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Patricio Barnuevo

Business Finance
HW 1

Chapter 1: Overview of Financial Management HW Questions

1.
A firms intrinsic value is based upon an estimation of the future true value. That
future true value is created using accurate risk and return data. A firms current
stock price is different from intrinsic value in that is based upon its market price,
that market price comes from perceived (but possibly incorrect) information from
the investors. A stocks true long run value is more closely aligned to intrinsic value
than current stock price. This is because current stock price is a subjective value
while true value is objective because its based on true and accurate information.

4.
When current stock value and intrinsic value are equal, there is equilibrium. At this
point there are no pressures changing the stock value, these pressures being
buying/selling. In theory, this is the ideal situation however at equilibrium there is
no real future increase in value. That is, is stock value was under intrinsic value
that would mean that stock value would theoretically increase in value over time to
keep up with increasing intrinsic value. Therefore a stockholder would prefer a low
stock value compared to intrinsic value as they are thinking in the long term.
Nevertheless, a CEO would probably prefer a high stock value as chances are he is
receiving incentive based bonus compensation in which the CEO will be rewarded
for high stock value. The CEO is interested in high stock value as his compensation is
based upon it and once he retires he can exercises his stock options and make a
large profit.

6.
Sole proprietorship: Advantages: Ease of creation and low startup costs
Disadvantages- hard to raise capital, high liability and limited life
Partnership: Advantages: Ease of creation and low startup costs Disadvantages-
high liability, difficult to transfer ownership and hard to raise capital
Corporations: Advantages: Limited liability, indefinite life, ease of transferring
ownership and ease to raise capital Disadvantages- double taxation, a lot of
paperwork to create corporation
LLC. and LLP: Advantages: Limited liability and similar advantages to corporations
and partnerships Disadvantages- difficult to set up and its complicated to raise
capital






Chapter 2: Financial Markets and Institutions HW Questions

3.
An Initial Public Offering (IPO) is an example of a primary market transaction. This
is because a primary market is for new issues of securities and when the proceeds of
the sale of the securities go directly to the issuer. As an IPO is when a company first
sells its stock to the public and the company receives the money from the sales
directly, therefore its a primary market transaction.

4.
a. Treasury Bonds Money market
b. Long-Term Corporate Bonds Capital Market
c. Common Stocks Capital Market
d. Preferred Stocks Capital Market
e. Dealer Commercial Paper Money Market
5.
Financial Institutions are a integral part of society, they not only provide
employment and goods/services but they provide lines of credit. If society began to
lose faith in these institutions, it would become harder for financial institutions to
raise capital. Therefore there business would slow down which would lead to higher
unemployment, a loss in goods/services (or increase in their prices) and people
would find it difficult to secure loans and lines of credit. All of these factors
combined would result in a decline in living standards and a economic slowdown.