Foundations of Financial Management, 18th Edition

SOLUTIONMANUAL l




FoundationsofFinancialManagement,18thEdition
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byStanleyBlock,GeoffreyHirt,Chapters1–21,Complete
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,
, Chapter1 l




The Goals and Functions of Financial Management
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DiscussionQuestions l




1-1 What effect did the recession of 2007-2009 have on government regulation?
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It was greatly increased.
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1-2 What advantages does a sole proprietorship offer? What is a major drawback of this type of
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organization?
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A sole proprietorship offers the advantage of simplicity of decision making and low
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organizational and operating costs. A major drawback is that there is unlimited liability to the
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lowner.
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1-3 What form of partnership allows some of the investors to limit their liability? Explain
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briefly.
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A limited partnership allows some of the partners to limit their liability. Under this
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arrangement, one or more partners are designated general partners and have unlimited
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l liability for the debts of the firm; other partners are designated limited partners and are
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liable only for their initial contribution. The limited partners are normally prohibited from
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being active in the management of the firm.
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1-4 In a corporation, what group has the ultimate responsibility for protecting and managing
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the stockholders’ interests?
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The board of directors. l ll ll




1-5 What document is necessary to form a corporation?
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The articles of incorporation.
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1-6 What issue does agency theory examine? Whyis it important in apublic corporation
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rather than in a private corporation?
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, Agency theory examines the relationship between the owners of the firm and the managers ll ll ll ll ll ll ll l ll ll ll ll ll



lof the firm. In privately owned firms, management and the owners are usually the same
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l people. Management operates the firm to satisfy its own goals, needs, financial requirements
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l and the like. As a company moves from private to public ownership, management now
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represents all owners. This places management in the agency position of making decisions in
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lthe best interest of all shareholders.
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1-7 What are institutional investors important in today’sbusiness world?
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Because institutional investors such as pension funds and mutual funds own a large ll ll ll ll l ll ll ll ll ll ll ll



percentage of major U.S. companies, they are having more to say about the way publicly
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l owned companies are managed. As a group, they have the ability to vote large blocks of
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l shares for the election of aboard of directors, which is supposed to run the company in an
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l efficient, competitive manner. The threat of being able to replace poor performing boards of
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ldirectors makes institutional investors quite influential. Since these institutions, like pension
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funds and mutual funds, represent individual workers and investors, they have a responsibility
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to see that the firm is managed in an efficient and ethical way.
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1-8 Why is profit maximization, by itself, an inappropriate goal? What is meant by the goal of
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maximization of shareholder wealth?
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The problem with a profit maximization goal is that it fails to take account of risk, the timing
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of the benefits is not considered, and profit measurement is a very inexact process. The goal
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of shareholders’ wealth maximization implies that the firm will attempt to achieve the
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highest possible total valuation in the marketplace. It is the one overriding objective of the
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firm and should influence every decision.
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1-9 When does insider trading occur? What government agency is responsible for protecting
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lagainst the unethical practice of insider trading?
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Insider trading occurs when anyone with non-public information buys or sells securities to
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l take advantage of that private information. The Securities and Exchange Commission is
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responsible for protecting markets against insider trading. In the past, people have gone to
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l jail for trading on non-public information. This has included company officers, investment
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bankers, printers who have information before it is published, and even truck drivers who
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deliver business magazines and read positive or negative articles about a company before
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the magazine is on the newsstands and then place trades or have friends place trades
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based on that information. The SEC has prosecuted anyone who profits from inside
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information.
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1-10 In terms of the life of the securities offered, what is the difference between money and
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capital markets?
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Money marketsrefer to those markets dealing with short-term securities that have a life of
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one year or less. Capital markets refer to securities with a life of more than one year.
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1-11 What is the difference between a primary and a secondary market?
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