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FN1 corporate finance > Chapter 2 notes > Flashcards

Chapter 2 notes Flashcards

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1
Q

what are the types of business organizations

A
  1. sole proprietorships 2. partnerships - LLP 3. Trusts - income and royalty trusts 4. corporations
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2
Q

what are the different types of trusts

A
  1. income trusts 2. royalty trusts
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3
Q

what is the nature of the business for a sole proprietorship?

A
  • a business owned and operated by one person - legally inseparable form the person who owns and operate the business - reports income , both gross and net, on personal income tax returns - net business income is taxed at the person’s marginal tax rate
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4
Q

how does a sole proprietorship get financing

A
  • limited to the resources of the individual owning and operating the business and their personal capacity to borrow
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5
Q

how is a sole proprietorship set up /; operated

A
  • business records must be maintained for reporting to CRA - owners may wish or, depending on the type of the business and jurisdiction, be required to register with the provincial gov - if employing persons, the owner must obtain an employer number, deduct and remit income taxes as well as make employer contributions to CPP and EI
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6
Q

what are the advantages to sole proprietorship

A
  1. easy to start 2. little formality, but business records must be maintained
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7
Q

what are the disadvantages to a sole proprietorship

A
  1. unlimited legal liability! 2. net income is taxed at the personal marginal tax rate 3. financing is limited to the resources of the owner 4. the life of the enterprise is limited to the working life of the sole proprietor
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8
Q

What is the nature of the business for a partnership

A
  1. involves two or more partners 2. must have at least one general partner, who has unlimited legal liability for the activities of the business, 3. while all other partners are referred to as limited partners and have LIMITED LEAGAL LIABILITY
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9
Q

how does a partnership get financing

A
  • a function of the combined resources of the partners - can attract additional resources through limited partner contributions
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10
Q

what is the formality for a partnership

A
  1. must be registered under provincial partnership legislation 2. should be formalized through a partnership agreement outlining partner responsibilities, how partners invest and divest of the business, and the division of net business income
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11
Q

explain limited liability partnerships

A

a new form of organization for professional firms, commonly used by Canadian legal and accounting firms, that limits the liability of partners - the income of partners is included as ordinary income and filed using an individual tax return

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12
Q

what is important about partnerships and used for tax purposes

A

limited partners are often able to use unused non-cash deductions such as depreciation and /or business loses to offset personal tax liabilities

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13
Q

What is a general partner

A
  • there must be one general partner, which is responsible for operating the business and has unlimited legal liability - often the general partner is a corporation
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14
Q

what is the limited partner

A
  • passive (or silent) investor - contribute money to the business; share in the profits
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15
Q

what are the advantages to a partnership

A
  1. harnesses the combined talents and energies of all the partners 2. potential for grater combined financial resources of the partners 3. spreads liability across the partners (jointly and severally)
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16
Q

what are the disadvantages of a partnership

A
  1. income is taxed at the individual’s marginal rate 2. governed by provincial partnership legislation and often requires a formal partnership agreement 3. unlimited legal liability 4. non-partnership business arrangements can be deemed partnerships under Canadian law 5. it can be legally challenging to disassociate oneself form and /or dissolve a partnership arrangement
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17
Q

What is the nature of the business for Trusts?

A
  • trusts are used to separate ownership from control - controlled by a trustee in accordance with trust documents for the benefit of the named beneficiary(Ies)
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18
Q

what are some examples of trusts

A
  1. inter vivos and testamentary trusts for estate and tax planning 2. open-ended mutual funds organized as unit trusts 3. many corporations have restricted themselves as income and royalty trusts
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19
Q

what is the formality for trusts

A
  • established through a formal trust agreement naming trustee and beneficiary(ies)
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20
Q

What is the nature of the business for trusts

A
  • invest in both the debt and shares of one company in order to function as a pass-through entity - net cash flows form the business operations of the company pass through the trust without taxation
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21
Q

what is the purpose and structure of trusts

A
  • to minimize the income tax payable on the cash flows generated by the underlying business so that more cash flow passes to the trust’s unit holders than through a traditional common stock investment
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22
Q

what are the advantages to trusts

A
  1. funds flowing through the trust are not subject to income tax 2. separates ownership and control
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23
Q

what are the disadvantages of trusts

A
  • governance structure may only be appropriate for well established firms with little further needs for capital investments
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24
Q

What is the nature of business for a corporation

A
  1. a separate legal entity (person) under the law that can be incorporated under provincial or federal legislation 2. governed by BOD elected by shareholders, managed by professional managers, and owned by shareholders
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25
Q

how does a corporation get financing

A

highly flexible and long-term including issuing stocks and bonds and other hybrid securities to raise capital

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26
Q

What is the formality for corporations

A

articles of incorporation, and corporate bylaws and practices are governed by corporate and securities law

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27
Q

what are the advantages to a corporation

A
  1. no limit to how long an enterprise can operate, so it can issue securities with very long terms to maturity 2. potential to attract large amount of financing by expanding its base of shareholders 3. potential to attract well qualified people to its BOD and to sue their expertise to advance the firm’s interests 4. has the potential to hire professional managers to build value
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28
Q

What are the disadvantages of the corporation

A
  1. formality and structure may slow the speed of organizational response 2. Canadian tax law double-taxes dividends: paid to shareholders are taxed first as income of the corporation and then again as personal income of shareholders
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29
Q

what is the corporate governance

A
  1. shareholders, as owners of the corporation have residual claims to profits and assets and voting rights 2. shareholders vote to: - elect the BOD - adopt finaical statements - approve the auditors for the coming year 3. the BOD and management are responsible for the-day-to-day operation of the corporation in accordance with standards set out in Canada business corporations act
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30
Q

what are director and officer responsibilities

A

section 122.1 of the Canada business corporations act states that every director and officer of a corporation in exercising their powers and discharging their duties shall 1. act honestly and in good faith with a view to the best interests of the corporation 2. exercise the care, diligence and skill that a reasonable prudent person would exercise in comparable circumstances

31
Q

What is important about he separation of ownership and management

A
  1. Professional managers and directors manage the corporation and are the agents of the shareholders who are the principal owners. 2.It is possible for agents (management) to pursue their own goals at the expense of the principal (shareholders) 3. The fact that owners (shareholders) have limited access to information about the company they own, and managers and the board of directors hold superior information, creates further potential for conflict 4. Corporate law anticipates the potential for principal-agent conflict and imposes responsibilities and reporting controls on management to reduce the probability of such conflicts
32
Q

what is information asymmetry

A
  1. Corporate law anticipates the potential for principal-agent conflict and imposes responsibilities and reporting controls on management to reduce the probability of such conflicts
33
Q

to reduce the conflict from infomraiton asymmetry what can you do

A

corporate and securities law requires regular release of information about corporate performance and the right to require approval from shareholders for major changes in the corporation, including: 1. Annual shareholder meetings with proper notice 2. Audited financial statements 3. Shareholder approval of auditors for the coming year 4. Shareholder approval for changes to bylaws and articles of incorporation

34
Q

what are the goals of the corporation

A

Professional managers of corporations face pressure and have responsibilities to many different stakeholders

35
Q

what is profit maximization

A

is an inadequate goal to guide officers and directors of the corporation

  • It fails to consider the risks undertaken by the firm to pursue profit
  • It focuses on accounting profit
  • Its focus on one year’s accounting profit can potentially be at the expense of the long-term interests of the shareholders
36
Q

Shareholder wealth maximization is considerd what?

A

the most appropriate goal to guide the corporation’s directors and officers:

  • Its focus is on genuine economic profit
  • It reflects the value of all economic profits of the corporation now and into the future
  • It takes into account the timing, magnitude and riskiness of all prospective (future) cash flows the corporation’s capital investment is expected to generate
37
Q

Despite the attention given to major corporations because of negative externalities, the agents (management) of the corporation must:

A
  • Operate legally and in compliance with contractual responsibilities
  • Act in the interests of the principals (shareholders) by creating value for them
38
Q

Managers work on behalf of shareholders in a what kind of relationship?

A

agency relationship

39
Q

what are the agency problems in an agency relationship

A

•Agency problems can arise due to the potential divergence of interest between managers, shareholders and creditors; result in agency costs

40
Q

What do direct agency costs reuslt from?

A
  • from management making decisions that do not maximize shareholder value
  • Examples: Managers avoid high-risk projects to avoid looking bad or losing their jobs if the project fails, and managers spend corporate resources on perks for themselves such as executive aircraft.
41
Q

what are indirect agency costs

A

costs are incurred by the firm in the attempt to avoid direct agency costs

•Examples: Compensation schemes that attempt to align the interests of managers and shareholders (e.g., stock options), reporting requirements placed on management, and shareholder approval requirements for changes to corporate bylaws, articles of incorporation, etc.

42
Q

•Managers and shareholders may have differing goals, attitudes towards risk, and differential access to information about the firm, all of which can lead to disagreement.
what are some of the confilcits

A
43
Q

what is executive compensation

A
  • Compensation is tied to performance measures in an effort to align management and shareholder interests
  • Performance-based compensation schemes are not always effective in achieving the goal of aligning interests and have lead to concerns about excessive management compensation
  • Executive stock options, for example, magnify returns to management when the stock price rises regardless of whether the rise is attributable to managerial performance, but don’t expose management to the losses shareholders will endure if the stock price falls
44
Q

what does corporate finance involve?

A

involves the financial management of a corporation’s assets and corporate financing decisions.

45
Q

What are the decisions faced by corproate finance

A
  1. financial management of assets
  2. corporate financing decisions
46
Q

what is financial management of assets?

A

•Capital budgeting decisions, including the analysis of asset investment, acquisition and replacement proposals.
•Credit (accounts receivable) policy
•Cash management

47
Q

what is corporate financing decisions?

A
  • Managing capital structure: the ratio of debt and equity
  • Raising new equity capital either through profit retention or new share issues
  • Dividend policy
  • Borrowing decisions and liability management
48
Q

what is the hiararchy of roles

A

CFO / Senior VP of Finance

treasurer

controller

49
Q

what is ther treasure’s responsiblities

A

•A pure finance role with responsibilities including: forecasting, financial management, capital budgeting, cash management, credit management, financing and risk management

50
Q

what is the controller’s responsiblities

A

Controller
•A role that combines finance and accounting with responsibilities including: compliance, tax management, systems, internal audit, accounting and budgeting

51
Q

what are some other finance jobs

A
  • Analysts
  • Associates
  • Managers
  • Account managers
  • Banking associates
  • Security analysts
  • Sales and trading
  • Private bankers
  • Retail brokers
  • Financial and Investment analysts
  • Portfolio managers
  • Corporate finance associates and consultants
52
Q

what is moral hazard

A

the fact that individual’s behaviours may change if they are not exposed to the full consequences of their actions

53
Q

what is capital budgeting or capital expenditure analysis

A

the framework for analyzing investment or asset decisions

54
Q

what is financial management

A

the process of managing the firm’s investment decisions

55
Q

what is corporate financing

A

the sources of money for a company, which include using debt or equity, retaining earnings or issuing equity, oging public, using bank debt or bonds, using the short-term money market, or borrowing form a bank

56
Q

wha tis corproate finanace

A

the financial management of assets and corproate financaing decisions

57
Q

who is the CFO

A

the top financial manager in a company

58
Q

who is the VP of finance

A

in some companies, funcition as the CFO

59
Q

who is the treasurer

A

one of the two main finance jobs in a non-fiancial firm;

  • focuses on the finance side
  • forecasting, pension management, captial budgeting, cash management, credit management, finacing, risk management
60
Q

who is the controller and what are they responsible for

A

one of the two main finance jobs in a non-fiancial firm

  • focuses on the accouting side
  • compaliance, tax management, systems/MIS, internal audit, accouting and budgeting
61
Q

what is ana ayalysts

A

first level jobs in a financial isntutitutinon,

  • requiring an udergraduate degree
  • analysts are usually repsonsible for gathering an danalyzing data, and providing general assistance to assocaties
62
Q

what are associates

A

second-level jobs in a financial isntutition,

  • require an MBA or a professional designation, such as a CFA
63
Q

what are managers in a financial isnutition

A

the third level jobs in a financial instution

64
Q

what are account managers

A

people who manage a bank’s relationships with comapnies, extending credit, helping to manage receivablesand cas, and directing them to the bank’s more specialized services

65
Q

what are bank associates

A

people who generate reprots on companies, prepare industry reports, and perform bakcground checks on creidt applicats

66
Q

what are security analysts

A

people who monitor th evaluations of comapnies and make recommendations to buy and sell a company’s shares

67
Q

what are sales and trading people

A

those who execute trades on behalf o ftheir clients and conduct proprietary trading for hte dealer itself by using the bank’s own capital

68
Q

what are private bankers

A

people who help clients, usually peopel who have large accoutns, manage their personal wealth

69
Q

what are retail brokers

A

people who help clients, usually people who have small to medium-sized accoutns, manage thier personal wealth

70
Q

what are financail and investment analysts

A

peoiple who do research, perofrm detaile danalyses of individual investments, and make recommendations on overall financial strategy

71
Q

what are portfolio managers

A

professionals in charge of overall management of a portfolio

72
Q

what are fixed income traders or equity traders

A

people who implement a company’s investment strategies and either buy or sell the stakes in comapnies

73
Q

corporate finance associates and consultants what are they

A

fianance professionals who advise on restructuring, small scale M&A and corpoate financing

FN1 corporate finance (44 decks)

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