Additonal HW Answers1-6

Additonal HW Answers1-6 - Chapter 1 Critical Thinking and...

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Chapter 1 - Critical Thinking and Concept Review (CTCR) 1. (i) Capital Budgeting: Expanding or adding a manufacturing plant, (ii) Capital Structure: Issuing new equity (stock) or debt (bonds) and using the proceeds to retire outstanding debt or pay for a new factory. (iii) Working Capital Management: Modifying the firm’s credit collection policy with its customers in order speed-up the receipt of cash. 3. The primary disadvantage of the corporate form is the double taxation to shareholders of distributed earnings and dividends. Advantages stem from separation of ownership and management which lead to limited liability, ease of transferability, ability to raise capital, and unlimited life or the corporation. 5. The main goal of financial management (and arguable all management) is to maximize stockholder value (share price). This usually happens by increasing current or expected future cash flows generated by the firm’s asset. Note that in a broader context, the goal of management might be seen as maximizing stake holder value. Stakeholders include stockholders, bondholders, employees, customers, suppliers and the community. Although you could argue that stockholder value (in the long run?) is a function stakeholder value. 6. In the corporate form of ownership, the stockholders (also called shareholders) are the owners of the firm. The stockholders elect the directors of the corporation, who in turn hire the firm’s management. Agency problems are caused by this separation of ownership from management control. Management may act in its own or someone else’s best interests, rather than those of the shareholders. If such events occur, they may contradict the goal of maximizing the share price of the equity of the firm. Chapter 2 CTCR 1. Liquidity has two definitions: (i) The ability of firm to meet its short-term obligations – often achieved by short-term borrowing. (ii) Liquidity of an asset is measured by the time required to convert it to cash without significant loss in value or how much value is lost for a quick conversion to cash. The liquidity of the assets held by a firm is often a function of the firm’s business. But the general goal is to hold as few illiquid assets as possible. Consider the firm’s Inventory and Accounts Receivable (A/R) – both short-term working capital assets. It’s desirable for firms hold only as much inventory as necessary to meet sales needs and to only extend credit in order to facilitate sales. Too much inventory or A/R results in higher short-term debt to finance (or balance) these items. 1
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B-2 S OLUTIONS Higher than necessary short-term debt (caused by too much inventory or A/R) might also hamper the firm’s ability to borrow more in the short-term to meet an unexpected obligation. 2.
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This note was uploaded on 12/04/2011 for the course ECON 1000 taught by Professor Awwwwww during the Spring '11 term at UC Riverside.

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Additonal HW Answers1-6 - Chapter 1 Critical Thinking and...

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