written by | November 8, 2022

Brief on What is Corporate Finance, Types and Details

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Table of Content


Corporate finance is a company's financial activity responsible for obtaining and managing the funds necessary to run the company. The main goal of corporate finance is to maximise shareholder value by managing the company's financial resources to minimise risk and maximise return on investment

There are three main areas of corporate finance: capital budgeting, capital structure, and working capital management. Each of these areas is important to the overall management of the company. Proper planning and decision-making in each of these areas can help the company to achieve its financial goals and maximise shareholder value. 

Key Points 

  • Corporate finance is the study of financial decisions made by firms.  
  • The goal of corporate finance is to maximise shareholder value. Shareholder value is the present value of all future cash flows from the firm.  
  • The investment decision determines which initiatives the company should invest in and is the critical choice in corporate finance.

Did you know? Due to his breadth of knowledge in valuation, corporate finance, and investment management, Aswath Damodaran, a Chennai native, has earned the title of "Dean of Valuation" across the globe. He also provides thorough, regularly updated fundamental data for valuation purposes.

What is Corporate Finance? 

In corporate finance, managers raise capital through the issuance of stocks and bonds and use this capital to finance investments in new projects. Corporate finance maximises shareholder value by making decisions that increase the firm's profitability and investing in projects with a positive net present value.  

To make these decisions, corporate finance managers must first identify and assess the risks associated with each investment. They then use financial models to determine the firm's optimal mix of debt and equity. Finally, they negotiate with banks and other financial institutions to secure the best terms for the firm's financing. 

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Meaning of Corporate Finance

Corporate finance is a company's financial activity responsible for obtaining and managing the funds necessary to run the company. This includes issuing shares, taking out loans, and managing the company's cash flow. Corporate finance is also responsible for the financial planning and forecasting of a company's future financial needs. 

Importance of Corporate Finance 

Corporate finance studies how businesses obtain funding to sustain their operations and appropriately allocate it to achieve their goals. It encompasses a wide range of topics, including the time value of money, capital budgeting, risk management, and capital structure.  

  • Corporate finance is necessary because it helps businesses decide how to use their financial resources. For example, corporate finance can help enterprises to decide whether to invest in new equipment or expand their operations. It can also help businesses assess the risks and benefits of different investment options.  
  • Corporate finance is also essential because it can help businesses manage their financial risks. For example, corporate finance can help businesses hedge against fluctuations in the stock market or interest rates, and it can also help enterprises to manage their exposure to currency risk.  

Overall, corporate finance is necessary because it provides businesses with the tools they need to make sound financial decisions. By understanding the principles of corporate finance, companies can make decisions that will help them grow and succeed in the long term. 

Corporate Finance Principles

  • Investment Principle: The firm should invest in those projects that maximise the firm’s value. The investment principle is the guideline that suggests that investors should put their money into projects that are likely to earn a return more significant than the minimum acceptable return.
  • Financing Principle: The firm should use a combination of debt and equity financing to minimise capital costs. The financing principle is the guideline that suggests that a firm should finance its investments with the cheapest source of funds. 
  • Dividend Principle: The firm should pay shareholders dividends to maximise shareholder value. The dividend principle is the guideline that a firm should pay dividends to shareholders only if the firm has excess cash. 

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Types of Corporate Finance 

There are two types of corporate finance: equity financing and debt financing. 

  • Equity financing is when a company raises money by selling shares of ownership in the company to investors. The investors become partial owners of the company and are entitled to a portion of the company's profits if any. Equity financing is often used by start-up companies that have not yet established good credit history and therefore have difficulty obtaining loans from banks. 
  • Debt financing is when a company borrows from banks or other financial institutions. The company must then repay the borrowed money, plus interest. Established companies with a good credit history often use debt financing and can obtain loans at favourable interest rates. 

Corporate Finance Example

Jobs in corporate finance involve controlling how businesses, assets, markets, investors, the government, financial institutions, and intermediaries interact. Here are a few examples of such activities: 

  • Raising capital: This refers to generating funds for the company, which can be done through equity or debt financing. Equity financing involves selling company shares to investors, while debt financing involves taking out loans from financial institutions. 
  • Managing finances refers to ensuring that the company's financial resources are used efficiently and effectively. This includes creating financial plans, monitoring cash flow, and making investment decisions.  
  • Managing risk: This refers to the process of identifying and addressing the chances that the company faces, which can include financial risks, operational risks, and market risks.  
  • Planning for growth: This refers to developing a strategy for the company's future growth, which can involve expanding into new markets, launching new products or services, or increasing capacity. 

The Goal of Corporate Finance 

The goal of corporate finance is to maximise shareholder value. This means that companies must make decisions that will increase the value of the company's stock. To do this, they must carefully consider the risks and rewards of each investment.  

Numerous categories exist for classifying financial management objectives. One classification includes official goals, operative goals, and operational goals. The overall objectives of the organisation are its official goals. It is possible to refer to the maximisation of return on investment and market value per share as the official objectives of financial management. Operational goals show what the organisation is aiming to accomplish. They aid in decision-making and are concentrated.

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Key Decisions of Corporate Finance 

There are many different types of financial decisions that companies must make. Some decisions are made daily, while others are made only occasionally.  

  • Capital budgeting is one of the essential choices that businesses have to make. Making decisions regarding which initiatives to invest in is done through this procedure. When making a capital budgeting decision, companies must consider the project's cost, the expected return on investment, and the risk involved.  
  • Another important decision that companies make is called capital structure. This is the way a company finances its activities through debt or equity. When making a capital structure decision, companies must consider the cost of borrowing, the benefits of equity, and the risks involved.   

Working Of Corporate Finance

The working of corporate finance is the process of allocating financial resources to achieve strategic objectives within an organisation. This process encompasses raising capital, investing funds, and managing cash flow. Corporate finance is the science of managing funds within a company. It's planning, organising, and controlling the financial activities of a business. Corporate finance aims to maximise shareholder value. It includes the following: 

  • Capital budgeting is making decisions about which projects to invest in.  
  • Capital structure is the way a company finances its activities through debt or equity.  
  • Working capital management. This is the process of managing a company's short-term assets and liabilities. When making a working capital management decision, companies must consider the cash flow, the level of debt, and the type of assets involved. 

Conclusion:

Corporate finance is a complex and ever-changing field. Companies must have a strong understanding of the latest economic theories and practices to make sound financial decisions. They must also be able to apply these concepts to their specific situation. 

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FAQs

Q: What are the main types of corporate finance?

Ans:

There are two main types of corporate finance: -  

  • Debt financing is when a corporation raises capital by borrowing money from lenders, and the corporation then repays the borrowed money with interest.  
  • Equity financing: This is when a corporation raises capital by selling shares of ownership in the corporation to investors. These investors then become shareholders in the corporation.

Q: What are the five fundamental roles of corporate finance?

Ans:

The five fundamental business functions are finance (or capital raising), capital budgeting, financial management, corporate governance, and risk management. These tasks are all interconnected; for instance, a business needs funding to support its capital budgeting decisions.

Q: What are the major financial decisions made by corporations?

Ans:

Corporations make three major financial decisions:  

  • Capital budgeting 
  • Capital structure: 
  • Working capital management

Q: What is the role of the corporate finance department in a company?

Ans:

The corporate finance department manages the company's financial affairs and advises on economic strategy. This includes raising capital, investing funds, and managing risks.

Q: What is corporate finance?

Ans:

Corporate finance is a branch of finance that deals with financial planning and management for corporations. It covers various topics, including capital investment decisions, capital structure management, and financial planning and forecasting.

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Disclaimer :
The information, product and services provided on this website are provided on an “as is” and “as available” basis without any warranty or representation, express or implied. Khatabook Blogs are meant purely for educational discussion of financial products and services. Khatabook does not make a guarantee that the service will meet your requirements, or that it will be uninterrupted, timely and secure, and that errors, if any, will be corrected. The material and information contained herein is for general information purposes only. Consult a professional before relying on the information to make any legal, financial or business decisions. Use this information strictly at your own risk. Khatabook will not be liable for any false, inaccurate or incomplete information present on the website. Although every effort is made to ensure that the information contained in this website is updated, relevant and accurate, Khatabook makes no guarantees about the completeness, reliability, accuracy, suitability or availability with respect to the website or the information, product, services or related graphics contained on the website for any purpose. Khatabook will not be liable for the website being temporarily unavailable, due to any technical issues or otherwise, beyond its control and for any loss or damage suffered as a result of the use of or access to, or inability to use or access to this website whatsoever.