1.  An Overview of Corporate Financing Principles of Corporate Finance Brealey and Myers Sixth Edition Slides by Matthew Will Chapter 14 © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill

2. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 2 Topics Covered  Patterns of Corporate Financing  Common Stock  Preferred Stock  Debt  Derivatives

3. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 3  Firms may raise funds from external sources or plow back profits rather than distribute them to shareholders.  Should a firm elect external financing, they may choose between debt or equity sources. Patterns of Corporate Financing

4. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 4 Patterns of Corporate Financing

5. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 5 Patterns of Corporate Financing

6. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 6 ? How do we define debt ? Patterns of Corporate Financing

7. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 7 Patterns of Corporate Financing

8. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 8 Common Stock Book Value vs. Market Value Book value is a backward looking measure. It tells us how much capital the firm has raised from shareholders in the past. It does not measure the value that shareholders place on those shares today. The market value of the firm is forward looking, it depends on the future dividends that shareholders expect to receive.

9. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 9 Common Stock Example - Mobil Book Value vs. Market Value (12/97) Total Shares outstanding = 783.4 million

10. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 10 Common Stock Example - Mobil Book Value vs. Market Value (12/97) Total Shares outstanding = 783.4 million

11. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 11 Preferred Stock Preferred Stock - Stock that takes priority over common stock in regards to dividends. Net Worth - Book value of common shareholder’s equity plus preferred stock. Floating-Rate Preferred - Preferred stock paying dividends that vary with short term interest rates.

12. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 12 Corporate Debt  Debt has the unique feature of allowing the borrowers to walk away from their obligation to pay, in exchange for the assets of the company.  “Default Risk” is the term used to describe the likelihood that a firm will walk away from its obligation, either voluntarily or involuntarily.  “Bond Ratings”are issued on debt instruments to help investors assess the default risk of a firm.

13. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 13 Corporate Debt

14. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 14 Corporate Debt continued

15. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 15 Corporate Debt Prime Rate - Benchmark interest rate charged by banks. Funded Debt - Debt with more than 1 year remaining to maturity. Sinking Fund - Fund established to retire debt before maturity. Callable Bond - Bond that may be repurchased by firm before maturity at specified call price.

16. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 16 Corporate Debt Subordinate Debt - Debt that may be repaid in bankruptcy only after senior debt is repaid. Secured Debt - Debt that has first claim on specified collateral in the event of default. Investment Grade - Bonds rated Baa or above by Moody’s or BBB or above by S&P. Junk Bond - Bond with a rating below Baa or BBB.

17. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 17 Corporate Debt Eurodollars - Dollars held on deposit in a bank outside the United States. Eurobond - Bond that is marketed internationally. Private Placement - Sale of securities to a limited number of investors without a public offering. Protective Covenants - Restriction on a firm to protect bondholders. Lease - Long-term rental agreement.

18. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 18 Corporate Debt Warrant - Right to buy shares from a company at a stipulated price before a set date. Convertible Bond - Bond that the holder may exchange for a specified amount of another security. Convertibles are a combined security, consisting of both a bond and a call option.

19. © The McGraw-Hill Companies, Inc., 2000 Irwin/McGraw Hill 14- 19 Derivatives Traded Options - A derivative that gives the firm the right (but not the obligation) to buy or sell an asset in the future at a price that is agreed upon today. Futures - A contractual obligation entered into in advance to buy or sell an asset or commodity. Forwards - A tailor made contract for the purchase of an asset. Not traded on exchanges like futures. Swaps - An agreement between two parties to exchange the interest rate characteristics of two loans.