson Education, Inc. Slide 1-7
Corporate Organization
-
8/3/2019 ppt Int. 16 (Kasi)
9/36
Copyright 2003 Pearson Education, Inc. Slide 1-8
Other Limited Liability Organizations
-
8/3/2019 ppt Int. 16 (Kasi)
10/36
Copyright 2003 Pearson Education, Inc. Slide 1-9
The Corporate Finance Function
The size and importance of the Corporate finance
function depends on the size of the firm.
In small companies, the finance function may be
performed by the company president or accounting
department.
As the business expands, finance typically evolves
into a separate department linked to the president.
-
8/3/2019 ppt Int. 16 (Kasi)
11/36
Copyright 2003 Pearson Education, Inc. Slide 1-10
The Corporate Finance Function
The field of finance is actually an outgrowth of
economics.
In fact, finance is sometimes referred to as financial
economics.
Financial managers must understand the economic
framework within which they operate in order to react
or anticipate to changes in conditions.
Relationship to Economics
-
8/3/2019 ppt Int. 16 (Kasi)
12/36
Copyright 2003 Pearson Education, Inc. Slide 1-11
The Corporate Finance Function
The primary economic principal used by financial
managers is marginal analysis which says that
financial decisions should be implemented only when
benefits exceed costs.
Relationship to Economics
-
8/3/2019 ppt Int. 16 (Kasi)
13/36
Copyright 2003 Pearson Education, Inc. Slide 1-12
The Corporate Finance Function
The firms finance (treasurer) and accounting
(controller) functions are closely-related and
overlapping.
In smaller firms, the financial manager generally
performs both functions.
Relationship to Accounting
-
8/3/2019 ppt Int. 16 (Kasi)
14/36
Copyright 2003 Pearson Education, Inc. Slide 1-13
The Corporate Finance Function
One major difference in perspective and emphasis
between finance and accounting is that accountants
generally use the accrual method while in finance, the
focus is on cash flows.
The significance of this difference can be illustrated
using the following simple example.
Relationship to Accounting
-
8/3/2019 ppt Int. 16 (Kasi)
15/36
Copyright 2003 Pearson Education, Inc. Slide 1-14
The Corporate Finance Function
Finance and accounting also differ with respect to
decision-making.
While accounting is primarily concerned with the
presentation of financial data, the financial manager is
primarily concerned with analyzing and interpretingthis
information for decision-making purposes.
The financial manager uses this data as a vital tool for
making decisions about the financial aspects of the
firm.
Relationship to Accounting
-
8/3/2019 ppt Int. 16 (Kasi)
16/36
Copyright 2003 Pearson Education, Inc. Slide 1-15
Key Activities of the CorporateFinancial Manager
-
8/3/2019 ppt Int. 16 (Kasi)
17/36
Copyright 2003 Pearson Education, Inc. Slide 1-16
Goal of the FirmMaximize Profit???
Investment Year 1 Year 2 Year 3 Total
A 2.90$ -$ -$ 2.90$
B -$ -$ 3.00$ 3.00$
EPS ($)
Which Investment is Preferred?
Profit maximization fails to account fordifferences in the level of cash flows (as
opposed to profits), the timing of these cashflows, and the risk of these cash flows.
-
8/3/2019 ppt Int. 16 (Kasi)
18/36
Copyright 2003 Pearson Education, Inc. Slide 1-17
Goal of the FirmMaximize ShareholderWealth!!!
Why?
Because maximizing shareholder wealth properly
considers cash flows, the timing of these cash flows,
and the risk of these cash flows.
This can be illustrated using the following simple
valuation equation:
Share Price = Future Dividends
Required Return
level & timingof cash flows
risk of cashflows
-
8/3/2019 ppt Int. 16 (Kasi)
19/36
Copyright 2003 Pearson Education, Inc. Slide 1-18
Goal of the FirmMaximize ShareholderWealth!!!
It can also be described using the following flow chart:
-
8/3/2019 ppt Int. 16 (Kasi)
20/36
Copyright 2003 Pearson Education, Inc. Slide 1-19
Goal of the FirmEconomic Value Added (EVA)
conomic value added (EVA) is a popular measure
used by many firms to determine whether an
investment - proposed or existing - positively
contributes to the owners wealth.
EVA is calculated by subtracting the cost of funds
used to finance an investment from its after-tax
operating profits. Investments with positive EVAs increase shareholder
wealth and those with negative EVAs reduce
shareholder value.
-
8/3/2019 ppt Int. 16 (Kasi)
21/36
Copyright 2003 Pearson Education, Inc. Slide 1-20
Goal of the FirmWhat About Other Stakeholders?
Stakeholders include all groups of individuals who have adirect economic link to the firm including:
Employees
Government
Customers
Suppliers
Creditors
Owners
The "Stakeholder View" prescribes that the firm make aconscious effort to avoid actions that could bedetrimental to the wealth position of its stakeholders.
Such a view is considered to be "socially responsible."
-
8/3/2019 ppt Int. 16 (Kasi)
22/36
Copyright 2003 Pearson Education, Inc. Slide 1-21
Ethics is the standards of conduct or moral judgment -
have become an overriding issue in both our society
and the financial community
Ethical violations attract widespread publicity
Negative publicity often leads to negative impacts on a
firm
The Role of EthicsEthics Defined
-
8/3/2019 ppt Int. 16 (Kasi)
23/36
Copyright 2003 Pearson Education, Inc. Slide 1-22
The Role of EthicsConsidering Ethics
To assess the ethical viability of a proposed action,
ask:
Does the action unfairly single out an individual or
group? Does the action affect the morals, or legal rights of
any individual or group?
Does the action conform to accepted moralstandards?
Are there alternative courses of action that are less
likely to cause actual or potential harm?
-
8/3/2019 ppt Int. 16 (Kasi)
24/36
Copyright 2003 Pearson Education, Inc. Slide 1-23
Ethics programs seek to:
reduce litigation and judgment costs
maintain a positive corporate image
build shareholder confidence
gain the loyalty and respect of all stakeholders
The expected result of such programs is to positively
affect the firm's share price.
The Role of EthicsEthics & Share Price
-
8/3/2019 ppt Int. 16 (Kasi)
25/36
Copyright 2003 Pearson Education, Inc. Slide 1-24
The Agency Issue
Whenever a manager owns less than 100% of the
firms equity, a potential agency problem exists.
In theory, managers would agree with shareholder
wealth maximization.
However, managers are also concerned with their
personal wealth, job security, fringe benefits, and
lifestyle.
This would cause managers to act in ways that do not
always benefit the firm shareholders.
The Agency Problem
-
8/3/2019 ppt Int. 16 (Kasi)
26/36
Copyright 2003 Pearson Education, Inc. Slide 1-25
The Agency Issue
MarketForces such as major shareholders and the
threat of a hostile takeover act to keep managers in
check.
AgencyCosts may be incurred to ensure management
acts in shareholders interests. (incentive)
Resolving the Problem
-
8/3/2019 ppt Int. 16 (Kasi)
27/36
Copyright 2003 Pearson Education, Inc. Slide 1-26
Financial Institutions & Markets
Firms that require funds from external sources can
obtain them in three ways:
through a bank or other financial institution
through financial markets
through private placements
-
8/3/2019 ppt Int. 16 (Kasi)
28/36
Copyright 2003 Pearson Education, Inc. Slide 1-27
The Relationship between FinancialInstitutions and Financial Markets
-
8/3/2019 ppt Int. 16 (Kasi)
29/36
Copyright 2003 Pearson Education, Inc. Slide 1-28
Both individuals and businesses must pay taxes on
income.
The income of sole proprietorships and partnerships is
taxed as the income of the individual owners, whereas
corporate income is subject to corporate taxes.
Both individuals and businesses can earn two types of
income -- ordinaryand capital gains.
Under current law, tax treatment of ordinary income
and capital gains change frequently due frequently
changing tax laws.
Business Taxes
-
8/3/2019 ppt Int. 16 (Kasi)
30/36
Copyright 2003 Pearson Education, Inc. Slide 1-29
Ordinary income is earned through the sale of a firms
goods or services and is taxed at the rates depicted in
Table 1.4 on the following slide.
Business TaxesOrdinary Income
Example
Calculate federal income taxes due if taxable income is$80,000.
Tax = .15 ($50,000) + .25 ($25,000) + .34 ($80,000 - $75,000)
Tax = $15,450
-
8/3/2019 ppt Int. 16 (Kasi)
31/36
Copyright 2003 Pearson Education, Inc. Slide 1-30
Business TaxationOrdinary Income
-
8/3/2019 ppt Int. 16 (Kasi)
32/36
Copyright 2003 Pearson Education, Inc. Slide 1-31
Business TaxationAverage & Marginal Tax Rates
Example
What is the marginal and average tax rate for the previousexample?
Marginal Tax Rate = 34%
Average Tax Rate = $15,450/$80,000 = 19.31%
A firms marginal tax rate represents the rate at which
additional income is taxed.
The average tax rate is the firms taxes divided by
taxable income.
-
8/3/2019 ppt Int. 16 (Kasi)
33/36
Copyright 2003 Pearson Education, Inc. Slide 1-32
Business TaxationDebt versus Equity Financing
Example
Two companies, Debt Co. and No Debt Co., both expect
in the coming year to have EBIT of $200,000. During the
year, Debt Co. will have to pay $30,000 in interest
expenses. No Debt Co. has no debt and will pay not
interest expenses.
In calculating taxes, corporations may deduct operating
expenses and interest expense but not dividends paid.
This creates a built-in tax advantage for using debt
financing as the following example will demonstrate.
-
8/3/2019 ppt Int. 16 (Kasi)
34/36
Copyright 2003 Pearson Education, Inc. Slide 1-33
Business TaxationDebt versus Equity Financing
-
8/3/2019 ppt Int. 16 (Kasi)
35/36
Copyright 2003 Pearson Education, Inc. Slide 1-34
Business TaxationDebt versus Equity Financing
As the example shows, the use of debt financing can
increase cash flow and EPS, and decrease taxes paid.
The tax deductibility of interest and other certain
expenses reduces their actual (after-tax) cost to the
profitable firm.
It is the non-deductibility of dividends paid that resultsin double taxation under the corporate form of
organization.
-
8/3/2019 ppt Int. 16 (Kasi)
36/36
Copyright 2003 Pearson Education, Inc. Slide 1-35
Business TaxationCapital Gains
A capital gain results when a firm sells an asset such
as a stock held as an investment for more than its
initial purchase price.
The difference between the sales price and the
purchase price is called a capital gain.
For corporations, capital gains are added to ordinaryincome and taxed like ordinary income at the firms
marginal tax rate.