Principles of Corporate Finance_ 12th Edition

Chapter 14 An Overview of Corporate Financing 367

bre44380_ch14_355-378.indd 367 09/11/15 07:56 AM

$300 million loan to Exxon Mobil. The Italian investor’s savings end up flowing through
financial markets (the stock market), to a financial intermediary (Bank of America), and
finally to Exxon.
Of course our Italian friend’s $60,000 doesn’t literally arrive at Exxon in an envelope
marked “From L. DaVinci.” Investments by the purchasers of the Bank of America’s stock
issue are pooled, not segregated. Sr. DaVinci would own a share of all of Bank of America’s
assets, not just one loan to Exxon. Nevertheless, investors’ savings are flowing through the
financial markets and then the bank to finance Exxon’s capital investments.
Suppose that another investor decides to open a checking account with Bank of America.
The bank can take the money in this checking account and also lend it on to Exxon Mobil. In
this case, the savings bypass the financial markets and flow directly to a financial intermedi-
ary and from there to Exxon.
We now need to flesh out Figure  14.5 by looking at the main financial markets and
intermediaries.

Financial Markets

A financial market is a market where financial assets are issued and traded. In our example,
Bank of America used the financial markets to raise money from investors by a new issue of
shares. Such issues are known as primary issues. But in addition to helping companies to raise
cash, financial markets also allow investors to trade stocks or bonds among themselves. For
example, Mr. Rosencrantz might decide to raise some cash by selling his Bank of America
stock at the same time that Mr. Guildenstern invests his savings in the stock. So they make a
trade. The result is simply a transfer of ownership from one person to another, which has no
effect on the company’s cash, assets, or operations. Such purchases and sales are known as
secondary transactions.
Some financial assets have less active secondary markets than others. For example, when
a bank lends money to a company, it acquires a financial asset (the company’s promise to
repay the loan with interest). Banks do sometimes sell packages of these loans to other banks,
but generally they retain the loan until it is repaid by the borrower. Other financial assets
are regularly traded. Some, such as shares of stock, are traded on organized exchanges like

BEYOND THE PAGE

mhhe.com/brealey12e

Stock exchanges:

From clubs to

commercial

companies

◗ FIGURE 14.5

Flow of savings to

investment for a large,

public corporation.

Savings come from

investors worldwide.

The savings may

flow through financial

markets or financial

intermediaries. The

corporation also rein-

vests on shareholders’

behalf.

Stock markets

Fixed-income markets

Money markets

Markets for

Commodities

Foreign exchange

Derivatives

Financial Markets

Mutual funds

Pension funds

Banks

Insurance companies

Financial Intermediaries

Investors

Investment worldwide

in real assets

Corporation

Reinvestment