An Assignment
on
“How Corporate Finance ensure wealth maximization of an
organization.”
Course Name:
Course Code:
SUBMITTED TO
YYYY
Professor & Chairman
Department of Marketing
University of Dhaka
SUBMITTED BY
Arasur Rahman
Roll:
3rd Year 2nd Semester
Department of Finance
University of Dhaka
Date of Submission: May 8, 2018
Contents
1.0 Introduction ...................................................................................................................... 3
2.0 What is Corporate Finance? ............................................................................................. 3
3.0 The Three Important Activates that Govern Corporate Finance to ensure wealth
maximization of an organization ........................................................................................... 3
4.0 How Important is a Company’s Capital Structure in Corporate Finance? ....................... 5
4.0 Conclusion........................................................................................................................ 5
5.0 References ........................................................................................................................ 6
1.0 Introduction
Corporate finance is one of the most important subjects in the financial domain. It is deep
rooted in our daily lives. All of us work in big or small corporations. These corporations raise
capital and then deploy this capital for productive purposes. The financial calculations that go
behind raising and successfully deploying capital is what forms the basis of corporate finance.
Here is a short introduction:
2.0 What is Corporate Finance?
Corporate finance deals with the capital structure of a corporation including its funding and the
actions management take to increase the value of the company (Brealey et al., 2012). Corporate
finance also includes the tools and analysis utilized to prioritize and distribute financial
resources.
The ultimate purpose of corporate finance is to maximize the value of a business through
planning and implementing management resources while balancing risk and profitability.
Image: Activities of Corporate Finance (Brealey et al., 2012)
3.0 The three Important Activates that Govern Corporate Finance to ensure wealth
maximization of an organization
#1 Investments & Capital Budgeting
Investing and capital budgeting includes planning where to place the company’s long-term
capital assets in order to generate the highest risk-adjusted returns (Brigham and Houston,
2012). This mainly consists of deciding whether or not to pursue an investment opportunity
through extensive financial analysis. By using financial accounting tools, a company identifies
capital expenditures, estimates cash flows from the proposed capital projects, compares
planned investments with projected income, and decides which projects to include in the capital
budget.
Financial modeling is used to estimate the economic impact of an investment opportunity and
compare alternative projects (Brealey et al., 2012). An analyst with often use Internal Rate of
Return (IRR) in conjunction with Net Present Value (NPV) to compare projects and pick the
optimal one.
#2 Capital Financing
This core activity includes decisions on how to optimally finance the capital investments
(discussed above) through the business’ equity, debt, or a mix of both. Long-term funding for
major capital expenditures or investments may be obtained from selling company stocks or
issuing debt securities in the market through investment banks. Balancing the two sources
(equity and debt) should be closely managed because having too much debt may increase the
risk of default in repayment, while depending too heavily on equity may dilute earnings and
value for original investors (Brigham and Houston, 2012). Ultimately, it’s the job of corporate
finance professionals to optimize the company’s capital structure by lowering its Weighted
Average Cost of Capital (WACC) to be as low as possible.
#3 Dividends & Return of Capital
This activity requires corporate managers to decide whether to retain a business’s excess
earnings for future investments and operational requirements or to distribute the earnings to
shareholders in the form of dividends or share buybacks.
Retained earnings that are not distributed back to shareholders may be used to fund a business’s
expansion (Van Horne James, 2002). This can often be the best source of funds, without
incurring additional debts or diluting the value of equity by issuing more shares. At the end of
the day, if corporate managers believe they can earn a rate of return on a capital investment
that’s greater than the company’s cost of capital, they should pursue it, otherwise, they should
return that capital to shareholders via dividends or share buybacks.
4.0 How Important is a Company’s Capital Structure in Corporate Finance?
A company’s capital structure is crucial to maximizing the value of the business. Its structure
can be a combination of long-term and short-term debt or common and preferred equity
(Brigham and Houston, 2012). The ratio between a firm’s liability and its equity is often the
basis for determining how well balanced or risky capital financing is.
As stated by Arnold (2008) a company that is heavily funded by debts has a more aggressive
capital structure and therefore, potentially holds more risk for stakeholders; however, this risk
is often the primary reason for a company’s growth and success.
4.0 Conclusion
To sum up, corporate finance departments are charged with governing and overseeing their
firms' financial activities and capital investment decisions. Such decisions include whether to
pursue a proposed investment, whether to pay for the investment with equity, debt, or a hybrid
of both; and whether shareholders should receive dividends. Additionally, the finance
department manages current assets, current liabilities, and inventory control.
5.0 References
Arnold, G., 2008. Corporate financial management. Pearson education.
Brealey, R.A., Myers, S.C., Allen, F. and Mohanty, P., 2012. Principles of corporate finance.
Tata McGraw-Hill Education.
Brigham, E.F. and Houston, J.F., 2012. Fundamentals of financial management. Cengage
Learning.
Van Horne James, C., 2002. Financial Management & Policy, 12/E. Pearson Education India.
