Eugene F. Brigham & Joel F.

Houston

Fundamentals of Financial
Management Concise 8E

2-1
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Chapter 1

An Overview of Financial
Management
Forms of Business Organization
Creating Value for Investors
Stockholder-Manager Conflicts
Stockholder-Debtholder Conflicts
Balancing Shareholder Interests and Society Interests
1-2
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Finance Within the Organization

Board of Directors

Chief Executive Officer (CEO)

Chief Operating Officer
(COO)

Chief Financial Officer

(CFO)

Marketing, Production,
Human Resources, and Other
Operating Departments

Accounting, Treasury, Credit,

Legal, Capital Budgeting,
and Investor Relations
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2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Forms of Business Organization

Proprietorship
Partnership
Corporation

1-4
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Proprietorships and Partnerships

Advantages

Ease of formation
Subject to few regulations
No corporate income taxes

Disadvantages

Difficult to raise capital

Unlimited liability
Limited life

Often set up through LLCs/LLPs.

1-5

2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Corporation

Advantages

Unlimited life
Easy transfer of ownership
Limited liability
Ease of raising capital

Disadvantages

Double taxation
Cost of setup and report filing
1-6
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Stock Prices and Intrinsic Value

In equilibrium, a stocks price should

equal its true or intrinsic value.

Intrinsic value is a long-run concept.

Ideally, managers should avoid actions

that reduce intrinsic value, even if those
decisions increase the stock price in the
short run.

To the extent that investor perceptions

are incorrect, a stocks price in the short
run may deviate from its intrinsic value.

1-7
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Determinants of Intrinsic Values and

Stock Prices
Managerial Actions, the Economic
Environment, Taxes, and the Political
Climate
True
Investor Cash
Flows

True
Risk

Perceived
Investor Cash
Flows

Stocks
Intrinsic
Value

Perceived
Risk

Stocks
Market Price
Market Equilibrium:
Intrinsic Value = Stock
Price

1-8

2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Stockholder-Manager Conflicts

Managers are naturally inclined to act in

their own best interests (which are not
always the same as the interest of
stockholders).

But the following factors affect

managerial behavior:

Managerial compensation packages

Direct intervention by shareholders
The threat of firing
The threat of takeover

1-9

2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Stockholder-Debtholder Conflicts

Stockholders are more likely to prefer

riskier projects, because they receive
more of the upside if the project
succeeds. By contrast, bondholders
receive fixed payments and are more
interested in limiting risk.
Bondholders are particularly concerned
about the use of additional debt.
Bondholders attempt to protect
themselves by including covenants in
bond agreements that limit the use of
1-10
additional
debt
and
constrain
managers
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.

INTRO

ORGANIZATION

CREATING VALUE

STK-MGR
CONFLICTS

STK-DBT
CONFLICTS

BAL INTERESTS

Balancing Shareholder Interests and Society

Interests

The primary financial goal of

management is shareholder wealth
maximization, which translates to
maximizing stock price.

Value of any asset is present value of cash

flow stream to owners.

Most significant decisions are evaluated in
terms of their financial consequences.
Stock prices change over time as
conditions change and as investors obtain
new information about a companys
prospects.

Managers recognize that being socially

responsible is not inconsistent with
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maximizing
shareholder
value.
2015 Cengage Learning. All Rights Reserved. May not be scanned, copied, or duplicated, or posted to a
publicly accessible website, in whole or in part.