Exam 1: Finance 301

Corporation

separate legal entity owners have limited liability -stockholders are paid last Taxation:double taxation Ease of formation: most difficult bc separate legal entity Ease of transfer of ownership: easy Ability to raise capital: easy (reason why we have corporations)

Capital Budgeting (long-term assets- PPE) Examples: growth in technology, infrastructure Exxon: refining equipment

The valuation, planning, and managing of corporate investments for a firm -Costs of capital: cost of raising debt and equity for the firm -financial managers want to invest in opportunities where present value of cash flow exceeds the cost of an asset Goal: Maximize net present value of investments

Capital asset pricing model (CAPM)

Theory demonstrates trade-0ff between risk of an asset and the expected returns from that asset -estimates the rate of return an investor should expect to receive on a risky asset Expected return = risk free rate + risk premium Stock market = beta of 1

The agency problem

There are times when the interest of management and the interests of shareholders do not align (separation of ownership and control 1932) Assets are owned by stockholders but controlled by management

Traditional Vs. Behavioral

Traditional Choice: expected utility maximization Decisions: rational expectations Prices: reflect expected outcomes times the probability of those Markets: prices reflect values (markets are efficient) Market Corrections: Arbitragers correct mis-pricing Behavioral: Choices: flaws in utility function Decisions: Not always rational, base decisions on emotions, biases and rules of thumb Markets: markets are not completely efficient Market Corrections: limits to arbitrage Our market is currently in Thrill

6) Transaction costs, taxes, and inflation are your enemies

Transaction costs: costs incurred when making a trade -can greatly reduce the return on your investments Taxes: a large percent of any profits you earn will be taxed by the government (minimize tax liability) Inflation: as inflation increases, the rate of return of investments decreases (cannot control inflation)

Internal use of accounting info

Used by firms management and board of directors to set performance goals and monitor business units

Global Models of corporate governance

1) Anglo American Model: board of directors model- model in the US, UK, Australia -model is designed around the minority shareholders electing board of directors -fluid capital: easy flow of capital from individuals and investors because of low constraints which allow investors to easily invest in companies they expect to give and get best returns on investments -puts too much weight on short-term, results in valuing shares

Keys to Buffets success

1) Buffet prefers to have full/ majority ownership in the company instead of buying small amounts of stock in companies 2) The management of his companies act like they are owners of the company 3) Buffet successfully created barriers to entry to keep competitors out 4) Buffet does not invest in technology companies 5) Buffet invests in companies that are generators of cash flow

History of recent financial markets

1990s: Stellar stock market performance fueled by the birth of the internet and reduction in transaction cost 2000,2001,2002: internet stock bubble burst and markets dropped severely 2002: stock markets increase 2007: DJIA hit record of 14,093 2009: stock market drops

Stock return

= ((pnew-pold) + dividend)/ (pold)

Warren Buffet

Considered to be one of the greatest investors of modern times (20% annual return) -Buffet owned: Geico, General R, Berkshire Hathaway (never did stock split) Metrics: % profit margin & % return on equity

Effect of hostile takeovers in the 1980's on corporate governance in the 1990's

-showed management that there was a good chance they would loose their jobs if they didn't focus on maximizing shareholders wealth -1990s = 8 years of growth and management gains -followed by a huge bust, then scandals in 2000 due to companies trying to keep up with wall street expectations

8) Your asset class allocation is very important

*Spread out an array of assets Asset diversification: dividing investment funds among different asset classes Examples: cash, short maturity deposits, bonds, stock Conservative investors: tend to put most money into cash fixed securities Aggressive investors: tend to invest a large portion of their wealth in stocks Best way to allocate your assets depends on: age, wealth, health, sex, financial obligations, risk

Balance sheet A = L + SE (rolls forward when a new period starts) current assets + PPE + other expenses = Current liabilities + Long term Debt + Shared equity

*only financial statement that reports as of a certain point in time -they report the resources and obligations of a company, as well as the equity of the owners at one point in time

Events in the 2000's that show lack of corporate governance

1) Adelphi: faces criminal and civil charges for hiding 3 billion loans to company in us (5th largest communication company in the US) 2) Enron: hid losses and debts on balance sheets of partner "dummy" companies that were supposed to be independent but were not 3) Tyco: Board wasn't overseeing management, found guilty of stealing 600 mil 4) World com: transferred 9 billion in operating expenses to capital expedentures to meet operating earnings and keep stock prices high 5) global crossing and quest: inflated revenues by entering into sham transactions with other companies 6) Xerox paid 10 million to fine the SEC for over inflating revenue by 6.4 million

Sarbanes Oxely

-CEOS must sign off on financial statement -Audit committee must be made up of outside directors -companies are not allowed to make loans to directors -all companies are equal to blame for financial crisis

Gordan Gekkos Greed speech

-Played Michael Douglas in movie Wall Street -gave speech on how greed is good (based off Ivan Boesky's speech) - corporate raider -in speech says: basic tenets of management are 1) efficiency 2) accountability 3) stake in the company 4) role of liberator 5) greed is good -supported free market approach -shareholders should determine the value of business -Creating shareholder value = takeover companies with low stock -management needs to be accountable for shareholders -management should have an equity stake in the company

Capital Markets

-Primary Markets: capital markets where governments, agencies, and municipalities issue debt securities and corporations issue stocks and bonds to investors -Secondary markets: capital markets where stocks and bonds are traded after there initial issuance (resold to other buyers) -Financial Markets provide investors with liquidity (good for investors) Liquidity: how quickly you can turn assets into cash -Financial Intermediary: borrow funds from investors and use those funds to make loans (example-bank)

Failure of corporate Control mechanism in the 1980's

-Primary control mechanism: board of directions, however in 1980's corporate bonds were aligned with company's management and they were not serving interests of shareholders Factors that caused misalignment between shareholders and board of directors: 1) stock ownership in us consists of many shareholders with small ownership interests 2) process of voting for board of directors was unfair 3) managers historically owned low levels of stock in the company

Current financial crisis factors

-an economic recession -the collapse of several major financial institutions -housing market bubble (occurred in the late 2000's) -a government bailout of the financial system

Traditional: Vs Competitive team (new model) :

-corporate corporations -financial planning -budgeting and capital allocation -control financial info -not accountable for performance Vs. Competitive: -business advocates -understanding business units -sharing financial info -accountable for performance Net result: global focus on a financial markets -capital flows freely across borders Theme: growth and volatility

Ways to increase shareholders value

-having balanced capital structure -investing in well-researched projects -allocating all capital to investment with high risk- adjusted returns -minimizing the company's WACC

How to go Broke while making a profit/ run out of cash

-increase in receivables and inventory cash flow = net income + depreciation - receivables-inventory- fixed costs

Corporate governance in the 2000's

-serious lack of governance in the 2000's -companies use creative accounting to inflate stock prices (Enron) - Sarbanes Oxley Act of 2002: an act that strengthened securities, regulated companies, against attacks from corporate frauds

3 Primary areas of finance:

1) Corporate Finance: involves how companies raise and invest money, and how to manage their financial resources. 2) Capital Markets/ Financial Institutions: examines the structure of capital markets, the role of financial institutions, process of financial intermediation, and how money flows in the economy. 3) Investments and valuation: forces of valuation techniques and how to value alternative investment opportunities that are provided through financial markets and institutions. -capital markets are the financial markets where issuers and investors buy/sell debt and equity securities.

Factors encouraging housing marketing boom

1) Growing economy 2) Low interest rates fostered by federal reserves 3) Incentives to buy homes provided by federal government 4) Support of government agencies like fanny may, Freddie mac 5) Financing provided by financial institutions, particularly wall street firms -easy financing: lenders gave loans to people who shouldn't have been receiving loans Board of directors of lenders and banks were at fault for allowing companies to take on so much risk

Ten Principles of Finance

1) Return Vs. Risk 2) Market Efficiency 3) Risk Preference 4) Supply and Demand 5) Corporate Finance and Governance 6) Minimize the cost of investing 7) Time value of money are inversely related 8) Your asset allocation is a very important decision 9) Diversification 10)Investment Valuation

Asset classes from least risky to most risk

1) Treasury notes and bills (least risky) 2) government bonds 3) corporate bonds 4) Large-value stocks 5) large growth stocks 6) small- cap stocks 7) international stock (most risky) * to achieve the highest return for your desired risk level, you should diversify your investments over a wide range of investments

Current elements in in corporate governance crisis common elements: The ease of being able to get a home loan led to the excessive investment in the housing market

1) executive compensation: many are dominated by stock options (unintended consequences) -stock options gave managers an incentive to manipulate short term stock prices for there own gain 2) board of directors: do not provide appropriate oversight for management 3) accounting auditing: public accounting firms that audited books overlooked crucial issues (Author Anderson) 4) Wall street analysts: many are pressured to give overly optimistic outlooks because it generates profit for there firms 5) Justice department and SEC; lack of enforcement and transparency 6) corporate leadership: top managers displayed unethical behaviors

Factors that changed corporate governance in the 1990's

1) institutional investors started to own large portions of companies 2) 1992, SEC relaxed the proxy solicitation rules regarding shareholder communications -gave investors stronger value 3) 1993 SEC forced companies to provide more detailed disclosure of top executive compensation 4) There was an increase in shareholder activism in the 1990's (call on greedy managers) Lends fund: fund managed by Robert Monks that purchased stock in mismanaged companies Special interest groups encouraged individual investor activism

Factors that encouraged large takeovers and LBOS in 1980s

1) regan administrations policies on antitrusts and securities laws allowed mergers 2) supreme court decision in 1982 that struck down antitakeover laws primary factor: junk bonds = bonds with high degree of risk that were used to fight hostile takeovers

1990's solution:

1) shared governance 2) corporate takeovers

Types of shark repellants

1) staggered board: the election of board of directors is set up so that only 1/4th of the board is up for re-election each year 2) white-knight: target company finds friendly company to merge with instead of being taken over in a hostile takeover 3) pac- mac defense: target company makes a counter-takeover bid for acquiring the company 4) Greenmail: target company purchases the acquires shares at premium price over the market price 5) Golden parachute: target company provides generous severance packages to top management (big bonuses) if there employment is terminated 6) self-tender offer: target company purchases outstanding shares from shareholders at a price above the price the acquiring company is offering 7) poison pills: target company makes its stock unappealing by making the takeover extremely expensive 8) crown jewels: target company sells off some of its most desirable assets to make it less appealing to hostile bidder

Hostile takeover strategies: Best defense form of a hostile takeover: a high stock price - makes a company very expensive to takeover

1) tender offer: the acquiring company makes an offer to purchase shares of the target companies stock for the purpose of gaining control of the target company (most common) -acquiring company offers to pay 20 - 50 % above market price of stock 2) leveraged buyout (LBO): an investment group makes a tender offer to purchase all of the company's common stock so they can make the company private 3) proxy contest: a prospective aquierer will soliciate proxy statements from shareholders in attempt to elect its own board of directors of a company -advantage: less expensive then tender offer

Risk

1) unsystematic risk: firms specific risk (Steve jobs illness just affected apple) 2) systematic risk: risk inherent to the market as a whole (compensated for) Beta: numerical measurement of systematic risk

Behavioral finance

A branch of finance that examines human decision making and behavioral patters -incorporates sociology and psychology into the study of finance

Which of the following is true about the Rest of the World model of corporate governance? A. The majority owner manages the company. B. Equity is not publicly sold. C. The Board of Directors represents shareholders' interests. D. Customer satisfaction is not a goal for companies. E. Government is never involved in management issues.

A. The majority owner manages the company.

Market Capitalization

Aggregate stock market value of a of a companies worth in the stock market -Important because it enables companies to invest, acquire companies and make investments Market cap = current stock price * number of shares outstanding

Who should be blamed for the financial cris?

All equal to blame Government: -not enough regulation and oversight -over promoted home ownership encouraging loans to unqualified people -low interest rates encouraged home purchases -didn't realize housing bubble Wall street institutions: -related standards on mortgages so they could give more loans -promoted risky financial products -poor risk management

Traditional Finance

Assumes all investors are rational, calculating, intelligent investors who focus on stock prices

1. Which of the following is an example of the agency problem? A. Management pursues strategies that maximize shareholder value B. Management invests in a project that serves the interests of management more than shareholders C. The objectives of shareholders and management are aligned D. Management allocates corporate resources in a way that increases the value of the company's shares E. Management has stock options in the company, potentially providing large payouts if the company does well

B. Management invests in a project that serves the interests of management more than shareholders

Four Financial Balance Sheets

Balance Sheet: lists the company's assets, liability's, and stockholders equity on the date of the financial statement Income Statement: represents revenues and expenses and net income over a specific period of time Statement of Cash Flows: reports firms cash inflows/outflows over a specific period of time Statement of Retained earnings: reports the changes in the company's retained earnings over a specific period of time

GAAP

Broad Guidelines, conventions, rules, and procedures of accounting -used to make info relevent, reliable, and comparable

1. The managerial defense mechanism that occurs when a company is targeted for hostile takeover and responds by selling off its prized assets is______. A. The Pac-Man defense B. Greenmail C. Crown Jewels D. Poison Pill E. Golden Parachutes

C. Crown Jewels

1. How was corporate governance in 1990s different from corporate governance in 1980s? A. Corporate raiders were more prevalent in the 1990s than in the 1980s B. Institutional investors were more active in the 1980s than in the 1990s C. The 1990s involved more managerial stock ownership than the 1980s D. CEOs had longer tenures during the 1990s compared to the 1980s E. Decreased importance placed on stock price and management performance

C. The 1990s involved more managerial stock ownership than the 1980s

1. Which of the following is true about the corporate governance model in the US? A. Majority owner manages the company B. Equity is not publicly sold C. The Board of Directors represents shareholders' interests D. Investment is restricted to the managers of the firm E. Government has representation in every company's board

C. The Board of Directors represents shareholders' interests

Calculate the firms fixed assets (long term assets-PPE)

CA= 700,000 CL= 100,000 Long term debt = 500,000 Shared Equity = 900,000 CA+FA = CL + LTD + SE 700k + FA = 100k + 500k + 900k FA + 800k

In today's market, who has replaced the Danny Devito's in other peoples money

CEO: today, the CEOs acquire companies The federal government is a corporate stakeholder

Finance Function: Goal : maximize shareholder value Maximizing shareholder value = measure that takes all sales, market, profit, growth factors into acocunt -company needs to generate free cash flow in order to inc shareholder value -allocating capital investments that offer the highest returns

CFO: The head financial manager in a company who oversees all financing activities Responsibilities: Works with bankers, advisers, participants in financial markets -works to fulfill capital needs of the company (Traditional roles- managing the controller and treasurer) Traditional roles: Controller functions (accounting): planning and controls systems, financial statements, budgets Treasury functions (financial): cash and working capital management, cash inflows/ outflows Expanded roles: Corporate communicator with markets Financing capitalization Risk management Strategy growth

Assets listed in order of liquidity

Cash short-term investments accounts receivable inventory long-term assets

7) Time and Value of money are inversely related

Cash flow becomes less valuable when they are expected to occur further and further into the future "A dollar today is worth more than a dollar tomorrow" -Compounding: projecting what cash will be worth in future years Future Value = present value X (1+r) ^ n -Discounting: finding the value of future cash flows in todays dollars Present Value = future value / (1+ r) ^ n

Customer Satisfaction

Firms need to focus on creating a level of customer satisfaction that maximizes shareholders value Saturn- when GM started, they placed too much value on customer satisfaction which resulted in a huge financial loss -Also make sure stakeholders needs are met but main goal, maximize shareholder value

Which of the following is an example of the agency problem? A. Management acts in the best interest of shareholders B. The objectives of shareholders and management are aligned C. Management invests in a project that serves the interests of shareholders D. Corporate Management invests in a negative ROI project because it will mean large bonuses and kickbacks for all senior executives E. The management has stock options in the company, potentially providing large payouts if the company does well

D. Corporate Management invests in a negative ROI project because it will mean large bonuses and kickbacks for all senior executives

In which managerial defense mechanism does the target company look to fend off a hostile takeover by providing big bonuses to their executives if employment is terminated? A. Greenmail B. The White Knight C. Crown Jewels D. Golden Parachutes E. Poison Pill

D. Golden Parachutes

2. Which of the following is an example of an external control mechanism used to ensure that management acts in shareholder interests? A. Audited Financial Statements B. Board of Directors C. Stock Ownership Interests D. Shareholder Activism E. Stock-Based Compensation

D. Shareholder Activism

9) Asset diversification will reduce your risk

Diversification: spreading your wealth across many different investments and asset classes systematic risk: risk related to stock market as whole (rewarded higher returns) unsystematic risk: risk related to a specific company (not rewarded) total risk = systematic risk + unsystematic risk Diversifying risk = eliminating unsystematic risk Efficient frontier: achieving the highest possible return for a given level of risk Rational and risk averse investors will always try to maintain an investment portfolio on the efficient frontier -must decide how much risk they want, then try to maximize their expected return for that level of risk -Diversification limits your risks by spreading your investments over large securities, but also limits gains

Numbers you must know

Dow Jones Industrial Avg (DJIA) = 17,000 Nasdaq = 4,500 price of gold = 1,250 per oz price of oil = 50 per barrel 30 yr treasury yield = 2.5% yen/ $1 = 155/$1 $/Euro = 1.2/ E 1

1. Which of the following is an example of an internal control mechanism used to ensure that management acts in shareholder interests? A. Shareholder Activism B. Market for Corporate Control C. Managerial Labor Market D. Threat of Takeover by Private Equity Investors E. Audited Financial Statements

E. Audited Financial Statements

2) Market Efficiency:

Efficient capital markets are tough to beat The price of stocks and bonds in the capital markets react very quickly to incorporate new info -stock market is brutally efficient -current stock prices reflect all publicly available info Random Walk Hypothesis: states changes in stock prices are random -If the stock market is efficient, it would be useless to forecast future prices -Capital asset pricing model (CAPM) - theory demonstrates Trade-0ff between risk of an asset and the expected returns from that asset

10) Value equals the sum of expected cash flows discounted for time and risk

Estimate amount of expected future cash flows - Discount rates represents the investors required rate of return based on risk of investment

Matching Principle

Expenses are recognized in the same period as the revenue they helped generate Matching principle GAAP: matches the expenses related to a sale in the same period

Bernard Madoff told his investors he had $50B in his fund but he really only had $15B. Why? F. He paid out higher returns than he earned. G. He had made a series of bad investments that lost money. H. He paid bribes to his accountants to falsify the books. I. He spent a lot trying to attract new investors. J. Currency fluctuations decreased the value of his international investments.

F. He paid out higher returns than he earned.

Financial Toolbox: used to establish relationships between key financial variables and a firms financial statements Accounting statements risk and return models present value spread sheet

Financial Statements and Ratio Analysis: The balance sheet, income statement, statement of cash flows, -Financial ratios- used to establish relationships between key financial variables -Present Value (time and value of money is inversely related) -Models of return and risk: Investors require higher expected rates of return to invest in riskier investments -Spreadsheet modeling: Planning tools for making investments (excel)

Which of the following is true about creating shareholder value? F. The pricing efficiency of the markets is not an issue if managers are to pursue shareholder value creation G. Activist investors such as Carl Icahn attempt to force companies to create shareholder value H. Danny Devito in 'Other People's Money' promotes the Stakeholder Approach I. The interests of stakeholders can be ignored in pursuing the creation of shareholder value J. Paying dividends to shareholders is a form of agency costs

G. Activist investors such as Carl Icahn attempt to force companies to create shareholder value

. Why did Bernard Madoff's Ponzi scheme fall apart? F. Too many new investors wanted him to manage their money. G. His accountants turned him in. H. Too many people wanted their money back too quickly. I. He lacked the name recognition to attract investors. J. The SEC investigation revealed his scheme.

H. Too many people wanted their money back too quickly.

1) Return Vs. Risk

Higher returns require taking more risk (positive relationship between risk and return) Rational investors: prefer high returns over low returns, but they prefer less risk over more risk Risk is measured by standard deviation Ibbon and Singquefeild study: Showed direct relationship between expected return of an asset class and the risk associated with receiving that return (risk asset classes gave higher returns) Results of the study: show as risk increases, returns also increase (greater standard deviation, greater risk, higher returns) Reversion to the mean: percentage rate of return to its historical average return

Competitive Team (newest finance model)

Individuals that make up finance function are accountable for business unit performance

What is Finance?

Involves Management of Money Finance: is the process of managing money (working capital management, capital budgeting, capital structure decision)

4) Supply and Demand Drive Asset prices in the short-run While Corporate earnings drive stock prices in the long-run

Law of Supply and Demand: a stock current price is determined by the interaction of the supply and demand curves Supply curve: want to sell stock Demand curve: want to buy stock Overall: everyday stock buying and selling is different from day to day

5) Corporate managers should make decisions that maximize shareholders value

Management has fiduciary responsibility to act in shareholders interest -Shareholder value approach favors strategies that enhance company's cash flow ability Goal: maximize current price of a company's stock

Working Capital Managment (short term assets) Managing day to day operations

Managing firms short term assets and liabilities (accounts receivable/ inventory) Goal: lower working capital/ minimize cost of maintaining net working capital position in the company

Capital structure decision:

Minimizing the cost of capital by using the right mixture of debt and equity. Goal: minimize WACC of the company

Other People's Money

Movie set in 1980's, Danny Devito plays wall street corporate raider trying to takeover New England wire and cable -money is better -CEO of New England Wire and cable: played by Gregory peck Gregory peck: concerned about all stakeholders Danny Devito: corporate raider concerned only about stockholder -Proxy fight: Danny Devito tries to use proxy fight to take control of board of directors by getting shareholders to vote for people he wanted

Shareholders Traditional View: corporate directors serve shareholders only

Owners of common stock in a company -receive profit after tax, only paid if there is profit left Management must create shareholder value by creating return on investment > cost of capital

SEC

Publicly traded companies must file financial reports that disclose accounting measurements -annual 10k report includes all financial info about the company's summary of operations The annual and quarterly reports publicly traded companies must file with the SEC = 10k, 10Q

Charles Ponzi

Ran Ponzi scheme in 1920's -said he found a way to earn huge returns by arbitraging international reply coupons - promised returns of 50 % in 45 days or double your monday in 90 days -40,000 people invested (15mil) -when investors wanted to cash out they were paid out of money from new investments -fell apart onces investors realized ponzi didnt have there money

Assets

Resources owned or controlled by the company Current assets: assets a company can turn cash in less then 1 year (considered working capital because of short-term assets) - liquidity Liquidity= how easily an asset can be turned into cash want the highest current ratio and the lowest Debt/ equity ratio Examples: Inventory, Accounts Receivable Long term assets: last more than one year (fixed assets) Example: property, plant equipment, goodwill

Income statement

Revenue -cost of goods sold (suppliers) = gross profit -selling general and administrative expenses (employees) = operating profit (EBIT) -interest expense (lenders) = profit before taxes -taxes =profit after taxes (shareholders)

Revenue Recognition Principle

Revenue is recognized when the product or service is received, not when money is earned

3) Rational Investors are risk Averse

Risk Aversion: a rational investor prefers less risk to more risk (does not avoid risk at all cost, he takes some small risk) Risk Neutral investors: Pain of losing a dollar is equal to the pleasure of winning a dollar (as long as expected return on investments is fair, risk neutral investor will be willing to invest) Risk Takers: willing to take risk

Shark repellents

Techniques used by management to defend hostile takeovers

Blue Chip Leaders

Walmart- leader in US sales (477 bill) JP Morgan Chase- largest debt issuer (267 bill) GE- largest holder of cash (132 billion) Exxon- leader in long-term assets (243 billion) Apple- most valuable (622 billion)

Bernie Madoff

Well known wall street investor who ran biggest Ponzi scheme. -offered steady returns to investors -claimed fund assets were worth 50 mil but only worth 15mil -returns he was paying to investors was higher than the funds being earned -attracted new investors quickly -used falsified financial statements -able to continue scheme for 30 years because he attracted new investement faster than current investors withdrew money -got 150 years in jail

Agency Costs

When managers make decisions that are not in the best interests of the shareholders small scale: management perks (luxury trips, private jets) large scale: large investments, acquisitions, using companies money to reinvest Opportunity cost of forgone cash flows that are not in the best interest of the shareholders

Sole propiretorship

a business owned by a single person Issue: unlimited liability Taxation: not taxed on income (owner pays tax on personal tax returns) Ease of formation: easy Ease of transfer of ownership: difficult Ability to raise capital: difficult

Dedicating Capital models

a model where owners of common stock will not trade or sell shares -primarily used in Japan and Germany -Keiretus (japan)- long term capital : a group of companies typically formed around a large financial institution -operated under a common institutional name and shares managerial expertises -cross-holdings of common stock: these companies own each others common stock and never sell shares two largest Keirestso in japan = mitsubishi, Mitsu -Hausbank (Germany): financial institution that is a companys prmary supplier of debt and equity capital (not sold or traded) model is common in: eastern europe, africa, south america, asia -investor owns the majority of the common stock, sets goals, policy, strategy

Stake holders

anyone who is invested in the firm and in the economic well being of the firm (employees, creditors, customers, suppliers) stakeholders are protected by contracts

Accounting equation

assets= liabilities + shared equity

Partnership

business owned by two or more people operating assignments: specific responsibilities for each partner general partnership: each partner shares in profits/ loss of firm Ease of formation: slightly more difficult then sole Taxes: not taxed on income (just personal tax returns) Ease of transfer of ownership: more difficult liability: unlimited liability ability to raise capital: difficult

External use of accounting info

current investors, prospective investors, and its prospects for the future -all publicly traded companies are required to prepare periodic financial statements and disclose the statements regularly to investors

ponzi scheme:

fraud where schemer pockets investors money and pays the investor return out of money from new investors Ponzi schemes: require new investment dollars to be able to continue to operate

Liabilities

obligations the company has incurred to obtain its assets Current liabilities: liablities settled in less than one year Examples: accounts payable, unearned rev, accrued expences Long term liabilities: takes longer than 1 year to settle

Equity

owners claim on firms assets contributed capital: money owners have invested into the company Retained earnings: capital company has earned and reinvested into the business

Which of the following would increase a company's cash flows

paying supplies more slowly

Corporate control

designed to insure that management acts in shareholders interests internal controls: inside the company, designed to control costs -board of directors: hiring, firing, rewarding, renewing management, setting overall policy -audited financial statements: audited by outside public firms -stock-value based compensation: linking managers compensation to performance of stock -stock ownership interests: managers owning common stock in the company external controls: help reduce agency costs -marginal labor markets -market for corporate control -shareholder activism: if corp is not performing well, large investors will get involved

Corporate governance: system of rules, processes by which a company is direted

system of rules, processes by which a company is directed -corporate governance often leads to battles as a result of companies not being managed in the interest of the owners (leads to proxy battles) Corporate governance in the US: the CEO represents all stakeholders interests

Fincancial Accounting

used to convey companie's financial performance to its investors, creditors and the public Accounting = universal measurement of business performance

Hostile Takeovers (external control mechanism)

when one company acquires another company even though management and board of directors of target company are against the takeover (offer higher price for another firms stocks) -threat of hostile takeover forced management to cut costs, maximize cash flow, act in best interest of shareholder