Chapter 14

AN OVERVIEW OF
CORPORATE FINANCING

Brealey, Myers, and Allen

Principles of Corporate Finance
11th Global Edition
McGraw-Hill Education Copyright 2014 by The McGraw-Hill Companies, Inc. All rights reserved.
14-1 PATTERNS OF CORPORATE FINANCING

How Firms Raise Funds

1. Internal financing by plowing back profits,
i.e. retained earnings dividend policy
2. External financing choice between
equity and debt:
a. New equity rights issue, new share issues
b. Debt
i. private debt securities corporate bonds
ii. bank loans term loans, overdraft

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FIGURE 14.1 SOURCES OF FUNDS, U.S.
NONFINANCIAL CORPORATIONS

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TABLE 14.1 U.S. MANUFACTURING, THIRD QUARTER,
2011 ($ BILLIONS), AGGREGATE BALANCE SHEET

What is the (long-term) debt-equity ratio?

What is total debt to asset ratio?
What is long-term debt to capitalization ratio?
Is the Malaysian situation similar or different?
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14-1 PATTERNS OF CORPORATE FINANCING
Leverage may be defined in different ways:
Debt Ratio:
Debt 1,579 2,725
.55
Total assets 7,856

Long-term Debt to Capitalization:

Long - term liabilitie s 1,618

.31
Long - term liabilitie s equity 1,618 3,552
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FIGURE 14.2 DEBT TO NET WORTH,
NONFINANCIAL CORPORATIONS, 1955-2010

Why is that MDR < BDR?

Why are the ratios increasing over time?

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14-2 COMMON STOCK

Important features
Residual claim on assets and cash flow
Mostly held by financial institutions (in US)
Stockholders have ultimate right of control
Right to attend AGM/EGM and to vote for
electing directors and on important issues

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FIGURE 14.3 CORPORATE EQUITY HOLDINGS,
THIRD QUARTER, USA, 2011

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14-2 COMMON STOCK
Voting Procedures
Board of directors comes up for re-election
every year
Classified board of directors
One-third of directors come up for re-election
every year-entrenches management
Make it difficult for dissident major
shareholders to elect a director to represent
their interests.
Types of voting: majority voting, cumulative
voting
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14-2 COMMON STOCK
Dual-Class Shares
Most companies in the US has only one
class of shares and each share has one
voting right
Some companies, however, have two
classes of shares
Both have same cash-flow rights, but different
control rights
Greater control rights grant private benefits

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14-2 COMMON STOCK
Preferred Stock
Takes priority over common stock when
receiving dividends and liquidation claims
Dividends are cumulative or non-
cumulative
Preferred dividends must be paid first
before common dividends are declared
Gains some voting rights if corporation
fails to pay preferred dividend
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14-3 DEBT DIFFERENT FORMS

Debt Comes in Many Forms

Short-term versus long-term maturity matching
Fixed versus floating rate
Local versus foreign borrowings
Senior versus junior debt priority of claims
Straight versus convertible (into equities) bonds

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14-3 DEBT DIFFERENT NAME
Accounts Payable: Good received, not
yet paid for; very short-term debt
Long-term lease of fixed asset
Unfunded obligations: Senior debt,
e.g., employee pensions
Special-Purpose Entities (SPEs)
Raise cash through equity and debt
Do not show up on balance sheet
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FIGURE 14.5 FLOW OF SAVINGS TO INVESTMENT

Investments Savings
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14-4 FINANCIAL MARKETS AND INSTITUTIONS

Financial Markets
Used to raise money through primary issues
Allow investors to trade amongst themselves,
i.e. transferable
Help firms manage risks, e.g. hedging

Financial Intermediaries
Raise money from investors, provide financing
Banks, insurance companies, investment funds

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TABLE 14.2 FINANCIAL ASSETS OF U.S.
INTERMEDIARIES, THIRD QUARTER, 2011

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14-4 FINANCIAL MARKETS AND INSTITUTIONS
Investment Funds
Mutual Fund (open-ended)
Raises money by selling shares to investors
Provide professional fund management
Diversified investment
Money Market Fund
Invests in short-term safe securities
Closed-End Fund
Fixed number of shares
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14-4 FINANCIAL MARKETS AND INSTITUTIONS

Investment Funds
Exchange-Traded Fund (ETF)
Portfolio bought or sold in single trade
Hedge Fund
Restricted access
Limited partnership
Performance-related fees

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14-4 FINANCIAL MARKETS AND INSTITUTIONS

Financial Institutions
1. Commercial banks
Provide loans, safe money storage
2. Investment banks
Assist companies in raising financing
Advise on takeovers, mergers, and
acquisitions
3. Insurance companies
Invest in corporate stocks and bonds
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14-5 THE ROLE OF FINANCIAL MARKETS
AND INTERMEDIARIES
Payment Mechanism: Allows individuals to
make and receive payments quickly and
safely over long distances
Borrowing and Lending: Channels savings
towards those who can best use them
Pooling Risk: Allows individuals to share
risk, i.e., insurance companies
Information: Allows estimation of expected
rates of return

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