Financial Management and Securities Markets Chapter 16 1 1
Chapter 16 Learning Goals How do finance and the financial manager affect the firm’s overall strategy? What types of short-term and long-term expenditures does a firm make? What are the main sources and costs of unsecured and secured short-term financing? What are the key differences between debt and equity, and the major types and features of long-term debt? When and how do firms issue equity, and what are the costs?
Chapter 16 Learning Goals (cont’d.) How do securities markets help firms raise funding, and what securities trade in the capital markets? What are the major U.S. securities exchanges and how are they regulated? What are the current developments in financial management and the securities markets?
Learning Goal 1 How do finance and the financial manager affect the firm’s overall strategy? Finance involves managing firm’s money Financial manager decides How much money is needed and when How best to use the available funds How to get the required financing Financial manager’s responsibilities Financial planning Investing (spending money) Financing (raising money) Goal of the financial manager Maximize the value of the firm
Financial management: The art & science of managing a firm’s money so that it can meet its goals
Cash Flow Through a Business Borrowed funds Owners’ investment Sale of fixed assets $ Cash sales Collection of accounts receivable Purchase of fixed assets Payment of expenses Payment of dividends Purchase of inventory
Learning Goal 2 What types of short-term and long-term expenditures does a firm make? Short-term expenditures Supplies Inventory Wages Long-term expenditures Fixed assets Land Buildings Equipment Projects are carefully analyzed by financial managers to determine which offer best returns
How Organizations Use Funds short-term expenses cash management accounts receivable inventory long-term expenditures capital expenditures capital budgeting
Learning Goal 3 What are the main sources and costs of unsecured and secured short-term financing? Main sources of unsecured short-term financing Trade credit Bank loans Commercial paper Secured short-term financing Require pledge of assets as security for loan Selling accounts receivable outright at a discount
Obtaining Short-term Financing unsecured short-term loans trade credit, bank loans, commercial paper secured short-term loans collateral, factoring
Learning Goal 4 What are the key differences between debt and equity, and the major types and features of long-term debt? Debt financing Interest is tax-deductible Requires payment of interest and principal on specified dates Equity Common and preferred stock Permanent form of financing Firm may or may not pay dividends Dividends are not tax-deductible
Learning Goal 4 (cont’d.) What are the key differences between debt and equity, and the major types and features of long-term debt? Long-term debt Types Term loans Secured or unsecured 5- to 12-year maturity Bonds 10- to 30-year maturity Mortgage loans Secured by real estate
Learning Goal 5 When and how do firms issue equity, and what are the costs? Chief sources of equity financing Common stock Cost includes issuing costs and potential dividend payments Retained earnings Profits reinvested in firm Preferred stock More expensive than debt Dividends not tax-deductible Claims are secondary to those of debtholders Less expensive than common stock Venture capital Often a source of equity financing for young companies
Raising Long-term Financing debt financing financial risk term loan, bonds, mortgage loan equity financing common stock, dividends, retained earnings, preferred stock, venture capital
Debt vs. Equity Financing Management Claim on income & assets Maturity Tax treatment Debt creditors have none greater claim stated maturity interest is deductible Equity stockholders vote residual claim no maturity dividends not deductible
Learning Goal 6 How do securities markets help firms raise funding, and what securities trade in the capital markets? Securities markets Allow stocks, bonds, and other securities to be bought and sold quickly and at a fair price New issues are sold in primary market Securities are traded in secondary market Investment bankers Specialize in issuing and selling new security issues Stockbrokers Licensed professionals who buy and sell securities on behalf of their clients
Securities: Investment certificates issued by corporations or governments that represent either equity or debt
Types of Securities Markets Primary new securities sold to the public issuer gets proceeds Secondary already issued securities are traded stock exchanges, commodities exchanges, over-the-counter market
Other Popular Securities U.S. Government securities and municipal bonds Mutual funds pools investors’ funds Futures contracts Options
Learning Goal 7 What are the major U.S. securities exchanges and how are they regulated? Securities are resold on: Organized stock exchanges, such as the New York Stock Exchange Regional stock exchanges Over-the-counter market Securities markets are regulated by Securities Act of 1933 Requires disclosure of important information on new securities issues Securities Exchange Act of 1934 and 1964 amendment Formally empowered the SEC to regulate organized securities exchanges and over-the-counter market Investment Company Act of 1940 Places investment companies such as mutual funds under SEC control Self-regulatory groups such as the NASD “Circuit breakers” to halt trading if the Dow Jones Industrial Average drops rapidly
Securities Exchanges Organized stock exchanges Over-the-Counter Market re-sell securities in an auction-type format US stock exchanges New York Stock Exchange American Stock Exchange Global trading & foreign exchanges Over-the-Counter Market electronic-based Nasdaq
Securities Exchanges: NYSE To prevent a fast crash, the New York Stock Exchange has several “circuit breakers” a 1,100-point drop stops trading for 1 hour if it occurs before 2:00 pm a 2,250-point drop stops trading for 2 hours if it occurs before 1:00 pm a 3,350-point drop stops trading for the rest of the day Source: Associated Press in The Arizona Republic, Jan. 3, 2000, pg. D3.
Learning Goal 8 What are the current developments in financial management and the securities markets? Financial managers are spending more time on risk management Identifying and evaluating risks Selecting techniques to control and reduce risk Securities markets and the investment industry are changing considerably New York Stock Exchange no longer dominates equity market activity Nasdaq is challenging the Big Board Emergence of electronic exchanges