Paper 2

Question 1

Capital rationing and its variations

Answer 1

Capital rationing- where a project with positive NPV can’t find necessary financing

Soft capital rationing- business gets certain amount of capital budgeted finance

Hard capital rationing- where you can’t find financing at all

Question 2

Systematic risk & Unsystematic risk

Answer 2

Systematic- risk that affects a large number of assets e.g GDP, inflation

Unsystematic risk- risk that affects a small number of assets e.g TFL strike

Question 3

Scenario analysis

Answer 3

What happens to NPV estimates when we ask what if questions

To estimate the degree of forecasting risk by detecting key components that influence success or failure of an investment

Question 4

Sensitivity analysis

Answer 4

A variation of scenario analysis that pinpoints where forecasting risk is severe

Investigate what happens to NPV when only 1 variable is changed

Question 5

Simulation analysis

Answer 5

Combination of scenario analysis and sensitivity analysis

Let all items vary at the same time

Question 6

Underwriters role

Answer 6

Underwriters- investment firms that are the intermediaries between company selling stock and the investment public.

They:
-make methods
-price new securities
-sell new securities

Question 7

Private equity

Answer 7

Is the direct investment in private companies
Firms in financial distress must do this

Question 8

Venture capital

Answer 8

Financing for new, often high risk, ventures
Important for start ups
e.g wealthy families, private partnerships, business angels,

Question 9

Stages of PE financing

Answer 9

-seed money, small amount to develop product
-start up, marketing and product development
-later stage capital, additional money for sales and manufacturing
-growth stage capital, expansion money, growth equity
-replacement capital, purchase shares from exisiting investors
Buyout financing- change of ownership

Question 10

Dividend growth model adv and disadv

Answer 10

Adv- simplicity
Disadv- only for dividend paying firms
-requires dividend growth rate forever

Question 11

Signalling theory

Answer 11

Firms with lower expected profit tend to have lower debt

-Firms with high expected prices use interest to reduce tax from earnings
-Raise debt when profits are expected to increase
-Higher debt, higher value