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Questions and Answers
What is a key disadvantage of forming a corporation?
How is income from a partnership taxed?
What is the primary goal of financial management in a corporation?
What does the agency problem refer to in a corporation?
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How are managers incentivized to act in the interests of stockholders?
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What is the primary purpose of a firm's activities in corporate finance?
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What type of business structure allows for unlimited liability for its owner?
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In a general partnership, how is liability handled among partners?
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What is a requirement for a limited partnership?
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How does a sole proprietorship's profits get taxed?
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What limits the equity available to a sole proprietorship?
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Which type of partnership allows some partners to limit their liability?
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Why might it be difficult for a partnership to raise large amounts of cash?
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Study Notes
Introduction to Corporate Finance
- Corporate finance involves making investment decisions to start a firm and create value through the generation of cash and profit.
- Asset investment includes inventory, machinery, land, and labor, equating cash outflows for assets with cash inflows from financing.
- The primary goal of a firm is to create value for its owner.
Types of Corporate Firms
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Sole Proprietorship
- Owned by a single individual.
- Cost-effective and easy to establish, with no corporate income taxes.
- Profits are taxed as personal income, exposing the owner to unlimited liability.
- Business lifespan is tied to the owner's life; equity is limited to personal wealth.
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Partnership
- Formed by two or more individuals.
- General Partnership: All partners share workload, profits, and liabilities for debts.
- Limited Partnership: Limits liability for some partners to their capital contribution; at least one partner must manage the business.
- Income is taxed as personal income, and management control is typically held by general partners.
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Corporation
- Ownership is represented by shares of stock.
- Offers unlimited lifespan and limits liability to the amount invested in shares.
- Easier to raise capital than sole proprietorships and partnerships, but faces double taxation on profits and dividends distributed to shareholders.
Financial Manager
- In larger corporations, a Chief Financial Officer (CFO) oversees finance activities, with subordinates such as the treasurer and controller.
- The financial manager's primary objective is to act in shareholders' best interests and maximize the stock's current value.
The Agency Problem
- An agency relationship exists between stockholders (principals) and management (agents), leading to potential conflicts of interest known as agency problems.
- To align interests, managerial compensation is often tied to firm performance, such as stock options that increase in value as stock price rises.
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Description
This quiz explores the fundamental concepts of corporate finance, including investment in assets and the matching of cash flows. It is designed to help you understand the core principles that underpin financial decision-making in a corporate setting. Test your understanding of the basics of corporate finance and its importance in starting and running a firm.
