Table of Contents:
What is the cost of different capital sources:
The rate of return that an equity investors expects is (of course) higher than that of a debt financer. This makes sense: a banker that lends you money under strict terms, and expects payments every month in interest (perhaps with assets such as inventory as security) should feel safer, and demand less of a return on his investment than an equity investor that will only profit if the business is a success.
Based on this logic: equity capital should be the most "expensive", and debt capital should be the least expensive, as shown here:
Subordinated Mezzanine Debt:
see info here:
see our discussion on mezzanine debt and WACC (weighted average cost of capital) for more info
Managerial finance decisions to make:
1. What long term investments should the company pursue? (capital budgeting decision)
2. How can cash be raised for these investments? (capital structure decision for a firm.
3. How much short-term cash does the company need to pay its bills? (net working capital decision)
Uses of Financing
Whether your goal is a management buyout, growth financing, recapitalization, or a turnaround, our Uses of Financing section can start you on the right path. It explains the basics of common corporate transactions and the types of financing associated with each, describes the team you'll need to assemble and the best approaches to take to execute your strategy.
One of the most powerful ways to propel your company's growth, leapfrog your competition and enhance the value of your company is to make a series of acquisitions. To accomplish this, you must have in place a team of professionals and financing sources that will move rapidly and aggressively to support your acquisition strategy.
Increasingly, employees have come to expect ownership of the company for which they work. Employees are able to team up with private equity investors to buy their company. These employee buyouts have substantial tax and cash flow benefits that can make a mediocre company fast-growing and highly competitive.
Use our employee buyout section if you are an owner interested in selling your company to your employees or if you are an employee and want to buy your company.
Countless studies have shown that employee ownership motivates employees to improve productivity, the quality of their work and the competitiveness of their company. It also lowers a company's corporate taxes. Learn more in our ESOP financing section.
The most common use of financing is to fund a company's growth. Whether the need is to fund construction of a new facility, to increase working capital or to finance a new product line, American Capital can help you to determine the optimal capital structure and provide appropriate financing.
Managers often team up with private equity investors to purchase an entire company, a subsidiary, a division or a product line. Often, a combination of debt and equity financing is used. If you are interested in selling your company to your managers, or if you are a manager interested in pursuing a buyout, please enter our Management Buyout section.
Occasionally, a private business will have several owners, and one or more may want to sell a portion or all of his or her stock. The remaining owners will have to come up with the money needed to buy out their co-owner. If the funds aren't readily available, a recapitalization of the company will be necessary. Regional banks--the primary source of financing to small and midsize companies--typically won't extend a business loan for a recapitalization.
A rollup is a strategy of buying several companies in one industry at once or in rapid succession to gain a variety of advantages for your business, such as economies of scale, a broader product line and customer base, and cheaper access to capital. Rollups tend to be complicated transactions and should be implemented by an experienced team of financial professionals.
A turnaround entails the purchase of a company that is in bankruptcy or has had an extended run of poor performance. Financing these companies often includes senior and subordinated debt and equity. It is also common for a new management team to be hired at or about the time of the change in ownership.
Key issues in Finance:
Timing of Cash Flows
One of the key concepts of finance is that cash today is worth more than cash tomorrow. This is because cash today could be invested and grown to more cash tomorrow. Also, its becasue there is no risk in having cash today, but a cash flow tomorrow has some risk (perhaps the person wont pay, or maybe the money wont be worth anything tomorrow?).
When valuing a project (or a company), it is important to look at the value of their expected cash flows.
Investing
see our page on "investing" and asset management
Investment Analysis
net present value
payback period
average accounting return
IRR Internal Rate of Return
profitability index
Valuation
valuing a firm
Valuation Estimator - excellent for high tech startups
business valuation
Business valuation methods
Angel investor valuation method:
Venture Capital Method of Valuation
see also:
money market
commercial paper
bond
annuity
capital budgeting
crossover rate used for comparing 2 projects under capital budgeting
discount rate - guide for startup valuations
derivatives - options, swaps, futures, forwards, etc...
future value
hurdle rate
interest
inflation
IRR - internal rate of return
margin call
net present value
P-E ratio
perpetuity
return
risk
yield curve
Financial Markets
see also Financial markets , Accounting
A company raises cash by issuing securities to the financial markets. The US financial markets have more than $25 trillion in outstanding long-term debt and equity.
There are two basic places to raise money for most firms: (a) money markets, and (b) capital markets
Corporate Finance
see Corporate Finance page in GloboTrends
Most corporations are organized with a CFO (chief financial officer) who supervises two distinct areas:
1. Treasurer - who manages the cash flows, approves capital expenditure plans, and makes overall financial plans for the firm
(a) cash manager (net working capital decisions),
(b) credit manager,
(c) capital expenditures (capital budgeting decisions)
(d) financial planning
2. Controller - who manages the accounting functions, including taxes, cost and financial accounting, and information systems.
(a) cost accounting manager,
(b) tax manager,
(c) financial accounting manager, and
(d) data processing manager
In addition, the CFO will need to lead the financial strategy for the firm. They will need to be good at understanding venture capital and Mergers and Acquisitions activity. The CFO is in charge of managing the risks of the firm, including interest rate risks, liquidity risks, and currency exchange risks. When dealing with shareholders, and stakeholders, the CFO will need to be a clear communicator.
How the corporate finance departments create value for a firm
1. By investing in projects that create cash flows greater than they cost, and
2. By selling bonds and stocks that raise more money than they cost
Corporate firm, and why it exists
The corporation is one way of organizing people to complete complex tasks. One of the main functions and reasons for organizing people into corporations is to raise money. A company that is structured as a corporation has a large advantage in that it can easily raise large amounts of money by issuing shares of equity. There are, however, many other types of organizations that we discuss in Business Forms and Structures.
While looking at the corporation, one key issue that arises is that of control, and how to make sure that corporate officers are acting in the best interests of the owners of the firm. This separation of ownership and management gives corporations an advantage over other structures, but it also raises some very important conflicts of interest between shareholders and managers of corporations. Some of these issues arise because shareholders want the value of the firm to increase, and the stock price to rise, but the managers of the firm may be more concerned about increasing their own personal salaries, or job security. The potential conflict of interest between owners and shareholders is a major concern for investors in a firm.
Fund Raising
raising money
Sources of funding for a business
Debt Financing
bond valuation - using NPV
Eurobond
Bearer bond
syndicated loan
peer-to-peer lending
Equity Financing
stock market
equity (stock)
issuing shares
Board of Directors
stock options
dividends
stock splits
treasury stock
Internal Financing
Factoring - accounts receivable financing
Working Capital
Financial Statement Analysis
financial statement analysis
If accounting is about making the financial statements, then finance is about analyzing them. In this way, Finance and Accounting are very similar topics, but seen from different perspectives.
International Finance
Currency
Carry Trade
Eurobond
International Finance markets
FDI - Foreign Direct Investment
global macro hedge funds
macro economics - national & international level (fiscal & monetary policy)
Microfinance
Benchmark interest rates
LIBOR - London Interbank Offered Rate
prime rate- Wall Street Journal prime rate
federal funds rate
Fed discount rate
FOMC
Other great sources of info from the Web
Finance
As per Professor Damodaran of NYU, all of finance can be divided into three main areas. The first is corporate finance, which is the study of how businesses should make financial decisions. It covers the spectrum from making investment choices, to assessing the right mix of debt and equity to use to how much a firm should return to its owners. The second is valuation, which is the analysis of how the decisions a firm make get reflected in its overall value. The third is portfolio management, where investors try to pit their estimates of value against the market, hoping to win. Since my classes, books, papers and spreadsheets are built around these three areas, you can get to any of them from this section:
Concepts to consider
external links
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 Inflation - Inflation is a measure of how much the general level of prices for goods and services is rising over time. As inflation rises, the purchasing power of every unit of currency is... read more
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Interest Rates - This article describes the impact of interest rates. A related concept is the Yield Curve. An interest rate is the cost of borrowing money. Among the many industries affected... read more
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Private Equity's Impact - Private equity refers to a type of investment aimed at gaining significant, or even complete, control of a company in the hopes of earning a high return. As the name... read more
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Revaluing the Yuan - Many argue that the Chinese currency is overvalued relative to the U.S. dollar. The U.S. possesses several mechanisms to seek a rebalancing of this exchange rate, including... read more
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The Dollar - The dollar's value refers to the purchasing power of the dollar versus other currencies, or the exchange rate between the two currencies. When the dollar is strong, foreign goods... read more
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U.S. Economic Cycles - Economic cycles, sometimes referred to as business cycles, are the fluctuations in economic activity that occur in any developed economy. Theoretically, any deviation... read more
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Yield Curve - The yield curve describes the relationship between various short- and long-term interest rates (i.e., the "term structure"), and is often represented as a graph showing the... read more
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Financial Services Industry
Financial Services Industry
Finance
If accounting is about making the financial statements, then finance is about analyzing them. In this way, Finance and Accounting are very similar topics, but seen from different perspectives.
Investing
Valuation
Valuation Estimator - excellent for high tech startups
business valuation
Business valuation methods
Angel investor valuation method:
Venture Capital Method of Valuation
Investment Analysis
net present value
payback period
average accounting return
IRR Internal Rate of Return
profitability index
Corporate Finance (raising money)
Fund Raising
raising money
Sources of funding for a business
Debt Financing
bond valuation - using NPV
Eurobond
Bearer bond
syndicated loan
peer-to-peer lending
Equity Financing
stock market
issuing shares
Board of Directors
stock options
dividends
stock splits
treasury stock
Internal Financing
Factoring - accounts receivable financing
Working Capital
International Finance
Currency
Carry Trade
Eurobond
International Finance markets
FDI - Foreign Direct Investment
global macro hedge funds
macro economics - national & international level (fiscal & monetary policy)
Microfinance
Benchmark interest rates
LIBOR - London Interbank Offered Rate
prime rate- Wall Street Journal prime rate
federal funds rate
Fed discount rate
FOMC
Financial Analysis
financial statement analysis
Accounting
income statement
balance sheet
cash flow statement
Management / Cost Accounting
Internal management accounting function
cost accounting
inventory- including discussions of LIFO, FIFO
long term assets - issues of depreciation, expensing
These are important issues that affect quality of earnings analysis
Choosing an Accountant
How to pick an accountant for your online business:
http://fortuito.us/2007/06/how_to_pick_an_accountant_for
Links from GloboTrends
annuity
CAPM - Capital Asset Pricing Model - to estimate the cost of equity
capital budgeting
crossover rate used for comparing 2 projects under capital budgeting
discount rate - guide for startup valuations
future value
hurdle rate
interest
inflation
IRR - internal rate of return
mean - geometric mean or the arithmetic mean
net present value
P-E ratio
perpetuity
return
risk
Related videos from Khan Academy
Finance
Videos on finance and macroeconomics
- Introduction to interest
- Interest (part 2)
- Introduction to Present Value
- Present Value 2
- Present Value 3
- Present Value 4 (and discounted cash flow)
- Introduction to Balance Sheets
- More on balance sheets and equity
- Home equity loans
- Renting vs. Buying a home
- Renting vs. buying a home (part 2)
- Renting vs. Buying (detailed analysis)
- The housing price conundrum
- Housing price conundrum (part 2)
- Housing Price Conundrum (part 3)
- Housing Conundrum (part 4)
- Raising money for a startup
- Getting a seed round from a VC
- Going back to the till: Series B
- An IPO
- More on IPOs
- What it means to buy a company's stock
- Bonds vs. Stocks
- Shorting Stock
- Shorting Stock 2
- Is short selling bad?
- Chapter 7:Bankruptcy Liquidation
- Chapter 11: Bankruptcy Restructuring
- Return on capital
- Mortgage-Backed Securities I
- Mortgage-backed securities II
- Mortgage-backed securities III
- Collateralized Debt Obligation (CDO)
- Introduction to the yield curve
- Introduction to compound interest and e
- Compound Interest and e (part 2)
- Compound Interest and e (part 3)
- Compound Interest and e (part 4)
- Bailout 1: Liquidity vs. Solvency
- Bailout 2: Book Value
- Bailout 3: Book value vs. market value
- Bailout 4: Mark-to-model vs. mark-to-market
- Bailout 5: Paying off the debt
- Bailout 6: Getting an equity infusion
- Bailout 7: Bank goes into bankruptcy
- Bailout 8: Systemic Risk
- Bailout 9: Paulson's Plan
- Bailout 10: Moral Hazard
- Credit Default Swaps
- Credit Default Swaps 2
- Investment vs. Consumption 1
- Investment vs. Comsumption 2
- Bailout 11: Why these CDOs could be worth nothing
- Bailout 12: Lone Star Transaction
- Bailout 13: Does the bailout have a chance of working?
- Wealth Destruction 1
- Wealth Destruction 2
- Bailout 14: Possible Solution
- Bailout 15: More on the solution
- Banking 1
- Banking 2: A bank's income statement
- Banking 3: Fractional Reserve Banking
- Banking 4: Multiplier effect and the money supply
- Personal Bankruptcy: Chapters 7 and 13
- Introduction to Compound Interest
- The Rule of 72 for Compound Interest
- Annual Percentage Rate (APR) and Effective APR
- Introduction to Bonds
- Relationship between bond prices and interest rates
- Introduction to Mortgage Loans
- Traditional IRAs
- Roth IRAs
- 401(k)s
- Payday Loans
- Institutional Roles in Issuing and Processing Credit Cards
- Ponzi Schemes
- Currency Exchange Introduction
- Currency Effect on Trade
- Currency Effect on Trade Review
- Pegging the Yuan
- Chinese Central Bank Buying Treasuries
- American-Chinese Debt Loop
- Debt Loops Rationale and Effects
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