Chapter 1-Corporate Finance and the Financial Manager
Bylaws
Rules describing how the corporation regulates its existence. They can be simple or extensive. Bylaws can be amended from time to time by the stockholders. (CH1.2)
Disadvantages of a Corporation
1. Double taxation- paid coming in (earnings), paid when going out (dividends). (CH1.2)
Limited Partners
Partner(s) who do not actively participate in the business but have invested money into it. Liability for business debt is limited to the amount invested. (CH1.2)
The equity shares of most of the large firms in the U.S. trade in organized _________ markets.
-auction
Auction Markets (aka exchange markets)
-has a physical location (e.g. Wall Street) -most of the buying and selling is done by the dealer
The primary purpose of an auction market?
-is to match buyers with sellers.
Two types of primary transactions:
-public offerings and -private placement
Characteristics of a Corporation (7):
1. A corporation is a legal person 2. Which is separate and distinct from its owners 3. It has many rights, duties, and privileges owner 4. Can borrow money and own property 5. Can sue and be sued, can enter into contracts 6. A corporation can be a GP or LP 7. Can own stock in another company (CH1.2)
Forming a corporation involves preparing (2):
1. Articles of Incorporation 2. Bylaws (CH1.2)
Two kinds of Secondary Markets:
1. Auction markets 2. Dealer markets
3 areas of corporate financial management:
1. Capital management 2. Capital structure 3. Capital management (CH1.1)
Direct Agency Costs come in two forms;
1. Corporate expenditure - benefits management 2. Expense - paying outside auditors to monitor
2 Agency costs:
1. Direct 2. Indirect
Advantages of a Corporation (5):
1. Ease of transferring ownership 2. Limited liability for business debts 3. Unlimited life of the business 4. Need new equity? Sell more stock 5. Raise capital to fund growth and product development (CH1.2)
Advantages of a Partnership (2):
1. Easy and inexpensive to form 2. Informal oral or written agreement (CH1.2)
Advantages of a Sole proprietorship (3):
1. Easy inexpensive to form 2. Least Regulated 3. Owner keeps all profits (CH1.2)
Disadvantages of a Partnership (6):
1. GP's have unlimited liability for partnership debt 2. Partnership terminates when a GP wishes to sell or dies. 3. Income is taxed as personal income. 4. Amount of equity raised is limited to the partner's combined wealth. 5. GP Partnership is not easily transferrable. 6. A LP can be sold without dissolving but must have an interested buyer. (CH1.2)
Other names for corporation (3):
1. Joint Stock Companies 2. Public Limited Companies 3. Limited Liability Companies (CH1.2)
Articles of Incorporation include (4):
1. Name 2. Intended life 3. Business purpose 4. Number of shares that can be issued (CH1.2)
Sarbanes-Oxley Act 2002 requires public corporations:
1. No personal loans to company officers 2. Annual report must have an assessment of company's: a. internal controls structure b. financial reporting c. Independent auditor to evaluate assessment 3. Officers must review and sign annual report 4. Declare no false statements in the report 5. Declare responsibility for internal controls 6. Report shall list deficiencies in internal controls 7. Management responsible for accuracy of financial statements (CH1.3)
Disadvantages of a Sole proprietorship (6):
1. Owner has unlimited liability for debts 2. Amount of equity is amt of owner's wealth 3. Creditors can access personal assets 4. Business income is considered personal income 5. Life of co. is limited to owner's life 6. Difficult to transfer (CH1.2)
3 Primary Disadvantages of a Sole Props and Partnerships as forms of business organizations are (3):
1. Owners have unlimited liability for business debt 2. Limited life of the business 3. Difficulty of transferring ownership (CH1.2)
In a general partnership, ALL partners (2):
1. Share in gains and losses. 2. Have unlimited liability for all partnership debts. (CH1.2)
3 different legal forms of business organizations?
1. Sole proprietorship 2. Partnership 3. Corporation (CH1.2)
Corporation
A business created as a distinct legal entity composed of one or more individuals or entities. Most complicated to form but the most important. (CH1.2)
Partnership
A business formed by two or more individuals or entities. (CH1.2)
Sole Proprietorship
A business owned by a single individual. (CH1.2)
Working Capital
A firm's short-term assets and liabilities. Examples: inventory, STA, STL (money owed to suppliers). (CH1.1)
Indirect Agency Costs
A lost opportunity due to the conflict of interest
Secondary Markets involves:
A transaction which involves one owner or creditor selling to another.
Partnership Agreement
A written or oral agreement which can be formal or informal and describes the way partnership gains (and losses) are divided. (CH1.2)
Debt Securities:
Both corporations and governments
Dealer
Buy and sell securities for themselves
Q. What do you call the specific mixture of long-term debt and equity that a firm chooses to use?
Capital Structure (CH1.1)
In a primary market, the seller is the _________ and the transaction raises money for the __________.
Corporation Corporation
Equities are issued by:
Corporations
Over-the-counter (OTC) Markets
Dealer markets in stocks and long-term debt. Literally used to be sold "over the counter."
When do stockholder's get paid?
Last (CH1.3)
Brokers and Agents
Match security buyers to sellers
Limited Partnership
One or more General Partners runs the business AND have unlimited liability. (CH1.2)
General Partners
One or more partners who actively participate in the business. (CH1.2)
Stakeholders
Someone other than the stockholder or creditor who potentially has a claim on cash flows of the firm. Example: Employees, customers, suppliers, even govt.
"listed on the exchange"
Stocks that are traded on an organized exchange.
Agency Costs
The *costs* of the conflict of interest between stockholders and management.
Who selects the managers?
The Board (CH1.2)
The managers essentially work for?
The Stockholders (CH1.2)
Who elects the Board?
The Stockholders (CH1.2)
True or False: Public offerings of debt and equity must be registered with the Securities and Exchange Commission (SEC).
True
Q. What is the capital budgeting decision?
The financial manager tries to identify the investment opportunities that are worth more to the firm than they cost to acquire. (CH1.1)
Limited Liability Company (LLC)
The goal of the entity is to operate and be taxed like a partnership but retain *limited liability* for owners. It's a hybrid of *partnership and corporation*. (CH1.2)
Primary Markets refer to:
The original sale of the securities by governments and corporations. Can be resold.
Agency Problem
The possibility of conflict of interest between stockholders and management.
Capital Budgeting
The process of planning and managing a firm's long-term investments (opportunities worth more than cost). (CH1.1)
Agency Relationship
The relationship between stockholders and management.
Capital Structure (aka Financial Structure)
The specific mixture of long-term debt and equity the firm uses to finance its operations. 1.How much firm should borrow (what mix of debt/equity is best)? 2.Least expensive sources of funds for the firm. (CH1.1)
Corporate Finance
The study of the relationship between business decisions and the value of the stock in the business. (CH1.3)
The total value of the stock in a corporation is equal to?
The value of the owner's equity. (CH1.3)
Secondary Markets refer to:
These securities are bought and sold after the original sale.
How do financial managers maximize the value of stock?
They identify investments and financial arrangements that favorably impact the value of the stock. (CH1.3)
What is the goal of Financial Management?
To maximize the current value per share of the existing stock. (CH1.3)
Q. Into what category of financial management does cash management fall?
Working Capital Management (CH1.1)
Financial markets function as both ________ and _________ markets for debt and equity securities.
primary and secondary markets