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BUSI Financial Management: Why Study Finance?

This document provides an introduction to financial management concepts. It discusses why individuals and firms study finance, both for personal and corporate purposes. The key functions of a financial system are to provide efficient payment systems, allow for transfer of economic resources, pool funds for large projects, and manage uncertainty through risk allocation. Firms obtain financing through financial markets by issuing securities like debt and equity. The goals of a firm should be to maximize shareholder value by generating cash flows that exceed what shareholders require given the risk level. Financial statements like the balance sheet and income statement are examined from a finance perspective, focusing on market values, cash flows, and non-cash items. Valuation, risk-return tradeoffs, capital structure, and risk management

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Janella Bianca Barrios
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48 views

BUSI Financial Management: Why Study Finance?

This document provides an introduction to financial management concepts. It discusses why individuals and firms study finance, both for personal and corporate purposes. The key functions of a financial system are to provide efficient payment systems, allow for transfer of economic resources, pool funds for large projects, and manage uncertainty through risk allocation. Firms obtain financing through financial markets by issuing securities like debt and equity. The goals of a firm should be to maximize shareholder value by generating cash flows that exceed what shareholders require given the risk level. Financial statements like the balance sheet and income statement are examined from a finance perspective, focusing on market values, cash flows, and non-cash items. Valuation, risk-return tradeoffs, capital structure, and risk management

Uploaded by

Janella Bianca Barrios
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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BUSI Financial Management

Introduction

Why Study Finance?


Corporate life:
How does a firm finance its operations? How can a firm use financial techniques to improve decision making (strategy, portfolio planning, manufacturing, etc.)

Personal life:
How should you invest your money?

What this course provides:


a framework to understand the role of finance an understanding of key concepts in finance an introduction to financial instruments exposure to financial techniques
2

Professor Gordon Phillips

Functions of a Financial System


Provide an efficient payment system for the exchange of goods and services. Provide mechanisms that allow for the transfer of economic resources
Life-cycle allocations (consumption vs. saving) Efficient allocation (specialization)

Pool funds to undertake large-scale projects Manage uncertainty (allocate risk-bearing)

Structure of a Financial System


Governments Non-financial Corporations

Financial Intermediaries

Individuals
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Professor Gordon Phillips

The Firm and Financial Markets


Firm
Invests in assets (B) Firm issues securities (A) Retained cash flows (F) Short-term debt Cash flow from firm (C) Dividends and debt payments (E) Taxes (D) Long-term debt Equity shares

Financial markets

Ultimately, the firm must be a cash generating activity.

Government

A firm can create shareholder value if the cash flow to shareholders exceeds what they require given the level of 5 risk.

The Balance Sheet: Finance Perspective


1. Liquidity
The order of assets on the balance sheet reflects their liquidity. Liability order reflects time to maturity. Liquidity as a continuum reflects an ability to convert an asset to cash with little or no loss of value. Liquidity has an opportunity cost - the more liquid an asset is, the less profitable it usually is.

2. Debt vs. Equity


Precedence of debt over equity to firm's cash flows. Gains or losses of the business may be magnified for stockholders by financial leverage. The Balance Sheet: Finance Perspective
Introduction 6

Professor Gordon Phillips

3. Market Value vs. Book Value of Assets and Liabilities


Irrelevance of book (historical cost) value and importance of market (exchange) value for decision making. Some assets and liabilities do not appear on the balance sheet, e.g., talented managers and products that bring lawsuits.
Introduction 7

B. THE INCOME STATEMENT


REALIZATION: Time Line: Generally accepted accounting principles (GAAP) vs. cashflow 1. GAAP and the Income Statement
Accounting's "realization" principle for revenue, the "matching" principle for costs, and their incongruence with cash flows.

2. Non-cash Items
For many firms the most important non-cash item is depreciation. NOTE: Do not confuse dollar-denominated amounts with cash. This confusion is particularly evident when discussing retained earnings and non-cash items, such as depreciation. Not every dollar-denominated amount is a pile of money or a check written. In Finance: We are concerned with CASH.

Introduction

Professor Gordon Phillips

Statement of Cashflows
Remember the CASH FLOW IDENTITY
Based upon the balance sheet identity: Assets = Liabilities + Equity Finance version of identity: the cash flow identity: Cash flow from assets = Cash flow to bondholders + Cash flow to stockholders

GOAL: VALUATION OF THESE CASH FLOWS


Introduction 9

Key Themes in Finance and in this Course


Valuation
firms, securities, and investment projects

Tradeoff between risk and return


what risk is important? - modern portfolio theory how do financial markets price risk?

Capital structure management


creating value through financial strategy consider information asymmetry, transaction costs, liquidity, regulations, and other real-world facts of life

Risk management: passing on risk to other parties


derivative securities: futures, forwards, and options
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Professor Gordon Phillips

SUMMARY: OVERALL THEMES OF LECTURE


DESIRED GOAL: Maximize market value of the firm! FINANCIAL POLICIES: Should be designed to help firm achieve maximize market value.
(Not a trivial task, organizations have inertia and individuals may have different agendas inside the firm.)

In Finance we worry about:


Concerned with market value - not book value Cash - not accounting realization of expenses.

CASH FLOW IDENTITY ==> VALUATION OF CASH FLOWS


Introduction 11

Professor Gordon Phillips

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