What is Finance?

•The art and science of managing money

• focuses on the determination of value and how to make

the best decisions with respect to the use of funds or
financial resources

• focuses on how resources are use to achieve corporate

goals
• The field of finance is actually an outgrowth of
economics.

• In fact, finance is sometimes referred to as financial

economics.
Finance
is both a science and an art of correct
application of the economic and accounting
concepts and principles that define the system,
structure, and process of management,
allocation, and utilization of financial resources,
investments, and expenditures.
 The Managerial Finance Function
Relationship to Economics
• The field of finance is actually an outgrowth of
economics.

• In fact, finance is sometimes referred to as financial

economics.

• Financial managers must understand the economic

framework within which they operate in order to react
or anticipate to changes in conditions.
 The Managerial Finance Function
Relationship to Economics

• The primary economic principle used by financial

managers is marginal analysis which says that

financial decisions should be implemented only when

benefits exceed costs.

 The Managerial Finance Function
Relationship to Accounting

• The firm’s finance (treasurer) and accounting (controller)

functions are closely-related and overlapping.

• In smaller firms, the financial manager generally

performs both functions.

 The Managerial Finance Function
Relationship to Accounting
• Finance and accounting also differ with respect to
decision-making.
• While accounting is primarily concerned with the
presentation of financial data, the financial manager is
primarily concerned with analyzing and interpreting this
information for decision-making purposes.
• The financial manager uses this data as a vital tool for
making decisions about the financial aspects of the firm.
 The Managerial Finance Function
Relationship to Accounting

• One major difference in perspective and emphasis

between finance and accounting is that accountants
generally use the accrual method while in finance, the
focus is on cash flows.
 Evolution of Finance?

•Began with the use of coinage as money in ancient

civilizations
•Institutionalized with the opening of private banks in
Europe during the middle ages
•Used to be a branch of economics
•Used to be a job that was largely mechanical
 Factors that made the Study of
Finance Important
•GLOBALIZATION

• COMPUTERIZATION

• CORPORATE REORGANIZATION
 Goal of the Firm

• PROFIT MAXIMIZATION
Single period and a short term goal.
Ignores the time value of money

• WEALTH MAXIMIZATION
Long term goal
Considers return on investment
 Goal of the Firm

YEAR YEAR 1 YEAR 2 YEAR 3

REVENUES Php 10, 000 Php 15,000 Php 25,000

EXPENSES 5,000 9,000 18,750

PROFIT 5,000 6,000 6,250

PROFIT RATE 50% 40% 25%

Goals of Financial Management:
Maximization of Shareholder’s Wealth
Shares Outstanding Yr-end Net Income
Year 2010 100,000 ₱ 500,000
Year 2011 200,000 ₱ 600,000

• You own 100 shares of CBA Corp.

• EPS = Net Income / Shares Outstanding
YR % of Ownership Share of Net Inc. Earnings Per Share
2010 100 shs / 100,000 shs 0.1% of ₱ 500,000 ₱ 500,000 / 100,000 shs
out. = 0.1% = ₱ 500 = ₱5/sh
2011 100 shs / 200,000 shs 0.05% of ₱600,000 ₱ 600,000 / 200,000 shs
out. = 0.05% = ₱ 300 = ₱ 3/sh
 GOAL OF THE FIRM
PROFIT MAXIMIZATION WEALTH MAXIMIZATION
Advantages Advantages
• Easy to compute • Puts emphasis on long term
• Provides quick term • Considers risks and
reference to firm uncertainty
• Recognizes the timing of the
financial performance
inflows or returns
• Recognizes the timing of the
financial performance
 GOAL OF THE FIRM
PROFIT MAXIMIZATION WEALTH MAXIMIZATION
Disadvantages Disadvantages
• Emphasis on short term • Difficult to trace
• Does not consider the risks relationship between stock
and timing of returns market price and financial
decision
• Not to easy to determine
• Needs in-depth analysis
 Goal of the Firm
Maximize Shareholder Wealth!!!

• It can also be described using the following flow chart:

 Goal of the Firm
Economic Value Added (EVA)
• Economic value added (EVA) is a popular measure used by
many firms to determine whether an investment - proposed
or existing - positively contributes to the owners wealth.
• EVA is calculated by subtracting the cost of funds used to
finance an investment from its after-tax operating profits.
• Investments with positive EVAs increase shareholder wealth
and those with negative EVAs reduce shareholder value.
Goals of Financial Management:

Social Responsibility

Can one reconcile the need of the firm

for wealth maximization and the need of the
firm to be socially responsible?
 The Role of Ethics
Ethics Defined
• Ethics is the overall standards of conduct or moral

judgment

•Concerned with human behavior that is acceptable

because it is right and it not acceptable because it is

wrong.
 Key Activities of the Financial Manager

• INVESTMENT DECISION – end goals are the efficient

allocation of funds to specific assets

• FINANCING DECISION – obtaining the best financing

mix and ultimately determining the optimal capital structure
of the firm
 Key Activities of the Financial Manager

•DIVIDEND DECISION – determining the most appropriate

dividend policy of a firm and its subsequent effects

•MANAGEMENT OF FINANCIAL RESOURCES – efficient

utilization of the firm’s funds /resources

•RISK MANAGEMENT – concerned with protecting and

utilizing the assets with a minimum degree of risk

 Financial Services
• Financial Services is the area of finance concerned with

the design and delivery of advice and financial products

to individuals, businesses, and government.

• Career opportunities include banking, personal

financial planning, investments, real estate, and

insurance.
 Managerial Finance

•Managerial finance is concerned with the duties of the

financial manager in the business firm.
• The financial manager actively manages the financial
affairs of any type of business, whether private or
public, large or small, profit-seeking or not-for-
profit.
.
Titles and Designations:
•Cash Manager – Responsible for managing the firm’s
short-term investments of cash
• Treasurer - Concerned with both inflow and outflow of
funds into or out of the firm on a day-to-day basis
• Controller – Responsible for the auditing , financial
reporting, and management accounting functions
•Chief Financial Officer – responsible for all the financial
activities of the firm
 The Managerial Finance Function
• The size and importance of the managerial finance function

depends on the size of the firm.

• In small companies, the finance function may be performed

by the company president or accounting department.

• As the business expands, finance typically evolves into a

separate department linked to the president or the owner.

Basic Forms of Business Organization
•Sole Proprietorship – owned by one person
• Partnership – two or more people pool together money
and expertise, put these in a common fund and share
profits later
• Corporation – an artificial being created by operation of
law, having the right of succession and the powers,
attributes, and properties expressly authorized by law or
incident to its existence