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1

..What are some of the factors to consier when choosing between sources of finance?

Cost
Duration
Term structure of interest rates
gearing
accessibility/availability
lending restriction from the bank
Impact of the financing on the financial statements

2

what is the term structure of interest rates

The term structure of interest rates describes the relationship between interest rates charged for loans of differing maturities.

The term structure of interest rates, also called the yield curve, is a graph that plots the yields of similar-quality bonds against their maturities, from shortest to longest. The term structure of interest rates shows the various yields that are currently being offered on bonds of different maturities. It enables investors to quickly compare the yields offered on short-term, medium-term and long-term bonds. Generally, the term structure of interest rates is a good measure of future economic growth expectations.


Types include:
-Normal; ST yields < long term yield. it is a signal investors believe future economic growth to be strong and inflation high.

- Inverted; ST yields> long term yields- If there is a highly negative inverted curve, it is a signal investors believe future economic growth to be sluggish and inflation low.

-Flat; Little to no variation betwen short and long-
A flat yield curve means investors are unsure about the future.

3

What is gearing

describe an effect of too little debt

Gearing is the ratio of debt to equity finance.

although high gearing involves the use of cheap debt finance, it does bring with it the risk of having to meet regular repayments of interest and principal on the loans. If these are not met, the company could end up in liquidation.

On the other hand, too little debt could result in earnings dilution. For example, the issue of a large amount of equity to fund a new project could result in a decrease in earnings per share (EPS) due to the volume of shares issued, despite an increase in total earnings.

4

What are short term sources of finance

bank overdrafts
bank loans
better management of working capiatal
squeezing trade credit
leasing
sale and lease back

5

What are the three types of share capital

Ordinary shares
Cumulative shares
non cumulative shares

6

explain characterisitcs of ordinary shares

Voting rights in general meetings. Rank after all creditors and preference shares in rights to assets on liquidation.

Dividends payable at the discretion of the directors out of undistributed profits remaining after prior claims have been met.

The right to all surplus capital funds after prior claims have been met.

7

explain characterisitcs of cumulative preference shares

Limited right to vote at a general meeting (only when dividend is in arrears or when it is proposed to change the legal rights of the shares)

Rank after all creditors but usually before ordinary shareholders in liquidation.

A fixed amount of dividend per year at the discretion of the directors. Arrears accumulate and must be paid before a dividend on ordinary shares may be paid.

A fixed amount of capital per shares

8

explain characterisitcs of non cumulative preference shares

ypically acquire some voting rights if the dividend has not been paid for three years. Rank as cumulative in liquidation.

A fixed amount of dividend per year, as above. Arrears do not accumulate.

A fixed amount of capital per shares

9

What are the sources of equity finance

rights issue
external share issues
retained earnings

10

how are internally generated funds created?

They are generated as a result of increased working capital management efficiency and from successful short- and long-term projects.

11

What is a rights issue and advantages

A rights issue is an offer to existing shareholders to subscribe for new shares, at a discount to the current market value, in proportion to their existing holdings.

 it is cheaper than a new share issue
 it is made at the discretion of the directors, without consent of the shareholders or the Stock Exchange

 it rarely fails.
 allow existing shareholders to retain the same proportion of ownership of the company as they did prior to the rights issue

12

what is the theoretical ex rights price?

The new share price after the issue is known as the theoretical ex-rights price and is calculated by finding the weighted average of the old price and the rights price, weighted by the number of shares.

13

what is the formula for terp

(MV of shares currently in issue)+(proceeds from new share issue)
÷
Number of shares in issue after the rights issue

14

what is the value of a right and the formula

To make the offer relatively attractive to shareholders, new shares are generally issued at a discount on the current market price.

Value of a right = theoretical ex rights price – rights issue price

15

what is the value of a right per existing share formula

Value of a right = (theoretical ex rights price – rights issue price ) / number of shares bought

e.g. 1 for 2 issue means 2 shares needed to obtain a right to buy 1 share

so Value of a right per existing share = ($0.40/2)x1 = $0.20

16

how do you calculate the wealth of someone who takes up the share rights issue

wealth after taking up issue=TERP * total shares now owned (old +new)
Cost of purchase= issue price x shares bought

=Total weath

17

what are the methods of new issue of shares to NEW shareholders (when existing shareholders forgo their rights)

and describe the process for each and advantage and disadvantage

1) offer for sale at a fixed price

• Shares that are sold either directly to the general public or via an issuing house.
• An offer for sale is usually underwritten. This leads to high issue costs, and therefore is expensive.
• Leads to dilution of control of the existing shareholders.
• Pricing of the shares can prove difficult.

2) Offer for sale by tender

• Investors will bid for shares at a price of their choice
• All of the shares will then be sold or issued at the maximum price at which all of the shares will be purchased.
• This will maximise the proceeds arising from the issue of new shares.
• Again, there will be a dilution in control for current shareholders.

3) Placing

• The shares are not offered to the public, but instead placed on a sponsoring market whereby the shares are sold to a small number of institutional investors
• Quick and cheap from an administration point of view
• Again, there will be a dilution in control for current shareholders.

18

What are the methods of issue for unquoted company and what type of investors are interested? the company wants to finance without an immediate stock market quotate

Placing or Enterprise investment scheme (EIS)

Investor: Individuals, merchant banks, finance corporations

19

What is placing?

Unquoted companies can arrange for a placing of shares with an institution. The bank advising the company selects institutional investors to whom the shares are ‘placed’ or sold. If the general public wish to acquire shares, they must buy them from the institutions.

• The shares are not offered to the public, but instead placed on a sponsoring market whereby the shares are sold to a small number of institutional investors

• Quick and cheap from an administration point of view

• Again, there will be a dilution in control for current shareholders.

20

What are the methods of issue for quoted or unquote company and what type of investors are interested?

The company wants to finance with an immediate stock market quotation. Finance with a new issue

Method of issue: Stock exchange OR Small firm market placing

: Public offer (IPO) fixed price or offer for sale by tender

Investors: The investing public, pension funds, insurance companies and other institutions.

21

what is a public offer?

A public offer is an invitation to apply for shares in a company based upon information contained in a prospectus, either at a fixed price or by tender.

22

what is fixed price offer?

• Shares that are sold either directly to the general public (including institutions).

• Details of the offer document are published in a prospectus for the issue. The prospectus contains information about the company’s past performance and future prospects

• An offer for sale is usually underwritten. This leads to high issue costs, and therefore is expensive.

• Leads to dilution of control of the existing shareholders.

• Pricing of the shares can prove difficult.

23

what is offer for sale by tender?

Shares are offered to the general public (including institutions) but no fixed price is specified. Potential investors bid for shares at a price of their choosing. The ‘strike price’ at which the shares are sold is determined by the demand for shares.

• Investors will bid for shares at a price of their choice

• All of the shares will then be sold or issued at the maximum price at which all of the shares will be purchased.

OR a price lower than in (a), but with tenders at or above this lower price receiving only a proportion of the shares tendered for, so as to avoid the concentration of ownership in the hands of a few.

• This will maximise the proceeds arising from the issue of new shares.

• Again, there will be a dilution in control for current shareholders.

24

what are the methods of obtaining a stock market listing?

1) IPO- typically when a company becomes listed a large public offering is made. Shares can be at fixed price or offering shares for sale by tender

2)Placing- when obtaining a listing on a stock market- it's unlikely that all of the shares will be placed. At least some of the shares will need to be offered for sale at a fixed price or offered for sale by tender in order to create a proper market for buying and selling shares

3) Introduction

25

What is introduction?

• An introduction normally happens when a company already has a listing on one stock market but wants to also make its shares available for sale on a different stock market. By listing on a different stock market the company may gain access to a large amount of additional potential investors

This refers to a situation where a company has its shares listed on a stock market without the company issuing new shares in order to raise new finance.

It is used where the public already holds at least 25% of the shares in the company (the minimum requirement for a stock exchange listing). The shares become listed and members of the public can buy shares from the existing shareholders.

26

what must be considered when choosing between sources of equity?

accesibility of the finance
amount of finance
costs of the issue procedure
pricing of the issue
control
dividend policy- using RE could impact share price

27

what are the type of bonds?

Deep discount bonds
zero coupon
Hybrids- convertibles
Hybrids- warrants

28

what are deep discount bonds?

100 bond issued at par $50 and redeemable at 100. Very low interest e.g. 1%

▪ The bonds are issued at a price below nominal value
▪ Redeemable at par or above nominal at maturity
▪ This will assist short term cash flow
▪ Deep discount bonds carry a low rate of interest

Much of the return gained by the investor comes from the capital gain when the bond is redeemed.

29

what are zero coupon bonds?

$ 40 issue and 100 redemption. 0% interest

▪ These are bonds that are issued at a discount to their nominal/redemption value
▪ However, no interest is charged on the bond.
▪ For lenders this means the original rate of discount must offer a high yield to be worthwhile.

30

what are hybrid convertible and why is it attractive to companies issuing them

▪ These are bonds that give the holder the right to convert the bond to other securities, (normally ordinary shares) at a pre-determined price/rate and time with predetermined ratio

▪ Prospect of capital gain on shares in the future may attract a lower coupon rate today. also means you don't have to secure it against anything