1. 29/01/15 1
AD 311 Business Finance
Fall 2009
Attila Odabaşı
Lect 1: Introduction to
Corporate Finance
(ref. Ch 1)

2. 29/01/15 2
Main Points
Know the basic types of financial
management decisions and the role of the
financial manager
Know the financial implications of the
different forms of business organization
Know the goal of financial management
Understand the conflicts of interest that
can arise between owners and managers
Understand the various types of financial
markets

3. 29/01/15 3
Corporate Finance
Some important questions that are
answered using finance
What long-term investments should the
firm take on?
Where will we get the long-term
financing to pay for the investment?
How will we manage the everyday
financial activities of the firm?

4. 29/01/15 4
Financial Manager
Financial managers try to answer some or
all of these questions
The top financial manager within a firm is
usually the Chief Financial Officer (CFO)
Treasurer – oversees cash management,
credit management, capital expenditures and
financial planning
Controller – oversees taxes, cost accounting,
financial accounting and data processing

5. 29/01/15 5
Financial Management Decisions
Capital budgeting
What long-term investments or projects
should the business take on?
Capital structure
How should we pay for our assets?
Should we use debt or equity?
Working capital management
How do we manage the day-to-day
finances of the firm?

6. Forms of Business Organization
Three major forms in the United
States
Sole proprietorship
Partnership
General
Limited
Corporation
S-Corp
Limited liability company29/01/15 6

7. Sole Proprietorship
 A business form for which there is one owner.
This single owner has unlimited liability for all
debts of the firm.
 Oldest form of business organization.
 Business incomeBusiness income is accounted for on your
personalpersonal income tax formincome tax form.
29/01/15 7

8. 29/01/15 8
Sole Proprietorship
Advantages
Easiest to start
Least regulated
Single owner keeps
all the profits
Taxed once as
personal income
Disadvantages
Limited to life of
owner
Equity capital
limited to owner’s
personal wealth
Unlimited liability
Difficult to sell
ownership interest

9. Partnerships
 A business form in which two or more individuals
act as owners.
 Business incomeBusiness income is accounted for on each
partner’s personalpersonal income tax formincome tax form.
 General PartnershipGeneral Partnership -- all partners have unlimited
liability and are liable for all obligations of the
partnership.
 Limited PartnershipLimited Partnership -- limited partners have liability
limited to their capital contribution (investors only). At
least one general partner is required and all general
partners have unlimited liability.
29/01/15 9

10. 29/01/15 10
Partnership
Advantages
Two or more
owners
More capital
available
Relatively easy to
start
Income taxed once
as personal income
Disadvantages
Unlimited liability
General partnership
Limited partnership
Partnership
dissolves when one
partner dies or
wishes to sell
Difficult to transfer
ownership

11. Corporations
A business form that legally separate from
its owners.
An artificial entity that can own assets and
incur liabilities.
Business incomeBusiness income is accounted for on the
income tax form of the corporationincome tax form of the corporation.
 Separation of ownership and management
29/01/15 11

12. 29/01/15 12
Corporation
Advantages
Limited liability
Unlimited life
Separation of
ownership and
management
Transfer of
ownership is easy
Easier to raise
capital
Disadvantages
Separation of
ownership and
management
Double taxation
(income taxed at
the corporate rate
and then dividends
taxed at the
personal rate)

13. 29/01/15 13
Şirketlerin Sınıflandırılması
 Borçlar Yasasına göre düzenlenmiş
 Adi şirketler
 Türk Ticaret Yasasına göre düzenlenmiş
 Şahıs şirketleri
Kollektif şirketler
Komandit şirketler
 Sermaye şirketleri
Hisseli Komandit şirketler
Anonim şirketler
Limited şirketler
 Kooperatif Yasasına göre düzenlenmiş
Kooperatifler

14. 29/01/15 14
Goal Of Financial Management
What should be the goal of a
corporation?
Maximize sales or market share?
Minimize costs?
Maximize profit?
Maintain steady growth?
Maximize the current value of the
company’s stock?

15. 29/01/15 15
Shortcomings of Alternative
Perspectives
Minimize costs – We can minimize
costs today by not purchasing new
equipment or delaying maintenance,
but this may not be in the best
interest of the firm or its owners...

16. Shortcomings of Alternative
Perspectives
Profit maximizing: Maximizing a firm’s
earnings after taxes.
Problems:
 Long-term or short-term?
 Do we mean accounting profits or some measure of
cash flow?
 Could increase current profits while harming firm (e.g.,
defer maintenance).
29/01/15 16

17. 29/01/15 17
Shortcomings of Alternative
Perspectives
Maximize market share – This has
been a strategy of many of the
dot.com companies. They issued
stock and then used it primarily for
advertising to increase the number of
“hits” to their web sites. Many firms
failed to translate those ‘hits’ to
money to pay the expenses etc...

18. 29/01/15 18
Stockholder’s view..
 From a stockholder perspective, the purpose of
a for-profit business should be to make money
for its owners. How? Maximizing the current
stock price increases the wealth of the owners of
the firm.
 The more general goal is: Maximize the current
value of the owner’s equity.
 There is no short run vs. long run here. The stock
price should incorporate expectations about the future
of the company and consider the trade-off between
short-run profits and long-run profits.

19. 29/01/15 19
Maximization of Shareholder Wealth!
Do not forget that if stockholders win
(residual owners), it must be true that
everyone else is winning also.
This goal does not imply that the financial
manager should take illegal or unethical
actions in the hope of increasing the value
of the equity.

20. 29/01/15 20
The Agency Problem
 Agency relationship
 Principal hires an agent to represent his/her interests
 Stockholders (principals) hire managers (agents) to run the
company
 Agency problem
 Conflict of interest between principal and agent
 Management goals and agency costs
 Agency costs
 Direct costs: unneeded expenses for management,
monitoring costs (auditors)
 Indirect costs: sub optimal decisions, lost oppotunities

21. Managing Managers
 Managerial compensation
• Incentives can be used to align management
and stockholder interests
• The incentives need to be structured carefully
to make sure that they achieve their goal
Incentives include, stock optionsstock options,, perquisitesperquisites,,
and bonusesbonuses.
29/01/15 21

22. 29/01/15 22
Managing Managers
Corporate control
Control of the firm rests with stockholders.
They elect the board of directors, who in turn
hire and fire managers.
Ways of replacing managers:
Proxy fights
Takeover
 Stakeholders (customers, suppliers,
government) sometmes may attempt to
exercise cotrol on the firm as well.

23. Financial Markets
 Businesses interact continually with the financialfinancial
markets.markets.
 Financial MarketsFinancial Markets are composed of all
institutions and procedures for bringing buyers
and sellers of financial instruments together.
 The purpose of financial markets is to efficiently
allocate savings to ultimate users.
29/01/15 23

24. 29/01/15 24
Financial markets and the corporation

25. 29/01/15 25
What are some types of Markets?
A market is a method of exchanging one asset
(usually cash) for another asset.
Physical assets vs. financial assets
Financial Markets:
Debt and equity securities are bought and sold
Financial markets differ in detail:
Type of securities traded: debt, equity, derivatives, ...
How trading is conducted? outcry auction, electronic
systems
Who the buyers and sellers are?

26. 29/01/15 26
Primary versus Secondary Markets
Financial markets function as both primary
and secondary markets.
Primary market: original sales of securities by
corporations (or governments).
The transaction raises money for the corporation.
Secondary markets: securities are bought and
sold after the original sale.
The transaction does not raise money for the
corporation.

27. 29/01/15 27
How are secondary markets organized?
 By the way that orders from buyers and sellers
are matched:
Auction markets,
An auction market has a physical location like
Wall Street or Istanbul Stock Exchange (ISE).
Buyers and sellers are matched directly.
Dealers markets.
Dealers buy and sell for themselves, at their own
risk.
Like car dealers; opposite of real-estate agents.
Most dealer markets are called over-the-counter
(OTC) markets.

28. 29/01/15 28
Auction Markets
NYSE and AMEX are the two largest
auction markets for stocks.
NYSE is a modified auction, with a
“specialist.”
Specialist is a market maker.

29. 29/01/15 29
Dealer Markets
Dealers buy and sell for themselves, at
their own risk.
 Dealers are connected electronically.
Computerized quotation system keeps
track of bid and ask prices, but does not
automatically match buyers and sellers.
NASDAQ: National Association of
Securities Dealers Automated Quotation
system.