This chapter introduces key concepts in financial management. It discusses the role of the financial manager and different forms of business organization. The goal of financial management is to maximize shareholder value. The chapter also covers agency issues that can arise between managers and shareholders. It introduces major areas of finance like corporate finance, investments, financial institutions, and international finance.

1. Chapter 1
Introduction to Financial
Management

2. Key Concepts and Skills
 Know the basic financial management
decisions and the financial manager’s role
 Know the forms of business organization and
the advantages/disadvantages of each
 Know the goal of financial management
 Know the conflicts of interest that may arise
between owners and managers

3. Chapter Overview
 Finance: An Overview
 Business Finance and the Financial
Manager
 Forms of Business Organization
 The Goal of Financial Management
 The Agency Issue and Control of the
Corporation
 Financial Markets

4. Areas of Finance
 Corporate finance
 Investments
 Financial Institutions
 International finance

5. Investments!
 Work with financial assets
 Value of financial assets, risk versus
return, asset allocation
 Job opportunities
 Financial planner, stockbroker
 Portfolio manager
 Securities analyst
 CalPers and CalStrs

6. Financial Institutions
 Banks: commercial banks, credit
unions, savings and loans
 Insurance companies
 Brokerage houses
 Schwab
 Merrill Lynch
 Scottrade, Etrade

7. International Finance
 A specialized area within the other
areas of finance
 Work in foreign countries and travel
 Requires knowledge of exchange rates
and political risk
 Requires knowledge of other cultures
and possibly the ability to speak foreign
language(s)

8. Reasons to Study Finance
 Marketing
 Create budgets, perform marketing research,
market financial products
 Accounting
 Preparation of financial statements, dual
accounting/financial functions
 Management
 Strategic thinking, performance, and profitability
 Personal finance
 Retirement planning, investing, daily cash flow

9. Business Finance
 Questions the financial manager will
answer:
 What long-term investments should we
make?
 How will we obtain long-term financing to
pay for the investments?
 How will we manage the daily financial
activities of the firm?

10. Financial Manager
 Chief Financial Officer (CFO), the
highest-level financial manager within a
firm
 Treasurer: Oversees cash management,
credit management, capital expenditures,
financial planning functions
 Controller: Oversees taxes, cost
accounting, financial accounting, and data
processing functions

11. Forms of Business
Organization
 There are three major forms of business
organization in the United States
 Sole proprietorship
 Partnership

General partnership

Limited partnership
 Corporation

S-Corp

Limited liability company (LLC)

12. Sole Proprietorship
 Advantages
 Easiest to start
 Least regulated
 Single owner retains
profits
 Income taxed once
at personal income
tax rate
 Disadvantages
 Limited to the life of
the owner
 Equity capital limited
to owner’s personal
wealth
 Unlimited liability
 Difficult to sell
ownership interest

13. Partnership
 Advantages
 Two or more owners
 More available
capital
 Easy to start
 Income taxed once
at the personal
income tax rate
 Disadvantages
 Unlimited liability
 Partnership
dissolves when one
partner dies or sells
 Difficult to transfer
ownership

14. Corporation
 Advantages
 Limited liability
 Unlimited life
 Separation of
ownership and
management
 Ease of transfer of
ownership
 Ability to raise capital
 Disadvantages
 Separation of
ownership and
management
(agency problem)
 Double taxation
(Income taxed at the
corporate tax rate
and dividends taxed
at the personal tax
rate)problem)

15. Goal of Financial
Management
 The goal of a corporation is to maximize
the value of the firm’s stock
 Sarbanes-Oxley Act
 Adopted in 2002 in response to corporate
mismanagement
 Scandals involved Enron, WorldCom,
Tyco, and Adelphia

16. Agency Issues
 The agency relationship
 An agency relationship occurs when a principal
hires an agent to represent his/her interest
 Stockholders (principals) hire managers (agents)
to represent their interests and manage the
company
 Agency problem
 A potential conflict of interest between the owners
and management of a firm
 Management interests and stockholders’
interests might differ - agency costs

17. Managerial Compensation
and Control
 Managerial compensation
 Incentives can help to align management
and stockholders’ interests
 Incentives must be carefully designed to
ensure that they align management and
stockholders’ interests
 Corporate Control
 A hostile takeover threat/attempt may
result in better management

18. Managerial Compensation
and Control (continued)
 Employees, customers, suppliers, and
the government (stakeholders) have a
financial interest in the firm

19. Financial Markets
 Cash flows to the firm
 Primary market
 The original sale of securities by
governments and corporations
 Secondary market
 One owner or creditor selling to another
 Provide the means for transferring
ownership of corporate securities

20. Financial Markets (continued)
 NASDAQ
 National Association of Securities Dealers
Automated Quotations system
 A dealer market – an over-the-counter
(OTC) market
 Less stringent listing requirements than
NYSE

21. Financial Markets (continued)
 New York Stock Exchange
 An auction market
 Has a physical location on Wall Street
 Accounts for more than 85% of all shares
traded in auction markets

22. Quiz
 What are the major areas of corporate
finance?
 What is the capital budgeting decision?
 What is the mixture of long-term debt and
equity that a firm chooses to use called?
 What are the three forms of business
organization?
 What is the difference between a general and
a limited partnership?

23. Quiz (continued)
 What are the primary advantages and
disadvantages of sole proprietorships and
partnerships?
 What is the goal of financial management?
 What is a dealer market?
 What is the largest auction market in the
United States?
 What does OTC stand for? What is the
largest OTC market for stocks called?