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Money and Capital Markets > Topic 8 – Capital Markets: Corporations and Investors in the Share Markets > Flashcards

Topic 8 – Capital Markets: Corporations and Investors in the Share Markets Flashcards

1
Q

The objective of financial management is to

A

maximize shareholder value

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2
Q

Four main aspects of financial management are

A

Investment decision (capital budgeting)
Financing decision (capital structure)
Liquidity (working capital) management
Dividend policy decision

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3
Q

Investment decision (capital budgeting)

A

What assets to obtain or invest in.

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4
Q

Financing decision (capital structure)

A

How to fund the purchase of these assets.

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5
Q

Liquidity (working capital) management

A

How to best manage working capital – liquidity.

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6
Q

Dividend policy decision

A

What proportion of profits should be distributed/retained.

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7
Q

The financing decision

A

the capital structure used to fund the firm’s business activities.

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8
Q

The financial objective of a corporation

A

maximise return, subject to an acceptable level of risk.

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9
Q

Two sources of risk

A

Business Risk

Financial Risk

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10
Q

Business Risk

A

Exposure to factors that have an impact on a firm’s activities and operations

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11
Q

Financial Risk

A

Exposure to factors that affect value of assets, liabilities and cash flows

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12
Q

Business risk is affected by

A
  • Sectoral growth rates
  • Market share
  • Aggressiveness of competitors
  • Competence of management and workforce
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13
Q

Categories of financial risk

A 
Interest Rate Risk
Foreign Exchange Risk
Liquidity Risk
Credit Risk
Capital Risk
Country Risk
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14
Q

Interest Rate Risk

A

Risk of adverse movements in interest rates

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15
Q

Foreign Exchange Risk

A

Risk of adverse movements in exchange rates

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16
Q

Liquidity Risk

A

Risk of insufficient cash in the short term

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17
Q

Credit Risk

A

Risk of default or untimely payments by debtors

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18
Q

Capital Risk

A

Risk of insufficient shareholder funds to meet capital growth needs or absorb abnormal losses

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19
Q

Country Risk

A

Risk of financial loss due to currency devaluation or inconvertability

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20
Q

debt to equity ratio (D/E)

A

indicates the risk of being unable to meet interest due and principal repayments associated with the use of debt, i.e. risk of insolvency

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21
Q

Although there is no agreed ideal D/E ratio, factors influencing the D/E ratio in practice are:

A
  • Industry norms
  • Historic levels of firm’s ratio
  • Limit imposed by lenders through loan covenants, i.e. restrictions placed on a borrower specified in a loan contract
  • Management’s assessment of the firm’s capacity to service debt
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22
Q

Initial Public Offering (IPO)

A

an offer to investors of ordinary shares in a newly listed company on a stock exchange.

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23
Q

Underwriters

A

A contactual undertaking to purchase securities that are not subscribed to by investors

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24
Q

An IPO is described as

A

Flotation of a business

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25
Q

Flotation of a business

A

the public listing and quotation of a corporation on a stock exchange

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26
Q

Underwriters will provide advice on

A
  • Structure of issue
  • Debt to Equity Ratio
  • Pricing of issue
  • Timing of the issue
  • marketing of issue
  • allocation of securities
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27
Q

Prospectus lodged with ASIC

A

Document prepared by a company stating the terms and conditions of an issue of securities to the public

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28
Q

Out-clause

A

Specific conditions precluding full enforcement of an underwriting agreement

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29
Q

Publicly listed corporation

A

Has its shares listed and quoted on a stock exchange

30
Q

2 common types of corporate structures

A

A limited liability company

A no liability company

31
Q

Limited Liability Company

A

the claim of creditors against shareholders are limited to the issue price of their fully paid shares

32
Q

Proxy

A

is someone who is authorised to vote on a shareholders behalf.

33
Q

Limited liability shares are usually sold

A

fully paid, or can be partly paid (contributing basis) or paid by instalment receipt

34
Q

Installment Receipt

A

Issued upon payment of the first instalment on a new share issue; ordinary share issued when final installment paid

35
Q

listing rules

A

Rules that must be met by an entity seeking to be quoted on a stock exchange

36
Q

Delisted

A

removal from quotation of the securities of an entity that breaches stock exchange listing rules

37
Q

Listing rule principles

A
  • embrace the interests of listed entities
  • maintain investor protection, and
  • maintain the reputation and integrity of the market.
38
Q

A non-complying listed company can be

A

suspended from quotation or delisted.

39
Q

Main principles of a stock exchange’s listing rules include:

A
  • Sufficient investor interest must be demonstrated

- Timely disclosure must be made of information which may affect security values.

40
Q

Different Forms of equity finance are available to established companies

A

Additional ordinary shares
Preference Shares
Quasi-Equity

41
Q

Ways to raise equity funds through issuing additional ordinary shares

A

Rights Issue
Placements
Takeover Issues
Dividend Reinvestment Schemes

42
Q

Ways to raise equity funds through issuing quasi-equity

A

convertible notes
company-issued options
company-issued equity warrants

43
Q

Rights Issue

A

Issue of ordinary shares to existing shareholders

44
Q

Factors affecting the rights issue price

A
  • Company’s cash flow requirements
  • Projected earnings flows from the new investments funded by the rights issue
  • Cost of alternative funding sources
45
Q

Two types of rights issue

A

Renounceable

Non-renounceable

46
Q

Renouncable

A

Shareholder may sell their right issue

47
Q

Non-Renouncable

A

Right issue may not be sold

48
Q

Placements

A

Additional new ordinary shares issued directly to selected investors (institutions and individuals) deemed to be clients of brokers

Minimum subscription $500 000 to not more than 20 participants

49
Q

Takeover issues

A
  • Acquiring company issues additional ordinary shares to owners of target company in settlement of the transaction.
  • Alleviates need for owners of acquiring company to inject cash for the purchase of the company.
50
Q

Dividend reinvestment schemes

A

Shareholders have the option of reinvesting dividends in additional ordinary shares;

51
Q

Preference Shares

A
  • Are hybrid securities, i.e. they have characteristics of both debt and equity
  • pay fixed dividend
  • offer the right to convert to ordinary shares at a future date
52
Q

Features of Preference Shares

A
  • Cumulative or non-cumulative;
  • Redeemable or non-redeemable;
  • Convertible or non-convertible;
  • Participating or non-participating.
53
Q

Cumulative preference Shares

A

Fixed dividends not paid in one period carry forward untill paid

54
Q

Redeemable Preference Shares

A

May be redeemed for cash or convert to ordinary shares at the expiry date

55
Q

Non-redeemable preference shares

A

Only convertible to ordinary shares at expiry date

56
Q

Convertible Preference Shares

A

May be convertible to ordinary shares at a future date at a specified price

57
Q

Participating Preference Shares

A

Holders will receive a higher dividend if ordinary shareholders receive a dividend above a specified amount

58
Q

Advantages of preference shares

A
  • Fixed interest but an equity finance instrument
  • Assist in maintaining debt to equity ratio
  • Widen a company’s equity base, which allows further debt to be raised also
  • Dividends may be deferred on cumulative shares and not paid on non-cumulative shares, while interest on debt must be paid
59
Q

Convertible Notes

A
  • hybrid instrument, issued for a fixed term at a stated rate of interest, either by direct placement or pro-rata to shareholders.
  • Holder has right to convert the note into ordinary shares at a specified future date and at a predetermined price.
  • If share price subsequently rises a gain is made.
  • If share price falls, holder may not exercise conversion option and take the notes’ cash value.
60
Q

Company-issued options

A
  • Bestows a right, but not an obligation, on the holder to buy new ordinary shares in the company
  • Typically offered in conjunction with a rights issue or placement
  • The option will be exercised if the exercise price is less than the market price of the share at the exercise date
61
Q

Company-issued equity warrants

A
  • An option to buy additional shares that is orginally attached to a debt issue
  • Generally attach to corporate bond issues but may be issued unattached
  • option to convert warrant into ordinary shares at specified price over a given period
  • Warrants may be detachable from the bond and traded separately
62
Q

Pre-dividend imputation (prior to 1987)

A

Dividends were taxed twice—first at company level (as profits) and then at the investor’s marginal rate.

63
Q

Dividend imputation (since 1987)

A

Removed the double taxation of dividends

Investors receive franking credit for the tax a company pays on a franked dividend

64
Q

Share Pricing

A

mainly a function of supply and demand for a share

  • influenced mainly by information
  • present value of future dividend payments to shareholders
  • New information that changes investors’ expectations about future dividends will result in a change in the share price.
65
Q

But when dividends are not expected to grow at a constant rate:

A

the investor must evaluate each year’s dividends separately

- However, the multistage growth model does assume that dividend growth eventually becomes constant

66
Q

Cum-dividend share prices

A

A share price includes an entitlement to receive a declared dividend

67
Q

Ex-Dividend Share Price

A

Date at which a share is theoretically expected to fall by the amount of declared dividend

68
Q

Cum-Dividend v Ex-Dividend

A
  • Beforethe ex-dividenddate the shares are said to be cum-dividend. If you buy shares whilst they are cum-dividend you are entitled to the recently announced dividend.
  • Once the dividend is paid the shares are traded ex-dividend
  • Theoretically the share price will fall on the ex-dividend date by the size of the dividend.
69
Q

Bonus share issues

A
  • Where a company has accumulated reserves, it may distribute these to existing shareholders by making a bonus issue of additional shares
  • As with dividends, there will be a downward adjustment in share price when shares go ex-bonus
70
Q

Share Splits

A
  • Involves division of the number of shares on issue
  • no fundamental change in the structure or asset value of the company
  • Theoretically the share price will fall in the proportion of the split
71
Q

Pro-rata rights issue

A
  • Involves an increase in the company’s issued capital
  • Typically issued at a discount to market price
  • Theoretically, the market price will fall by an amount dependent on The number of shares issued and
    The size of the discount

Money and Capital Markets (10 decks)

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