Chapter II

Introduction to Finance
 Learning objectives
• Define finance and rationalize the importance of finance in the
business world;
• Differentiate direct finance from indirect finance; public finance
from private finance; discuss how they apply and work in the
business world;
• Discuss the different types of business according to nature, purpose,
and ownership;
• Illustrate how to organize the different types of business according
to ownership;
• Elaborate on the advantages and disadvantages of the different
types of business according to ownership;
• Discuss the different types of partnership and different types of
partner;
• Discuss the different types of corporation; and
• Explain the difference between the different classes of stock.
Introduction
• According to Webster, finance maybe 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 a person. As a verb, finance means to provide capital foe
a person or enterprise.
• 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
• The word “finance” is derived from the Latin word finer, meaning “to
end” or “to pay”.
• 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.
• According to Saldana (1997), finance is the efficient allocation of
scarce resources. Saldana added that finance, as a discipline, is
concerned with identifying, evaluating, and managing sources and
use of cash in order 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.
• Finance
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 funds
Classification of Finance
a. As to form Negotiation
1. Direct Finance
-involves direct borrowing; direct negotiation between
borrower and lender.
2. Indirect Finance
- involves the use of financial intermediaries (financial
institutions acting as middlemen), hence, also called financial
intermediation.
b. User
1. Public Finance
- involves the government; deals with sources and uses of
funds of the government.
2. Private Finance
- involves individuals and entities.
a. Personal finance – concerned with individuals and
households.
b. Finance of non-profit organizations – concerned with
charitable organizations which are not concerned with
profit-making.
c. Business finance – concerned with entities and individuals
engaged in business.
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, roads, and infrastructure; providing insurance
for a sense of peace; and serving the public like public utilities,
transportation, and communication entities.
Acquiring and utilizing funds
• Efficiency
- is all about saving time, money, or effort. It is the relationship
between input and output. It also measure of speed and cost. It is all
about getting the jib and attaining objectives.
• Effectiveness
- is a measure of quality. It is, at times, used interchangeably with
efficacy.
“Effectiveness is doing the right things and efficiency is doing things
right.” If we combine efficiency and effectiveness, we obtain
productivity.
Types of Business Organizations
a. As to Nature or Purpose
1. Service – rendering service as catered in barbershops, spa,
and massage clinics, dental/medical clinics, laundry shops, among
others.
2. Trading/merchandising – buying and selling goods like sari-
sari store, hardware stores, construction supply stores, department
store, among others.
3. Manufacturing – converting raw materials into finished
products like in shoes and bags manufacturing, furniture
manufacturing, chicharon or native delicacies manufacturing. They buy
lumber to be converted into furniture, leather into bags and shoes,
among others
4. Banking or finance – deals with institutions involved in lending and
borrowing. These are banks, pawnshops, moneylenders, insurance
companies and pre-need companies, credit card companies, among
others.
5. Mining/extractive industries – extract natural resources like the gold
mining companies, gravel and sand quarrying, among others.
6. Construction companies – engaged in road building, house building,
construction of different buildings like schools, hospitals, commercial
apartments, among others.
7. Genetic industries – involved in the production, multiplication, and
reproduction of certain species of plants and animals like agriculture,
fishing, animal husbandry, poultry farming, plant nurseries, among
others.
b. Ownership
1. Sole proprietorship – owned by only one person.
2. Partnership – association of two or more partners who agreed
to contribute money, property, or industry to a common fund for the
purpose of dividing the profits among themselves.
3. Corporation – an artificial being created by operation of law,
having the right of succession and the powers, attributes, and
properties expressly authorized by law or incident to its existence.
4. Cooperative – organization established by members to provide
themselves with goods and services or to produce and dispose of the
products of their labor.
Advantages of a Sole Proprietorship
• Ease of formation
• Minimum capitalization
• Sole decision maker
• Ease of termination
Disadvantages of a Sole Proprietorship
• Unlimited liability
• Limited access to capital
• Limited skills, talents, and capabilities
• Inability to attract or retain good employees
• Limited term of existence
• Difficulty in measuring success
• Personal problems may hinder operation/success
Partnership
• It is an association of two or more persons who have agreed to
contribute money, property, or industry to a common fund with the
intention of dividing the profits among themselves.
• The exercise of a profession is not a business or an enterprise for profit,
but rather for service; but the law allows two or more professionals,
like lawyers, doctors, certified public accountants, among others to act
as partners in the practice of their profession. Such partnerships are
called general professional partnership. The owner of the partnership
are called partners.
• it is the aggregate concept, which views the partnership as a collection
of rights and responsibilities, of the individual partners, inasmuch as
the individual partners are jointly liable for all the debts and obligations
of the partnership.
Nature of a partnership
• A partnership is easier to form than corporation. It allows the pooling
resources for some common purposes.
• Partnership have been employed not only for small operations, but
also for large-scale operations.
• Partnership may be composed of two partners only or dozen of
partners. It is contractual in nature because it is formed through a
contract between or among the partners.
• The partnership can be formed by either an oral contract/agreement
or by a written contract/agreement.
Essential Requisites of a Partnership
• A contract of partnership which may be oral or written, expressed or
implied, subject to the rules contained in Articles 1771 to 1773 of
New Civil Code;
• Two or more persons who have the legal capacity to enter into the
contract of partnership.
• Valuable contribution to a common fund which may consist of maney,
property, or industry;
• An intention to divide the profits between or among the partners;
and
• Lawful purpose(s)
Characteristics of a Partnership
• Mutual agency
• Voluntary association
• Based on contract
• Limited life
• Unlimited liability
• Division of profits
• Co-ownership of contributed assets
Mutual Agency
- this means that the acts of each partner. Provided that they are
within the scope of the business of the partnership, bind the
partnership or make the partnership liable to third parties.
Voluntary Association
- partner are responsible for the business acts of his partners
when the acts are within the scope of the business of the partnership;
also, a general partner is unlimitedly liable for the partnership debts.
Based on contract
- to form a partnership, all that is required is that two or more
competent people agree to become partners. The partners agreement,
be it oral or in writing, becomes a contract that binds all the partners. If
in writing, the contract is generally referred to as the Articles of Co-
Partnership
Limited Life
- inasmuch as the partnership is a relationship that originates from a
contract between or among individuals, any change in the relationship
terminates the contract and dissolves the partnership. The partnership is
dissolve by:
1. the death or withdrawal of a partner;
2. the insolvency of a partner;
3. the incapacity of a partner;
4. the termination of the project or purpose for which the partnership
has been formed;
5. the termination of the period specified in the contract or agreement
of partnership; or
6. the admission of a new partner.
Unlimited Liability
- a partnership is said to have unlimited liability in so far as the liability of
a general and industrial partner is concerned.
Division of Profits or Losses
- the basic intention of partners in forming the partnership is to divide
the profits/losses between or among themselves. Such division is in accordance
with their agreement, or in the absence of such stipulation in the contract, on
the basis of their capital contribution.
Co-ownership of Contributed Asset
- any asset contributed by any partner to a partnership becomes the
common property of all partners. Ownership of contributed asset is transferred
from the partner who owns the asset to the partnership, which now owns the
asset. Therefore, all the partners become co-owners of the asset contributed.
Advantages of a partnership
1. Ease of information
- mere agreement between or among the partners, even if it is oral (
need not be written ) can create a partnership.
2. Allows pooling of financial resources
- unlike sole or single proprietorships partnership can pool resources
and raise more capital for the business.
3. Allows pooling of skills, expertise, and experience of partners that may
contribute to successful business operation.
4. Less government control, supervision, and intervention than
corporations.
Disadvantages of a Partnership
1. Limited life – a partnership is dissolved when a partner dies,
withdraws, becomes insolvent or bankrupt, becomes incapacitated,
or when a new partner or partners areadmitted into the
partnership.
2. Unlimited Liability – general and industrial partners are answerable
for partnership debts to the extent of their personal assets. Limited
partners only have limited liabilities.
3. Mutual Agency – all partners may be held liable for the actions of
any of the other partners, so long as their actions are within the
scope of the business operations of the partnership.
Organizing a Partnership
To organize a partnership, persons desiring to become partners draw up a
contract either orally or in writing, which will govern the formation, operation,
and dissolution of the partnership.
A partnership may be constituted in any form, except:
1. Where the capital of the partnership is three thousand pesos or more, in
which case the contract of partnership shall appear in a public instrument
which must be recorded in Office of the Securities and Exchange
Commission (SEC);
2. Where immovable or real rights are contributed into the partnership, in
which case a public instrument shall be necessary; and
3. A limited partnership, which must be registered with the Securities and
Exchange Commission.
Registration with the SEC
1. Filing of business name with the SEC for verification. This is to ensure that no
two business have exactly the same name.
2. Submission of the following to the SEC:
a. Articles of Co-Partnership
b. Verification slip for the business name if required
c. Written undertaking to change business name if required
d. Tax Identification Number of each partner and/or that of the partnership
e. registration data sheet for partnership duly accomplished in six copies
f. Other documents that may be required
3. Pay the registration/filing and miscellaneous fees.
4. Forward documents to the SEC Commissioner for signature.
Contents of the Articles of Co-Partnership
1. name, nature, purpose, and location of the business
2. Names of partners, indicating whether they are general partners or
limited partners and their corresponding addresses and citizenship
3. Amount of cash, a description and the agreed value of any other property
to be originally contributed by each, and any additional contribution that
may be made by partners
4. Terms or duration of the partnership; date the partnership should
commence or end
5. Duties, rights and powers of each partner
6. Manner of dividing profits or losses among the partners
7. Conditions under which the partners may withdraw money or other
assets for personal use
8. Provision as to whether salaries and/or interests on partners’ capitals
shall be allowed or not
9. Manner of keeping the books of accounts, the length of the accounting
period, and the date it should commence or end
10. Provisions pertinent to dissolution
11. Provisions pertinent to liquidation
12. Other special provisions and stipulations
Types of Partnership as to Liability of Partners
1. General Partnership
- is one which all of the partners are general partners.
Therefore, all of the partners are personally liable for partnership debts.
The creditors of the partnership can run after personal assets of all
partners after all of the partnership assets have been exhausted.
2. Limited Partnership
- is one in which there is at least one, but not all, limited
partner. There should be at least one general partner to assume
unlimited liability.
Types of Partners
A. As to Liability
two types of partners as to liability
1. General Partner – is one who has unlimited liability, i.e.,
his liability extends to his personal assets after partnership debts has
been partially paid by the partnership in case of partnership
bankruptcy.
2. Limited Partner – has limited liability, i.e., his extends
only up to his interest in the partnership. Interest in the partnership
means his capital investment and any profit due him. The creditors of
the partnership cannot run after the personal assets of the partners in
case of partnership bankruptcy.
B. As to Investment in the Partnership
1. Capital Partner
A partner who contribute money and/or assets other than
cash like building, bond or equipment is termed as a capitalist partner.
2. Industrial Partner
A partner who contribute knowledge or personal service is
termed as is termed as an industrial partner.
3. Capitalist-Industrial Partner
A partner who contributes cash and/or other assets and
knowledge or personal service is termed as a capitalist-industrial
partner.
Corporation
- is an artificial body or being ( as differentiated from a natural
person), organized in accordance with the provision of law in which
ownership is divided into shares of stocks.
Corporation Code of the Philippines defines as an artificial being
created by operation