Corporate Financial Decision Making - Raising Capital: Debt and Leases

Vocabulary flashcards covering the nature of debt, lease types, financial evaluation of leasing, and hybrid securities based on University of Melbourne's Corporate Financial Decision Making lecture.

Debt Capital

A 'temporary' contribution of capital by investors for a specified time, typically characterized by no voting rights and a fixed, prior ranking contractual right to a return on and return of capital.

Default Risk

The risk that a firm (stockholders) may fail to meet its obligations to make regular interest payments or repay the principal at maturity.

Bank Overdraft

A type of short-term bank loan preferred in Australia for managing immediate liquidity needs.

Debentures

Medium to long-term debt securities issued from capital markets.

Negative Covenants

Restrictive debt contract provisions ('not to do') that may limit access to further debt, restrict holdings of certain investments, or restrict dividends paid.

Positive Covenants

Affirmative debt contract provisions ('to do') that require the borrower to maintain assets (working capital or collateral) or provide audited financial statements to lenders.

Lessor

The legal owner or financier of an asset who receives fixed payments from the lessee in return for the use of that asset.

Lessee

The user of an asset who makes fixed payments to the lessor under a lease contract.

Operating Lease

A short-term rental-like agreement that is cancellable by the lessee at short notice without substantial penalty; risks of ownership are borne by the lessor.

Finance Lease

A long-term, non-cancellable agreement over the life of the asset where risks of ownership are transferred to the lessee; it serves as an alternative to borrowing funds to buy an asset.

After-tax cost of borrowing

The discount rate used for finance lease valuation, calculated as: $\text{interest rate} \times (1 - \text{corporate tax rate})$.

Tax-shield

A reduction in tax payable resulting from allowable deductions; for example, a tax-shield of $t_c \times \text{Deduction}$.

IFRS 16

The accounting standard that requires almost all leases to be capitalized on the balance sheet, effectively ending 'off-balance sheet' financing for finance leases.

Hybrid Securities

Securities that display characteristics of both debt and equity, such as convertible notes or preference shares.

Convertibles

Fixed-term notes or bonds issued at a fixed interest rate that provide the holder an option to convert the security into ordinary shares at a specified date.

Preference Shares

Securities that give the holder preference over ordinary shareholders regarding dividend payments and repayment of capital in the event of liquidation.

Cumulative Preference Shares

Shares that require any accumulated unpaid dividends to be paid to the holders before dividends can be paid to ordinary shareholders.

Step-up Preference Shares

Securities with a variable dividend rate (e.g., $BBSW + 3\%$) that automatically increases at a specified date if the issuer does not remarket, redeem, or convert them.