INTRODUCTION

According to Webster, finance may be defined as a noun and as a verb. As a noun, finance means
management of money, the monetary support for an enterprise, or the money resources of a
government, company, or person. As a verb, finance means to provide capital for a person or enterprise.

Finance plays a very important part in people's and business enterprises' lives. No organization and no
household can live or exist without finance. People need funds. Organizations need funds. This chapter
will introduce finance and how important it is in business. The different types of finance, business
organizations, and their formation will be discussed as well. A basic understanding of the corporation as
a form of business organization will be tackled including the different classes of stock a corporation may
issue.

Finance: Definition

The word "finance" is derived from the Latin word finer, meaning "to end" or "to pay". When a person
pays his bill, the financial matter is ended.

A family needs financing to survive; so, do companies. Finance and financial decisions are part of our
daily lives. Economic activities, like business transaction, personal investments or even simple borrowing
entail finance or have financial implications. Even the government needs to be financed for a country to
survive. Government deficits in most countries have been a perennial problem. How to finance small-
and medium-scale industries to boost the economy and encourage business formation is a particular
problem faced by the Philippine government Budgeting government spending has been a challenge to
most countries. Securing additional Capital to finance expansion is a problem besetting competing
companies. Moreover, a very simple survival problem for most families is how to provide for the family
due to inflation, with expenses generally higher than their income.

Shetty et al. (1995) viewed finance as the operational or practical side of economics, the practical
science of the production and distribution of wealth. Production is acquisition while distribution is
utilization. Whereas. Webster defines economics as the science of production and distribution of wealth.
According to Saldana (1997), finance is the efficient allocation of scarce resources. Therefore, we can say
that finance is the efficient acquisition, distribution/allocation, and utilization of scarce money/fund
resources.

Saldana (1997) added that finance, as a discipline, is concerned with identifying, evaluating, and
managing sources and use of cash to increase the value of the business enterprise to its present owners.
Saldana limited his definition to cash so we can replace it with funds, because if we acquire an asset on
account, it is credit that we use to acquire the asset and not cash. Credit, therefore, provides fund. By
replacing "cash" with "funds", we can define nance as a discipline concerned with identifying,
evaluating, and managing sources and use of funds to increase the value of the business enterprise to its
present owners.

Medina (2007) defined finance as the study of the acquisition and investment of cash for the purpose of
enhancing value and wealth.
From the foregoing definitions, we can summarize the tasks that finance entails. Finance, therefore, is
the function of:

1. allocating available funds.

2. acquiring needed funds; and

3. utilizing these funds to achieve set goals.

Allocation means determining where to use funds currently available to the firm.

Acquisition means obtaining funds from the right sources at the right time.

Utilization means using the funds. This definition will apply to persons and entities (private enterprises
and the government) whether they are aiming for profit (increasing wealth) or not (non-profit
organizations). Funds are needed to finance operations of people and organizations.

Classification of Finance

Finance can be classified into different types, the most common of which are:

A. As to Form of Negotiation

1. Direct Finance

M. Hadjimichalakis and K. Hadjimichalakis (1995) distinguished direct finance from indirect finance.
Their idea is that finance involves the flow of funds. To whom and from whom the funds flow
differentiates direct finance from indirect finance. Direct finance is finance involved in direct borrowing.
A company going to a bank to obtain a loan is direct finance. Similarly, a friend borrowing money from
another is direct finance. A corporation selling shares to its incorporators is direct finance.

According to the Hadjimichalakises (1995), what distinguishes direct finance from indirect finance is the
security issued. In direct finance, the security acquired (called direct security) by the surplus unit
(lender) is the same security issued by the deficit unit (borrower). A direct security is a financial
instrument a deficit unit issues and sells to a surplus unit with or without the help of a market specialist
like the financial intermediaries.

If an individual or a company goes to a bank and borrows money, he will be asked to issue a promissory
note. The promissory note is a direct security issued by the deficit unit, the same security received by
the saving or surplus unit. There is one security involved the direct security, which in this case is the
promissory note.

Direct finance involves lending to ultimate borrowers. A person may obtain a loan from another person
to serve his needs. You may borrow money from your brother, your aunt, or your neighbor. A person
may borrow from a bank to buy a car or a house. A business may borrow from a bank to finance
expansion or buy equipment or machinery.

Securities, like stocks and bonds that are directly sold to the buyer/investor (saving or surplus unit) by
the issuers/borrowers (deficit units), are generally referred to as primary securities as they arise from a
direct finance transaction. The companies issuing these securities are, in effect, the users of fund or
borrowers (deficit units) and the buyers of these securities are, in effect, the provider of funds (surplus
units), as owners in case of stock, and as creditors in case of bonds. In the foregoing examples of direct
finance, the borrower or deficit unit borrows directly from the lender or surplus unit. The market where
direct finance happens is termed direct market.

From the foregoing discussion, we see that the security issued by the primary borrower to the primary
lender in direct finance can be termed direct security or primary security and the transaction happens in
the direct market.

2. Indirect Finance

Indirect finance involves financial intermediaries in the real sense of the word. This means that financial
intermediaries act as middlemen when they buy securities for resale or simply facilitate the sale from
the original issuers to the final buyers. In some cases, they buy for their own account, i.e., they own as
asset the securities they buy; they do not resell the securities. In this instance, it is direct finance.
However, in most cases, financial intermediaries act as middlemen and in these instances, indirect
finance is involved.

Financial intermediaries buy securities for resale to other investors or saving units. This transaction is an
indirect finance transaction with the security being resold by the financial intermediary termed a
secondary security. When a company issues bonds or stocks to increase its capital, it goes to an
investment banker (a financial intermediary), who usually underwrites (sells) the issue. Here, the
transaction is an indirect finance transaction. Insurance companies issue mortgage-backed securities
(securities collateralized by mortgages they own) that they sell to investors. The sale of such securities is
an example of indirect finance, and the mortgage-backed securities are secondary securities.

As stated, indirect finance involves the use of financial intermediaries. As such. the transaction is called
financial intermediation. The financial intermediaries buy the securities and resell them. As such, they
deal with secondary securities, whereas direct finance deals with primary securities. A company that
issues stocks and bonds which do not sell these securities to direct investors/creditors, but to financial
intermediaries like banks, investment bankers, and other financial institutions either acting as dealers
(buying said securities and reselling them) or brokers (selling the securities for a commission) is indirect
finance. The market where indirect finance happens is termed intermediation market.

To summarize, the transaction that happens when deficit units borrow with the use of financial
intermediaries is called indirect finance. The securities involved are indirect securities or secondary
securities, and the transaction happens in the indirect market or in the intermediation market.

B. As to User

1. Public Finance

Public finance deals with the revenue and expenditure patterns of the government. It is concerned with
government affairs managing the government's sources and uses of funds. Government expenditures
for infrastructure like building streets, schools, bridges. among others and payment of government
employees are government spending and thus public finance. When the government issues treasury
securities like Treasury bills, notes, and bonds, the government is in fact borrowing money from the
public, which is also public finance. Like all individuals and entities, the government is both a borrower
(deficit unit) and a lender (saving unit). Public finance is concerned with government revenues, like
taxes, and government expenses, like paying salaries of government employees. Government spending
and government borrowing are all public finance.

2. Private Finance

All finance, other than public finance, is private finance. An individual borrowing money from another
individual is doing private finance. A company borrowing from a financial institution is doing private
finance. A company issuing shares of stocks and/or bonds, whether to direct buyers, like incorporators,
or financial intermediaries, is doing private finance. On spending, when individuals and private entities
(profit and non-profit) spend either for current operations or for capital investments, like buying fixed
assets or investing in certain capital projects, they are doing private finance transactions. Medina (2007)
stated that private finance is that which deals with the area of general finance not classified under
public finance. He divided private finance further into:

a. personal finance

b. finance of non-profit organizations; and

c. business finance.

Personal finance refers to finance conducted by individuals/consumers. A family spending for their food,
clothing, shelter, recreation, education, among others is personal finance. A father giving his son
allowance, a sister borrowing money from another sister, and an aunt supporting her niece in her
studies are all examples of personal finance. Individuals borrowing from financial institutions do
personal finance. Individuals depositing money in the bank engage in personal finance.

Finance of non-profit organizations involves those conducted by charitable, civic, religious organizations,
among others. These organizations are not for profit, meaning, they do not aim to gain profit or increase
wealth. They could be for charitable purposes like the thrift stores; for religious purposes like the
Catholic Church; for civic purposes like the Rotary Club; among others. They spend for their operations
and buy long-term assets and invest any extra money that they have. They construct buildings and
spend for whatever activities they conduct. Everything that they do that involves funding is finance of
non-profit organizations.

Business finance deals with financing for business firms or for commercial use, the goal of which is to
make profit. Businesses either produce goods and services for sale or buy goods and sells the same.
Where to obtain capital for a particular company and where to use it are concerns of business finance.
When a certain company buys the stocks of another company because it has excess funds, or borrows
money from the bank to buy land, building, or machinery, business finance comes into play. The funds
are used to earn profit and increase the value of the firm and the wealth of the owners.
Finance in the Business World

Business is any lawful economic activity that involves rendering service; buying and selling goods;
converting raw materials into finished products and selling the same; borrowing and lending money;
acquiring funds and investing the same; extracting mineral resources; constructing buildings, road, and
infrastructure; providing insurance for a sense of peace; and serving the public like public utilities,
transportation, and communication entities. In all of these activities, effectively and efficiently acquiring
and utilizing funds (finance) make the difference and that is what business finance is all about.

Efficiency is all about saving time, money, or effort. It is the relationship between input and output. One
is efficient if he is able to get something done or accomplished at the least cost. Efficiency is a measure
of speed and cost. It is all about getting the job done and attaining objectives. Effectiveness is a measure
of quality. It is, at times, used interchangeably with efficacy. Producing the desired result is
effectiveness, thus the old cliche, "Effectiveness is doing the right things and efficiency is doing things
right." If we combine efficiency and effectiveness, we obtain productivity, thus

Efficiency + Effectiveness = Productivity

Almost all businesses exist for profit. In a free enterprise system, economic growth is dependent on
people and entities to achieve economic objectives. The growth of wealth is usually achieved through
profit-making activities. Whatever kind of business, whether service commerce, or industry, the basic
goal is the same to make profit to increase owners' wealth.

Types of Business Organizations

Business organizations are engaged in different economic endeavors as previously discussed. They are
also owned by different types of business owners. Therefore, business organizations can be classified as
to nature or purpose and as to ownership.

A. As to Nature or Purpose

Businesses have different purposes and fields of endeavor. Among the classification of businesses as to
nature are the following:

1. Service

2. Trading or merchandising

3. Manufacturing

4. Banking and finance

5. Mining or extractive industry

6. Construction

7. Genetic industries (agriculture, forestry, and fishing/fish culture)

Service

Service organizations are engaged in rendering service. Service entities could be rendering personal
service like barber shops, tailoring or dressmaking shops, massage clinics and spas, laundry shops,
among others. Professionals like lawyers, accountants, doctors, dentists, among others also render
service. Hence, law firms, bookkeeping and accounting firms, and graphic design firms do service.
Choreographers, wedding or event planners, caterers, ballet and dance instructors, and personal
trainers are all rendering service. A person or company may render service and become an agent for,
say, an actress. an author, or a company, doing liaison and seeking the right connections to enhance the
earnings and earning potential of the person or company he is working for. Schools and other
educational institutions are also service organizations. Hospitals and nursing homes provide service.
Transportation and communication industries also provide service; so do Internet players like Google
and Yahoo. Hotels like Hilton Hotels Corporation and Holiday In provide service. Crossmark is a North
American provider of sales, marketing, and merchandising service for manufacturers and retailers in the
consumer packaged goods industry. Jenny Craig (health and fitness), David's Salon (hair salon),
University of Santo Tomas (education), Merry Maids (housekeeping), Philippine General Hospital (health
care). United Parcel Service (letters/parcel delivery), Greyhound (land transportation), Philippine Airlines
and Southwest Airlines Company (air transportation), Magsaysay Lines (water transportation), AT&T and
Cox Communications, Inc. (communication) are some of the specific examples of service organizations.

Trading or Merchandising

Trading or merchandising firms are engaged in buying and selling merchandise. What they buy, they sell.
They buy shoes; they sell shoes; they buy furniture; they sell furniture. Sari-sari stores, appliance stores,
construction and hardware supplies stores and supermarkets are trading companies. Even persons who
do "buy and sell" are doing trading. Book stores in Recto selling used books, those selling beauty
products and plastic wares, those selling insurance products, those selling personal jewelry, and even
those carabao or horse-driven carts selling domestic products for household use are all doing trading or
merchandising. Movie theaters and sports merchandising firms are trading firms. Even political
campaigns generate a great deal of merchandise, including T-shirts, hats, buttons, coffee mugs, among
others. Even intellectual properties are traded, such as a film, a TV show, a brand name, a corporate
identity, and a celebrity (often known as the merchandising side of the entertainment business.) Even
commodities like rice, gold, copper, among others and securities like bonds, stocks, and mutual funds
are traded in the commodities and securities exchanges.

Most retailers have manufacturers manufacture goods with their brand name on the goods made by the
manufacturer solely for the retailer. Costco Wholesale is a global retailer selling, not only household
food items, but also jewelry, shoes, appliances, health and fitness goods, furniture, and a lot more.
Costco and our very own SM Department Store and Supermarket, and Uniwide also engage in asking
manufacturers to produce products to be sold by them. Costco has Kirkland and SM has Bonus. Entities
engaged in import and export businesses are all doing trading. So do companies who act as distributors
of other companies' products. Agents and distributors do trading. Abenson Appliances, ToysRUs, Best
Buy, Target, Rustan's, National Book Store, JCPenney, and Nordstrom are some of the other examples of
trading firms.
Manufacturing

Manufacturing companies are those which buy raw materials and process the same to convert them
into finished products which they sell. A firm buys leather to make shoes and bags. Another firm buys
wood or lumber to make furniture. Still another buys fabric to make ready-to-wear (RTW) clothes. A
person who buys chemicals and other ingredients and makes perfumes to sell is a manufacturer in his
own little way. There are a lot of companies manufacturing appliances, computers, cell phones, and
other gadgets that cater to a lot of users, particularly the youth.

P&G (Procter and Gamble) is a manufacturer of soap, shampoo, detergent, and other household
products. Ford Philippines makes cars. Goodrich and Goodyear make tires. Sterling makes notebooks
and other school supplies. Philip Morris makes cigarettes. San Miguel Brewery makes beer. Coca-Cola
makes the very popular soda, Coke. General Electric, Nokia, and Samsung Electronics America, Inc. mal
appliances, electronics, and gadgets. Christmas Trees from Oregon, a US compare makes artificial
Christmas trees. Andron Stainless Corporation makes stainless steel products.

Banking and Finance

Firms that use money as its main object of business (product) belong to the banking and finance
classification. Money and credit are their products. Banks, lending institutions credit companies,
pawnshops, savings and loan associations, reedit unions, and even moneylenders provide capital or lend
money/grant loans. These people and institutions are all engaged in finance. They finance those who
need money, and they sell securities and other products for purchase of those who have excess funds as
investments. Financial intermediaries also belong to this classification. They bring together those who
provide funds and those who need funds. Finance companies obtain funds by issuing commercial papers
(stocks and bonds) or by borrowing from banks. They use the funds by lending to individuals and
businesses. Credit card companies like Visa, MasterCard, Discover, and American Express belong to the
banking and finance industry. BDO, PNB, Land Bank of the Philippines, RCBC, M Lhuillier, One Main
Financial, Wells Fargo Financial, 2nd Chance Finance are all examples of institutions belonging to the
banking and finance classification.

Insurance companies may also be classified under the banking and finance category because insurance
companies collect premiums (money) which they invest that become their main source of income. They
do not only sell insurance, but also sell and buy securities, including mutual funds, savings and
mortgages, and deal with a lot of different financial products and services.