Flashcards in Lecture 9: Corporate Finance Deck (30):
What are different components of corporate finance?
- Business forms and structure of companies
- The financial manager
- Investment decisions
- Equipment decisions
What are the 3 main forms of businesses in NZ?
- Sole traders
- Partnerships and joint ventures
Explain what sole traders are.
A type of business form that own all the assets of a business and are responsible for all the risks, obligations and debts.
Explain what partnerships and joint ventures are.
A type of business form that can combine overseas capital or expertise with business networks and ownership of resources in NZ.
Partnership Act 1908
Explain companies as a business form.
Anybody can apply to register a company, either alone or with someone else.
A company must have a registered name, one or more shares, one or more shareholders, and one or more directors.
Companies Act 1993
What are key components of the structure of companies?
- Board of directors
- Advisory Board
- Top management
What is an agency problem?
A manager who is principally an agent for stockholders and acts in his own interest instead of maximising market value.
(E.g. claiming high expenses, and avert riskto secure own position)
How are agency problems combated?
- Compensation plans
- Board of directors
What is accounting?
Accounting relates to preperation of accounting records, preperation, analysing and interpretation of financial statements.
What is economics?
Economics is a study of choices made by people who are face with scarcity.
What is finance?
Finance consists of investments, the decisions of institutions as they choose to invest, and managerial finance (business finance) which involves the actual management of the firm.
What are some important decisions financial managment must make?
- Expand your business?
- How to finance the expansion?
- Invest in new equipment?
Explain the flow of cash between a firm and the market.
- Cash generated by firm (to financial manager)
-Cash returned to investors, dividend etc. (to market)
- Cash raised, selling securities, loans etc. (to financial manger)
- Cash invested into firm
Explain the role of the financial manager.
- Make project decisions
- Invest in research and development
- Invest in marketing
- Issure shares
- Borrow (terms and conditions)
- Certainty against market fluctuations (hedging and futures)
- Short term decisions (ability to pay bills, stay solvent)
What are some important investment decisions?
- Whether to do a project
- Which project to do if projects are mutually exclusive
- Payback / ROI / NPV / PI
What is the payback period?
- Time until cash flows recover the intial investment of the project.
Explain the payback rule.
- The payback rule specifies that a project be accepted if its payback period is less than the specified cutoff period.
- No account of time value for money
- No value given to cash flows after the cut-off
- Cut off is arbitrary
- Emphasis is on liquidity
Explain return on investment (ROI).
The ratio of cashflows (gained) and initial investment
- No account of time value of money
- No acount of the size of a project
Explain time value of money.
The concept that a dollar today is worth more than a dollar tomorrow.
- investment and interest
Future value = $100*(1+r)^t
r= interest rate
What is present value?
- The investment i have to do now to get a certain value in the future
Explain the net present value rule.
The net present value rule states that managers increase shareholders value by accepting all projects that are worth more than they cost. Therefore they should accept all projects with a positive net present value.
What is net present value?
Net present value is the present value of cash flows minus investment.
NPV = sum of [ (benefits-costs)/(1+r)^t]
What are some important decisions related to equipment investments?
- Choice between equipment
(compare products on cost versus expected cash flows, buy long lived (expensive) or short lived (cheap) equipment?)
- Investment timing decision
(Buy now or next year?)
- Replacement decision
(When do we replace equipment?)
What is equivalent annual cost?
- The cost per period with the same present value as the cost of buying and operating a machine
Equivalent annual cost= present value of costs/ EAA factor
EAA Factor = 1/r - 1/r(1+r)^t
Who are shareholders?
The owners of the company
What are the duties of the board of directors?
The business and affairs of a company must be managed by, or under the direction of or supervision of, the board of the company.
Who elects the board of directors?
The shareholders (owners of the company)
What are the duties of the advisory board?
Provide advice and information to the board and management. The advisory board "advises" only and has no power of decision making.
Explain internal rate of return (IRR).
The discount rate at which NPV equals 0.