Question

1. The Board of Directors of Samsung has decided to raise funds through the capital market in order to finance the international expansion business plan. State two (2) advantages and (2) disadvantages of raising funds from the capital market as compared to raising funds from the money market.

2. Running a business as a non-listed company is different than running a business as a listed company. One of the issues that you now have to deal with as a listed company is the ‘agency problem’. Describe how the agency problem occurs and two (2) possible solutions to it.

Answer 1

Advantages & Disadvantages of raising funds from the capital market compared to the money market: (Two points)

1. Corporate Bonds - Capital Market: Advantage: Corporate Bonds are issued by the Business to the investors to raise money for capital expansion, which is flexible in nature and can gain Return on Investment within an expected turnaround. Compared with Money Market, you'd not get an opportunity to gather investments from the investors universe. Disadvantage: Money market is helpful for short term liquidity and time horizon while Capital market helps with the financial stability and we cannot sell off Corporate Bonds as per our like since these financial instruments are meant for long term growth and doesn't meet for shorter term working requirements of the Business. Interest has to be paid to the bondholders irrespective of the annual losses having made for the year.
2. Raising an IPO - Capital Market: Advantage: Business can opt for issuing an IPO with the help of underwriters in the Banks and raise large amount of money via Primary Market and shareholder's trust. Even after an IPO, an FPO could be followed upon, or the same can be traded over the Secondary market and raise more ownership with regards to the wealth maximization. Compared with the Money Market, Return on Investment is high with respect to the IPO. Disadvantage: Raising an IPO could be a huge success as much as can be a failure since going to the public with valuations may not all the time could bring the business the expected success. This is more dependent on forecast figures. But Money Market offers CD's, Commercial Papers and treasury bills with good interest rates which are organized and safer compared to Capital markets in the terms of market risk. Compared with the Capital Market, Risk is high with respect to the Money Market.

How can the agency problem may occur with respect to the listed company: (Two Points)

The main difference in between non-listed and listed companies are that a listed company goes to the public to raise money by offering them the ownership of the company's stake. A Non-listed company doesn't raise any money via public and not listed on any Stock Exchange that the shares won't be traded unlike listed company's shares. Now we'll see the two majorly occuring agency problem with respect to the listed company:

Shareholder's Interest Conflicting with the Board of Management:

Shareholders and Management holds the relationship that describes the "Principal and Agent" Relationship. Here Management is the Principal and Shareholders are the Agents. Now, if any large stake in the company has came up with a share repurchase proposal and shareholders also agree that company might have been undervalued, Board of Management may or may not have rights to vote against or in favor of the Share Repurchase proposal. Here we can see an example of how a disagreement might occur within shareholder's and Board of Management with respect to the shareholding value interests.

Shareholder's Interest Conflicting with the Bondholders:

Shareholder's may go for a risk appetite of high range whereas this might disrupt the very interests maintained by the Bondholders. Preferences of Shareholder's on riskier projects could cause a rift in Bondholder's preferences and can impact them adversely.