BUSINESS FINANCE COURSE MATERIAL 1

Business Finance is a specialized subject of the Accounting, Business, and

Management strand, which introduces the basic concepts of corporate finance and personal
finance. The lessons have been designed to give learners the opportunity to explore the
content and performance standards set for Business Finance. It will prepare learners to
apply such learnings in real-life situations.

WHAT IS FINANCE AND FINANCIAL MANAGEMENT?

FINANCE - the science and art of managing money. (Gitman & Zutter, 2012)

- Finance is always of great importance, be it in a business or in one's everyday life. It

is important to manage risks in business, it is equally important to manage risks in life
as well. Risk is nothing but an uncertain event that might damage your assets and
when it is financial risk, it creates a loss of Finance.

FINANCIAL MANAGEMENT - deals with those decisions that are supposed to maximize the
value of shareholder’s wealth (Cayanan).

- These decisions will ultimately affect the market's perception of the company and
influence the share price.
- The goal of Financial Management is to maximize the value of shares of stocks
- Managers of a corporation are responsible for making the decisions for the company
that would lead toward shareholder wealth maximization.

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- The organizational structure of the company is important, especially in the financial

aspect of the business, and the particular set of people, each plays a role in the
decision-making of the company.
- Since the managers of the company are making decisions in the interest of the board
of directors and the board of directors does the same for the interest of the
shareholders, it follows the goal of each individual in a corporate organization should
have an objective of shareholders wealth maximization.

ROLES OF EACH POSITION IDENTIFIED

1. SHAREHOLDERS - the shareholders elect the Board of Directors (BOD). Each

share held is equal to one voting right. Since the shareholders elect the BOD, their
 responsibility is to carry out the objectives of the shareholders. Otherwise, they would
not be elected to that position.

2. BOARD OF DIRECTORS - the board of directors is the highest policy-making body

in a corporation. The board’s primary responsibility is to ensure that the corporation is
operating to serve the best interest of the stockholders.

Responsibilities of the board of directors:

a. Setting policies on investments, capital structure, and dividend policies.

b. Approving the company’s strategies, goals, and budgets.
c. Appointing and removing members of the top management including the
president.
d. Determining top management’s compensation.
e. Approving the information and other disclosures reported in the financial
statements (Cayanan, 2015)

3. PRESIDENT (CHIEF EXECUTIVE OFFICER) - the role of a president in a

corporation may vary from one company to another.

The responsibilities of a president are the following:

a. Approving the information and other disclosures reported in the financial

statements.
b. Overseeing the operations of a company and ensuring that the strategies
as approved by the board are implemented as planned.
c. Performing all areas of management: planning, organizing, staffing,
directing, and controlling.
d. Representing the company in professional, social, and civic activities.

4. VP FOR MARKETING - the following are among the responsibilities:

a. Formulating marketing strategies and plans. Directing and coordinating

company sales.
b. Performing market and competitor analysis.
c. Analyzing and evaluating the effectiveness and cost of marketing methods
applied.
d. Conducting or directing research that will allow the company to identify new
marketing opportunities, e.g. variants of the existing products/services already
offered in the market.
e. Promoting good relationships with customers and distributors. (Cayanan,
2015)

5. VP FOR PRODUCTION - the following are among the responsibilities:

a. Ensuring production meets customer demands.

b. Identifying production technology/process that minimizes production cost
and makes the company cost competitive.
c. Coming up with a production plan that maximizes the utilization of the
company’s production facilities.
d. Identifying adequate and cheap raw material suppliers. (Cayanan, 2015)

6. VP FOR ADMINISTRATION - the following are among the responsibilities:

 a. Coordinating the functions of administration, finance, and marketing
departments.
b. Assisting other departments in hiring employees.
c. Providing assistance in payroll preparation, payment of vendors, and
collection of receivables.
d. Determining the location and the maximum amount of office space needed
by the company. Identifying means, processes, or systems that will minimize
the operating costs of the company. (Cayanan, 2015)
e. The role of the Financial Manager is to determine the appropriate capital
structure of the company. Capital structure refers to how much of your total
assets are financed by debt and how much is financed by equity.

! To be able to acquire assets, our funds must have come somewhere. If it has been
bought using cash from our pockets, it has been financed by equity. On the other
hand, if we used money from our borrowings, the asset bought has financed by
debt.

WHAT ARE THE FUNCTIONS OF FINANCIAL MANAGERS?

1. FINANCING DECISIONS - include making decisions as to how to finance

long-term investments and working capital-which deals with the day-to-day
operations of the company.
2. INVESTING DECISIONS - To minimize the probability of failure, long-term
investments have been supported by a capital budgeting analysis.

3. OPERATING DECISIONS – deal with the daily operations of the company,

especially on how to finance working capital accounts such as accounts
receivable and inventories.

4. DIVIDEND POLICIES – A dividend is a part of profits that are available for

distribution, to equity shareholders. The Finance manager must decide
whether the firm should distribute all the profits or retain them or distribute a
portion and retain the balance.

The financial system links the savers and the users of funds. Savings can come from
households, individuals, companies, government agencies, or any other entity whose cash
inflows are greater than their cash outflows. The financial system through financial
intermediaries provides a mechanism by which these savings can be channeled to users of
funds, borrowers, and investors.

Some of the financial instruments issued by users of funds such as the shares of
stocks and corporate bonds of publicly listed companies and the debt securities issued by
the National Government have traded.
Differentiate the Financial instruments, financial institutions, and financial markets

1. FINANCIAL INSTITUTIONS are companies in the financial sector that provide a

broad range of business and services including banking, insurance, and investment
management. Identify examples of financial institutions/Intermediaries:

a. COMMERCIAL BANKS - Individuals deposit funds at commercial banks,

which use the deposited funds to provide commercial loans to firms and
personal loans to individuals, and purchase debt securities issued by firms or
government agencies.

b. INSURANCE COMPANIES - Individuals purchase insurance (life, property

and casualty, and health) protection with insurance premiums. The insurance
companies pool these payments and invest the proceeds in various securities
until the funds are needed to pay off claims by policyholders. Because they
often own large blocks of a firm’s stocks or bonds, they frequently attempt to
influence the management of the firm to improve the firm’s performance, and
ultimately, the performance of the securities they own.

c. MUTUAL FUNDS - Mutual funds owned by investment companies that

enable small investors to enjoy the benefits of investing in a diversified
portfolio of securities purchased on their behalf by professional investment
managers. When mutual funds use money from investors to invest in newly
issued debt or equity securities, they finance new investments by firms.
Conversely, when they invest in debt or equity securities already held by
investors, they are transferring ownership of the securities among investors.

d. PENSION FUNDS - Financial institutions that receive payments from

employees and invest the proceeds on their behalf. Other financial institutions
include pension funds like Government Service Insurance System (GSIS) and
Social Security System (SSS), unit investment trust fund (UITF), investment
banks, and credit unions, among others.

2. FINANCIAL INSTRUMENTS - a real or virtual document representing a legal

agreement involving some sort of monetary value. These can be debt securities like
corporate bonds or equity-like shares of stock. When a financial instrument is issued,
it gives rise to a financial asset on one hand and a financial liability or equity
instrument on the other.

a. A FINANCIAL ASSET is any asset that is:

• 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

b. A FINANCIAL LIABILITY is any liability that is a contractual obligation:

• To deliver cash or other financial instrument to another entity.

• To exchange financial instruments with another entity under conditions that
are potentially unfavorable. (IAS 32)
 • Examples: Notes Payable, Loans Payable, Bonds Payable

c. An EQUITY INSTRUMENT is any contract that evidences a residual interest in the

assets of an entity after deducting all liabilities. (IAS 32)

• Examples: Ordinary Share Capital, Preference Share Capital

• Identify common examples of Debt and Equity Instruments.

d. DEBT INSTRUMENTS generally have fixed returns due to fixed interest rates.
Examples of debt instruments are as follows:

• TREASURY BONDS AND TREASURY BILLS issued by the Philippine

government. These bonds and bills have usually low-interest rates and have
a very low risk of default since the government assures that there has been
paid.

• CORPORATE BONDS issued by publicly listed companies. These bonds

usually have higher interest rates than Treasury bonds. However, these
bonds are not risk-free. If the company issued the bonds goes bankrupt, the
holder of the bonds will no longer receive any return from their investment
and even their principal investment has wiped out.

f. EQUITY INSTRUMENTS generally have varied returns based on the performance

of the issuing company. Returns from equity instruments come from either dividends
or stock price appreciation. The following are types of equity instruments:

• PREFERRED STOCK has priority over common stock in terms of claims

over the assets of a company. This means that if a company has liquidated
and its assets have to be distributed, no asset be distributed to common
stockholders unless all the claims of the preferred stockholders have been
given. Moreover, preferred stockholders have also priority over common
stockholders in cash dividend declaration. Dividends to preferred
stockholders are usually at a fixed rate. No cash dividends are given to
common stockholders unless all the dividends due to preferred stockholders
are paid first. (Cayanan, 2015)

• HOLDERS OF COMMON STOCK on the other hand are the real owners of
the company. If the company’s growth is encouraging, the common
stockholders will benefit from the growth. Moreover, during a profitable period
for which a company may decide to declare higher dividends, preferred stock
will receive a fixed dividend rate while common stockholders receive all the
excess.

3. FINANCIAL MARKET - refers to a marketplace, where the creation and trading of

financial assets, such as shares, debentures, bonds, derivatives, currencies, etc.
take place. Classify Financial Markets into comparative groups:

- Primary vs. Secondary Markets • To raise money, users of funds will go to a

primary market to issue new securities (either debt or equity) through a public
offering or a private placement.
• The sale of new securities to the public is referred to as a public offering and
the first offering of stock is named an initial public offering. The sale of new
securities to one investor or a group of investors (institutional investors) is
referred to as a private placement.
 • However, suppliers of funds or the holders of the securities may decide to
sell the securities that have been purchased. The sale of previously owned
securities takes place in secondary markets.
• The PHILIPPINE STOCK EXCHANGE (PSE) is both a primary and
secondary market.

MONEY MARKETS VS. CAPITAL MARKETS

•Money markets are a venue wherein securities with short-term maturities (1

year or less) are sold. They have been created because some individuals,
businesses, governments, and financial institutions have temporarily idle
funds that they wish to invest in a relatively safe, interest-bearing asset. At the
same time, other individuals, businesses, governments, and financial
institutions find themselves in need of seasonal or temporary financing.

• On the other hand, securities with longer-term maturities are sold in Capital
markets. The key capital market securities are bonds (long-term debt) and
both common stock and preferred stock (equity, or ownership).

The role of Financial Managers: make financing decisions that require funding
from investors in the financial markets.