Lecture 8
An Overview of Corporate Financing
How Corporations Issue Securities
Topics Covered
Patterns of Corporate Financing
Common Stock
Debt
Financial Markets and Institutions
Patterns of Corporate Financing
Firms may raise funds from external sources or plow back profits rather than distribute them to shareholders.
Should a firm elect external financing, they may choose between debt or equity sources.
Patterns of Corporate Financing
Patterns of Corporate Financing
Patterns of Corporate Financing
Figure 14.2 debt to net worth, nonfinancial corporations, 1955-2010
Patterns of Corporate Financing
Common Stock
Book Value vs. Market Value
  Book value is a backward looking measure.  It tells us how much capital the firm has raised from shareholders in the past.  It does not measure the value that shareholders place on those shares today.  The market value of the firm is forward looking, it depends on the future dividends that shareholders expect to receive. 
Common Stock
Example – Honeywell Book Value vs. Market Value (Dec. ‘08)
Total Shares outstanding = 735 million
 
Common Stock
Example – Honeywell Book Value vs. Market Value (Dec. ‘08)
Total Shares outstanding = 735 million



Figure 14.3 corporate equity holdings, third quarter, 2011
Issues with Common Stock
Who owns the corporation?
Voting procedures
Dual class shares and private benefits
Partnerships
Trusts
REITs (real estate investment trusts)


Preferred Stock
Preferred Stock - Stock that takes priority over common stock in regards to dividends.
Net Worth - Book value of common shareholder’s equity plus preferred stock.
Floating-Rate Preferred - Preferred stock paying dividends that vary with short term interest rates.
Corporate Debt
Debt has the unique feature of allowing the borrowers to walk away from their obligation to pay, in exchange for the assets of the company.
“Default Risk” is the term used to describe the likelihood that a firm will walk away from its obligation, either voluntarily or involuntarily.
 “Bond Ratings”are issued on debt instruments to help investors assess the default risk of a firm.
Figure 14.4 u.s. bond holdings, third quarter, 2011
Corporate Debt
Financial Manager Questions
Corporate Debt
Prime Rate - Benchmark interest rate charged by banks.
Funded Debt - Debt with more than 1 year remaining to maturity.
Sinking Fund - Fund established to retire debt before maturity.
Callable Bond - Bond that may be repurchased by firm before maturity at specified call price. 
Corporate Debt
Subordinate Debt - Debt that may be repaid in bankruptcy only after senior debt is repaid.
Secured Debt - Debt that has first claim on specified collateral in the event of default.
Investment Grade - Bonds rated Baa or above by Moody’s or BBB or above by S&P.
Junk Bond - Bond with a rating below Baa or BBB.
Corporate Debt
Eurodollars - Dollars held on deposit in a bank outside the United States.
Eurobond - Bond that is marketed internationally.
Private Placement - Sale of securities to a limited number of investors without a public offering.
Protective Covenants - Restriction on a firm to protect bondholders.
Lease - Long-term rental agreement.
Corporate Debt
Warrant - Right to buy shares from a company at a stipulated price before a set date.
Convertible Bond - Bond that the holder may exchange for a specified amount of another security.

Convertibles are a combined security, consisting of both a bond and a call option.
Financial Markets
Figure 14.5 flow of savings to investment
14-4 financial markets and institutions

Topics Covered
Venture Capital
The Initial Public Offering
Alternative Issue Procedures for IPOs
Security Sales by Public Companies
Rights Issue
Private Placements and Public Issues
Venture Capital
  Since success of a new firm is highly dependent on the effort of the managers, restrictions are placed on management by the venture capital company and funds are usually dispersed in stages, after a certain level of success is achieved.
Venture Capital
Venture Capital
FIGURE 15.1 U.S VENTURE CAPITAL INVESTMENTS
Initial Offering
Initial Public Offering (IPO) - First offering of stock to the general public.
Underwriter - Firm that buys an issue of securities from a company and resells it to the public.
Spread - Difference between public offer price and price paid by underwriter.
Prospectus - Formal summary that provides information on an issue of securities.
Underpricing - Issuing securities at an offering price set below the true value of the security.
Motives For An IPO
The Top Managing Underwriters
Average Initial IPO Returns
15-2 THE INITIAL PUBLIC OFFERING
IPO Proceeds
IPO Proceeds and First Day Returns
General Cash Offers
Seasoned Offering - Sale of securities by a firm that is already publicly traded.
Rights Issues - Issues of securities offered only to current stockholders (non-dilutive)
Cash Offer - Sale of securities open to all investors by an already public company. (dilutive)
Shelf Registration - A procedure that allows firms to file one registration statement for several issues of the same security.
Private Placement - Sale of securities to a limited number of investors without a public offering.

TABLE 15.3 UNDERWRITING SPREADS
Total Direct Costs of Raising Capital
15-4 SECURITY SALES BY PUBLIC COMPANIES
15-4 SECURITY SALES BY PUBLIC COMPANIES
15-4 SECURITY SALES BY PUBLIC COMPANIES
15-4 SECURITY SALES BY PUBLIC COMPANIES