GETTING STARTED

MANAJEMEN KEUANGAN
I
PRINCIPLES OF
FINANCE
WHAT IS FINANCE?
• FINANCE IS THE STUDY OF HOW PEOPLE AND BUSINESSES EVALUATE INVESTMENTS AND RAISE CAPITAL
TO FUND THEM (TITMAN ET AL : 2014).
• AT THE PERSONAL LEVEL, FINANCE IS CONCERNED WITH INDIVIDUALS’ DECISIONS ABOUT HOW MUCH OF
THEIR EARNINGS THEY SPEND, HOW MUCH THEY SAVE, AND HOW THEY INVEST THEIR SAVINGS (GITMAN
& ZUTTER: 2012).
• IN A BUSINESS CONTEXT, FINANCE INVOLVES THE SAME TYPES OF DECISIONS: HOW FIRMS RAISE MONEY
FROM INVESTORS, HOW FIRMS INVEST MONEY IN AN ATTEMPT TO EARN A PROFIT, AND HOW THEY DECIDE
WHETHER TO REINVEST PROFITS IN THE BUSINESS OR DISTRIBUTE THEM BACK TO INVESTORS (GITMAN
& ZUTTER: 2012).
WHAT IS FINANCE? -CORPFIN
CORPORATE FINANCE INVOLVES 2 MAJOR AREAS OF CORPORATE DECISION MAKING:
• INVESTMENT DEVISIONS (CAPITAL BUDGETING)
WHAT INVESTMENT SHOULD I TAKE?
• FINANCING DECISIONS (CAPITAL STRUCTURE)
HOW TO RAISE FUNDS?
HOW AND TO WHAT EXTENT TO DISTRIBUTE PROFITS? (DIVIDEND DECISIONS)
WHY STUDY FINANCE?
LEGAL FORM OF BUSINESS ORGANISATION

Business
Forms

Sole
Partnerships
Proprietorships Corporations
STRENGTH AND WEAKNESS OF THE COMMON LEGAL FORMS
OF BUSINESS ORGANISATION
WHAT IS FIRMS’ GOAL?

MAXIMISING OWNER’S VALUE

• WHAT IS OWNER’S VALUE?
• HOW TO ACHIEVE?
• WHAT’S THE PROXY?
ROLE OF FINANCIAL MANAGER
• IS MAXIMISING OWNER’S WEALTH
• OWNER’S WEALTH REFLECTED IN THE ENTERPRISE VALUE (I.E. MARKET CAPITALISATION = SHARE PRICE X
SHARE OUTSTANDING), THUS MAXIMISING OWNER’S WEALTH IS NOT THE SAME WITH MAXIMISING
EARNINGS PER SHARE (EPS).
• HOW TO MAXIMISE OWNER’S WEALTH?
FOCUS ON FUTURE CASH FLOWS, NOT ACCOUNTING PROFIT
TIMING OF CASH FLOWS
RISK OF CASH FLOWS
FOCUS ON CASH FLOWS NOT ACCOUNTING
PROFIT
• ACCOUNTING PROFIT MAINLY CALCULATED BASED ON ACCRUAL BASE. THUS, IT DEPICT BOTH COLLECTED
AND UNCOLLECTED SALES/REVENUE FROM THE CUSTOMERS.
• EXAMPLE:
A FIRM SPENT RP100.000.000,00 TO ACQUIRE MERCHANDISES, ALL OF THEM ARE SOLD FOR RP110.000.000,00 ON
ACCOUNT.
• ACCOUNTING PROFIT: RP10.000.000,00
• CASH FLOW: -RP100.000.000,00
TIMING OF CASH FLOWS
• WHEN THE CASH BECOME AVAILABLE
Costumer A
t=0 t=2 t=4
-Rp100.000.000,00 +Rp5.000.000,00 +Rp105.000.000,00

Costumer B
t=0 t=1 t=4
-Rp100.000.000,00 +Rp5.000.000,00 +Rp105.000.000,00
RISK OF CASHFLOWS
• RELATED TO THE CHANCE OF FAILURE TO COLLECT THE CASH

Costumer A
t=0 t=2 t=4
25% chance of
-Rp100.000.000,00 +Rp5.000.000,00 +Rp105.000.000,00 being default
(98%) (75%)

Costumer B
t=0 t=1 t=4
22% chance of
-Rp100.000.000,00 +Rp5.000.000,00 +Rp105.000.000,00 being default
(100%) (78%)
BUSINESS ETHICS

• MAXIMISING OWNER’S WEALTH MAY CAUSE EXTERNALITIES AS MANAGERS MAY DO WHATEVER IT TAKES
TO ACHIEVE THE FIRM’S GOAL
• ETHICS SETS BOUNDARIES TO WHAT MAY OR WHAT MAY NOT
• MANY FINANCIAL MANAGERS HOLD PROFESSIONAL CERTIFICATION, THUS THEY MUST ADHERE TO THE
RESPECTIVE ETHICAL RULES.
ROLE OF BUSINESS ETHICS
• ETHICS PROGRAMS SEEK TO:
REDUCE LITIGATION AND JUDGMENT COSTS
MAINTAIN A POSITIVE CORPORATE IMAGE
BUILD SHAREHOLDER CONFIDENCE
GAIN THE LOYALTY AND RESPECT OF ALL STAKEHOLDERS
• THE EXPECTED RESULT OF SUCH PROGRAMS IS TO POSITIVELY AFFECT THE FIRM’S SHARE PRICE.
5 BASIC PRINCIPLES OF FINANCE
• PRINCIPLE 1: MONEY HAS A TIME VALUE
• PRINCIPLE 2: THERE IS A RISK-RETURN TRADE-OFF
• PRINCIPLE 3: CASH FLOWS ARE THE SOURCE OF VALUE
• PRINCIPLE 4: MARKET PRICES REFLECT INFORMATION
• PRINCIPLE 5: INDIVIDUALS RESPOND TO INCENTIVES
PRINCIPLE 1: MONEY HAS A TIME VALUE
• A DOLLAR RECEIVED TODAY IS WORTH MORE THAN A DOLLAR RECEIVED IN THE FUTURE.
• WE CAN INVEST THE DOLLAR RECEIVED TODAY TO EARN INTEREST. THUS, IN THE FUTURE, YOU WILL HAVE
MORE THAN ONE DOLLAR, AS YOU WILL RECEIVE THE INTEREST ON YOUR INVESTMENT.
PRINCIPLE 2: THERE IS A RISK-RETURN
TRADE-OFF
• WE WON’T TAKE ON ADDITIONAL RISK UNLESS WE EXPECT TO BE COMPENSATED WITH ADDITIONAL
RETURN.
• HIGHER THE RISK, HIGHER WILL BE THE EXPECTED RETURN. NOTE EXPECTED RETURN MAY NOT BE EQUAL
TO THE REALIZED RATE OF RETURN.
PRINCIPLE 3: CASH FLOWS ARE THE
SOURCE OF VALUE
• PROFIT IS AN ACCOUNTING CONCEPT AND MEASURES A BUSINESS’S PERFORMANCE. CASH FLOW IS THE
AMOUNT OF CASH THAT CAN ACTUALLY BE TAKEN OUT OF THE BUSINESS.
• IT IS POSSIBLE FOR A FIRM TO REPORT PROFITS BUT HAVE NO CASH.
PRINCIPLE 4: MARKET PRICES REFLECT
INFORMATION
• INVESTORS REACT QUICKLY TO NEWS/INFORMATION AND DECISIONS MADE BY MANAGERS.
 GOOD NEWS ==> HIGHER STOCK PRICES
 BAD NEWS ==> LOWER STOCK PRICE.
• EFFICIENT MARKET HYPOTHESIS:
SHARE PRICE/MARKET REFLECTS ALL INFORMATION AND CONSISTENT ALPHA GENERATION IS IMPOSSIBLE. FORM OF
MARKET:
WEAK FORM: HISTORICAL PRICES ARE REFLECTED IN THE CURRENT PRICES
SEMI-STRONG FORM: ALL PUBLIC INFORMATION ARE REFLECTED IN THE CURRENT PRICES
STRONG FORM: ALL PUBLIC AND PRIVATE INFORMATION ARE REFLECTED IN THE CURRENT PRICES
PRINCIPLE 5: INDIVIDUALS RESPOND TO
INCENTIVES
MANAGERS (AS AGENTS) RESPOND TO INCENTIVES THEY ARE GIVEN IN THE WORKPLACE. IF THEIR
INCENTIVES ARE NOT PROPERLY ALIGNED WITH THOSE OF THE FIRM’S STOCKHOLDERS (THE PRINCIPAL)
THEY MAY NOT MAKE DECISIONS THAT ARE CONSISTENT WITH INCREASING SHAREHOLDER VALUE LEADING
TO AGENCY COSTS.

AGENCY PROBLEM!
PRINCIPLE 5: INDIVIDUALS RESPOND TO
INCENTIVES
THE AGENCY PROBLEMS/COSTS CAN BE MITIGATED THROUGH:
1. COMPENSATION PLANS THAT REWARD MANAGERS WHEN THEY ACT TO MAXIMIZE SHAREHOLDER
WEALTH
2. MONITORING BY THE BOARD OF DIRECTORS
3. MONITORING BY FINANCIAL MARKETS (SUCH AS AUDITORS, BANKERS, SECURITY ANALYSTS, CREDIT
AGENCIES)
4. THE UNDERPERFORMING FIRMS SEEING THEIR STOCK PRICES FALL AND FACE THREAT OF BEING TAKEN
OVER AND HAVE THEIR MANAGEMENT TEAMS REPLACED.