BUSINESS FINANCE

Module 01 (Week 01)

INTRODUCTION TO BUSINESS FINANCE (Part 1)

INTRODUCTION

“Beware of little expenses. A small leak will sink a great ship.” – Benjamin Franklin

OBJECTIVES

Our objectives for this module would be the following:

• Define and understand Finance

• Describe who are responsible for financial management within an organization
• Describe the primary activities of the financial manager
• Describe how the financial manager helps in achieving the goal of the organization

PRE-TEST

A. How much is your daily allowance? If not given daily, how much is your average allowance per day?
B. Write down all the items you spend money on. List the description and peso amount spent.
C. Compute for the balance of your allowance by deducting the expenses you listed from your daily allowance.
D. If the answer to Question C is positive, what do you do with the money left? If the answer is negative, where do you get
additional money?

(Provide your answers on the space provided at the end of the module.)

DISCUSSION

Review:

Before we move forward, we need to have review.

Do you still remember the three basic forms of business organization?

Sole Proprietorship A business owned and operated for his or her own profit.
Partnership A business owned by two or more people operated for profit.
Corporation An entity created by law and owned by shareholders.

Here are some examples of corporations:

• Philippine Long-Distance Telephone Company

• Jollibee Food Corporation
• San Miguel Corporation
• Globe Telecoms

To be able to become owners of a corporation we need to buy shares of stocks of the corporation. A corporation maybe publicly
owned or privately owned. Stocks of a privately owned corporations can only be bought with the express consent of the family

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members. Companies that are publicly owned or publicly listed are owned by unrelated investors. Shares of stocks of a publicly traded
corporations are traded in organized exchanges like the Philippine Stock Exchange.

SHAREHOLDER’S WEALTH MAXIMIZATION

As a stockholder or a shareholder (part owner of a corporation), what is your main goal?

You may probably say that you want to earn profits or have lots of cash. However, a company’s goal is not only purely for profit. A
successful company is not only measured by the amounts of its profits or large amounts of cash.

The main objective of a shareholder should be wealth maximization or maximizing the wealth of shareholders.

What does shareholder’s wealth maximization mean?

The question is best answered by an illustration:

Assuming that you bought 1,000 shares of Jollibee Food Corporation on October 1, 2020 at ₱143.60 per share. That is a total of
₱143,600.00 investment. As of December 20, 2020, the stock price is ₱195.20. The investment is not worth ₱195,200.00. Your
investment has grown almost 40%. Below is a chart available on https://www.investagrams.com/Chart/PSE:JFC that shows the
movements of the share prices in the market.

Figure 1 Jollibee Food Corporation Stocks Market Data

According to Cayanan (2017), the changes in the stock price can be a confluence of many factors: profitable operation, nature of the
business, prospects of business, projected earnings and timeframe for realization of such projected earnings, ability to meet maturing
obligations, appropriate capital structure, dividend policies, investing decisions, management and market sentiment.

Shareholders’ wealth maximization is the paramount objective of a company’s management. A company’s management will
therefore consider the risk to be able to maximize a company’s profit like taking on borrowing to finance expansions. Expansions will
contribute to a company’s profits but also exposes the company to risk like external events that may adversely affect the company’s
operations. In valuing stocks, investors also consider the risk.

Stock prices are one of the main measure of stockholders’ wealth. Factors that affect the stock prices are classified into factors
controllable by management and external factors that are uncontrollable by management.

Factors Controllable by Management Uncontrollable External Factors

- Profitability - Macroeconomic conditions
- Having a good liquidity and reasonable leverage - Political stability

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 - Dividends - Prospects of the industry where the company operates
- Competent management which affects the company’s - General market sentiment
operating efficiency - Flow of foreign funds invested in the Philippine stock
- Coming up with corporate plans that improve the market
business prospects of the company

Profitability is the measure of the financial performance of a company for a period of time. Even if profitability is a major drive that
increase the market value of the stock, investors should not only rely on profits alone. Le us look at the illustration below:

As you can see from the illustration, Company A is profitable but did not generate enough cash to due to uncollected receivable.
Without the cash collection Company was not able to meet its obligations. The company now faces a liquidity problem regardless of
its level of profits. Note: Remember your lessons in Financial Statement Analysis. It is very useful in Business Finance.

Company B has a different situation. The company has enough cash but is not profitable. A company delayed the payment on their
costs. Company B will soon face the same problem like Company A, that is liquidity. Without cash collections, Company B will also
not be able to pay its obligations.

Company C has the best choice. It was able to match its cash inflows and outflows. Investors will be more inclined to invest in
companies that have a balance of its profitability and cash flow management.

Good Liquidity and Better Leverage Position. Liquidity and leverage refer to the company’s management of the type of assets and
liabilities that it will hold during the course of business operations. Note that this will be discussed further other modules.

Dividends. These are the share of the company’s profits regularly distributed to its stockholders. Investors are more attracted to
companies that have better dividend policies. Investors may also consider companies that do not distribute dividends because of
planned expansion.

Competent Management. A manager is considered competent if he has the following attributes: (1) visionary, (2) decisive, (3) people-
oriented, (4) inspiring, (5) innovative, (6) respected and (7) experienced/seasoned manager.

The corporate plans that improve the business prospects will also determine the value of a company’s stock. For example, if you are
going to make a choice between two companies, let say ABC Company and DEF Company. Both companies are already earning a good
profit, but when asked ABC Company is planning to expand its business in the next five years to other locations while DEF Company
still does not have any plans in the next five years. Which company would you choose to invest your money in? The best company
would be ABC Company because they have a more concrete plan in the near future therefore would have better chances of growing
and more revenues.

Uncontrollable external factors will influence the general reaction of investors in making investment decisions. It affects not only a
specific company but, on all companies, or group of companies under similar circumstances. External factors are usually a result of
the environment a company operates rather than the decisions of the company’s management.

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BUSINESS STAKEHOLDERS

The increase in the prices of stock means that the wealth of the shareholders is being maximized. There are also other stakeholders
in a business aside from its shareholders.

Examples of business stakeholders:

Suppliers

Stockholders Customers

Management Company Creditors

Employees Regulatory
Agencies

Community

Figure 2 Business Stakeholders

Stakeholder Motivation
Shareholders The investors who provides their financial resource to the company. Their main motivation
is the increase in the share prices.

Management Maximizing shareholders’ wealth motivates top management to develop a long-term

perspective for the company that they manage.
Management will provide good products and services at reasonable prices to ensure that
customers are happy. This is achieved by innovation, investment in technology, and efficiency
in production and operation. Management may also consider investing in research and
development for improvement and possible expansion of existing products and services.

Employees Employee’s interest is also important in managing a company. Happy employees mean they
will be more productive. The company’s interest will also be protected if employees have a
sense of belonging in a company.

Customers Customers are always encouraged to buy products and services from reputable companies.

Suppliers Suppliers that are well taken care of will provide quality products at reasonable prices.
Suppliers can also provide credit for purchases.

Creditors Creditors are a source of financing for a company. Good relationship with creditors enhances
the profitability of getting credit facilities in times of emergencies.

Regulatory Agencies A company that complies with all of the regulatory requirements will have a smooth
operation. This will prevent disruption of business activities. Non-compliance with the
regulatory requirements may also taint the image of the company. This may have adverse
effect not just on operations but also on cost of financing.

Community Supporting the community where the company operates increases the company’s chances of
continuous operations in the area.

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Financial Management

The dictionary will provide you the following definition of finance:

Finance is the management of revenues; the conduct or transaction of money matters generally, especially those affecting the public,
as in the fields of banking and investment.

According to Cayanan (2017) “Financial management starts with a plan. This applies to both individuals and companies. It is not
enough to have cash and other resources today. Such resources, if not managed properly can be wiped out. Hence, financial
management is a must.”

Finance cannot be given a simple definition because of its many facets. Finance taught in schools are mostly divided into three
general areas: (1) financial management, (2) capital markets, (3) investments.

Areas of Finance

Financial Management - Also known as corporate finance.

- Focuses on decisions related to how much and what type of assets to acquire,
how to raise capital needed to purchase the assets, and how to run the
company to maximize its value.

This will be the main focus of discussion during this course.

Capital Markets - These relate to the markets where interest rates, along with stock and bond
prices, are determined.
- Part of the capital markets are the different financial institutions that supply
capital to businesses. These includes institutions like banks, investment banks,
stockbrokers, mutual funds, insurance companies and the like.

Note: This will be discussed further in this module.

Investments - These relate to decisions concerning stocks and bonds.

- It also includes discussion for activities related to security analysis, portfolio
management and market analysis.

Finance vs Accounting vs Economics

“Finance, as we know it today, grew out of economics and accounting. Economists developed the notion that an asset’s value is based
on the future cash flows the asset will provide, and accountants provided information regarding the likely size of those cash flows.
People who work in finance need knowledge of both economics and accounting.” (Brigham & Houston, 2019)

Economics defines what we will consider as resources. Accounting will provide the measurement for the resources. The knowledge
gained from economics and accounting will help managers the information for planning and decision making. This will be explained
as we move through the course.

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Financial System

FINANCIAL
INTERMEDIARIES USERS OF FUNDS
SAVERS • Banks (Borrowers/
• Households • Insurance Investors)
• Individuals Companies • Households
• Corporations/ • Stock Exchange • Individuals
Companies • Stock Brokerage • Corporations/
• Government Firms Companies
Agencies • Mutual Funds • Government
• Other financial Agencies
institutions
Figure 3 Overview of the Financial System

Savers and users of funds are linked by the financial system. A financial system is the system that covers financial transactions and
the exchange of money between investors, lender and borrowers. A financial system can be defined at the global, regional or firm
specific level. Financial systems are made of intricate and complex models that portray financial services, institutions and markets
that link depositors with investors.

Savings comes from entities that have a higher cash inflow than their cash outflows. These are households, individuals, companies
and government agencies and others. “The financial system through the financial intermediaries provides a mechanism by which
these savings can be channeled to users of funds, borrowers and investors.” (Cayanan & Borja, 2017)

For example, when you deposit your savings in a bank you become a saver of fund. The bank, which will be your financial intermediary,
would in turn use the pooled funds to provide loans to the users of funds like a company or an individual. Banks would only earn by
charging interest and some fees.

FINANCIAL INTERMEDIARIES

Intermediary Description
Banks - Provides mechanism where savers can put their excess funds through
deposits
- Give depositors interest on the money deposited to them
- Lend money to borrowers
- Invest deposits in some financial instruments
- Regulated by the Bangko Sentral ng Pilipinas
Insurance Companies - A company that provides life insurance (protection from loss of life) and non-
life insurance (protection from damage to property).
- The insurance company will collect premiums in exchange for taking the risk
on the possible loss of life or damage to property.
Stock Exchange - A system for the trading of equity securities of publicly traded industries.
- Equity securities are common stock and preferred stock.
- The main stock exchange in the country is the Philippine Stock Exchange (PSE).

Stock Brokerage Firms - This is the intermediary between the PSE and the investors in stocks.
- Investing in the stock market has to be coursed through stock brokerage firm.
Mutual Funds - Provide opportunities for big and small investors to invest in financial
instrument which they would not have considered on their own or they may
have considered but does not have the time or expertise to do so.
- Funds are pooled and the funds are invested by professional managers for a
fee. The fees are a small percentage of the funds invested.
- Mutual funds cater to different investment objectives. There are mutual
funds that are limited only to stocks while others are restricted to fixed
income instruments like bonds and treasury notes or both stocks and fixed
income instruments.

Prepared by: Reviewed by: Approved by:

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References
Brigham, E. F., & Houston, J. F. (2019). Fundamentals of Financial Management 15th Ed. Boston: Cengage.

Cayanan, A. S., & Borja, D. H. (2017). Business Finance. Manila: Rex Printing Company, Inc.

PRE-TEST Answers Sheet

Name: _____________________________________________ Business Finance

Accountancy, Business and Management Module 01 / Week 01
Grade 12

(25 pts)

A. How much is your daily allowance? If not given daily, how much is your average allowance per day?
B. Write down all the items you spend money on. List the description and peso amount spent.
C. Compute for the balance of your allowance by deducting the expenses you listed from your daily allowance.
D. If the answer to Question C is positive, what do you do with the money left? If the answer is negative, where do you get
additional money?

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ASSESSMENT

Name: _____________________________________________ Business Finance

Accountancy, Business and Management Module 01 / Week 01
Grade 12

1. Based on the initial topics provided in this module, what are your initial expectation for the subject Business Finance? (20
pts)

2. Why do you think Business Finance is an important subject for Accountancy, Business and Management students? (20 pts)

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