Why Should I Study Corporate Finance?

Paper for Saint Mary’s University

This is a question I am often asked, especially by students who are not finance majors but take Corporate Finance 643 as an elective. Perhaps they intend to go into other business areas: HR, Operations, Supply Chain, Manufacturing, or IT. For many of them, finance is a mysterious dark-matter hole that they know little about and don’t understand, and in some cases don’t really see a need to understand.

As a self-confessed Finance nerd, I have a simple and hopefully compelling answer.

I begin each semester by telling my students that I see them as future senior managers and leaders of their companies. My typical students are early-mid management already, with excellent work backgrounds, and in their 30’s. The fact that they are working for an MBA at this point in their lives, with all the other responsibilities they have of family and work and travel, tells me that they have ambitions to go further in their careers.

Then I tell them that every senior manager needs to have a toolbox of skills, and the higher they rise in management, the broader and more diverse that toolbox needs to be. It has to include an understanding of every aspect of a company’s management, including HR, supply chain, IT, operations, sales, and of course finance. At a lower level, it may be enough for them to only know their own specific job (“an inch wide and a mile deep”), but as they grow in rank, it is important to know more and more about the broader picture of their company.

My favorite example is Mary Barra. Mary is 62, and has been the CEO of General Motors for the last 9 years; she is the first female CEO of the big three automakers. Mary began her career as a co-op student when she was 18, inspecting fender panels on the assembly line. From there, she gradually worked her way up, holding a variety of engineering and administrative positions, each one at a higher level of responsibility, and each step requiring her to learn more than just inspecting fender panels. She received her MBA on a GM fellowship. In 2008 she became the vice president of Global Manufacturing Engineering, then the vice president of Global Human Resources (a significant change in responsibilities from manufacturing), and in 2013 her responsibilities were expanded to include Global Purchasing and Supply Chain. Note that each advancement required her to expand her level of knowledge about other parts of GM – in other words, expanding her toolbox of skills from fender inspection to engineering, then adding human resources, NS then adding supply chain. In 2014 Mary became the CEO of GM, and has become a leader in moving GM into the era of driverless cars and electric vehicles. Now that she is the CEO, she has to have a working understanding of every element of GM’s business and operations.

The point that I am making to my students is that, as they become senior managers (and maybe one day the CEO of their company, or an entrepreneur starting their own business), they have to a toolbox of skills similar in scope to Mary’s. They will originally come from a specific discipline, perhaps operations (or fender inspection), but as the senior manager they will need to understand finance, as well as HR, supply chain, IT and sales.

There are two specific areas of finance that every senior manager needs to know, as they manage a specific part of the company – a facility, a location, a department. Those two areas of their unit’s Profit & Loss statements, and their unit’s annual capital and operational budget.

Each unit will have its own P&L, and the manager of that unit has to explain this P&L to higher management. Why did they lose money? Why did net margins go up 10%? How were costs reduced? Why did gross sales of one product grow 20% and another product decline by 10%? All of this data is presented through the P&L statement, monthly, quarterly and annually, and the manager has to account for that to the CEO and the Board. Without a strong understanding of the financial operations of the unit, the manager will not be able to clearly articulate past performances, nor plan for future performances (and probably not last long as a senior manager).

The second area is capital and operational budgeting. Each senior manager of a unit, every year, usually well before the end of the current year, will be required to present a capital and operational budget request to the CFO and CEO indicating what they need to meet the next year’s goals in terms of capital and operational spending. If the CEO says that you are expected to grow net margin by 10% next year, the senior manager’s responsibility is to delineate what operational and capital expenses are needed to attain this goal: two new CNC machines, three additional salespeople, new management software, an expansion of manufacturing space, a new facility in a different location, five new delivery vehicles? The senior manager must not only itemize these requirements, but also prove their viability and effectiveness through a detailed proforma and Net Present Value analysis. The request for additional spending will not be automatically granted, and the various senior managers are competing for a limited pool of growth capital, so the best and most profitable ideas will usually prevail. This requires the senior manager to understand the budgeting and analysis process very well.

This is why I emphasize financial statement analysis, ratio analysis, capital budgeting and Net Present Value analysis in my course. I spend very little time on bond pricing (very boring) and the Capital Asset Pricing Model – these are skills that a senior manager will rarely if ever use. But the senior manager will need to understand managerial accounting, P&L, budgeting and Net Present Value on a regular basis.

My responsibility as their professor (and, yes, a finance nerd) is to help my students acquire this specific set of toolbox skills, and they will be better senior managers for having them.