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Chapter1-5 - Chapter 1 An Overview of Financial Management...

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1 Chapter 1 -- An Overview of Financial Management What is finance: cash flows between capital markets and firm’s operations The goal of a firm Alternative forms of business organization Intrinsic value and market price of a stock Agency problem Important business trends Business ethics Career opportunities in finance What is finance: cash flows between capital markets and firm’s operations (2) (1) Firm’s Capital operation Financial (4a) markets (Real assets) managers (Financial (3) (4b) assets) (1) Cash raised by selling financial assets in financial markets (2) Cash invested in firm’s operations and used to purchase real assets (3) Cash generated from firm’s operations (4a) Cash reinvested in firms’ operations (4b) Cash returned to investors Financing decisions vs. investment divisions: raising money vs. allocating money Activity (1) is a financing decision Activity (2) is an investment decision Activities (4a) and (4b) are financing decisions The role of a financial manager Forecasting and planning of firms’ financial needs Making financing and investment decisions Coordinating with other departments/divisions Dealing with financial markets Managing risks
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2 The goal of a firm To maximize shareholder’s wealth or long-run stock price Why not profit or EPS maximization? Profit maximization usually ignores timing and risk of cash flows EPS sometimes can be manipulated or misleading Alternative forms of business organization Proprietorship: an unincorporated business owned by one individual Advantages: Easy and inexpensive to form Subject to less government regulations Lower income taxes Disadvantages: Unlimited personal liability Limited life time of business Difficult to raise capital Partnership: an unincorporated business owned by two or more people Advantages vs. disadvantages: similar to those of proprietorship, in general Corporation: legal entity created by a state Advantages: Limited liability Easy to transfer the ownership Unlimited life time of business Easy to raise capital Disadvantages: Double taxation Cost to report S Corporation: allows small business to be taxed as proprietorship or partnership Restrictions: no more than 75 shareholders; for small firms and privately owned Limited Liability Company (LLC) and Limited Liability Partnership (LLP): Hybrid between a partnership and a corporation - limited liability but taxed as partnership LLPs are used in professional fields of accounting, law, and architecture while LLCs are used by other businesses
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