Financial MGMT Slides

Exam I
Chapters
1 2 3
2002, 2012 Frank M. Werner and James A.F. Stoner
1-1
Chapter 1
What is Financial Managing?

Introductory concepts what is finance? The development of the finance discipline The purpose of the firm Concerns about shareholder wealth
maximization Emerging new approaches that begin reintegrating societal and shareholder interests
2002, 2012 Frank M. Werner and James A.F. Stoner 1-3

What is Finance?
The study and practice of how money is
raised and used by organizations Finance derives in part from economics

The microeconomic theory of the firm
Finance has many stakeholders

Product/service markets customers, employees, suppliers Financial markets lenders, investors Governments and society
Money Flows of a Business
1-6
Organizing Finance by Academic Studies and Career Paths

Financial managing Investments
Investment analysis Portfolio management Derivatives and financial engineering
Markets and institutions

Banks Money and capital markets
Organizing Finance by Academic Studies and Career Paths
1-8
Organizing Finance Around the Concerns of Financial Managers

The financial environment
Economic, political, legal, ethical, social, etc.
Financial instruments
Securities stocks, bonds Investment bankers Commercial bankers
Financial managing
1-9

A Timetable of Financial Thought
1-11
The Development of the Finance Discipline

The continuing evolution of financial
managing
Change is dramatic, rapid, and accelerating Examples from the U.S.

Banking industry Automobile industry Computer industry
1-12

Major forces for change
Increased international cooperation, communication, and competition Revolutionary rates of improvement in the quality of goods and services Global sustainability Increased diversity in organizations work forces, customers, and suppliers Rapid changes in information technologies A shift from physical capital to human capital

Major forces for change (continued)
Changes in ethical standards and expectations Changes in the ways organizations are managed Changes in governmental policies and actions
Implications of these forces for financial
managing
Life-long education Seeing the organization as a system Understanding the value in sustainable products and production technologies

The Purpose of the Firm

The need for goals The role of business in society
Capitalist economic system
The microeconomic goal: profit
maximization
Efficient allocation of resources Problems
Accounting profits may not equal economic profits Profits do not consider risk
The Purpose of the Firm

The traditional finance goal:
maximization of shareholder wealth

Equals share price plus dividends Avoids many profit definition issues In an efficient capital market, provides for
Effective allocation of new investment funds Evaluation of investment risks
Investors provide feedback to (signal) management about risk and return levels
The Logic of Share-Price Maximization
1-18

Concerns About Shareholder Wealth Maximization

Outcomes for society
Income inequality Failure to take socially responsible actions Poorly directed business activities
Actions within the firm

A useful measuring stick? Creating the right image? Inspiring commitment? Encouraging ethics?

Emerging New Approaches

Aligning goals throughout the
organization
Using process-focused goals Building on peoples integrity Focusing on cross-functional relationships
1-22
Emerging New Approaches A Sequence of Goals

On a day-to-day basis
Treat customers like royalty Treat employees fairly Treat suppliers and creditors with respect and courtesy Treat neighbors as they would wish to be treated Constantly strive to reduce costs, increase quality, and add to market share in all aspects of the business
On a long-term basis
Treat shareholders to the high returns that will come from properly implementing the day-to-day actions
A Sequence of Goals The Johnson & Johnson Company Credo
1-24
A Sequence of Goals The Johnson & Johnson Company Credo
1-25
Emerging New Approaches The UN Global Compact

Human rights:
1. Businesses should support and respect the protection of internationally proclaimed human rights; and 2. make sure that they are not complicit in human rights abuses.
1-26

Labour:
3. Businesses should uphold the freedom of association and the effective recognition of the right to collective bargaining; 4. the elimination of all forms of forced and compulsory labour; 5. the effective abolition of child labour; and 6. the elimination of discrimination in respect of employment and occupation.

Environment:
7. Businesses are asked to support a precautionary approach to environmental challenges; 8. undertake initiatives to promote greater environmental responsibility; and 9. encourage the development and diffusion of environmentally friendly technologies.
1-28

Anti-corruption:
10. Businesses should work against corruption in all its forms, including extortion and bribery.
1-29
Emerging New Approaches Global Sustainability

The simultaneous pursuit of financial/
economic success, environmental preservation, and social inclusion
1-30
Chapter 2
Data for Financial Decision Making

Introductory concepts the need for good
data Financial accounting data Financial ratios Managerial accounting data Other data
1-32

1-33
The Need for Good Data

Good judgments require good data Theory precedes data
Economic-finance theory teaches us to look at financial data cash flow, profitability, liquidity, leverage, resource use Modern management theory teaches us to look at customer satisfaction and process performance
1-34

1-35
Financial Accounting Data

Used to produce public financial statements
Balance sheet, income statement, statement of cash flows Rules made by FASB, SEC
The limitations of GAAP

Two different valuation methods mixed together
Monetary items cash value Nonmonetary items historical cost
Alternative numbers for the same event Important information omitted
1-36
Financial Accounting Data

The need to compare numbers
Impossible to make a judgment with one number Types of comparisons:
Benchmark comparison to a standard value Competitive benchmark comparison to best example Time-series comparison to previous values of the same measure, a trend over time Cross-section comparison across peer companies at a point in time
1-37

1-38
Ratios That Measure Profitability

Profitability compared to sales
1-39
Ratios That Measure Profitability

Profitability compared to assets
Profitability compared to equity
1-40
Ratios That Measure Effective Use of Working Capital

Working capital
Refers to current assets and current liabilities Mathematically:
Measures of overall liquidity
1-41

Measures of the effective use of accounts
receivable
Measures of the effective use of inventories
1-42

Measures of the effective use of accounts
payable
The cash conversion cycle
1-43
The Cash Conversion Cycle
1-44
Ratios That Measure the Use of Fixed and Total Assets

A measure of the productivity of fixed
assets
A measure of the productivity of total
assets
1-45
Ratios That Measure the Choice and Management of Funding

Measures of the financing mix
1-46

Measures of the ability to service debt
1-47

Measures of payments against equity
1-48

1-49
Managerial Accounting Data

Used for internal planning, analysis,
decision making Cash flows vs. accrual accounting

Cash flow real, tangible event; clearly identifiable; has immediate value Accrual numbers based on accounting conventions, depend on human-made rules We use a cash flow spreadsheet to summarize cash flows
Cash Flow Spreadsheet

Cash Flow Spreadsheet
A company is trying to organize the following cash flows: Buy a machine for $25,000 in 2012. Increase cash inflows by $15,000 in 2013, 2014, and 2015. Pay additional taxes of $8,000 in 2014. Sell the machine for $10,000 in 2015. Question: Solution: Event Buy machine Additional cash inflows Additional taxes Sell machine Net cash flows (25,000) 15,000 7,000 Year 0 2012 (25,000) 15,000 15,000 (8,000) 10,000 25,000 15,000 Year 1 2013 Year 2 2014 Year 3 2015 Prepare a cash flow spreadsheet to summarize this information
1-51
Types of Costs
Total, average, marginal
Total sum of the costs for all units made Average cost per unit Marginal cost of making one more unit
Incremental the change from taking an
action Sunk spent in the past, cannot change Opportunity a lost benefit Variable, fixed with respect to sales
1-52
A U-Shaped Cost Curve
1-53
Managerial Accounting Data

Tax rates
Taxes are a cash flow, therefore important in financial decision making The government requires a company pay only the taxes specified by law paying more taxes takes value from other stakeholders While the tax code is complex, the textbook uses flat rates of 34% or 35% to simplify illustrations
1-54

1-55
Other Data
Economic data
GNP growth, inflation, interest rates, foreign exchange rates, etc. Competitive actions, pressures within industry
People data customer and employee
satisfaction Process data
Absolute number of failures Relative number of failures failures per opportunity to fail, six sigma goal Cycle time time for a process or process step
Other Data
ESG data
Environmental data energy use and efficiency, greenhouse gas emissions, water use, ecofriendly product innovation Social data employee health and safety, diversity, human rights, community support, product safety Governance data independence of board, transparency of public reporting, company code of conduct
Chapter 3
The Time Value of Money

Introductory concepts the money rules The fundamental relationship Multiple cash flows uneven flows Multiple cash flows cash flows that
form a pattern
1-59

form a pattern
1-60
The Money Rules

Value depends on the AMOUNT
Choose to receive MORE, pay LESS
Value depends on the TIMING

Choose to receive SOONER, pay LATER
The value of a business deal involves
a tradeoff between amount and timing Money flows can only be compared after being adjusted for time value

form a pattern
1-62
The Fundamental Relationship

Compound interest
Solved for present value
1-63
Using a Time Value Table
1-64
Using a Financial Calculator
1-65
The Four Fundamental Calculations

Finding future value (FV)
Given PV, n, i
Finding present value (PV)

Given FV, n, i
Finding a time period (n)

Given PV, FV, i
Finding an interest rate (i)

Given PV, FV, n

form a pattern
1-67
Multiple Cash Flows Uneven Flows

To calculate the PV or FV of a package
of cash flows
Calculate the PV or FV of each flow Add the PVs or FVs to get the total value
Alternative method use the cash flow
list feature of your financial calculator
Input all cash flows and an interest rate Obtain the total PV or FV with one calculation Can also calculate an interest rate

form a pattern
1-69
The Annuity
Defined a set of equal cash flows
Equal amounts Equal direction of flow (all inflows or all outflows) Equal spacing in time (e.g., all at monthly intervals)
1-70
1-71
The Five Annuity Calculations

Finding present value (PV)
Given PMT, n, i
Finding the amount of an annuity (PMT)

Given n, i, and either PV or FV
Finding future value (FV)

Given PMT, n, i
Finding a time period (n)

Given PMT, i, and either PV or FV
Finding an interest rate (i)

Given PMT, n, and either PV or FV
Ordinary Annuities vs. Annuities Due

Payments at the END of the period
Ordinary annuity Annuity in arrears END annuity
Payments at the BEGINNING of the
period
Annuity due Annuity in advance BEGIN annuity
1-74
The Growing Cash Stream

An infinitely long sequence of equally
spaced cash flows Each flow is different from the previous one by a constant rate of growth (g) PV of a growing cash stream
1-75
The Perpetuity
An annuity that continues forever (A growing cash stream with zero
growth) PV of a perpetuity
1-76

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Exam I

2002, 2012 Frank M. Werner and James A.F. Stoner

What is Financial Managing?

What is Financial Managing?

What is Financial Managing?

raised and used by organizations Finance derives in part from economics

Finance has many stakeholders

Money Flows of a Business

2002, 2012 Frank M. Werner and James A.F. Stoner

Organizing Finance by Academic Studies and Career Paths

Markets and institutions

Organizing Finance by Academic Studies and Career Paths

2002, 2012 Frank M. Werner and James A.F. Stoner

Organizing Finance Around the Concerns of Financial Managers

2002, 2012 Frank M. Werner and James A.F. Stoner

What is Financial Managing?

A Timetable of Financial Thought

2002, 2012 Frank M. Werner and James A.F. Stoner

The Development of the Finance Discipline

Change is dramatic, rapid, and accelerating Examples from the U.S.

2002, 2012 Frank M. Werner and James A.F. Stoner

The Development of the Finance Discipline

The Development of the Finance Discipline

Implications of these forces for financial

What is Financial Managing?

The Purpose of the Firm

The microeconomic goal: profit

The Purpose of the Firm

maximization of shareholder wealth

The Logic of Share-Price Maximization

2002, 2012 Frank M. Werner and James A.F. Stoner

What is Financial Managing?

Concerns About Shareholder Wealth Maximization

Actions within the firm

What is Financial Managing?

Emerging New Approaches

2002, 2012 Frank M. Werner and James A.F. Stoner

Emerging New Approaches A Sequence of Goals

A Sequence of Goals The Johnson & Johnson Company Credo

2002, 2012 Frank M. Werner and James A.F. Stoner

A Sequence of Goals The Johnson & Johnson Company Credo

2002, 2012 Frank M. Werner and James A.F. Stoner

Emerging New Approaches The UN Global Compact

2002, 2012 Frank M. Werner and James A.F. Stoner

Emerging New Approaches The UN Global Compact

Emerging New Approaches The UN Global Compact

2002, 2012 Frank M. Werner and James A.F. Stoner

Emerging New Approaches The UN Global Compact

2002, 2012 Frank M. Werner and James A.F. Stoner

Emerging New Approaches Global Sustainability

economic success, environmental preservation, and social inclusion

2002, 2012 Frank M. Werner and James A.F. Stoner

Data for Financial Decision Making

Data for Financial Decision Making

2002, 2012 Frank M. Werner and James A.F. Stoner

Data for Financial Decision Making

2002, 2012 Frank M. Werner and James A.F. Stoner

The Need for Good Data

2002, 2012 Frank M. Werner and James A.F. Stoner

Data for Financial Decision Making

2002, 2012 Frank M. Werner and James A.F. Stoner

Financial Accounting Data

The limitations of GAAP