The Scope Of Corporate Finance

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The Scope Of Corporate Finance

• Professor Dr. Rainer Stachuletz
• Corporate Finance
• Berlin School of Economics

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Finance Career Opportunities
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Raising Capital Key Facts
Most financing comes from internal rather than
external sources (pecking order).
Most external financing issued as debt
Primary vs. secondary market transactions or
offerings
Traditional financial intermediaries (banks)
declining as a source of capital for large firms
Securities markets growing in importance
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Growth in Global Security Issues,1990-2003
Bn
Global debt equity
U.S. Issuers worldwide
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Role of The Financial Manager
Financial
Financial
Firm's
manager
operations
markets
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Corporate Finance Functions
Corporate Finance Functions
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Dimensions of the External Financing Function
Equity vs. debt
Funding via capital market vs. via financial
intermediary
Public vs. private capital markets
Going public
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The Capital Budgeting Function
Select investments for which the marginal
benefits exceed the marginal costs.
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The Financial Management Function
Managing daily cash inflows and outflows
Forecasting cash balances
Building long-term financial plans
Choosing the right mix of debt and equity
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The Risk Management Function
Managing the firms exposure to significant risks
Interest rate risk
Exchange rate risk
Commodity price risk
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The Corporate Governance Function
Ensuring that managers pursue shareholders
objectives
Takeover market disciplines firms that dont
govern themselves.
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What Should Managers Maximize?

• Profit maximization as goal
• Does not account for timing of returns
• Profits - not necessarily cash flows
• Ignores risk

Maximize shareholder wealth

• Maximize stock price, not profits
• Accounts for risk
• As residual claimants, shareholders have better
  incentives to force management to maximize firm
  value than do other stakeholders.

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Separation of Ownership and Control
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Goals of The Corporation

• Shareholders desire wealth maximization
• Do managers maximize shareholder wealth?
• Managers have many constituencies stakeholders
• Agency Problems represent the conflict of
  interest between management and owners

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Managerial Goals

• Managerial goals may be different from
  shareholder goals
• Expensive perquisites
• Survival
• Independence
• Increased growth and size are not necessarily the
  same thing as increased shareholder wealth.

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Do Shareholders Control Management ?

• Shareholders vote for the board of directors, who
  in turn hire the management team.
• Compensation Schemes can be carefully constructed
  to be incentive compatible.
• There is a market for managerial talentthis may
  provide market discipline to the managersthey
  can be replaced.
• If the managers fail to maximize share price,
  they may be replaced in a hostile takeover.

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Example Moral Hazard in Financial Relations
Moral Hazard can destroy business opportunities
Increase the interest rate to 20 does not lead
to a solution
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Solution of Moral Hazard Problems By Credit
Limits
A solution should provide no incentives to the
management to follow the risky option B, i.e. the
expected values of each option should at least
equal
Expected Value Option A
Expected Value Option B