Concepts of Corporate Finance

Class 1

Q: What are the two types of corporate cash flows?

A: Inflows (revenues and all money coming into the company) and outflows (debts, investments, and all money leaving the company).

Q: What three main questions does corporate finance help answer?

A:

• What long-term investments should the firm take on?

• Where will we get the long-term financing to pay for investments?

• How will we manage the everyday financial activities of the firm?

Q: How can a company make investments?

A: Through stocks or bonds, with value determined by risk and return.

Q: What is liquidity?

A: How easily an asset can be turned into cash without losing value.

Q: What are financial institutions?

A: Companies that provide credit, financial advice, or specialized financial services, such as banks, brokerage firms, and insurance companies.

Q: What is a proprietorship?

A: An unincorporated business owned by one individual; easy to form, few regulations, no corporate income tax, but has limited life, unlimited liability, and difficulty raising capital.

Q: What is a partnership?

A: A business owned by two or more parties. Pros: easy to form, combined resources and skills, no corporate income tax. Cons: unlimited liability for partners, potential for disputes, limited life depending on partnership agreement.

Q: What is a corporation?

A: A legal entity separate from owners and managers that can own property, incur liability, sue or be sued, and has limited liability, unlimited life, and easier access to capital. Drawbacks include double taxation and costs of set-up and report filing.

Q: What is double taxation?

A: Tax on the firm's income and then again on paid dividends.

Q: What are the two main types of financial managers?

A:

• Treasurer: oversees cash management, credit, capital expenditures, and financial planning.

• Controller: oversees taxes, cost accounting, financial accounting, and data processing.

Q: How do financial managers contribute to a company?

A: They act as a bridge between operations and financial markets by ensuring that the company has the funds needed for daily operations and strategic investments, managing risks, and providing financial information to support decision-making.

Q: What are the strategic and operational roles of finance?

A:

• Strategic: long-term planning to ensure fund availability and company viability.

• Operational: day-to-day management to ensure activities align with plans.

Q: What are money markets?

A: Markets for short-term (less than a year), high-quality debt instruments; highly liquid, low return, and mainly focused on primary market issuance.

Q: What are capital markets?

A: Markets for long-term (more than a year) debt and equity instruments; financing investments, higher returns, and mostly secondary market activity.

Q: What is the difference between primary and secondary markets?

A: Primary market: new issue of securities, exchanging funds for claims.
Secondary market: trading of previously issued securities; provides liquidity but no new funds to issuers.

Q: What is the difference between standardized and OTC markets?

A:

• Standardized: physical or visible marketplaces, with listed securities.

• OTC: over-the-counter networks with dealers, no central physical location.

Q: What is capital budgeting?

A: The process of deciding where to deploy the firm's money long-term, considering: size of cash flows, timing of cash flows, and risk of cash flows.

Q: What is capital structure?

A: The process of deciding the best way to raise funds for long-term needs, e.g., choosing between loans or cash for a purchase.

Q: What is working capital management?

A: Managing short-term assets and liabilities, including cash balances, accounts receivable, inventory levels, and short-term accruals.