Introduction to Finance

LO 10.3
Compare characteristics of corporate bonds with respect to bondholder security, 
time to maturity, and income return.
LO 10.4
Describe major characteristics of preferred stock and common stock.
LO 10.5
Describe the process for issuing dividends by a fi rm and diff erences between cash 
dividends, stock dividends, and share repurchases.
LO 10.6 
Explain how fi nancial securities are valued in general.
LO 10.7 
Explain how bonds are valued.
LO 10.8
Explain how stocks are valued and the economic and industry infl uences that can 
aff ect stock prices.
W H E R E W E H A V E B E E N . . .
The fi nancial system is composed of a number of participants, such as banks, insurance 
companies, credit unions, and individuals, among others. Some borrow or lend funds; others 
seek to sell or purchase ownership rights, or common stock, in fi rms. We’ve seen how 
investors are willing to give up their money in the expectation of receiving a return that will 
exceed the infl ation rate and will reward them for the risk of their investment. Time-value-
of-money principles (present value, future value) help borrowers and lenders determine 
items such as how much to borrow, repayment schedules, and the return on an investment.
W H E R E W E A R E G O I N G . . .
Bonds and stocks are traded in securities markets, which will be the topic of Chapter 11. We 
tie together the concepts of expected return, risk, and valuation in Chapter 12 when we discuss 
fi nancial risk and return concepts. In Chapter 16, we will discuss additional sources of funds 
for business fi nancing.

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10.1 Long-Term External Financing Sources for Businesses
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H O W T H I S C H A P T E R A P P L I E S TO M E . . .
Time value of money is one of the most important concepts in fi nance. Here, we will see 
applications of time-value concepts to the investor and how an investor can evaluate a fi rm’s 
prospects and estimate appropriate prices for its securities. Greater depth and detail will be 
presented in an investments course. Many investors lack the time or ability to analyze secur-
ities, so they will purchase a mutual fund, which is a professionally managed investment 
pool. As a fi nancial manager, this chapter will introduce you to various types of capital 
market securities and their features, so you will know more about the fi nancing choices 
facing fi rms.
Mark Twain made the following observation about fi nancial markets:
October. That month is especially dangerous for investing in stocks. Other 
dangerous months include August, January, June, March, November, July, 
February, April, December, May, and September.
1
That pretty much covers them all! In this chapter we’ll begin to learn about fi nancial markets 
and the characteristics of stocks and bonds.
Borrowing money brings with it the obligation to repay the debt. Individuals and fi rms 
who do not repay their borrowing may fi nd themselves unable to borrow again in the future 
and, worse yet, fi ling for bankruptcy. Prudent use of debt by issuers can help fi nance the 
purchase of capital, equipment, houses, and so forth. We’ll learn more about the corporate 
decision to borrow in a future chapter. In this chapter, we’ll begin to learn about the character-
istics of bonds from an investor’s perspective.
Investing in the stock market is, for many, the best means available for enjoying the 
benefi ts of corporate wealth creation. As fi rms grow in size, often profi tability, market share, 
market value, and the value of the shares of stock grow, too. This helps investors meet their 
fi nancial goals, such as preparing to pay for the college education of their child or their own 
retirement. In this chapter, we’ll discuss common stock, preferred stock, and principles behind 
how to value equity.
In Chapter 2, we described