Corporate Finance

INTRODUCTION TO CORPORATE FINANCE

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Teaching Details
Lecturers and tutors
Mr. Nguyễn Anh Tuấn
Email: tuanna@hanu.edu.vn

Ms. Nguyễn Thị Thanh Loan

Email: loanntt@hanu.edu.vn

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Unit Textbook
• Reference Textbook:
Corporate Finance, Ross, Westerfield, Jaffe, Tenth Edition,
2013
◦ You need access to this textbook as the tutorial questions
are set from it
•Others reference books are given in the Student Folders

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Unit Assessment
Unit Assessment is as follows:
◦ Class Participant 10%
◦ Internal assessment (2 Progression tests) 40%
◦ Final examination 50%
Assessment components
◦ Progression test: 30-40 minutes duration
◦ Final examination: 2-hour exam (Sample Exam will
be provided)

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How to Succeed in this
Subject?
Regularly attend lectures and tutorials
Be prepared before lectures and tutorials
◦ Read the relevant chapters of the textbook before a
lecture
◦ Complete assigned tutorial exercises independently
at the first time
Resolve study difficulties and problems as soon as
possible.

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Assumed Knowledge
Financial Management (FM) is a required prerequisite
for Corporate Finance
Corporate Finance is taught assuming knowledge of:
◦ Time value of money and discounting concepts
◦ Ability to discount and accumulate single-sum,
perpetuity and annuity cash flow series
◦ Techniques to value equity and debt securities
◦ Concepts of risk and return and appreciation of asset
pricing models such as the CAPM

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Outline
1. What is Corporate Finance?
2. The Goal of Financial Management
3. The Corporate Firm
4. The Importance of Cash Flows
5. The Agency Problem and Control of the
Corporation

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1. What is Corporate Finance?
Concerned (from the perspective of a stock
exchange-listed firm) with the:
◦ Investment (Acquisition)
◦ Financing
◦ Working Capital Management

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Investment Decision
Current
Liabilities
Current
Assets Long-Term
Debt

Fixed Assets
What long-
1 Tangible term Shareholder
investments
2 Intangible s’ Equity
should the
firm choose?
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Financing Decision
Current
Liabilities
Current
Assets Long-Term
How should the Debt
firm raise funds
for the selected
Fixed Assets
investments?
1 Tangible Shareholder
2 Intangible s’ Equity

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Working Capital Management
Decision
Current
Liabilities
Current
Net
Assets Working Long-Term
Capital Debt

How should
Fixed Assets short-term
1 Tangible assets be
managed and Shareholder
2 Intangible financed? s’ Equity

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Corporate Finance Decisions
•Investment Decision (capital budgeting)
• What real fixed assets (such as machinery, buildings,
projects or businesses) should the firm invest in?
• Both quantitative and qualitative considerations
•Financing Decision (capital structure)
• How does the firm raise funds to buy assets?
• Use of equity or debt finance or internal profits?
• Does the firm retain earnings for investment or pay
dividends to shareholders?
•Working Capital Management Decision
• Cash management, inventories, receivables…
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2. The Goal of Financial Management
To maximise the market value of the firm (equity) to its
owners (its shareholders)
◦ Market value = Share price of the company
◦ Share price represents the present value of future
cash flows expected to be provided by the firm
◦ This is what shareholders have a claim to

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Value vs. price
The value of shares are not observable. In contrast,
the price of shares can be observable.
If one believes that share price is an accurate/good
estimate of share value, the appropriate goal would be
to maximize the price of shares.

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3. The corporate firm
The Sole Proprietorship
◦ Cheapest to form, Few regulation, No corp. tax, Unlimited liability,
Limited life, Difficult to raise money
The Partnership
◦ Two or more people can form a partnership. Two kind: General
partnership, Limited partnership (some of the partner are limited
liability to the contribution)
The Corporation – most important
◦ Complicated to form, Unlimited life (theoretically), Pay corp. tax,
Limited Liability, easier to raise money compare to the other
forms, easy to transfer the ownership.
LLCs: operate and tax like partnership but retain limited liability
(hybrid of partnership and corporation)
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Nature of a Listed Company
Represents a separate ‘legal’ entity, with similar rights to
individuals
Owners are the shareholders who purchase the
company’s ordinary shares
Shareholders have a ‘residual’ claim to assets of the
company on liquidation
Most of these companies run by “independent’
managers appointed by the Board of Directors
(representing the shareholders)

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Benefits of a listed Company
Raising Capital: Can access and raise large amounts of
capital (this is the primary reason for listing)
Ownership Transferring: Ownership (shares) is easily
transferable between owners (buying and selling on the
Stock market)
Liquidity: The liquidity can reduce transaction costs
and in turn the cost of equity
Limited Liability: Liability of owners is limited to the
purchase price of their shares

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Disadvantages of a listed
Company
Costly to set up initially and many on-going costs (such as
listing fees, company registration, reporting and disclosure
requirements, provision of reports and information to
shareholders)
Law: Many regulatory and information requirements that
need to be met (but information transparency can reduce
equity costs)
Structure: Complicated organisational structure and tiered
decision-making and coordination framework
Dividends: Responsibility to pay dividends and other
distributions to shareholders into infinity
Minority Interest: Usually, small shareholders have no real
power or voice in company’s decision-making
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Hypothetical Organization Chart
Board of Directors

Chairman of the Board and

Chief Executive Officer (CEO)

President and Chief

Operating Officer (COO)

Vice President and

Chief Financial Officer (CFO)

Treasurer Controller

Cash Manager Credit Manager Tax Manager Cost Accounting

Capital Expenditures Financial Planning Financial Accounting Data Processing

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The importance of Cash Flow
•Identification of Cash Flow (CF)
• Accounting Profit versus Cash Flow (Ex 1.1 p9)
•Timing of Cash Flow (n)
• The value of an investment depends on the timing of
cash flow
•Risk of Cash Flow (r)
• The value of a Cash Flow we also need the risk to
generate that.

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4. The importance of Cash Flow
• Example:
The Midland Co. refines and trades gold. At the end of the
year, it sold 2,500 ounces of gold for $1 million. The
company has acquired the gold for $900,000 at the
beginning of the year. The company paid cash for the gold
when it was purchased. Unfortunately it has yet to collect
from the customer to whom the gold was sold.
Calculate the Profit and Cash Flow at the end of the year?
Profit = $100,000
Cash Flow = $0

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5. The Agency Problem
• Agency relationship
◦ Principal hires an agent to represent his/her interest
◦ Stockholders (principals) hire managers (agents) to run
the company
• Agency problem
◦ Conflict of interest between principal and agent
• Agency Cost
◦ Shareholders need to incur costs to limit such divergence,
known as agency cost

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Examples of Agency Problems
• Management focus on size (empire-building) as a
measure of prestige/success or to maximise pay
• Consumption of perquisites (such as luxurious offices
and company jets)
• Cutting out R&D expenditure as it will lower current
profits, even though it may lead to profitable future
projects and higher share prices

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Other Forms of Agency
Problems
• Agency conflicts between shareholders and other
parties (such as debt holders) including
• Paying a high dividend to shareholders
• Investing in excessively risky projects

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Resolving Agency Problems
• Having a greater percentage of management pay linked
to company performance targets
• Use of bonus or options and share ownership plans to
encourage greater focus on increasing the share price
• Encouraging managers and directors to buy share in the
company
• Having financial statements audited by external
auditors to detect mismanagement or fraud
• Threat of takeovers which would result in the
appointment of a new management team
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Question and Problems
Chapter 1:
◦ CQs: 1, 2, 10
◦ Revise the Prerequisite test

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