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essentials corporate finance
Corporate Finance 4th Edition David Hillier - Solutions
8 Implications for Corporate Finance What does efficient market theory and behavioural finance imply for corporate decision-making? Provide three examples of how each theory may affect managerial behaviour. In your opinion are the financial markets efficient? Explain.REGULAR
11 Investment Gurus In every market crash, some investors can earn significantly positive returns. How can you explain this using the efficient markets hypothesis and behavioural finance theory?
14 Investor Sentiment Some people believe that, following the European Consumer Confidence Index(see chart below), allows you to predict future market movements. The Index was consistently negative between 2014 and 2019. Look at the stock market indices of any European country for the same period.
15 Efficient Markets All publicly listed European companies follow International Accounting Standards.This means that financial statements are based largely on market values instead of historical cost measures.Assuming the market is semi-strong form efficient, does this mean financial statements
18 Efficient Markets Hypothesis When the 56-year-old founder of Turkish firm Gulf Oil and Minerals died of a heart attack, its share price immediately jumped from 18.00 Lira a share to 20.25 Lira, a 12.5 per cent increase. This is evidence of market inefficiency because an efficient stock market
20 Efficient Markets Hypothesis TransTrust NV has changed how it accounts for inventory. Taxes are unaffected, although the resulting earnings report released is 20 per cent higher than it would have been under the old accounting system. There is no other surprise in the earnings report, and the
22 Efficient Markets Hypothesis Your broker commented that well-managed firms are better investments than poorly managed firms. As evidence he cited a recent study examining 100 small manufacturing firms that, eight years earlier, had been listed in an industry magazine as the best-managed small
26 Behavioural Finance A global publication has identified a fund manager as consistently outperforming the market over the past five years. An analyst argues that the identification of this manager will lead investors to put more cash into the manager’s fund and this money will be used to carry
27 Efficient Markets Hypothesis Assume markets are efficient. During a trading day, British Golf plc announces it has lost a contract for a large golfing project that, prior to the news, it was widely believed to have been secured. If the market is efficient, how should the stock price react to
29 Stock Market Movements Some people argue that the efficient market hypothesis cannot explain the 2018 global stock market falls. Provide an explanation using the efficient market hypothesis and behavioural finance.
33 Cumulative Abnormal Returns National Airlines Group, Air France-KLM and Lufthansa announced purchases of planes on 18 July (18/7), 12 February (12/2) and 7 October (7/10), respectively. Given the following information, calculate the cumulative abnormal return (CAR) for these equities as a group.
1 Explain what is meant by efficient market theory and discuss some of its implications for corporate financial management. (25 marks)
2 ‘Even in an efficient market it is still valid to seek out a “favourable” rate of return from an equity investment.’Consider the argument that, in an efficient market ‘one security is as good as any other’. (25 marks)
3 Explain how behavioural finance can provide insights to corporate financial managers. (25 marks)
4 What strategies can financial managers follow if they believe behavioural finance is a valid hypothesis?(25 marks)
1 What implications do you draw from the graph for mutual fund investors?You have been at your job for West Coast Yachts for a week now and have decided you need to sign up for the company’s retirement plan. Even after your discussion with Sarah Brown, the Skandla Financial Services
2 Is the graph consistent or inconsistent with market efficiency? Explain carefully.You have been at your job for West Coast Yachts for a week now and have decided you need to sign up for the company’s retirement plan. Even after your discussion with Sarah Brown, the Skandla Financial Services
3 What investment decision would you make for the equity portion of your retirement account? Why?You have been at your job for West Coast Yachts for a week now and have decided you need to sign up for the company’s retirement plan. Even after your discussion with Sarah Brown, the Skandla
1 Visit Yahoo! Finance and download the share prices of five British banks for the dates 1 August 2008 to 31 January 2009. Also download the FTSE 100 index for the same period.In many countries, regulators have moved to ban an activity called equity short-selling. In order to sell equity short, a
2 Track each bank’s share price before the ban, during the ban and after the ban. Do the share price movements support the view that the market was irrationally depressed because of speculative activity?In many countries, regulators have moved to ban an activity called equity short-selling. In
3 Carry out your own investigation of short-selling in Europe. How did other European governments deal with the short-selling controversy?In many countries, regulators have moved to ban an activity called equity short-selling. In order to sell equity short, a trader would open an account with a
4 Write a report about the short-selling controversy in the context of the efficient markets hypothesis and behavioural finance. What does it say about the validity (if at all) of either theory?In many countries, regulators have moved to ban an activity called equity short-selling. In order to sell
5 If there is one area where International Financial Reporting Standards have faced a lot of criticism, it is with respect to their effect on market prices. Because financial assets and liabilities have to be reported at fair or market value, volatility in the stock markets inevitably leads to
1 Ordinary Shares What is a proxy? What is the difference between voting rights and cash flow rights? Do you think this will have an impact on share values?
2 Corporate Long-term Debt Why do you think companies have issued bonds in different currencies, maturities and coupon rates? Shouldn’t the coupon be the same on every bond? Explain.
3 Preference Shares Preference shares do not offer a corporate tax shield on the dividends paid. Why do we still observe some firms issuing preference shares?
4 Patterns of Financing Why do you think companies in certain countries prefer different forms of financing?Carry out your own research and comment on capital structure choice among firms in the G7 countries.
5 Hierarchies What is meant by hierarchies in long-term financing and why are bonds higher in priority than shares?
6 Debt versus Equity Financing Review the differences between debt and equity financing. Explain in detail how debt differs from equity. Are preference shares better than debt and equity because they have hybrid characteristics?REGULAR
7 Preference Shares and Bond Yields The yields on non-convertible preference shares are lower than the yields on corporate bonds. Why is there a difference? Which investors are the primary holders of preference shares? Why?
8 Corporate Financing What are the main differences between corporate debt and equity? Why do some firms try to issue equity in the guise of debt? How would you categorize preference shares?
9 Par Values International Energy plc was formed in 1912 with 100,000 shares of equity with a £1 par value.Today, the company’s share price is £9 and retained earnings are £213,000. International Energy has just decided that it wishes to issue 25,000 new shares. What will be the total par
10 Corporate Financing The Cable Company has £1 million of positive NPV projects it would like to accept.If Cable’s managers follow the historical pattern of long-term financing for UK industrial firms, what will their financing strategy be?
11 Preference Shares Do you think preference shares are more like debt or equity? Why?
12 Book Value per Share Consider the shareholder equity statement for Toosoon plc. What is the book value per share?Shareholders’ Equity £Ordinary equity, 6,000,000 at £2 par value 12,000,000 Additional paid-in capital 48,000,000 Retained earnings 10,000,000 Treasury stock, at cost −2,000,000
14 Internal versus External Financing What is the difference between internal financing and external financing? What factors influence a firm’s choices of external versus internal equity financing?
15 Security Priority A company has €25 million in equity, €18 million in preference shares, €15 million in secured bonds and €34 million in unsecured bonds. Assume that, because of financial distress, the managers have decided to liquidate the firm’s assets and pay off the funders. The
16 Shareholder Loans In what situations would you consider using shareholder loans? What are the benefits from using shareholder loans and what are the drawbacks?CHALLENGE
17 Equity Accounts Following are the equity accounts for Dawn Technologies:Ordinary shares, £0.12 par value 120,000 Additional paid-in capital 4,526,123 Retained earnings ?Total 6,421,830(a) What are the retained earnings of Dawn Technologies?(b) How many shares are outstanding?(c) At what average
18 Equity Accounts The equity accounts for ABC plc are as follows:Ordinary shares, £2 par value 500 shares outstanding ?Capital surplus 250,000 Retained earnings 750,000 Total ?(a) What are the ordinary share and total equity values for the equity account?(b) The company has decided to issue 5,000
19 Equity Accounts Ulrich plc’s articles of incorporation authorize the firm to issue 500,000 shares of £5 par value ordinary equity, of which 410,000 shares have been issued. Those shares were sold at an average of 30 per cent over par. In the quarter that ended last week, net income was
20 Corporate Voting The shareholders of Unicorn plc need to elect seven new directors. There are 500,000 shares outstanding, currently trading at £34 per share. You would like to serve on the board of directors; unfortunately no one else will be voting for you. How much will it cost you to be
21 Multiple Share Classes Facebook founder Mark Zuckerberg owns 18 per cent of Facebook’s shares, with the other 82 per cent of shares owned by outside investors like financial institutions. Zuckerberg’s shares are B class with 10 votes per share, while A class shares (held by institutions)
22 Multiple Share Classes What are the strengths of a dual-class share structure like that encountered in Facebook? Answer from the perspective of an institutional investor and Mark Zuckerberg.
23 Hybrid Securities Your company is considering the issue of a security that pays a fixed dividend for 20 years, at which point the security will cease to exist. If your firm can’t afford to pay the dividend in any year, the dividend will cumulate to the next year so that two dividends must be
24 Share Capital The Akva Group ASA equity accounts for 2008–2010 are given below. Explain what each item is and how it changed over time.Note 2010 2009 2008 Equity Paid-in capital Share capital 15 17,223 17,223 17,223 Share premium reserve 256,178 256,178 256,178 Other paid-in capital 2,337
25 Shareholdings In 2012, Rangers Football Club had a majority shareholder, Craig Whyte, who owned 83.5 per cent of the firm. The same individual also owned secured debt worth £18 million and was Rangers’largest secured creditor. Why would an individual choose to be a major lender at the same
26 Cumulative Voting An election is being held to fill three seats on the board of directors of a firm in which you are a shareholder. The company has 2,500 shares outstanding. If the election is conducted under cumulative voting and you own 300 shares, how many more shares must you buy to be
27 Family Firms and Long-term Financing Assume that you are the manager of a family firm and the company wishes to expand its operations into a new unrelated business sector. The expansion requires funding. What type of financing (debt or equity) would you choose and why?
28 Financial Flexibility Your company plans to expand into a new business sector that requires higher levels of capital investment and fixed costs. Holding all else equal, what type of financing (debt or equity)would you choose to fund the expansion and why?
29 R&D-intensive Firms If you are the manager of a young research-intensive firm, which type of financing would you prefer and why? Carry out research on research-intensive firms in your country. What is the preferred financing choice of firms in practice?
1 Your company, Living Planet plc, was formed in 2015 to develop technologies that combat climate change.You started the firm with £80,000 financing, which consisted of 3,000 shares of equity amounting to £60,000 and a £20,000 bank loan. The company is listed on the small companies exchange and
2 You are concerned that possibly other forms of financing may be more appropriate and, in particular, you have heard about hybrid securities. Explain what these are and why companies use them. (30 marks)
3 If a company were to go into liquidation, which claims would have higher priority: bonds or equity? Why?How would you deal with hybrid securities in liquidation? (30 marks)
1 How would you structure the share classes so that you retained control over the firm?In 2018, you launched a wearables technology firm with a single product. The product is a ring that measures heart rate, heart rate variability, skin temperature and blood pressure on a continuous basis.The firm
2 What are the criticisms of this approach as a signal of keeping your influence on the firm?In 2018, you launched a wearables technology firm with a single product. The product is a ring that measures heart rate, heart rate variability, skin temperature and blood pressure on a continuous basis.The
3 How would you sell this dual-class share structure to potential investors?In 2018, you launched a wearables technology firm with a single product. The product is a ring that measures heart rate, heart rate variability, skin temperature and blood pressure on a continuous basis.The firm has been
4 Are there other ways you can guarantee your ongoing involvement in the firm?In 2018, you launched a wearables technology firm with a single product. The product is a ring that measures heart rate, heart rate variability, skin temperature and blood pressure on a continuous basis.The firm has been
5 Choose a company from your country. Download its financial accounts and find out how its long-term funding is structured. Does it have more debt than equity? Are there any securities that have debt and equity characteristics? Try to ascertain the funding hierarchy for the company.
6 As with all the chapters dealing with financial instruments, the main accounting standard is IAS 39 Financial Instruments: Recognition and Measurement. IAS 39 provides definitions for different types of financial securities and how these should be treated in the financial accounts. This can
1 The Public Issue Review the steps involved in the public issue of equity. Do a search on Google for a public equity issue in your country, download all relevant news stories and track the issue process for the company. Is it similar to the one presented in this chapter? For IPOs, what do you
2 Alternative Issue Methods What is the difference between a public offering and a private placement?What might explain a company’s decision to favour one over the other? Your discussion should make reference to the advantages and disadvantages of each.
4 Shelf Registration Explain the benefits of shelf registration. Why would shareholders not be keen on shelf registration?REGULAR
5 The Private Equity Market Provide an overview of the private equity market. Why would firms wish to go private once they have listed on a stock exchange? In March 2019, the British budget airline, Flybe delisted from the London Stock Exchange. Why do you think this was? Do you think this will be
6 IPO Underpricing What is meant by underpricing? Why are most IPOs underpriced? Drawing on the academic evidence, explain the main theories behind this phenomenon. Is this a sign of market inefficiency? Explain.
7 IPO Pricing Unicredit, a multinational bank, had a rights issue in January 2012. Assisted by a consortium of banks including BofA Merrill Lynch and Mediobanca, Unicredit sold 3.86 billion shares at €1.943 each, thereby raising a total of €7.5 billion. At the end of the first day of trading,
8 Costs and Benefits of IPOs Outline the advantages and disadvantages for a company undertaking an IPO.
9 IPO Underpricing around the World IPO underpricing is a worldwide phenomenon. In the United Kingdom they are underpriced by around 16 per cent and most other advanced economies experience IPO underpricing of around 20 per cent. In the UAE, IPOs are underpriced by around 270 per cent, while for
10 Cash Offer versus Rights Offer ThyssenKrup AG is an industrial component manufacturer based in Germany. Assume that it is considering opening a new plant in Poland. It has two choices to fund the investment: issue equity via a rights issue to its existing shareholders, or have a full public
13 Competitive and Negotiated Offers Assume you have been hired by the Spanish food exporter, Distribuidora Internacional de Alimentacion SA to help progress a seasoned equity offering it plans to undertake in the autumn. You have been specifically asked to recommend either a competitive offer or a
14 Seasoned Equity Offers For the firm in question 13, you have been asked by a reporter why you are having a seasoned equity offering when typically share prices drop when they are announced. How would you explain the price drop?
15 Raising Capital For the firm in question 13, you have been approached by a major shareholder who has asked you to consider either an underwritten cash offer or a rights issue (not underwritten) to current shareholders. The shareholder has insisted you maximize shareholder wealth. What is your
16 Shelf Registration Explain why shelf registration has been used by many firms. Why is it controversial?
17 IPOs Every IPO is unique, but what are the basic empirical regularities in IPOs?
18 Rights Offerings Balmorals plc is a well-established company that has run into difficulty in recent years.Its management has recently undertaken a review of its activities and has decided to proceed with a radical restructuring of the business. To restore the company’s financial stability, it
19 Rights Offering Faff plc has announced a rights issue to raise £50 million for a new journal, the Journal of Financial Excess. This journal will review potential articles after the author pays a non-refundable reviewing fee of £5,000 per page. The equity currently sells for £40 per share, and
24 Stock Offerings The Newton Company has 10,000 shares of equity that each sells for £40. Suppose the company issues 5,000 shares of the new equity at the following prices: £40, £20 and £10. What is the effect of each of the alternative offering prices on the existing price per share?
25 Seasoned Equity Issues What are the different methods through which a company can raise seasoned equity? What might explain a company’s decision to favour one over the other? Your discussion should define each and make reference to the advantages and disadvantages of each.
27 Dilution Elvis Heavy Metal Mining (EHMM) plc wants to diversify its operations. Some recent financial information for the company is shown here:Share price (£) 98 Number of shares 14,000 Total assets (£) 6,000,000 Total liabilities (£) 2,400,000 Net income (£) 630,000 EHMM is considering an
29 Rights A company’s equity currently sells for £45 per share. Last week the firm issued rights to raise new equity. To purchase a new share, a shareholder must remit £10 and three rights.(a) What is the ex-rights share price?(b) What is the price of one right?(c) When will the price drop
31 Rights Hoobastink Mfg. is considering a rights offer. The company has determined that the ex-rights price would be €52. The current price is €55 per share, and there are 5 million shares outstanding. The rights issue would raise a total of €60 million. What is the subscription price?
32 Value of Right Show that the value of a right can be written as Value of a right = P RO − P X = ( P RO − P S )/ (N + 1)where PRO, PS and PX stand for the ‘rights-on’ price, the subscription price and the ex-rights price, respectively, and N is the number of rights needed
1 ‘In a public share issue, the probability of receiving an allocation of an underpriced security is less than or equal to the probability of receiving an allocation of an overpriced issue.’ Discuss this statement in the context of initial public offerings. (25 marks)Ai Due Fanali SA has
2 Set out the terms of the issue under each of the two alternatives referred to above. Calculate the theoretical ex-rights price and the value of a right. (25 marks)
3 Demonstrate that, in principle, a wealth-maximizing shareholder owning six shares will be indifferent between the two alternative methods of raising the funds. (25 marks)
4 Discuss the benefits of using an underwriter in a rights issue. Review the factors that determine an underwriter’s fee. (25 marks)
1 At the end of the discussion Dan asks Robin about the Dutch auction IPO process. What are the differences in the expenses to West Coast Yachts if it uses a Dutch auction IPO versus a traditional IPO?Should the company go public with a Dutch auction or use a traditional underwritten
2 During the discussion of the potential IPO and West Coast Yachts’ future, Dan states that he feels the company should raise £50 million. However, Larissa points out that, if the company needs more cash soon, a secondary offering close to the IPO would be potentially problematic. Instead she
3 After deliberation, Larissa and Dan have decided that the company should use a firm commitment offering with Crowe & Mallard as the lead underwriter. The IPO will be for £60 million. Ignoring underpricing, how much will the IPO cost the company as a percentage of the funds received?Larissa
4 Many of the employees of West Coast Yachts have shares of equity in the company because of an existing employee stock purchase plan. To sell the equity, the employees can tender their shares to be sold in the IPO at the offering price, or they can retain their equity and sell it in the secondary
1 Do a search on Google News for 10 announcements of new funding for companies in the past year. Look at the share price between the announcement date and five days later. Can you see any pattern between share price reaction and funding type? In what ways could you improve this very simplistic
1 The most important accounting standard for equities is IAS 39 Financial Instruments: Recognition and Measurement. Visit the IASPlus website (www.iasplus.com) for more information.
1 Debt Financing Review the characteristics of a bond. Why do you think short-term debt is known as unfunded debt and long-term debt as funded debt?
2 The Public Issue of Bonds Explain what is meant by a bond covenant and provide examples of the different forms of covenant you may see in a bond indenture. What are the costs and benefits of bond covenants to the shareholders of the issuing firm?
3 Bond Refunding Why would a firm choose to issue callable bonds? Are there any disadvantages to issuing callable bonds? Explain.
4 Different Types of Bonds Explain what is meant by a sukuk. Why do you think it is called a bond?Global sukuk issuance has rapidly expanded over the last number of years. Why do you think this is?What is the unique nature of sukuks that make them a suitable form of finance for infrastructure
5 Private Placement versus Public Issue What are the benefits of a private placement over a public issue of bonds?
6 Long-term Syndicated Bank Loans What are the main agency issues involved in a syndicated loan? Do you think syndicated loans should be priced differently from public debt issues? Explain.REGULAR
7 Bank Loans Bank loans have become significantly less popular as a financing source since the financial crisis.However, they retain their importance in many countries and are the major financing source for companies.Why do you think bank loans continue to be important in some countries but less
8 Call Provisions Assume you work for Sacyr Vallehermoso SA, a Spanish company that offers construction services. The management has decided to have a long-term bond issue to fund investment in China. It is debating whether to include a call provision. What are the benefits to Sacyr Vallehermoso
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