INTRODUCTION TO FINANCIAL MANAGEMENT

Finance is the most important factor in which a company can rely on. Planning certainly offers
a foundation but when you're talking about infrastructure, financing is the only key to business growth
and diversification. This helps companies take advantage of opportunities, recruit workers to meet
corporate goals, receive licenses, provide assistance during bad times and it helps to sustain the
business much more when the economy is good. Any attempt to start a company involves a detailed
understanding and knowledge of Business Finance.

DEFINITION OF FINANCE

Finance has distinct but connected and associated definitions:

1) handling large amounts of money-particularly by governments or large companies ,

“ ”

2) providing monetary support to a business organization,

3) the monetary resources of a nation, companies , or entity.

Therefore, as described by Gitman and Zutter (2012), finance is the art and science of proper
“

handling of money . ”

“ TYPES OF FINANCE ”

As for the different types of finance, Public finance covers tax structures, government
expenditures, budgeting processes, instruments of stabilization, debt problems and other financial
concern while Corporate finance is the administration of a company's properties and debts. The third
one is Personal finance which requires careful control of the income and expenditures of a person,
so that there is enough money left over for savings or which can be used for investment.

• “Public Finance * ”

The government helps deter market collapse by regulating capital management, income
distribution, and economic stabilization. Daily support for these services is largely provided by
taxation. The other methods which may aid the government funds are borrowing from banks,
insurance agencies, and governments; collecting grants and aid; and raising dividends from
their enterprises. Furthermore, fees from usage of ports, airport stations, and other facilities also
help; fines arising from violating laws; taxes from licenses and fees, such as driving; and
government bond sales are also sources of public or government funds.

• Corporate Finance *
“ ”

Businesses offer financing through equity contributions and loan agreements, and through
bond purchases. Start-ups may obtain investments from angel investors also known as venture
“ ” “

capitalists which help budding companies with great potential or they may sell stocks or bonds
”

from existing companies. Businesses can buy stocks that pay dividends, blue-chip bonds
(bonds sold by large corporations) or *interest-bearing bank deposits. Debt acquisition and
careful management will help a company earn more profit and expand operations.
 • “Personal Finance *
”

Personal finance is focused on making more money and doing one’s best to spend less.
By starting a small company like small sole proprietorship, taking on second job or part-time
jobs, or saving, individuals will earn more money. It could be possible to spend less money by
determining if what is being bought really is worth the price paid. One example is just cooking
dishes at home instead of eating in expensive restaurants or a person can buy coffee packs at
a grocery store instead of buying coffee every day from a café and make the coffee at home for
far less money.

Debt relief and the development of an emergency savings fund are both important aspects
of personal finance. In the case of job losses, medical problems, car accidents or other big
expenses, having at least six months' income or one-year income set aside helps a person to
pay cash for expenses rather than pay them and accumulate more debt.

Another requirement for sound personal finance is having retirement fund. People must
learn to set aside or save enough money to live when they choose to stop working at a certain
age and enjoy the freedom to choose and do what they are passionate about.

FINANCIAL MANAGEMENT WITHIN A BUSINESS ORGANIZATION

A business organization is an institution where the owners of expertise, energy, and industry
are connected to capital, its sources, and investment. Its success is also measured by income and
its operating profit. Such an entity is largely based on contract and trade law structures, property
rights, and incorporation rights.

It is critical that the business owner takes careful account of the various forms of business
organization such as *sole proprietorship, *partnership, and *corporation. Understanding the forms
and types of business organizations can help a business owner answer questions concerning tax
and ^legal issues or decisions involving finances and personal concerns over ownership.

To create a general understanding of a business organization, basic information regarding

the advantages and disadvantages of each business form are summarized on this section.

▪ Sole Proprietorship
“ *”

This form of business organization consists of one person who does business. In the
Philippines, most of the owners of small and medium enterprises are sole proprietors; thus, sole
proprietorship is the most numerous business organization in the country but contributes little when
it comes to aggregate *business receipts.

“ Advantages ” *”

• It is easy to build and dissolve. Building a sole ownership can be as straightforward as printing
*

flyers, giving business cards or hanging a sign informing every one of your firm. For example, a
contract photographer, a dentist or a freelance designer may build this form of business organization.
Similarly, it is equally easy to dismantle a sole proprietorship.
• There are usually low start-up costs and low overhead operating expenses.*

• Ownership of any benefit and all profit incurred by the company.

• Less regulations and laws usually apply to sole proprietorships. *

• There is no corporate income tax . Any income generated by a sole proprietorship shall be reported
*

on the income tax return of the individual owner.

“ Disadvantages *”

• Having unlimited liability . Owners who manage their business as a sole proprietor are solely
“ * *” *

responsible for the company 's responsibilities, including acts of any employee of the company.

• Life of the firm is limited. When a company owner dies in most cases the company ceases operation
as well.

• Individuals can have trouble raising money. Funding is usual to be in the form of personal savings
or personal loans.

The most intimidating downside of being structured as a sole proprietorship is having unlimited
“ ”

* liability.

▪ Partnership *

A partnership consists of two or more people working together in an industry. A partnership

may be as small as a company of two people or as large as some of the major law or accounting
firms that could have hundreds of partners. Some types of partnership are general partnership,
limited partnership, and limited partnership in liability. The fundamental distinctions from them arise
from the degree of personal responsibility and control over management.

“ Advantages *”

• Synergies . There is strong possibility for value enhancement that results from the combination of
*

strengths by two or more individuals doing business together.

• Partnerships are fairly easy to form; but at the point of creation, significant attention should be
given to establishing a partnership agreement.

• Less regulations apply to partnerships compared to corporations . *

• Access to greater quantities of capital has a stronger potential and possibilities.

• There is no corporate income tax , too. Partnerships report revenue by filing a tax return on income
“ * ”

from a partnership. Yet when this partnership tax return is filed, the partnership does not pay any
taxes. Alternatively, the respective members claim a pro-rata portion of the partnership's net income
on their individual income tax returns and pay taxes at the federal income tax rate.

“ Disadvantages ”

• There is unlimited liability . General partners 2 are collectively responsible for the company's
“ ” “ ”

commitments causing individual risks for the partners.

• Life of partnership is limited, too. The business operations may be terminated upon the partner 's
withdrawal, exit or death.

• There is a strong risk of disagreements or disputes between partners which may lead to company’s
dissolution. This situation enforces the need for a relationship arrangement or creation of
partnership agreement.

REMEMBER!

All partnerships and sole proprietorships have unlimited liability which is the most
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daunting disadvantage of both”.

▪ Corporation
“ *”

In the Philippines, the most dominant type of business organization is corporation also because
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of its financial advantages and possibility of huge access to capital. An organization is a corporate
legal body, which is separate from the owners of the company. Public corporations are held by
shareholders who elect board of directors to manage primary duties in the company. There are
charitable, non-profit organizations, along with regular types or for-profit companies.

“ Advantages ”

• There is no limit in the company’s commercial life which means that a corporation is an
independent entity that will not dissolve even when ownership is transferred or changed.

• There is an increased flexibility of raising capital by just selling of stocks.

-

• In addition, by selling stocks, they can easily transfer ownership (because stocks represent
*

ownership).

• Perhaps the greatest advantage of a corporation is having limited liability because shareholders
*

have restrictions on their personal obligations in a corporation. For example, if a corporation is

charged for trillions of pesos in a court ruling, the accountability of the individual shareholder is just *

limited to the value of his or her own shares in the company.

“ Disadvantages ” *

• Corporations are usually monitored and regulated more closely by the national and local
government departments. Most of the compliance are expensive for the corporation.
*

• They incur higher cost of organization and operational cost. Corporations must file articles of
*

incorporation with the State authorities concerned. Such legal and clerical expenses will lead to
budgetary problems, along with other recurring operating expenses.

• Double taxation is an issue. Double taxation occurs as corporations report and declare taxes on
“ ”*

the corporation's net income, which they collect on their corporate income tax returns . Some *

corporations also pay out dividends to its shareholders. Now, those shareholders must then declare
*
 that dividend income as their personal income and pay their taxes at their individual income tax
rates , so in this case the possibility of double taxation happens.
*

FINANCIAL MANAGEMENT

When business expands, there is a need to shift from a flat organizational structure to one that
1

will assign multiple main managers and report directly to the business owner. An operational structure
organizes undertakings by departments, with one of these being finance. Even though finance is only
one of the several departments in a company, it is important to take note that financial management
takes place in all departments to ensure sustainability for the business.

“ Financial management means : * ”

• Gathering funds at lower cost for the company;

*

• Using these funds earned to gain full income or to maximize profit of the company
1

So financial management means the company's finances are managed and regulated. It is
planned and executed carefully to meet the company's goals. The most significant and considered to
be one of the most complicated activity of a firm is any activity that involves financial operations.

“ Financial management from the perspective of a corporation:

* ”

In addition to the knowledge that you already have regarding financial management, corporations’
idea of it includes any activities and decisions that will tend to maximize the value of the
* ’

shareholder’s wealth which simply means that corporations try to maximize the market value of the
* “ ’ ”

shares of their stocks (or they execute different activities that will increase the amount of their stocks
“ ”

per share). You need to remember that shares of stocks represent ownership in a corporation.
“ - ”

Big Idea:

Maximizing shareholders’ wealth is more important than just profit

maximization to ensure long-term success of a corporation.

How do we measure shareholder’s wealth?

Assume that on September 9, 2010 you purchased 10 shares of Globe Telecom at PHP2,510
each (meaning you are now a shareholder of Globe Telecom). That brings PHP25,100 to your
investments. What happens to your investment value if the price goes up to PHP2,600 per share or
it falls to PHP2,300 per share?
 Answer:

An increase of the price of stock to PHP2,600 per share means that people are willing to buy the
shares for that amount. If you are going to sell your shares at this point, it will result to a profit of
PHP90 per share or PHP900 on your whole investment (90 pesos X 10 shares that you bought).
Hence, the value of your investment increased from PHP25,100 to PHP26,000. Therefore, there is
an increase in shareholder’s wealth (your wealth as a shareholder/ stockholder).

On the other hand, a decrease in the share price to PHP2,300 per share means that people are
only willing to buy shares for PHP2,300. If you are going to sell your investment at this point, you will
receive PHP23,000 which would result to a loss of PHP2,100. The decrease in value of your
investment leads to a decrease in shareholder’s wealth .
“ ”

REMEMBER!

“Shareholder’s’ wealth* is measured based on the current market price* of the

corporation’s stocks. The market price’ changes across different periods.
Hence, the value of your investment changes in different points on time based
on the market value at that time”.

Factors that influence market price of the corporation’s stocks

Controllable by Management Uncontrollable External Factors

• profitability of business operations • macroeconomic conditions

• having a good liquidity and reasonable • political stability

leverage position
• prospects of the industry where the company
• dividends operates

• competent management which affects the • general market sentiment

company’s operating efficiency
• flow of foreign funds invested in the
• coming up with corporate plans that improve Philippine stock market
the business prospects of the company

Table 1. Factors influencing stock price *

 Therefore, a financial manager conducts all the necessary financial transactions in order to
address the needs of these operations.

CORPORATION’S ORGANIZATIONAL CHART AND THE ROLES OF VP FOR FINANCE’ or ’

CHIEF FINANCIAL OFFICER *

Board
*

of
Directo
rs
Preside
nt

VP for VP for VP for VP for

Sales Financ Produc Admini
and e tion stration
Marketi
Figure 1. Typical Organizational Chart
ng

Board of Directors

The Board of Directors is the main corporate policy-making body . The main duty of the Board is
“ ” “ ”*

to ensure that the firm works to represent the stockholders' long-term interests . The stockholders
*

nominate the board members who are named directors. Many investors want to own a company's
*

majority shares because they want control or leverage over the corporation.

The following are among the responsibilities of the board of directors:

1. Setting policies on investments, capital structure, and dividends

2. Approving company’s strategies, goals and budgets
3. Appointing and removing members of the top management including the president
4. Determining top management’s compensation
5. Validation of the details stated in the financial statements and other reports

President *

The roles of a president in a corporation may vary from one company to another. Among the
responsibilities of a president are the following:

1. Supervising a corporation’s activities and maintaining that the plans accepted by the Board are
executed as expected.
 2. Performing all areas of management: planning, organizing, staffing, directing and controlling
3. Representing the company in professional, social, and civic activities.

The president cannot manage the company on his own, especially when the corporation has
become too big. To assist him are the vice presidents of different functional areas: finance, sales and
marketing, production and administration.

Since the focus of this lesson is Finance, the roles of VP for Finance or Chief Financial Officer
“ * ” “ *

(CFO ) are highlighted in this module.

’ ”

*VP for Finance or Chief Financial Officer (CFO) –the Financial Manager
* “ ’ ” ‘

VP for Finance or CFO is generally called a Financial Manager due to the nature of his duties
*

which is to manage the over-all finances of the company. ’

The primary roles of a Financial Manager are the following:

* *

• Financing
• Investing
• Operating
• Dividend Policies

➢ Financing Decisions

They consist of planning and executing decisions regarding methods on financing long-term
acquisitions (such as business expansions) and working capital that corresponds with the company's
daily operations like product purchase, operating expenses payment, etc.
*

The job of the VP for Finance or the Financial Director is to decide the company's adequate
‘ *

capital structure . Capital structure shows how much of the overall assets are financed by debt, and
“ *”

how much is funded by equity.

Recall that Assets = Liabilities + Owner’s Equity. To be able to acquire assets, our funds must
have come somewhere. If it was bought using cash from our pockets, it is financed by equity. On the
other hand, if we used money from our borrowings, the asset bought is financed by debt.

➢ Investing Decisions *

Investing means deciding on where to put your excess cash to make it more profitable. We
expand that definition by including cash held taken from funds as a result of financing decisions.

Investments may either be under the category of short-term or long-term . “ * *”

• Short- term investment decisions are needed when the company is in an excess cash
“ * * ”

position.

✓ To plan for this, the “Financial Manager must be knowledgeable on utilizing Financial
*”

Planning tools such as budgeting and forecasting.

*
 ✓ Moreover, the firm must be able to select the kind of investment to utilize that would
”

provide the most optimal risk and return trade off.

• Long term investments should be supported by a capital budgeting analysis which is among
the responsibilities of a finance manager.

✓ Capital budgeting analysis is a tool to assess whether in the long run of firm’s
*

operations, the investment will be profitable or not.

* *

✓ Creditors should have the confidence that the investments that management will push
‘ *

through with will be profitable or else they would not lend the company any money.

➢ Operating Decisions *

Operating actions deal with the company's day to day activities. The VP 's task for finance is
to decide how work capital accounts such as receivable accounts and inventories can be
“ ”*

funded. The business has an option of whether long- term or short-term assets are used to fund
“ ‘‘ ‘ * ”

working capital needs.

The decision executed to finance these working capital accounts depends on the personal
decision-making skill of top management for risk. If the company is more aggressive, then these
accounts receivable and inventories can be substantially financed by short-term sources
(example of this is loan from the bank payable in less than 12 months). On the other hand, a
more conservative management will opt to finance working capital accounts mostly through
long-term sources (like loans that mature or payable longer than 12 months).

➢ Dividend Policies *

Cash dividends are paid by corporations to existing shareholders based on their

shareholdings in the company as a return on their investment. Some investors buy stocks
because of the dividends they expect to receive from the company. Non-declaration of
dividends may disappoint these investors. Hence, it is the job of a financial manager to be able
“ ^ ”

to identify when cash dividends must be declared or given by the firm.

’ *

Before a company may be able to declare cash dividends, two conditions must exist:

1. The company must have enough retained earnings (accumulated profits) to support cash
dividend declaration.
2. The company must have cash.

A financia l manager is the one who oversees all of the firm's essential financial operations . His
“ ’ ”

decisions have full impact on the firm's productivity, growth and reputation.
 “ Guiding principles for financial management systems
* *”

• Consistency : over time, the financial strategies and processes will keep progressing.
*

• Transparency : must be transparent about its activities and finances, and must make information
*

accessible to all interested parties.

• Integrity: work honestly and in a responsible manner.

*

• Accountability : all stakeholders must be able to justify and explain how you used your money
*

and what you accomplished.

• Financial stewardship : must demonstrate good management of the financial resources provided
*

and ensure that they are employed for the intended purpose.

• Accounting principles : the program must meet agreed international accounting requirements for
* *

maintaining financial records and documentation.

“ FINANCIAL INSTITUTIONS* ”

“A financial institution is an entity that carries out financial transactions such as savings, loans,
*

and deposits. Different entities have transactions with different types of financial institutions. All must
be undertaken through financial institutions like depositing money to getting a loan and exchanging
currencies . ”

The following outlines some of the financial institutions' main categories and their positions in the
’

financial system : *

1. Commercial Banks *

Commercial banks receive deposits and provide their customers with security and
“

convenience. Part of the banks' original intent was to provide safe keeping for their money to
*

customers. While holding physical cash at home or in a pocket, the possibility of loss due to
robbery and incidents exists, not to mention the loss of future interest income. Consumers no
longer need to keep huge quantities of money on hand with banks; rather purchases may be
done with checks, debit cards or credit cards . * * ”

Commercial banks often allow loans which are used by individuals and companies to
buy products or increase business operations; this in turn leads to more deposited funds finding
*

their way to banks. If banks can lend money at a higher rate of interest than they must pay for
funds and operating expenses, then they are making money with this operation.

Banks often play under-estimated positions as payment agents within a country and
*

among nations. We can also arrange wire transfers with other institutions as well as issuing
debit features that allow account holders to pay for products with the swipe of a finger. Banks
effectively underwrite financial transactions by lending their integrity and legitimacy to the
 transaction; a check is simply just a promissory note between two individuals, but no merchant
*

will approve it without a bank 's name and identification on that note. As payment agents, banks
make commercial purchases even more convenient; there is no need to hold huge quantities of
physical currency or bills when dealers acquired the checks, debit cards or credit cards that
were given by banks.

2. Investment Banks
“ *”

Although investment banks are called "banks," their operations vary greatly from those
of receiving deposits from commercial banks. An investment bank is a financial institution
offering a range of services for businesses and certain governments. These activities include
underwriting debt and equity deals, acting as an intermediary between a securities issuer and
the trading public, developing markets, facilitating mergers and other corporate reorganizations,
and serving as a broker for institutional clients. They can also provide businesses with research
and financial consulting services. Investment banks typically concentrate on initial public
offerings ( IPOs), as well as broad public and private equity offerings.

REMEMBER!

“Investment banks* usually don't deal with the general public. They typically
concentrate on helping corporations having initial public* offering (IPO*) which
means, it is the first time that a corporation is publicly trading (first time of
corporation to sell stocks to general public)”

Investment banks are typically more subject to less policies than commercial banks.
Thus, investment banks operate under the oversight of regulatory bodies including SEC *

(Securities and Exchange Commission ) and BSP (Bangko Sentral ng Pilipinas ). When it comes
* * *

to retaining capital requirements or launching new goods, usually fewer constraints apply.

3. Insurance Companies *

“ Insurance firms distribute risk by receiving premiums from a broad number of individuals who
*

wish to cover themselves and/or their loved ones from a common loss, such as a fire, car accident,
injury, litigation, disability or death. Insurance aids individuals and corporations in mitigating
liability and maintaining assets. Insurance firms may work profitably by insuring a large number
of individuals, and at the same time compensate for the claims that might occur. Insurance firms
use statistical modeling to predict within a given class what their real losses would be. They know
*

not all covered people incur losses at the same time or at all. ”

4. Brokerages *
 To facilitate securities transactions a brokerage serves as an intermediary between
“ *

buyers and sellers. Brokerage companies are paid by commission after successful completion
of the transaction. For example, when a stock exchange order is executed a person also
charges a transaction fee for the work of the trading firm to execute the exchange. A brokerage
can be a full or discount operation. A full-service brokerage offers guidance on finance, fund
management and execution of trade. Customers pay large commissions on each transaction,
in exchange for this high quality of service. Discount brokers allow investors to conduct their
1

own research on investments and participate in decision making, or they decide for their own
investment portfolio . The brokerage still handles the investor's trades, but since it doesn't have
-

the other full-service brokerage companies, its trade commissions are much lower. ”

5. Investment Companies *

Investment companies are corporations wherein individuals and other organizations

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invest in investment portfolios that are managed by professionals who are tasked to keep track
of market trends and the performance of different financial products or instruments. The most
common example of investment companies are mutual fund companies. Investors pool their
funds together, and the combined funds are then placed by the company in different investment
options. With the aid of technology, investors can monitor if they are losing or earning money.
The company sets up an account for each investor. Each account is secured with a password
and only the investor has access to information related to his or her own account.

“Nonbank Financial Institutions * ”

Technically, these are not banks but do executes the same kind of operations as banks.

6. Savings and Loans *

They are also referred to as S&L or thrift banks. Unlike commercial banks, the bulk of
the financial transactions in S&Ls are dedicated to residential mortgages . -

Savings and loans usually have lower interest rates on loans and higher deposit interest
“ *

rates than commercial banks. ”

7. Credit Unions *

One substitute to traditional commercial banks is the credit union. Almost all of the credit
“

unions are structured as non-profit cooperatives. Like S&Ls, credit unions usually offer higher
deposit rates and lower loan rates as compared to commercial banks to encourage more people
to join. ”

There is one limitation on credit unions, in return for a little added freedom; membership is not
available to the public, but instead restricted to a selected category. The characteristic of credit
union is that at the end of each fiscal year there is typically profit or benefit sharing among
“ ”

members of the cooperative.

FINANCIAL INSTRUMENTS *

Financial instruments are exchangeable properties. They may be actual or virtual documents * *

reflecting some sort of monetary interest contained in a legal agreement.

“Financial instruments are usually divided into two main categories: equity securities or *

financial instruments based on equity and debt securities or financial instruments based on debt.
* ’ ”

✓ Equity- based Financial Instruments

“ * * ”"

Equity Instruments represent ownership of an asset . They generally have varied returns
“ ’ * ’ ”

based on the performance of the issuing company. Returns from equity instruments come from either
dividends or stock price appreciation. Equity instruments include common stocks and preferred
stocks.

Most companies have only common stocks in their stockholders’ equity but some companies
have both common stocks and preferred stocks. PLDT and Globe have both common and preferred
stocks in their stockholders’ equity.

• Preferred stock ensures that if a corporation is to be liquidated and its assets are to be
“

dispersed, no assets can be allocated to common stockholders until all the preferred
stockholders' claims have been made. This demonstrates that in terms of demands over a
firm's properties, preferred stock has advantage over a common stock. ”

Additionally, if all the dividends are paid first due to preferred stockholders, there will be
“

no remaining cash dividends that will be issued to common stockholders . It means that
* *

preferred stockholders have priority over common stockholders in reporting cash

dividends. (Cayanan, 2015)
”

• Common Stock investors, on the other hand, are the firm 's primary shareholders. If the
performance of the firm is driven, the success would favor the common stockholders. In turn,
preferred stock may receive a fixed dividend rate over a profitable time during which a
business can want to pay much higher dividends, while common stockholders may receive
all the excesses.
Moreover, common shareholders have voting rights, a luxury which is not open to
preferred shareholders.

✓ Debt-based Financial Instruments *

Debt Securities have typically fixed returns because of fixed interest rates. Sh ort-term lending ’

instruments based on debt last or mature within one year or less . On the other hand, the long-
“ * ” “ -

term financial instruments dependent on debt matures for more than one year . * ”

Examples of debt instruments which are also classified as long-term and short-term debt
- -

instruments are given here.

 Short-term Debt based financial instruments : *

• Treasury Bonds and Treasury Bills are issued by the Philippine government . These
“ * - * * ”

bonds and bills have usually low interest rates and have very low risk of default since the
government assures that these will be paid.
• Commercial papers are promissory notes issued by financial institutions or big
“ * * -

corporations, typically 2 to 30 days only and not more than 270 days. This instrument is
protected only by the integrity of the issuer.
* ”

• Cash Equivalents are loans that are also short-term debt securities with good credit
“ * -

quality and high liquidity characteristic.

* ”

“Long-term Debt-based Financial Instrument :

^ ”*

• Corporate Bonds are issued by publicly listed companies. These bonds usually have
’

higher interest rates than Treasury bonds. One thing to understand about these bonds is
that this instrument is not considered to be risk free . If the company which issued the *

bonds goes bankrupt, the holder of the bonds will no longer receive any return from their
investment and even their principal investment can be wiped out.

FINANCIAL MARKETS *

A financial market is a general concept that defines any marketplace in which market
participants are engaged in the trading of assets such as equities , shares, currencies and derivatives . * *

Usually, financial markets are characterized as providing clear pricing, simple trading rules, costs and
fees, and market forces that decide the stock prices that sell.

The following are classifications of Financial Markets: : *

PRIMARY MARKET VS. SECONDARY MARKET

* *

• Consumers of funds (corporations) may go to the primary market to sell new securities (both
debt and equity) through a public offering or a private placement to raise capital.

• The offering of new shares to the general public is referred to as a new listing, and the first stock
offer is referred to as an initial public offer or IPO. On the other hand, private placement is selling
new shares to one angel investor (one person only) or it could be several investors in a group like
institutional investors.

• However, fund providers or equity holders (investors such as shareholders) may decide to sell the
securities bought previously. Selling of previously owned securities takes place in secondary *

markets which means that trading of securities happens between investors.

• The Philippine Stock Exchange (PSE) is considered to be a primary market and also functioning as ’

a secondary market.
’
OVER-THE-COUNTER (OTC) MARKET
* * *

An over-the-counter (OTC) market is a competitive market in which market participants trade

* *

directly between two parties stocks, goods, currencies or other instruments. This trading of
instruments is done without a central exchange or broker such as the Philippine Stock Exchange so
this market is called “over-the-market ”. It typically operates via telephone or electronic networks,
*

where individual dealers or brokers list deals and prices charged. OTC markets tend to be a little less
*

transparent than exchanges in general, and are also subject to limited regulations.

MONEY MARKET VS. CAPITAL MARKET

* *

• Money markets are the place where short-term maturity securities , or those that have 1 year
*

or less maturity, are sold. They are created because certain individuals, businesses, governments
and financial institutions momentarily have idle funds that they want to invest in a fairly secure,
interest-bearing asset . Also at the same time, other entities, businesses, states, and financial
‘ ’

institutions are in need of occasional or temporary and provisional financial support.

• On the other hand, securities that are sold in Capital markets are those that have longer-
*

term maturities. The primary and major capital market instruments are bonds which are long-term
debt based assets and common stocks and preferred stocks which represent ownership or equity.

Foreign Exchange (Forex) and the Interbank Market *

The interbank market represents the financial system and currency trading between banks
and financial institutions, wherein retail investors and smaller trading parties are not included. While
banks perform some interbank trading on behalf of big clients, almost all of the interbank trading
happens from the banks' own accounts.

For the currency exchanges, there is no central market for it because trading is carried out
over the counter market. The market for foreign exchange is open 24 hours a day, five days a week,
seven days for those in malls and currencies traded worldwide. Among those are found in Hongkong,
London, New York, Singapore, Sydney, Tokyo, Zürich, Frankfurt, and major financial centers in Paris.

Until recently, forex trading in the currency market had largely been the domain of large
financial institutions, corporations, and central banks. The emergence of the internet has changed all
of this, and now it is possible for average investors to buy and sell currencies easily with the click of
a mouse through online brokerage accounts.
 THE FINANCIAL SYSTEM OR FLOW OF FUNDS
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The users of funds (for individual or public consumption) and the savers (individuals or
institutions) are connected in the financial system . Shown in Figure 2 is an overview of the
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financial system.

Financial Users of Funds

Savers Intermediaries (Borrowers/
Investors)
- Households - Banks
- Individuals - Insurance Companies - Households
- Corporations - Stock Exchange - Individuals
- Government - Brokerage Firms - Corporations
Agencies - Mutual Funds - Government
- Other Financial Agencies
Institutions

Figure 2: Overview of the Financial System

Savings can come from households, individuals, companies, government agencies, or any
other entity whose cash inflows are greater than their cash outflows. The financial system
through financial intermediaries provides a mechanism by which these savings can be
channeled to users of funds, borrowers, and investors.

Some of the financial instruments issued by users of funds such as the shares of stocks and
corporate bonds of publicly listed companies and the debt securities issued by the National
Government can be traded. The financial market provides a system for the trading of these
securities.

A company can become publicly listed through the help of investment banks that aid
corporations for their initial public offering (IPO) where shares will be offered for the first time to
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many investors. The offering of the shares will be coursed through an investment bank which
will underwrite the offering of the shares.

As shown in Figure 2, the same entities can be savers and users of funds. One entity may
have savings today but may be needing funds in the future, for example, for expansion.