Business Finance - Shareholders' Wealth Maximization PDF

Chapter 1 INTRODUCTION TO FINANCIAL MANAGEMENT SHAREHOLDERS' WEALTH MAXIMIZATION GRADE 12 BUSINESS FINANCE ACCOUNTANCY, BUSINESS, AND MANAGEMENT STRAND  GRADE 12 BUSINESS FINANCE ACCOUNTANCY, BUSINESS, AND MANAGEMENT STRAND Subject Description: This course deals...

Chapter 1 INTRODUCTION TO FINANCIAL MANAGEMENT SHAREHOLDERS' WEALTH MAXIMIZATION GRADE 12 BUSINESS FINANCE ACCOUNTANCY, BUSINESS, AND MANAGEMENT STRAND  GRADE 12 BUSINESS FINANCE ACCOUNTANCY, BUSINESS, AND MANAGEMENT STRAND Subject Description: This course deals with the fundamental principles, tools, and techniques of the financial operation involved in the management of business enterprises. It covers the basic framework and tools for financial analysis and financial planning and control, and introduces basic concepts and principles needed in making investment and financing decisions. Introduction to investments and personal finance are also covered in the course. Using the dual-learning approach of theory and application, each chapter and module engages the learners to explore all stages of the learning process from knowledge, analysis, evaluation, and application to preparation and development of financial plans and programs suited for a small business.  Learning Competencies define finance distinguish a financial institution from financial instrument and financial market explain the major role of financial management and the different individuals involved enumerate the varied financial institutions and their corresponding services compare and contrast the varied financial instruments explain the flow of funds within an organization – through and from the enterprise—and the role of the financial manager WHAT IS FINANCE? Lawrence J. Gitman and Chad J. Zutter: the study of how individuals, businesses, and institutions acquire, allocate, and manage financial resources over time. This involves making decisions about saving, investing, borrowing, and managing risk to achieve financial goals. International Monetary Fund (IMF): Finance is concerned with how individuals, businesses, and governments raise, allocate, and use money. Warren Buffett: Finance is the ability to intelligently delay gratification. Economist John Maynard Keynes: Finance is the science of confusing wealth with money.  A C C O U N T I N G V S F I N A N C E FOCUS FOCUS Accounting primarily deals with recording, classifying, summarizing, and Finance is about managing funds, investments, and financial resources to interpreting financial transactions and information. achieve specific objectives, often related to maximizing value and profitability. PURPOSE PURPOSE It provides a clear picture of a company's financial health, performance, It aims to make strategic decisions about how to raise capital, allocate and position, allowing for accurate reporting and decision-making. resources, invest, and manage risk to achieve financial goals. ACTIVITIES ACTIVITIES Accountants prepare financial statements, such as balance sheets, income Finance professionals analyze investment opportunities, assess risk-return statements, and cash flow statements. They also handle day-to-day trade-offs, make capital budgeting decisions, manage assets, and develop bookkeeping, ensuring that transactions are accurately recorded. financial strategies. SCOPE SCOPE Accounting is more concerned with historical data and compliance with Finance looks into the future by evaluating potential investment projects, accounting standards and regulations. estimating returns, and assessing the financial implications of decisions. ROLE ROLE It serves as the language of business, facilitating communication about It helps organizations plan for growth, make informed investment decisions, financial matters both within the organization and externally with manage financial risks, and optimize the use of funds. stakeholders.  3 TYPES OF FINANCE PERSONAL FINANCE CORPORATE FINANCE PUBLIC FINANCE This type of finance involves managing It deals with financial decisions made Public finance focuses on the financial an individual's financial affairs. by businesses and organizations. activities of governments and public institutions. Personal finance is all about managing It involves managing the financial activities of businesses and It focusing on the allocation of your individual financial matters to organizations to maximize shareholder resources and the provision of public achieve your financial goals and ensure goods and services. your financial well-being. value and ensure their financial stability. It includes taxation, government It involves several key aspects: budgeting, spending, budgeting, and managing managing expenses, saving, investing, It includes activities such as capital public debt. Public finance plays a and planning for retirement or major life budgeting (investment decisions), crucial role in funding public services financial analysis, risk management, and infrastructure projects. events. and determining the best ways to raise capital for growth and operations. WHAT IS FINANCIAL MANAGEMENT? Lawrence J. Gitman: "Financial management refers to the efficient and effective management of money (funds) in such a manner as to accomplish the objectives of the organization." Eugene F. Brigham and Michael C. Ehrhardt: "Financial management is concerned with the acquisition, financing, and management of assets with some overall goal in mind." Financial management encompasses the efficient and strategic management of financial resources to achieve an organization's objectives. It involves making decisions related to acquiring, allocating, and optimizing funds while considering the balance between individual and enterprise goals.  FORMS OF BUSINESS ORGANIZATION Sole Proprietorship Corporation A legal entity separate from its owners Owned and operated by a single individual. (shareholders). Simplest and least regulated form. Limited liability for shareholders; their personal Owner has full control and receives all profits. assets are protected. Unlimited personal liability for business debts. Complex formation and regulatory requirements. Offers various ownership through shares of stock. Centralized management through a board of directors. Partnership Cooperatives Business owned by two or more individuals. Owned and operated by its members (who are Partners share responsibilities, profits, and losses. also customers/employees). General partners have unlimited liability, while Goal is to provide benefits to members rather limited partners have liability limited to their than generate profit. investment. Members often have a say in decision-making. FINANCIAL MANAGEMENT IN BUSINESS ORGANIZATION Sole Proprietorship Corporation In a sole proprietorship, the owner is personally Financial management in a corporation entails planning, responsible for managing all financial aspects of the allocating, and overseeing financial resources to achieve business. They make decisions about budgeting, goals and optimize shareholder value. It covers aspects expenses, pricing, and investments. Personal and like investment decisions, financing strategies, financial business finances are often intertwined, which requires reporting, risk management, dividend policies, cash flow careful management of cash flow and personal liability management, tax planning, and supporting strategic for business debts. choices. Effective financial management ensures stability, growth, and ethical compliance. Partnership Cooperatives Partnerships share financial responsibilities and Cooperatives operate for the benefit of their members. decision-making. Partners contribute capital and share Financial management involves collecting membership profits and losses. Effective financial management fees, distributing profits, and managing funds to support involves open communication, aligning financial goals, shared goals. Decisions are often made collectively to and implementing agreed-upon financial strategies. ensure equitable financial outcomes. Partnerships should have clear agreements on how financial matters are handled. WEALTH MAXIMIZATION "Wealth maximization" refers to the primary goal of a business or an individual to maximize their wealth or financial value over time. This concept is often associated with the field of finance and is a fundamental principle guiding business decisions and investment strategies. It's closely related to the concept of shareholder wealth maximization for businesses. SHAREHOLDERS'WEALTH MAXIMIZATION Shareholder wealth maximization is a fundamental concept in corporate finance and business management. It refers to the primary objective of a company to make decisions and take actions that maximize the value of the company's stock or shares, thereby benefiting its shareholders. This concept underscores the idea that the ultimate goal of a company is to create value for its owners, who are the shareholders.  KEY FACTORS THAT PLAY A ROLE IN WEALTH MAXIMIZATION Shareholder wealth maximization is a core concept in corporate finance and management. It involves a company's primary goal of making decisions that increase the value of its stock, benefiting shareholders through capital growth and dividends. Key aspects of this concept include: Focus on Shareholders: Trade-offs: Prioritizes shareholders' interests, aiming to boost Considers trade-offs between investments' upfront stock value and returns. costs and future profitability. Long-Term Perspective: Transparency: Emphasizes sustainable growth over short-term Demands transparent and accountable decision- gains. making. Value Creation: Risk Management: Focuses on creating value beyond mere revenue or Balances risk and return for long-term stability. profits. Market Value: Ethical Approach: Reflected in rising stock prices due to decisions Seeks value creation while adhering to ethical positively impacting cash flows and growth. standards. Importantly, shareholder wealth maximization doesn't dismiss other stakeholders' interests. Many believe that satisfying shareholders can positively influence other stakeholders. However, achieving a balance between shareholder value and broader stakeholder concerns remains a subject of ongoing discussion. Overall, this principle guides businesses toward strategies that enhance long-term shareholder value. HOW TO MEASURE SHAREHOLDERS' WEALTH? Here are some very common ways to measure shareholder wealth: Stock Price Performance Tracking the increase in the company's stock price over time reflects the value created for shareholders. Dividends Consistent dividend payments provide shareholders with direct returns on their investments. Total Shareholder Return (TSR) Combining stock price appreciation and dividends offers a holistic view of shareholder value growth. Earnings Per Share (EPS) Growth Higher EPS indicates increased profitability and potential for stock price growth. Market Capitalization A growing market capitalization signifies increasing value for shareholders. These basic measures provide a snapshot of how well a company's strategies and actions are contributing to the maximization of shareholder wealth.  Example: XYZ CORPORATION 3. Total Shareholder Return (TSR): Initial Stock Price: $50 per share Total Shareholder Return = Stock Price Increase + Total Dividend Initial Earnings Per Share (EPS): $4 Payout Dividends per Share: $2 Number of Outstanding Shares: 1,000,000 Total Shareholder Return = $10 + $2,000,000 = $2,000,010 1. Stock Price Performance: 4. Earnings Per Share (EPS) Growth: Let's say the stock price has appreciated over the year to Let's assume the EPS has grown to $5. $60 per share. EPS Growth = New EPS - Initial EPS Stock Price Increase = $60 - $50 = $10 per share EPS Growth = $5 - $4 = $1 per share 2. Dividends: Total Dividend Payout = Dividends per Share × Number of 5. Market Capitalization: Outstanding Shares Market Capitalization = Stock Price × Number of Outstanding Shares Total Dividend Payout = $2 × 1,000,000 = $2,000,000 Market Capitalization = $60 × 1,000,000 = $60,000,000 Please note that these computations are for illustrative purposes and based on fictional data. In real-world scenarios, there are various factors that can influence these measures, including market conditions, company performance, economic trends, and more. CONCLUSION In conclusion, shareholder wealth maximization is a fundamental concept in corporate finance that underscores a company's primary goal of creating value for its shareholders. This objective is pursued by making decisions and taking actions that lead to an increase in the value of the company's stock over time. Several key indicators are used to measure the success of shareholder wealth maximization. These measures collectively provide insights into the effectiveness of a company's strategies, decision-making, and overall performance in maximizing shareholder wealth. However, it's important to recognize that these indicators are influenced by a range of factors, both internal and external, and should be evaluated within the context of the company's industry, economic conditions, and competitive landscape. Striking a balance between short-term gains and long- term value creation is key to sustainable shareholder wealth maximization. Thank You For Your Attention GRADE 12 BUSINESS FINANCE ACCOUNTANCY, BUSINESS, AND MANAGEMENT STRAND