ATENEO J.G.

SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

OVERVIEW OF FINANCIAL MANAGEMENT

What is Finance?
Finance is the study of how investors allocate their assets over time under conditions of certainty and uncertainty. A key point in finance, which affects decisions, is the Time Value of Money. It states that a unit of currency today is worth more than a unit of currency tomorrow. Finance measures the risks vs. profits and gives an indication of whether the investment is good or not. Finance can be broken into three different sub categories: Public Finance, Corporate Finance, and Personal Finance.

What is Accounting?
AICPAs Accounting Definition: The art of recording, classifying, and summarizing in a significant manner and in terms of money, transactions and events which are, in part at least, of financial character, and interpreting the results thereof. It is the process of communicating financial information about a business entity, which is generally in the form of Financial Statements that show in money terms the economic resources under the control of management; the art lies in selecting the information that is relevant to the user and is reliable. The principles of accountancy are applied to business entities in three divisions of practical art, named Accounting, Bookkeeping, and Auditing

What is Economics?
Economics is the social science that analyzes production, distribution, and consumption of goods and services. A focus of the subject is how economic agents behave or interact and how economies work :

Microeconomics examines the behavior of basic elements in the economy, including individual agents (such as households and firms or as buyers and sellers) and markets, and their interactions. Macroeconomics analyzes the entire economy and issues affecting unemployment, inflation, economic growth, and monetary and fiscal policy. it, including

(Sources: Marshall, Alfred and Mary Paley: The Economics of Industry, Macmillan; Jevons, W. Stanley: The Theory of Political Economy, Macmillan 2nd Ed.; Harper, Douglas: Online Etymology Dictionary Economy, October 2007)

Finance vs Economics & Accounting

Economists view an assets value based on the future cash flows the asset will provide Accountants provide information on the likely size of those cash flows Finance people see the value of any asset as the present value of the stream of cash flows the asset provides to its owners; Finance requires knowledge of economics and accounting.
Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

Study of Finance
Finance focuses on the creation and measurement of asset value While it is primarily the management of money, a key component is the management and interpretation of financial information Finance is a study of how people and businesses evaluate investments and raise capital to fund them

Three Areas in the Study of Finance

1. Financial Management also called Corporate Finance; relate to decisions on the following:

how much and what type of assets to acquire how to raise capital needed to buy the assets how to run the firm to maximize its value

Same financial principles apply to profit and non-profit businesses. 2. Capital Markets relate to markets where interest rates, along with stock and bonds, are determined and where savers who have money to invest are brought together with the businesses and other entities in need of capital for various purposes; Involved also in capital markets are the following: Financial Institutions that supply capital to businesses - banks, investment houses, stock brokers, mutual funds, and insurance companies, etc Regulatory Bodies such as Central Bank that regulate banks and controls money supply and Securities & Exchange Commission that regulates the trading of stocks and bonds in public markets

3. Investments relate to decisions concerning stocks, bonds, and other financial instruments as well as the following activities: Security Analysis deals with finding the proper values of individual securities Portfolio Theory deals with the best way to structure portfolios or baskets of stocks and bonds Market Analysis - deals with the issue of whether stock and bond markets at any given time are too low, too high, and about right. Behavior Finance, where investor psychology is examined, is part of market analysis.

Five Principles that Form the Foundations of Finance

P-1 : Cash Flow is What Matters P-2 : Money has a Time Value P-3 : Risk Requires a Reward P-4 : Market Prices are Generally Right P-5 : Conflicts of Interest Cause Agency Problems
Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

P-1 : Cash Flow is What Matters A Business profits can differ from its cash flows. Cash flows, not profits, represent money that can be spent. Consequently, it is cash flow, not profits, that determines the value of a business. When making a financial decision, look at the marginal or incremental cash flows. It is the difference between the cash flows the business will produce both with and without the investment it is thinking about making. Why is Cash Flow so important? Cash is like Petrol - Without Cash, the Business crashes - Burn Rate Level the higher the overhead, the faster you deplete cash - Timing needed for Cash Break-Even or Cash Infusion Cash serves as Buffer - Protects the Business in any down cycle - Determines how long the Business will survive until sales picks up again Seasonality of Business - Even though highly profitable, cash levels varies due to inventory or receivables build-up - Business owner must have enough cash throughout the entire business cycle Cash is an Added Advantage - It may be strained whenever there are capital investments to be made - Banks monitor cash flows and prescribes ratios for compliance

P-2 : Money has a Time Value A peso received today is more valuable than a peso received a year from now. Todays peso can earn interest so that at the end of one year, you get more than 1 peso. Opportunity Cost or Opportunity Loss - the highest valued alternative that you had to give up when you made the choice. Time Value of Money brings future benefits and costs of a project, measured by the cash flows, back to the present. If benefits outweigh the costs, then project creates wealth and should be pursued.

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

P-3 : Risk Requires a Reward Without exception, investors will not invest if they do not expect to receive a return on their investment. The return must satisfy the following requirements: - A Return for Delaying Consumption Investors would want at least the same return as that of a risk-free investment or government securities - An Additional Return for Taking on Risk Investors generally dont like risk, unless there is an offer of higher returns The Risk-Return Trade-Off

P-4 : Market Prices are Generally Right Concept of an Efficient Market a market in which prices of the securities at any instant in time fully reflect all publicly available information about the securities and their actual public values Stock Market prices are a useful barometer of the value of a firm. Specifically, managers can expect their companys share prices to respond quickly to investors assessment of their decisions.

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

Efficient Market Hypothesis (EMH) Current prices incorporate all available information and expectations. Current prices are the best approximation of intrinsic value. Price changes are due to unforeseen events. "Mispricings" do occur, but not in predictable patterns that can lead to consistent outperformance. Implications of EMH to Investors: o o Investors may be best served through passive, structured portfolios. Rather than trying to out-research other players in the market, a passive investor looks to asset class diversification to manage uncertainty and position for long-term growth in the capital markets. Only unanticipated future events will trigger price changes, which is one reason for the apparent short-term "randomness" of returns. Stock mispricing should be considered a rare condition that cannot be systematically exploited through fundamental research or market timing. EMH principle doesnt always work perfectly in the real world. Human behavior in decision making is not always rational!

o o o o

Primary Goal of a Firm

Shareholders wealth maximization should be the primary goal of a firm Shareholders wealth is the number of shares outstanding times the market price per share This implies that the decisions of managers should be made to maximize the long-run value of the firms common stock However, It is easier to set this goal than it is to figure out how to achieve it!

P-5 : Conflicts of Interest Cause Agency Problems Conflicts of interests arise when managers do what is in their best interest rather than the best interests of the firm Agency Cost or Agency Problem conflicts or problems resulting from the separation of the management and ownership of the firm thereby resulting in not maximizing shareholders wealth Aligning the interests of management and shareholders can be monitored through: Auditing financial statements Review of ratings agencies Performance-based compensation packages Management stock options, grants, bonuses

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

Essential Elements of Ethics and Trust

Without ethics and trust nothing works! Ethics is defined as standards of conduct or moral behavior. Ethical behavior means doing the right things, the right way, at the right time. Ignoring ethics, even by not doing anything, can result in consequences that are hard to ignore. Everyone makes errors of judgment in business, which is to be expected in an uncertain world. But ethical errors are different since it destroys trust. Its consequences are termination of future opportunities, end of careers, etc

Business Ethics Business dealings with firms and people ultimately depend on the willingness of the parties to trust one another Business Ethics refers to a firms attitude and conduct towards its employees, customers, community, and shareholders A firms commitment is measured in terms of: Fair employment practices Tendency of its employees, from top to down, to adhere to laws, regulations, and moral standards relating to product safety and quality Fair marketing and selling practices Use of confidential information for personal gain Community involvement Illegal payments to obtain business Integrity Initiative Integrity Initiative is a Philippine Model Collective Action, which started in 2009; A joint undertaking by Makati Business Club (MBC) and European Chamber of Commerce of the Phils. (ECCP) with partial funding coming from SIEMENS Based on Transparency Internationals Corruption Perception Index (CPI), Philippines ranks 129 out of 183 countries surveyed worldwide Institutionalize ethical practices within and among Phil. Businesses as well as other sectors like government entities, military, church, civic and academe groups under an ethical compliance framework that will provide competitive advantage and promote a level playing field Its More Fun In the Philippines beyond tourism and anti-corruption campaigns, Integrity Initiative also promotes environmental protection and long-term sustainable development , encourages paying the right taxes and adhering to correct labor practices, etc.

Legal Forms of Business Organizations 1. Sole Proprietorship a business owned by a single individual - Proprietor retains the title to the businesss assets and is responsible, generally without limitation, for the liabilities incurred - Proprietor is entitled to the profits from the business, but must also absorb any losses

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

Micro, Small, and Medium Enterprises (MSMEs) in the Philippines Labor-intensive MSMEs play a major role in socio-economic development, industry decentralization, creation of jobs, equitable income distribution, use of indigenous resources, and more dollar earnings. They are vital in dispersing industries to the countryside, providing employment in localities where they are situated. Over the past five years, the MSME sector has accounted for 99.6 percent of businesses in the country, by which 63 percent of the labor force earn a living.
(Source : Manila Bulletin Publishing Corp., January 3, 2012 Newspaper Article)

2. Partnerships - an association of 2 or more individuals joining together as co-owners to operate a business for profit. The relationship among partners is dictated entirely by the Partnership Agreement, which may be oral or a formal document. Two Types of Partnerships: 1. General Partnerships - where all partners are jointly liable without limitation for the indebtedness incurred by the partnership 2. Limited Partnerships - one or more partners has limited liability, restricted to the amount of capital invested in the partnership; Conditions for qualifying as a limited partner: - At least one general partner with unlimited liability - Names of limited partners will not appear in firms name - Limited partners may not participate in the management of the business; therefore, act purely as an investor Examples of Partnerships

3. Corporations - an artificial being, invisible, intangible, and existing only in the contemplation of law; An entity that legally functions separate and apart from its owners Functions of Corpration can individually sue and be sued, purchase, sell or own property, and its personnel are subject to criminal punishment for crimes Shareholders (owners) dictate the companys direction and policies; owners elect board of directors, who in turn select the corporate senior officers Common Shares of Stock represent % ownership based on capital invested, which is easily transferable, and shareholders liability is limited to the investment made

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

Examples of a Corporation

Drawback on Corporations - subject to double taxation: corporate earnings are taxed and when after-tax earnings are paid out as dividends, these are taxed again as personal income to shareholders A Hybrid between Partnership and Corporation: Limited Liability Partnership (LLP) used for professional firms such as accounting, law, and architecture Limited Liability Company (LLC) used for other businesses Both LLPs and LLCs have limited liability like corporations, but are taxed like Partnerships; Investors vote in proportion to their ownership interests.

Finance within an Organization

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011

ATENEO J.G. SCHOOL OF M ANAGEMENT Finance & Accounting Department

Instructor : Alice Parlan

FINANCE 105: FINANCI AL M ANAGEMENT I - An Overview of Financial Management SY 2013 2014 1st Semester

Specific Duties within a Finance Department

Three Key Areas of Business Finance What long-term investments should the firm undertake? Capital Budgeting decision-making process with respect to investment in fixed assets How should the firm raise money to fund these investments? Capital Structure Design decision-making process with funding choices and the mix of long-term sources of funds How can the firm best manage its cash flows as they arise in the day-to-day operations? Working Capital Management the management of the firms current assets and shortterm financing

Four Important Business Trends Accountability in Financial Reporting by CEO and CFO strengthens the importance of accuracy, relevance, and complete financial picture of the firms operations Increased Globalization in Business and developments in communications technology allows for real-time data and easier management of different operating units of a firm located across various countries Ever-Improving Information Technology takes out the guess work with massive data and lowers the risk of investments made by the firm Corporate Governance or the way top managers operate and interface with the shareholders: Poor practice of having a Chairman of the Board, who is also the CEO, and who decides on who will be elected at the board Huge capital pools from hedge funds and private groups take active control in laggard performance SEC jurisdiction on the way shareholders vote as well as corporate information to be reported

Sources: Brigham and Houston: Essentials of Financial Management, 12th Ed., Cengage Learning Asia 2010; Keown, Martin, Petty: Foundations of Finance, 7th Ed., Pearson Education, Inc. / Prentice Hall 2011