What is ‘Corporate Finance?’
Corporate finance is the division of a company that deals with financial and investment decisions. Corporate finance is primarily concerned with maximizing shareholder value through long-term and short-term financial planning and the implementation of various strategies. Corporate finance activities range from capital investment decisions to investment banking.
REAKING DOWN ‘Corporate Finance’
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.
Corporate finance tasks include making capital investments and deploying a company’s long-term capital. The capital investment decision process is primarily concerned with capital budgeting. Through capital budgeting, a company identifies capital expenditures, estimates future cash flows from proposed capital projects, compares planned investments with potential proceeds, and decides which projects to include in its capital budget.
Making capital investments is perhaps the most important corporate finance task and can have serious business implications. Poor capital budgeting (e.g. excessive investing or under-funded investments) can compromise a company’s financial position, either because of increased financing costs or having an inadequate operating capacity.
Corporate finance is also responsible for sourcing capital in the form of debt or equity. A company may borrow from commercial banks and other financial intermediaries or may issue debt securities in the capital markets through investment banks (IB). A company may also choose to sell stocks to equity investors, especially when raising long-term funds for business expansions. Capital financing is a balancing act in terms of deciding on the relative amounts or weights between debt and equity. Having too much debt may increase default risk, and relying heavily on equity can dilute earnings and value for early investors. In the end, capital financing must provide the capital needed to implement capital investments.
Corporate finance is also tasked with short-term financial management, where the goal is to ensure that there is enough liquidity to carry out continuing operations. Short-term financial management concerns exclusively current assets and current liabilities or working capital and operating cash flows. A company must be able to meet all its current liability obligations when due. This involves having enough current assets that can be cash-ready, such as short-term investments, to avoid disrupting a company’s operations. Short-term financial management may also involve getting additional credit lines or issuing commercial papers as liquidity back-ups.