01 Introduction
Finance¶
Finance is the field that deals with value; finance is not about money
Financial system helps transfer money from savers to consumers.
Finance is a child of Economics.
Financial Management is a study of a corporation’s finances. Hence, it is also called as Corporate Finance, Business Finance.
2 variables involed are
- Time
- Risk
Goal¶
Maximize value of company
This is measure by the price of the stock
Financial Decisions (in order of importance)¶
- Capital budgeting decisions (most important)
- Long term investments
- Purchase of real assets
- Captial structure decisions
- Financing decisiosn
- Sale of financial assets
- Working capital decisions
- Liquidity vs Profitability
- Dividend decisions (Residual of budgeting and structure - not very important)
- Pay/Retain
Risk vs Uncertainity¶
For risk, we have known probabilities. For eg, we can estimate inflation, etc
Uncertainity means we have no information.
Usually,
Securities¶
is a tradeable asset that gives you claim over something.
| Risk-Free (Future cash flows guaranteed) | Tradeable | |
|---|---|---|
| Loan | ✅ | ❌ |
| Bond | âś… | âś… |
| Share | ❌ | ✅ |
Ownership Forms¶
| Form | Sole Proprietorship | Partnership | Company/ Corporation/ Limited Liability Company |
|---|---|---|---|
| No of owners | 1 | \(\ge 2\) | \(n\) (includes shareholders) |
| Ease of starting | Easy | Intermediate | Difficult |
| Regulations | Low | Low | High |
| Keeping profits | All | Part | Partial |
| Ease of Valuation | Difficult | Difficult | Easy |
| Life length | life of owner | life of owners | Unlimited |
| Equity capital | Limited to owner’s personal wealth | Limited to owners’ personal wealth | |
| Liability | Unlimited | Unlimited | Limited to investment of investor |
| Ease for transfer of ownership | Difficult | Difficult | Easy |
| Ownership separate from Management | ❌ | ❌ | ✅ |
| Agency Problems | ❌ | ❌ | ✅ |
| Taxation | Single* | Single* | Double |
*Taxed only once as personal income (corporate tax is higher than personal)
Agency Problems¶
Goals of managers different from owners
The manager will be more short-term oriented, in order to boost their portfolio, so that they can move on to a better company