Carson Company is a large manufacturing firm in California that was created 20 years ago by the Carson family. It was initially financed with an equity investment by the Carson family and ten other individuals. Over time, Carson Company has obtained substantial loans from finance companies and commercial banks. The interest rate on the loans is tied to market interest rates, and is adjusted every six months. Thus, Carson's cost of obtaining funds is sensitive to interest rate movements. It has a credit line with a bank in case it suddenly needs to obtain funds for a temporary period. It has purchased Treasury securities that it could sell if it experiences any liquidity problems.
Carson Company has assets valued at about $50 million and generates sales of about $100 million per year. Some of its growth is attributed to its acquisitions of other firms. Because of its expectations of a strong U.S. economy, Carson plans to grow in the future by expanding its business and through acquisitions. It expects that it will need substantial long-term financing, and plans to borrow additional funds either through loans or by issuing bonds. It is also considering the issuance of stock to raise funds in the next year. Carson closely monitors conditions in financial markets that could affect its cash inflows and cash outflows and therefore affect its value.
a. In what way is Carson a surplus unit?
b. In what way is Carson a deficit unit?
c. How might finance companies facilitate Carson's expansion?
d. How might commercial banks facilitate Carson's expansion?
e. Why might Carson have limited access to additional debt financing during its growth phase?
f. How might Carson use the primary market to facilitate its expansion?
g. How might it use the secondary market?
h. If financial markets were perfect, how might this have allowed Carson to avoid financial institutions?
i. The loans that Carson has obtained from commercial banks stipulate that Carson must receive the banks' approval before pursuing any large projects. What is the purpose of this condition? Does this condition benefit the owners of the company?