SOLUTION MANUAL
Foundations of Financial Management, 18th Edition
by Stanley Block, Geoffrey Hirt, Chapters 1 – 21, Complete
,
, Chapter 1
The Goals and Functions of Financial Management
Discussion Questions
1-1 What effect did the recession of 2007-2009 have on government regulation?
It was greatly increased.
1-2 What advantages does a sole proprietorship offer? What is a major drawback of this
type of organization?
A sole proprietorship offers the advantage of simplicity of decision making and low
organizational and operating costs. A major drawback is that there is unlimited
liability to the owner.
1-3 What form of partnership allows some of the investors to limit their liability?
Explain briefly.
A limited partnership allows some of the partners to limit their liability. Under this
arrangement, one or more partners are designated general partners and have
unlimited liability for the debts of the firm; other partners are designated limited
partners and are liable only for their initial contribution. The limited partners are
normally prohibited from being active in the management of the firm.
1-4 In a corporation, what group has the ultimate responsibility for protecting and
managing
the stockholders’ interests?
The board of directors.
1-5 What document is necessary to form a corporation?
The articles of incorporation.
1-6 What issue does agency theory examine? Why is it important in a public
corporation rather than in a private corporation?
, Agency theory examines the relationship between the owners of the firm and the
managers of the firm. In privately owned firms, management and the owners are
usually the same people. Management operates the firm to satisfy its own goals,
needs, financial requirements and the like. As a company moves from private to
public ownership, management now represents all owners. This places management
in the agency position of making decisions in the best interest of all shareholders.
1-7 What are institutional investors important in today’s business world?
Because institutional investors such as pension funds and mutual funds own a large
percentage of major U.S. companies, they are having more to say about the way
publicly owned companies are managed. As a group, they have the ability to vote
large blocks of shares for the election of a board of directors, which is supposed to run
the company in an efficient, competitive manner. The threat of being able to replace
poor performing boards of directors makes institutional investors quite influential.
Since these institutions, like pension funds and mutual funds, represent individual
workers and investors, they have a responsibility to see that the firm is managed in an
efficient and ethical way.
1-8 Why is profit maximization, by itself, an inappropriate goal? What is meant by the
goal of maximization of shareholder wealth?
The problem with a profit maximization goal is that it fails to take account of risk, the
timing of the benefits is not considered, and profit measurement is a very inexact
process. The goal of shareholders’ wealth maximization implies that the firm will
attempt to achieve the highest possible total valuation in the marketplace. It is the
one overriding objective of the firm and should influence every decision.
1-9 When does insider trading occur? What government agency is responsible for
protecting against the unethical practice of insider trading?
Insider trading occurs when anyone with non-public information buys or sells
securities to take advantage of that private information. The Securities and Exchange
Commission is responsible for protecting markets against insider trading. In the past,
people have gone to jail for trading on non-public information. This has included
company officers, investment bankers, printers who have information before it is
published, and even truck drivers who deliver business magazines and read positive
or negative articles about a company before the magazine is on the newsstands and
then place trades or have friends place trades based on that information. The SEC has
prosecuted anyone who profits from inside information.
1-10 In terms of the life of the securities offered, what is the difference between
money and capital markets?
Money markets refer to those markets dealing with short-term securities that have a
life of one year or less. Capital markets refer to securities with a life of more than
one year.
1-11 What is the difference between a primary and a secondary market?
Foundations of Financial Management, 18th Edition
by Stanley Block, Geoffrey Hirt, Chapters 1 – 21, Complete
,
, Chapter 1
The Goals and Functions of Financial Management
Discussion Questions
1-1 What effect did the recession of 2007-2009 have on government regulation?
It was greatly increased.
1-2 What advantages does a sole proprietorship offer? What is a major drawback of this
type of organization?
A sole proprietorship offers the advantage of simplicity of decision making and low
organizational and operating costs. A major drawback is that there is unlimited
liability to the owner.
1-3 What form of partnership allows some of the investors to limit their liability?
Explain briefly.
A limited partnership allows some of the partners to limit their liability. Under this
arrangement, one or more partners are designated general partners and have
unlimited liability for the debts of the firm; other partners are designated limited
partners and are liable only for their initial contribution. The limited partners are
normally prohibited from being active in the management of the firm.
1-4 In a corporation, what group has the ultimate responsibility for protecting and
managing
the stockholders’ interests?
The board of directors.
1-5 What document is necessary to form a corporation?
The articles of incorporation.
1-6 What issue does agency theory examine? Why is it important in a public
corporation rather than in a private corporation?
, Agency theory examines the relationship between the owners of the firm and the
managers of the firm. In privately owned firms, management and the owners are
usually the same people. Management operates the firm to satisfy its own goals,
needs, financial requirements and the like. As a company moves from private to
public ownership, management now represents all owners. This places management
in the agency position of making decisions in the best interest of all shareholders.
1-7 What are institutional investors important in today’s business world?
Because institutional investors such as pension funds and mutual funds own a large
percentage of major U.S. companies, they are having more to say about the way
publicly owned companies are managed. As a group, they have the ability to vote
large blocks of shares for the election of a board of directors, which is supposed to run
the company in an efficient, competitive manner. The threat of being able to replace
poor performing boards of directors makes institutional investors quite influential.
Since these institutions, like pension funds and mutual funds, represent individual
workers and investors, they have a responsibility to see that the firm is managed in an
efficient and ethical way.
1-8 Why is profit maximization, by itself, an inappropriate goal? What is meant by the
goal of maximization of shareholder wealth?
The problem with a profit maximization goal is that it fails to take account of risk, the
timing of the benefits is not considered, and profit measurement is a very inexact
process. The goal of shareholders’ wealth maximization implies that the firm will
attempt to achieve the highest possible total valuation in the marketplace. It is the
one overriding objective of the firm and should influence every decision.
1-9 When does insider trading occur? What government agency is responsible for
protecting against the unethical practice of insider trading?
Insider trading occurs when anyone with non-public information buys or sells
securities to take advantage of that private information. The Securities and Exchange
Commission is responsible for protecting markets against insider trading. In the past,
people have gone to jail for trading on non-public information. This has included
company officers, investment bankers, printers who have information before it is
published, and even truck drivers who deliver business magazines and read positive
or negative articles about a company before the magazine is on the newsstands and
then place trades or have friends place trades based on that information. The SEC has
prosecuted anyone who profits from inside information.
1-10 In terms of the life of the securities offered, what is the difference between
money and capital markets?
Money markets refer to those markets dealing with short-term securities that have a
life of one year or less. Capital markets refer to securities with a life of more than
one year.
1-11 What is the difference between a primary and a secondary market?
