HI5002- Finance for Business

Interactive Tutorial Session 2- Topic 1

Introduction to Finance to Business

Holmes Institute
Applied Business Statistics for Managers
Pathways
 Topic 1: Introduction to Finance for Business

Question 1: What are three important questions of corporate finance?

Question 2: What are four essential types of business in Australia?
Question 3: What is the goal of a finance manager?
Question 4: What are the five basic principles of finance?
Question 5: What are the types of financial institutions,
securities markets and securities instruments?

Holmes Institute
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 Topic 1: Introduction to Finance for Business

Finance

French word

Resources of Engage in
Money, cash, business, government financial Provide money -
payment & individuals transactions Investments

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 Question 1: What are three important questions of corporate finance?

Fundamental financial questions

What Long-term How to raise money How to manage

investments? to fund investments? cash flow?

Working capital
Capital budgeting Capital structure
management

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 Question 1: What are three important questions of corporate finance?

What Long-term How to raise money How to manage

investments? to fund investments? cash flow?

Working capital
Capital budgeting Capital structure
management

Size
Analyses Time Selects

Risks
High free cash flow(FCF)
Financial manager For each opportunity generating project

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 Question 1: What are three important questions of corporate finance?
Capital budgeting = decision making on investment in a long term asset
(non-current assets)

Numerical formula for Free Cash Flow =

Earnings Amortization Change in

Capital
before Interest and Net Working
Expenditure
and Taxes Depreciation Capital

FCF = f (Size, Timing, Risks)

 Question 1: What are three important questions of corporate finance?

What Long-term How to raise money How to manage

investments? to fund investments? cash flow?

Working capital
Capital budgeting Capital structure
management

Debt (D)

A=D+E
Equity (E)
Firm decides on(A)
 Question 1: What are three important questions of corporate finance?

Capital structure: decision making on what type of funding the company should use

Bank
Capital loan
associated
Debt (D)
with fixed
obligations Issue
bonds

Retained
Corporation’s earnings
total
Equity (E)
outstanding
shares Issue
shares
Capital structure: Debt Funding + Equity Funding (Non-current liabilities and Equity)

Debt (D) Equity (E)

Optimize between debt and equity To fund projects

 Question 1: What are three important questions of corporate finance?

What Long-term How to raise money How to manage

investments? to fund investments? cash flow?

Working capital
Capital budgeting Capital structure
management

Amount
of

Firm decides on Cash Inventory

 Question 1: What are three important questions of corporate finance?

Working Capital Management: Decision making on daily operating activities

(current assets and current liabilities)
Balance Sheet

Assets Liabilities

Current assets Net Working Capital = Current liabilities

Cash Current assets – Short-term debt
Inventory Current Liabilities Accounts payable
Accounts receivable
Long term debt
Long term assets
Shareholder’s equity
 Question 1: What are three important questions of corporate finance?

Note down: How three important questions of corporate finance related to the areas of a company’s
balance sheet
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 Question 2: What are four essential types of business in Australia?

Limited Liabilities Corporation

Sole trader Partnership Company

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 Question 2: What are four essential types of business in Australia?
Sole Trader Partnership
Advantages: Advantages:
• Easiest to start • Two or more owners
• Least regulated • More capital available
• Single owner keeps all • Relatively easy to start
the profits • Income taxed once as
• Taxed once as personal personal income.
income. Disadvantages:
Disadvantages: • Unlimited liability
• Limited to life of owner • General partnership
• Equity capital limited to • Limited partnership
owner’s personal wealth • Partnership dissolves when
• Unlimited liability one partner dies or wishes
• Difficult to sell to sell
ownership interest. • Difficult to transfer
ownership.
Two forms:
 General
 Limited
Applied Business Statistics for Managers
Limited Liabilities Company Corporation
(Private) (Public)
Advantages: Advantages:
• Two or more owners • Limited liability
• More capital available • Unlimited life
• Limited liability • Separation of ownership and
• Unlimited life governance.
Disadvantages: • Transfer of ownership is easy
• Limited non-employee • Easier to raise capital.
shareholders (50) • A large number of
• Difficult to transfer ownership. shareholders.
• Complicated dissolution Disadvantages:
• More financial reporting • Divergence of objectives
between owner and
governance executives.
• Taxation of company profits
can be an issue.
• Complicated reporting and
disclosure
A legal person
A legal person
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 Question 2: What are four essential types of business in Australia?
Private Company Public Company
Business Form Sole Trader Partnership (LLC) (Corporation)
Owner One Up to 20 in Australia Up to 50 non-employee Unlimited
LP: At least 1 GP shareholders

Legal Status Owner is the business Owners are the business Legal Person Legal person

Liabilities Unlimited Unlimited for GP Limited Limited

Limited for LP
Life Limited Limited Unlimited Unlimited
Regulation Less Less More Much more with reporting &
disclosure requirements

Access to capital Limited Limited More Unlimited

Taxation PAYG PAYG Corporate Tax Corporate Tax

GST if sales > $75,000 GST if sales > $75,000 GST GST

Transfer Difficult Difficult Difficult Easy on securities market

Note down: comparison of business types using 8 criteria

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 Question 3: What is the goal of a finance manager?

Goal of a finance manager

Profit maximization

NO !!!!!!!
Note down: why profit maximization cannot be the goal of financial management?

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 Question 3: What is the goal of a finance manager?
Goal of a finance Profit maximization
manager

Drawback of profits

Not actual cash Ignore timing of CFs

Ignore risk
flows (Current and Future)

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 Question 3: What is the goal of a finance manager?

Goal of a finance Maximize

manager company value

Yes ! Yes! Yes!

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 Question 3: What is the goal of a finance manager?

Good Poor

Increase firm Financial Decrease firm

market value decision market value

Goal of financial management Maximise market value of shareholders

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 Question 4: What are the five basic principles of finance?

Money has a time

value

5 basic
Individuals respond principles of There is a risk-
to incentives finance return trade-off

Market prices Cash flows are

reflect information source of value

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 Question 4: What are the five basic principles of finance?

Money has a time

value $1 $1
Today After one year
5 basic
Individuals respond principles of There is a risk-
to incentives finance return trade-off

r = 5%
Interest $1 after 1 year = 1+1*0.05 =
$1.05
Market prices Cash flows are
reflect information source of value

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 Question 4: What are the five basic principles of finance?

Risk-averse
Money has a time
value

Additional risk
Basic taken when
Individuals respond principles of There is a risk- additional
to incentives finance return trade-off return expected

Market prices Cash flows are

reflect information source of value Higher risk, higher expected return

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 Question 4: What are the five basic principles of finance?

Money has a time

value

Expected return
Expected
return for
5 basic
taking on
Individuals respond principles of There is a risk- added risk
to incentives finance return trade-off

Expected
return for
delaying
consumption
Market prices Cash flows are Risk
reflect information source of value

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 Question 4: What are the five basic principles of finance?

Money has a time

value Actual
Profit
cash
-Accounting
from
concept
business
5 basic
Individuals respond principles of There is a risk-
to incentives finance return trade-off
Profit in
Reality no
accounting
money
books

Market prices Cash flows are

reflect information source of value

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 Question 4: What are the five basic principles of finance?

Money has a time

value
Financial decisions
Managers decisions
to consider
5 basic
Individuals respond principles of There is a risk-
to incentives finance return trade-off

Market prices Cash flows are Incremental Cash

reflect information source of value Flows

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 Question 4: What are the five basic principles of finance?

Money has a time Higher

Good share
value
news prices

5 basic
Individuals respond principles of There is a risk-
to incentives finance return trade-off

Bad Lower
news share
prices

Market prices Cash flows are

reflect information source of value

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 Question 4: What are the five basic principles of finance?

Money has a time

value

Shareholder’s Manager’s Self

Basic interest decision interest
Individuals respond principles of There is a risk-
to incentives finance return trade-off

Incentives not Agency cost /

aligned to Principal – agent
shareholder’s problem / Agency
Market prices Cash flows are interest problem
reflect information source of value

Note
Applieddown: Howforcorporations
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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Financial market place

Financial market functions

Channel funds from Evaluation of Efficient trading

savers to borrowers securities platform
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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Financial institutions –
traditional classification

Banks Non-bank

Insurance companies
Commercial banks
Financial corporations

Securities companies
Deposit taking institutions
Investment funds

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Investment
Commercial Bank
Bank

that help public

companies issue
shares or bonds
They are
wholesale
securities dealer

Note down: How investment banks are different from commercial banks
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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Classification of
Australian Financial
Institutions

Authorised Non-ADI
Insurers &
Deposit- taking Financial
Superannuation Funds
Institutions (ADIs) Institutions

Financial Securitizers &

Investment other Financial Auxiliaries
Funds intermediaries

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 The Ellen Shows: Ellen explains stock market
https://www.youtube.com/watch?v=gTDfUKglcvI

For the first time ever, Bill Gates sat down with Ellen, and he chatted about
becoming a young billionaire, the trampoline room in his house, and the
outstanding work he's doing with the Bill & Melinda Gates Foundation.
https://www.youtube.com/watch?v=f5NJQiY9AuY

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Types of securities market

Primary markets

Secondary markets
Securities market

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Types of Primary Market
securities
market

Public investors
Firm

Company issues new securities to public for the first time – IPO
Proceeds from securities selling go directly to the public company
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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Types of Secondary Market
securities
market

Buyers
Sellers

Securities are exchanged between investors. Proceeds from securities

transactions go from one to another investors
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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Secondary Market (OTC and Exchange markets)

Allows investors to No new funds Transfer of Facilitates

buy and sell raised, no direct ownership from marketability,
previously owned or impact on original one investor to valuation and
existing securities issuer of security another liquidity of assets

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Dealers Market (OTC) Auction Market (Exchange)

Money Market (short term) Capital Market (long term)

Securities market
classification

Underlying Market Derivatives Market

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Dealers Auction Market
Market (OTC) (Stock Exchange)

Wholesale secondary Market Retail secondary

Dealers with each other Securities trade Public investors through brokers

Facilitated in OTC market Transactions Through electronic trading system

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Money Capital
Market Market

Short term security instrument with Terms of Long term security with
1 day to < 1 year maturity security > 1 year maturity

High Liquidity High or low

Not a market place, informal network Organized & electronic trading

of banks and traders Network system, central settlements through
clearing houses & depository centres

Treasury bills, eurodollar deposits, Shares, bonds, investment fund units

repurchase agreements Examples and derivatives

Institutions and individuals with Suppliers of Public investors, firms, securities

highest liquidity & lowest risk funds dealers with diversified liquidity & risks
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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?
Underlying Derivatives
Market Market

Derivatives like future contracts or

Underlying assets and securities options derived from underlying
Nature
traded, capital and banking market assets or securities

Home loan and ordinary shares

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Stock Market Rap BY Smart Songs

Jan 4, 2010
https://www.youtube.com/watch?v=hjuMlolaKo4

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Stock market Public market for

Securities

Shares Investment units /

Bonds Derivatives
certificates

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Negotiable
What is a security instrument
Financial claim

Stocks Bonds Investment Fund Units Derivatives

Creditor
relationship issuer Investment
Publicly-traded portfolio Rights through
corporation financial contracts

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Types of securities

Equity security Debt security Investment units /

Derivatives
certificates

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Equity security

Represents share
Also called as
ownership of Two types
shares and stocks
corporation

Ordinary shares Preference shares

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Debt security

Issued by
Classification
corporations, Represents fixed
based on maturity
financial institutions financial claim
period
or government

Maturity period Named Issued in

< 1 year Bills Money market

1 – 10 years Debentures & notes Capital market

> 10 years Bonds Capital market

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

The difference between stocks and bonds

The Fast Draw's easy explanation of stocks and bonds ...
By CBS Mar 7, 2011
https://www.youtube.com/watch?v=TnLeJ62qqCs

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 Question 5: What are the types of financial institutions, securities
markets and securities instruments?

Investment units /
certificates

Based on type of
funds, certain
Represents
number of shares
ownership positions
or investment
at the fund
units/certificates
are issued

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 Stock Market Returns - Funny Video
By Travel Mi Dec 2, 2020

https://www.youtube.com/watch?v=ocD4z0rRJXg

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 Topic 1: Introduction to Finance for Business

Now you have got the answers for the questions:

1. What are three important questions of corporate finance?

2. What are three essential types of business in Australia?
3. What is the goal of a finance manager?
4. What are the five basic principles of finance?
5. Who and what are there on financial market place?

It is time for a quiz with MCQs which can help with your
online test in Week 5!!!