Summary Corporate Finance 1 (COF1)
Chapter 1
Finance: the science and art of managing money.
Financial services: the area of finance concerned with the design and delivery of advice and financial
products to individuals, businesses and governments.
Managerial finance: concerns the duties of the financial manager in a business.
Financial manager: actively manages the financial affairs of all types of businesses, whether private
or public, large or small , profit seeking or not for profit.
Three different forms of business organization:
Sole proprietorship: a business owned by one person and operate for his/her own profit.
Partnership: a business owned by two or more people and operated for profit.
Corporation: an entity created by law.
Sole proprietorship Partnership Corporation
Strengths Owner receive all profits and Can raise more funds than Owners have limited
loses sole proprietorship liability, which
Low organizational costs Borrowing power enhance by guarantee that they
Income included and taxed on more owners cannot lose more than
proprietor’s personal tax More available brain power they invested
return and managerial skills Can achieve large size
Independence Income included and taxed via sale of ownership
Secrecy on partner’s personal tax Ownership is readily
Ease of dissolution return transferable
Long life of firm
Can hire professional
managers
Has better access to
financing
Weaknesses Owner has unlimited liability Owners have unlimited Taxes generally higher
– total wealth can be taken to liability and may have to because corporate
satisfy debts cover debts of other partners income is taxed and
Limited fund-raising power Partnership is dissolved dividends paid to
tends to inhibit growth when a partner dies owners are also taxed
Proprietor must be jack-of-all- Difficult to liquidate or at a maximum 15%
trades transfer partnership rate
Difficult to give employee More expensive to
longrun career opportunities organize than other
Lacks continuity when business forms
proprietor dies Subject to greater
government
regulation
Lacks secrecy because
regulations require
firms to disclose
financial results
, - Unlimited liability: the condition of a sole proprietorship, giving creditors the right to make
claims against the owner’s personal assets to recover debts owned by the business.
- Limited liability: a legal provision that limits stockholder’s liability for a corporation’s debt to
the amount they initially invested in the firm by purchasing stock.
Articles of partnership: the written contract used to formally establish a business partnership.
Stockholder: the owners of a corporation, whose ownership, or equity, takes the form of either
common stock or preferred stock.
The purest and most basic form of corporate ownership.
Dividends are periodic distributions of cash to the stockholders of a firm.
Board of directors: group elected by the firm’s stockholders and typically responsible for approving
strategic goals and plans, setting general policy, guiding corporate affairs and approving major
expenditures.
The CEO (Chief Executive Officer) is responsible for managing day-to-day operations and carrying out
the policies established by the board of directors.
EPS (earnings per share): the amount earned during the period on behalf of each outstanding share
of common stock, calculated by dividing the period’s total earnings available for the firm’s common
stockholders by the number of share of common stock outstanding.
Two goals of the firm:
1. Maximize shareholder (groups such as employees, customers, suppliers, creditors, owners
and others who have a direct economic link to the firm) wealth
2. Maximize profit
Risk: the change that actual outcomes may differ from those expected.
Risk averse: requiring compensation to bear risk.
Business ethics: standards of conduct or moral judgement that apply to persons engages in
commerce.
Managerial finance functions:
- Treasurer: the firm’s chief financial manager, who manages the firm’s cash, oversees its
pension plans, and manages key risks.
- Controller: the firm’s chief accountant, who is responsible for the firm’s accounting activities,
such as corporate accounting, tax management, financial accounting and cost accounting.
- Foreign exchange manager: the manager responsible for managing and monitoring the firm’s
exposure to loss from currency fluctuations.
Marginal cost-benefit analyses: economic principle that states that financial decisions should be
made and actions taken only when the added benefits exceed the added costs.
Accrual basis: in preparation of financial statements, recognizes revenue at the time of sale and
recognizes expenses when they are incurred.
Cash basis: recognizes revenues and expenses only with respect to actual inflows and outflows of
cash.
, Corporate governance: the rules, processes and laws by which companies are operated, controlled
and regulated.
There are two broad classes of owners:
1. Individual investors: investors who own relatively small quantities of shares so as to meet
personal investment goals.
2. Institutional investors: investment professionals, such as banks, insurance companies,
mutual fu
3.
4.
5. nds and pensions funds, that are paid to manage and hold large quantities of securities on
behalf of others.
Sarbanes-Oxley Act of 2002 (SOX): an act aimed at eliminating corporate disclosure and conflict of
interest problems. Contains provisions about corporate financial disclosures and the relationships
among corporations, analysts, auditors, attorneys, directors, officers and shareholders.
Principal-agent relationship: an arrangement in which an agent acts on the behalf of a principal. For
example shareholders of a company elect management to act on their behalf.
Agency problems: problems that arise when managers place personals goals ahead of the goals of
shareholders.
Agency costs: costs arising from agency problems that are borne by shareholders and represent a
loss of shareholder wealth.
The two key types of managerial compensation plans are:
1. Incentive plans: management compensation plants that tie management compensation to
share price; one example involves the granting of stock options (options extended by the
firm that allow management to benefit from increases in stock prices over time).
2. Performance plans: plans that tie management compensation to measures such as EPs or
growth in EPS. Performance shares (shares of stock given to management for meeting states
performance goals) and/or cash bonuses (cash paid to management for achieving certain
performance goals) are used as a compensation under these plants.
Chapter 3
There are a few guidelines to prepare and maintain financial records:
- Generally Accepted Accounting Principles (GAAP): the practice and procedure guidelines
used to prepare and maintain financial records and reports; authorized by the Financial
Accounting Standards Board (FASB) the accounting profession’s rule-setting body, which
authorizes GAAP.
- International Financial Reporting Standards (IFRS)
Public Company Accounting Oversight Board (PCAOB): a not-for-profit corporation established by the
Sarbanes-Oxley Act of 2002 to protect the interests of investors and further the public interest in the
preparation of informative, fair, and independent audit reports.
Stockholders’ report: annual report that publicly owned corporations must provide to stockholders; it
summarizes and documents the firm’s financial activities during the past year.
Letter to stockholders: typically, the first element of the annual stockholders’ report and the primary
communication from management.
