Lecture 1 An Overview of Financial Management

Learning Objectives
Going through the syllabus
Introduction to e-lectures
Recall the 3 basic ways businesses are organized
Discuss the advantages and disadvantages of each
type of business organization
Understand what is double taxation
Understand the goal of financial management is to
maximize shareholders wealth
Explain and discuss the links between stock prices, intrinsic
values, and market equilibrium
Discuss the conflicts between managers and shareholders
and the various techniques firms can use to mitigate the
conflicts

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 AB1201: Financial
Management

Lecture 1 Syllabus and An Overview of

Financial Management
By: Angie Low
(aaclow@ntu.edu.sg)

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Some preliminaries
Important course for students who wants to choose
Banking and Finance specialization

Other than todays lecture, all other lectures will be

conducted online
Tutorials will still be conducted face-to-face

Take charge of your own learning!

No more hand-holding. Here, we guide you, not force you
to learn

Please read through syllabus carefully!!

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Syllabus Materials to get/buy

Textbook: Brigham, Eugene F., Joel F. Houston,
Jun-ming Hsu, Yoon Kee Kong, and Bany Ariffin,
Essentials of Financial Management, 3rd edition

Financial Calculator
Recommended: Texas Instrument BA II Plus
Available from Eight Flags
If you are planning to use other calculators
with financial functions, please refer to the NBS
website for the list of approved calculator

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Syllabus Course structure

The course will be conducted via a series of e-
lectures, online assignments, and tutorials.
Lecture will introduce students to main concepts
Read through assigned readings
Work on simple online assignments after reviewing the
lecture
Work on tutorial assignments which will be discussed in the
tutorial class.
Tutorials reinforce the concepts taught, provide practice
opportunities, and allow students to clarify their doubts with
instructors.
Please complete tutorial questions before discussion in tutorial groups.
Prepare Tutorial 1 for next weeks tutorial.

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Stock Price & Intrinsic Value > Agency Problems > Conclusion

Syllabus NTU Learn

E-lecture sequences: Available on Monday of each week
2 instructors: Dr Chanika will go through Lectures 2 to 6, Angie will
go through Lectures 7 to 11
Forum at the end of the sequence allows you to post your
questions
Online assignments: Available after you have finished the e-
lecture
Only available for two weeks (Monday of Week t to Sunday of
Week t+2)
Lecture slides and tutorial questions
Course-wide announcements
Individual tutorial groups may have their own NTULearn site

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Syllabus - Assessment
Coursework assessment (40%)
Common quiz (6 Oct, 7pm) 20%
Graded based on
Online assignments 5% attempt

Presentation of tutorial questions 7% Assessed

by tutorial
Group project 8% instructors

Final examination 60%

Please refer to syllabus for more details

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Syllabus - What is Financial Management?

Study how companies conduct their businesses in
order to maximise value.

Which Financial markets

Investment
assets to policy (L3)
invest in? (L7, 8, 9)

What is value?
(L2 - L6)
- Time value of money Maximise Financing How will
- Risk and Return value policy we pay for
- Value stocks and (L1) (L10) the asset?
bonds

Dividend What to do with

policy the earnings
generated by
(L11)
assets?

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Stock Price & Intrinsic Value > Agency Problems > Conclusion

Syllabus - Why do we need to

learn Financial Management?
To help you become a better manager
To plan how a company gets funds more efficiently
To better plan and control profit
To better manage a companys cash flows
To help you improve your financial decisions that
affect your daily life such as
How to get the best deal for your car loan?
How to plan your savings for retirement?

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Outline of rest of lecture

Forms of business organization
Goals of Corporation
Stock price and intrinsic value
Agency problems conflicts between
managers and stockholders

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Forms of Business Organization

Proprietorship: An unincorporated
business owned by 1 individual
Partnership: An unincorporated business
owned by two or more persons
Corporation: An incorporated business
owned by many shareholders
Legal entity separate from owners
Ownership denoted by shares
Can be public or private

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Proprietorships and Partnerships

Advantages
Ease of formation
Subject to few regulations
No corporate income taxes
Disadvantages
Difficult to raise capital
Unlimited liability
Limited life

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Corporation
Advantages
Easy transfer of ownership
Unlimited life
Limited liability
Ease of raising capital
Disadvantages
Cost of set-up and
report filing
Double taxation

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Double taxation: What happens when

the company makes $1 in profit?
Proprietorship/ Partnership
$1 profit Owners Owners pay personal
income tax on the $1 (e.g., 20%) Owners left
with $0.80 after-tax
Doubletaxation: Corporation (U.S. system)
$1 profit Corporation pay corporate tax (e.g.,
30%) After-tax profit of $0.70 distributed to
owners as dividends Owners pay dividend tax
(e.g., 15%) Owners left with $0.595

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Structure of a Corporation
In FM, we focus on financial decisions made
by a publicly-traded corporation
However, most of the concepts we learn in this
course is also applicable to other forms of
organizations

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Clicker question: Imagine you are the CEO of

FM Corp, a publicly traded company selling
FM textbooks), what do you think should be
FM Corps goal when making financial
decisions?
1. Maximize accounting
profits
2. Maximize your own
wealth
3. Maximize your
shareholders wealth
4. Maximize the
happiness of the
students buying your
textbook! 16
Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Financial Goals of the Corporation

The primary financial goal of
management is shareholder wealth
maximization maximizing intrinsic
value of the stock.
Note: We use the words stock and
share interchangeably

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Stock Prices and Intrinsic Value

Stock Price: Set by the marginal investor
based on her perceived value of the stock
e.g., SIA current stock price
Intrinsic value: An estimate of the true
value based on best available information
Intrinsic value is a long-run concept.
Investors will try to estimate the intrinsic
value of a stock and they may come up
with different estimates.

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Stock Prices and Intrinsic Value

To the extent
that investor
perceptions
are incorrect,
a stocks price
in the short
run may
deviate from
its intrinsic
value.

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Stock Prices and Intrinsic Value

In equilibrium, a stocks price should
equal its true or intrinsic value.
Equilibrium: A situation where investors
are indifferent between buying and
selling the stock
Ideally, managers should avoid
actions that reduce intrinsic value,
even if those decisions increase the
stock price in the short run.
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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Clicker question: Imagine you are the CEO of

FM Corp, a publicly traded company selling
FM textbooks), what do you think should be
FM Corps goal when making financial
decisions?
1. Maximize accounting
profits
2. Maximize your own
wealth
3. Maximize your
shareholders wealth
4. Maximize the
happiness of the
students buying your
textbook! 21
Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Clicker question: I own the chicken rice store

in Canteen B, and hire you to run the store.
Salary = $1000. Would you work very hard for
me to help me make money?

1. Yes
2. No

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Agency problems
Managers are naturally inclined to act
in their own best interests (which are
not always the same as the interest of
stockholders).
This is called agency problems
conflicts between shareholders and
managers.

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Clicker question: Instead of fixed $1000, I pay

you $0.50 for every plate of chicken rice you
sell, would you work harder for me?

1. Less hardworking
2. Same as before
3. More hardworking

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Solving agency problems

Managerial compensation packages
Reward managers based on long-run
intrinsic value of the company stock
Direct intervention by shareholders
The threat of firing
The threat of takeover

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Syllabus > Forms of Business Organisations > Proprietorships & Partnerships > Corporations > Goal of Financial Management >
Stock Price & Intrinsic Value > Agency Problems > Conclusion

Where do we stand?
Advantages and disadvantages of different forms
of organizations
Goal of a corporation shareholder wealth
maximization maximizing intrinsic value of the
stock maximizing long-run stock price
Difference between intrinsic value and stock prices
Agency problems between shareholders and
managers
How do we ensure managers work for the
shareholders interest?

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