An Overview of Financial Management Flashcards

Corporate Organizational Structure

  • Board of Directors: Serves as the top governing body overseeing executive management.

  • Chief Executive Officer (CEO): Reports directly to the Board of Directors and oversees the top operational and financial officers.

  • Chief Operating Officer (COO): Directs business operations, including Marketing, Production, Human Resources, and other operating departments.

  • Chief Financial Officer (CFO): Directs corporate financial activities, including Accounting, Treasury, Credit, Legal, Capital Budgeting, and Investor Relations.

Corporate organization chart showing reporting lines from the Board of Directors down to COO and CFO departments

Forms of Business Organization

  • Proprietorships and Partnerships:

    • Advantages: Easy to form, subject to few regulations, and exempt from corporate income taxes. Often structured as LLCs or LLPs.

    • Disadvantages: Difficulty in raising capital, unlimited liability, and limited organizational life.

  • Corporations:

    • Advantages: Unlimited life, easy transfer of ownership, limited liability, and ease of raising capital.

    • Disadvantages: Double taxation, higher setup costs, and required financial report filings.

Stock Prices and Intrinsic Value

  • Intrinsic Value: A long-run concept representing the true value of a stock calculated from true investor cash flows and true risk.

  • Market Price: The actual stock price in the market based on perceived investor cash flows and perceived risk, which may deviate from intrinsic value in the short run.

  • Market Equilibrium: Reached when a stock's actual market price equals its intrinsic value: Intrinsic Value=Stock Price\text{Intrinsic Value} = \text{Stock Price}

  • Managerial Focus: Management decisions should aim to maximize long-run intrinsic value rather than temporary short-run stock price increases.

Determinants of intrinsic value and stock price showing relationship between managerial actions, risk, cash flows, and market equilibrium

Financial Conflicts of Interest

  • Stockholder-Manager Conflicts:

    • Managers may be inclined to pursue self-interest rather than shareholder goals.

    • Behavior is constrained by managerial compensation packages, direct shareholder intervention, the threat of firing, and the threat of takeover.

  • Stockholder-Debtholder Conflicts:

    • Stockholders prefer higher-risk projects to gain upside potential, while bondholders prefer lower risk due to fixed payment structures.

    • Bondholders protect against additional debt risks by inserting covenants into bond agreements.

Corporate Goals and Social Responsibility

  • Primary Goal: Maximizing shareholder wealth, which equals maximizing the company's long-term stock price.

  • Asset Valuation: The value of any financial asset is determined by the present value of its cash flow stream to the owners.

  • Corporate Social Responsibility: Acting in a socially responsible manner is consistent with achieving long-term shareholder value maximization.