# Therapy and Treatment

## Types of Treatment

One of the goals of therapy is to help a person stop repeating and reenacting destructive patterns and to start looking for better solutions to difficult situations. This goal is reflected in the following poem:
Two types of therapy are psychotherapy and biomedical therapy. Both types of treatment help people with mental health issues, such as depression, anxiety, and schizophrenia. Psychotherapy is a psychological treatment that employs various methods to help someone overcome personal problems, or to attain personal growth. In modern practice, it has evolved into what is known as psychodynamic therapy, which will be discussed later. Biomedical therapy involves medication and/or medical procedures to treat psychological disorders. First, we will explore the various psychotherapeutic orientations outlined in  (many of these orientations were discussed in the Introduction chapter).

### Psychotherapy Techniques: Psychoanalysis

Psychoanalysis was developed by Sigmund Freud and was the first form of psychotherapy. It was the dominant therapeutic technique in the early 20th century, but it has since waned significantly in popularity. Freud believed most of our psychological problems are the result of repressed impulses and trauma experienced in childhood, and he believed psychoanalysis would help uncover long-buried feelings. In a psychoanalyst’s office, you might see a patient lying on a couch speaking of dreams or childhood memories, and the therapist using various Freudian methods such as free association and dream analysis (). In free association, the patient relaxes and then says whatever comes to mind at the moment. However, Freud felt that the ego would at times try to block, or repress, unacceptable urges or painful conflicts during free association. Consequently, a patient would demonstrate resistance to recalling these thoughts or situations. In dream analysis, a therapist interprets the underlying meaning of dreams.
Psychoanalysis is a therapy approach that typically takes years. Over the course of time, the patient reveals a great deal about himself to the therapist. Freud suggested that during this patient-therapist relationship, the patient comes to develop strong feelings for the therapist—maybe positive feelings, maybe negative feelings. Freud called this transference: the patient transfers all the positive or negative emotions associated with the patient’s other relationships to the psychoanalyst. For example, Crystal is seeing a psychoanalyst. During the years of therapy, she comes to see her therapist as a father figure. She transfers her feelings about her father onto her therapist, perhaps in an effort to gain the love and attention she did not receive from her own father.
Today, Freud’s psychoanalytical perspective has been expanded upon by the developments of subsequent theories and methodologies: the psychodynamic perspective. This approach to therapy remains centered on the role of people’s internal drives and forces, but treatment is less intensive than Freud’s original model.

### Psychotherapy: Play Therapy

Play therapy is often used with children since they are not likely to sit on a couch and recall their dreams or engage in traditional talk therapy. This technique uses a therapeutic process of play to “help clients prevent or resolve psychosocial difficulties and achieve optimal growth” (O’Connor, 2000, p. 7). The idea is that children play out their hopes, fantasies, and traumas while using dolls, stuffed animals, and sandbox figurines (). Play therapy can also be used to help a therapist make a diagnosis. The therapist observes how the child interacts with toys (e.g., dolls, animals, and home settings) in an effort to understand the roots of the child’s disturbed behavior. Play therapy can be nondirective or directive. In nondirective play therapy, children are encouraged to work through their problems by playing freely while the therapist observes (LeBlanc & Ritchie, 2001). In directive play therapy, the therapist provides more structure and guidance in the play session by suggesting topics, asking questions, and even playing with the child (Harter, 1977).

### Psychotherapy: Behavior Therapy

In psychoanalysis, therapists help their patients look into their past to uncover repressed feelings. In behavior therapy, a therapist employs principles of learning to help clients change undesirable behaviors—rather than digging deeply into one’s unconscious. Therapists with this orientation believe that dysfunctional behaviors, like phobias and bedwetting, can be changed by teaching clients new, more constructive behaviors. Behavior therapy employs both classical and operant conditioning techniques to change behavior.
One type of behavior therapy utilizes classical conditioning techniques. Therapists using these techniques believe that dysfunctional behaviors are conditioned responses. Applying the conditioning principles developed by Ivan Pavlov, these therapists seek to recondition their clients and thus change their behavior. Emmie is eight years old, and frequently wets her bed at night. She’s been invited to several sleepovers, but she won’t go because of her problem. Using a type of conditioning therapy, Emmie begins to sleep on a liquid-sensitive bed pad that is hooked to an alarm. When moisture touches the pad, it sets off the alarm, waking up Emmie. When this process is repeated enough times, Emmie develops an association between urinary relaxation and waking up, and this stops the bedwetting. Emmie has now gone three weeks without wetting her bed and is looking forward to her first sleepover this weekend.
One commonly used classical conditioning therapeutic technique is counterconditioning: a client learns a new response to a stimulus that has previously elicited an undesirable behavior. Two counterconditioning techniques are aversive conditioning and exposure therapy. Aversive conditioning uses an unpleasant stimulus to stop an undesirable behavior. Therapists apply this technique to eliminate addictive behaviors, such as  smoking, nail biting, and drinking. In aversion therapy, clients will typically engage in a specific behavior (such as nail biting) and at the same time are exposed to something unpleasant, such as a mild electric shock or a bad taste. After repeated associations between the unpleasant stimulus and the behavior, the client can learn to stop the unwanted behavior.
Aversion therapy has been used effectively for years in the treatment of alcoholism (Davidson, 1974; Elkins, 1991; Streeton & Whelan, 2001). One common way this occurs is through a chemically based substance known as Antabuse. When a person takes Antabuse and then consumes alcohol, uncomfortable side effects result including nausea, vomiting, increased heart rate, heart palpitations, severe headache, and shortness of breath. Antabuse is repeatedly paired with alcohol until the client associates alcohol with unpleasant feelings, which decreases the client’s desire to consume alcohol. Antabuse creates a conditioned aversion to alcohol because it replaces the original pleasure response with an unpleasant one.
In exposure therapy, a therapist seeks to treat clients’ fears or anxiety by presenting them with the object or situation that causes their problem, with the idea that they will eventually get used to it. This can be done via reality, imagination, or virtual reality. Exposure therapy was first reported in 1924 by Mary Cover Jones, who is considered the mother of behavior therapy. Jones worked with a boy named Peter who was afraid of rabbits. Her goal was to replace Peter’s fear of rabbits with a conditioned response of relaxation, which is a response that is incompatible with fear (). How did she do it? Jones began by placing a caged rabbit on the other side of a room with Peter while he ate his afternoon snack. Over the course of several days, Jones moved the rabbit closer and closer to where Peter was seated with his snack. After two months of being exposed to the rabbit while relaxing with his snack, Peter was able to hold the rabbit and pet it while eating (Jones, 1924).
Thirty years later, Joseph Wolpe (1958) refined Jones’s techniques, giving us systematic desensitization. Using this method, a person creates a hierarchy of anxiety, ranging from the least-anxiety-producing stimulus to the feared object. These activities are paired with relaxation techniques, which are taught to the client beforehand and used during the graduated exposures. The idea is that a person cannot be nervous and relaxed at the same time. Therefore, if they can learn to relax when they are facing environmental stimuli that make them nervous or fearful, they can eventually eliminate the unwanted fear response. ().
For example, Jayden is terrified of elevators. Nothing bad has ever happened to him on an elevator, but he’s so afraid of elevators that he will always take the stairs. That wasn’t a problem when Jayden worked on the second floor of an office building, but now he has a new job—on the 29th floor of a skyscraper in downtown Los Angeles. Jayden knows he can’t climb 29 flights of stairs in order to get to work each day, so he decided to see a behavior therapist for help. The therapist asks Jayden to first construct a hierarchy of elevator-related situations that elicit fear and anxiety. They range from situations of mild anxiety such as being nervous around the other people in the elevator, to the fear of getting an arm caught in the door, to panic-provoking situations such as getting trapped or the cable snapping. Next, the therapist uses progressive relaxation. They teach Jayden how to relax each of his muscle groups so that he achieves a drowsy, relaxed, and comfortable state of mind. Once he’s in this state, the therapist asks Jayden to imagine a mildly anxiety-provoking situation. Jayden is standing in front of the elevator thinking about pressing the call button.
If this scenario causes Jayden anxiety, he lifts his finger. The therapist would then tell Jayden to forget the scene and return to his relaxed state. They repeat this scenario over and over until Jayden can imagine himself pressing the call button without anxiety. Over time the therapist and Jayden use progressive relaxation and imagination to proceed through all of the situations on Jayden’s hierarchy until he becomes desensitized to each one. After this, Jayden and the therapist begin to practice what he only previously envisioned in therapy, gradually going from pressing the button to actually riding an elevator. The goal is that Jayden will soon be able to take the elevator all the way up to the 29th floor of his office without feeling any anxiety.
Sometimes, it’s too impractical, expensive, or embarrassing to re-create anxiety- producing situations, so a therapist might employ virtual reality exposure therapy by using a simulation to help conquer fears. Virtual reality exposure therapy has been used effectively to treat numerous anxiety disorders such as the fear of public speaking, claustrophobia (fear of enclosed spaces), aviophobia (fear of flying), and post-traumatic stress disorder (PTSD), a trauma and stressor-related disorder (Gerardi, Cukor, Difede, Rizzo, & Rothbaum, 2010).
Some behavior therapies employ operant conditioning. Recall what you learned about operant conditioning: We have a tendency to repeat behaviors that are reinforced. What happens to behaviors that are not reinforced? They become extinguished. These principles, defined by Skinner as operant conditioning, can be applied to help people with a wide range of psychological problems.
One popular operant conditioning intervention is called the token economy. This involves a controlled setting where individuals are reinforced for desirable behaviors with tokens, such as a poker chip, that can be exchanged for items or privileges. Token economies are often used in psychiatric hospitals to increase patient cooperation and activity levels. Patients are rewarded with tokens when they engage in positive behaviors (e.g., making their beds, brushing their teeth, coming to the cafeteria on time, and socializing with other patients). They can later exchange the tokens for extra TV time, private rooms, visits to the canteen, and so on (Dickerson, Tenhula, & Green-Paden, 2005).

### Psychotherapy: Cognitive Therapy

Cognitive therapy is a form of psychotherapy that focuses on how a person’s thoughts lead to feelings of distress. The idea behind cognitive therapy is that how you think determines how you feel and act. Cognitive therapists help their clients change dysfunctional thoughts in order to relieve distress. They help a client see how they misinterpret a situation (cognitive distortion). For example, a client may overgeneralize. Because a person failed one test in Psychology 101, they feel stupid and worthless. These thoughts then cause their mood to worsen. Therapists also help clients recognize when they blow things out of proportion. Because Ray failed his Psychology 101 test, he has concluded that he’s going to fail the entire course and probably flunk out of college altogether. These errors in thinking have contributed to Ray’s feelings of distress. His therapist will help him challenge these irrational beliefs, focus on their illogical basis, and correct them with more logical and rational thoughts and beliefs.
Cognitive therapy was developed by psychiatrist Aaron Beck in the 1960s. His initial focus was on depression and how a client’s self-defeating attitude served to maintain a depression despite positive factors in her life (Beck, Rush, Shaw, & Emery, 1979) (). Through questioning, a cognitive therapist can help a client recognize dysfunctional ideas, challenge catastrophizing thoughts about themselves and their situations, and find a more positive way to view things (Beck, 2011).

### Psychotherapy: Cognitive-Behavioral Therapy

Cognitive-behavioral therapists focus much more on present issues than on a patient’s childhood or past, as in other forms of psychotherapy. One of the first forms of cognitive-behavioral therapy was rational emotive therapy (RET), which was founded by Albert Ellis and grew out of his dislike of Freudian psychoanalysis (Daniel, n.d.). Behaviorists such as Joseph Wolpe also influenced Ellis’s therapeutic approach (National Association of Cognitive-Behavioral Therapists, 2009).
Cognitive-behavioral therapy (CBT) helps clients examine how their thoughts affect their behavior. It aims to change cognitive distortions and self-defeating behaviors. In essence, this approach is designed to change the way people think as well as how they act. It is similar to cognitive therapy in that CBT attempts to make individuals aware of their irrational and negative thoughts and helps people replace them with new, more positive ways of thinking. It is also similar to behavior therapies in that CBT teaches people how to practice and engage in more positive and healthy approaches to daily situations. In total, hundreds of studies have shown the effectiveness of cognitive-behavioral therapy in the treatment of numerous psychological disorders such as depression, PTSD, anxiety disorders, eating disorders, bipolar disorder, and substance abuse (Beck Institute for Cognitive Behavior Therapy, n.d.). For example, CBT has been found to be effective in decreasing levels of hopelessness and suicidal thoughts in previously suicidal teenagers (Alavi, Sharifi, Ghanizadeh, & Dehbozorgi, 2013). Cognitive-behavioral therapy has also been effective in reducing PTSD in specific populations, such as transit workers (Lowinger & Rombom, 2012).
Cognitive-behavioral therapy aims to change cognitive distortions and self-defeating behaviors using techniques like the ABC model. With this model, there is an Action (sometimes called an activating event), the Belief about the event, and the Consequences of this belief. Let’s say Jon and Joe both go to a party. Jon and Joe each have met an interesting person at the party and spend a few hours chatting with them. At the end of the party, Jon and Joe ask to exchange phone numbers with the person they've been talking to, and the request is refused. Both Jon and Joe are surprised, as they thought things were going well. What can Jon and Joe tell themselves about why the person was not interested? Let’s say Jon tells himself he is a loser, or is ugly, or “has no game.” Jon then gets depressed and decides not to go to another party, which starts a cycle that keeps him depressed. Joe tells himself that he had bad breath, goes out and buys a new toothbrush, goes to another party, and meets someone new.
Jon’s belief about what happened results in a consequence of further depression, whereas Joe’s belief does not. Jon is internalizing the attribution or reason for the rebuffs, which triggers his depression. On the other hand, Joe is externalizing the cause, so his thinking does not contribute to feelings of depression. Cognitive-behavioral therapy examines specific maladaptive and automatic thoughts and cognitive distortions. Some examples of cognitive distortions are all-or-nothing thinking, overgeneralization, and jumping to conclusions. In overgeneralization, someone takes a small situation and makes it huge—for example, instead of saying, “This particular person was not interested in me,” the man says, “I am ugly, a loser, and no one is ever going to be interested in me.”
All or nothing thinking, which is a common type of cognitive distortion for people suffering from depression, reflects extremes. In other words, everything is black or white. After being turned down for a date, Jon begins to think, “No woman will ever go out with me. I’m going to be alone forever.” He begins to feel anxious and sad as he contemplates his future.
The third kind of distortion involves jumping to conclusions—assuming that people are thinking negatively about you or reacting negatively to you, even though there is no evidence. Consider the example of Savannah and Hillaire, who recently met at a party. They have a lot in common, and Savannah thinks they could become friends. She calls Hillaire to invite her for coffee. Since Hillaire doesn’t answer, Savannah leaves her a message. Several days go by and Savannah never hears back from her potential new friend. Maybe Hillaire never received the message because she lost her phone or she is too busy to return the phone call. But if Savannah believes that Hillaire didn’t like Savannah or didn’t want to be her friend, she is demonstrating the cognitive distortion of jumping to conclusions.
How effective is CBT? One client said this about his cognitive-behavioral therapy:

### Psychotherapy: Humanistic Therapy

Humanistic psychology focuses on helping people achieve their potential. So it makes sense that the goal of humanistic therapy is to help people become more self-aware and accepting of themselves. In contrast to psychoanalysis, humanistic therapists focus on conscious rather than unconscious thoughts. They also emphasize the patient’s present and future, as opposed to exploring the patient’s past.
Psychologist Carl Rogers developed a therapeutic orientation known as Rogerian, or client-centered therapy. Note the change from patients to clients. Rogers (1951) felt that the term patient suggested the person seeking help was sick and looking for a cure. Since this is a form of nondirective therapy, a therapeutic approach in which the therapist does not give advice or provide interpretations but helps the person to identify conflicts and understand feelings, Rogers (1951) emphasized the importance of the person taking control of his own life to overcome life’s challenges.
In client-centered therapy, the therapist uses the technique of active listening. In active listening, the therapist acknowledges, restates, and clarifies what the client expresses. Therapists also practice what Rogers called unconditional positive regard, which involves not judging clients and simply accepting them for who they are. Rogers (1951) also felt that therapists should demonstrate genuineness, empathy, and acceptance toward their clients because this helps people become more accepting of themselves, which results in personal growth.

### Evaluating Various Forms of Psychotherapy

How can we assess the effectiveness of psychotherapy? Is one technique more effective than another? For anyone considering therapy, these are important questions. According to the American Psychological Association, three factors work together to produce successful treatment. The first is the use of evidence-based treatment that is deemed appropriate for your particular issue. The second important factor is the clinical expertise of the psychologist or therapist. The third factor is your own characteristics, values, preferences, and culture. Many people begin psychotherapy feeling like their problem will never be resolved; however, psychotherapy helps people see that they can do things to make their situation better. Psychotherapy can help reduce a person’s anxiety, depression, and maladaptive behaviors. Through psychotherapy, individuals can learn to engage in healthy behaviors designed to help them better express emotions, improve relationships, think more positively, and perform more effectively at work or school.
Many studies have explored the effectiveness of psychotherapy. For example, one large-scale study that examined 16 meta-analyses of CBT reported that it was equally effective or more effective than other therapies in treating PTSD, generalized anxiety disorder, depression, and social phobia (Butlera, Chapmanb, Formanc, & Becka, 2006). Another study found that CBT was as effective at treating depression (43% success rate) as prescription medication (50% success rate) compared to the placebo rate of 25% (DeRubeis et al., 2005). Another meta-analysis found that psychodynamic therapy was also as effective at treating these types of psychological issues as CBT (Shedler, 2010). However, no studies have found one psychotherapeutic approach more effective than another (Abbass, Kisely, & Kroenke, 2006; Chorpita et al., 2011), nor have they shown any relationship between a client’s treatment outcome and the level of the clinician’s training or experience (Wampold, 2007). Regardless of which type of psychotherapy an individual chooses, one critical factor that determines the success of treatment is the person’s relationship with the psychologist or therapist.

### Biomedical Therapies

Individuals can be prescribed biologically based treatments or psychotropic medications that are used to treat mental disorders. While these are often used in combination with psychotherapy, they also are taken by individuals not in therapy. This is known as biomedical therapy. Medications used to treat psychological disorders are called psychotropic medications and are prescribed by medical doctors, including psychiatrists. In Louisiana and New Mexico, psychologists are able to prescribe some types of these medications (American Psychological Association, 2014).
Different types and classes of medications are prescribed for different disorders. An individual with depression might be given an antidepressant, an individual with bipolar disorder might be given a mood stabilizer, and an individual with schizophrenia might be given an antipsychotic. These medications treat the symptoms of a psychological disorder by altering the levels or effects of neurotransmitters. For example, each type of antidepressant affects a different neurotransmitter, such as SSRI (selective serotonin reuptake inhibitor) antidepressants that increase the level of the neurotransmitter serotonin, and SNRI (serotonin-norepinephrine reuptake inhibitor) antidepressants that increase the levels of both serotonin and norepinephrine. They can help people feel better so that they can function on a daily basis, but they do not cure the disorder. Some people may only need to take a psychotropic medication for a short period of time. Others with severe disorders like bipolar disorder or schizophrenia may need to take psychotropic medication for a long time.
Psychotropic medications are a popular treatment option for many types of disorders, and research suggests that they are most effective when combined with psychotherapy. This is especially true for the most common mental disorders, such as depressive and anxiety disorders (Cuijpers et al, 2014). When considering adding medication as a treatment option, individuals should know that some psychotropic medications have very concerning side effects.  shows the commonly prescribed types of medications, how they are used, and some of the potential side effects that may occur.
Another biologically based treatment that continues to be used, although infrequently, is electroconvulsive therapy (ECT) (formerly known by its unscientific name as electroshock therapy). It involves using an electrical current to induce seizures to help alleviate the effects of severe depression. The exact mechanism is unknown, although it does help alleviate symptoms for people with severe depression who have not responded to traditional drug therapy (Pagnin, de Queiroz, Pini, & Cassano, 2004). About 85% of people treated with ECT improve (Reti, n.d.). However, the memory loss associated with repeated administrations has led to it being implemented as a last resort (Donahue, 2000; Prudic, Peyser, & Sackeim, 2000). A more recent alternative is transcranial magnetic stimulation (TMS), a procedure approved by the FDA in 2008 that uses magnetic fields to stimulate nerve cells in the brain to improve depression symptoms; it is used when other treatments have not worked (Mayo Clinic, 2012).

### Summary

Psychoanalysis was developed by Sigmund Freud. Freud’s theory is that a person’s psychological problems are the result of repressed impulses or childhood trauma. The goal of the therapist is to help a person uncover buried feelings by using techniques such as free association and dream analysis.
Play therapy is a psychodynamic therapy technique often used with children. The idea is that children play out their hopes, fantasies, and traumas, using dolls, stuffed animals, and sandbox figurines.
In behavior therapy, a therapist employs principles of learning from classical and operant conditioning to help clients change undesirable behaviors. Counterconditioning is a commonly used therapeutic technique in which a client learns a new response to a stimulus that has previously elicited an undesirable behavior via classical conditioning. Principles of operant conditioning can be applied to help people deal with a wide range of psychological problems. Token economy is an example of a popular operant conditioning technique.
Cognitive therapy is a technique that focuses on how thoughts lead to feelings of distress. The idea behind cognitive therapy is that how you think determines how you feel and act. Cognitive therapists help clients change dysfunctional thoughts in order to relieve distress. Cognitive-behavioral therapy explores how our thoughts affect our behavior. Cognitive-behavioral therapy aims to change cognitive distortions and self-defeating behaviors.
Humanistic therapy focuses on helping people achieve their potential. One form of humanistic therapy developed by Carl Rogers is known as client-centered or Rogerian therapy. Client-centered therapists use the techniques of active listening, unconditional positive regard, genuineness, and empathy to help clients become more accepting of themselves.
Often in combination with psychotherapy, people can be prescribed biologically based treatments such as psychotropic medications and/or other medical procedures such as electro-convulsive therapy.

### Review Questions

### Critical Thinking Question

### Personal Application Question


# Therapy and Treatment

## Treatment Modalities

Once a person seeks treatment, whether voluntarily or involuntarily, they have an intake done to assess their clinical needs. An intake is the therapist’s first meeting with the client. The therapist gathers specific information to address the client’s immediate needs, such as the presenting problem, the client’s support system, and insurance status. The therapist informs the client about confidentiality, fees, and what to expect in treatment. Confidentiality means the therapist cannot disclose confidential communications to any third party unless mandated or permitted by law to do so. During the intake, the therapist and client will work together to discuss treatment goals. Then a treatment plan will be formulated, usually with specific measurable objectives. Also, the therapist and client will discuss how treatment success will be measured and the estimated length of treatment. There are several different modalities of treatment (): Individual therapy, family therapy, couples therapy, and group therapy are the most common.

### Individual Therapy

In individual therapy, also known as individual psychotherapy or individual counseling, the client and clinician meet one-on-one (usually from 45 minutes to 1 hour). These meetings typically occur weekly or every other week, and sessions are conducted in a confidential and caring environment (). The clinician will work with clients to help them explore their feelings, work through life challenges, identify aspects of themselves and their lives that they wish to change, and set goals to help them work towards these changes. A client might see a clinician for only a few sessions, or the client may attend individual therapy sessions for a year or longer. The amount of time spent in therapy depends on the needs of the client as well as her personal goals.

### Group Therapy

In group therapy, a clinician meets together with several clients with similar problems (). When children are placed in group therapy, it is particularly important to match clients for age and problems. One benefit of group therapy is that it can help decrease a client’s shame and isolation about a problem while offering needed support, both from the therapist and other members of the group (American Psychological Association, 2014). A nine-year-old sexual abuse victim, for example, may feel very embarrassed and ashamed. If he is placed in a group with other sexually abused boys, he will realize that he is not alone. A child struggling with poor social skills would likely benefit from a group with a specific curriculum to foster special skills. A woman suffering from post-partum depression could feel less guilty and more supported by being in a group with similar women.
Group therapy also has some specific limitations. Members of the group may be afraid to speak in front of other people because sharing secrets and problems with complete strangers can be stressful and overwhelming. There may be personality clashes and arguments among group members. There could also be concerns about confidentiality: Someone from the group might share what another participant said to people outside of the group.
Another benefit of group therapy is that members can confront each other about their patterns. For those with some types of problems, such as sexual abusers, group therapy is the recommended treatment. Group treatment for this population is considered to have several benefits:
Groups that have a strong educational component are called psycho-educational groups. For example, a group for children whose parents have cancer might discuss in depth what cancer is, types of treatment for cancer, and the side effects of treatments, such as hair loss. Often, group therapy sessions with children take place in school. They are led by a school counselor, a school psychologist, or a school social worker. Groups might focus on test anxiety, social isolation, self-esteem, bullying, or school failure (Shechtman, 2002). Whether the group is held in school or in a clinician’s office, group therapy has been found to be effective with children facing numerous kinds of challenges (Shechtman, 2002).
During a group session, the entire group could reflect on an individual’s problem or difficulties, and others might disclose what they have done in that situation. When a clinician is facilitating a group, the focus is always on making sure that everyone benefits and participates in the group and that no one person is the focus of the entire session. Groups can be organized in various ways: some have an overarching theme or purpose, some are time-limited, some have open membership that allows people to come and go, and some are closed. Some groups are structured with planned activities and goals, while others are unstructured: There is no specific plan, and group members themselves decide how the group will spend its time and on what goals it will focus. This can become a complex and emotionally charged process, but it is also an opportunity for personal growth (Page & Berkow, 1994).

### Couples Therapy

Couples therapy involves two people in an intimate relationship who are having difficulties and are trying to resolve them (). The couple may be dating, partnered, engaged, or married. The primary therapeutic orientation used in couples counseling is cognitive-behavioral therapy (Rathus & Sanderson, 1999). Couples meet with a therapist to discuss conflicts and/or aspects of their relationship that they want to change. The therapist helps them see how their individual backgrounds, beliefs, and actions are affecting their relationship. Often, a therapist tries to help the couple resolve these problems, as well as implement strategies that will lead to a healthier and happier relationship, such as how to listen, how to argue, and how to express feelings. However, sometimes, after working with a therapist, a couple will realize that they are too incompatible and will decide to separate. Some couples seek therapy to work out their problems, while others attend therapy to determine whether staying together is the best solution. Counseling couples in a high-conflict and volatile relationship can be difficult. In fact, psychologists Peter Pearson and Ellyn Bader, who founded the Couples Institute in Palo Alto, California, have compared the experience of the clinician in couples’ therapy to be like “piloting a helicopter in a hurricane” (Weil, 2012, para. 7).

### Family Therapy

Family therapy is a special form of group therapy, consisting of one or more families. Although there are many theoretical orientations in family therapy, one of the most predominant is the systems approach. The family is viewed as an organized system, and each individual within the family is a contributing member who creates and maintains processes within the system that shape behavior (Minuchin, 1985). Each member of the family influences and is influenced by the others. The goal of this approach is to enhance the growth of each family member as well as that of the family as a whole.
Often, dysfunctional patterns of communication that develop between family members can lead to conflict. A family with this dynamic might wish to attend therapy together rather than individually. In many cases, one member of the family has problems that detrimentally affect everyone. For example, a mother’s depression, teen daughter’s eating disorder, or father’s alcohol dependence could affect all members of the family. The therapist would work with all members of the family to help them cope with the issue, and to encourage resolution and growth in the case of the individual family member with the problem.
With family therapy, the nuclear family (i.e., parents and children) or the nuclear family plus whoever lives in the household (e.g., grandparent) come into treatment. Family therapists work with the whole family unit to heal the family. There are several different types of family therapy. In structural family therapy, the therapist examines and discusses the boundaries and structure of the family: who makes the rules, who sleeps in the bed with whom, how decisions are made, and what are the boundaries within the family. In some families, the parents do not work together to make rules, or one parent may undermine the other, leading the children to act out. The therapist helps them resolve these issues and learn to communicate more effectively.
In strategic family therapy, the goal is to address specific problems within the family that can be dealt with in a relatively short amount of time. Typically, the therapist would guide what happens in the therapy session and design a detailed approach to resolving each member’s problem (Madanes, 1991).

### Summary

There are several modalities of treatment: individual therapy, group therapy, couples therapy, and family therapy are the most common. In an individual therapy session, a client works one-on-one with a trained therapist. In group therapy, usually 5–10 people meet with a trained group therapist to discuss a common issue (e.g., divorce, grief, eating disorders, substance abuse, or anger management). Couples therapy involves two people in an intimate relationship who are having difficulties and are trying to resolve them. The couple may be dating, partnered, engaged, or married. The therapist helps them resolve their problems as well as implement strategies that will lead to a healthier and happier relationship. Family therapy is a special form of group therapy. The therapy group is made up of one or more families. The goal of this approach is to enhance the growth of each individual family member and the family as a whole.

### Review Questions

### Critical Thinking Question

### Personal Application


# Therapy and Treatment

## Substance-Related and Addictive Disorders: A Special Case

Addiction is often viewed as a chronic disease (). The choice to use a substance is initially voluntary; however, because chronic substance use can permanently alter the neural structure in the prefrontal cortex, an area of the brain associated with decision-making and judgment, a person becomes driven to use drugs and/or alcohol (Muñoz-Cuevas, Athilingam, Piscopo, & Wilbrecht, 2013). This helps explain why relapse rates tend to be high. About 40%–60% of individuals relapse, which means they return to abusing drugs and/or alcohol after a period of improvement (National Institute on Drug Abuse [NIDA], 2008).
The goal of substance-related treatment is to help a person with an addiction stop compulsive drug-seeking behaviors (NIDA, 2012). This means a person with addiction will need long-term treatment, similar to a person battling a chronic physical disease such as hypertension or diabetes. Treatment usually includes behavioral therapy and/or medication, depending on the individual (NIDA, 2012). Specialized therapies have also been developed for specific types of substance-related disorders, including alcohol, cocaine, and opioids (McGovern & Carroll, 2003). Substance-related treatment is considered much more cost-effective than incarceration or not treating those with addictions (NIDA, 2012) ().

### What Makes Treatment Effective?

Specific factors make substance-related treatment much more effective. One factor is duration of treatment. Generally, a person with addict needs to be in treatment for at least three months to achieve a positive outcome (Simpson, 1981; Simpson, Joe, & Bracy, 1982; NIDA, 2012). This is due to the psychological, physiological, behavioral, and social aspects of abuse (Simpson, 1981; Simpson et al., 1982; NIDA, 2012). While in treatment, a person with addiction might receive behavior therapy, which can help motivate the person with addiction to participate in the treatment program and teach strategies for dealing with cravings and how to prevent relapse. Also, treatment needs to be holistic and address multiple needs, not just the drug addiction. This means that treatment will address factors such as communication, stress management, relationship issues, parenting, vocational concerns, and legal concerns (McGovern & Carroll, 2003; NIDA, 2012).
While individual therapy is used in the treatment of substance-related disorders, group therapy is the most widespread treatment modality (Weiss, Jaffee, de Menil, & Cogley, 2004). The rationale behind using group therapy for addiction treatment is that people with addiction are much more likely to maintain sobriety in a group format. It has been suggested that this is due to the rewarding and therapeutic benefits of the group, such as support, affiliation, identification, and even confrontation (Center for Substance Abuse Treatment, 2005). For teenagers, the whole family often needs to participate in treatment to address issues such as family dynamics, communication, and relapse prevention. Family involvement in teen drug addiction is vital. Research suggests that greater parental involvement is correlated with a greater reduction in use by teen substance abusers. Also, mothers who participated in treatment displayed better mental health and greater warmth toward their children (Bertrand et al., 2013). However, neither individual nor group therapy has been found to be more effective (Weiss et al., 2004). Regardless of the type of treatment service, the primary focus is on abstinence or at the very least a significant reduction in use (McGovern & Carroll, 2003).
Treatment also usually involves medications to detox a person with addiction safely after an overdose, to prevent seizures and agitation that often occur in detox, to prevent reuse of the drug, and to manage withdrawal symptoms. Getting off drugs often involves the use of drugs—some of which can be just as addictive. Detox can be difficult and dangerous.

### Comorbid Disorders

Frequently, a person with an addiction to drugs and/or alcohol has an additional psychological disorder. Saying a person has comorbid disorders means the individual has two or more diagnoses. This can often be a substance-related diagnosis and another psychiatric diagnosis, such as depression, bipolar disorder, or schizophrenia. These individuals fall into the category of mentally ill and chemically addicted (MICA)—their problems are often chronic and expensive to treat, with limited success. Compared with the overall population, people who use illicit drugs or misuse prescription drugs are twice as likely to have a mood or anxiety disorder. Drug use can cause symptoms of mood and anxiety disorders and the reverse is also true—people with debilitating symptoms of a psychiatric disorder may self-medicate and misuse substances.
In cases of comorbidity, the best treatment is thought to address both (or multiple) disorders simultaneously (NIDA, 2012). Behavior therapies are used to treat comorbid conditions, and in many cases, psychotropic medications are used along with psychotherapy. For example, evidence suggests that bupropion (trade names: Wellbutrin and Zyban), approved for treating depression and nicotine dependence, might also help reduce craving and use of the drug methamphetamine (NIDA, 2011). However, more research is needed to better understand how these medications work—particularly when combined in patients with comorbidities.

### Summary

Addiction is often viewed as a chronic disease that rewires the brain. This helps explain why relapse rates tend to be high, around 40%–60% (McLellan, Lewis, & O’Brien, & Kleber, 2000). The goal of treatment is to help an addict stop compulsive drug-seeking behaviors. Treatment usually includes behavioral therapy, which can take place individually or in a group setting. Treatment may also include medication. Sometimes a person has comorbid disorders, which usually means that they have a substance-related disorder diagnosis and another psychiatric diagnosis, such as depression, bipolar disorder, or schizophrenia. The best treatment would address both problems simultaneously.

### Review Questions

### Critical Thinking Question

### Personal Application Question


# Therapy and Treatment

## The Sociocultural Model and Therapy Utilization

The sociocultural perspective looks at you, your behaviors, and your symptoms in the context of your culture and background. For example, José is an 18-year-old Hispanic male from a traditional family. José comes to treatment because of depression. During the intake session, he reveals that he is gay and is nervous about telling his family. He also discloses that he is concerned because his religious background has taught him that being gay is wrong. How does his religious and cultural background affect him? How might his cultural background affect how his family reacts if José were to tell them he is gay?
Mental health professionals must develop cultural competence (), which means they must understand and address issues of race, culture, and ethnicity. They must also develop strategies to effectively address the needs of various populations for which Eurocentric therapies have limited application (Sue, 2004). For example, a counselor whose treatment focuses on individual decision making may be ineffective at helping a Chinese client with a collectivist approach to problem solving (Sue, 2004).
Multicultural counseling and therapy aims to offer both a helping role and process that uses modalities and defines goals consistent with the life experiences and cultural values of clients. It strives to recognize client identities to include individual, group, and universal dimensions, advocate the use of universal and culture-specific strategies and roles in the healing process, and balances the importance of individualism and collectivism in the assessment, diagnosis, and treatment of client and client systems (Sue, 2001).
This therapeutic perspective integrates the impact of cultural and social norms, starting at the beginning of treatment. Therapists who use this perspective work with clients to obtain and integrate information about their cultural patterns into a unique treatment approach based on their particular situation (Stewart, Simmons, & Habibpour, 2012). Sociocultural therapy can include individual, group, family, and couples treatment modalities.

### Barriers to Treatment

Statistically, ethnic minorities tend to utilize mental health services less frequently than White, middle-class Americans (Alegría et al., 2008; Richman, Kohn-Wood, & Williams, 2007). Why is this so? Perhaps the reason has to do with access and availability of mental health services. Ethnic minorities and individuals of low socioeconomic status (SES) report that barriers to services include lack of insurance, transportation, and time (Thomas & Snowden, 2002). However, researchers have found that even when income levels and insurance variables are taken into account, ethnic minorities are far less likely to seek out and utilize mental health services. And when access to mental health services is comparable across ethnic and racial groups, differences in service utilization remain (Richman et al., 2007).
In a study involving thousands of women, it was found that the prevalence rate of anorexia was similar across different races, but that bulimia nervosa was more prevalent among Hispanic and African American women when compared with non-Hispanic White people (Marques et al., 2011). Although they have similar or higher rates of eating disorders, Hispanic and African American women with these disorders tend to seek and engage in treatment far less than White women. These findings suggest ethnic disparities in access to care, as well as clinical and referral practices that may prevent Hispanic and African American women from receiving care, which could include lack of bilingual treatment, stigma, fear of not being understood, family privacy, and lack of education about eating disorders.
Perceptions and attitudes toward mental health services may also contribute to this imbalance. A recent study at King’s College, London, found many complex reasons why people do not seek treatment: self-sufficiency and not seeing the need for help, not seeing therapy as effective, concerns about confidentiality, and the many effects of stigma and shame (Clement et al., 2014). And in another study, African Americans exhibiting depression were less willing to seek treatment due to fear of possible psychiatric hospitalization as well as fear of the treatment itself (Sussman, Robins, & Earls, 1987). Instead of mental health treatment, many African Americans prefer to be self-reliant or use spiritual practices (Snowden, 2001; Belgrave & Allison, 2010). For example, it has been found that the Black church plays a significant role as an alternative to mental health services by providing prevention and treatment-type programs designed to enhance the psychological and physical well-being of its members (Blank, Mahmood, Fox, & Guterbock, 2002).
Additionally, people belonging to ethnic groups that already report concerns about prejudice and discrimination are less likely to seek services for a mental illness because they view it as an additional stigma (Gary, 2005; Townes, Cunningham, & Chavez-Korell, 2009; Scott, McCoy, Munson, Snowden, & McMillen, 2011). For example, in one recent study of 462 older Korean Americans (over the age of 60) many participants reported suffering from depressive symptoms. However, 71% indicated they thought depression was a sign of personal weakness, and 14% reported that having a mentally ill family member would bring shame to the family (Jang, Chiriboga, & Okazaki, 2009).
Language differences are a further barrier to treatment. In the previous study on Korean Americans’ attitudes toward mental health services, it was found that there were no Korean-speaking mental health professionals where the study was conducted (Orlando and Tampa, Florida) (Jang et al., 2009). Because of the growing number of people from ethnically diverse backgrounds, there is a need for therapists and psychologists to develop knowledge and skills to become culturally competent (Ahmed, Wilson, Henriksen, & Jones, 2011). Those providing therapy must approach the process from the context of the unique culture of each client (Sue & Sue, 2007).

### Summary

The sociocultural perspective looks at you, your behaviors, and your symptoms in the context of your culture and background. Clinicians using this approach integrate cultural and religious beliefs into the therapeutic process. Research has shown that ethnic minorities are less likely to access mental health services than their White middle-class American counterparts. Barriers to treatment include lack of insurance, transportation, and time; cultural views that mental illness is a stigma; fears about treatment; and language barriers. Supporting mental health treatment involves speaking and listening openly about mental health, avoiding assumptions, being conscious about language, and encouraging others to get help when needed.

### Review Questions

### Critical Thinking Question

### Personal Application Question


# Introduction to Finance

## Why It Matters

Finance is essential to the management of a business or organization. Without good financial protocol, safeguards, and tools, running a successful business is more difficult. In 1978, Bacon Signs was a family-owned, regional Midwestern sign company engaged in the manufacture, sale, installation, and maintenance of commercial signage. The company was about to transition from the second to third generation of family ownership. Bacon Signs, established in 1901, had weathered the Great Depression, World War II, the Vietnam War, and the oil embargo and was working its way through historically high rates of inflation and interest rates. The family business had successfully struggled through the ebb and flow of the regional and national economy by providing quality products and service to its regional clients.
In the early 1980s, the company’s fortunes changed permanently for the better. The owner recognized that the custom signs built by his firm were superior in quality to the signs it installed for national franchises. The owner worked with the company’s banker and vice president of finance and operations to develop a production, sales, and financing plan that could be offered to the larger national sign companies. The larger companies agreed to subcontract manufacturing of midsize orders to Bacon Signs. The firm then made a commitment to build and deliver these signs on time and under budget. As Bacon Signs’ reputation for quality grew, so did demand for its products. The original financing plan anticipated this potential growth and was designed to meet anticipated capital requirements so that the firm could expand how and when it needed to.
Bacon Signs’ ability to manufacture and deliver a high-quality product at a good price was the true value of the firm. However, without the planning and ability to raise capital facilitated by the financing plan, the firm would not have been able to act on its strengths at the critical moment. Financing was the key to expansion and financial stability for the firm.Dun & Bradstreet. “Bacon Signs, Inc.”
In this book, we demonstrate that business finance is about developing and understanding the tools that help people make consistently good and repeatable decisions.


# Introduction to Finance

## What Is Finance?

### Learning Outcomes

By the end of this section, you will be able to:
1. Describe the main areas in finance.
2. Explain the importance of studying finance.
3. Discuss the concepts of risk and return.

### Definition of Finance

Finance is the study of the management, movement, and raising of money. The word finance can be used as a verb, such as when the First National Bank agrees to finance your home mortgage loan. It can also be used as a noun referring to an entire industry. At its essence, the study of finance is about understanding the uses and sources of cash, as well as the concept of risk-reward trade-off. Finance is also a tool that can help us be better decision makers.

### Basic Areas in Finance

Finance is divided into three primary areas in the domestic market: business finance, investments, and financial markets and institutions (see ). We look at each here in turn.

### Business Finance

Business finance looks at how managers can apply financial principles to maximize the value of a firm in a risky environment. Businesses have many stakeholders. In the case of corporations, the shareholders own the company, and they hire managers to run the company with the intent to maximize shareholder wealth. Consequently, all management decisions should run through the filter of these questions: “How does this decision impact the wealth of the shareholders?” and “Is this the best decision to be made for shareholders?”
In business finance, managers focus on three broad areas (see ).
1. Working capital management (WCM) is the study and management of short-term assets and liabilities. The chief financial officer (CFO) and the finance team are responsible for establishing company policy for how to manage WCM. The finance department determines credit policy, establishes minimum criteria for the extension of credit to clients, terms of lending, when to extend, and when to take advantage of short-term creditor financing. The accounting department basically implements the finance department’s policies. In many firms, the accounting and finance functions operate in the same department; in others, they are separate.
2. Capital budgeting is the process of determining which long-term or fixed assets to acquire in an effort to maximize shareholder value. Capital budgeting decisions add the greatest value to a firm. As such, capital budgeting is thought to be one of the most important financial functions within a firm. The capital budgeting process consists of estimating the value of potential investments by forecasting the size, timing, and risk of cash flows associated with the investments. The finance department develops and compiles cash flow estimates with input from the marketing, operations, accounting, human resources, and economics departments to develop a portfolio of investment projects that collectively maximize the value of the firm.
3. Capital structure is the process by which managers focus more specifically on long-term debt and increasing shareholder wealth. Capital structure questions require financial managers to work with economists, lenders, underwriters, investment bankers, and other sources of external financial information and financial capital. When Bacon Signs developed its financial plan, the executives included each of these three aspects of business finance into the plan.
 demonstrates how the three essential decision-making activities of the financial manager are related to a balance sheet. Working capital management focuses on short-term assets and liabilities, capital budgeting is focused on long-term assets, and capital structure is concerned with the mix of long-term debt and equity financing.

### Investments

Investments are products and processes used to create and grow wealth. Most commonly, investment topics include the discussion and application of the different types of financial instruments, delivery vehicles, regulation, and risk-and-return opportunities. Topics also include a discussion of stocks, bonds, and derivative securities such as futures and options. A broad coverage of investment instruments would include mutual funds, exchange-traded funds (ETFs), and investment vehicles such as 401k plans or individual retirement accounts (IRAs). In addition, real assets such as gold, real estate, and commodities are also common discussion topics and investment opportunities.
Investments is the most interesting area of finance for many students. Television programs such as  and movies such as  make investing appear glamorous, dangerous, shady, or intoxicating, depending on the situation and the attitude of the viewer. In these programs, the players and their decisions can lead to tremendous wealth or tremendous losses. In reality, most of us will manage our portfolios well shy of the extremes portrayed by the entertainment industry. However, we will need to make personal and business investment decisions, and many students reading this material will work in the investment industry as personal investment advisers, investment analysts, or portfolio managers.

### Financial Markets and Institutions

Financial markets and institutions are the firms and regulatory agencies that oversee our financial system. There is overlap in this area with investments and business finance, as the firms involved are profit seeking and need good financial management. They also are commonly the firms that facilitate investment practices in our economy. A financial institution regulated by a federal or state agency will likely handle an individual investment such as the purchase of a stock or mutual fund.
Much of the US regulatory structure for financial markets and institutions developed in the 1930s as a response to the stock market crash of 1929 and the subsequent Great Depression. In the United States, the desire for safety and protection of investors and the financial industry led to the development of many of our primary regulatory agencies and financial regulations. The Securities and Exchange Commission (SEC) was formed with the passage of the Securities Act of 1933 and Securities Exchange Act of 1934. Major bank regulation in the form of the Glass-Steagall Act (1933) and the Banking Act of 1935 gave rise to government-backed bank deposit insurance and a more robust Federal Reserve Bank.
These regulatory acts separated investment banking from commercial banking. Investment banks and investment companies continued to underwrite and facilitate new bond and equity issues, provide financial advice, and manage mutual funds. Commercial banks and other depository institutions such as savings and loans and credit unions left the equity markets and reduced their loan portfolios to commercial and personal lending but could purchase insurance for their primary sources of funds, checking, and savings deposits.
Today, the finance industry barely resembles the structure your parents and grandparents grew up and/or worked in. Forty years of deregulation have reshaped the industry. Investment and commercial bank operations and firms have merged. The separation of activities between investment and commercial banking has narrowed or been eliminated. Competition from financial firms abroad has increased, and the US financial system, firms, and regulators have learned to adapt, change, and innovate to continue to compete, grow, and prosper.
The Financial Industry Regulatory Authority (FINRA) formed in 2007 to consolidate and replace existing regulatory bodies. FINRA is an independent, nongovernmental organization that writes and enforces the rules governing registered brokers and broker-dealer firms in the United States. The Securities Investor Protection Corporation (SIPC) is a nonprofit corporation created by an act of Congress to protect the clients of brokerage firms that declare bankruptcy. SIPC is an insurance that provides brokerage customers up to $500,000 coverage for cash and securities held by the firm.
The regulation of the financial industry kicked into high gear in the 1930s and for those times and conditions was a necessary development of our financial industry and regulatory oversight. Deregulation of the finance industry beginning in the 1970s was a necessary pendulum swing in the opposite direction toward more market-based and less restrictive regulation and oversight. The Great Recession of 2007–2009 resulted in the reregulation of several aspects of the financial industry. Some would argue that the regulatory pendulum has swung too far toward deregulation and that the time for more or smarter regulation has returned.

### Why We Study Finance

Finance is the lubricant that keeps our economy running smoothly. Issuing a mortgage can be profitable for a bank, but it also allows people to live in their own homes and to pay for them over time. Do MasterCard, Venmo, and PayPal make money when you use their product? Sure, but think how much more convenient and safer it is to carry a card or use an app instead of cash. In addition, these services allow you to easily track where and how you spend your money. A well-regulated and independent financial system is important to capital-based economies. Our smoothly functioning financial system has removed us from the days of strictly bartering to our system today, where transactions are as simple as a tap on your mobile phone.
There are any number of professional and personal reasons to study finance. A search of the internet provides a long list of finance-related professions. Interviews with senior managers reveal that an understanding of financial tools and concepts is an important consideration in hiring new employees. Financial skills are among the most important tools for advancement toward greater responsibility and remuneration. Government and work-guaranteed pension benefits are growing less common and less generous, meaning individuals must take greater responsibility for their personal financial well-being now and at retirement. Let’s take a closer look at some of the reasons why we study finance.
There are many career opportunities in the fields of finance. A single course in finance such as this one may pique your interest and encourage you to study more finance-related topics. These studies in turn may qualify you for engaging and high-paying finance careers. We take a closer look at financial career opportunities in Careers in Finance.
A career in finance is just one reason to study finance. Finance is an excellent decision-making tool; it requires analytical thinking. Further, it provides a framework for estimating value through an assessment of the timing, magnitude, and risk of cash flows for long-term projects. Finance is important for more immediate activities as well, such as the development of budgets to assure timely distribution of cash flows such as dividends or paychecks.
An understanding of finance and financial markets opens a broader world of available financial investment opportunities. At one time, commercial bank deposits and the occasional investment in stocks, bonds, real estate, or gold may have provided sufficient coverage of investment opportunities, portfolio diversification, and adequate returns. However, in today’s market of financial technology, derivative securities, and cryptocurrencies, an understanding of available financial products and categories is key for taking advantage of both new and old financial products.

### Risk and Return in Finance

Finance tells us that an increase in risk results in an increase in expected return. The study of historical financial markets demonstrates that this relationship generally holds true and that riskier investments over time have provided greater returns. Of course, this is not true all the time and under all conditions; otherwise, where’s the risk?
At its most basic level, risk is uncertainty. The study of finance attempts to quantify risk in a way that helps individuals and organizations assess an appropriate trade-off for risk. Risk-return tradeoffs are all around us in our everyday decision-making. When we consider walking across the street in the middle of a city block or walking down to the marked intersection, we are assessing the trade-off between convenience and safety. Should you buy the required text for your class or instead rely on the professor’s notes and the internet? Should you buy that new-to-you used car sight unseen, or should you spend the money for a mechanic to assess the vehicle before you buy? Should you accept your first job offer at graduation or hold out for the offer you really want? A better understanding of finance makes these types of decisions easier and can provide you, as the decision maker, with statistics instead of just intuition.
Return is compensation for making an investment and waiting for the benefit (see ). Return could be the interest earned on an investment in a bond or the dividend from the purchase of stock. Return could be the higher income received and the greater job satisfaction realized from investing in a college education. Individuals tend to be risk averse. This means that for investors to take greater risks, they must have the expectation of greater returns. Investors would not be satisfied if the average return on stocks and bonds were the same as that for a risk-free savings account. Stocks and bonds have greater risk than a savings account, and that means investors expect a greater average return.
The study of finance provides us with the tools to make better and more consistent assessments of the risk-return trade-offs in all decision-making, but especially in financial decision-making. Finance has many different definitions and measurements for risk. Portfolios of investment securities tend to demonstrate the characteristics of a normal return distribution, or the familiar “bell-shaped” curve you studied in your statistics classes. Understanding a security’s average and variability of returns can help us estimate the range and likelihood of higher- or lower-than-expected outcomes. This assessment in turn helps determine appropriate prices that satisfy investors’ required return premiums based on quantifiable expectations about risk or uncertainty. In other words, finance attempts to measure with numbers what we already “know.”
The overall uncertainty of returns has several components.
1. Default risk on a financial security is the chance that the issuer will fail to make the required payment. For example, a homeowner may fail to make a monthly mortgage payment, or a corporation may default on required semiannual interest payments on a bond.
2. Inflation risk occurs when investors have less purchasing power from the realized cash flows from an investment due to rising prices or inflation.
3. Diversifiable risk, also known as unsystematic risk, occurs when investors hold individual securities or smallish portfolios and bear the risk that a larger, more well-rounded portfolio could eliminate. In these situations, investors carry additional risk or uncertainty without additional compensation.
4. Non-diversifiable risk, or systematic risk, is what remains after portfolio diversification has eliminated unnecessary diversifiable risk. We measure non-diversifiable risk with a statistical term called beta. Subsequent chapters on risk and return provide a more in-depth discussion of beta.
5. Political risk is associated with macroeconomic issues beyond the control of a company or its managers. This is the risk of local, state, or national governments “changing the rules” and disrupting firm cash flows. Political risk could come about due to zoning changes, product liability decisions, taxation, or even nationalization of a firm or industry.

###

Finance is the study of the trade-off between risk and expected return. There are three broad areas of finance: business finance, investments, and financial markets and institutions.

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### Why Climate Change Means New Risk for US Financial Markets


# Introduction to Finance

## The Role of Finance in an Organization

### Learning Outcomes

By the end of this section, you will be able to:
1. Describe the finance function.
2. Explain the role of finance and its importance within an organization.

### The Finance Function

Finance has many functions within an organization, and there are many job titles to reflect the varied job responsibilities. The comptroller, or more commonly a controller, in a for-profit business relies heavily on a knowledge of accounting. Controllers are in charge of financial reporting and the oversight of the accounting activities necessary to develop those reports. Controllers are concerned with payroll functions, accounts receivable, and accounts payable including taxes, inventory control, and any number of short-term asset and liability tracking and monitoring activities. They aid internal and external auditors and are responsible for monitoring and implementing the day-to-day financial operations of the firm.
In most organizations, the treasurer might assume many of the duties of the controller. However, the treasurer is also responsible for monitoring cash flow at a firm and frequently is the contact person for bankers, underwriters, and other outside sources of financing. A treasurer may be responsible for structuring loan and debt obligations and determining when and from whom to borrow funds. Treasurers are also responsible for investing excess funds. Where a controller may face inward toward the organization, the treasurer often faces outward as a representative to the public.
The vice president of finance (VP-F) is an executive-level position and oversees the activities of the controller and treasurer. The chief responsibility of the VP-F is to create and mentor a sufficient and qualified staff that generates reports that are timely, accurate, and thorough.
The chief financial officer, or CFO, is in a “big picture” position. The CFO sets policy for working capital management, determines optimal capital structure for the firm, and makes the final decision in matters of capital budgeting. The CFO is also forward looking and responsible for strategic financial planning and setting financial goals. Compared to a VP-F, a CFO is less of a “hands-on” manager and engages more in visionary and strategic planning.

### Financial Planning

Financial planning is critical to any organization, large or small, private or public, for profit or not-for-profit. Financial planning allows a firm to understand the past, present, and future funding needs and distributions required to satisfy all interested parties. For-profit businesses work to maximize the wealth of the owners. These could be shareholders in a publicly traded corporation, the owner-managers of a “mom and pop” store, partners in a law firm, or the principal owners of any other number of business entities. Financial planning helps managers understand the firm’s current status, plan and create processes and contingencies to pursue objectives, and adjust to unexpected events. The more thoughtful and thorough the financial planning process, the more likely a firm will be able to achieve its goals and/or weather hard times. Financial plans typically consider the firm’s strategic objectives, ethical practices, and sources and costs of funds, as well as the development of budgets, scenarios, and contingencies. The financial plan Bacon Signs developed was thorough enough to anticipate when and how growth might occur. The plan that was presented to commercial banks allowed the firm to be guaranteed new financing at critical moments in the firm’s expansion.
Good financial planning has a number of common features.
1. It uses past, current, and pro forma (forward-looking) income statements. Pro forma income statements are created using assumptions from past events to make projections for future events. These income statements should develop likely scenarios and provide a sensitivity analysis of key assumptions.
2. Cash flow statements are a critical part of any financial planning. Cash flow statements estimate the timing and magnitude of actual cash flows available to meet financial obligations.
3. Balance sheets are critical for demonstrating the sources and uses of funds for a firm. One of the most important aspects of business is accounting (see ).
4. Forecasting in the form of expected sales, cost of funds, and microeconomic and macroeconomic conditions are essential elements of financial planning.
5. Financial analysis including ratio analysis, common-size financial statements, and trend statements are important aspects of financial planning. Such analysis aids in the understanding of where a firm has been, how it stacks up against the competition, and the assessment of target objectives.

### Forecasting and Budgeting

Forecasting and budgeting are common practices for businesses, governmental agencies, not-for-profit firms, and individual households. As with many of the financial topics introduced in this chapter, these activities are valuable for individuals and businesses alike. Budgeting, or planning for the amount, sources, and uses of cash, occurs early in the planning process. It is common for businesses to have developed an annual budget well before the start of the year. With budgeting, a firm establishes objectives for the upcoming period by developing financial statements based on historical data and expectations, as well as aspirations for the future. The budgeting process helps the firm identify what actions need to be undertaken to achieve its objectives. However, no matter how strong the budgeting process, actual events can change the timing and magnitude of expected cash flows.
Financial forecasting addresses the changes necessary to the budgeting process. Budgeting can help identify the differences or variance from expectations, and forecasting becomes the process for adapting to those changes. We attribute to President Eisenhower the saying that “plans are worthless, but planning is everything.” That statement applies to business today as well as it did during his service in the military and government. The budgeting or planning process is a road map for organizations, and forecasting helps navigate the inevitable detours toward the firm’s objectives.
The budgeting process develops pro forma financial statements such as income and cash flow statements and balance sheets. These provide benchmarks to determine if firms are on course to meet or exceed objectives and serve as a warning if firms are falling short. Budgeting should involve all departments within a firm to determine sources and uses of funds and required funding to meet department and firm objectives. The process should look to emulate successful processes and change or eliminate ineffective ones. Budgeting is a periodic renewal and reminder of the firm’s goals.
Financial forecasting often starts with the firm’s budget and recommends changes based on differences between the budgeted financial statements and actual results. Forecasting adjusts management behavior in the immediate term and serves as a foundation for subsequent budgets.

###

The accounting department creates financial statements, and the finance department implements the firm’s policy objectives, monitors results, and responds to necessary strategic and tactical changes. Finance is responsible for budgeting and forecasting. Finance aids in establishing firm objectives and is responsible for meeting with creditors, lenders, owners, regulators, and other stakeholders that provide capital to the firm or have a claim against firm assets.

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# Introduction to Finance

## Importance of Data and Technology

### Learning Outcomes

By the end of this section, you will be able to:
1. Describe the role of data in finance.
2. List and describe the various types of corporate data available.
3. Explain how the various types of corporate data can be accessed and analyzed.
4. Describe the impact of data digitization.
5. Explain how stakeholders use data when making decisions.

### Importance of Data

Financial data is important for internal and external analysis of business firms. More accurate and timely data leads to better business and financial decision-making. Financial budgeting and forecasting rely on the creation of several types of financial statements including income statements, the statements of cash flow, and balance sheets, as well as the notes and assumptions used to create the financial statements. Insiders such as executive and middle managers use financial data to evaluate and reevaluate decision-making. Having current and accurate data is key to making consistent value-adding decisions for a firm. Data helps inform managers about how and when to finance projects, which projects to undertake, and necessary changes to make regarding physical, financial, and human resource assets. “Gut feelings” and “seat-of-the-pants” decision-making tend to be inconsistent with value maximization.
Outsiders also use publicly available data about firms to make purchasing, investment, credit, and regulatory decisions. Customers, investors, lenders, suppliers, and regulators must be able to access a firm’s financial information. Investors need to determine how much they are willing to pay for a share of stock, banks need data to determine if a loan should be made, suppliers need financial information to determine if they should supply trade credit, and customers need to know that a firm has priced its products appropriately.

### Basic Data Types

Financial statements provide some of the data needed for decision-making. Firms summarize data and develop at least three essential financial statements or reports.
1. The income statement summarizes the flow of revenues and expenses over a specified period. Income statements for publicly traded companies are available quarterly.
2. Statements of cash flow identify actual receipt and use of cash over a period.
3. Balance sheets show the existing assets, liabilities, and equity as of a particular date.
These statements represent book values and reflect historical costs and accounting adjustments such as accumulated depreciation. Book values often differ significantly from market values. Market values look forward and reflect expectations, whereas book values represent what has occurred.
In addition to the internal data summarized on financial statements, firms and outside stakeholders also seek external sources of information. External data gathering includes surveys of customers and suppliers, market research, new product development, statistical analysis, agreements with creditors, and discussions with government officials. Broader macroeconomic data is also valuable as it applies to expected market demand, unemployment, inflation, interest rates, and economic growth.

### The Impact of Digitization

Data digitization makes the storage and transmission of data easier and more cost effective. Some data starts out as digital data, such as that from a Microsoft Suite product. The Excel files and Word documents we create are ubiquitous and easily stored and transmitted. Cloud storage and video conferencing are now the norm. Emails and Zoom meetings are quick, easy, and inexpensive ways to share and store information. Businesses now create an e-trail, or virtual paper trail, to document, verify, and share processes. Because data is now much easier to access, firms bear the added responsibility of ensuring that it is stored and secured properly so that individuals cannot inappropriately alter or delete information.
Data storage has changed significantly in the last decade as companies have moved the storage of digital data to the cloud. The advantages include only paying for the storage actually used, reduced energy consumption, access to specialized data protection services, and software and hardware maintenance. However, the risk of data hacks and the safety of data are key concerns in the storage of digitized information.

### Uses of Data

Taken together and separately, the internally generated financial statements can provide managers with a wealth of information to enable superior decision-making. Harvard Business School identifies six ways managers can use financial statements.Catherine Cote. “How and Why Managers Use Financial Statements.”
1. Measuring the impact of business decisions such as new software, marketing plan, or product line
2. Aiding in the development of budgets by creating a starting point for future expectations
3. Aiding in cost cutting or the reduction of duplicate activities
4. Providing data-supported strategic planning and visioning
5. Ensuring consistent data and content across departments
6. Motivating teams to set, meet, and exceed goals and objectives

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Much of the data used in business today has been available for many years. However, data today is more attainable than ever due to technological advancements facilitating a user’s ability to gather, evaluate, and store information faster and more cost effectively than ever. Information is continually available, so the quicker and less expensively firms can adjust to the arrival of new information, the more valuable they become for their stakeholders.

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# Introduction to Finance

## Careers in Finance

### Learning Outcomes

By the end of this section, you will be able to:
1. Describe current job opportunities in finance.
2. Describe the financial analyst role.
3. Describe the business analyst role.

### Job Opportunities in Finance: Market Trends

There are many career opportunities in the field of finance. The Bureau of Labor Statistics (BLS) finds that as of May 2020, the median income for finance-related positions was $72,250 versus the overall median income of only $41,950. Further, the BLS predicts that close to an additional 500,000 new finance- and accounting-related jobs will be created by 2029.U.S. Bureau of Labor Statistics.  These new employment opportunities are in addition to the many openings that will become available as baby boomers continue to retire and leave the workforce.
Several of the BLS-listed finance careers do not even have finance or associated wording in the career titles. The BLS identifies finance skills as necessary for careers such as management analysts and market research analysts and work in logistics. Of course, many careers traditionally encourage the study of finance. These include job titles and descriptions such as these:
1. Financial manager: Oversees aspects of and produces reports about an organization’s financial needs, uses, and related activities
2. Investment relations associate: Prepares and presents company financial data to investors and other company stakeholders
3. Budget analyst: Reviews, plans, and evaluates an organization’s financial activities
4. Credit analyst: Reviews financial and related information to determine the creditworthiness of potential clients and customers; typically works at commercial and investment banks, credit unions, and rating firms such as Moody’s or Standard and Poor’s
5. Financial analyst: Collects and examines data to plan future activities and evaluate past decisions
6. Personal financial advisor: Provides advice to clients for short-, intermediate-, and long-term financial planning
7. Loan officer: Helps individuals and organizations apply for loans and typically works for depository financial institutions such as commercial banks
8. Insurance underwriter: Evaluates risk and establishes prices for insurance products such as life, property, and casualty insurance
9. Financial examiner: Evaluates and monitors the activities of depository institutions in an effort to assure proper practice and behavior
10. Finance professor: Teaches college classes, engages in economic and financial research, and provides community service by serving on boards and providing financial expertise

### Financial Analyst Roles

Many executive-level finance officers worked their way up via the role of financial analyst. Job descriptions vary across firms, industries, and government organizations. However, the role of financial analyst usually includes market research, financial forecasting, modeling, cost analysis, and comparative valuations. Financial analysts gather data and produce financial reports in conjunction with multiple departments within a business or organization. They rely on marketing and production personnel to provide accurate sales forecasts, and they work with accountants to create accurate financial reports.
As a financial analyst, you need strong spreadsheet skills, the ability to develop financial models and pro forma financial statements, outstanding analytical skills, and an overall understanding of business processes. Financial analysts possess a well-diversified collection of business and communication skills, both quantitative and qualitative.  lists some tasks that financial analysts must perform on a daily basis. Some firms require an MBA or several years of business experience for their financial analysts.
Internal financial analysts are important for a successful firm or organization because their work can lead to more efficient and cost-effective use of financial and nonfinancial resources. Responsibilities include keeping current with market conditions, developing financial models, reconciling variance between forecasts and outcomes, and serving as a resource for management. Financial analysts fulfill their responsibilities through the development and analysis of financial data including ratio analysis, trend analysis, in-depth discussions with division managers, and the presentation and interpretation of information at meetings and on electronic platforms.
External financial analysts use similar resources and tools to evaluate financial instruments as an aid to investment companies, investment and commercial bankers, and individual investors who rely on their published reports. Various government agencies also use financial analysts to aid in regulatory oversight and enforcement.
A report from a 2019 BLS survey determines that financial analysts earn an average salary of $81,590, and jobs are predicted to grow at a faster-than-average rate of 5% through 2029.Ibid.

### Business (or Management) Analyst Roles

The job description for a business analyst looks much like that for a financial analyst. However, the strong quantitative skills required for a financial analyst are less emphasized in favor of overall strategic thinking. A successful business analyst is able to evaluate business opportunities by using analytical thinking, industry best practices, process development, team building and organization, and information technology. They then communicate optimal courses of action to executive decision makers to maximize value in alignment with the vision and goals of the firm.
Business analysts can help develop strategy and tactics to move a firm forward. They aid in identifying challenges and solutions. Data-driven solutions help get products to market more quickly, evaluate performance, and optimize production and product mix. The Bureau of Labor Statistics identifies the following as typical business analyst duties:
1. Gathering information about problems to be solved or procedures to be improved
2. Interviewing personnel and conducting onsite observations to determine the methods, equipment, and personnel that will be needed
3. Analyzing financial data, revenues and expenditures, and employment reports, among other data
4. Finding root causes for problems and proposing solutions that may include new systems, procedures, or personnel changes
5. Presenting findings to decision makers
6. Conferring with managers to ensure changes work
The average salary for management analysts was $85,260 in May 2019, and the BLS projects 11% growth, or about 94,000 new jobs, over the next decade.Ibid.

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Careers in finance are plentiful, fulfilling, and well compensated. Introductory positions are available in areas such as data collection and data entry. More skill and experience is required for roles such as data analysis and forecasting. Eventually, executive-level positions such as CFO present themselves to the most qualified. Finance careers are not limited to financial firms, as understanding finance is an important skill in government regulatory positions, nonprofit management, and all types of commercial business—from real estate, to retail, to manufacturing, to education.

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# Introduction to Finance

## Markets and Participants

### Learning Outcomes

By the end of this section, you will be able to:
1. Identify primary and secondary markets.
2. Identify key market players.

### Primary and Secondary Markets

Simply put, the primary market is the market for “new” securities, and the secondary market is the market for “used” securities. Think of the primary market as equivalent to the sale of new cars and the secondary market as equivalent to the sale of used cars. In practice, many market locales trade both new and used securities. For example, the stock markets trade equity securities daily, and most of the trading takes place among individual and institutional investors who own shares in publicly traded companies. Trading a share of Amazon, Facebook, or Nike stock has little impact and no direct cash flow to the underlying firm. However, the information provided by such transactions is valuable, as it is a costly and public real-time statement by investors of their perceptions of firm’s value and a reflection of satisfaction and expectations.
Some, though many fewer, transactions in the equity market are for the purchase and sale of new securities. Firms issue new shares of stock called seasoned equity offerings (SEOs) or initial public offerings (IPOs) into the market. These are issues of new shares of stock, previously untraded, and their issuance sends cash flows directly to the underlying firms. SEOs are new shares issued by established firms, and IPOs are new shares issued by firms going public for the very first time. Once the initial transaction takes place, purchasers of these new securities may trade them. However, the second and subsequent trades are secondary, not primary, market transactions.
Extensive primary market transactions take place weekly, when the Treasury Department auctions billions of dollars of new Treasury securities. These new securities repay maturing Treasury securities and provide for the ongoing liquidity and long-term borrowing needs of the federal government. Again, subsequent trading of this government debt occurs as secondary market transactions.

### Key Market Players

Key market players in finance include dealers, brokers, financial intermediaries, and you and me. Each of these players facilitates the exchange of products, information, and capital in different ways. The presence of these players makes financial transactions, easier, faster, and safer—essentially more efficient. You and your friends might engage in direct financial transactions, such as buying a coffee or borrowing money for a movie. These are typically small transactions. However, for transactions that are larger or more complicated, you need advanced financial entities with capital, expertise, and networks. The two segments of the secondary markets are broker markets and dealer markets, as  shows. The primary difference between broker and dealer markets is the way each executes securities trades.

### Dealers

Financial dealers own the securities that they buy or sell. When a dealer engages in a financial transaction, they are trading from their own portfolio. Dealers do not participate in the market in the same manner as an individual or institutional investor, who is simply trying to make their investments worth as much as possible. Instead, dealers attempt to “make markets,” meaning they are willing and able to buy and sell at the current bid and ask prices for a security. Rather than relying on the performance of the underlying securities to generate wealth, dealers make money from the volume of trading and the spread between their bid price (what they are willing to pay for a security) and their ask price (the price at which they are willing to sell a security). By standing ready to always buy or sell, dealers increase the liquidity and efficiency of the market. Dealers in the United States fall under the regulatory jurisdiction of the Securities and Exchange Commission (SEC). Such regulatory oversight ensures that dealers execute orders promptly, charge reasonable prices, and disclose any potential conflicts of interest with investors.

### Brokers

Brokers act as facilitators in a market, and they bring together buyers and sellers for a transaction. Brokers differ from dealers who buy and sell from their own portfolio of holdings. These firms and individuals traditionally receive a commission on sales.
In the world of stockbrokers, you may work with a discount broker or a full-service broker, and the fees and expenses are significantly different. A discount broker executes trades for clients. Brokers are required for clients because security exchanges require membership in the exchange to accept orders. Discount brokers or platforms such as Robinhood or E-Trade charge no or very low commissions on many of their trade executions, but they may receive fees from the exchanges. They also do not offer investment advice.
Full-service brokers offer more services and charge higher fees and commissions than discount brokers. Full-service brokers may offer investment advice, retirement planning, and portfolio management, as well as execute transactions. Morgan Stanley and Bank of America Merrill Lynch are examples of full-service brokers that serve both institutional and individual investors.

### Financial Intermediaries

A financial intermediary, such as a commercial bank or a mutual fund investment company, serves as an intermediary to enable easier and more efficient exchanges among transacting parties. For instance, a commercial bank accepts deposits from savers and investors and creates loans for borrowers. An investment company pools funds from investors to inexpensively purchase and manage portfolios of stocks and bonds. These transactions differ from those of a dealer or broker. Brokers facilitate trades, and dealers stand ready to buy or sell from their own portfolios. Financial intermediaries, however, accept money from investors and may create a completely different security all together. For example, if the borrower defaults on a mortgage loan created by the commercial bank where you have your certificate of deposit, your investment is still safely earning interest, and you are not directly affected.
Financial institutions usually facilitate financial intermediation. However, occasionally lenders and borrowers are able to initiate transactions without the help of a financial intermediary. When this occurs on a large scale, the process, known as disintermediation, can cause much turmoil in the financial markets. In the 1970s, inflation rose above 10% on an annual basis, and yet commercial banks were limited to offering maximum rates of 5% on their savings deposits.United States President and Council of Economic Advisers. “The 1970s: Inflation, High Interest Rates, and New Competition.”  Savers bypassed banks and savings and loan associations to invest directly into Treasury securities and other short-term marketable securities. This lack of deposit funds and the subsequent behavior of the industry essentially eliminated the savings and loan industry and led to significant deregulation of commercial and investment banking in the United States.
The advantages of a robust network of financial intermediaries are many. They add efficiency to the financial system through lower transaction costs. They gather and disperse information to minimize financial abuse and fraud. They provide economies of scale and specialized knowledge. Finally, financial intermediaries are critical for the functioning of a capitalist economy.

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Financial markets are where buyers and sellers of financial securities come together to trade. The trading of securities allows markets to value assets and signal value as new information arrives. Brokers operate to bring buyers and sellers together and receive commissions. Dealers trade from their own portfolios and are often willing to make markets for specific securities by agreeing to buy or sell at the current bid and ask prices. Financial intermediaries actually change or create new financial products.

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### Markets and Participants

Robinhood is a mobile trading platform for stocks, bonds, and options. The company has transformed the security trading industry by introducing commission-free trades and simplifying the trading process with its intuitive mobile app. However, as this Wall Street Journal video about Robinhood explains, the company and its products are not without controversy.