Chapter 2: The Business, Tax,

and Financial Environments

The Financial Environment
The financial system and the ever-
changing environment in which
capital is raised is significant to the
financial manager as well as to the
individual as a consumer of
financial services.
Financial markets comprise all
institutions and procedures for
bringing buyers and sellers of
financial instruments together.
FINANCIA
L
MARKETS
Financial Markets
These are the meeting place for
people, corporations and institutions
that either need money or have money
to lend or invest.
In a broad context, the financial
markets exist as a vast global network
of individuals and financial institutions
that may be lenders, borrowers or
owners of public companies worldwide.
(Cabrera, Elenita, Financial Management vol.1 , 2015 ed )
Financial Markets
Participants in the financial markets
also include national, state & local
governments that are primarily
borrowers of funds for highways,
education, welfare and other public
activities; their markets are referred
to as public financial markets.
Large corporations raise funds in
the corporate financial markets.
Financial Markets
The purpose of financial markets
is to allocate savings efficiently to
ultimate users.
If those economic units that
saved were the same as those
that engaged in capital formation,
an economy could prosper without
financial markets.
(Van Horne, Fundamentals of Financial Management 13th ed)
Financial Markets
In modern economies, most nonfinancial
corporations use more than their total
savings for investing in real assets (houses,
buildings, equipment, inventories, and
durable goods).
Most households, have total savings in
excess of total investment.
Efficiency entails bringing the ultimate
investor in real assets and the ultimate
saver together at the least possible cost
and inconvenience.
Money and Capital Markets
Financial markets can be broken into two
classes :
Money market concerned with the
buying and selling of short-term (less than
one year original maturity) government
and corporate debt securities.
Capital market deals with relatively long-
term (greater than one year original
maturity) debt and equity instruments
(bonds and stocks).
Primary vs. Secondary
Markets
Within money and capital markets there exist both
primary and secondary markets.
Primary market a market where new securities
are bought and sold for the first time (a new
issues market). Funds raised through the sale
of new securities flow from the ultimate savers
to the ultimate investors in real assets.
Secondary market a market for existing (used)
securities rather than new issues. Transactions
in these already existing securities do not
provide additional funds to finance capital
investments.
 INVESTMENT No direct link exists between the
SECTOR investment sector and the
Businesses secondary market; thus
previously issued securities sold
Flow of Government in the secondary market provide
funds in no new funds to the original
FINANCIAL
the Households
FINANCIAL security issuers.
INTERMEDIARIE
economy BROKERS Bankers S
and the Investment Commercial
mechanism Mortgage Bankers Banks
that Savings
financial Institutions
markets SECONDARY MARKET Insurance
provide for Security Companies
channeling Exchanges
OTC Market Pension Funds
savings to Finance
the Companies
ultimate Mutual Funds
SAVINGS
investors SECTOR
in real Households
assets Businesses The financial intermediaries
Government own
securities flow to the
Financial Intermediaries
Financial institutions that accept
money from savers and use those
funds to make loans and other
financial investments in their own
name.
Include commercial banks, savings
institutions, insurance companies,
pension funds, finance companies,
and mutual funds.
Financial Intermediaries
Come between ultimate