Chapter 3: The Financial Environment: Markets, Institutions, and Investment Banking

When a firm needs to raise funds in the financial markets, it usually uses the services of an investment banker. First, it must make some initial decisions regarding how much capital it needs, what kind of securities to issue, and whether to accept competitive bids or negotiate a price privately. Then it is time for the firm to select an underwriter and begin the issuing process. However, the competitive bid agreements between underwriters and issuing firms can take a couple of different forms. In some cases, an investment bank agrees to arrange the sale of the issuing firm's securities and does its best to sell all shares but makes no guarantees to that effect. This is an example of: An underwritten arrangement A best efforts arrangement

A best efforts arrangement

When a firm needs to raise funds in the financial markets, it usually uses the services of an investment banker. Last year Butler Inc. entered into an agreement with Parker Partners, an investment bank. It has been a year since Butler first registered its shares, but the firm still hasn't gone public. Butler plans to go through with its security issuance in a couple of months. This is an example of: A prospectus A registration statement An underwriting syndicate A shelf registration

A shelf registration

The cost incurred during the security issuing process is called the: Asked price Flotation costs Underwriter's spread Bid price Offer price

Flotation costs

On the New York Stock Exchange (NYSE), if investor demand for a stock outweighed its supply, the designated market marker (DDM) would sell shares from his inventory of shares. Before he or she begins selling shares, what would likely happen to the DDM's ask price for the stock? It would decrease. It would not be affected. It would increase.

It would increase.

A competent U.S. financial manager must understand the way U.S. stock markets are structured and operate. In the United States, the stock markets consist of primary markets, secondary markets, listed security exchanges, over-the-counter markets, as well as the regulations that monitor these markets. Which major domestic stock market has the most restrictive listing requirements in terms of the market value of the listed firm? The New York Stock Exchange (NYSE) A regional exchange, such as the Chicago Stock Exchange The National Association of Security Dealers Automated Quotation System (NASDAQ)

The New York Stock Exchange (NYSE)

In the event that an issuer elects to use a best efforts arrangement, who bears all the risk that the stock issue might be undersubscribed? In other words, who is at risk if the investment bank cannot sell all shares to investors at the time of issue?

The issuing firm

This institution was originally developed to encourage savings by and to make loans to individuals (not businesses).

Thrift institution

Marston Manufacturing Company holds cash balances in an institution that, in turn, loans out the funds to other individuals and companies.

Transfer through a Financial Intermediary

Acme Manufacturing, Inc. would like to borrow additional debt capital. The firm has hired a firm to assist in the sale of a new issue of 10-year bonds.

Transfer through an Investment Banking House

True or False: It is generally believed that being listed on an exchange provides the listed firm with increased prestige and publicity for the firm, as well as increased marketability for its shares. False True

True

The difference between the price at which an investment banking firm buys shares from an issuing company and the price at which those securities are sold in the primary market is called the: Underwriter's spread Offer price Flotation cost Bid price Asked price

Underwriter's spread

There are three mechanisms used to move funds and securities between savers and borrowers. Read the following sentence and choose the best answer to complete the sentence. The simplest of these involves _______ to transfer funds and securities between the market participants.

a direct transfer

A document filed with the Securities and Exchange Commission (SEC) that authorizes a firm's sale of securities at some future date is called: A prospectus An underwriting syndicate A registration statement A shelf registration

a shelf registration

This institution has historically served as the principal vehicle through which the money supply of the United States is expanded or contracted. This practice continues today.

commercial banks

This institution is owned and managed by its depositor members, who are bound by a common affiliation. Though the organizations are now much larger than they used to be, they still tend to exhibit a "help thy neighbor" attitude.

credit union

Detroit Diesel Services, Inc., a publicly traded company, sells a new issue of 4.50% twenty-year bonds. Debt or equity market? Primary or Secondary Market? Capital or Money Market?

debt primary capital

Genji called her broker to purchase ten of the 5.25% 10-year bonds recently issued by the Smithsonian Institution. Debt or equity market? Primary or Secondary Market? Capital or Money Market?

debt secondary capital

Two years ago, Austin started a new business. Now he needs additional capital to finance additional growth and is meeting with a group of "angel" investors. If they decide to make the loan, they will do so directly, without the use of a middleman or other intermediary.

direct transfer

Dominic uses an online brokerage account to purchase 2,000 shares of Yorkshire Pudding, Inc. at the current market price. Debt or equity market? Primary or Secondary Market? Capital or Money Market?

equity secondary capital

Based on your evaluation of the information in the preceding table, decide if the following statement is true or false. True or False: The existence of financial middlemen and financial intermediaries decreases the efficiency of the financial markets. True False

false

Some people spend more than their current incomes, while others spend less. To finance their spending, the former will have to draw down their savings or borrow the additional funds. The latter have the opportunity to save and thereby increase their spending capability in the future. Read the following paragraph. Then, click on the blank lines and choose the answer that best completes each sentence. A _______ is a system of individuals and institutions, instruments and procedures that bring together borrowers and savers and facilitate the flow of capital between them. The existence of these entities _________ the standard of living in the economies that employ them. They allow individuals, businesses, and governmental units to transfer income between time periods and from those with ________ of funds to those with _______.

financial market increases an excess a shortage

The contracts provided by this institution may provide financial protection and savings benefits combined, or simply financial protection alone.

insurance company

Financial theorists have identified two different types of efficiency in financial markets. The first, informational efficiency, contributes to the existence and strength of the other, economic efficiency. The degree of informational efficiency exhibited by a market refers to the types of information incorporated into the prices observed in the market and the speed with which prices adjust when new relevant information is released into the market. Markets are said to exhibit one of three levels of informational efficiency: weak-form efficiency, semistrong-form efficiency, or strong-form efficiency. At any level, a market's informational efficiency is likely to be stronger when there is a __________ number of market participants receiving and analyzing relevant security and market information in search of the most profitable investments.

large

By virtue of investing the saved funds of its investors into a large number of different securities, it is able to realize both economies of scale and risk diversification for its investors.

mutual fund

This institution consists of an organized pool of assets designed to support a group of workers in retirement.

pension fund