Chapter 1

What are the four primary disadvantages to the sole proprietorship and partnership forms of organization? What are the benefits?

Disadvantages: unlimited liability, limited life, difficulty in transferring ownership, hard to raise capital funds. Some advantages: simpler, less regulation, the owners are also the managers, sometimes personal tax rates are better than corporate tax rates.

Capital Structure

The mixture of debt and equity maintained by a firm

Agency problem

The possibility of conflict of interest between the owners and management of a firm

What is the primary disadvantage of the corporate form of organization? What are the advantages?

The primary disadvantage of the corporate form is the double taxation to shareholders of distributed earnings and dividends. Some advantages include: limited liability, ease of transfer-ability, ability to raise capital, and unlimited life.

Stakeholder

Someone other than a stockholder or creditor who potentially has a claim on the cash flows of the firm

Working Capital

A firm's short term assets and liabilities

Is an IPO a primary-market transaction or a secondary-market transaction?

A primary market transaction.

Corporation

A business created as a distinct legal entity owned by one or more individuals or entities

What are the three types of financial management decisions?

Capital budgeting (deciding on whether to expand a manufacturing plant), capital structure (deciding whether to issue new equity and use the proceeds to retire outstanding debt), and working capital management (modifying the firm's credit collection policy with its customers).

Capital Budgeting

The process of planning and managing a firms long-term investment

Who owns a corporation? What is the main reason that an agency relationship exists in the corporate form of organization? What problems can arise?

In the corporate form of ownership, the shareholders are the owners of the firm. The shareholders elect the directors of the corporation, who in turn appoint the firm's management. This separation of ownership from control in the corporate form of organization is what causes agency problems to exist. Management may act in its own or someone else's best interests, rather than those of the shareholders. If such events occur, they may contradict the goal of maximizing the share price of the equity of the firm.

What goal should always motivate the actions of the firms financial manager?

To maximize the current market value (share price) of the equity of the firm (whether it's publicly traded or not).