The principal source of finance for any company

Shareholders Rights and Advantages 

The principal source of finance for any company is the Equity Shares, which they issue to the general public. The people who buy these shares (shareholders) are entitled to getting a portion of company profits and also have a right to vote in Shareholders Meetings. However, they do not have any preferential rights when it comes to capital and dividend. The shareholders only receive dividends depending on the remaining income after the preference shareholders receive their dividends. It follows that the investors’ earnings per share are not faced since it depends on income left when preference shareholders are left. They control the working of the company. However, you cannot withdraw your shares unless on winding up of the company.

Difference between S&P500 Index and the Dow Jones. 

The differences between the two indexes are illustrated using three basic measures; price-weighted, market capitalization and the level of representation.

Price-Weighted: Dow Jones is a “price-weighted average.” Meaning that the stocks that are highly-priced like IBM have a higher bearing on its scale compared to the low-priced issues. A one-dollar rise in a lower-priced stock can get offset by a one-dollar reduction in a higher-priced stock. Doe Jones only included the NYSE issues, but this changed in 1999, and today it also includes Microsoft and Intel from NASDAQ.

Market Capitalization: Standard & Poor established S&P back in 1957, specializing in stock market issues reporting and activities. S&P features several components like telecommunication, energy, industrial, utilities, and healthcare. S&P is a market capitalization index. The stock prices times the number of outstanding shares; therefore, the total company value and not just the stock price have an impact on the index. The companies that have the highest numbers of shares get awarded the most heavy weighting in the market.

Wider Representation: The S&P500 stocks get categorized into three subsections. The first top third section features 166 stocks accounting for about 75% of the entire S&P index. The S&P, therefore, has many stocks, and it is perceived to be a much better indication of the overall market activity. The S&P also constitutes a wider variety of business sectors, with Dow Jones only features industrial issues.

Because S&P500 represents best a bigger American economy and also features many companies from different sectors, it is the best option compared to Dow Jones. The size of S&p500 makes it to be taken as the single best gauge for large-capitalization US stocks. More than$1.6.5 trillion value of assets have been invested in the index funds, and about $6 trillion invested in portfolios using the S&P index as their benchmark.

D ifferences between preferred stock and c ommon stock 

The primary difference between the preferred and common shares is that the preferred stock normally does not provide voting rights to the shareholders. In contrast, the common stocks give voting rights to the shareholders, generally at one vote for every shareholder. 

Call provision and bond issuers 

A call provision is a type of bond provision that authorizes the issuer to re-buy it bonds and to retire the bonds (Cornell, 1999). 

Whether bond issuers exercise a call provision 

Bonds that features a call provision pays the investors a much higher interest rate compared to the noncallable bonds. 

D iscount and premium bonds 

A premium bond is a trading security (bond) above its par value. A bond trades at a premium price when it provides an interest (coupon) rate higher than the present predominant interest rates that are being given for new bonds. The interest rates are higher than normal because the investors are more attracted by higher yields, and they will do anything to get their hands on it. They make payments in forward to be given the higher coupon payment.

A discount bond, on the other hand, is a security (bond) that is presently trading lower than its par value in the secondary market. When bonds offer coupon rates, they trade at a discount lower than the normal interest rates. Given that the investors are always interested in getting higher yield, they normally pay lower for a bond with a coupon rate. For the investors, it implies that they are purchasing at a discount to cover the lower coupon rate.

Bond prices and Int erest rates Relations 

The bond prices and the interest rates (IR) have an inverse relationship. An inverse relationship between two variables means that when one variable increases, the other variable decreases. Therefore, as the bond prices rises, the interest rates declines, and as the interest rates declines the bond prices increases.

Z ero-coupon bond verses Coupon bond 

The primary distinction between a coupon and a zero-coupon bond is the payment of interest, which is a coupon. A coupon bond pays a level of interest to its bondholders, on the other hand, zero-coupon does not pay any interest to the bondholders. The zero-coupon bondholders instead receive bond face value when it matures. The coupon bondholders, also called the regular bonds, pays interest over the bond life and are required to pay the principal on the maturity of the bond.

Risk Definition and how risk is measured 

There are three types of risk in the financial literature; strategic risk, business risk, and financial risk. Business risk is the kind of risk an organization faces solely since the risks are present in the market in which they are selling their products. The business risk originates from uncertainty in different activities like in the product design stages, innovation technologies, and marketing ( Bierman & Hass, 1973) . The strategic business risks originate from fundamental changes or alterations in the political or economic environment. A good example of strategic business risk is the land expropriation and nationalization of business. It is relatively hard to quantify this type of risk. Financial risk is caused by movements occurring in the financial markets. For example, changes affecting the prices of financial assets may impact the investment portfolio of a bank and bring about huge gains or losses. The research study will specifically focus on financial risk.

Financial risk can be further broken down into different categories. The first one is the market risk that is generated by changes in prices of liabilities and financial risk ( Froot, 2007) . The second one is credit risk which is triggered by the inability or unwillingness of counterparties to meet their contractual obligations, the third risk is the liquid risk where there is insufficient market activity, legal risk, on the other hand, arises when a counterparty does not have the legal rights to take part in the transaction, and lastly is the operational risk which is caused by inadequate systems in the institution.

Firm-specific versus market risk sources 

A firm-specific risk is a type of market risk that constitutes that specific company. Firm-specific risk occurs as a result of some uncertainty. The uncertainties can lead to large or small effects on the company or industry. For example, making wrong decisions, a new competitor into the market, political reasons, or even some form of change.

Market risk is a microeconomic situation that impacts on most things about a project. For example, problems brought about by the company system. Beta can be used to estimate the systemic risk investments in the general market ( Fama, 1977) . The only approach to get out of the market risk

The coefficient of variation 

The coefficient of variation, abbreviated commonly as CV, is a statistical approach for measuring data point’s variation in a set of data around its mean ( Jagannathan & Meier, 2002) . The coefficient of variation is a representation of the standards deviation ratio to the mean. The coefficient of variation is also an important statistical measure for making a comparison of the level of variation from one data set to another, even where the means are very different from one another.

Justification for why the expected return is assumed to be forward-looking and the challenges arising when using expected return 

Expected returned is normally assumed to be forward-looking because it is a representation of the returns that the investors expect to achieve in the future by way of compensation for the market risk they took ( Froot & Stein, 19980 .

The main challenge that is likely to arise when using expected return is that the investors have to ponder on and strategies on the assumption that the investment will behave in a certain way ( Correia & Cramer, 2008) .

Allocating Between the market portfolio and the risk-free security Determining Level of Market Risk 

An investor if faced with the decision to determine the amount of his portfolio to invest in the risk-free securities when deciding the level of risk and the amount to invest in the market to meet his level of risk ( Ryan & Ryan, 2002) . The investor can choose to allocate funds between risk-free security with zero risks (β=0) and a market portfolio with risk (β=1). In case the investor puts 75% of his portfolio in the market, then this portfolio has a β=0.75. But where the investor puts only 25% of his portfolio, then the risk is low at a β=0.25 market risk. 

NPV (Net Present Value) Method: Project desirability for capital budgeting 

By calculating the difference between a project Present Value (PV) inflow and outflow, the NPV approach estimates the expected rise from pursuing the project. Given that the NPV method is an addition of all the present values (PV) of the cash flows (inflow and outflow) for the project, any Net Present Value that is equal to or higher than zero implies that the project is viable and should therefore be pursued ( Zubairi, 2008) . On the contrary, an NPV that is lower than zero denotes that the project needs to be rejected because it is not viable. The NPV figure being positive is therefore the simple benchmark for accepting the project.

The Net Present Value (NPV) approach for estimating the capital budget for the desirability of a project is very effective for both selection of mutually exclusive and independent projects. However, the NPV method strength is also the method’s weakness ( Lopez, 2002) . The method is a weakness because the statistic is in money value (dollar) and not a ratio. Since the statistics features in a dollar format, the project managers may mistakenly measure it against the project cost, forgetting that the project cost is also ready integrated in the statistics.

Payback period statistic 

The payback period is a method used to determine the period it will take for an investment to give returns ( Campani, 2014) . However, it has so many limitations since it omits a lot of factors. It is not a practical method in the business world ( Bhandari, 2009) . The payback period is the required time for the invested amount in assets to be repaid by the generated cash flow from the asset. Investments with shorter payback periods are considered the best options to invest in.

Internal rate of return (IRR): desirability of a capital budgeting project 

The Internal Rate of Return (IRR) also commonly referred to as the discount rate that is required to make the NPV value zero. IRR is measured as an interest rate. The IRR is therefore, the interest rate expected or required to have the capital investment or Present Value (PV) for the cash flow to be equal to the total returns with time ( Phalippou, 2008) . It is the discount rate that is normally used in capital budgeting process that makes the cash flows for NPV for a project to be zero. Therefore, it means that the IRR can be adopted or implemented in ranking different projects into the scale, indicating the best projects to take on and the ones to drop. With all other factors constant, the project with the greatest IRR would be pursued first.

Modified internal rate of return (MIRR 

The weakness of the MIRR method for evaluating a project cash flow is that it does not take the initial amount of investment into consideration ( Kierulff, 2008) . The MIRR method does not always equal the return on initial investor investment over the holding time. On the other hand, the weakness of the NPV method does not consider cash flows timing or variability. It is also very difficult to estimate the discount rate accurately through NPV.

References 

Kierulff, H. (2008). MIRR: A better measure.  Business Horizons ,  51 (4), 321-329. 

Bhandari, S. B. (2009). Discounted payback period-some extensions.  Journal of Business and Behavioral Sciences ,  21 (1), 28-38. 

Campani, C. H. (2014). On the Rate of Return and Valuation of Non-Conventional Projects.  Business and Management Review ,  3 (12), 01-06. 

Zubairi, H. J. (2008). Capital Budgeting-Decision Making Practices in Pakistan.  Available at SSRN 1308662 . 

Ryan, P. A., & Ryan, G. P. (2002). Capital budgeting practices of the Fortune 1000: how have things changed.  Journal of business and management ,  8 (4), 355-364. 

Jagannathan, R., & Meier, I. (2002).  Do we need CAPM for capital budgeting?  (No. w8719). National Bureau of Economic Research. 

Correia, C., & Cramer, P. (2008). An analysis of cost of capital, capital structure and capital budgeting practices: a survey of South African listed companies.  Meditari: Research Journal of the School of Accounting Sciences ,  16 (2), 31-52. 

Lopez, J. A. (2002). What is operational risk.  FRBSF Economic letter ,  2 , 1-4. 

Froot, K. A., & Stein, J. C. (1998). Risk management, capital budgeting, and capital structure policy for financial institutions: an integrated approach.  Journal of financial economics ,  47 (1), 55-82. 

Fama, E. F. (1977). Risk-adjusted discount rates and capital budgeting under uncertainty.  Journal of Financial Economics ,  5 (1), 3-24. 

Bierman, H., & Hass, J. E. (1973). Capital budgeting under uncertainty: a reformulation.  The Journal of Finance ,  28 (1), 119-129. 

Froot, K. A. (2007). Risk management, capital budgeting, and capital structure policy for insurers and reinsurers.  Journal of risk and Insurance ,  74 (2), 273-299. 

Cornell, B. (1999). Risk, duration, and capital budgeting: New evidence on some old questions.  The Journal of Business ,  72 (2), 183-200.