THE CORPORATION

1
THE CORPORATION

• Legal entity created to sell goods and/or
  services.
• Owned by shareholders who purchase its stock.
• Possible returns to shareholders 1) dividends
  and 2) stock price appreciation.

2
FINANCE DECISIONS

• INVESTMENT
• FINANCING
• DIVIDEND

3
INVESTMENT DECISION

• What assets does the company need to accomplish
  its mission?
• Long-term assets Capital Budgeting (Chapters 8
  9)
• Short-term assets Working Capital Management
  (Chapters 10 11)

4
FINANCING DECISION

• How should firms assets be financed?
• Debt (borrowed money) or Equity (Sell new stock
  or reinvest profits)?
• What is best mix of debt and equity?
• Debt, Equity, Valuation, Cost of Capital
  (Chapters 2, 3, 6, 7)

5
DIVIDEND DECISION

• What to do with earnings after taxes?
• 1) Pay dividends to shareholders
• 2) Reinvest earnings to finance new assets
• 3) Some combination of both
• This decision is addressed in the Advanced
  Corporate Finance course.

6
Goal of Financial Management

• Most people would say goal is to maximize profits
• Profits when? - this quarter, this year, next 5
  years, etc.?
• Which measure of profit to use? - net income,
  income before extraordinary items, EPS, etc.?

7
Better Goal

• Who owns firm?
• Stockholders.
• Why do they buy stock?
• To gain financially when stock price goes up.
• Goal MAXIMIZE STOCK PRICE

8
Advantages of Stock Price Maximization as a Goal

• Easy to measure
• Readily available
• Provides immediate feedback on how market values
  decisions of firms managers

9
Disadvantages of Stock Price Maximization as a
Goal

• When managers focus solely on short-term stock
  price maximization, they may make decisions
  harmful to the corporation in the long-term.
• Al Dunlap Scott Paper, Sunbeam
• Michael Moore Roger and Me, Downsize This,
  Stupid White Men

10
Stakeholders in a corporation

• Shareholders
• Employees
• Customers
• Suppliers
• Community
• Creditors
• Government

11
Long-term Decision Making

• Stakeholders have interest in continued operation
  of corporation
• Managers must make decisions that maximize stock
  price in the long-run
• Theory is that taking the long-term view will
  benefit all stakeholders
• Ethics?

12
3 Easy Steps to Follow in Making Financial
Decisions

• Estimate impact of decision on future cash flows
  (Chapter 8)
• Adjust future cash flows for time value of money
  (Chapter 4)
• Adjust future cash flows for risk (chance that
  actual cash flow will not be what is expected)
  (Chapter 5)