The role of Finacial Management

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Chap ter 1

The Role of FinancialManagement

Pearson Education Limited 2004

Fundamentals of Financial Management, 12/e

Created by: Gregory A. Kuhlemeyer, Ph.D.

Carroll College, Waukesha, WI


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After s tudying Chapter 1,

you shou ld be able to:

1. Explain why the role of the financial manager today is soimportant.

2. Describe "financial management" in terms of the three majordecision areas that confront the financial manager.

3. Identify the goal of the firm and understand whyshareholders' wealth maximization is preferred over othergoals.

4. Understand the potential problems arising whenmanagement of the corporation and ownership are

separated (i.e., agency problems).5. Demonstrate an understanding of corporate governance.

6. Discuss the issues underlying social responsibility of thefirm.

7. Understand the basic responsibilities of financial managersand the differences between a "treasurer" and a "controller."


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The Role o f

Financ ial Management

What is Financial Management?

The Goal of the Firm

Corporate Governance

Organization of the FinancialManagement Function


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What is Financ ial

Management?

Concerns the acquisition,

financing, andmanagementof assets

with some overall goal inmind.


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Investment Decis ions

What is the optimal firm size?

What specific assets should be

acquired?

What assets (if any) should be

reduced or eliminated?

Most

important of the three

decisions.


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Financing Decis ions

What is the best type of financing?

What is the best financing mix?

What is the best dividend policy (e.g.,dividend-payout ratio)?

How will the funds be physically

acquired?

Determine how the assets (LHS of

balance sheet) will be financed (RHS

of balance sheet).


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Asset Management

Decis ions

How do we manage existing assets

eff icient ly?

Financial Manager has varying degrees

of operating responsibility over assets.

Greater emphasis on current assetmanagementthan fixed asset

management.


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What is the Goal

o f the Firm?

Maxim izat ion o f

Shareho lder Wealth!

Value creat ion occurs whenwe maxim ize the share pr ice

for cu rrent shareho lders.


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Sho r tcom ings of

A lternat ive Perspec t ives

Could increase current profits while

harming firm (e.g., defer maintenance,issue common stock to buy T-bills, etc.).

Ignores changes in the risk level of the

firm.

Profit Maximization

Maximizing a firms earnings after taxes.

Problems


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Sho r tcom ings of

A lternat ive Perspec t ives

Does not specify timing or duration of

expected returns.

Ignores changes in the risk level of the firm.

Calls for a zero payout dividend policy.

Earnings per Share Maximization

Maximizing earnings after taxes divided

by shares outstanding.Problems


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Streng ths o f Shareho lder

Wealth Max im izat ion

Takes account of: current and future

profits and EPS; the timing,

duration, and risk of profits and EPS;dividend policy; and all other

relevant factors.

Thus, share price serves as a

barometer for business performance.


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What companies say about

their co rporate goal*

Cadbury Schweppes: governing objective isgrowth in shareowner value

Credit Suisse Group: achieve high customersatisfaction, maximize shareholder value andbe an employer of choice

Dow Chemical Company: maximize long-term

shareholder value ExxonMobil: long-term, sustainable

shareholder value*Refer to text for add it ion al detai ls


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The Modern Corporat ion

There exists a SEPARATION

between owners and managers.

Modern Corporation

Shareholders Management


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Role o f Management

An agentis an individual

authorized by another person,called the principal, to act in

the latters behalf.

Management acts as an agent

for the owners (shareholders)

of the firm.


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Agency Theory

Agency Theory is a branch of

economics relating to thebehavior of principals and their

agents.

Jensen and Meckling developed

a theory of the firm based onagency theory.


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Agency Theory

Incentives include,stock options,perquisites,andbonuses.

Principals must provide incent ives

so that management acts in the

principals best interests and then

moni torresults.


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Social Responsib i li ty

Wealth maximization does no t

preclude the firm from being socially

responsible.

Assume we view the firm as producing

bothprivate and social goods.

Thenshareholder wealth maximization

remains the appropriate goal in

governing the firm.


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Corporate Governance

Corpo rate governance: represents the

sys tem by wh ich co rporat ions are

managed and con tro l led.

Includes shareholders, board of

directors, and senior management.

Thenshareholder wealth maximization

remains the appropriate goal in

governing the firm.


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Board o f Directo rs

Typical responsibilities:

Set company-wide policy;

Advise the CEO and other senior executives;Hire, fire, and set the compensation of the CEO;

Review and approve strategy, significant investments, and

acquisitions; and

Oversee operating plans, capital budgets, and financial

reports to common shareholders.

CEO/Chairman roles commonly same person in US,

but separate in Britain (US moving this direction).


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Sarbanes-Ox ley Act o f 2002

Sarbanes-Oxley Act of 2002(SOX): addressescorporate governance, auditing and accounting, executivecompensation, and enhanced and timely disclosure of

corporate informationImposes new penalties for violations of securities

laws

Established the Public Company Accounting

Oversight Board (PCAOB) to adopt auditing, qualitycontrol, ethics, disclosure standards for publiccompanies and their auditors, and policing authority

Generally increasing the standards for corporategovernance


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Organ izat ion o f the Financ ial

Management Funct ion

Board of Directors

President

(Chief Executive Officer)

Vice President

Operations

Vice President

Marketing

VP of

Finance


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TreasurerCapital Budgeting

Cash Management

Credit Management

Dividend DisbursementFin Analysis/Planning

Pension Management

Insurance/Risk Mngmt

Tax Analysis/Planning

Organ izat ion o f the Financ ial

Management Funct ion

VP of Finance

ControllerCost Accounting

Cost Management

Data Processing

General LedgerGovernment Reporting

Internal Control

Preparing Fin Stmts

Preparing Budgets

Preparing Forecasts


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Texas Instruments BA II+

Integratedthroughout the

ChaptersA Useful

Financial Tool

Does NOT replacefinancialunderstanding


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Change Disp lay Sett ing

Change the decimal

places displayed from

2 to FloatingPress:

2nd Format

9 ENTER2nd QUIT


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The role of Finacial Management

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