WFF2013 Group K & Q

Semester 2 2007/2008

CHAPTER I
INTRODUCTION TO FINANCIAL
MANAGEMENT

What is finance?
(Class discussion)

The goal of financial management is to

maximize the current value per share of
the existing stock

Goals of the Corporation

The primary goal is shareholders wealth
maximization, which translates to
maximizing stock price.

Forms of Business Organization

i. Sole Proprietorship
• A business owned by a single
individual
• Ease of formation
• Subjects to few regulations
• No corporate income taxes
• The owner has unlimited liability
for business debts

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Semester 2 2007/2008

• Limited life
• Difficult to raise capital

ii. Partnership
• A business formed by two or more
individuals or entities (not more
than 20 members except for
professional partnership)
• A partnership has roughly the same
advantages and disadvantages as
a sole proprietorship
• General partnership – all the
partners share in the gains or
losses and all have unlimited
liability
• Limited partnership – one or more
general partners will run the
business and have unlimited
liability, but there will be one or
more limited partners who will not
actively participate in the business.

iii. Corporation
• A business created as a distinct
legal entity composed of one or
more individuals or entities.

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• Unlimited life
• Easy transfer of ownership
• Limited liability
• Ease of raising capital
• Double taxation
• Cost of set-up and report filing

Roles of the Financial Manager

• Forecasting and planning
• Investment and financing decision
• Coordination and control
• Transactions in the financial markets
• Managing risk

Agency Relationships
• An agency relationship exists
whenever a principal hires an agent to
act on their behalf
• Within a corporation, agency
relationships exist between:
- Shareholders and managers

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FINANCIAL MARKETS AND THE

CORPORATION

i. Primary markets
A market in which new, as opposed
to previously issued, securities are
traded.
• Initial Public Offering (IPO)
The first time the company’s stock
is sold to the public.
• Private placements
Securities are offered and sold to
a limited number of investors.

ii. Secondary markets

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Semester 2 2007/2008

The market in which stock previously

issued by the firm trades.
• Bursa Malaysia
• New York Stock Exchange (NYSE)

iii. Over the counter markets (OTC)

OTC markets includes all security
markets except the organized
exchanges.
• Transactions done through
electronic devices, phone, sms
etc.

PRINCIPLES UNDERLYING THE

FINANCIAL MANAGEMENT

i. The risk return trade off – we won’t

take on additional risk unless we
expect to be compensated with
additional return (high risk, high
return)

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ii. The time value of money – A dollar

received today is worth more than a
dollar received in a future

iii. Cash - not profit - is king

iv. Incremental cash flows – It’s only

what changes that counts

v. The curse of competitive markets –

why it’s hard to find exceptionally
profitable projects

vi. Efficient capital markets – the

markets are quick and the prices are
right

vii. The agency problem – managers

won’t work for the owners unless it’s
in their best interest

viii.Taxes bias business decisions

ix. All risk is not equal – some risk can

be diversified away, and some
cannot

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x. Ethical behavior is doing the right

thing, and ethical dilemmas are
everywhere in finance