FIMA 30013 Financial Management IM Prudente PDF

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FIMA 3 0013FINANCIALMANAGEMENTPrepared By:Dr. Henry B. PrudenteINTRODUCTIONThis is an introductory course in financial management designed to make students understand the basic finance concepts. It involves studies on decision making utilizing financial resources available to the firm from the persp...

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FIMA 30013 FINANCIAL MANAGEMENT Prepared By: Dr. Henry B. Prudente

INTRODUCTION

This is an introductory course in financial management designed to make students understand the basic finance concepts. It involves studies on decision making utilizing financial resources available to the firm from the perspective of the manager. It covers the whole range of basic finance concepts; financial statement analysis; working capital management and short-term financing; financial asset valuation; risk, return and cost of capital; capital budgeting; capital markets and sources of long-term financingAt the end of this course, the student is expected to: At the end of the course, the learner should be able to: s -term and long-term financing available to the firm

risk, and return concepts.

analyze projects

profitability, and market value -term financial management, and the key strategies and techniques used to manage cash, marketable securities, accounts receivable and inventory

TABLE OF CONTENTS WEEK 1 Introduction Course Outline Course Plan Grading System 2 Module 1: Introduction to Financial Management Objectives Lecture Assignment Activity 3 Module 2: Financial Markets, Institutions and Interest Rates Objectives Lecture Assignment Activity 4-5 Module 3: Financial Reporting and Analysis Objectives Lecture Assignment Activity 6-7 Module 4: Basic Financial Analysis Objectives Lecture Assignment Activity 8-9 Module 5: Risk, Return and Valuation Objectives Lecture Assignment MIDTERM EXAMINATION 11-12 Module 6: Planning the Financial Structure Objectives Lecture Assignment Activity 13-14 Module 7: Managing and Financing Current Assets Objectives Lecture Assignment Activity 15-17 Module 8: Managing of Short-term, Intermediate and Long-Term Funds Objectives Lecture Assignment Activity FINAL EXAMINATION References

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Module 1: INTRODUCTION TO FINANCIAL MANAGEMENT OBJECTIVES: At the end of this lesson, the students are expected to: 

Describe Financial Management in terms of the three major decision areas that confront the financial manager



Identify the goal of the firm and extrapolate why shareholders’ wealth maximization is preferred



Explain the basic responsibilities of financial managers

Financial management is mainly concerned with the proper management of funds. The finance manager must see that funds are procured in such a manner that risk, cost and control considerations are properly balanced and there is optimum utilization of funds. According to Soloman, ―Financial management is concerned with the efficient use of economic resources‖. According to Phillippatus, ―Financial management is concerned with management decision that result in acquisition and financing of long-term and short-term credits for the firm‖. Financial management is an integrated decision making process, concerned with acquiring, managing and financing assets to accomplish overall goals within a business entity. Speaking differently, it is concerned with making decisions relating to investments in long term assets, working capital, financing of assets and soon. What is Financial Management? Financial management capacity is a cornerstone of organizational excellence. Financial management pervades the whole organization as management decisions almost always have financial implications. Meaning of Financial Management Financial management entails planning for the future of a person or a business enterprise to ensure a positive cash flow, including the administration and maintenance of financial assets. The primary concern of financial management is the assessment rather than the techniques of

financial quantification. Some experts refer to financial management as the science of money management. Importance of Financial Management Financial management is concerned with procurement and utilization of funds in a proper way. It is important because of the following advantages: 1. Helps in obtaining sufficient funds at a minimum cost. 2. Ensures effective utilization of funds. 3. Tries to generate sufficient profits to finance expansion and modernization of the enterprise and secure stable growth. 4. Ensures safety of funds through creation of reserves, re-investment of profits, etc. The finance function relates to three major decisions which the finance manager has to take: 

Investment decisions



Finance decisions



Dividend decisions

Investment decision: This decision relates to the careful selection of assets in which funds will be invested by the firm. It Involves buying, holding, reducing, replacing, selling & managing assets. Common questions involving Investments include: 

In what lines of business should the firm engage?



Should the firm acquire other companies?



What sort of property, plant, equipment should the firm hold?



Should the firm modernize or sell an old production facility?

Financing decision: This involves the acquisition of funds needed to support long-term investments. While taking this decision, financial management weighs the advantages and disadvantages of the different sources of finance. The business can either finance from its shareholder funds which can be subdivided into equity share capital, preference share capital and the accumulated profits. Borrowings from outsiders include borrowed funds like debentures and loans from financial institutions.

Dividend Decision: This decision relates to the appropriation of profits earned. The two major alternatives are to retain the profits earned or to distribute these profits to shareholders. While declaring dividend, a large number of considerations are kept in mind such as: 

Trend of earnings



Stability in dividends



The trend of share market prices



The requirement of funds for future growth

 

The tax impact on shareholders

Objectives of Financial Management The objectives or goals of financial management are

Profit maximization,



Return maximization, and



Wealth maximization.

Profit maximization: Maximization of profits is generally regarded as the main objective of a business enterprise. Return Maximization: Another goal of financial management is to safeguard the economic interest of the persons who are directly or indirectly connected with the company, i.e., shareholders, creditors and employees. Wealth Maximization: Maximization of profits is regarded as the proper objective of the firm but it is not as inclusive a goal as that of maximizing its value to its shareholders. Functions of Financial Management These can be divided into two categories: Executive (or managerial) functions or Incidental (or routine) functions Executive functions: These functions involve making financial, investment and dividend decisions like: 

Financial Forecasting



Investment decisions



Managing corporate asset structure



The management of income



Management of cash



Deciding about new sources of finance



To contact and carry negotiations for new financing



Analysis and appraisal of financial performance



Advising the top management

Incidental functions: They are performed by lower level assistants like accountants, accountassistants etc. They include: 

Record keeping and reporting



Preparation of various financial statements



Cash planning and its supervision



Credit management



Custody and safeguarding different financial securities etc.



Providing top management with information on current and prospective financial conditions of the business.

Watch: Financial Management https://www.youtube.com/watch?v=TVLhPcdo-j8

Read: Strategic Financial Management https://www.investopedia.com/terms/s/strategic-financial-management.asp

Activities: Write a reaction paper with the following as guide questions. Please be as detailed as possible and use the lessons discussed in the module. 1. Summarize the video in one sentence. 2. In your own words, what is/are the main lesson/s to be taken from the module, video and reading? Explain in detail.

Module 2: FINANCIAL MARKETS, INSTITUTIONS AND INTEREST RATES OBJECTIVES: At the end of this lesson, the students are expected to: 

Discuss the term structure of interest rates and its relationship to yield curve



Differentiate financial markets and securities

Introduction First up for discussion are financial markets. Markets are the mechanisms through which buyers and sellers are brought together to exchange goods, services, and assets. These need not be a physical location, what is important thing is that buyers and sellers can communicate. Market can deal in any variety of goods and services, they aid in the transfer of goods or services, including financial securities. Financial markets are complex organizations with their own economic and institutional structures that play a critical role in determining how prices are established—or ―discovered,‖ as traders say. These structures also shape the orderliness and indeed the stability of the marketplace. The focus of this module is to introduce how financial markets work and the different types of securities traded in these. What are Securities? According to Investopedia, the term "security" is a fungible, negotiable financial instrument that holds some type of monetary value. It represents an ownership position in a publicly-traded corporation—via stock—a creditor relationship with a governmental body or a corporation— represented by owning that entity's bond—or rights to ownership as represented by an option. Securities are a group of products offered in the financial markets that are traditionally recognized in groups, categories \or segments. They are instruments issued to raise capital (through debt or equity securities) These are the general categories of securities: Type of Issuance Equity

An equity security represents ownership interest held by shareholders in an entity (a company, partnership or trust), realized in the form of shares of capital stock, which includes shares of both common and preferred stock. Holders of equity securities are typically not entitled to regular payments—although equity securities often do pay out dividends—but they are able to profit from capital gains when they sell the securities (assuming they've increased in value, naturally). Equity securities do entitle the holder to some control of the company on a pro rata basis, via voting rights. In the case of bankruptcy, they share only in residual interest after all obligations have been paid out to creditors

Debt A debt security represents money that is borrowed and must be repaid, with terms that stipulates the size of the loan, interest rate, and maturity or renewal date. Debt securities, which include government and corporate bonds, certificates of deposit (CDs) and collateralized securities (such as CDOs and CMOs), generally entitle their holder to the regular payment of interest and repayment of principal (regardless of the issuer's performance), along with any other stipulated contractual rights (which do not include voting rights). They are typically issued for a fixed term, at the end of which they can be redeemed by the issuer. Debt securities can be secured (backed by collateral) or unsecured, and, if unsecured, may be contractually prioritized over other unsecured, subordinated debt in the case of a bankruptcy. Hybrid Hybrid securities, as the name suggests, combine some of the characteristics of both debt and equity securities. Examples of hybrid securities include equity warrants (options issued by the company itself that give shareholders the right to purchase stock within a certain timeframe and at a specific price), convertible bonds (bonds that can be converted into shares of common stock in the issuing company) and preference shares (company stocks whose payments of interest, dividends or other returns of capital can be prioritized over those of other stockholders). Market Segments Money Market

The money market refers to trading in very short-term debt investments. At the wholesale level, it involves large-volume trades between institutions and traders. At the retail level, it includes money market mutual funds bought by individual investors and money market accounts opened by bank customers. In any case, the money market is characterized by a high degree of safety and a relatively low return in interest. Capital Markets Capital markets are venues where savings and investments are channelled between the suppliers who have capital and those who are in need of capital. The entities that have capital include retail and institutional investors while those who seek capital are businesses, governments, and people. The most common capital markets are the stock market and the bond market. Derivatives The derivatives market is the financial market for derivatives, financial instruments like futures contracts or options, which are derived from other forms of assets. The market can be divided into two, that for exchange-traded derivatives and that for over-thecounter derivatives. The legal nature of these products is very different, as well as the way they are traded, though many market participants are active in both.

Alternative Investments An alternative investment is a financial asset that does not fall into one of the conventional investment categories. Conventional categories include stocks, bonds, and cash. Most alternative investment assets are held by institutional investors or accredited, high-net-worth individuals because of their complex nature, lack of regulation, and degree of risk. Types of Alternative Investments •

Funds

•

Exchange-traded Funds (ETFs)

•

Hedge Funds

•

Fund of Funds

•

Venture Capital

•

Commodities

•

Real Estate

Trading Platforms Over the Counter (OTC) An over the counter (OTC) market is a decentralized market in which market participants trade stocks, commodities, currencies or other instruments directly between two parties and without a central exchange or broker. Over-the-counter markets do not have physical locations; instead, trading is conducted electronically. In an OTC market, dealers act as market-makers by quoting prices at which they will buy and sell a security, currency, or other financial products. A trade can be executed between two participants in an OTC market without others being aware of the price at which the transaction was completed. Exchange Traded Exchanges, whether stock markets or derivatives exchanges, started as physical places where trading took place. Some of the best known include the New York Stock Exchange (NYSE), which was formed in 1792, and the Chicago Board of Trade (now part of the CME Group), which has been trading futures contracts since 1851. Today there are more than a hundred stock and derivatives exchanges throughout the developed and developing world. But exchanges are more than physical locations. They set the institutional rules that govern trading and information flows about that trading. They are closely linked to the clearing facilities through which post-trade activities are completed for securities and derivatives traded on the exchange. An exchange centralizes the communication of bid and offer prices to all direct market participants, who can respond by selling or buying at one of the quotes or by replying with a different quote. Depending on the exchange, the medium of communication can be voice, hand signal, a discrete electronic message, or computer-generated electronic commands. When two parties reach agreement, the price at which the transaction is executed is communicated throughout the market. The result is a level playing field that allows any market participant to buy as low or sell as high as anyone else as long as the trader follows exchange rules. Market Participants Issuers

An issuer is a legal entity that develops, registers and sells securities to finance its operations. Issuers may be corporations, investment trusts, or domestic or foreign governments. Issuers are legally responsible for the obligations of the issue and for reporting financial conditions, material developments and any other operational activities as required by the regulations of their jurisdictions. Investors The investors are the purchasers of financial securities for the purpose of providing capital to the issuers, and making money for themselves. Underwriters An underwriter is any party that evaluates and assumes another party's risk for a fee. The fee is often a commission, premium, spread, or interest. Underwriters are critical to the financial world including the mortgage industry, insurance industry, equity markets, and common types of debt security trading. Dealers/Brokers Broker-dealers charge a fee to handle trades between the buyers and sellers of securities. A broker-dealer may buy securities from their customer who is selling or sell from their own inventory to its customer who is buying Regulatory Agencies Clearing Agencies are Self-Regulatory Organizations (SROs) that are required to register with the SEC. Like all SROs, they are responsible for writing and enforcing their rules and disciplining members. There are two types of clearing agencies -- clearing corporations and depositories.

Types of Markets Primary Market This is the new issue market, dominated by investment bankers who are experts in new issues Usually new issues are underwritten, a process in which an underwriter purchases a new issue (debt or equity) from an issuing entity (corporation, partnership, or government) at an agreedupon price then sells the issue to the public. Examples of Primary market issues are government bond issues like T-Bills, T-notes, T-bonds, and corporate bond Issues. These

undergo the underwriting process; in the securities market, underwriting involves determining the risk and price of a particular security. It is a process most commonly seen during initial public offerings, wherein investment banks first buy or underwrite the securities of the issuing entity and then sell them in the market. This ensures that the issuers of the security can raise the full amount of capital while earning the underwriters a premium in return for the service.

Secondary Market Once issues have been distributed to the public, members of the public may trade the securities among themselves; trading occurs in the secondary market. The secondary market is very important because it provides liquidity in support of the primary market, lowers costs and helps determine market pricing for new issues. The secondary market is organized with trading forums consisting of • Exchanges – e.g.. Phil. Stock Exchange, Philippine Dealing and Exchange (PDEX) Corp. • Over-the-counter market (OTC) - a network of trading rooms linked by telephone and electronic communications to facilitate trading

Watch: An Introduction to Financial Markets - MoneyWeek Investment Tutorials: https://www.youtube.com/watch?v=UOwi7MBSfhk

Read: https://www.investopedia.com/terms/m/market.asp https://www.investopedia.com/ask/answers/09/difference-between-bond-stock-market...