Financial Management Lecture Notes

Financial Management Lecture Notes I. Introduction to Financial Management A. Definition and Purpose Financial Management: The process of planning, organizing, directing, and controlling an organization's financial resources to achieve its goals. Purpose: Ensure efficient use of funds, maximize profits, and create shareholder value. B. Key Objectives Profit Maximization Wealth Maximization Risk Minimization II. Financial Statements and Analysis A. Balance Sheet A snapshot of the company's financial position at a specific point in time. Components: Assets, Liabilities, Equity. Equation: Assets = Liabilities + Equity. B. Income Statement Provides a summary of the company's revenues, expenses, and net income over a specific period. Key Components: Revenue, Expenses, Gross Profit, Net Income. C. Cash Flow Statement Tracks the movement of cash in and out of the company. Categories: Operating, Investing, Financing Activities. D. Financial Ratios Liquidity Ratios: Measure short-term solvency (e.g., Current Ratio). Profitability Ratios: Evaluate the company's ability to generate profits (e.g., Net Profit Margin). Efficiency Ratios: Assess how efficiently the company utilizes its assets (e.g., Asset Turnover). III. Time Value of Money (TVM) A. Future Value (FV) FV Formula: FV = PV * (1 + r)^n Where PV is the present value, r is the interest rate, and n is the number of periods. B. Present Value (PV) PV Formula: PV = FV / (1 + r)^n Discounting future cash flows to their present value. C. Net Present Value (NPV) NPV measures the profitability of an investment. NPV Formula: NPV = Σ (Cash Flow / (1 + r)^n) IV. Risk and Return A. Risk and Types of Risk Risk: The variability in returns. Types of Risk: Systematic (market risk) and Unsystematic (company-specific) risk. B. Risk-Return Tradeoff The relationship between risk and return. Higher risk often leads to the potential for higher returns. C. Capital Asset Pricing Model (CAPM) CAPM Formula: Expected Return = Risk-Free Rate + Beta * (Market Return - Risk-Free Rate) Helps determine the expected return on an investment. V. Capital Budgeting A. Capital Budgeting Process Identification of Investment Opportunities Estimation of Cash Flows Evaluation of Cash Flows (NPV, IRR, Payback Period) Selection of Projects Post-implementation Review B. Methods for Evaluating Investments Net Present Value (NPV) Internal Rate of Return (IRR) Payback Period Profitability Index (PI) VI. Financing and Capital Structure A. Debt vs. Equity Financing Debt Financing: Borrowing funds with an obligation to repay with interest. Equity Financing: Raising capital by selling shares of ownership (equity). B. Capital Structure The mix of debt and equity used to finance a company's operations. Optimal capital structure seeks to minimize the cost of capital. VII. Dividend Policy A. Dividend vs. Retained Earnings Dividend Policy: Decision on how much profit to distribute as dividends. Retained Earnings: Profits reinvested in the company. B. Factors Influencing Dividend Policy Profitability Cash Flow Growth Opportunities Shareholder Expectations VIII. Financial Planning and Forecasting A. Budgeting Creating a financial plan for future periods. Includes sales, expenses, capital expenditures, and cash flow forecasts. B. Forecasting Methods Qualitative Forecasting (e.g., expert opinions) Time-Series Analysis Regression Analysis Financial Modeling IX. Risk Management A. Types of Risk Financial Risk Operational Risk Market Risk Credit Risk B. Risk Management Strategies Risk Avoidance Risk Reduction Risk Transfer (e.g., insurance) Risk Retention