Name: Carlo Bermodo Cagampang Course & Year: BSA 1

Instructor: Wilfredo Jr. Mondido Section code: 9991

Subject: Financial Management

CHAPTER 1: NATURE, PURPOSE AND SCOPE OF FINANCIAL MANAGEMENT

I. Questions

1. What is the purpose of financial management? Describe what kinds of

activities that financial management deals with.
Answer: The purpose of financial management is to maximize the current
value per share of the existing stock or ownership in a business firm and also
to make money. Decisions for the acquisition of capital can include how the
business is organized, what type of capital should be obtained, and how
much capital should be obtained. Decisions for the uses of capital include
what new business projects to invest in, what capital to retain to fund
ongoing projects, and to reduce taxation. Decisions for the repayment of
capital involve paying capital back to its providers. In short, the kinds of
activities that financial management deals with relate the three financial
decisions that finance managers must make namely, investing, financing and
dividend decisions.
2. What is the difference in perspective between finance and accounting?
Answer: In many organization, accounting and finance functions are
intertwined and the finance function is often considered as part of the
accountant. However, there is still huge difference in perspective between
finance and accounting. Accounting is simply an art of record keeping. It may
be defined as the process of recording, classifying, summarizing, analyzing
and interpreting the financial transactions and communicating the results
thereof to the persons interested in such information. While financial
management is however, something more than an art of accounting and
bookkeeping. The finance manager will make use of the accounting
information in the analysis and review of the firm’s business position in
decision making. In addition to the analysis of financial information available
from the books of accounts and records of the firm, a finance manager uses
the other methods and techniques like capital budgeting techniques,
statistical and mathematical models, and computer applications in decision
making to maximize the value of the firm’s wealth and value of the owner’s
wealth. Moreover, we can conclude that the primary perspective of finance in
 on the planning of financing activities for the optimum utilization of financial
resources and generating profits through investing in shares and bonds.

3. Explain the shareholder wealth maximization goal of the firm and how it can
be measured. Make an argument for why it is better goal than maximizing
profit.
Answer: The owner’s perspective holds that the only appropriate goal is to
maximize shareholder wealth. Progress of this goal can be measured using
the stock or share price and the amount of dividends. Moreover, the
competing viewpoint is from the stakeholders’ perspective, which emphasizes
social responsibility over profitability. This view maintains that managers must
maximize the total satisfaction of all stakeholders in a business. While strong
arguments speak in favor of both perspectives, financial practitioners and
academics now tend to believe that the manager’s primary responsibility and
goal should be to maximize shareholder wealth and give only secondary
consideration to other stakeholders’ welfare.
In addition, the invisible hand of market, acting through
compensation and the free price system, would ensure that only those
activities most efficient and beneficial to society as a whole would survive in
the long run. Thus, those same activities would also profit the individual
most. Because when companies try to implement a goal other than profit
maximization, their efforts tend to backfire. Consider the firm that tries to
maximize employment, the higher number of employees raises costs. Soon
the firm will find that its costs are too high to allow it to compete against
more efficient firms, especially in a global business environment. Therefore,
when the firm fails, all employees are let go and employment ends up being
minimized, not maximized.
4. Name and describe as many corporate stakeholders as you can.
Answer: A corporation is defined as type of business organization which has
huge number of stakeholders. So, a corporation has different type of
stakeholder, like, suppliers, owners, investors, creditors, communities, trade
unions, employees, government agencies, customers, and media.
Suppliers are people or businesses who sell goods to your business and
rely on you for revenue from the sale of those goods. It is an external
stakeholder, a secondary stakeholder and an indirect stakeholder.
Owner stakeholders are the owners of an organization. They supply
capital or equity to the business and have a say in how everything runs. It
can be describe as an internal, primary and direct stakeholder.
 Investors can include owners but they can also be outside vendors who
typically have a right to accurate and timely information such as regular
financial statements. They may also have the right to approve or reject major
decisions like mergers and acquisitions and they also can contribute ideas and
give advice, bring connections, motivate and help promote and improve the
business image. It is an external, primary and direct stakeholder.
Creditors are the person or institutions who lend money to businesses,
and they could also have a secured interest in the company’s worth. Creditors
can also include banks, suppliers, and bondholders. Creditors are external,
secondary, and indirect stakeholder.
Communities also form part as an example of stakeholder because each
party (the business and the community) are mutually beneficial in different
ways like job creation, safety, economic development, health from
environmental development. Communities are external, secondary, and
indirect stakeholder.
Trade union also called labor union is an organization of workers in a
particular industry that exists to secure good improvements in pay, benefits,
safe working conditions, or social and political status through collective
bargaining. Trade union is an external, secondary, and indirect stakeholder.
Employees have a direct stake in the company because they interact
directly with customers, earn money to support themselves and give support
to the business operations as well. They can carry out managerial,
supervisory or other functions. They typically expect benefits like incentives,
career growth and job satisfaction. Employee is an internal, primary and
direct stakeholder.
Government agencies can also be thought of as a major stakeholder in a
business. They collect taxes from the company, its employees, and from
other spending the company does. A government agency is an external,
secondary and indirect stakeholder.
Customers are the people who buy business products. They expect to buy
the best quality from that business but a fair price. For a business doesn’t
exist without customers. Customers get products from businesses, and
because of that, they are interested in how a business performs. In addition,
customers are directly impacted by the product quality a business gives.
Customers are external, primary, and direct stakeholder.
Media can also be considered as an example of stakeholder because every
business nowadays needs media publication relationships to spread the word
about their brand, product, and services they offer. Media is an external,
secondary, and indirect stakeholder.
5. What conflicts of interest can arise between managers and stockholders?
Answer: Agency problem is the conflict of interest that can arise between
managers and stockholders. Theoretically, managers work for shareholders.
In reality, because shareholders aren’t involved in day-to-day firm activities,
managers control the firm. Managers might be tempted to operate the firm in
such a way as to benefit themselves more than the shareholders. That is why
corporate governance is the system of incentives and monitors that tries to
overcome this agency problem. Shareholders can align managers’ interest
with stockholder interests by making managers part owners of the firm.
Then, various monitors follow the firm and report on its activities.

6. What are the three types of financial management decisions? For each type
of decision, give an example of a business transaction that would be relevant.
Answer: The three types of financial management decisions are investment
decision, financial decision and dividend decision. Accordingly, there are two
types of investment these are long-term and short term. An example of long
term capital decision would be to buy machinery like crusher for production.
This is important as it affects the long term earnings of the firm. While short
term investment is related to levels of cash, inventories, etc. These decisions
affect day to day working of the business.
For financial decision, there are two main questions when looking at
the capital structure - 1) How much money do we need to borrow to buy this
long-term asset? 2) What are the least expensive sources of funds for the
firm? For example, since we are thinking of buying this new crusher, we need
to decide how we are going to afford this new machine. In this example, we
determined that if we cut back a little bit on labor and in other areas, we
would be able to afford the new machine. In regards to where the money will
come from, we do not take out loans to buy long-term assets. We borrow
from our company, and repay overtime.
For dividend decision, an example of a business transaction that would be
relevant is when a company is continuously paying the dividend at a normal
growth rate, earns huge profits for this year. Now the management has to
decide whether continue to pay dividend at normal rate or to pay at an
increasing rate? Why is this dilemma? The reason is that, if the management
decides to pay higher dividend, then it might be possible that next year, the
company will not achieve such higher growth rate, resulting the next year’s
dividend will be low as compared to last year’s. However, if the company
decides to stay on the normal rate of dividend then surplus amount of
 retained earnings would remain idle which will result in over capitalization, if
no opportunity existing to utilize the funds.

7. What a goal should always motivate the action of a firm’s financial manager?
Answer: A goal that should always motivate the action of a firm’s financial
manager is to maximize the current market value of the equity of the firm
whether it’s publicly-traded or not.

II. Multiple Choice Questions

1. Primary goal of Financial Management

Answer: C. Maximizing shareholders’ wealth

2. Proper-risk return management means that

Answer: B. Consistent with the objectives of the firm, an
appropriate trade-off between risk and return should be
determined.

3. Which of the following is not a major area of concern and emphasis in

modern financial management?
Answer: B. Stable short-term interest rates.

4. Which of the following is not a major area of concern and emphasis in

modern financial management?
Answer: C. Commodity Trading

5. A financial manager’s goal of maximizing current or short-term earning

may not be appropriate because
Answer: D. All of the answers are correct.
CHAPTER 2: RELATIONSHIP OF FINANCIAL OBJECTIVES TO
ORGANIZATIONAL STRATEGY AND OTHER ORGANIZATIONAL OBJECTIVES

I. QUESTIONS
1. Suppose you were the financial manager of a non-profit business (a not-for-profit
hospital). What kinds of goals do you think would be appropriate?
Answer: If I were supposed to be the financial manager of a non-profit-
business the kind of goals I think would be appropriate would be the revenue
minimization such as providing whatever goods and services are offered at the
lowest possible cost to society. A better approach might be to observe that even
a not-for-profit business has equity. Therefore, one answer is that the
appropriate goal I think is to maximize the value of the equity.

2. Evaluate the following statement: Managers should not focus on the current
stock value because doing so will lead to an overemphasis on short-term profits
at the expense of long-term profits.
Answer: The statement emphasized that executives or managers must strike a
balance between long-term corporate health management and communication
that may harm short-term benefits but align with growth goals over time. For
example, if a manager decides to add a new complementary business line, it may
hurt short-term earnings, but it will promote long-term growth. If these goals are
explained to investors in advance, they will help alleviate worries and possibly
reduce the negative impact on stocks.

3. If a company’s board of directors wants management to maximize shareholders’

wealth, should the CEO’s compensation be set as a fixed amount, or should the
compensation depend on how well the firm performs? If it is to be based on
performance, how should performance be measured? Would it be easier to
measure performance by the rate in reported profits or the growth rate in the
stock’s intrinsic value? Which would be the better performance measure? Why?
Answer: The board of directors should determine the CEO's remuneration
based on the company's performance level. The premium package should be
enough to attract and retain the CEO, but it is just necessary. The reward
structure should be such that the CEO's reward is based on the long-term
performance of the stock, rather than the stock on the day the option is
exercised. This means that options (or direct stock dividends) will need to be
phased out within a few years so that the CEO has the motivation to maintain
high stock prices for a long time. If intrinsic value can be measured objectively
and verifiably, performance improvement can be based on changes in intrinsic
 value. However, although reported revenue can be manipulated through flexible
accounting procedures and intrinsic value, the increase in reported revenue is
easier to measure than intrinsic value. The compensation should be based on the
market price of the stock, because the intrinsic value cannot be observed. The
price used should be the average price over a period of time, not the price on a
specific date.

4. Should stockholder wealth maximization be thought of as a long-term or short-

term goal? For example, if one action increases a firm's stock price from a
current level of P1,000 to P2,000 in 6 months and then to P3,000 in 5 years but
another action keeps the stock at P1000 for several years but then increases it to
P4,000 in 5 years, which action would be better? Think of some specific
corporate actions that have these general tendencies.
Answer: Maximization shareholder wealth is a long-term goal. Companies,
therefore shareholders, prosper through management decisions that can
generate long-term earnings growth.

5. What are some actions that stockholders can take to ensure that management's
and stockholders' interests are aligned?
Answer: Useful incentive tools that can help coordinate the interests of
shareholders and management include reasonable compensation plans, direct
shareholder intervention (including the firing of underperforming managers), and
the threat of acquisitions.

6. The president of Southern Tagalog Corporation (STC) made this statement in the
company's annual report: "STC's primary goal is to increase the value of our
common stockholder's equity". Later in the report, the following announcements
were made:

a. The company contributed P1.5 million to the symphony orchestra.

b. The company is spending P500 million to open a new plant and expand
operations. No profits will be produced by the operation for 4 years, so earnings
will be depressed during this period versus what they would have been had the
decision been made not to expand.
c. The company holds about half of its assets in the form of government treasury
bonds, and it keeps these funds available for use in emergencies. In the future,
though, STC plans to shift its emergency funds from treasury bonds to common
stocks.
 Discuss how STC's stockholders might view each of these actions and how the
actions might affect the stock price.
Answer:
A. Shareholders will not like this, which will reduce the funds they could have
used to increase shareholder value. Corporate philanthropy has always been
a thorny topic, but it can help create a more engaging community, making it
easier to recruit a productive workforce. Such corporate philanthropy can be
adversely affected by shareholders, especially those who do not live in the
host city. Shareholders are interested in stocks that maximize stock prices. If
competing companies do not make similar contributions, the cost of this
charity must be borne by someone, the shareholder. Therefore, the price of
the shares may fail.
B. The company must invest in the current period to generate future cash flows.
Shareholders should be aware of this and, assuming the correct analysis has
been done, should react positively to the decision. Assuming a proper capital
budgeting analysis has been done, the stock price should go up in the future.
C. Treasury bonds are considered safe investments, while common stocks are
much riskier. If the company converts the emergency funds from Treasury
bonds into shares, shareholders should think that this will increase the risk of
the company because the returns on the shares are not guaranteed because
sometimes they increase and sometimes they decrease. Thus, when the
investment price of the business is low and emergency funds are not needed,
the business may need these funds. Therefore, the price of the company’s
stock may fall.

7. Miguel Enterprises recently made a large investment to upgrade its technology.

While these improvements won't have much effect on performance in the short
run, they are expected to reduce future costs significantly. What effect will this
investment have on Miguel Enterprises' earnings per share this year? What effect
might this investment have on the company's intrinsic value and stock price?
Answer: Due to the company’s recent investment in technology upgrades, the
company’s earnings per share will decline. The reason for the decrease in the
company’s earnings per share is that the company has fewer funds for
distributing dividends to shareholders as expenses increase while capital
investment reduces earnings. In addition, the company’s intrinsic value may
increase due to investors’ positive views on the company’s future, that is, the
company’s future cash flow will increase due to technological changes. Because
 investors have a positive view of the company, the intrinsic value and rising stock
prices have led to an increase in demand for stocks.

II. Multiple Choice Questions

1. Which of the following statements is true?

Answer: D. There are some serious problems with the financial goal of
maximizing the earnings of the firm.

2. Corporate social responsibility is

Answer: C. the duty to embrace service to the public interest.

3. A common argument against corporate involvement in socially responsible

behavior is that
Answer: B. as a legal person, a corporation is accountable for its
conduct.

4. Which of the following statements is false?

Answer: A. because socially desirable goals can impede profitability in
many instances, managers should not try to operate under the
assumption of wealth maximization.

5. Which of the following statements is false?

Answer: D. For as long as satisfactory level of profit is earned, the
financial manager need not to be concerned with unethical behavior.
 CHAPTER 3: FUNCTIONS OF FINANCIAL MANAGEMENT

I. QUESTIONS
1. In a large corporation, what are the two distinct groups that report to the chief
financial officer? Which group is the focus of corporate finance?
Answer: In a large corporation, the two distinct groups that report to the chief
financial officer are the treasurer’s office and the controller’s officer. The
controller’s office handles cost and financial accounting, tax management, and
management information systems. While the treasurer’s office is responsible for
cash and credit management, capital budgeting and financial planning.
Therefore, the study of corporate finance is concentrated within the functions of
the treasurer’s office.

2. Can our goal of maximizing the value of the equity shares conflict with other
goals, such as avoiding unethical or illegal behavior? In particular, do you think
subjects like customer and employee safety, environment and general good of
society fit in this framework, or are they essentially ignored? Think of some
specific scenarios to illustrate your answer.
Answer: Either way it can be proven. At one extreme, we can argue that in a
market economy, all of these things have a price. This means that an optimal
level of ethical and or illegal behavior, which is explicitly included in the stock
valuation framework. At the other extreme, we can argue that these are non-
economic phenomena and are best dealt with through the political process. I
think of this specific scenario that illustrates my answer for example, a company
estimates that the cost of improving the security of one of its products is P40
million pesos. However, the company believes that improving product safety will
only save P30 million pesos for product liability aircraft.

3. Would our goal of maximizing the value of the equity shares be different if we
were thinking about financial management in a foreign country? Why or why
not?
Answer: The goal will be the same, but the best course of action to achieve this
goal may need to be adjusted to different social, political and economic climates.
4. Critics have charge that compensation to top managers in the United States is
simply too high and should be cut back. For example, focusing on large
corporations, Ray Irani of Occidental Petroleum has been one of the best-
compensated CEOs in the United States, earning about $54.4 million in 2007
alone and $550 million over the 2003-2007 period. Are such amounts excessive?
In answering, it might be helpful to recognize that superstar athletes such as
Roger Federer, top entertainers such as Justin Bieber and Manny Pacquiao and
many others at the top of their respective fields earn at least as much, if not a
great deal more.
Answer: The simplest answer is that, like all types of work, executives have a
market. Executive compensation is the price set by the market. The same goes
for athletes and artists. That said, one aspect of executive compensation is worth
commenting on. One of the main reasons for such rapid growth in executive
compensation is that companies are increasingly turning to share-based
compensation. This change is clearly consistent with efforts to better coordinate
the interests of shareholders and management. Accordingly, in recent years, the
stock price has skyrocketed so the management has been cleaned up. It is
sometimes argued that a large part of this reward is simply due to rising stock
prices, not management performance. Perhaps in the future, executive
compensation will only be used to reward differentiated performance-that is,
stock prices rise more than the overall market rise.

5. Why should effective corporate governance be in place?

Answer: Effective corporate governance should be in place because it monitors
the managers and allows the alignment of their incentives with shareholders
goals to avoid any conflict of interest and unethical behavior inside and outside
the organization.

6. Distinguish the role of an external auditor from the role of an internal auditor.
Answer: The role of an external auditor examine the firm’s accounting systems
and comment on whether financial statements fairly represent the firm’s financial
position. While the role of an internal auditor examines issues related to
company business practices and risks and they also provide advice and other
consulting assistance to employees. In short, the two functions share one word
in their names, but are otherwise quite different. Larger organizations typically
have both functions, thereby ensuring that their records, processes, and financial
statements are closely examined at regular intervals.
7. Distinguish the functions of a controller from the functions of the treasurer.
Answer: The controller handles cost and financial accounting, tax management,
and management information systems. While the treasurer is responsible for
cash and credit management, capital budgeting and financial planning.

II. MULTIPLE CHOICE QUESTIONS

1. All of the following are functions of the financial manager except
Answer: C. Assigning the market price of the company’s stock.

2. Which of the following statements is false?

Answer: A. The financing decision involves the process of allocating
funds for investment in competing assets.

3. Regine is a financial manager who has discovered that her company is violating
environmental regulations. If her immediate superior is involved, her appropriate
action is to
Answer: C. Present the matter to the next higher managerial level.

4. If a financial manager discovers unethical conduct in his/her organization and

fails to act, he/she will be in violation of which ethical standards?
Answer: All of the answers are correct.

5. Integrity is an ethical requirement for all financial managers. One aspect of

integrity requires
Answer: C. Refraining from improper use of inside information.

6. A financial manager discovers a problem that could mislead users of the firm’s
financial data and has informed his/her immediate superior. He/she should
report the circumstances to the audit committee and/or the board of directors
only if
Answer: A. The immediate superior, who reports to the chief executive
officer, knows about the situation but refuses to correct it.