What is Financial Management?

Concerns the acquisition, financing, and management of assets with some overall goal in mind.

The Goal of the Financial Manager

The goal of the financial manager must be consistent with the mission of the corporation. To maximize firm value shareholders wealth (as measured by share prices). While managers have to cater to all the stakeholders (such as consumers, employees, suppliers etc.), they need to pay particular attention to the owners of the corporation, i.e., shareholders. If managers fail to pursue shareholder wealth maximization, they will lose the support of investors and lenders. The business may

cease to exist and ultimately, the managers will lose their jobs!

FIN3000, Liuren Wu

The Role of Financial Management

What is Financial Management? The Goal of the Firm Corporate Governance Organization of the Financial Management Function

Investment Decisions
Most important of the three decisions.
What is the optimal firm size? What specific assets should be acquired? What assets (if any) should be reduced or eliminated?

Financing Decisions
Determine how the assets (LHS of balance sheet) will be financed (RHS of balance sheet). What is the best type of financing? What is the best financing mix? What is the best dividend policy (e.g., dividend-payout ratio)? How will the funds be physically acquired?

Asset Management Decisions

How do we manage existing assets efficiently? Financial Manager has varying degrees of operating responsibility over assets. Greater emphasis on current asset management than fixed asset management.

What is the Goal of the Firm? Maximization of Shareholder Wealth!

Value creation occurs when we maximize the share price for current shareholders.

The Four Basic Principles of Finance

1.

Money has a time value.

A dollar received today is more valuable than a dollar received in the future (due to interests, investment returns,)

2.

There is a risk-return trade-off.

One shall take extra risk only if one expects to be compensated for extra return.

3.

Cash flows are the source of value.

Profit is an accounting concept designed to measure a businesss performance over an interval of time. Cash flow is the amount of cash that can actually be taken out of the business over this same interval. Investors respond to new information by buying and selling their investments.

4.

Market prices reflect information.

FIN3000, Liuren Wu