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Overview of Financial

Mana ement

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OVERVIEW OF FINANCIALMANAGEMENT

The Corporation Life Cycle

Value Creation & Maximization

Profit vs Cash Financial Institutions & Process of

Capital Formation

Types of Financial Markets

Cost of Money

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The Corporation Life Cycle

ProprietorshipAdvantages:

Easy & inexpensive formation; Subjects to only fewregulations; Not subject to corporate taxation

Limitations:Difficult to raise capital; Unlimited personal liability;

Limited life

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CorporationAdvantages:

Unlimited life; Easy transferability of ownership interest;Limited liability Easy to raise capital

Disadvantages:Complex & time consuming formation;

Subject to double taxation

Advantages:

Easy & inexpensive formation; Subjects to only fewregulations; Not subject to corporate taxation

Limitations:Difficult to raise capital; Unlimited personal liability;

Limited life

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Value Maximization

Risk &

Investment Decisions

Financing Decisions Value

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Return

Income DistributionDecision

Maximization

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Determinants of a Firms Value

Free Cash Flows

SalesRevenue

OperatingCost &Taxes

RequiredInvestment

inOperations

FinancingDecisions

InterestRates

Firm RiskMarket

Risk

Weighted Average Cost

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o ap ta

WACC+1

FCF

...WACC+1

FCF

WACC+1

FCF

=Value 22

1

1

Value of the Firm

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Financial Management& Other Fields of Management

Math &Statistics

AccountingEconomics

FinancialManagement

SocialSciences

OperationManagement

ETHICS

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Profit vs Cash

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Financial Institutions:Capital Formation Process

Direct TransferBusiness (Borrowers) sell securities directly to Savers

Through Investment Banking HousesBusiness (Borrowers) sell securities to Savers through investment banking houses

Through Financial Intermediaries Intermediary obtain funds from Savers in exchange for its own securities Intermediaries uses the fund to purchase and hold securities from Business

(Borrowers) Examples: Commercial Banks, Life Insurance Companies, Mutual Funds, Pension

Funds

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Investment Banking& Investment Management

Securities Securities

Sell Side: Underwriting & sellingcorporations securities to investors

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Corporationsnves menBankingHouses

Investors

Dollars Dollars

Buy Side: Advising investors &managing investors fund in buying

securities

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Types of Financial Markets

Physical asset markets vs Financial asset markets

Spot markets & Futures markets

Money markets & Capital markets

Primary Markets & Secondary markets

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r va e mar e s u c mar e s

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Capital Markets:Selected Comparison (ASEAN)

500.0

600.0

700.0 603.9

Market Capitalization (USD billions)

0.0

100.0

200.0

300.0

400.0 . 336.7 280.6

140.9

32.5

as of Nov. 2010

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Capital Markets:Selected Comparison (ASEAN)

800

1,000

984

781 735

Number of Issuers

0

200

400

600 415

256

as of Nov. 2010

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Capital Markets:Selected Comparison (ASEAN)

200

250

300 253.7

159.9

Market Capitalization to GDP (%)

0

50

100

150

83.5 71.546.0 32.8

as of Nov. 2010

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Financial Markets

Implications of active financial markets:

FINANCING alternatives for corporations

INVESTMENT alternatives for investors

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Cost of Money

Cost of debt = Interest Rate

Cost of Equity = Required Rate of Return = Dividend+ Capital Gain

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Factors Affecting Cost of Money

Production opportunities

Time preferences for consumption

Risk

Inflation

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Determinants of Interest Rates

r = r* + IP + DRP + LP + MRP

r = rate of interest on a debt security.

r* = real risk-free rate of interest.

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= n at on prem um.

DRP = default risk premium.

LP = liquidity premium.

MRP= maturity risk premium.

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Term Structure of Interest Rates

Term structure: the relationship between interestrates (or yields) and maturities

Yield curve: graph depicting the term structure.

Interest Rate

U.S. Treasury Bond Interest Rates on Different Dates

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0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

0 5 10 15 20 25 30

(%)

Years to Maturity

Short TermLong Term

IntermediateTerm

Yield Curve for March 1980(Rate of Inflation: 12%)

Yield Curve for April 2003(Rate of Inflation: 2.4%)

Yield Curve for August 1999(Rate of Inflation: 2%)

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8%

10%

12%

Interest Rate(%)

Corporate and Treasury

Yield Curves

AA-rated bond

BBB-rated bond

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0%

2%

4%

6%

Years to Maturity10

Treasury Bond

20 30

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Career Alternatives in Finance

CommercialBanking

Credit Analyst

Loan Officer

CorporateFinance

Treasurer

Financial Analyst

InvestmentBanking

Corporate Finance

Capital Market

Project Finance

Advisory

re t anager

Investor Relation

Controller

FinancialPlanning

Wealth Management

Insurance Actuary

Agent/Broker

Underwriter

Risk Manager

Research

Sales/Brokerage

Rating Analyst

MoneyManagement

Portfolio Manager

Portfolio ManagementMarketing

Investment Advisory

Mutual Fund Analyst