BUS614 Study Guide

Unit 1: Introduction to Financial Markets

1a. Analyze the role of lenders and borrowers in financial markets

  • What are the different financial markets?
  • Who are lenders and borrowers in bond markets?

Financial Markets

Financial markets are ones where securities are traded. These securities include stocks and bonds. Financial markets generally include stock markets and bond markets, which are further divided into sub-markets known as the Primary Markets and Secondary Markets. Furthermore, Secondary Markets include Over-the-Counter Markets (OTC).

To review, see The Stock and Bond Markets.

Bond Markets

Investors can either invest in loan instruments or equity instruments. Those who invest in loan instruments typically buy bonds, whereas investors looking to become shareholders invest in shares. Generally, companies looking to raise capital through loans will issue bonds and are considered borrowers, whereas the investors who buy these bonds are considered lenders.

The same concept applies to governments that issue bonds. For example, when governments want to borrow money to finance some projects, they issue bonds that investors later purchase. This makes governments the borrowers in this transaction, and investors become the lenders.

To review, see Financial Markets and Assets and State and Local Governments.

 

1b. Compare methods of raising capital in the marketplace, such as IPOs, rights issue, and private placement

  • What are the different non-debt methods of raising capital?
  • What are the rights of shareholders?

Non-Debt Methods of Raising Capital

Companies looking to raise capital can generally opt for debt and equity. In terms of equity financing (non-debt financing), companies could issue shares either through private placement, initial public offering, or through rights offering (also called rights issue).

Private placement is when the issuing company selects a group of investors to offer them the option of investing in the company's stocks. An initial public offering is when a company decides to issue and sell their shares to the public for the first time. Finally, a rights issue is when a company offers existing shareholders the right to purchase additional stocks relevant to the proportion of ownership of each shareholder. Such investment is offered at a discounted price.

To review, see Owning Stocks.

The Rights of Shareholders

Shareholders are regarded as owners of the organization in which they hold their stocks. Their degree of ownership varies depending on their shareholding proportion. Furthermore, each shareholder has rights that depend on their class of shareholding.

Generally, common shareholders have the right to sell their shares, nominate directors, vote, receive dividends, purchase new shares issued by the company, and access the remaining assets after liquidation.

On the other hand, preferred shareholders have hybrid rights of common shares and bonds. Preferred shareholders, like common shareholders, are regarded as owners in the company and have the right to dividends (though, unlike common shareholders varying dividends, they earn fixed dividends). Additionally, though they both have access to the company's assets, their preference for such access differs. Preferred shareholders have priority access over common shareholders. Preferred shareholders also have the right to convert their preferred shares into common shares. However, preferred shareholders have no voting rights, unlike common shareholders.

To review, see Ownership Nature of Stock and Control and Preemption.

 

1c. Outline the main differences between debt and equity

  • What is the difference between debt and equity instruments?
  • What are the main features of bonds?

Debt vs. Equity

The main difference between the two is their nature. Equity instruments allow investors to become owners in the organization, whereas investors in debt instruments are considered lenders. Debt investments are generally less risky than equity investments. Furthermore, debt instruments issued by a company increase the debt obligation of the issuing organization, unlike equity instruments.

To review, see The Difference between Debt and Equity Markets.

Bonds

Bonds are regarded as a debt financing instrument. The issuer (a company or government), regarded as the borrower, provides investors, regarded as lenders, with interest against the money lent. This tax-free investment is considered a fixed-income instrument that is less risky than equity investments. In addition, unlike equity instruments, these debt instruments have an "expiry date" known as the maturity date, where the borrowed amount, known as the face value or principal amount, is returned to the investor in full.

To review, see Owning Bonds.

 

Unit 1 Vocabulary

This vocabulary list includes the terms that you will need to know to successfully complete the final exam.

  • Preferred Shares
    • Preferred shares enjoy the qualities of equity and debt instruments, allowing investors to become shareholders (partners) in the issuing organization and provide the holding investors with dividends and preference over the company's assets, but do not allow investors to vote.
  • Common Shares
    • Common shares are an equity instrument that allows investors to become shareholders (partners) in the issuing organization and provide the holding investors with a set of rights, including voting rights and receiving dividends depending on the organization's performance.
  • Equity Financing
    • Equity financing is a method of financing by which an organization (or government) issues equity instruments (shares) to finance projects or raise capital.
  • Debt Financing
    • Debt financing is when an organization (or government) issues debt instruments (bonds) to finance projects or raise capital.
  • Securities Markets
    • Securities markets are ones where bonds and shares are traded
  • Over the Counter
    • Over-the-counter markets are decentralized markets where financial instruments are traded directly between market participants without brokers or central exchanges.
  • Initial Public Offering
    • An initial public offering is when a company decides to issue and sell their shares to the public for the first time.
  • Private Placement
    • Private placement is when the issuing company selects a group of investors to offer them the option of investing in the company's stocks.
  • Rights Offering
    • Rights offering (or rights issue) is when a company offers existing shareholders the right to purchase additional stocks relevant to the proportion of ownership of each shareholder.
  • Primary Markets
    • Primary markets are markets where securities are traded for the first time
  • Secondary Markets
    • Secondary markets are those where already-issued securities are traded among investors.
  • Bond Term
    • The bond term is the time the bond has until its maturity.
  • Bond Maturity
    • Bond maturity is the due date when the issuer is expected to return the Principal in full.
  • Bond Coupon Rate
    • The bond coupon rate is the interest rate the bond pays to the investor
  • Bond Market Value
    • Bond market value is the current price of the bond
  • Bond Yield to Maturity
    • The bond yield to maturity is the return on bond investment annually.