Lecture 1: Financial Management Overview Finance is a discipline concerned with determining value and making decisions based on that value assessment. The finance function allocates resources, including the acquiring, investing and managing of resources. Scope of study for finance Investments: Study of financial transactions from the perspective of investors outside the firm Financial markets and intermediaries: (1) Study of market where financial securities are bought and sold. (2) The study of financial institutions (such as commercial banks investment banks and insurance companies) that facilitate the flow of money from savers to demanders of money Corporate finance: (1) what long-term investment should the firm take on? (Capital budgeting decision) (2) Where will we get the long-term financing to pay for the investment? (Capital structure decision) (2) How will we manage the everyday financial activities of the firm? (Working capital management decision) Investment vehicle model: (1) Investors provide financing to the firm in exchange for financial securities (various claims on the firm’s cash flows). (2) The firm invests these funds in assets. Income generated by the firm’s assets is distributed to the investors. Balance sheet model: Also known as the accounting model of the firm. Investment decisions are represented on the asset side (left) of the balance sheet. Financing decisions are presented on the liabilities and equity side (right) of the balance sheet. Financial manager: The top financial manager within a firm is usually the Chief Financial Officer (CFO). Treasurer: oversees cash management, credit management, capital expenditures and financial planning. Controller: oversees taxes, cost accounting, financial accounting and data processing. Forms of business organisation: Sole proprietorship. Partnership (under a partnership, a partner’s income is taxed once as personal income). Corporation. Corporation: (1) It is created via the Articles of Incorporation which set out the purpose of the business, establish the number of shares that can be issued and set the number of directors to be appointed. (2) It is created via the Articles of Incorporation which set out the purpose of the business, establish the number of shares that can be issued and set the number of directors to be appointed. (3) Public companies: firm’s shares are listed on a stock exchange, whereby the company’s share are widely dispersed and traded in the secondary markets. Corporations: 2 main sources of external financing Debt: (1) Lenders: by lending money to the corporation, debt holders become the corporation’s creditors and lenders. (2) Relationship determined by contract: a debt contract is a legally binding agreement. It specifies principal, interest, maturity date and specific protective covenants. (3) Security and seniority: in case of bankruptcy, debt holders collect before equity holders. However, different debt holders have different priority claim to the cash flows and assets of a bankrupt firm, according to their respective debt contracts.