Corporate finance Essay Example | Topics and Well Written Essays - 1500 words - 1

Corporate finance - Essay Example Business firms generally find difficulty in raising capital for their further expansion.In the case of very big business projects,the founder alone cannot meet the firm’s initial capital requirements.Under such circumstances,companies issue shares of specific value to the general public with intent to raise capital for meeting business operation expenses. Share price refers to the price of a single share that company issues for subscription. While taking decision on share subscription, an investor compares the share price with company’s financial statements. If a company cannot raise an attractive surplus from its operation, it cannot fix a high price for its shares. It is observed that the market stature of a company has a direct impact on its share price. Every firm aims at maximizing its share value by improving profitability. Empirical evidences suggest that share prices may be affected by an array of factors. Share price is mainly categorized into two such as inter nal and external variables. This paper will explore how these factors affect share prices. Internal variables affecting share prices Internal variables are the strengths or weaknesses of a business which may largely affect the share prices more than any other factor. Profitability, leverage, size, bonus issue, and warrant exercise are the main internal variables that influence the share price to a large extent. They are described below in detail. 1. Profitability Obviously, the ultimate objective of every business is wealth maximization. Therefore, an investor is always curious about the economical status of the company in which he wishes to invest. A firm’s audited financial statements prepared at the end of the fiscal year give vital information to investors and other shareholders. An investor mainly considers the company’s total revenue, expenses, and profitability so as to assess its current market position. For making an investment decision, an investor may give h igh emphasis on the firm’s Earning Per Share (EPS) that represents rate of return on a share at the end of the financial year. In other words, when the EPS rises, investors are more likely to invest with the company. 2. Leverage Leverage is a business term that indicates the amount of money borrowed to finance the purchase of assets; and it can be determined by calculating Debt-to-equity ratio. Although leverage is beneficial for the company to promote growth through the purchase of assets, a high leverage would raise high risks including the drop of share price. An investor would never like to purchase the assets of a company that owes huge debts to other entities because investors are less likely to support a risky venture. Hence, a low leverage may benefit the business to maximize its share price. For instance, as Chatterjee (2011) reports, the Reliance Communications have recently cut down share price target for December by 49 percent to 82 rupees mainly as a result of hi gh leverage. 3. Size Fernando, Gatchev, and Spindt argues that the size of the firm can directly influence the share price; an increase in firm’ size causes a proportional increase in share price and vice versa. Generally, it is believed that huge firms would have abundant potential financial sources that can be effectively employed to meet different business needs. Similarly, large sized firms would probably maintain many potential market segments which would assist the firm to confront with difficulties in times of business contingencies. Moreover, large firms would be well established in the market and therefore, they can keep stable market demand to some extent regardless of the changes in market trends. These factors offer a minimum profit guarantee to investors even if the business faces unexpected losses. Schutts points out that Wal-Mart’s large size has assisted the firm maintain its share price steadily. 4. Bonus issue Bonus issue indicates the act of issuing additional shares to the firm’