FINS1612 Lecture Notes - Lecture 6: Listing Rules, Foreign Exchange Risk, Rights Issue
Lecture 5
- Objective of financial mgmt. is maximise shareholder value
o Investment decision (capital budgeting)- invest in which assets?
o Financing decision (how to fund for purchase of assets)
o Liquidity mgmt. (working capital)- how to best manage CA and CL
o Dividend policy decision- how to retain and/or distribute profits
- Investment decision- real assets v. financial assets (competing investment alternatives
evaluated on basis of shareholder wealth maximisation)
o Contribution of investment to shareholder wealth- NPV + IRR
o Asset: E(CF)
- Pricing a security
o Price is PV of expected future CF
- NPV: difference between PV of CF associated w an investment and the cost of the
investment (price – cost)
- NPV decision rule: accept investment that has positive NPV (reject –ve)
- NPR and IRR influences→ accuracy of forecasted CF + discount rate (required RR)
- I‘‘ is ate hee NPV = 0 aept iestet if I‘‘ is geate tha the fis euied ‘‘
- Financing decision
- Fiaig deisio oes apital stutue used to fud fis usiess atiities
- A- uses and L- sources: how sourced and what ratio
- Most important financing decision is choosing between debt and equity
- Debt: tax shield, leverage, ownership stable VS. financial distress
- Equity: VS. ownership dilution, voting rights (board)
- Financial objective of a corporation is to maximise returns, subject to an acceptable level of
risk
- Returns- net CF and risk- uncertainty/variability of E(CF) → business risk (type of operations-
industry sector- fixed/variable costs- internal and macro fx) and financial risk (exposure to
factors that impact the value of A, L and CF- level of financial risk of co is borne by security
holders)
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o Financial Risk categories: Interest rate risk, foreign exchange risk, liquidity, credit,
capital, country risk
▪ Financial risk and D/E ratio- risk of being unable to meet interest due and
principal repayments associated w use of debt- insolvency
▪ Influence D/E ratio: indust os, histoi leels of fis atio, liit
imposed by lenders through loan covenants (restrictions placed on borrower
specified in loan contract), management assessment f firm capacity to service
debt
o Geaig atio= % of fis total fudig poided by debt
o Loan covenants = conditions or restrictions placed on a borrower and specified in a
loan contract
- IPO: offer to investors of ordinary shares in a newly listed co on stock exchange (ASX listing
req + promoter appoints advisers and underwriters
- Underwriters: ensures a co raises the full amount of issue + assist w advice on structure,
price, timing and marketing of issue and allocation of securities
- Prospectus lodged w ASIC: doc prepd by co stating T&Cs of an issue of securities to the
public
- Out-clause: specific conditions precluding full enforcement of an underwriting agreement
- Publicly listed corporation: has its shares listed and quoted on stock exchange
- Listing on stock exchange
- Company seeking ot have securities quoted on stock exchange- must comply w listing rules
- Non-complying listed co can be suspended from quotation or delisted
- Listing rule principles embrace interests of listed entities, maintain investor protect and rep
and integrity of the market
- Main principles of listing rules incl: security issues, rights and obligations, must be fair to
both new and existing shareholders, prescribed information must be provided to the
exchange in a timely basis, management info that may affect security prices or investment
decisions must be disclosed immediately to the exchange, disclosure of relevant information
of a sufficiently high standard to investors, highest standards of behaviour of company
officers
- Equity funding for listed company
- Additional ordinary shares → rights issue, placements, takeover issues, DRP
o Rights issue: issue ordinary to existing shareholders (pro-rata)
▪ Factors influencing issue price: co CF requirements, projected earnings flows
from new investments funded by rights issue + cost of alternative funding
sources
▪ Rights issued at discount to current share price
▪ Renounceable- shareholder may sell their right + non-renounceable
o Placements: additional ordinary shares issued directly to selected investors deemed
tb clients of brokers
▪ Not required to registered a prospectus but a memorandum of info
▪ Min subscription 500k to <20 participants
▪ Market price discount cannot be excessive
▪ Allows smaller discount and shorter time frame than rights issue
▪ Dilutes holding of non-participating shareholders
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o Takeover issues: 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
o DRP: shareholders have option of reinvesting div in additional ordinary shares-
issued at discount between 0-5%, no brokerage/stamp duty
- Preference shares: hybrids- fixed div rates set at issue date- rank ahead of ordinary
o Cumulative/non; participating (in extra profit)/non, issued w different rankings
o Advantages: fixed interest borrowings but they are an equity finance instrument,
assist in maintaining D/E ratio, widen company equity base- allow further debt tb
raised, dividends may be deferred on cumulative shares and not paid on non
cumulative, while interest on debt must be paid
- Quasi-equity: convertible notes, options, warrants
- Pricing of shares
- Supply and demand influenced by information, PV of fut div paym to shareholders
→ general dividend valuation model
→ valuing a share w a constant dividend (D0)
→ valuing a share w constant dividend growth (g)
- Cum dividend: shares have fut dividend entitlement attached v. once div is paid the shares
are traded ex-div → theoretically share price will fall on ex-div date by size of div
- Bonus share issues: Where a company has accumulated reserves, it may distribute these to
existing shareholders by making a bonus issue of additional shares
o As with dividends, there will be a downward adjustment in share price when shares
go ex-bonus
o As no new capital is raised, there is no change in the assets or expected earnings of
the company → how does public receive this
- Share splits: division of # of shares on issue → Involves no fundamental change in the
structure or asset value of the company
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Document Summary
Objective of financial mgmt. is maximise shareholder value. Investment decision (capital budgeting)- invest in which assets: financing decision (how to fund for purchase of assets, liquidity mgmt. (working capital)- how to best manage ca and cl, dividend policy decision- how to retain and/or distribute profits. Investment decision- real assets v. financial assets (competing investment alternatives evaluated on basis of shareholder wealth maximisation: contribution of investment to shareholder wealth- npv + irr, asset: e(cf) Pricing a security: price is pv of expected future cf. Npv: difference between pv of cf associated w an investment and the cost of the investment (price cost) Npv decision rule: accept investment that has positive npv (reject ve) Npr and irr influences accuracy of forecasted cf + discount rate (required rr) I is (cid:396)ate (cid:449)he(cid:396)e npv = 0 (cid:894)a(cid:272)(cid:272)ept i(cid:374)(cid:448)est(cid:373)e(cid:374)t if i is g(cid:396)eate(cid:396) tha(cid:374) the fi(cid:396)(cid:373)(cid:859)s (cid:396)e(cid:395)ui(cid:396)ed (cid:895) Fi(cid:374)a(cid:374)(cid:272)i(cid:374)g de(cid:272)isio(cid:374) (cid:272)o(cid:374)(cid:272)e(cid:396)(cid:374)s (cid:272)apital st(cid:396)u(cid:272)tu(cid:396)e used to fu(cid:374)d fi(cid:396)(cid:373)(cid:859)s (cid:271)usi(cid:374)ess a(cid:272)ti(cid:448)ities.
