corporate finance lecture 1

8/9/2019 Corporate Finance Lecture 1

1/41

FinancialManagement I

Brian Clark, PhD

Lecture 1

Spring 2015Lally School o Management

!en""elaer Polytechnic In"titute

clark#2$rpi%e&u Spring 2015 Financial Management I ' Clark 1

mailto:[email protected]:[email protected]


2/41

o Intro&uction" (you all ha)e to "peak*+

• ell the cla"" a#out-

• .our #ackgroun& (inclu&ing out"i&e o aca&emia+• .our ma/or (un&ergra& an& current+

• hy you are taking the cour"e

• hat you ant to learn

o Form group" or ca"e orko Intro&uce the cour"e

Spring 2015 Financial Management I ' Clark 2

o&ay" Cla""


3/41

o 3"eul openare e#"ite-

• http-44oc%mit%e&u4cour"e"4"loan'"chool'o'mana

gement415'1'6nancial'management'"ummer'20074lecture'note"

4

• Leellen, 8onathan% 15.414 Financial Management,

Summer 2003% (MI 9penCour"eare-Ma""achu"ett" In"titute o echnology+,http-44oc%mit%e&u4cour"e"4"loan'"chool'o'management415'1'6nancial'management'"ummer'2007 (:cce""e& 21 8an, 201+% Licen"e- Creati)e

Common" B.';C'S:Spring 2015 Financial Management I ' Clark 7

Intro&uction

http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/http://ocw.mit.edu/courses/sloan-school-of-management/15-414-financial-management-summer-2003/lecture-notes/


4/41

o ype" o 6rm"-

• Sole Proprietor"hip

• Partner"hip

• Limite& Lia#ility Company

• Corporation

Spring 2015 Financial Management I ' Clark

Chapter 1


5/41

o In)e"tment )er"u" 6nancing-

• In)e"tment- ho a 6rm "pen&" money

• Financing- ho a 6rm pay" or it" in)e"tment"an& &i"#ur"e" the earning"

o :re they relate&<


Corporate Finance


6/41

Spring 2015 Financial Management I ' Clark =

Ba"ic Balance Sheet


7/41

o Corporate 6nance i" all a#out managing the #alance

"heet to ma>imi?e )alue

o But, e nee& to un&er"tan& e)erything that goe" intothe #alance "heet to un&er"tan& )alue-

• Financial market"

• Securitie" pricing

• Li@ui&ity

• Si?e o the #alance "heet

• !i"k )er"u" return

• Incenti)e" (remem#er corporation" are run #y human"*+

Spring 2015 Financial Management I ' Clark A

Intro&uction (cont%+


8/41

o o &o e rai"e un&"<

• Bon& market"

• @uity market"• Bank"

o hy choo"e one )er"u" the other<

Spring 2015 Financial Management I ' Clark

Financial Market"


9/41

o o to )alue "tock", #on&", #ank loan", etc%<

• .ou &ont nee& to #e a all St% tra&er, #ut you

"houl& kno the #a"ic"• ;ee& to e)aluate the mo"t a)ora#le price

(although the market )alue i" only one a"pecto the o)erall co"t+

Spring 2015 Financial Management I ' Clark E

Securitie" Pricing


10/41

o hat i" the purpo"e o capital market"<

o Capital market" ena#le economie" to gro #y

"prea&ing capital aroun& in the mo"t ecient mean"po""i#le (i%e%, the mo"t pro&ucti)e mem#er" o"ociety "houl& get the mo"t capital+


ime Galue o Money


11/41

o Ca"h management-

• Capital "itting i&le create" an opportunity co"t-

• It oul& ha)e #een #etter oH in)e"te& el"ehere• oe)er, in)e"ting capital &ecrea"e" the

e>i#ility o your capital

o De#t )"% e@uity-

• @uity may co"t more up ront, #ut it i"generally le"" re"tricti)e (in large corporation"+


Li@ui&ity


12/41

o o large &o e ant to make the #alance "heet<

• Merger", ac@ui"ition", organic groth<

o hat are the #ene6t" an& co"t" o "i?e<

• J"-

• Decrea"e& co"t o un&ing

• :cce"" to a&&itional un&ing

• conomie" o "cale an& "cope

• '"-

•

Coor&ination co"t"• Lo"" o control

o Si?e in the #anking in&u"try-

• Bank o :merica

• ell" Fargo


Si?e o the Balance

Sheet


13/41

o Smaller 6rm" ten& to outperorm larger 6rm"

in term" o "tock market return"

• But, they al"o ten& to #e more )olatile

o Mea"uring return i" "imple

o o &o e mea"ure ri"k<

•

o much ri"k are you illing to take on<• hat actor" inuence ho much ri"k you take

on<


!i"k )er"u" !eturn


14/41

o o can e align the goal" o the

"takehol&er" ith the goal" o management<

• he "tructure o the 6rm matter"• Pay "tructure

• Payout policy

• Capital "tructure


Strategic Koal" an&

Incenti)e"


15/41

o : e note" on the ca"e "tu&ie"-

• Plea"e proorea& your ork

• 9nly the inormation inclu&e& in the ca"e rite'up ill #e

con"i&ere& hen gra&ing• I you perorm any analy"i", it nee&" to #e inclu&e& a" a ta#le or

6gure

• :ll ta#le" an& 6gure" mu"t #e la#ele& "o I can rea& them

• !emem#er, the goal i" to con)ince your au&ience (me*+ that youun&er"tan& the material an& are making the correct &eci"ion"

o hen pre"enting, plea"e #e prepare& an& &o not rea& the"li&e"%

• ry to "peak to your au&ience to con)ince them o your mainpoint"' @ue"tion" lea& to &etaile& re"pon"e"


Ca"e Stu&ie"


16/41

o Mi&term-

• Chapter" 1'E

• ime )alue o money

• Capital #u&geting

• In)e"tment &eci"ion rule"

• Galuation o "tock" an& #on&"

o Final-

• Chapter" 1'1E

• Capital market" an& 6nancing (i%e%, ho to rai"e the un&" tomake in)e"tment"+

• Co"t o capital

• Capital "tructure

• Managerial incenti)e"

Spring 2015 Financial Management I ' Clark 1=

>am"


17/41

o http-44%p#"%org4g#h4page"4rontline4melt

&on4)ie

4 o PBS Frontline In"i&e the Melt&onN

Spring 2015 Financial Management I ' Clark 1A

Gi&eo

http://www.pbs.org/wgbh/pages/frontline/meltdown/view/http://www.pbs.org/wgbh/pages/frontline/meltdown/view/http://www.pbs.org/wgbh/pages/frontline/meltdown/view/http://www.pbs.org/wgbh/pages/frontline/meltdown/view/http://www.pbs.org/wgbh/pages/frontline/meltdown/view/http://www.pbs.org/wgbh/pages/frontline/meltdown/view/


18/41

o o i" the )i&eo rele)ant to corporate 6nance<

• Moral ha?ar&

• Financing &eci"ion"

• &e#t )"% e@uity• long )"% "hort term &e#t

• !i"k )er"u" return

• le)erage an& capital "tructure

• Inormation a"ymmetry

• inter#ank len&ing

• Market li@ui&ity• market" rely on tru"t

• Ko)ernment an& 6nance-

• Sar#ane"'9>ley :ct (re"pon"e to nron O orl&Com+

• Do&&'Frank :ct (re"pon"e to 6nancial cri"i" o 200+


Di"cu""ion


19/41

• !ea& chapter" 1'

• ;e>t eek e ill co)er-

• Financial &eci"ion making an& the la o oneprice

• :r#itrage

• ime )alue o money

Spring 2015 Financial Management I ' Clark 1E

or ;e>t eek


20/41

Copyright ©2014 Pearson Education, Inc. All rights reserved. 1-20

Figure 1.1 ypes o! ".#. $ir%s

Source: www.bizstats.com


21/41


1.1 The Four Types of Firms(cont'd)

• #ole Proprietorship

– &usiness is o'ned and run (y one person

– ypically has !e', i! any, e%ployees

– Advantages• Easy to create

– )isadvantages•

"nli%ited personal lia(ility• *i%ited li!e


22/41



• Partnership

– #i%ilar to a sole proprietorship, (ut 'ith %orethan one o'ner

– All partners are personally lia(le !or all o! the!ir%+s de(ts. A lender can reuire any partner torepay all o! the !ir%+s outstanding de(ts.

–

he partnership ends 'ith the death or'ithdra'al o! any single partner.


23/41



• Partnership

– *i%ited Partnership has t'o types o! o'ners.

• eneral Partners –

/ave the sa%e rights and lia(ility as partners in a regular partnership – ypically run the !ir% on a day-to-day (asis

• *i%ited Partners – /ave li%ited lia(ility and cannot lose %ore than their

initial invest%ent – /ave no %anage%ent authority and cannot legally (e

involved in the %anagerial decision %aing !or the(usiness


24/41



• *i%ited *ia(ility Co%pany 3**C

– All o'ners have li%ited lia(ility (ut they canalso run the (usiness.

– 5elatively ne' (usiness !or% in the ".#.


25/41



• Corporation

– A legal entity separate !ro% its o'ners

• /as %any o! the legal po'ers individuals have such as

the a(ility to enter into contracts, o'n assets, and(orro' %oney

• he corporation is solely responsi(le !or its o'no(ligations. Its o'ners are not lia(le !or any o(ligationthe corporation enters into.


26/41



• Corporation

– $or%ation

• Corporations %ust (e legally !or%ed. he corporation

!iles a charter 'ith the state it 'ishes to incorporatein. he state then charters the corporation, !or%allygiving its consent to the incorporation.

• )ue to its attractive legal environ%ent !orcorporations, )ela'are is a popular choice !or

incorporation.


27/41



• Corporation

– 9'nership• 5epresented (y shares o! stoc

• 9'ner o! stoc is called – #hareholder – #tochoder – Euity /older

• #u% o! all o'nership value is called euity.

• here is no li%it to the nu%(er o! shareholders, andthus the a%ount o! !unds a co%pany can raise (yselling stoc.

• 9'ner is entitled to dividend pay%ents.


28/41

Copyright ©2014 Pearson Education, Inc. All rights reserved. 1-2:


• Corporation

– a; I%plications• )ou(le a;ation

– # Corporations• $ir%+s pro!its are not su(


30/41


Figure 1.2 9rgani>ational Chart o!a ypical Corporation


31/41


1.2 Ownership versus Controlof Corporations (cont'd)

• $inancial ?anager

– 5esponsi(le !or@

• Invest%ent )ecisions

• $inancing )ecisions

• Cash ?anage%ent


32/41



• oal o! the $ir%

– #hareholders 'ill agree that they are (etter o!!i! %anage%ent %aes decisions that %a;i%i>es

the value o! their shares.


33/41

Copyright ©2014 Pearson Education, Inc. All rights reserved. 1-


• he $ir% and #ociety

– 9!ten, a corporation+s decisions that increasethe value o! the !ir%+s euity (ene!it society as

a 'hole. – As long as no(ody else is %ade 'orse o!! (y a

corporation+s decisions, increasing the value o!the !ir%+s euity is good !or society.

– It (eco%es a pro(le% 'hen increasing thevalue o! the !ir%+s euity co%es at the e;penseo! others.


34/41



• Ethics and Incentives 'ithin Corporations

– Agency Pro(le%s

• ?anagers %ay act in their o'n interest rather than in

the (est interest o! the shareholders.• 9ne potential solution is to tie %anage%ent+s

co%pensation to !ir% per!or%ance.

• /o' should per!or%ance (e %easured


35/41



• CE9 Per!or%ance

– I! a CE9 is per!or%ing poorly, shareholders cane;press their dissatis!action (y selling their

shares. his selling pressure 'ill drive the stocprice do'n.

– /ostile aeover• *o' stoc prices %ay entice a Corporate 5aider to (uy

enough stoc so they have enough control to replacecurrent %anage%ent. he stoc price 'ill rise a!terthe ne' %anage%ent tea% !i;es the co%pany.


36/41



• Corporate &anruptcy

– 5eorgani>ation

– *iuidation


37/41


1. The !toc" #ar"et

• he stoc %aret provides liuidityto shareholders.

– *iuidity

•he a(ility to easily sell an asset !or close to the priceyou can currently (uy it !or


38/41

Copyright ©2014 Pearson Education, Inc. All rights reserved. 1-:

1. The !toc" #ar"et (cont'd)

• Pu(lic Co%pany

– #toc is traded (y the pu(lic on a stoce;change.

• Private Co%pany

– #toc %ay (e traded privately.


39/41

Copyright ©2014 Pearson Education, Inc. All rights reserved. 1-=


• Pri%ary ?arets

– Bhen a corporation itsel! issues ne' shares o!stoc and sells the% to investors, they do so on

the pri%ary %aret.

• #econdary ?arets

– A!ter the initial transaction in the pri%ary

%aret, the shares continue to trade in asecondary %aret (et'een investors.


40/41



• *argest #toc ?arets

– e' Dor #toc E;change 3D#E• ?aret ?aers#pecialists

– Each stoc has only one %aret %aer

– A#)AF• )oes not %eet in a physical location

• ?ay have %any %aret %aers !or a single stoc

–

&id Price versus As Price• &id-As #pread – ransaction cost


41/41

Figure 1. Borld'ide #toc ?arets5aned (y 'o Co%%on ?easures

#ource@ '''.'orld-e;changes.org

corporate finance lecture 1

Documents