Financial Management

Semester 2, 2011-2012

Lecture 1. Introduction to Finance

Pham Thi Thu Tra, Ph.D.
31 January, 2012 (Mung 9 Tet)

Agenda
Program, Rules of the Game, etc.
Introduction to Finance; BMM Chapters 1-2

Rules of the game

Lectures on Tuesday (08 -11h) Tutorial Classes (to be weekly announced)

Teaching assistant: Ms. Le Dang Thuy Trang See attached documents for End-ofChapter Problems

Textbook: Brealey, Myers and Marcus, Fundamentals of Corporate Finance, 5th edition (2007) (BMM hence forth)

Rules of the game (cont.)

Assessment details Two Class Tests Mid-term Exam Final Exam

30% 30% 40%

Students not allowed to take the final exam if they fail to fulfill: Two class tests A mid-term test score over 30 points Class participation: Compulsory Minimum attendance requirement: 80% of the classes Active participation: bonus up to 10% of the result of one class test

Class schedule
Lecture
31-Jan
07-Feb 14-Feb 21-Feb 28-Feb 06-Mar 13-Mar 20-Mar 27-Mar 03-Apr 10-Apr 17-Apr 24-Apr

Topic
Introduction to Finance
Time Value of Money and Discounting Valuation of Bonds and Stocks Valuation of Bonds and Stocks (cont.) Financial Evaluation of Capital Investment Projects Financial Evaluation of Capital Investment Projects No lecture Mid-term Exam Introduction to Risk, Return and Opportunity Cost of Capital Risk, Return and Capital Budgeting Capital structure and Cost of Capital Capital structure and Cost of Capital (cont.) Review

Reading
BMM 1 & 2
BMM 4 BMM 5 & 6 BMM 5 & 6 BMM 7 BMM 8

BMM 10 BMM 11 BMM 12 BMM 12

Essential terminology Corporate Finance

(Market) Value Equity Stock, Shares Debt Bonds, Fixed income securities Discounting Cash Flows (Opportunity) Cost of Capital Risk Net Present Value/IRR

The Capital Market & the Firm - Model

Supply

Current Capital
Future Payments

Demand

Capital

Investors

Securities

Firms
[Primary market]

[Secondarymarket]

Balance-sheet Model of the Firm

Financial Decision Making
Balance Sheet

Assets: -Fixed -Working Capital

Total Assets

Financing: - Equity - Debt

Total Capital

Value

Value

Investment Decisions (Capital Budgeting) Financing Decisions (Capital Structure) Working capital management

Financial Decision Making

Capital Budgeting Decision Decision to invest in tangible or intangible assets. also called the Investment Decision Financing Decision Raising money that the firm needs for its investments and operations. Capital Structure: The mix of long term debt and equity financing.

Real assets vs. Financial assets

Firms finance its investment in real assets by issuing financial assets to investors

Book vs Market value

Market statistics for KDC As of 30 Jan 2012

Price (1000 VND) Book value per share (1000 VND) P/E Beta coefficient Earnings per share (1000 VND) Market Cap (billion VND)

29.5 33.52 9.35 0.71 3.15 3,486.99

Question: Is KDC an attractive buy?

Organizing a business
Types of Corporations
Public Companies Private Corporations Limited Liability Corporations (LLC)

Types of Business Organizations

Sole Proprietorships Partnerships Corporations Limited Liability Partnerships

Sole Partnership Proprietorship

Who owns the business? Are managers and owners separate? What is the owners liability? Are the owner & business taxed separately?
The manager No Partners No

Corporation
Shareholders Usually

Unlimited

Unlimited

Limited

No

No

Yes

Question: Which type of firms has separation of ownership and management?

The Corporation
Shares of Stock (owners capital) Limited Liability Separation of Ownership and Management. Who controls the corporation? Problem field of Corporate Governance Primary Goal: Maximize Wealth (of owners =shareholders) Maximize Market Value of the Firms Equity The Agency Problem

Goals of the Corporation & the Agency Problem

Shareholders desire wealth maximization Do managers maximize shareholder wealth? Mangers have many constituencies stakeholders Agency Problems represent the conflict of interest between management and owners

Firms, Investors, and Markets (1)

Macro view: Aggregate Behavior of Investors Pricing in Capital Market Micro view: Individual Decision Making Firms and Investors

Financial sector
Financial Markets

Real sector
Markets for Prod. Factors & Products

Investors

Firms

Reflective

Financial & Non-Financial Firms

Value Creation

Firms, Investors, and Markets (2)

(Non-Financial) Firms operate in between markets where Value comes from operating in the Real Sector Financial Markets are facilitating and reflective
Channel savings to corporate investment Firm Value is reflected in Market Prices of shares & bonds

Firms Objective of Value Creation and Shareholder Value Maximization

Investors and Financial Intermediaries operate on

Financial Markets with a look-through to the Real Sector & Firms

Flows of savings to a small closely held corporation

Firm's Operations
Real assets

(2)

(1)

Financial Manager
(3)

(4a)

Investors
Financial assets

(4b)
(1) Investors buy shares with cash (2) Cash is invested (3) The firm generates cash (4a) Cash reinvested (4b) Cash returned to investors

Flows of savings to a large public corporation

Financial markets

Firm's Operations
Real assets

Financial Manager
Financial
Intermediaries

Investors worldwide

The Financial System (1)

System of Financial Markets & Financial Institutions (Financial Intermediaries )
Roles of the Financial System:
Transferring cash across time

Payment mechanism
Providing liquidity Re-allocating & pooling of risks Providing information through market prices

Terminology:

Financial Markets / Capital Market / Securities Market / Stock Market

The Financial System (2)

Trading and Pricing of Stocks in Markets Organized Stock Exchanges such as NYSE, NASDAQ, HNX, HOSE, etc., etc. Listed firm Share Price (Stock Market Price) Theoretical issue: Price versus Value

Market

Valuation Model!

Stock Market Indexes

DJIA (Dow-Jones): non value-weighted index, based on prices of 30 major stocks of US exchanges (originating from 1896) Standard & Poors 500 Index (S&P 500): value-weighted index of the 500 largest stocks (in terms of market capitalization of US exchanges) The NASDAQ-100 Index includes 100 of the largest domestic and international non-financial securities listed on The Nasdaq Stock Market based on market capitalization. VN-Index?

VN-INDEX

So what does the course Financial Management cover?

Firms objective of Value creation & Shareholder wealth maximization Through making financial decisions Capital budgeting, Capital structure decisions

How to value an asset: bond, stock, or investment project Cash flows expected Timing of the cash flows Risk of the cash flows Relationship between risk and return of an investment? (Opportunity) cost of capital: the minimum accetable rate of return on capital investment Value maximization and the cost of capital