Pillai’s College of arts, Science & Commerce

Name: - Kunal A Mokashi

Class: - SYBMS/ finance
Roll no: - 5856
Subject: - Corporate Finance

Introduction to Corporate Finance

 Meaning:-
Corporate finance is the area of finance that deals with sources of funding, the capital structure of
corporations, the actions that managers take to increase the value of the firm to the shareholders, and the
tools and analysis used to allocate financial resources. The primary goal of corporate finance is
to maximize or increase shareholder value

 Function of finance in a business enterprise.

Finance serves an essential role to any company, because it has to do with a business’s funds. Business
finance departments are in charge of monitoring all the financial activities within the company, and act as
the floodgates when money comes in and goes out. Since money is the backbone and propeller of
business maneuvers, companies would be stagnant without people to manage the business’s finances.

The Finance Functions are –

 Investment Decision,
 Financial Decision,
 Dividend Decision
 Liquidity Decision.
1. Investment Decision
One of the most important finance functions is to intelligently allocate capital to long term assets. This
activity is also known as capital budgeting. It is important to allocate capital in those long term assets so
as to get maximum yield in future. Following are the two aspects of investment decision.

2. Financial Decision
Financial decision is yet another important function which a financial manger must perform. It is
important to make wise decisions about when, where and how should a business acquire funds. Funds can
be acquired through many ways and channels. Broadly speaking a correct ratio of an equity and debt has
to be maintained. This mix of equity capital and debt is known as a firm’s capital structure.

3. Dividend Decision
Earning profit or a positive return is a common aim of all the businesses. But the key function a financial
manger performs in case of profitability is to decide whether to distribute all the profits to the shareholder
or retain all the profits or distribute part of the profits to the shareholder and retain the other half in the
business.

4. Liquidity Decision
It is very important to maintain a liquidity position of a firm to avoid insolvency. Firm’s profitability,
liquidity and risk all are associated with the investment in current assets. In order to maintain a tradeoff
between profitability and liquidity it is important to invest sufficient funds in current assets. But since
current assets do not earn anything for business therefore a proper calculation must be done before
investing in current assets.

 Significance of corporate finance.

Large companies need data insights that can support them to make decisions like Shareholder’s
dividends issue, Proposals of investment options, managing of liabilities and assets and capital
investments. These areas, not exclusively though, highlight the importance of corporate
functions.
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. The ratio
between a firm’s liability and its equity is often the basis for determining how well balanced or
risky capital financing is.
A company that is heavily funded by debts has a more aggressive capital structure and therefore,
potentially holds more risk four stakeholders; however, this risk is often the primary reason for a
company’s growth and success.
The importance of corporate finance is equally divided between the
Planning finances
Here is where the comprehensions are made use of to determine the finances of the company
effectively. Decisions need to be taken on how much finance is needed, how it will be sourced,
where it will be invested, would the investment bring in profits, how much is anticipated profits
and such to decide on a firm plan-of-action.

Capital raising
This is a vital stage highlighting the importance of corporate finance and decisions taken here
will involve assessment of company assets four sources to fund investments. To raise enough
capital a company may decide to sell shares, issue debentures and shares, take bank loans, ask
creditors to invest etc. Thus, it has serious financial implications on profit and liquidity being
related to the short-term funding and managing plans of the company to finance long-term
investments.

Investments
Investments can be either on working capital or fixed assets. Fixed capital is utilized four
financing the purchase of machinery, infrastructure, buildings, technological upgrades and
property. However, working capital is required four day to day activities like raw-material
purchases, running expenses of the company, salaries and overheads and bills. There is a lot of
data analytics and foresight required before making such investments and companies will raise
funds only when they have a well-justified investment plan with good ROI before raising and
providing capital four such investments. It is an important stage in the process and relates to
excellent planning and managing of assets which directly impact the company’s health and
performance.

Risk management and financial monitoring

Persistently keep an eye on the investments is required. Risk-management aims to reduce and
mitigate the undertaken risks of investments and forms a part of the on-going monitoring
process. A lot of technology is involved with complex tools suites and technologies being
deployed to provide minute-by-minute assessments of prices and its fluctuation, risk assessment,
market trends, and monitoring of the debtor and creditor positions. The goal is to ensure higher-
returns four the investors.
 Capital Structure

The capital structure is the particular combination of debt and equity used by a company

to finance its overall operations and growth. Equity capital arises from ownership shares in a
company and claims to its future cash flows and profits. Debt comes in the form of bond issues
or loans, while equity may come in the form of common stock, preferred stock, or retained
earnings. Short-term debt is also considered to be part of the capital structure.

Importance of Capital Structure

Capital structure is vital for a firm as it determines the overall stability of a firm. Here are some
of the other factors that highlight the importance of capital structure
 A firm having a sound capital structure has a higher chance of increasing the market price of
the shares and securities that it possesses. It will lead to a higher valuation in the market.
 A good capital structure ensures that the available funds are used effectively. It prevents over
or under capitalization.
 It helps the company in increasing its profits in the form of higher returns to stakeholders.
 A proper capital structure helps in maximizing shareholder’s capital while minimizing the
overall cost of the capital.
 A good capital structure provides firms with the flexibility of increasing or decreasing the
debt capital as per the situation.

Optimal Capital Structure

The optimal capital structure of a company refers to the proportion in which it structures
its equity and debt. It is designed to maintain the perfect balance between maximizing
the wealth and worth of the company and minimizing its cost of capital.
The objective of a company is to determine the lowest weighted average cost of capital (WACC)
while deciding on its capital structure. The WACC is the weighted average of its cost of
equity and debt. It is not mandatory for a company to take any debt.
A company can have a capital structure that is all-equity, or a structure with minimal debt. It also
depends on the industry the company belongs to because standard capital structures vary from
industry to industry and whether the company is a private or public company.
EBIT/EPS Analysis
EBIT/EPS analysis gives a scientific basis for comparison among various financial plans and
shows ways to maximize EPS. Hence EBIT/EPS analysis may be defined as ‘a tool of financial
planning that evaluates various alternatives of financing a project under varying levels of EBIT
and suggests the best alternative having highest EPS and determines the most profitable level of
EBIT’.
The EBIT-EBT analysis is the method that studies the leverage, i.e. comparing alternative
methods of financing at different levels of EBIT. Simply put, EBIT-EPS analysis examines the
effect of financial leverage on the EPS with varying levels of EBIT or under alternative financial
plans.
It examines the effect of financial leverage on the behavior of EPS under different financing
alternatives and with varying levels of EBIT. EBIT-EPS analysis is used for making the choice
of the combination and of the various sources. It helps select the alternative that yields the
highest EPS. We know that a firm can finance its investment from various sources such as
borrowed capital or equity capital. The proportion of various sources may also be different under
various financial plans. In every financing plan the firm’s objectives lie in maximizing EPS.

Primary and Secondary capital market

Capital market is a place where buyers and sellers indulge in trade (buying/selling) of financial
securities like bonds, stocks, etc. The trading is undertaken by participants such as individuals
and institutions.
Capital market trades mostly in long-term securities. The magnitude of a nation’s capital markets
is directly interconnected to the size of its economy which means that ripples in one corner can
cause major waves somewhere else.
Types of Capital Market
1. Primary Market.
2. Secondary Market.
 Primary Market
A primary market is defined as the process wherein the market becomes a source of securities. In
the market, securities are created for the people who are investing to buy. These securities are
issued in the stock exchange markets so that the companies, as well as the government are able to
provide capital. The major function of the primary markets is to enable the company to provide
long-term funds. These funds are made by the issue of debentures. An IPO (Initial Public
Offering) is a common example of a primary market. An IPO is defined as the process wherein
the company issues stocks in the name of the public. An individual needs to have prior
knowledge of these markets before investing. The main objective of the primary market is to sell
the new shares issued.

 Secondary Market
The secondary market is defined as the place wherein the issued shares of the company are
traded among the investors. In layman's terms, the investors can easily buy or sell the shares
without the interference of the company. The secondary market can be categorized into four
segments, i.e., auction market, direct search markets, dealer market, and broker market. The
significant examples of the secondary market include BSE (Bombay Stock Exchange), NSE
(National Stock Exchange), etc. One of the major disadvantages of the secondary market is that
the price fluctuates very often. This can sometimes lead to an immediate loss of money. There
are several other features associated with secondary markets that we will discuss later. Now, let
us discuss the fundamental contrasting points between these markets.