4. Sources Of Finance Flashcards
What is a preference share feature
Dividend rate is a fixed % at par value
Lower risk
Paid before ordinary shares
What are examples of major internal sources of finance
Long term - retained profit
Short term - reduced inventories levels
Delayed payments to trade payables
Tighter credit control
What are major External sources of finance
Long term - ordinary shares
Preference shares
Borrowings
What are major External sources of finance risk and return relationship
Loan capital paid first
Then preference share
Then ordinary share
Risk and return increase in this order and
What is the formula for share premium
Share premium = (issue price - par value) x number of shares sold
Next has a par value = 10p & current price = 6036p
Next issues 10m shares at 6000p how is this shown in the account
Share capital increases by 1m (10p x 10m)
Share premium increases by £599m (6000-10) x 10m
Cash increases by 600m
What is a challenge with raising finance as a small firm
Retained profit is main source
Hard to give up a share of company when it’s not worth much
But access to debt finance may be restricted
What are the methods of sale of equity in a primary market
IPO
Placing - shares sold to selected institutional investors (inexpensive)
Stock exchange introduction - when shares already widely held and no finance is raised(low admin cost)
What are methods of raising additional equity from owners
Vendor placing- new shares issued & given to purchase another company
Open offers - share holders invited to buy shares in proportion to their existing holding at rate less than market price but this right cannot be traded
Right issue - same as open offer but right can be traded
What are the features of a a rights issue
Issued at discount to market price
- to make them look attractive
- to protect them against fall in price during issue period
What is the formula TERP
([Old share value * no of shares] + price of new share) / total no of shares
Why might the actual price differ from the TERP
Info released to market
Market expectations
Intended use of funds
Prospects of company
What are benefits of a rights issue
Cheaper to issue
Finance is guaranteed to company from selling shares or underwriting
What are consequences for financial statements of sourcing equity
Income statement
- dividends, dps may lower if more shares are issued as it will depart more funds from profit
- Earning per share may increase or decrease depending on if excess finance was raised
Statement of financial position
- increase in shareholder funds
- effect on gearing and debt equity ratio (lower)
What is considered debt and what are examples
Debt includes all forms of borrowing that have interest payments
- loans
- bonds
- leasing
What are advantages and disadvantages of debt
Advantages
- low risk to investor
- cheap to company
- predictable flows
- does not dilute company
Disadvantage
- investor has no voting rights
- company must pay
- Increases risk via gearing
What are consequences for financial statements of debt financing
Income statement
- interest payments in finance charges
- earnings per share, profits will have more interest payments deducted but if company uses financed raised to generate greater revenue EPS may increase
Statement of financial position
- gearing will rise as higher debt but if raised finance is used effectively may reduce
What are the key features of bonds
Have a par value
Carries a coupon rate (interest rate)
Can be redeemable at end of life
Can be traded on secondary market
What is a deep discount bond
Issued at a large discount to its par value thus interest rate is lower
Can be returned at par or above on maturity
What are convertible bonds
Bonds that can be converted to cash or shares at the end of their life
Can cause problems with equity dilution
What is leasing
Paying to use an asset owned by a lessor
