Chapter 1

Goals and Governance of the Firm

Topics Covered

Investment and Financing Decisions What is a Corporation? Who Is The Financial Manager? Goals of the Corporation

The Role of The Financial Manager

Capital Budgeting Decision Decision to invest in tangible or intangible

assets.

…also called the Investment Decision

The Role of The Financial Manager

“Capital Budgeting”

Tangible Assets

Toyota Plants

@ $3 billion new debt

Intangible Assets

Gillette’s Advertisement

@ $200 million

The Role of The Financial Manager

Financing Decision The form and amount of financing of a firm’s

investments.

Capital Structure The mix of long term debt and equity financing.

Financial

Manager

Firm's

operations Investors

(1) Cash raised from investors

(1)

(2) Cash invested in firm

(2)

(3) Cash generated by operations

(3)

(4a) Cash reinvested

(4a)

(4b) Cash returned to investors

(4b)

The Role of The Financial Manager

Real assets Investment assets

The Role of The Financial Manager

Real Assets Assets used to produce goods and services.

Financial Assets Financial claims to the income generated by the

firm’s real assets.

What is a Corporation?

Corporation A business organized as a separate legal entity

owned by stockholders.

Types of Corporations Public Companies Private Corporations Limited Liability Corporations (LLC)

Who is The Financial Manager?

Chief Financial Officer

Treasurer Controller

Who is The Financial Manager?

Chief Financial Officer (CFO) Oversees the treasurer and controller and sets

overall financial strategy.

Treasurer Responsible for financing, cash management, and

relationships with banks and other financial institutions.

Controller Responsible for budgeting, accounting, and taxes.

Goals of The Corporation

Shareholders desire wealth maximization

Do managers maximize shareholder wealth?

Mangers have many constituencies “stakeholders”

“Agency Problems” represent the conflict of interest between management and owners

Agency Problem

Difference in Information Stock prices and returns Issues of shares and

other securities Dividends Financing

Different Objectives Managers vs.

stockholders Top mgmt vs.

operating mgmt Stockholders vs. banks

and lenders

Ownership vs. Management

Agency Problem

Agency Problems Managers, acting as agents for stockholders, may

act in their own interests rather than maximizing value.

Stakeholder Anyone with a financial interest in the firm.

Goals of The Corporation

Agency Problem Solutions

1 - Compensation plans

2 - Board of Directors

3 - Takeovers

4 - Specialist Monitoring

5 - Legal and Regulatory Requirements