FIN302 Week One Notes
FIN302 Week One Notes FIN302
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This 7 page Class Notes was uploaded by Rachel Grunert on Tuesday January 19, 2016. The Class Notes belongs to FIN302 at University of Miami taught by Stuart Webb in Fall 2015. Since its upload, it has received 23 views. For similar materials see Fundamentals of Finance in Finance at University of Miami.
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Date Created: 01/19/16
January 12 , 2016 Business Structure 1. Sole proprietorship owned by 1 individual who is financially responsible for business Advantages: easiest to create, control, & dissolve right to all profits Disadvantages: unlimited liability (personal assets are at risk) business income is taxed as personal income difficult to transfer ownership 2. Partnership owned by more than 1 person Advantages: limited protection of assets (limited liability) more sources of equity/expertise Disadvantages shared control moral hazard: private benefits shared profit moral hazard: effort incentives harder to dissolve Moral Hazard (efficient level of effort) hidden action problem if individual does not bear full cost/receive full benefit of action, they may prefer other actions solution: contracts that take account of incentive efforts 3. Corporation no one owner is financially responsible Advantages protects personal assets easiest to change ownership many sources of funds Disadvantages most difficult and expensive to establish dilutes individual control overall higher taxes on income for shareholders ***instruments= securities= assets*** Uses of Financial Instruments 1. Allocation of capital financing of projects 2. Consumption smoothing saving and borrowing 3. Allocation of risk diversification hedging (locking in a future price GOOD OR BAD) Southwest hedged price for fuel; good when current price of fuel is high 4. Separation of management and ownership stability agency costs th January 14 , 2016 Types of Financial Intermediaries Commercial banks (local banks) Investment bank o full service consultant on issuance of new securities o frequently take a position on new securities at least temporarily Mutual funds o buy stock in other companies and sell stock in their own o pooling mechanism to overcome market frictions o highly regulated o allows diversification easily Hedge funds o restricted investor base (only qualified investors, net worth of at least $1 million or make at least $300,000 yearly) o less regulation o buy stocks, bonds, buildings, etc. Venture capital/private equity o gives $$ to startup company in return for shares (venture capital) o gives $$ to more mature companies (private equity) Financial Instruments (instruments= assets= securities) Asset classes: fixed income * public equity * derivatives * private equity real estate commodities foreign exchange When selecting securities you should know: 1. Security interest rate, contract redemption, dividend policy [do they pay dividends? how often? how much?] 2. Company bankruptcy risk, order of payments 3. Market forecast, regulation Fixed Income Securities/Debt Instrument no voting right: “borrowing instruments” bonds: o treasury bonds = sold by US government o municipal bonds = sold by state and local governments o corporate bonds= sold by companies Equity voting right: “ownership in a firm” o i.e. shareholders vote for board of directors residual claim o a stock is a claim to funds after all debts have been paid limited liability Treasury bonds treasury bills [maturity = less than one year] treasury notes [maturity = 110 years] treasury Bonds [maturity = 1030 years] semiannual coupon payments traditionally seen as a safe investment o gov’t can collect $$ through taxes o gov’t can print more $$ causes inflation Which bond pays the highest interest rate: 10 year TBond or 1 year Tnote? 10 year TBond [more time= more risk that you won’t get paid back or that the money is worth less ***time value of money***] Municipal Bonds issued by state and local governments exempt from federal income tax exempt from (issuing) state tax Types of ‘munis’: o general obligation bonds: backed by the “full faith of credit” of the issuer (taxing power can raise taxes to pay you back) o revenue bonds (riskier): issued to finance specific projects (i.e. airports, hospital, etc.) Municipal vs. Treasury bond A general obligation municipal bond pays 4% a treasury bond pays 5% Which bond would you rather own if your marginal tax rate on interest payments is 20%? o doesn’t matter tax rate evens it out [.05 x 20 = $1; 51=4] Which would you choose is the tax rate is higher than 20%? o Municipal because taxes make treasury bond payments less Corporate Bonds default risk commercial paper o short term longer term, typically pays semiannual coupons different seniority classes (who gets paid first) o senior vs. junior/subordinated o only an issue if the company can’t make all it’s payments Equity ownership in a firm future cash flows (dividends) are uncertain every firm has its own dividend policy maturity is indefinite involves risk, variable liquidity valuation: TVM adjustment + risk adjustment 2 main classes o Common stock: voting rights (‘junior’) o preferred stock: nonvoting (‘senior’) o **unless specifically says preferred stock it’s common stock!!*** o dividend rate x par value = annual cash flow Market Capitalization (abbreviated Market Cap)= total value of all shares in the world (# of shares x price per share)
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