The corporate finance department of a company oversees the capital structure of the business, including its funding and the actions that it takes to build overall value. Individuals who work in corporate finance perform analytical procedures and make recommendations to allocate resources and ensure that the company is maximizing its profitability.
While corporate finance is similar to accounting and overlaps that field in many areas, there are some key differences. Accounting is primarily concerned with historical data for financial reporting purposes, while corporate finance seeks to understand future needs and make strategic decisions designed to increase a company's value.
Analysis performed is intended to assist executives in making appropriate business decisions related to the company's current and future financial needs. These decisions are made with the intention of balancing risk and profitability.
For example, if a firm is seeking to invest in another company or asset, corporate financial analysts will perform analysis designed to determine whether the investment is a smart move for the company. If the company has stock, corporate finance will determine whether to release dividends.
What Tasks Does Corporate Finance Perform?
There are a wide variety of tasks that can be performed by the corporate finance department. Common business activities that corporate finance oversees include managing current assets, such as cash, receivables, and payables. Financial analysts may recommend policies designed to keep a certain level of cash flow available.
Capital Investments
A company uses its capital investments to earn cash flows over time and to increase the value of the business. Capital investments are long-term in nature.
The corporate finance department utilizes a capital budgeting process to identify capital expenditures, estimate future cash flows from proposed capital projects, compare planned investments with potential proceeds, and decide which cash flows to include in its capital budget.
Bad investment decisions can lead to poor company performance. Poor company performance can result in fewer funds available for further investment or a negative impact on firm cash flow. Thus, it is important for companies to make sound choices based on appropriate capital budgeting methods.
What Is a Capital Budget?
A capital budget is used to evaluate potential major projects or investments. Common projects may include purchasing a new building or a big investment in an outside venture.
When such major investments are considered, corporate finance will perform an analysis to determine whether future cash flows from the investment would cover the initial financial outlay and result in any additional income.
Of course, analysis performed on potential investments is only as good as the information provided. Thus, corporate finance analysts must ensure that they consider all factors involved in the investment, as well as any underlying information such as the impact of taxes or how competitors are performing.
What Valuation Models May Be Used in a Capital Budgeting Decision?
There are a few valuation models that are commonly used when making corporate finance decisions. These include:
Net Present Value / Discounted Cash Flow
The net present value model is used to find the future value of all cash flows (positive and negative) over the life of the investment, discounted to the present value. A positive net present value indicates a good investment decision, while a negative one would be indicative of a bad decision.
Payback Period
The payback period is one of the more simplistic valuation tools. It involves comparing the initial outlay of an investment with the returns expected over a number of years. A decision is made to purchase the investment if the payback period aligns with company goals.
Internal Rate of Return
The internal rate of return is similar to the net present value in that it compares the future cash flows with the initial outlay. However, the actual return as a percentage is compared with the company's hurdle rate. If the actual return percentage exceeds the company's hurdle rate, it is considered to be a good investment.
Other potential methods of evaluating capital budgeting decisions include a modified internal rate of return and benefit-cost ratio.
Capital Financing
The process of capital financing involves finding sources for funding in the form of debt or equity. There are many avenues for obtaining financing, whether it is required to source a company's day-to-day operations or provide significant monies for expansion. Common methods for obtaining financing include:
- Working with a commercial bank for regular financing needs, such as credit cards or lines of credit
- Issue of debt securities in the capital markets through investment banks
- Sale of stocks to equity investors
Capital financing is a bit of an art. There must be a balance that allows the company to grow while not taking on too much debt that hinders it from functioning. Similarly, excessive equity can dilute the value of the company for its shareholders.
How Are Capital Financing Decisions Made?
There are several factors that can impact whether a capital financing decision is made. These include:
Cost
Obtaining funds come at a cost. Monies borrowed from a bank must be repaid with interest, while equity financing may lead to a loss of control if the investor wants to be involved in business decisions.
Risk
The larger the amount of funding secured, the more risky it becomes to the company.
Cash Flow
Debt can have an impact on cash flow, especially if there is interest associated with the borrowing.
Market Conditions
Financing is generally more available when the market is performing well.
Corporate finance will review all of these factors and then apply a valuation model before making a decision.
Short-Term Liquidity
Corporate finance is used to understand the short-term financial position of a company. This understanding includes managing the company's working capital, such as accounts payable, accounts receivable, cash, and inventory.
There can be extensive analysis put in place to determine how often customers are paying, whether enough cash exists to cover upcoming expenses and if inventory is held appropriately.
Commonly, individuals determining the short-term liquidity of a company will analyze the company's cash accounts and keep rigorous track of vendor and customer invoices. The aim is to strike a balance between cash, payables, receivables, and inventory to ensure the company operates smoothly and without any major dips in its cash position.
Investment Banking and Corporate Finance?
Often, investment banking is mentioned when discussing corporate finance. However, corporate finance is different from investment banking in many respects. Corporate finance typically focuses on short-and long-term financial decisions related to a company's business goals.
On the other hand, investment bankers work to raise capital in the public markets. They may also organize private placements of equity and debt capital and conduct merger and acquisition deals.
Investment bankers try to grow a company from a capital perspective, while corporate finance manages a company's capital and strategic finance-related decisions. They also help coordinate and execute mergers and acquisitions. Investment bankers often provide advisory services to big clients and perform complex financial analyses.
Investment bankers often work very long hours. It is not uncommon to hear of investment analysts and associates who work 80 to 100 hour weeks.
However, they may earn very large salaries. Investment banking is considered to be the premier area of finance, and those in it have often graduated from top-tier Ivy League universities. Others are able to break in after obtaining an MBA.
How Is Financial Modeling Used in Corporate Finance?
Financial modeling involves forecasting a company's performance in the future. It is normally based on the historical performance of the business and its assumptions regarding the future. When financial modeling is implemented, a set of financial statements is created, including a balance sheet, income statement, and statement of cash flows.
This approach is known as the 3-statement model. Further, more advanced types of financial models may be used on top of the 3-statement model for additional analysis. These models include discounted cash flow analysis, leveraged buyout, mergers and acquisitions, and sensitivity analysis.
What Is a Financial Model Used for?
Typically, financial models are used for executive decision-making and performing financial analysis. Common decisions that are made based on financial models include:
- Determining whether to raise capital
- Deciding if an acquisition should be made
- Calculating how to grow the business organically
- Deciding whether to sell or divest poor-performing assets and business units
- Budgeting and forecasting
- Appropriate capital allocation
- Valuing the business
- Financial statement analysis/ratio analysis
- Management accounting
However, before a decision is made that can affect the performance of the business, the accuracy of the financial model must be determined. A forecast is only as good as the factors and information that go into it. If there are inaccurate or missing details, the forecast may vary significantly from actual financial performance.
What Are the Differences Between Corporate Finance and Personal Finance?
There are a number of similarities between corporate finance and personal finance.
Individuals who work in both areas are expected to have developed an understanding of core financial topics such as investments, financial analysis, and financial modeling. However, while corporate finance caters to businesses, personal finance professionals work to meet the needs of individuals.
Personal finance typically encompasses financial planning for retirement, setting up personal investments, and mitigating tax exposure through estate planning. Often, finance professionals who have chosen personal finance careers work as financial advisors or Certified Financial Planners.
They may work for an employer or operate as a small business. Typically they serve local clients rather than national ones. They may hold regular phone calls or face-to-face meetings with their clients.
Corporate Finance Career Paths
Individuals who work in corporate finance may choose a wide variety of career paths.
Institutions
Institutions such as universities, private equity firms, and portfolio management entities have a significant need for finance-minded individuals. Common positions include:
Private Equity Analyst
A private equity analyst is responsible for managing the streams of income from various investments, as well as seeking new potential opportunities. Usually, they support deal sourcing and deal execution in the process of buying new companies or selling portfolios.
They may assist in raising funds from corporations, constructing financial models and analyses for different ventures, and creating presentations for stakeholders. Salaries for a private equity analyst vary from $100,000 to $150,000 per year.
Portfolio Manager
A portfolio manager is responsible for deciding the best investment plan for an individual or entity, designing customized investment solutions, and analyzing the performance of investments.
The focus of a portfolio manager is to meet the investment goals of their clients. Clients may be individuals or large entities. Salaries for a portfolio manager differ based on location, experience, and industry but average $94,000 per year.
Research Analyst
A research analyst collects data on potential investments, analyzes data, and builds earnings models designed to assist portfolio managers or clients with making investment decisions.
They typically spend a lot of time assessing investment performance or management performance. Their focus can include a number of different financial products, including hedge funds, quantitative investing, real estate, and multi-asset investing. Salaries average $94,000 per year.
Finance Professor
A finance professor is responsible for teaching finance fundamentals to university or college students. They prepare and present course materials, develop syllabi, assign homework, supervise testing, and provide career guidance.
They may perform research outside of their regular duties. Average salaries for finance professors vary by experience and employer but typically average $95,000.
Corporations
Roles within corporations are set to ensure that the business maximizes shareholder value. Common roles include:
Corporate Development
Individuals in corporate development roles are responsible for executing mergers, acquisitions, divestitures, and in-house capital raising for a corporation.
They work alongside investment bankers to identify acquisition targets and negotiate their purchases, as well as prepare to raise equity or debt as required. The average salary for a Corporate Development Manager is $107,000.
Investor Relations
Finance professionals working in investor relations positions are typically responsible for fielding shareholder questions, preparing documents and presentations for earnings reports, writing press releases, and speaking with current and prospective investors. The average salary for investor relations professional is $85,405.
Treasury Analyst
A treasury analyst is responsible for reviewing an organization's financial activity. They review financial transactions, examine cash flow, assess assets and liabilities, prepare treasury reports, and create financial forecasts and management strategies.
Treasury analysts provide financial planning and analysis in the conduct of daily treasury activities. They oversee corporate cash management, credit administration, administration of business insurance programs, and potentially, stock programs. Earnings for a treasury analyst average $74,000 per year.
Financial Analyst
A financial analyst is responsible for gathering data, organizing information, analyzing historical results, making forecasts and projections, suggesting recommendations to improve business performance, and generating reports. Their duties vary significantly. The average salary of a financial analyst is approximately $67,000.
Chief Financial Officer
The chief financial officer (CFO) is accountable for multiple financial and administrative areas within a company. They are responsible for developing financial and tax strategies, as well as implementing strategic business plans. Operations-wise, they are responsible for the accounting, human resources, investor relations, legal, tax, and treasury departments.
They run the company's transaction processing systems and oversee the issuance of financial information to the board of directors. The CFO is also responsible for constructing and monitoring reliable control systems.
Public Accounting
There are several different types of finance roles available in public accounting firms. Common areas that finance professionals work in include:
Valuation Associate
A valuation associate performs a range of support services to assist with auditing, assessments, and appraisals to determine the value of a business or assets. They perform comparative research to establish market value.
Valuation associates may be responsible for creating appraisals, valuation reports, and other documents. Salaries for valuation associates vary according to experience, location, and employer but average around $73,000 per year.
Transaction Advisory Analyst
A transaction advisory analyst is responsible for thoroughly reviewing financial, operational, and strategic assumptions in any potential deal, helping stakeholders gain a clear perspective on the opportunities or risks a transaction may present.
Transaction advisors may ensure the maximization of transaction success by preparing financial projections and analyzing possible results using multiple scenarios. Transaction advisory analysts typically earn an average of $88,000.
Due Diligence Analyst
A due diligence analyst is responsible for participating in meetings with external parties to perform background checks and other due diligence measures. They are responsible for assessing the risks of potential investments.
Over time, all operational due diligence professionals are expected to forge their own relationships throughout the industry. The average salary of a due diligence analyst is $68,000 per year.
Banking
Companies and individuals require the services of banks to carry out their financial activities. As a result, there are a variety of positions available in the banking sector for those in finance.
Commercial Banker
A commercial banker, also known as a business or institutional banker, helps clients with their financial needs.
They may organize loan contracts, estimate the creditworthiness of potential borrowers, handle the creation of custom financial plans for clients, or oversee the daily operations of a bank branch. The average salary for a commercial banker is $94,000 per year.
Sales and Trading
Professionals in sales and trading are responsible for pitching buy and sell recommendations to clients and then executing those trades. They may act as wholesale buyers of securities on behalf of institutional investors.
There is a lot of research that goes into deciding on appropriate sales and trades for stocks, bonds, hedge funds, and other financial instruments. Average earnings for sales and trading professionals are $85,000, but they may receive significant commissions on the trades they execute, which can boost their salaries.
Equity Research Analyst
The primary role of an equity research analyst is to advise on whether to buy, hold, or sell securities or other financial instruments.
They spend a significant amount of time analyzing the performance of companies as well as tracking various activities in a company, such as investment seminars or investor meetings. The average equity research analyst salary is $87,000.
Investment Banking Analyst
An investment banking analyst is responsible for helping their clients develop and maintain effective investments that will meet their goals. They work directly with clients to develop an understanding of their needs and then research potential investment opportunities.
If the client already has investments, they assess them to determine which ones are performing well and which ones they should consider replacing. An investment banking analyst typically earns between $63,000 and $84,000 per year.
Education Requirements for Corporate Finance Positions
Individuals who work in corporate finance positions have typically received an undergraduate degree in Finance, Accounting, or Economics. They are data-driven and thrive in environments that require lots of analysis and research. Frequently, individuals embarking on a corporate finance career path will take the role of financial analyst or something similar.
Additional education, such as obtaining an MBA or Master's of Science of Economics or Accounting, will give them upward mobility as they gain experience. There are also a variety of certifications that can assist someone in a corporate finance career. These include:
Chartered Financial Analyst
One of the top financial certifications, this certification focuses on portfolio management and investment analysis. Exam topics include ethical and professional standards, quantitative methods, financial reporting and analysis, and alternative investments.
Certified Financial Planner
A certified financial planner certification is intended for those who are interested in an investment or wealth management career. Frequently these individuals will own their own businesses that assist individuals and other small businesses with meeting short and long-term financial goals.
Certified Public Accountant
Many individuals who are focused on finance seek to obtain a certified public accountant certification. While not expressly geared towards corporate finance, this certification can be very helpful for those who want a better understanding of the financial reporting and financial accounting processes.
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