Unit 1 Assignment

Kaplan University

GB550: Financial Management

November 5, 2013

A) Why is corporate finance important to all managers?

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Corporate finance is important to all managers since in order to be successful and grow

the correct financial measures and decisions have to be made. Managers deal with issues and

make important decisions that can affect a company. Having a solid understanding of corporate

finance will help them in making decisions and implementations that are beneficial to the

company.

B) Describe the organizational forms a company might have as it evolves from start-up to a

major corporation. List the advantage and disadvantage of each form.

Organizations sometimes form first as a proprietorship. Proprietorships are good because

they are easy to start as well as inexpensive to start, and there are few regulations in place that

affect them a downside to a proprietorship is taxes. The owner is typically taxed on the income

that is generated as if the income is personal income. Creditors may also seize the owner’s

personal property in exchange for unpaid debts. These two factors make a proprietorship risky.

A partnership is started if more than one person is an owner of the business. Partnerships

can be beneficial because you have the benefit of utilizing the skills of both or all of the owners

instead of just a single owner. The responsibility is also spread out among the owners rather than

just a single owner. Disagreements between partners or conflicts of interest can pose to be

problematic for a partnership. Both can interfere with the way the business functions.

When a business grows and is generating capital, it is typical that the owner(s) make the

decision to incorporate. Incorporating a business has its advantages and disadvantages.

Advantages to incorporating are that the owner’s personal assets cannot be seized. The income

brought in from the corporation would be taxed separately from the owner’s personal income.

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Disadvantages are that there are regulations and bylaws a corporation must follow and higher

taxes are charged to corporations. Corporations set up corporate governance, which sets forth a

set of rules that outlines how they will handle issues with employees, managers, customers,

competitors, and the community.

C) How do corporations go public and continue to grow? What are agency problems? What is

corporate governance?

As corporations grow, they may decide to go public and begin public trading. Public

trading allows a corporation to sell stock or debt to the public. Funds’ received from the sale of

stock is used to finance business ventures for continued growth. Agency problems can occur

when managers of a firm act in the interests of themselves versus the interests of the

shareholders. Corporate governance is the set of rules that control a company’s behavior

towards the community, its competitors, customers, creditors, employees, managers, directors

and shareholders.

D) What is the primary objective of managers?

Any corporation’s primary goal is to maximize the wealth of the stockholder. This

ultimately maximizes the price of the company’s common stock.

D) 1- Do firms have any responsibilities to society at large.

All firms have an ethical responsibility to provide a safe working environment for its

employees, to avoid polluting the water or air as well as to produce safe products for its

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consumers. On the other hand, a significant cost increasing action will be mandatory for a

business rather than voluntary in order to be sure that the burden will fall onto the business.

D) 2 – Is stock prove maximization good or bad for society?

Some of the same actions can benefit society that maximize stock prices. Stock price

maximization requires efficient, low-cost operations that produce high-quality goods and

services at the lowest possible cost. It requires the development of services and products that

consumers need and want. In turn, the profit leads to new technology, new products and new

jobs. Stock price maximization requires efficient and considerate service, acceptable

merchandise and consumer friendly located businesses. These are all necessary to make sales

and profit.

D) 3 – Should firms behave ethically?

Yes, firms should most definitely behave ethically. Maintaining high ethical standards in

business dealings is vital and many executives feel this is the way to operate. Since problems

can arise between profits and ethics it is important that companies deal with these in a regular

basis as to not be ties up with law suits. Overall, there is not room for any unethical behavior in

the business world.

E) What three aspects of cash flows affect the value of investment?

Three aspects of cash flow that affect the value of investment amount of expected cash

flows, the timing of the cash flow stream and the riskiness of the cash flows.

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F) What are free cash flows?

Free cash flow are the funds that are readily available for distribution and that are not tied

up in other expenses or assets. These are what lenders and investors look at when analyzing a

company. The weighted average cost of capital is another factor that investors look at. This is

the return the investors will receive for the investment made.

G) What is the weighted average cost of capital?

The weighted average cost of capital is another factor that investors look at. This

is the return the investors will receive for the investment made.

H) How do free cash flows and the weighted average cost of capital interact to determine a

firm’s value?

Mathematical equations are used by investors using both free cash flow and the weighted

average cost of capital in order to determine a firm’s value.

I) Who are the providers (savers) and users (borrowers) of capital? How is capital transferred

between savers and borrowers?

A provider (saver) of capital is an individual or even a business that provides funds to

those who need to borrow it. Typically, this is seen via banking intuitions and bank savings

accounts. When individuals or businesses deposit money into a savings account, the banks or

financial institution then uses the funds to lend money to other individuals or businesses. The

borrowers (users) of capital are individuals or businesses who borrow money from the lenders.

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Capital is transferred from providers to borrowers by direct money transfers, indirect banking

houses, or even through a financial intermediary such as a bank or mutual fund

J) What do we call the price that a borrower must pay for debt capital? What is the price of

equity capital? What are the four most fundamental factors that affect the cost of money, or the

general level of interest rates, in the economy?

The price a borrower must pay for debt is called the interest rate. The price of equity

capital is the cost of equity. No matter if, the borrower is getting cash or equity there is a price

they will have to pay for financing. The four fundamental factors that affect the cost of money in

the economy are production opportunities, time preferences for consumption, risk, and inflation.

K) What are some economic conditions (including international aspects) that affect the cost of

money?

Economic conditions can affect the cost of money. Conditions that can affect the cost of

money are the Federal Reserve policy, the federal budget deficit or surplus, the level of business

activity, and international factors such as foreign trade and exchange rate. The conditions are out

of the control of the business but are factors that one must pay attention to and be prepared to

face.

L) What are financial securities? Describe some financial instruments.

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Financial securities are contracts that give specific rights to cash flows. An example of a

financial security is a loan document. This shows when a borrower will pay a certain amount of

payment monthly at a predetermined interest rate over a period of time. Equity instruments are

claims of value placed on stock.

M) List some financial intuitions.

Financial institutions are businesses that others are able to turn to for financing. Some

examples are investment banks, credit unions savings and loans associations, commercial banks,

investment finds and private equity finds.

N) What are some different types of markets?

There are several different types of markets that can benefit a company. Different

markets provide services specific to the needs of clients and to the demographic area. Examples

are physical asset markets, spot markets, money markets, mortgage markets, primary markets,

and private markets.

O) How are secondary markets organized?

A secondary market can be a computer or telephone market or even physical location

market. The New York Stock Exchange and NASDAQ are two popular secondary markets.

O) 1 – List some physical location markets and some computer/telephone networks.

A physical location is The New York Stock exchange where as a computer/telephone

market is NASDAQ.

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O) 2 – Explain the differences between open outcry auctions, dealer markets, and electronic

communications networks (ECNs).

An outcry auction is a process where sellers and buyers meet at a location and use hand

signals and shouts to auction the sales. A dealer market is one where the inventory of an item is

kept auctions using computers. Lastly, an electronic communications network is an avenue

where buyers and sellers can both post orders and then they are matched to other buyers and

sellers.

P) Briefly explain mortgage securitization and how it contributed to the global economic crisis.

Mortgage securitization is a process in which lenders bundle mortgage loans and sell

them to investment banks. Then the investment banks use the loans as security on investments.

This process seems like it could be beneficial but has downsides. The mortgage securitizations

process contributed to the global economic crisis because homeowners struggled to make their

mortgage payments and many homeowners were defaulting on their mortgages. The loan

originators at that point were no longer receiving the monthly principle and interest payments

from the borrowers. Therefore, the investment banks who purchased the bundled mortgages

were not receiving their funds. Since these funds had been used finance investments, the

investment banks were taking a loss.

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References

Brigham, E., & Ehrhardt, M Financial Management: Theory and Practice. (14 ed.). South-

Western Publishing.

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