Corporate Finance

If the project is:

1. very large compared to the company's current size
2. has a higher degree of risk than the average risk level for the asset portfolio in the balance sheet
3. is linked to the company's own core business

What factors does a company have to consider when deciding about financing?

• firm‘s current debt levels
• the financing costs
• the accepted risk level
• the desire for corporatecontrol
• the flexibility to respond to future financing needs
• and the pattern of thecapital structure in the industry.

How can a company internally and externally raise money?

Internally

• Improving operating cash flow
• Adjust working capital
• Dispose fixed assets

Externally

• Raise equity
• Take on debt- short-term or long-term financing

• Conditions
• Character
• Capacity to repay
• Collateral
• Covenants

rationale:

• Eliminate barriers caused by laws that protected minority shareholders and that limited research collaboration
• Minimize overhead costs and stop duplicating facilities
• Allow Roche to have direct access to the cash generated by Genentec

challenges:

• Managing the reaction of Genentech employees (key asset of Genentech)
• Managing the reaction of Genentech minority shareholders and to convince them to sell their shares to Roche at a reasonable price
• Managing the financing: by October 2008 the original term sheet was no longer valid and classical bridge financing was no longer an option. 

What were the financing alternatives?

• Bridge loan
• Bonds
• Capital increase

What is the role of the finance function with regard to the value creation of a company?

– Influence strategic decisions
– Requires full understanding of business model
– Requires being able to communicate efficiently with investors

Roche completed three successful rounds of bond issuance in less than three  

By structuring the deal and cutting out the normal intermediaries, Roche reduced transaction costs by at least a half and could allocate shorter- and longer-term bonds according to the needs of the company and the bond investors.

Roche closed the Genentech acquisition, securing the support of 96 per cent of minority shareholders at first, and the rest two weeks later.

• Funding
• Extension of investor base
• Liquidity of stock
• Reduced cost of capital
• Image boost
• Alignment of interest
• Chance to cash in

• Costs
• Publicity
• Agency problems
• Change of culture

• Management and Board
• CEO
• Board
• Accounting and Finance
• Corporate Structures
• Corporate Governance

• lead manager
• bank syndicate
• auditors
• lawyers
• IR agencies
• stock exchange

Management fee (typically 1% to 2% of the total proceeds)
Underwriting fee (1% to 2%)
Selling concession (3% to 4%)

Important! typical: Median of gross spead is exactly (!!) 7%, that doesn't look like a very competitive market! They don’t want the IPO processes to become a commodity

• bookbuilding (very common)
• fixed price (less common)
• auctions (e.g. google)

Good reasons:

• Economies of scale
• Economies of vertical integration
• Complementary resources

Dubious reasons:

• Surplus funds (mean a company has too much money; they should better pay out the money to the investors)
• Diversification (Investors can make their own diversification in their portfolio)

.

a) 12'000'000

b) 3'000'000

c) 7'000'000

d)

cash: same

stock: 5'000'000

-> SEE LECTURE SLIDES WITH SOLUTIONS (am PC)

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It depends.

During a boom: Investment-side (you have to grow)

During a recession: Finance-side (you have to survive)

Capital Budgeting = rules for making investment decisions

AND

Comparison of projects:

With the Present Value (PV)

It summarizes the value of the cash flow stream in a single number which takes into account
- that a dollar today is worth more than a dollar tomorrow and
- that a safe dollar is worth more than a risky dollar

1/(1+r) = discount factor

r = rate of return demanded by investors for CFs with similar risk characteristics = opportunity cost of capital

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The PV of this cash-flow stream is simply the sum of the PVs of the individual cash flows.

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What is the NPV of a project?

NPV = PV of all positive Cash Flows - PV of costs

When do you invest according to the NPV rule? And how can we interpret a positive NPV?

Invest if the NPV of a project is positive.

A positive NPV implies that the rate of return on the investment is bigger than the opportunity cost of capital r (which could be earned on the financial markets)

.

Optimal investment decisions of a firm are not related to the consumption preferences of its shareholders

Capital markets serve to separate the two decisions (when perfect!!)

A firm can best act in its shareholders' interest by investing in all positive NPV projects

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Two main reasons for capital rationing

1. Soft Rationing (internally):
Management restricts investments because of different reasons: focus on other parts of the company, prevention of overtaxation of the organization and using capital rationing to achieve slower but more predictable growth

2. Hard Rationing (externally):
Investors may be reluctant or unable to give the firm all the capital it needs because they find it difficult to disentangle worthy projects from projects that primarily serve management's own interest

Payback Rule

Internal Rate of Return (IRR)