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Overview of Financial Management

OVERVIEW OF FINANCIAL MANAGEMENT
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The Corporation Life Cycle Value Creation & Maximization Profit vs Cash Financial Institutions & Process of Capital Formation Types of Financial Markets Cost of Money
Financial Management - Reza Masri 2

Limited liability → Easy to raise capital Disadvantages: Complex & time consuming formation. Easy transferability of ownership interest. Not subject to corporate taxation Limitations: Difficult to raise capital.The Corporation Life Cycle Proprietorship Advantages: Easy & inexpensive formation. Limited life Partnership Advantages: Easy & inexpensive formation. Subjects to only few regulations. Subjects to only few regulations. Unlimited personal liability.Reza Masri 3 . Not subject to corporate taxation Limitations: Difficult to raise capital. Limited life Corporation Advantages: Unlimited life. Unlimited personal liability. Subject to double taxation Financial Management .

Value Maximization Investment Decisions Risk & Return Valuation Financing Decisions Income Distribution Decision Value Maximization Financial Management .Reza Masri 4 .

Determinants of a Firm’s Value Sales Revenue Operating Cost & Taxes Required Investment in Operations Financing Decisions Interest Rates Firm Risk Market Risk Free Cash Flows (FCF) Weighted Average Cost of Capital (WACC) Value of the Firm FCF1 FCF2 FCF Value =   ...Reza Masri 5 .  1 2 1 + WACC  1 + WACC  1 + WACC  Financial Management .

Financial Management & Other Fields of Management Math & Statistics Economics Accounting Financial Management ETHICS Social Sciences Operation Management .

Profit vs Cash Financial Management .Reza Masri 7 .

Profit vs Cash Financial Management .Reza Masri 8 .

Profit vs Cash Financial Management .Reza Masri 9 .

Profit vs Cash Financial Management .Reza Masri 10 .

Reza Masri 11 .Profit vs Cash Financial Management .

Profit vs Cash Financial Management .Reza Masri 12 .

Reza Masri 13 .Profit vs Cash Financial Management .

Profit vs Cash Financial Management .Reza Masri 14 .

Reza Masri 15 .Profit vs Cash Financial Management .

Mutual Funds.Reza Masri 16 .Financial Institutions: Capital Formation Process    Direct Transfer Business (Borrowers) sell securities directly to Savers Through Investment Banking Houses Business (Borrowers) sell securities to Savers through investment banking houses Through Financial Intermediaries • • • Intermediary obtain funds from Savers in exchange for its own securities Intermediaries uses the fund to purchase and hold securities from Business (Borrowers) Examples: Commercial Banks. Pension Funds Financial Management . Life Insurance Companies.

Reza Masri 17 Securities Corporations Investors .Investment Banking & Investment Management Sell Side: Underwriting & selling corporations securities to investors Securities Investment Banking Houses Dollars Dollars Buy Side: Advising investors & managing investors fund in buying securities Financial Management .

Types of Financial Markets      Physical asset markets vs Financial asset markets Spot markets & Futures markets Money markets & Capital markets Primary Markets & Secondary markets Private markets & Public markets Financial Management .Reza Masri 18 .

Capital Markets: Selected Comparison (ASEAN) Market Capitalization (USD billions) 700.0 300.0 603.0 600.1 336.5 as of Nov.0 400.0 200.0 100.0 0.9 380.6 140.7 280.0 500.9 32. 2010 .

2010 .Capital Markets: Selected Comparison (ASEAN) Number of Issuers 1.000 800 600 400 200 0 984 781 735 549 415 256 as of Nov.

7 159.8 as of Nov. 2010 .Capital Markets: Selected Comparison (ASEAN) Market Capitalization to GDP (%) 300 250 200 150 100 50 0 253.5 71.0 32.9 83.5 46.

Financial Markets Implications of active financial markets:  FINANCING alternatives for corporations  INVESTMENT alternatives for investors Financial Management .Reza Masri 22 .

Reza Masri 23 .Cost of Money   Cost of debt = Interest Rate Cost of Equity = Required Rate of Return = Dividend + Capital Gain Factors Affecting Cost of Money  Production opportunities  Time preferences for consumption  Risk  Inflation Financial Management .

Reza Masri 24 . liquidity premium. Financial Management . inflation premium. default risk premium.Determinants of Interest Rates r = r* + IP + DRP + LP + MRP r = r* = IP = DRP = LP = MRP= rate of interest on a debt security. maturity risk premium. real risk-free rate of interest.

0% 8.Reza Masri 25 .Term Structure of Interest Rates   Term structure: the relationship between interest rates (or yields) and maturities Yield curve: graph depicting the term structure.0% 2.4%) 5 Intermediate Term 10 15 20 Long Term 25 Years to Maturity 30 Financial Management .0% 0 Short Term Yield Curve for August 1999 (Rate of Inflation: 2%) Yield Curve for April 2003 (Rate of Inflation: 2. U. Treasury Bond Interest Rates on Different Dates Interest Rate (%) Yield Curve for March 1980 (Rate of Inflation: 12%) 16.0% 4.0% 14.S.0% 6.0% 10.0% 0.0% 12.

Corporate and Treasury Yield Curves Interest Rate (%) 12% 10% 8% 6% 4% 2% 0% BBB-rated bond AA-rated bond Treasury Bond 10 Years to Maturity 20 30 Financial Management .Reza Masri 26 .

Career Alternatives in Finance Investment Banking Corporate Finance Capital Market Project Finance Advisory Trading Research Sales/Brokerage Rating Analyst Money Management Portfolio Manager Portfolio Management Marketing Investment Advisory Mutual Fund Analyst Commercial Banking Corporate Finance Credit Analyst Loan Officer Treasurer Financial Analyst Credit Manager Investor Relation Controller Financial Planning Insurance Wealth Management Actuary Agent/Broker Underwriter Risk Manager .