Introduction to Financial

Management
Chapter 1

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Chapter Outline
1.
2.
3.
4.
5.
6.

Basic Areas of Finance

Financial Management Decisions
Forms of Organization
Goal of Financial Management
The Agency Problem
Financial Markets

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1.Basic Areas Of Finance

Corporate

finance (Business finance)

Investments
Financial institutions
International finance

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Corporate Finance
The study of financial decision making in business
organizations.
The study of basic techniques a financial manager should
have.

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2.Financial Management Decisions

Capital

budgeting

What long-term investments or projects should we take on?

About size, timing and riskiness of future cash flows.

Capital

structure

How should we raise fund? Should we use debt or equity?

Concerns about the mix of sources of funds, such as debt
(borrowing) and equity (ownership interest), used.

Working

capital management

How do we manage the day-to-day finances of the firm?

Concerns about management of short-term assets and
liabilities

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3. Forms of Organization
Three

major forms in the united states

Sole proprietorship: A business owned by a single individual.

Partnership: A business formed by two or more individuals
or entities.

General: unlimited liability for all partners

Limited: general partners vs. limited partners

Corporation: A business created as a distinct legal entity

owned by one or more individuals or entities.
S-Corp: a form of small corporation taxed like a partnership
thus avoids double taxation
Limited liability company: operate and taxed like a partnership
but retain limited liability for owners

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Corporation

Advantages
Limited liability
Unlimited life
Separation of ownership and
management
Transfer of ownership is
easy
Easier to raise capital

Disadvantages
Separation of ownership and
management
Double taxation (income
taxed at the corporate rate
and then dividends taxed at
personal rate)

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4.Goal Of Financial Management

What

should be the goal of a corporation?

Maximize profit?
Minimize costs?
Maximize market share?
Maximize the current value of the companys stock?

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5.The Agency Problem

Agency

relationship

Principal hires an agent to represent their interest

Stockholders (principals) hire managers (agents) to run the
company

Agency

problem

Conflict of interest between principal and agent

Management

goals and agency costs

Agency costs: the costs of the conflict of interest between

stockholders (principals) and management (agents).
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Managing Managers
Managerial

compensation

Incentives can be used to align management and stockholder

interests
The incentives need to be structured carefully to make sure
that they achieve their goal

Corporate

control

The threat of a takeover may result in better management

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6.Financial Markets
Cash

flows to the firm (Figure 1.2)

Primary markets: original sale by governments and
corporations

Public offerings vs. private placement

Secondary

markets: securities bought and sold after the

original sale
NYSE (New York Stock Exchange) vs. NASDAQ
(National Association of Security Dealers Automated
Quotations system)
Auction vs. dealer markets
Listed (stocks that trade on an exchange are said to be listed)
vs. over the counter securities

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Figure 1.2

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Review Questions
1.
2.

3.

4.
5.

6.

What are the four basic areas of finance?

What are the three types of financial management
decisions and what questions are they designed to answer?
What are the three major forms of business organization?
What are their advantages and disadvantages respectively?
What is the goal of financial management?
What are agency problems and why do they exist within a
corporation?
What is primary/secondary market? What is an
auction/dealer market? What types of market are NYSE
and NASDAQ respectively?
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