Introduction to Corporate Finance 5th Canadian Edition by Laurence Booth Solution manual

 
 
 
14. Section: 1.3 The Financial System
Learning Objective: 1.3
Level of difficulty: Intermediate
CPA: Finance
Solution:
Five main reasons why financial and market intermediaries exist are:
i) They provide anonymousness and convenience to all transaction parties.
ii) They efficiently match the needs of the participants in the financial market and aggregate all the small transactions.
iii) They have procedures for documentation of legal contracts to ensure security.
iv) The risk of non-payment is alleviated by maintaining credit ratings and by controlling other accounts.
v) Financial institutions transform the nature of the underlying financial securities.
 
15. Section: 1.4 Financial Instruments and Markets
Learning Objective: 1.4
Level of difficulty: Intermediate
CPA: Finance
CPA: Finance
Solution:
The two major types of secondary markets are exchanges or auction markets, and dealer or over-the-counter (OTC) markets. Exchanges have been referred to as auction markets because they involve a bidding process that takes place in a specific location (i.e., similar to an auction). OTC or dealer markets do not have a physical location, but rather consist of a network of dealers who trade directly with one another.
 
Challenging
16. Section: 1.4 Financial Instruments and Markets
Learning Objective: 1.4
Level of difficulty: Challenging
CPA: Finance
Solution:
Secondary market transactions are those where ownership of existing shares changes hands, but the corporations or governments who originally issued the securities receive no financing; trading takes place between investors.  This is critical to the functioning of the primary markets, because governments and companies would not be able to raise financing if investors were unable to sell their investments if necessary.

 
Answers to Concept Review Questions
 
1.2 Real versus Financial Assets
 
Concept Review Questions
1. What is finance?
Finance in its broadest terms is the study of how and under what terms savings (monies) are allocated between lenders and borrowers.
 
2. Distinguish between real and financial assets.
Real assets represent the normal tangible things that we think of in terms of personal and business assets. Financial assets are simply what one individual has lent to another, so one person’s positive financial asset is another’s negative financial asset (or liability).
 
3. Which sector or sectors of the economy are net providers of financing and which are the net users of financing?
Households and non-residents are net providers of financing. Government and business are net users of financing.
 
1.3 The Financial System
 
Concept Review Questions
1. Identify and briefly describe the three main channels of savings.
In the first channel we have direct intermediation, where the lender provides money directly to the ultimate borrower. The second channel also represents direct intermediation between the lender and borrower, but in this case some help is needed since no one individual can come up with the full amount needed and/or because the borrower is not aware of the available lenders. The third savings channel is completely different since it represents financial intermediation, where the financial institution or financial intermediary lends the money to the ultimate borrower, but raises the money itself by borrowing directly from other individuals.
 
2. Distinguish between market and financial intermediaries.
A market intermediary is simply an entity that facilitates the working of markets and helps provide direct intermediation. The financial institution or financial intermediary lends the money to the ultimate borrower, but raises the money itself by borrowing directly from other individuals. In this case, the ultimate lender only has an indirect claim on the ultimate borrower; their direct claim is on the financial institution.
 
3. Discuss how the four most important types of financial intermediaries operate.
Chartered banks take in deposits and make loans, insurance companies take in premiums and pay off in the event of an incident happening such as a death or fire, while pension funds take in contributions and provide pension payments after plan members retire. Mutual funds pool smaller amounts from small investors and make large investments that cannot be made by small investors.
 
 
1.4 Financial Instruments and Markets
 
Concept Review Questions
1. Distinguish among the various types of financial assets.
The two major categories of financial securities are debt instruments and equity instruments.
 
2. Identify the major sources of financing used by (a) governments and (b) businesses.