CHAPTER 1 An Overview of Financial Management

Career Opportunities Issues of the New Millennium Forms of Businesses Goals of the Corporation Agency Relationships

Career Opportunities in Finance

Money and capital markets * It involved the Financial institutions including bank, insurance companies. * Need a knowledge of valuation techniques, factors that cause interest rate rise and fall, types of financial instruments Investments * It involved in the management of investment portfolio Broker, financial consultant. Financial management * It involved in making decision finance manager.

Financial Management Issues of the New Millennium

The effect of changing technology The globalizati on of business

Globalization of Business

1.

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4.

4 factors that led to increased globalization of business: Improvement in transportation and communication - lowered shipping costs and made international trade more feasible (mudah) The increasing political clout (kuasa) of consumers, who desire low cost, high quality product. Technology become more advanced, the cost developing new products have increased. Able to shift production to wherever cost are lowest. (negara yang mempunyai kos rendah)

Information Technology

Advanced in computer and communications technology this will revolutionized (perubahan yang lebih baik)the way financial decision are made. Financial manager will need stronger computer and quantitative skill. Improved technology can reduce cost and expand markets and also can introduce additional competition. Traditional companies have grown in large part because take adv of changing technology.

Sole proprietorships & Partnerships

Advantages Ease of formation Subject to few regulations No corporate income taxes Disadvantages Difficult to raise capital Unlimited liability Limited life

Corporation

Advantages Unlimited life Easy transfer of ownership Limited liability Ease of raising capital Disadvantages Double taxation Cost of set-up and report filing

Financial Goals of the Corporation

The primary financial goal is shareholder wealth maximization, which translates to maximizing stock price.

Do firms have any responsibilities to society at large? Is stock price maximization good or bad for society? Should firms behave ethically?

Cont;

Social Responsibility:
The concept that business should be actively concerned with the welfare of society at large. ex: The bodyshop company.

Stock price max and social welfare:

- Low cost business, that produce high quality goods at lowest possible cost. - Development of product that consume need.

Business Ethic:
- A companys attitude and conduct toward its employee, customer, community and stockholder ex: Enron and WorldCom

Is stock price maximization the same as profit maximization?

No, despite a generally high correlation amongst stock price, EPS, and cash flow. Current stock price relies upon current earnings, as well as future earnings and cash flow. Profit maximization focus in short term while wealth maximization focus in long term

Agency relationships

An agency relationship exists whenever a principal hires an agent to perform services & delegate decision making authority Within a corporation, agency relationships exist between: Shareholders and Manager Shareholder and Creditor Agency problem: a potential conflict of interest between agent and stockholder and debt holder.

1. 2.

Shareholders versus Managers

Managers are naturally inclined to act in their own best interests. But the following factors affect managerial behavior:

Managerial compensation plans ex: performance share Direct intervention by shareholders The threat of firing The threat of takeover

Shareholders versus Creditors

Shareholders (through managers) could take actions to maximize stock price that are detrimental (merugikan) to creditors. How to solve? Creditor lends funds based on: - The riskness of firm asset
- Expectation the riskness of future asset addition

In the long run, such actions will raise the cost of debt and ultimately lower stock price.

Factors that affect stock price

Projected (expected in future) cash flows

to shareholders - any

financial asset is valuable to extent the asset generate c/flow.

Timing of the cash flow stream cash

received sooner is better because can be reinvested to make income.

Riskiness of the cash flows reducing their

riskiness

Factors that Affect the Level and Riskiness of Cash Flows

Decisions made by financial managers:

Investment decisions Financing decisions (mix of debt and equity)

Dividend policy decisions decision to how much of current earning to pay out as dividend rather than retain for reinvestment.

The external environment

- legal constraints, level of economic

activity, tax law, interest rate.