Module 1 Flashcards
role of the financial manager
to use a blend of tools and analyses to make financial decisions that will create firm value for the owners
the value of an asset
determined by the future cf it will generate thru use or sale
three fundamental decisions
- investing
- financing
- wcm
investing decision
capital budgeting/expenditure decision
- deciding what productive assets to buy
- most important decision bc = generates most inflows, long-term, involve huge cash outlays
sole proprietor adv & disadv
- easy and cheap to form, less regulated, single taxing
- no perp succ, unlimited liability, capital limited to one owner
partnership adv & disadv
- adv: single taxation, can raise more capital, can share duties and expertise
- no perp succ, partners jointly liable for debts, possible disputes
company adv & disadv
incorporated legal entity seperate from owners. governed by companies act.
- limited liability, perp succ, more capital can be raised, easy to sell ownership interest
- owner & mgmt separate = principle agent problem, double tax, more regulated
the BOD
elected at the annual governance meeting and represent the SH and appoint a CEO
CEO
- CFO reports to them
- resp for day-to-day company mgmt and reports to the board
audit committee
oversees both int and ext auditors and AFS prep
CFO
- reports to CEO
- responsible for managing the financial function (treasury, risk mgmt and acc)
problems with profit maximization
- manipulation of acc profits
- does not reflect cash flows / when they are to be rec
- ignores uncertainty / risk associated with cf (ignores tvm)
how firm share value is determined
by examining future cash flows (size, timing, riskiness)
appropriate goals
for unlisted = maximizing the current value of OE
for listed = maximizing share price
agency relationship
- shareholders (principle) hire managers (agent) to run the company and represent their interests
internal mechanisms to minimize agency problem
- aligning interests by tying mgmt compensation to company performance / share options schemes
- cash bonuses
- performance shares
corporate governance mechanisms
(BOD)
- board chair should be independent from CEO = ned
- board should have majority NEDs to ensure effective monitoring of exec directors
- developing / enforcing corp ethics code
- audit committees
external mechanisms to minimize agency problem
- corporate raiders takeover
- managerial labour market (bad firms can’t hire good managers, good firms won’t hire bad managers)
executive directors
involved in d2d bus activities, are part of the board
two parts of the financial system
- fin markets
- fin institutions
financial markets
securities are traded, bonds, shares, comm paper
what do fin institutions do?
gather small amts of money and loan it / inv in shares or bonds (banks ins firms pension funds)
what is the capex/capital budgeting decision?
involves deciding what productive assets to buy
what is the decision rule?
if future cash inflows > outflows, accept the project
why is the capex decision considered the most important?
- productive assets generate most of the firm’s inflows (firm value)
- capex decisions are long-term (if you make a mistake, stuck with it for long)
- decisions involve huge cash outlays
what is the financing capstructure decision?
- determines how productive assets are defined
- firm value comes from inv rather than financing
two ways of raising equity finance?
- share issue
- reinvesting residual cash flow
examples of indirect agency costs?
lost opp costs
wcm decision?
- how current assets and liabilities are managed / how day-to-day financial matters should be managed
what does working cap mgmt decision seek to do?
maximize value creation and avoid destroying value
what is the role of the fin system?
to gather money from lender-savers and channel it to borrower-spenders and enable firms to raise cap and manage their liquidity and risk
two ways by which funds flow through a fin sys?
directly (markets)
indirectly (institutions)
what is the role of the fin system?
to gather money from lender-savers and channel it to borrower-spenders and enable firms to raise cap and manage their liquidity and risk
what happens in a direct financing transaction?
- funds directly through markets from LS to BS. they then sell instruments to LS in exchange for money.
key players in direct fin markets?
inv banks
money centre banks
what do inv banks do?
- help companies sell new debt and equity securities and also provide broker and dealer services.
- helps comps with origination, underwriting, distribution
what is fin market underwriting?
ensures the successful sale of shares or bonds in primary markets
what is a formal market/exchange?
- organized & highly regulated markets which have a central trading location
- specialize in a narrow range of standardized instruments and are accessible to small investors
what is a otc markets?
- for trading securities not on the formal exchange
- no central location
- currencies are efficiently traded over these markets
what is a money market?
- where short term debt instruments are traded
- no central location
- low risk, low return investments
what is a capital market?
long-term
what is a banker’s acceptance?
issued by companies involved in international trade but are guaranteed by banks
what is a commercial paper?
issued by large comps when they want to borrow in order to manage their liquidity
whats a public market?
markets where the general public can buy/sell securities through a broker (formal and capital)
what is a private market?
involve a direct transaction between two parties (otc and money)
types of SM indices
global, regional, national, industry
services banks offer?
- comm banking (overdraft facility, leasing, forex)
- inv banking (corporate finance, lending, public share issues (IPOs)
services that insurance firms offer?
- obtaining funds from insurance policies
- provide funding to public companies through share purchase and bonds in direct markets
- fund private companies through placement funding
how is the real interest rate determined?
- through the absence of inflation
- by the interaction of the RR businesses expect to earn on capital goods
what is the nominal interest rate?
- observed in the market
- real int rate and expected infl rate
