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Fundamentals of Corporate

Finance

Sixth Edition

Richard A. Brealey

Stewart C. Myers

Alan J. Marcus

Slides by

Matthew Will

Chapter 2

McGraw Hill/Irwin Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved

Why Corporations Need Financial Markets and

Institutions

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Topics Covered

The Importance of Financial Markets and Institutions

The Flow of Savings to Corporations Functions of Financial Markets and of

Financial Intermediaries Value Maximization and the Cost of Capital

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Financial Markets

Primary

Markets

Secondary

Markets

OTC

Markets

Money

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Financial Markets

Financing Decision Source of Funds “Capital” Capital Structure Money Markets Euros

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Financial Markets

Company

Issue Securities

Cash

InvestorsCash Reinvested

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Corporation

Investment in real assets

Investorsworldwide

Financial markets

Stock marketsFixed-income marketsMoney marketsMarkets for Commodities Foreign exchange Derivatives

Financial Intermediaries

Mutual Funds Pension funds

Financial Institutions

Banks Insurance companies

Reinvestment

Financial Markets

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Financial Institutions

Company

Intermediaries

Banks

Insurance Cos.

Brokerage Firms

ObligationsFunds

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Financial Institutions

Intermediaries

Investors

Depositors

Policyholders

Investors

ObligationsFunds

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Financial Markets

Bank of AmericaBank of America

Explorer Fund

Explorer Fund

Investors

Investors

$ $

Sells shares

Issues shares

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Financial Markets

Funds

Funds

Banks

Insurance Cos.

Brokerage Firms

Obligations

Depositors

Policyholders

Investors

Obligations

Company

Intermediary

Investor

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Financial Markets

Banks

Depositors

$2.5 mil

Cash

Loan

Deposits

Company

Intermediary

Investor

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Financial Markets

Insurance Company

Policyholders

$2.5 mil

Cash

Issue Debt

Sell policies

Company

Intermediary

Investor

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Total U.S. Financing

9.5

28.1

1020.6

5.4

14.2

12.3 HouseholdsRest of worldBanksInsurance CosPension FundsMutual FundsOther

% Holdings of Corporate and Foreign Bonds (Qtr 3, 2007)

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Total U.S. Financing

27.1

12.6

0.3822.3

28.3

1.4 HouseholdsRest of worldBanksInsurance CosPension FundsMutual FundsOther

% Holdings of Corporate Equities (Qtr 3, 2007)

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Function of Financial Markets

Transporting cash across time Risk transfer and diversification Liquidity Payment mechanism Provide information

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U.S. Financing

Information Provided by Financial Markets Commodity prices Interest rates Company values

Credit Rating Interest RateAAA 5.71%AA 5.78A 6.38BBB 7.12BB 9.84B 10.82

Source: Bloomberg Composite Corporate BondIndexes.

Interest rates on 30-year corporate bonds,February 2008.

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Value of Alaska Air Group

Data as of January, 2008

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Value Maximization

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Web Resources