Review for chapter 14-15

Types of Securities  Treasury Bills and Treasury Bonds  Municipal Bonds  Corporate Bonds  Preferred Stocks  Common Stocks

Movement of Savings  Direct Transfer of Funds  Indirect Transfer using Investment Banker  Indirect Transfer using a Financial Intermediary

Financial Market Components Public Offering Private Placement Primary Market Secondary Market Money Market Capital Market

Financial Market Components Organized Exchanges Over-the-Counter (OTC)

Investment Banking How do investment bankers help firms issue securities?  Underwriting the issue.  Distributing the issue.  Advising the firm.

Distribution Methods  Negotiated Purchase  Competitive Bid  Best Efforts  Privileged Subscription  Direct Sale

Regulations: The Primary Market The Securities Act of 1933  Firms register with the Securities Exchange Commission (SEC).  SEC has 20 days to review.  SEC may ask for more information.  The firm cannot solicit buyers during the review period but can advertise.

Regulations: The Secondary Market The Securities Exchange Act of 1934  Exchanges must register with SEC.  Company information must be available to the public.  Insider trading is regulated.

Business Risk  The variability or uncertainty of a firm’s operating income (EBIT). FIRM EBIT EPS Stock-holders

Business Risk Affected by:  Sales volume variability  Competition  Product diversification  Operating leverage  Growth prospects  Size

Operating Leverage  The use of fixed operating costs as opposed to variable operating costs.  A firm with relatively high fixed operating costs will experience more variable operating income if sales change.

Financial Risk  The variability or uncertainty of a firm’s earnings per share (EPS) and the increased probability of insolvency that arises when a firm uses financial leverage. FIRM EBIT EPS Stock-holders

Financial Leverage  The use of fixed-cost sources of financing (debt, preferred stock) rather than variable-cost sources (common stock).

Costs Suppose the firm has both fixed operating costs (administrative salaries, insurance, rent, property tax) and variable operating costs (materials, labor, energy, packaging, sales commissions).

Breakeven point (units of output)  Q B = breakeven level of Q.  F = total anticipated fixed costs.  P = sales price per unit.  V = variable cost per unit. Breakeven Calculations Q B = F P - V

Breakeven point (sales dollars)  S* = breakeven level of sales.  F = total anticipated fixed costs.  S = total sales.  VC = total variable costs. Breakeven Calculations S* = F VC S 1 -

DOLs = % change in EBIT % change in sales change in EBIT EBIT change in sales sales = Degree of Operating Leverage from Sales Level (S)

 If we have the data, we can use this formula: Degree of Operating Leverage from Sales Level (S) Q(P - V) Q(P - V) - F = DOLs = Sales - Variable Costs EBIT

DFL = % change in EPS % change in EBIT change in EPS EPS change in EBIT EBIT Degree of Financial Leverage =

DFL = EBIT EBIT - I  If we have the data, we can use this formula:

DCL = DOL x DFL Degree of Combined Leverage = % change in EPS % change in Sales change in EPS EPS change in Sales Sales =

Degree of Combined Leverage  If we have the data, we can use this formula: DCL = Sales - Variable Costs EBIT - I Q(P - V) Q(P - V) - F - I =