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Content Standards
The learners demonstrate an understanding of the definition of finance, the activities of the financial
manager, and the financial institutions and markets.

Performance Standards
The learners will be able to:
1. define Finance
2. describe who are responsible for financial management within an organization
3. describe the primary activities of the financial manager
4. describe how the financial manager helps in achieving the goal of the organization
5. describe the role of financial institutions and markets Learning Competencies

The learners shall be able to:

explain the major role of financial management and the different individuals involved
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distinguish a financial institution from financial instrument and financial market

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explain the flow of funds within an organization – through and from the enterprise—and the role of the
financial manager
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Specific Learning Outcomes

At the end of this lesson, the learners will be able to:
• Understand the key positions in a corporate organization and identify the roles of each.
• Identify the primary activities of the financial manager.
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Week 1

DAY 1

CHAPTER 1

INTRODUCTION TO FINANCIAL MANAGEMENT

INTRODUCTION

Finance is in everyday life. How is your life as a Senior high school student when it comes to
your allowances everyday? How your allowances given to you? Is it every day, weekly, or monthly?
How do you handle your own money given to you by your parents? Did you know that the activities
that you did in allocating your money involves in financing decision?

Definition of Finance

Finance can be defined as the science and art of managing money. (Gitman & Zutter,2012). It
refers to the process of allocating capital in order to optimize the risk-adjusted expected return on that
capital. It describes the management, creation and study of money, banking, credit, investments,
assets and liabilities that make up financial systems, as well as the study of those financial
instruments. It is a field that deals with the study of investments. It includes the dynamics of assets
and liabilities over time under conditions of different degrees of uncertainty and risk.

This can apply to corporate finance where firms are allocating capital across various
operations within the firm, making decisions which long-term projects they should undertake,
developing dividend policy, planning how to raise funding, etc. It can also apply to banking where
financial institutions evaluate who to lend money to and how much to charge in interest rates. It can
apply to personal finance where individuals develop budgets to manage their spending and make
investments to meet future goals, such as retirement.

Why study finance?

Marketing -Budgets, marketing research, marketing financial products

Accounting-Dual accounting and finance function, preparation of financial statements

Management-strategic thinking, job performance, profitability

Personal Finance-budgeting, retirement planning, college planning, day-to-day cash flows issues.

BASIC AREAS OF FINANCE

• Corporate finance

• Investments

• Financial institutions/Commercial Banks

• International finance

1. COMMERCIAL BANKING/FINANCIAL INSTITUTIONS

Commercial banks, credit unions, insurance companies and countless other financial
institutions are an important part of the financial landscape. These institutions deal with financial
concerns such as risk management, time value of money, financial intermediation, providing short-
term and long-term financing to individuals and businesses, payment processing, and many other
activities critical to the financial environment.
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Banks and other similar financial institutions are among the primary employers in the field of
finance.

While we will deal with some issues that are of concern to these financial institutions (time
value of money, risk/return analysis, types of financial instruments, etc.), this class will not be primarily
focused on banking-related issues.

2. INVESTMENTS

One of the common images associated with finance is the stock market. The field of
investments deals with stocks, bonds, options, mutual funds, futures, and many other financial
instruments.

Some of the key considerations in the field of investments include valuation analysis,
risk/return analysis, diversification, and fit (by fit we mean that what may be a good investment for one
individual may be a poor investment for someone else due to each person’s unique set of investment
objectives.)

There are many career paths related to investments including stock analyst, fixed-income
analyst, portfolio manager, trader, etc. These careers tend to be very competitive, demanding, and
offer the potential for high income.

3. PERSONAL FINANCE

Personal finance deals with a variety of financial decisions made on the personal level. This
includes areas such as retirement planning, insurance, personal budgeting (e.g. can I afford a new
house or new car?), and any other financial decision that a person makes.

While personal finance is not the primary topic of this course, it is an important issue for
everyone AND overlaps with many of the main themes (time value of money, diversification, valuation
analysis, etc.) that we will talk about in this class. Due to its importance and overlap with our primary
focus, we will spend a fair amount of time this semester discussing personal finance issues.

The most common career path associated with personal finance is the financial
advisor/planner. A financial advisor works with individuals to help them achieve their personal
financial goals. Financial planning is an expanding field and is consistently rated very high in job
ranking evaluations due to its combination of potential income and job satisfaction.

4. CORPORATE FINANCE

The terms Corporate Finance, Business Finance, and Managerial Finance are often used
interchangeably and refer to the field of finance dealing with financial decision making from a
business perspective.

Primary topics for corporate finance deal with raising capital (issuing stocks, bonds, or other
forms of financing), paying dividends, maximizing value for shareholders, evaluating potential long-
term investments that the firm will undertake (e.g. building a new warehouse), and managing the
firm’s cash flows.

Students with a strong background in accounting are often among the top candidates for jobs
in the field of corporate finance.

This textbook will touch on several of these topics (interested students may find more
information about potential finance-related careers at the Careers-in-Finance site), but our primary
focus is going to be on Corporate Finance. In order to do this, we must start by defining the concept of
the corporation (firm).

Finance three distinct categories: public finance, corporate finance and personal finance.
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Public Finance- it includes tax systems, government expenditures, budget procedures, stabilization
policy and instruments, debt issues and other government concerns.

Corporate finance – it involves managing assets, liabilities, revenues and debt for a business.

Personal finance - defines all financial decisions and activities of an individual or household,
including budgeting, insurance, mortgage planning, savings and retirement planning. Personal finance
is a very personal activity that depends largely on one's earnings, living requirements and individual
goals and desires.

FORMS OF BUSINESS ORGANIZATION

There are three basic forms of business organizations – sole proprietorships, partnerships,
and corporations. Our focus this semester will be on the corporation, but at this point we should
introduce all three forms (in a simplified manner) to give the basic framework of each.

SOLE PROPRIETORSHIP
A sole proprietorship is a business organization where the owner is a single person and is
solely responsible for control of the business. While the owner can hire employees (and managers), it
is ultimately the owner that is in charge. One important characteristic of a sole proprietorship is that,
from a legal and tax perspective, there is no real distinction between the owner and the business. The
owner is liable (legally and financially) for the actions and liabilities of the business. Also, the income
is only taxed once (as opposed to being taxed at both the business and personal level).

PARTNERSHIP
A partnership is structured much like a sole proprietorship except that now there are multiple
owners. Again, there is no distinction between the owners and the business as they are all liable
(legally and financially) for the actions and liabilities of the business. Also, like in a sole proprietorship,
the income is only taxed once. In practice, there are different types of partnerships (general vs. limited
vs. limited liability). The general partnership is what is described above. A limited partnership involves
at least one general partner to manage the company and take on the risk. The limited partners are
passive investors. Finally, a limited liability partnership allows partners to limit their legal (limited to
each partner’s behavior) and financial liability (limited to the assets of the business) while still
maintaining the tax structure of a general partnership. Note that specifics of partnership law vary by
country and by state.

CORPORATION
A corporation is a firm owned by many individuals (stockholders) who in most cases have little
input in operating the firm. A fundamental component of the corporate form of ownership is the
separation of ownership from the process of managing the firm. The owners (stockholders) elect a
board of directors who are responsible for hiring management and overseeing the direction of the
firm’s operations. Corporations account for the bulk of business activity in the US because most large
firms are organized as corporations. Specifically, while approximately 18% of business tax returns
were filed by corporations, they accounted for about 82% of total revenues by businesses and 63% of
taxable income according to IRS SOI Tax Stats in 2012. Because most large firms are organized as
corporations, accounting for the bulk of business activity, and corporations are more complex, we will
focus on the corporation in our coverage of finance this semester.
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Objective
Explain the major role of financial management and the different individuals involved
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FINANCIAL MANAGEMENT

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

From the perspective of a corporation, financial management deals with decisions that are
supposed to maximize the value of shareholder’s wealth. This means maximizing the market value of
the shares of stocks. Shares of stocks represent the form of ownership in a corporation.

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

Hence, Financial management is a vital activity in any organization. It is the process of

planning, organizing, controlling and monitoring financial resources with a view to achieve
organizational goals and objectives. It concerns the acquisition, financing, and management of assets
with some overall goal in mind.

Financial management includes the tactical and strategic goals related to the financial
resources of the business

Refers to the planning, directing, controlling, monitoring and organizing the monetary
resources in such a way to achieve the overall goals of the entity.

Shareholders’ wealth maximization

While profits significantly affect the price of a stock, finance literature states that profit
maximization should not be the overriding objective of company’s management, but shareholders’
wealth maximization. Profits can be maximizing by taking more risks, for example, borrowing more to
finance expansion and generate more revenues. While more borrowings can increase profitability, it
can also expose the company to more risks and may even result in operating losses if some external
shocks occur and adversely affect the company’s operations. Investors factor that risk in valuing a
stock.

Maximizing shareholders’ wealth through maximization of stock price should be the overriding
objective of management as it covers the different facets of operating a company and it considers the
different stakeholders in the organization. The stockholders have to be happy with their investments in
the company so that they will be encouraged to invest more. More investments means more jobs can
be created.

While profitability is a major driver for increasing the value of stock, there are other factors
that influence share prices. There are many reasons why profit maximization should not be the
overriding objective of a company. One reason, as cited previously, is that the company may need to
borrow more just so it can increase sales or augment production capacity. While borrowing is not
necessarily bad, too much of it exposes the company bankruptcy risk. Also, too much focus on profits
may force management to consider inferior raw materials for production.
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Financial Management scope or elements

a. Financing decision
b. Investment decision
c. Operating decision
d. Dividend decision

Goal of Financial Management

What should be the goal of a corporation?

-maximize profits

-Minimize cost

-maximize market share

-maximize the current value of the company’s stock

3 key Financial Management Decisions

1. Working capital Management

Ensures the firm has sufficient resources to continue its day-to-day operations and avoid
costly interruption. Focuses more on the company’s short-term financial management.

2. Capital structure

Concerns how the company obtains the financing it needs to support its long-term
investments. It involves identifying the ideal mixture of debt and equity financing.

3. Capital Budgeting

Concerns the company’s long-term investments ensuring that the company makes the right
investment decisions.

ROLES OF FINANCIAL MANAGEMENT

1. Accounting and Bookkeeping

Any accounting system should measure, identify, record and communicate all of the financial
information about the organization. While the accounting system looks at the overall financial picture
of the organization, bookkeeping deals with the specific transactions that take place on a day-to-day
basis.

2. Accounts Payables and Accounts Receivables

Account payables provide an organization with information about accounts with suppliers. This
includes the outstanding sums of money owed to these suppliers.

Accounts Receivable records what customers owe the organization for products and services
purchased.

3. Investment Opportunities

By carefully considering the different aspects of the financial management system, a business can
evaluate its overall financial health and determine its ability to invest in potential opportunities.

4. Risk

A primary goal of the financial management system is to minimize risks for the organization by
implementing strategies that help the business to counteract unforeseen liabilities. The financial
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management system should include adequate insurance for property, equipment and key employees.
Additionally, budgeting for quarterly and yearly working capital helps to minimize potential financial
risk for the organization.

Organizational Chart and the Roles of the VP for Finance

Figure 1: Organizational Chart

Shareholders: The shareholders elect the Board of Directors (BOD). Each share held is equal to one
voting right. Since the BOD is elected by the shareholders, their responsibility is to carry out the
objectives of the shareholders otherwise, they would not have been elected in that position.

Board of Directors: The board of directors is the highest policy making body in a corporation. The
board’s primary responsibility is to ensure that the corporation is operating to serve the best interest of
the stockholders. The following are among the responsibilities of the board of directors:

1. Setting policies on investments, capital structure and dividend policies.

2. Approving company’s strategies, goals and budgets.

3. Appointing and removing members of the top management including the president.

4. Determining top management’s compensation.

5. Approving the information and other disclosures reported in the financial statements (Cayanan,
2015)

President (Chief Executive Officer): The roles of a president in a corporation may vary from one
company to another. Among the responsibilities of a president are the following:

1. Overseeing the operations of a company and ensuring that the strategies as approved by the board
are implemented as planned..

2. Performing all areas of management: planning, organizing, staffing, directing and controlling.

3. Representing the company in professional, social, and civic activities.

The president cannot manage the company on his own, especially when the corporation has become
too big. To assist him are the vice presidents of different functional areas: finance, marketing,
production and administration.
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VP for Marketing: The following are among the responsibilities of VP for Marketing

1. Formulating marketing strategies and plans.

2. Directing and coordinating company sales.

3. Performing market and competitor analysis.

4. Analyzing and evaluating the effectiveness and cost of marketing methods applied.

5. Conducting or directing research that will allow the company identify new marketing opportunities,
e.g. variants of the existing products/services already offered in the market.

6. Promoting good relationships with customers and distributors. (Cayanan, 2015)

VP for Production: The following are among the responsibilities of VP for Production:
1. Ensuring production meets customer demands.
2. Identifying production technology/process that minimizes production cost and make the company
cost competitive.
3. Coming up with a production plan that maximizes the utilization of the company’s production
facilities.
4. Identifying adequate and cheap raw material suppliers. (Cayanan, 2015)

VP for Administration: The following are among the responsibilities of VP for Administration:

1. Coordinating the functions of administration, finance, and marketing departments.

2. Assisting other departments in hiring employees.
3. Providing assistance in payroll preparation, payment of vendors, and collection of receivables.
4. Determining the location and the maximum amount of office space needed by the company.
Identifying means, processes, or systems that will minimize the operating costs of the company.
(Cayanan, 2015)

VP for Finance: The four functions of a VP for finance (CFO) are as follows:

1. Financing

Include making decisions on how to fund long term investments (such as company
expansions) and working capital which deals with the day to day operations of the company (i.e.,
purchase of inventory, payment of operating expenses, etc.). The role of the VP for Finance of the
Financial Manager is to determine the appropriate capital structure of the company. Capital structure
refers to how much of your total assets is financed by debt and how much is financed by equity.

Assets = Liabilities + Owner’s Equity.

To be able to acquire assets, our funds must have come somewhere. If it was bought using
cash from our pockets, it is financed by equity.

On the other hand, if we used money from our borrowings, the asset bought is financed by
debt.

Long term investments should be supported by a capital budgeting analysis which is among
the responsibilities of a finance manager.

Capital budgeting analysis is a tool to assess whether the investment will be profitable in the
long run

The lenders should have the confidence that the investments that management will push
through with will be profitable or else they would not lend the company any money.

Before a company may be able to declare cash dividends, two conditions must exist:
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a. The company must have enough retained earnings (accumulated profits) to support cash
dividend declaration.
b. The company must have cash.

2. Investing

Its available cash may be used to invest in long term investments that would increase the
profitability of the company. Some small enterprises which are undergoing expansion may have
limited access to long term financing (both long term debt and equity). This results to these small
companies reinvesting their earnings into their business rather than paying them out as dividends.

3. Operating

Deal with the daily operations of the company. The role of the VP for finance is determining
how to finance working capital accounts such as accounts receivable and inventories.

The company has a choice on whether to finance working capital needs by long term or short
term sources. Why does a Financial Manager need to choose which source of financing a company
should use? What do they need to consider in making this decision?

Short Term sources are those that will be payable in at most 12 months. This includes short-
term loans with banks and suppliers’ credit. For short-term bank loans, the interest rate is generally
lower as compared to that of long-term loans. Hence, this would lead to a lower financing cost.

Suppliers’ credit are the amounts owed to suppliers for the inventories they delivered or
services they provided. While suppliers’ credit is generally free of interest charges, the obligations
with them have to be paid on time to maintain good supplier relationship. Such relationships should
be nurtured to ensure timely delivery of inventories.

- Short term sources pose a trade-off between profitability and liquidity risk. Because this
source matures in a short period, there is a possibility that the company may not be able to
obtain enough cash to pay their obligation (i.e. liquidity risk).

- Long term sources, on the other hand, mature in longer periods. Since this will be paid
much later, the lenders expect more risk and place a higher interest rate which makes the
cost of long term sources higher than short term sources. However, since long term sources
have a longer time to mature, it gives the company more time to accumulate cash to pay off
the obligation in the future.

- Hence, the choice between short and long term sources depends on the risk and return
trade off that management is willing to take.

4. Dividend Policies

Recall that cash dividends are paid by corporations to existing shareholders based on their
shareholdings in the company as a return on their investment. Some investors buy stocks because of
the dividends they expect to receive from the company. Non-declaration of dividends may disappoint
these investors. Hence, it is the role of a financial manager to determine when the company should
declare cash dividends.

On the other hand, a company which has access to long term sources of funds may be able
to declare dividends even if they are faced with investment opportunities. However these investment
opportunities are generally financed by both debt and equity.

The management usually appropriates a portion of retained earnings for investment

undertakings and this may limit the amount of retained earnings available for dividend declaration.

Creditors are not willing to finance entirely the cost of a company’s long term investment.
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Hence, the need for equity financing (e.g. internally generated funds or issuance of new
shares).

Examples of these companies are publicly listed companies such as PLDT, Globe Telecom,
and Petron. PLDT and Globe are two of the Philippine listed companies which have generously
distributed cash dividends for the last five years (information as of 2014).

Who are the key individuals in the Finance Department of a company and what are their
roles?

The Chief Finance Officer (CFO) also known as the Vice President for Finance is considered
the top finance officer in an organization reporting directly to the President of chief Executive Officer.
This officer is primarily responsible for managing the financial planning and record-keeping.

The CFO oversee the entire finance organization of the company. Reporting to this officer are
the Controller and Treasurer, both handle two different aspects of finance.

The Treasurer is the person in-charge of the entity’s Treasury function, which includes:
managing the firm’s cash and credit, its financial planning and its capital expenditures.
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Controller heads the controllership function of finance. Controllership includes: Tax Reporting,
Cost Accounting, Financial accounting and Financial Data Processing.

Roles and Responsibilities of Finance Department

1. The activities expected from a finance department cover a wide range from basic
bookkeeping to providing information to assisting managers in making strategic decisions.
2. It is responsible for management of the organization’s cashflow and ensuring there are
enough funds available to meet the day-to-day payments.
3. Where there are cash needs beyond the day to day working capital, the finance department is
responsible for advising and sourcing longer term financing.
4. Finance department works with managers to prepare the organization’s budgets and
forecasts, and to report back on the progress against these throughout the year.

Financial Managers

They ensure the financial health of an organization through investment activities and long-
term financing strategies.

Financial managers perform data analysis and advise senior managers on profit -maximizing
ideas.

The role of the financial manager, particularly in business, is changing in response to

technological advances that have significantly reduced the amount of time it takes to produce financial
reports.The goal of the Financial Manager is to Maximize the Shareholder Wealth.

ROLES AND RESPONSIBILITIES OF FINANCIAL MANAGERS

- Prepare financial statements, business activity reports, and forecasts

- Monitor financial details to ensure that legal requirements are met
- Supervise employees who do financial reporting and budgeting
- Review company financial reports and seek ways to reduce costs
- Analyze market trends to find opportunities for expansion or for acquiring other companies
- Help management make financial decisions

Important Skills for Financial Managers

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1. Analytical Skills-Financial managers increasingly assist executives in making decisions
that affect the organization, a task for which they need analytical ability.

2. Communication Skills- Excellent communication skills are essential because financial

managers must explain and justify complex financial transactions.

3. Attention to detail - In preparing and analyzing reports such as balance sheets and
income statements, financial managers must pay attention to detail.

4. Math Skills- Financial managers must be skilled in basic math. An understanding of

international finance and complex financial documents also is important.

5. Organizational Skills- Financial managers deal with a range of information and

documents. They must stay organized to do their jobs effectively.
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Day 4

FINANCIAL SYSTEM

The financial system links the savers and the users of funds as shown in Figure 2.

Figure 2: Overview of the Financial System

Savings can come from households, individuals, companies, government agencies, or any
other entity whose cash inflows are greater than their cash outflows. The financial system through
financial intermediaries provides a mechanism by which these savings can be channeled to users of
funds, borrowers, and investors.

As shown in Figure 1, the same entities can be savers and users of funds. One entity may
have savings today but may be needing funds in the future, for example, for expansion.

Financial Institution

It is a physical establishment that conducts financial transactions such as investments, loans

and deposits. Everything from depositing money to taking out loans and exchanging currencies must
be done through financial institutions (channelling funds from those with excess to those who lack).

As compared to financial market which is a concept, a financial institution is a physical

establishment.

1. Commercial Banks - accept deposits and provide security and convenience to their
customers. Part of the original purpose of banks was to offer customers safe keeping for their
money. Commercial banks also make loans that individuals and businesses use to buy goods
or expand business operations, which in turn leads to more deposited funds that make their
way to banks. Banks also serve often under-appreciated roles as payment agents within a
country and between nations.

Banks make commercial transactions much more convenient; it is not necessary to carry
around large amounts of physical currency when merchants will accept the checks, debit
cards or credit cards that banks provide.

2. Insurance Companies - Insurance companies pool risk by collecting premiums from a large
group of people who want to protect themselves and/or their loved ones against a particular
loss, such as a fire, car accident, illness, lawsuit, disability or death. Insurance helps
individuals and companies manage risk and preserve wealth. By insuring a large number of
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people, insurance companies can operate profitably and at the same time pay for claims that
may arise

3. Non-bank Financial Institution - Institutions that are not technically banks but provide some
of the same services as banks.
a. Savings and Loans - Savings and loan associations, also known as S&Ls or thrifts,
resemble banks in many respects. Savings and loans typically offered lower borrowing
rates than commercial banks and higher interest rates on deposits; the narrower profit
margin was a by product of the fact that such S&Ls were privately or mutually owned.
b. Credit Unions - Credit unions are almost always organized as not-for-profit cooperatives.
Membership is not open to the public, but rather restricted to a particular membership
group
c. Pawnshop - A pawnbroker is an individual or business (pawnshop or pawn shop) that
offers secured loans to people, with items of personal property used as collateral.

4. Stock Exchange Firms – the Philippine Stock and Exchange (PSE) provides a system for
the trading of equity securities of publicly listed companies. These equity securities are
common stocks and preferred stocks. An individual who wants to invest and trade in stocks
market cannot go directly to PSE to buy and sell stocks. He has to open an account with an
accredited stock brokerage firm where he can channel his buy and sell orders of equity
securities.

5. Stock brokerage firms - investing in the stock market has to be coursed through stock
brokerage firms. At present, there are online brokers and love brokers. With online brokers,
one can trade in the stock market through the internet. COL Financial and BPI Trade are two
of the online brokers in the Philippines. To trade online, one must have an account and
deposit with the online broker. A brokerage acts as an intermediary between buyers and
sellers to facilitate securities transactions. Brokerage companies are compensated via
commission after the transaction has been successfully completed.

6. Mutual funds – Mutual funds provide opportunities for big and small investors to invest in
financial instruments which they would not have considered on their own, or they may have
considered but do not have the time or the expertise to do it. These include investment in the
stock market, bonds, treasury notes, and other money market instruments like treasury bills. It
must be noted when one invests in mutual funds, he becomes a part owner of that fund. To
invest in a mutual fund, he has to buy shares of the mutual fund and the buying price depends
on the net asset value (NAV) of that fund. When the purchase is made. Note that the NAV of
a mutual fund changes every day as the value of the financial instruments where the funds
are invested also changes.

7. Other financial institutions – includes pension funds like Government Service Insurance
System (GSIS) and Social Security System (SSS).

Financial Markets

It is a broad term describing any marketplace where buyers and sellers participate in the trade
of assets such as equities, bonds, currencies and derivatives. Financial Market performs the function
of channeling funds from those who have a surplus of fund to those who are in need of funds. Take
note, the financial market need not refer to a physical place. It refers to the concept of transferring
funds from one entity to another.

• Classify Financial Markets into comparative groups:

• Primary vs. Secondary Markets

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• To raise money, users of funds will go to a primary market to issue new securities (either debt
or equity) through a public offering or a private placement.

• The sale of new securities to the general public is referred to as a public offering and the first
offering of stock is called an initial public offering. The sale of new securities to one investor or
a group of investors (institutional investors) is referred to as a private placement.

• However, suppliers of funds or the holders of the securities may decide to sell the securities
that have previously been purchased. The sale of previously owned securities takes place in
secondary markets.

• The Philippine Stock Exchange (PSE) is both a primary and secondary market.

1. Capital Markets

A capital market is one in which individuals and institutions trade financial securities.
Organizations and institutions in the public and private sectors also often sell securities on the
capital markets in order to raise funds.

2. Stock Markets

Stock markets allow investors to buy and sell shares in publicly traded companies.

3. Bonds Market

A bond is a debt investment in which an investor loans money to an entity (corporate or

governmental), which borrows the funds for a defined period of time at a fixed interest rate.
Bonds are used by companies, municipalities, states and foreign governments to finance a
variety of projects and activities.

4. Forex and the Interbank Market

The interbank market is the financial system and trading of currencies among banks and
financial institutions, excluding retail investors and smaller trading parties. While some interbank
trading is performed by banks on behalf of large customers, most interbank trading takes place
from the banks' own accounts.

Financial Instruments

A document (such as a check, draft, bond, share, bill of exchange, futures or options contract)
that has a monetary value or represents a legally enforceable (binding) agreement between two or
more parties regarding a right to payment of money. It is a legal agreements between the holder and
the issuer that gives the holder the right to receive payment with interest or a right to share in
company earning or dividends from the issuer.

Check - is a document that orders a bank to pay a specific amount of money from a person's account
to the person in whose name the check has been issued.
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(Example of Local Check)

Bond- a certificate of debt (usually interest-bearing or discounted) that is issued by a government or

corporation in order to raise money; the issuer is required to pay a fixed sum annually until maturity
and then a fixed sum to repay the principal

Bank draft-a check drawn by a bank on its own funds in another bank.

(Example of Bank Draft)

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(Example of Gift Certificate)

Gift Certificate

Financial instruments are generally classified into two major categories: equity securities and
debt securities. Equity securities include common stocks and preferred stocks

EQUITY SECURITIES (Common stocks and Preferred Stocks)

Most companies have only common stocks in their stockholder’s equity but some companies
have both common stocks and preferred stocks. PLDT and Globe for example have both common
stocks and preferred stocks in their stockholder’s equity.

As its name suggest, a preferred stocks has priority over a common stock in terms of claims
over the assets of a company. This means that if a company is to be liquidated and its assets have to
be distributed, no asset will be distributed to common stockholders unless all the claims of the
preferred stockholders have been given.

Preferred stockholders also have priority over common stockholders in cash dividend
declaration. No cash dividends will be given to common stockholders unless all the dividends due to
preferred stockholders are paid first.

If the preferred stockholders have preference over common stockholders in terms of claims
over the assets of the company and in cash dividend declaration, why would an investor be willing to
become a common stockholder?

Unlike preferred stocks, the dividend per share for common stocks is not fixed. A common
stock investor can receive more cash dividend during period unusual profitability. But during periods
of unprofitable operations, both preferred stockholders may not receive dividends. The company is
not obligated to pay dividends if it is not in a position to do so. For cumulative stockholders, however,
unpaid dividends can accumulate and no cash dividends will be paid to common stockholders unless
all the dividends in arrears for preferred stockholders are paid.

Being the residual owners of a company, common stockholders have voting rights, a privilege
generally not available to preferred stockholders. This means that if one has enough common shares
in a company, he can nominate director in the board of directors. If this happen, then he can influence
the major decisions made by a company as such decisions are approved by the board.

Debt Securities

The Treasury bonds and Treasury Bills issued by the National Treasury are forms of
indebtedness of the National Government. The Treasury Bills which are in the tenors of 91 days, 182
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days, and 360 days are auctioned at the National Treasury every Monday to accredited dealers.
These are eventually farmed out to both institutional and retail investors on Wednesday.

Occasionally, the National Treasury also issues retail Treasury bonds. A small investor can
participate in these retail Treasury bonds. These are normally in multiples of Php 5,000. Coupon
interest on these retail Treasury bonds is paid quarterly. For treasury bonds, coupon interest is paid in
semi-annually.

Some publicly listed companies have also started issuing corporate bonds. The tenors are
usually 5 years, 7 years, and 10 years.

Interest on investment in debt securities is subject to 20% final tax. For bank deposits with
tenors of at least 5 years, tax rate is zero percent.

In terms of claims over the assets of a company, bondholders have preference over preferred
stocks and common stocks. Also, interest due to them, just like bank creditors, has to be paid first
before dividends are given to preferred and common stockholders.
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Day 5

What are cash flows?

This is defined as the specific set of cash flows that should be considered in a capital
budgeting decision.

What is a statement of cash flows?

Statement of Cash Flows is a statement reporting the impact of a firm’s operating, investing
and financing activities on cash flows over an accounting period.

What comprises a statement of cash flows?

The statement of cash flows separates activities into three categories:

Operating activities, which includes net income, depreciation, and changes in current assets
and current liabilities other than cash and short-term debt.

Investing activities, which includes investments in or sales of fixed assets and from
investments in the financial markets and operating subsidiaries.

Financing activities, which includes cash raised during the year by issuing short-term debt,
long-term debt, or stock. Also, since dividends paid or cash used to buy back outstanding stock or
bonds reduces the company’s cash, such transactions are included here.

What is debt financing?

Debt financing a type of financing where cash is borrowed from a lender at a fixed rate of
interest and with a predetermined maturity date.

What is equity financing?

Equity financing a type of financing where a business cash is paid into the business by
investors, such as the business owner.

What is the role of a cash manager?

A Cash Manager is a type of financial manager that monitors and controls the flow of cash
that comes in and goes out of the company to meet the company's business and investment needs.

What is a Flow of Funds?

The Flow of Funds (FOF) is part of the System of National Accounts (SNA), which presents
the financial transactions among the different sectors of the economy, and between these sectors and
the rest of the world (ROW). The FOF also shows the various financial instruments in which sectors
transact with each other. More importantly, the FOF identifies which sectors are net borrowers and
net lenders in the series of transactions.

Fund of flow is the net of all cash inflows and outflows in and out of various financial assets.
Fund flow is usually measured on a monthly or quarterly basis; the performance of an asset or fund is
not taken into account, only share redemptions, or outflows, and share purchases, or inflows. Net
inflows create excess cash for managers to invest, which theoretically creates demand for securities
such as stocks and bonds.

What are the uses of the FOF?

1. The FOF serves as a basis for the analysis of the link between saving, capital accumulation,
and financial flows for the whole economy and for each of the institutional sectors.
2. As an interrelated and internally consistent framework, it is useful for identifying and
reconciling deficiencies and inconsistencies in data inputs.
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3. It serves as an input to financial programming exercises.
4. It provides users the opportunity to examine the linkages between the financial sector
activities and that of the real economy.
5. It also facilitates study of the saving-investment process, by tracing the channels by which
saving reaches borrowing, after passing through various financial institutions and assets.