FIN 3005 FIN3005 Week 4 Individual Work 1 (Everest University)

FIN 3005 FIN3005 Week 4 Individual Work 1 (Everest University)


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FIN3005 Week 4 Individual Work 1 (Everest University)

Flow of Funds Exercise

A. Assume that Carson has two choices to satisfy the increased demand for its products. It could increase production by 10 percent with its existing facilities. In this case, it could obtain short-term financing to cover the extra production expense and then use a portion of the revenue received to finance this level of production in the future. Alternatively, it could issue bonds and use the proceeds to buy a larger facility that would allow for 50 percent more capacity. Which alternative should Carson select?

B. Carson currently has a large amount of debt, and its assets have already been pledged to back up its existing debt. It does not have additional collateral. At this time, the credit risk premium it would pay is similar in the short-term and long-term debt markets. Does this imply that the cost of financing is the same in both markets?

C. Should Carson consider using a call provision if it issues bonds? Why? Why might Carson decide not to include a call provision on the bonds?

D. If Carson issues bonds, it would be a relatively small bond offering. Should Carson consider a private placement of bonds? What type of investor might be interested in participating in a private placement? Do you think Carson could offer the same yield on a private placement as it could on a public placement? Explain.

E. Financial institutions such as insurance companies and pension funds commonly purchase bonds. Explain the flow of funds that runs through these financial institutions and ultimately reaches corporations that issue bonds such as Carson Company.

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