Managerial Finance

H. JAJA SUTEJA

INTRODUCTION
FINANCIAL INSTITUTION AND CAPITAL
MARKET

Budi Hermana Magister Manajemen-Universitas Gunadarma-1

MATERI 4 KALI PERTEMUAN:

1.FINANCIAL MANAGEMENT:
An Overview (CM-1)
2. FINANCIAL SYSTEM (CM 2|3)
FINANCIAL INSTITUTION
 FINANCIAL MARKET
 FINANCIAL INSTRUMENT
 FINANCIAL SERVICES
3. FINANCIAL INSTITUTION AND
MARKET RESEARCH (CM 4).
 FINANCIAL MANAGEMENT

The Role of Finance and The Financial Manager

The art and Science of managing money
Concerned with the process, institution, markets, and
Finance ?
instrument involved in the transfer of money among and
between individuals, businesses, and governments
Financial Services
The area of finance concerned with the design and
delivery of advice and financial product to individual,
Areas& business, and governments
Opportunities?
Managerial Finance
concerned with the duties of the financial manager
in the business firm.
Budgeting
Financial forecasting Actively manage the financial
Cash management
affairs of many tipes of
Task? business- financial and non-
Credit administration
financial, private and public,
Investment Analysis large and small, profit-seeking
Funds procurement and not-for-profit
Basic Forms Of Business Organization

A Business owned by one person and operated

for his or her own profit
Small firm, unlimited liability

A Business owned by two or more persons and

operated for profit
Written contract (article of partnership), unlimited liability,
Limited partership

An Intangible business entity created by law

(often called a “legal entity”)
Stockholders, board of directors, Chief executive officer
(CEO)
 Basic Forms Of Business Organization
Legal Form
Sole Propriatorship Partenrship Corporation
•Owner receives all profits (as •Can raise more more funds •Owners have limited liability which
well as losses) than sole proprietorships guarantees they cannot lose more than
•Low organizationak costs •Borrowing power enhanced invested
•Income taxed as personnel by more owners •Can achieve large size due to marketability
income of proprietor •More available brain power of stock (ownership)
Strength

•Secrecy and managerial skill •Ownership is readily transferable

•Ease of dissolution •Can retain good employees •Long-life of firm- not dissolved by detah of
•Income taxed as personnel owners
income of partners •Can hire professional managers
•Can expand more easily due to access to
capital markets
•Receives certain tax advantages
•Owner has unlimited liability- •Owners have unlimited •Taxes generally higher since corporate
total wealth can be taken to liability and may have to income is taxed and dividends paid to owners
satisfy debts covers debts of other less ara again taxed
Weaknesses

•Limited fund-raising power financially sound partners •More expensive to organize than other
tends to inhibit growth •When a aparter dies, business forms
•Propietor must be jack-of-all- partership is dissolved •Subject to greater government regualation
trades •Difficul to liquidate or •Employees often lack personnel interest in
•Difficult to give employees transfer partership firm
long run career opportunity •Difficult to achieve large- •Lack secrecy since stockholders must
•Lacks continuity when scale operations receive financial reports
propitor dies
 The Managerial Finance Function
Since most business
decisions are measured Managerial Finance is closely related to,
in financial terms, the but quite different from, Economics and
financial manager plays Accounting
a key role in the
operation of the firm
?

Organizational View

The size and importance of the managerial finance

depend on the size of the firm

In small firm the finance function generally performed by

the accounting department
In medium-to-large-size firm
Financial Separate department, vice-president of finance (CFO),
Manager Treasurer, Controller

The officer responsible for the firm’s financial activities: financial The officer responsible for the firm
planning and fund raising, managing cash, making capital accounting activities: tax management, data
expenditure decision, managing credit activities and managing processing, and cost and financial
the investment portfolio accounting
 The Managerial Finance Function
Relationship to Economics
The Financial Manager must understand the economic framework, and be
alert to the consequences of varying levels of economic activity and changes in

?
economic policy

Must be able to use economic theories as guidelines for efficient busineness operation

Supply-demand analysis Profit-Maximazing strategies Price Theory

Marginal Analysis

Economic principle which states Example

that financial decisions should be
made and actions taken only Benefits with new computer $100.000
when the added benefit exceed Less: Benefits with old computer 35.000
the added costs (1) Marginal (Added) benefits $65.000

Cost of new computer $80.000

Less: Proceeds from sale of old com 28.000
(2) Marginal (added) costs $52.000

Net Benefit [(1) – (2)] $13.000

 The Managerial Finance Function
Relationship to Accounting
The finance and accounting function are closely related and generally overlap;
indeed, managerial finance and accounting are not often easily distinguishable. In smal
firm the controller often carries out of the finance function, and in large firms many

?
accountants are intimately involved in various finance activities
Two Basic Differences

Emphasis of cash flows Decision Making

Accrual Method vs Cash Method The accountant devotes the

majority of attention to the
Recognizes revenue at the Recognized revenues and collection and presentation of
point of sale and expenses only with respect financial data
recognized expenses when to actual inflow and outflows
incurred of cash The financial manager evaluates
Accounting View Financial View the accountant’s statements,
develops additional data, and
makes decisions based on
Income statement Income statement
ABC Corporation ABC Corporation
subsequent analyses
For the year xxxx For the year xxxx
This does not mean that
Sales Revenue $100.000 Cash inflow $ 0 accountant never make decision,
Less: Costs 80.000 Less: Cash Outflow 80.000 or that financial manager never
gather data
Net Profit $ 20.000 Net Profit ($80.000)
The Managerial Finance Function
Key Activities of The Financial Manager

Primary Activities

Performing Financial Analysis and Planning

1. Transforming financial data into a form that Performing

can be used to monitor the firm’s financial Financial Analysis
condition and Planning
2. Evaluating the need for increased (or
reduced) productive capacity
3. Determining what additional (or reduced)
Balance Sheet
financing is required

Making Investment

Making Financing
Current Current
Making Investment Decisions Assets Liabilities

Decision

Decision
Determine both the mix and the type of assets found
on the firm’s balance sheet
The left-hand side of the balance sheet Fixed Long-Term
Assets Funds
Making Financing Decision
Deals with The right-hand side of the balance
sheet and involves two major area:
1. Most appropriate mix of short-term and long-
term financing must be established
2. Which individual short-term or long-term
sources of financing are the best at given
point in time
The Managerial Finance Function
Goal of The Financial Manager

Maximize Profit?

Some pepople believe that the owner’s objective is always EPS:

to maximize profits The amount earned during the
period on each outstanding share
The Financial Manager are expected to make a major of common stock
contribution to the firm’s overall profit
For Corporation, profit are commonly measured in terms of
Earnings per Share (EPS) period’s total earnings avaliable for
the firm’s common stock holders

Earning per share (EPS) The number of shares of common

stock outstanding
Investment year 1 year 2 year 3 total
X $1.40 $1.00 $0.40 $2.80 The chance that actual outcomes
Y 0.60 1.00 1.40 3.00 √ may differs from those expected
Basic primises in managerial
finance is that trade-off exist
Profit maximization fails for reason:
between return (cash flow) and
1. Timing of return
risk
2. Cashflow avaliable to stockholder
3. Risk Return and risk are in fact the key
determinant of share price–
Stockholder are risk-averse ? which represents the wealth of the
owners in the firm
The Managerial Finance Function
Goal of The Financial Manager
Maximizing Shareholder Wealth

The goal of the financial manager

is to maximize the wealth of the
owners for whom the firm is being
managed
Timing of return (cash flow)
Measured by the share
price of the stock magnitude

Risk

Financial decisions and share price

Increase
Financial Financial Decision Return?
Manager Alternative or action Risk?
Share Yes Acept
Price ?

No

Reject
The Managerial Finance Function
Goal of The Financial Manager
The Agency Issue Management can be viewed as
agents of the owners who have
The goal of the financial manager
hired them and given them
should be to maximize the wealth
decision-making authority to
of the owners of the firm
manage the firm for the owners’
benefit

In theory In practise
Most financial managers would agree However, managers also concern with
with the goal of owner wealth their personnel wealth, job security,
maximization lifestyle, and privilege
Agency problem

To prevent or minimize problem

The likelihood that managers may place
personnel goals ahead of corporate goals
Agency Cost

Audit&control Monitoring expenditure

Fidelity bond Bonding expenditure

Managerial compensation: Structuring expenditure
stock option, performance share, cash bonuses
Opportunity cost
The Managerial Finance Function
Goal of The Financial Manager
The Role of Ethics

Ethics – Standard of conduct or

example
moral judgement

Corporate Ethics Guidelines

and Policies Responsibility

Ethics and share price Fairness

Transparency
Issues Update
Accountability
Good Corporate Governance
www.fcgi.or.id
http://www.kpk.go.id/modules/edito/content.php?id=27
http://www.bi.go.id/NR/rdonlyres/2246113B-DC63-4731-8558-3693A6254962/3449/pbi8406.pdf

Corporate Social Responsibility

http://www.goodyear-indonesia.com/social_responsibility.html
http://www.telkom.co.id/pojok-media/siaran-pers/telkom-memperoleh-penghargaan-corporate-
social-responsibility.html

Certified Financial Analyst

http://www.cfainstitute.org
PART-2
Financial institutions and markets
Financial Institutions and are important elements in a firm’s
Markets: An Overview operating environment
Firms that require funds from external
sources can obtain them in three ways ?
Financial Institution

That accept savings and transfers them to those

needing funds

Financial Market

Organized forum where the suppliers and

demanders of various type of funds can make
transaction

Private placement
Financial Institutions and Markets: An Overview
Financial Institution
An intermediary that channels the savings of
individuals, businesses, and governments into loans or
investment
Major Financial Institutions
USA Indonesia
Commercial Bank
Accepts both demand (checking) and time (savings) Bank Umum
deposits. Makes loans directly to borrowers or through the
financial market
Savings Bank BPR
Not hold demand (checking) deposits. Generally lends or
invest funds through financial markets Asuransi
Savings and Loan
Similar to a saving bank. Also raise capital through the Dana Pensiun
sale of securities. Lends funds for real estate mortgage
loans and some funds are channeled into financial market
Reksa dana
Credit Union
Deals primarily in transfer of funds between consumers.
Accept members’ deposit and lends to other members Modal Ventura
Life Insurance Company
Receive premium payments that are placed in invesments Anjak-Piutang
to accumulate funds to cover future benefit payment
Pension Fund Sewa guna usaha
Money is sometimes transferred directly to borrowers, but
the majority is lent or invested via the financial markets
Mutual Fund
Pools funds of savers and makes them available to
business and government demanders. Creates a portfolio
of securities to achieve a specified investment objective
Financial Institutions and Markets: An Overview
Financial Markets

Provide a forum in which suppliers of funds Money Market

and demanders of loans and investments Transactions in short-term debt instruments, or
can transact business directly marketable securities, take place in the money
market

Capital Market

Long-term securities (bonds and stocks) are

traded in the capital market

Primary market

Financial market in which securities are

initially issued; the only market in which
the issuer is directly involved in the
transaction
Secondary Market

Financial market in which preowned

securities (those that are not new issues)
are traded
Financial Institutions and Markets: An Overview
Financial Markets
Flow of funds for financial institutions and market

Funds Funds
Deposits/Shares Financial Loans
Institutions

Securities
Funds

Suppliers of Funds Demanders of

Private
Funds Funds
Placement
Securities

Funds Funds
Financial
Markets
Securities Securities
Financial Institutions and Markets: An Overview
The Money Market

A financial relationship created between

suppliers and demanders of short-term
funds, which have maturities of one year or
less

Certain individuals, businesses, Other individuals, businesses,

governments, and financial institution have Money gevernments, and financial
temporary idle funds that they wish to Market institution find themselves in need
place in some type of liquid asset or short- exists of seasonal or temporary
term, interest earning instrument financing

Most money market transactions are made in

marketable securities

Short-term debt instruments, such as US Treasury

Bill, Commercial Papers, and Negotiables
Certificate of Deposits issued by government,
business, and financial institution
Indonesia?
Financial Institutions and Markets: An Overview
The Capital Market

A financial relationship created by

institutions and arrangements that allows
suppliers and demanders of long-term
funds- funds with maturiry of more than Bond
one year- to make transactions. Long-term debt instrument used by business
and governments to raise large sums of
The backbone of the capital market is money
formed by the various securities exchange
that provide a forum for debt and and Common stock
equity transaction
Units of ownership interest, or equity. In a
corporation
Key Securities
Common stockholders expect to earn a return
by receiving Dividend

Periodic distribution of earnings to the owners

of stock in a firm

Preferred stock

A special form of ownership having a fixed

periodic dividend that must be paid prior
to payment of any common stock dividends
Financial Institutions and Markets: An Overview
The Capital Market

Major Securities Exchange

Provide the marketplace in 1. Organized Securities Exchanges
which firms can raise funds
through the sale of new Tangible organozations on whose premises
securities and in which outstanding securities are resold
purchasers can resell
securities New York Stock Exchange (NYSE)

To make transaction on the “floor”, individual

or firm must own a “seat” on the exchange

For “listing”, a firm must file an application and

meet a number requirements

Have at least 2000 stockholders with 100 ≤ shares

Min 1,1 million share of publicly held stock

Earning power of $2,5 million before taxes

Net tangible asset of $16 million

A total of $18 million in market value of publicly

traded shares, etc

Indonesian Stock Exchange (IDX)

Persyaratan
“listing”?
Financial Institutions and Markets: An Overview
The Capital Market

Major Securities Exchange

2. The-Over-the-Counter Exchange (OTC)

Not an organization, but an intangible market for the

purchase and sale of securities not listed by the organized
exchange

The market price of OTC securities results from a matching

of the forces of supply and demand for securities by traders
known as dealer

National Association of Securities Dealers Automated Quotation (NASDAQ)

Sophisticated telecommunications system that provide current

bid and ask prices on thousands of actively traded

The bid price is the highest price offered Automated The ask price is the lowest price at
by dealer to purchase a given security matched which the dealer is willing to sell the
security

Indonesia (Jakarta Automated Trading System)

JATS ?
Interest Rates and Required Return

Interest rates and required returns represent the

costs of obtaining various forms of financing
?
The level of funds flow between suppliers and
demanders can significantly affect economic
growth
?
Growth results from the interaction of variety of
economic factors, such as the money supply,
trade balance, and economic policy, that affect
the cost of money – the interest rate or
required return
?
The level of interest rate acts as regulating
device that controls the flow of funds
?
The lower the interest rate, the greater the
funds flow and therefore the greater the
economic growth, and vice versa
?
 Interest Rates and Required Return
Rate that creates an equilibrium
Interest Rate Fundamentals between the supply of savings and the
demand for investments funds in perfect
Interest rate world, without inflation, where funds
suppliers and demanders have no
The compensation paid by the borrower of liquidity preferences, and all
funds to the lender; from the borrower’s outcomes are certain
point of view, the cost of borrowing funds
Ignoring risk factors, the nominal or actual
interest rate (cost of funds) results from the
Required Return real rate of interest adjusted for inflationary
expectation and liquidity preferences
The level of return expected on equity
investment

D General preferences of
So investors for shorter-term
securities
S1
The actual rate of interest
Real Rate of Interest

ko * charged by the supplier of funds

and paid by demander
k1 *
The required return on a risk-free
So asset, tipically a three-month US
Treasury Bill (Obligasi Pemerintah)
k1= k* + IE + IC1
S1
D
k1= RF + IC1

So=D S1=D Risk-free Risk

rate Premium
Funds supplied/demanded
Interest Rates and Required Return
Term Structure of Interest Rates

The relationship between the interest rate or

rate of return and the time to maturity
Inverted Yield Curve
A Downward-sloping yield curve that
indicates generally cheaper long-term
Yield to maturity
borrowing costs than short-term
Annual rate of interest earned on a security borrowing costs
purchased on a given day and held to 17
maturity 16
15
Yield Curve
14
A Graph that depicts the relationship 13
between the yield to maturity (y-axis) and
the time to maturity (x-axis)
10
9
8
7 Just illustration as sample
It reflects similar borrowing costs for
both short- and longer-term loans at a certain periode
0 5 10 15 20 25 30

Normal Yield Curve

An upward-sloping yield curve that indicates generally
cheaper short-term borrowing costs than long-term-
borrowing costs
Interest Rates and Required Return
Term Structure of Interest Rates
Theory of Term Structure

1. Expectation Hypothesis Example

Theory suggesting that the yield curve reflects
Nominal Real Inflation
investor expectations about future interest rates; interest interest Expectation,
an increasing inflation expectation results in Rate, RFt Rate, k* IEt
upward-sloping yield curve, and vice versa Maturity, t (1) (2) [(1) - (2)]

2. Liquidity Preference Theory 3 Months 5,17% 2,00% 3,17%

Theory suggesting that for any given issuer, long- 1 years 6,51 2,00 4,51
term interest rates tend to be higher than sort- 8,38 2,00 6,38
5 years
term rates due to the lower liquidity and higher
responsiveness to general interest rate 30 years 9,05 2,00 7,05
movements of longer term securities; causes the
yield curve to be upward-sloping

3. Market Segmentation Theory

Theory suggesting that the market for loans is
segmented based on maturity and that the
sources of supply and demand for loans, within
each segment, determine its prevailing interest
rate; the slope of yield curve is determines by the
geberal relationship between the prevailing rates
in each segment
Interest Rates and Required Return
Term Structure of Interest Rates
Risk and Return

Risk-Return Trade-off
The expectation that for accepting greater risk,
investors must be compensated with greater
returns

Speculative Common Stocks

Qualtiy Common Stocks

Preferred Stocks
Annual Return (cost to issuer)

Medium-Grade Bonds

Investment-Grade Bonds

Investment-Grade Notes

Prime-Grade Commercial Paper

US Treasury Bills

Risk
Financial Statement
The Stockholders’ Report

A Stockholder’s report summarizes and documents a

publicly held corporation’s financial activities over the
year. Who receives theses reports? What types of
informastion do you think they typically include? Why
are they important?
1. Regulator or Goverments
?
2. Creditor (lenders)
3. Owners
4. Management ?
1. The letter to stockholders An important vehicle for
Events, management influencing owners’
philosophy, strategy, and perceptions of the company and
action its future outlook.
2. Financial statements
(a) the income statemnet, (b) The stockholders’ report may
the balance sheet, (c) the effect expected risk, return,
statement of retained stock price, and the viability
earnings, and (d) the of the firm
statements of cash flows
3. Other feature
Firm activities, new product,
R&D, etc
Basic Financial Statements
Income Statement

Provide a financial summary of the

operating results during a specified period

ABC Corporation Income Statement ($000) for the year Ended

December 31, 2000

Sales revenue $ 1.700

Less: Cost of goods sold 1.000
Gross profits $ 700
Less: Operating expenses
Selling expense $ 80
General and administrative expense 150
Depreciation expense 100
Total operating expense 330
Operating profits $ 370
Less: Interest expense 70
Net profits before taxes $ 300
Less: Taxes (rate = 40%) 120
Net profits after taxes $ 180
Less: Prefered stock dividends 10
Earning available for common stockholders $ 170 The number of
Earning per share (EPS) $ 1,70 common stock=
100.000
Basic Financial Statements
Balance Sheet
Summary statement of the firm’s financial position at given point in time
ABC Corporation Balance Sheets ($000)

December 31

Assets 2000 2001

Current assets
Cash $ 400 $ 300
Marketable securities 600 200
Account receivable 400 500
Inventories 600 900
Total current assets $ 2000 $ 1900
Gross fixed assets (at cost)
Land and buildings $ 1200 $ 1050
Machinery and equipment 850 800
Furniture and fixtures 300 220
Vehicles 100 80
Other 50 50
Total gross fixed assets (at cost) $ 2500 $ 2200
Less: Accumulated depriciation 1300 1200
Net fixed assets $ 1200 $ 1000
Total assets $ 3200 $ 2900
Basic Financial Statements
Balance Sheet
Summary statement of the firm’s financial position at given point in time

ABC Corporation Balance Sheets ($000)

December 31
Liabilities and stockholders’ equity 2000 2001
Current liabilities
Accounts payable $ 700 $ 500
Notes payable 600 700
Accruals 100 200
Total current liabilities $ 1400 $ 1400
Long-term debt $ 600 $ 400
Total liabilities $ 2000 $ 1800
Stockholders’ equity
Preferred stock $ 100 $ 100
Common stock- $1,20 par, 100000
shares outstanding in 2000&2001 120 120
Paid in capital in excess of par on
common stock 380 380
Retained earnings 600 500
Total stockholders’ equity $ 1200 $ 1100
Total liabilities and stockholders’ equity $ 3200 $ 2900
Basic Financial Statements
Statement of Retained Earning
Reconciles the net income earned during a
given year, and any cash dividends paid,
with the change in retained earnings
between the start and end of that year

ABC Corporation Statement of Retained Earnings ($000) for the end year
Ended December, 2001

Retained earnings balance (january 1, 2001) $500

Plus: Net Profit after taxes (for 2001) 180
Less: Cash dividend (paid during 2001)
Preferred stock ($10)
Common stock ( 70) 80

Retanined earnings balance (Dec 31, 2001) $600

Basic Financial Statements
Statement of Cash Flows

Provides a summary of the firm’s operating, investment, and

financing cash flows, and reconciles them with changes in its cash
and marketable securities during the period of concern
ABC Corporation Statement of Cash Flows ($000) for the end year
Ended December, 2001
Cash Flow from Operating Activities
Net Profits after taxes $ 180
Depreciation 100
Decrease in account receivable 100
Decrease in inventories 300
Increase in account payable 200
Decrease in accruals (100)
Cash provided by operating $780
Cash Flow from investment activities
Increase in gross fixed asset ($300)
Changes in business interest 0
Cash used for investment activities (300)
Cash Flow from financing Activities
Decrease in notes payable ($100)
Increase in long-term debts 200
Changes in stockholders’ equity 0
Dividends paid (80)
Cash provided by financing activities 20
Net increase in cash and marketable securities $500