Lecture_1 finance

EBF 1023 Basic FinanceAsas Kewangan

LECTURE 1LECTURE 1

An Introduction to Financial Management

What is Finance?

Money $ $$ $$$

Goal of the Firm

1) Profit Maximization?

this goal ignores:a) TIMING of Returns(Time Value of Money - Ch. 5)b) UNCERTAINTY of

Returns(Risk - Ch. 6)

Goal of the Firm

2) Shareholder Wealth Maximization?this is the same as:

a) Maximizing Firm Valueb) Maximizing Stock Price

Financial Goals of the Corporation

• The primary financial goal is shareholder wealth maximization, which translates to maximizing stock price.

Factors that affect stock price

• Projected cash flows to shareholders

• Timing of the cash flow stream

• Riskiness of the cash flows

Stock Prices and Intrinsic Value

• In equilibrium, a stock’s price should equal its “true” or intrinsic value.

• To the extent that investor perceptions are incorrect, a stock’s price in the short run may deviate from its intrinsic value.

• Ideally, managers should avoid actions that reduce intrinsic value, even if those decisions increase the stock price in the short run.

Intrinsic value VS Market price

Market price

Price

A. RM 58.00

B. RM 120.00

C. RM 385.00

D. RM 799.00

Determinants of Intrinsic Value and Stock Prices

Legal Forms of Business Organization

• Proprietorship• Partnership• Corporation

Legal Forms of Business

1) Sole Proprietorship • A business owned by a single

individual.• Owner maintains title to the

firm’s assets.• Owner has unlimited liability.

2) Partnership• Similar to a sole

proprietorship, except that there are two or more owners.

2a) General Partnership • All partners have unlimited

liability.

2b) Limited Partnership• Consists of one or more

general partners, who have unlimited liability.

• One or more limited partners (investors) whose liability is limited to the amount of their investment in the business.

Legal Forms of Business

2c) Limited Liability Company (LLC)

• Cross between a partnership and a corporation.

• Owners have limited liability, but the firm runs and is taxed like a partnership.

Legal Forms of Business

3) Corporation • A business entity that legally functions

separate and apart from its owners.• Owners’ liability is limited to the amount

of their investment in the firm.• Owners hold common stock certificates,

and ownership can be transferred by selling the certificates.

Legal Forms of Business

The Corporation and Financial Markets

The Corporation and Financial Markets

Corporation

The Corporation and Financial Markets

Corporation Investors

The Corporation and Financial Markets

Government

Corporation Investors

The Corporation and Financial Markets

cash

Government

Corporation Investors

The Corporation and Financial Markets

cash

Government

securities

Corporation Investors

The Corporation and Financial Markets

Government

cash

securities

Corporation Investors

Secondarymarkets

The Corporation and Financial Markets

Government

cash

securities

Corporation Investors

Secondarymarkets

The Corporation and Financial Markets

Government

cash

securities

Corporation Investors

Secondarymarkets

The Corporation and Financial Markets

cash Investors

Secondarymarkets

Government

securities

Cash flow

Corporation

The Corporation and Financial Markets

cash Investors

Secondarymarkets

Government

securities

Cash flow

tax

Corporation

The Corporation and Financial Markets

cash Investors

Secondarymarkets

Government

securities

Cash flow

reinvest

tax

Corporation

The Corporation and Financial Markets

cash Investors

Secondarymarkets

Government

securities

Cash flow

reinvest

tax

Corporation

dividends,etc.

Financial Markets

What is a market?

• Primary Market– Market in which new issues of a

security are sold to initial buyers.

• Secondary Market– Market in which previously

issued securities are traded.

The Corporation and Financial Markets

• Initial Public Offering (IPO)

The Corporation and Financial Markets

• Initial Public Offering (IPO)– The first time the firm’s stock is

sold to the general public.

The Corporation and Financial Markets

• Initial Public Offering (IPO)– The first time the firm’s stock is

sold to the general public.• Seasoned New Issue

The Corporation and Financial Markets

• Initial Public Offering (IPO)– The first time the firm’s stock is

sold to the general public.• Seasoned New Issue

– A new stock offering by a firm that already has stock that is traded in the secondary market.

The Corporation and Financial Markets

The importance of financial markets

• Well-functioning financial markets facilitate the flow of capital from investors to the users of capital.– Markets provide savers with returns on their money

saved/invested, which provides them money in the future.– Markets provide users of capital with the necessary funds to

finance their investment projects.

• Well-functioning markets promote economic growth.• Economies with well-developed markets perform better

than economies with poorly-functioning markets.

Types of financial institutions

• Commercial banks• Investment banks• Mutual savings banks• Credit unions• Pension funds• Life insurance companies• Mutual funds• Hedge funds

Financial Management Axioms

1) Risk - return trade-off.2) Time value of money.3) Cash - not profits - is king.4) Incremental cash flows count.5) The curse of competitive markets.6) Efficient capital markets.7) The agency problem.8) Taxes bias business decisions.9) All risk is not equal.10) Ethical dilemmas are everywhere in finance.

End of Lecture 1

Thank you for yourATTENTION !!!