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Introduction to Financial

Stocks - also known as shares, is a type of security


Management that signifies proportionate ownership in the issuing
corporation. This entitles the stockholder to that
Finance Decision - activities that involve decisions
proportion of the corporation's assets and earnings.
on where to use your money
Assets - property owned by a person or company,
Finance - can be defined as the science and art of
regarded as having value and available to meet
managing money; it is concerned with decisions
debts, commitments, or legacies.
about how much of your earnings you spend, how
Wealth Maximization - consists of a set of
much money you save or need, how you invest
activities that manage the financial resources with
your savings, and how you raise additional funds
the aim to increase the value of the stakeholders
needed.
Profit Maximization - consists of the activities that
Budgeting - the act of estimating revenue and
manage the financial resources with the aim to
expenses over a period of time
increase the profitability of the company
Revenue - income generated from sale of goods or
services, or any other use of capital or assets,
associated with the main operations of an
Two Types of Corporation
organization before any costs or expenses are
deducted
 Privately Owned - often owned by family
Capital - wealth in the form of money or assets,
members whose stocks may not be offered
taken as a sign of the financial strength of an
to outsiders unless consent by the family
individual, organization, or nation, and assumed to
members is secured.
be available for development or investment
Investment - money committed or property  Publicly Owned - owned by unrelated
acquired for future income investors and are traded in organized
exchanges like the Philippine Stock
Two Main Classes of Investments Exchange. While there are many
stockholders, there is generally a group of
investors or a family which controls each
 Fixed income investment such as bonds,
listed company. For example, in the case of
fixed deposits, preference shares.
BPI, the biggest stockholder is Ayala
 Variable income investment such as
Corporation and in the case of Banco De
business ownership (equities), or property
Oro, it is SM Investment Corporation.
ownership

Price Change - is a difference in the cost of an


Equity - represents the amount of money that
asset or security from one period to another
would be returned to a company’s shareholders if
all of the assets were liquidated and all of the
Factors that Affect the Price
company's debt was paid off.
Debt - when something, usually money, is owed by
 Profitable Operation - the degree to which
one party, the borrower or debtor, to a second party,
a business or activity yields profit or
the lender or creditor
financial gain
Capital Structure - is how a firm finances its
overall operations and growth by using different  Nature of the Business - describes what
sources of funds. the company does and includes many
components, including the type of services it
provides and how it is formed
Forms of Business Organizations  Prospects of the Business - potential
customer or client qualified on the basis or
 Sole Proprietorship - a business owned by his or her buying authority, financial
one person and operated for his or her own capacity, and willingness to buy
profit.  Appropriate Capital Structure - the market
 Partnership - a business owned by two or value per share is maximum and the cost of
more people and operated for profit. capital is minimum
 Corporation - an entity created by law  Dividend Policies - a company’s dividend
owned by shareholders. policy dictates the amount of dividends paid
out by the company to its shareholders and
the frequency with which the dividends are levels, gross national product (GNP), and
paid out. When a company makes a profit, prices (deflation or inflation).
they need to make a decision on what to do b. Political Stability - the stability of a political
with it. They can either retain the profits in system can affect the appeal of a particular
the company (retained earnings on the local market. Governments view business
balance sheet), or they can distribute the organizations as a critical vehicle for social
money to shareholders in the form of reform. Governments pass legislation,
dividends. which impacts the relationship between the
 Investing Decision - commitment of money firm and its customers, suppliers, and other
resources at different time in expectation of companies.
economic returns in future dates c. Prospects of the Industry - if economic
prospects improve, then firms will increase
investment as they expect future demand to
Market Value - the highest estimated price that a rise.
buyer would pay and a seller would accept for an d. General Market Sentiment - the general
item in an open and competitive market. prevailing attitude of investors as to
anticipated price development in a market
Factors that Affect the Market Value e. Flow of foreign funds invested in the
Philippines Stock Market - foreign
 Controllable by Management investment involves capital flows from one
country to another, granting extensive
a. Profitability - although profit is a major ownership stakes in domestic companies
driver for increasing the value of stock, an and assets.
investor should not rely on profits alone as it
is possible that the company has profits but
its cash flow is negative. Financing Decisions - include making decisions
b. Good liquidity and reasonable leverage on how to fund long term investments (such as
position - liquidity and leverage refers to company expansions) and working capital which
the company’s management of the type and deals with the day to day operations of the
amount of assets and liabilities that it will company (i.e., purchase of inventory, payment of
hold in the course of its operations. operating expenses, etc.).
c. Dividends - holders of shares receive Financial Management - the process of planning,
dividends from a corporation as returns on organizing, controlling and monitoring financial
their investments in form of cash or other resources with a view to achieve organizational
properties. Companies which have better goals and objectives
dividend policies are generally more
attractive than companies who do not pay The Corporate Organization Structure
out dividends.
d. Competent Managers - competent The corporate organization structure illustrates a
managers may have any of the following particular set of people, each playing a role in the
attributes: (1) visionary, (2) decisive, (3) decision making of the company.
people-oriented, (4) inspiring, (5) innovative,
(6) respected and (7)
experienced/seasoned manager.
e. Corporate plans that improve the
business prospects - examining a
business's internal capabilities and lays out
strategies for how to use those capabilities
to improve the company and meet goals.

 Uncontrollable External Factors


 Shareholders - the shareholders elect the
a. Macroeconomic Conditions - economic Board of Directors (BOD). Each share held
factors that influence the state of the whole is equal to one voting right. Since the BOD
economy, such as changes in employment is elected by the shareholders, their
responsibility is to carry out the objectives of
the shareholders otherwise, they would not - Identifying production technology/process that
have been elected in that position. minimizes production cost and make the company
 Board of Directors - The board of directors cost competitive.
is the highest policy making body in a - Coming up with a production plan that maximizes
corporation. The board’s primary the utilization of the company’s production facilities.
responsibility is to ensure that the - Identifying adequate and cheap raw material
corporation is operating to serve the best suppliers.
interest of the stockholders. The following
are among the responsibilities of the board  VP for Administration - the following are
of directors: among the responsibilities of VP for
Administration:
- Setting policies on investments, capital structure
and dividend policies. - Coordinating the functions of administration,
- Approving company’s strategies, goals and finance, and marketing departments.
budgets. - Assisting other departments in hiring employees.
- Appointing and removing members of the top - Providing assistance in payroll preparation,
management including the president. payment of vendors, and collection of receivables.
- Determining top management’s compensation. - Determining the location and the maximum
- Approving the information and other disclosures amount of office space needed by the company.
reported in the financial statements Identifying means, processes, or systems that will
minimize the operating costs of the company.
 President (Chief Executive Officer) - the
roles of a president in a corporation may  VP for Finance (Chief Financial Officer) -
vary from one company to another. Among the following are among the responsibilities
the responsibilities of a president are the of VP for Finance:
following:
- Financing: determining the appropriate capital
- Overseeing the operations of a company and structure of the company and raising funds from
ensuring that the strategies as approved by the debt and equity.
board are implemented as planned. - Investing: Short-term investment decisions are
- Performing all areas of management: planning, needed when the company is in an excess cash
organizing, staffing, directing and controlling. position, whereas, long-term investments should be
- Representing the company in professional, social, supported by a capital budgeting analysis which is
and civic activities. among the responsibilities of a finance manager.
- Operating: determining how to finance working
 VP for Marketing - the following are among capital accounts such as accounts receivable and
the responsibilities of VP for Marketing: inventories
- Dividend Policies: some investors buy stocks
- Formulating marketing strategies and plans. because of the dividends they expect to receive
- Directing and coordinating company sales. from the company. Non-declaration of dividends
- Performing market and competitor analysis. may disappoint these investors. Hence, it is the role
- Analyzing and evaluating the effectiveness and of a financial manager to determine when the
cost of marketing methods applied. company should declare cash dividends.
- Conducting or directing research that will allow the
company identify new marketing opportunities, e.g.
variants of the existing products/services already Cash Dividend - funds or money paid to
offered in the market. stockholders generally as part of the corporation's
- Promoting good relationships with customers and current earnings or accumulated profits
distributors Financial Markets – organized forums in which the
suppliers and users of various types of funds can
 VP for Production - the following are make transactions directly
among the responsibilities of VP for Financial Institutions – intermediaries that
Production: channel the savings of individuals, businesses, and
governments into loans or investments.
- Ensuring production meets customer demands. Private Placements - the sale of a new security
directly to an investor or group of investors.
Public Offering - The sale of either bonds or
stocks to the general public.  Financial Asset – a financial asset can be
Financial Instruments - is a real or a virtual any of the following:
document representing a legal agreement involving
some sort-of monetary value - Cash
- An equity instrument of another entity
- A contractual right to receive cash or
another financial asset from another entity.
- A contractual right to exchange instruments
with another entity under conditions that are
potentially favorable. (IAS 32.11)

Examples: Notes Receivable, Loans Receivable,


Investment in Stocks, Investment in Bonds

Notes Receivable - an asset of a company,


bank or other organization that holds a written
Financial System - set of implemented procedures promissory note from another party
that track the financial activities of the company; the Loans Receivable - an asset account in a
system that covers financial transactions and the bank's general ledger that indicates the
exchange of money between investors, lender and amounts owed by borrowers to the bank as of a
borrowers. given date
Bonds - also known as a fixed-income security,
Different Levels of Financial System is a debt instrument created for the purpose of
raising capital. They are essentially loan
 Firm-Specific - financial system agreements between the bond issuer and an
encompasses all aspects of finances. For investor, in which the bond issuer is obligated to
example, it would include accounting pay a specified amount of money at specified
measures, revenue and expense schedules, future dates.
wages and balance sheet verification.
 Regional - enables lenders and borrowers  Financial Liability - a contractual
to exchange funds; include banks and other obligation to:
financial institutions, financial markets,
financial services. - deliver cash or other financial instrument to
 Global - a broader regional system that another entity; and
encompasses all financial institutions, - exchange financial instruments with another
borrowers and lenders within the global entity under conditions that are potentially
economy. In a global view, financial systems unfavorable. (IAS 32)
would include the International Monetary
Fund, central banks, World Bank and major Examples: Notes Payable, Loans Payable, Bonds
banks that practice overseas lending. Payable

Proof of Transaction - evidence that identifies the Notes Payable - a liability in writing that promises
supplier, the date of the supply and the goods or to pay a specific amount of money at future date or
services supplied to a purchaser so that the on demand
demander will be able to repay the supplier on time Loans Payable - amounts that have been loaned
and at the right amount to the company and that it still owes.
Bonds Payable - a form of long-term debt usually
issued by corporations, hospitals, and
 Verbal Agreement - the terms of which
governments. The issuer of bonds makes a formal
have been agreed by spoken
promise/agreement to pay interest usually every six
communication
months (semiannually) and to pay the principal or
 Written Agreement - the contract is a
maturity amount at a specified date some years in
written document
the future.

Types of Financial Instrument


 Equity Instrument - is any contract that dividend income or appreciation in the financial
evidences a residual interest in the assets asset’s price.
of an entity after deducting all liabilities
Debt Securities - a negotiable or tradable liability
Examples: Ordinary Share Capital, Preference or loan
Share Capital Dividend Income - refers to any distribution of
company earnings to shareholders from stocks or
Ordinary Share Capital - the capital that is mutual funds you own
received or given by the owners of a business in Appreciation - an increase in the value of an asset
exchange for shares over time. The increase can occur for a number of
Preference Share Capital - money that a company reasons, including increased demand or weakening
has from selling preference shares and can be supply, or as a result of changes in inflation or
redeemed after a specified period. Shareholders interest rates. This is the opposite of depreciation,
with these shares must be paid before those with which is a decrease over time.
ordinary shares when a company is paying
dividends or if it goes bankrupt
Debt Instruments - a paper or electronic obligation
The following are types of equity instruments: that enables the issuing party to raise funds by
promising to repay a lender in accordance with
Preferred Stock has priority over a common stock terms of a contract. Examples of debt instruments
in terms of claims over the assets of a company. are as follows:
This means that if a company were to be liquidated
and its assets have to be distributed, no asset will  Treasury Bonds and Treasury Bills are
be distributed to common stockholders unless all issued by the Philippine government. These
the claims of the preferred stockholders have been bonds and bills have usually low interest
given. Moreover, preferred stockholders have also rates and have very low risk of default since
priority over common stockholders in cash dividend the government assures that these will be
declaration. Dividends to preferred stockholders are paid.
usually in a fixed rate. No cash dividends will be  Corporate Bonds are issued by publicly
given to common stockholders unless all the listed companies. These bonds usually have
dividends due to preferred stockholders are paid higher interest rates than Treasury bonds.
first. However, these bonds are not risk-free. If
the company which issued the bonds goes
Holders of Common Stock on the other hand are bankrupt, the holder of the bonds will no
the real owners of the company. If the company’s longer receive any return from their
growth is spurring, the common stockholders will investment and even their principal
benefit on the growth. Moreover, during a profitable investment can be wiped out.
period for which a company may decide to declare
higher dividends, preferred stock will receive a fixed
dividend rate while common stockholders receive Classification of Financial Markets into
all the excess. Comparative Groups

a. Primary vs. Secondary Markets


Suppliers of Funds - the holders of financial
assets - To raise money, users of funds will go to a
Users of Funds - makers of financial liabilities and primary market to issue new securities
equity instruments (either debt or equity) through a public
offering or a private placement.
When companies are in need of funding, they either - The sale of new securities to the general
sell debt securities (or bonds) or issue equity public is referred to as a public offering and
instruments. The proceeds from the sale of the debt the first offering of stock is called an initial
securities and issuance of bonds will be used to public offering. The sale of new securities to
finance the company’s plans. On the other hand, one investor or a group of investors
investors buy debt securities of equity instruments (institutional investors) is referred to as a
in hopes of receiving returns through interest, private placement.
- However, suppliers of funds or the holders the proceeds in various securities until the
of the securities may decide to sell the funds are needed to pay off claims by
securities that have previously been policyholders. Because they often own large
purchased. The sale of previously owned blocks of a firm’s stocks or bonds, they
securities takes place in secondary markets. frequently attempt to influence the
- The Philippine Stock Exchange (PSE) is management of the firm to improve the
both a primary and secondary market. firm’s performance, and ultimately, the
performance of the securities they own.
 Mutual Funds - mutual funds are owned by
investment companies which enable small
investors to enjoy the benefits of investing in
b. Money Markets vs. Capital Markets a diversified portfolio of securities
purchased on their behalf by professional
- Money markets are a venue wherein investment managers. When mutual funds
securities with short-term maturities (1 year use money from investors to invest in newly
or less) are sold. They are created because issued debt or equity securities, they
some individuals, businesses, governments, finance new investment by firms.
and financial institutions have temporarily Conversely, when they invest in debt or
idle funds that they wish to invest in a equity securities already held by investors,
relatively safe, interest-bearing asset. At the they are transferring ownership of the
same time, other individuals, businesses, securities among investors.
governments, and financial institutions find  Pension Funds - financial institutions that
themselves in need of seasonal or receive payments from employees and
temporary financing. invest the proceeds on their behalf.
- On the other hand, securities with longer-  Other financial institutions include pension
term maturities are sold in Capital markets. funds like Government Service Insurance
The key capital market securities are bonds System (GSIS) and Social Security System
(long-term debt) and both common stock (SSS), unit investment trust fund (UITF),
and preferred stock (equity, or ownership). investment banks, and credit unions, among
others.
Public Offering - the sale of either bonds or stocks
to the general public.
Private Placement - the sale of a new security
directly to an investor or group of investors.
Secondary Market - financial market in which
preowned securities (those that are not new issues)
are traded.
Money Market - a financial relationship created
between suppliers and users of short-term funds.
Capital Market - a market that enables suppliers
and users of long-term funds to make transactions.

Examples of Financial Institutions

 Commercial Banks - individuals deposit Financial Manager - makes financing decisions


funds at commercial banks, which use the that require funding from investors in the financial
deposited funds to provide commercial markets
loans to firms and personal loans to Financial Market - provides a forum in which firms
individuals, and purchase debt securities can issue securities to obtain the funds that they
issued by firms or government agencies. need and in which investors can purchase
 Insurance Companies - individuals securities to invest their funds
purchase insurance (life, property and Investor - provides the funds that are to be used by
casualty, and health) protection with financial managers to finance corporate growth.
insurance premiums. The insurance
companies pool these payments and invest