Thursday, April 5, 2007

Financial Institution

In financial economics, a financial institution acts as an agent that provides financial services for its clients. Financial institutions generally fall under financial regulation from a government authority. Common types of financial institutions include banks, building societies, credit unions, stock brokerages, asset management firms, and similar businesses.

Function

Financial institutions provide a service as intermediaries of the capital and debt markets. They are responsible for transferring funds from investors to companies, in need of those funds. The presence of financial institutions facilitate the flow of monies through the economy. To do so, savings accounts are pooled to mitigate the risk brought by individual account holders (see adverse selection) in order to provide funds for loans. Such is the primary means for depository institutions to develop revenue. Should the yield curve become inverse, firms in this arena will offer additional fee-generating services including securities underwriting, sales & trading, and prime brokerage .


Corporate Valuation


Relative metrics : Price/Equity Price/Book Value

Use Equity Multiples (as opposed to Enterprise Multiples). In order to consider how valuing a Financial Institution's balance sheet is different from a non-Financial firm. Consider how an industrials firm wields capital machinery (asset) and the loans it used to finance that asset (liabilities). The line is blurred in Financial Institutions, which must hold deposit accounts (assets) to fuel the issuance of loans. The same accounts are considered loans as they are held in ownership not of the bank, but of the individual client.

Dividend Discount Model : Earnings-per-share

Dividends-per-share

Discounted Cash Flow (DCF) Model : You'll need the FCFE (Free Cash Flow for Equity), which is the amount of money that is returned to shareholders. Calculalj;;te a FCFF (Free Cash Flow to the Firm): EBIT(1-tax rate)-Capital Expenditures+(Depreciation & Amortization) - (Net increase in working capital)= FCFF

FCFF-Debt+Cash=FCFE

Use the Capital Asset Pricing Model, not the Weighted Average Cost of Capital (for the same reasons one uses Equity Multiples in relative valuation) to determine the cost of equity (the return required by shareholders in order to make the decision to invest in a financial institutions)



Building Society

A building society is a financial institution, owned by its members, that offers banking and other financial services, especially mortgage lending.

The term building society first arose in the 19th century, in the United Kingdom, from working men's co-operative savings groups: by pooling savings, members could buy or build their own homes.

In the UK today building societies actively compete with banks for most "banking services" especially mortgage lending and deposit accounts. As of 2007 there are 60 building societies in the UK with total assets exceeding £305 billion[1].

Bank

A bank is a business which provides financial services for profit. Traditional banking services include receiving deposits of money, lending money and processing transactions. Some banks (called Banks of issue) issue banknotes as legal tender. Many banks offer ancillary financial services to make additional profit; for example: selling insurance products, investment products or stock broking.

Currently in most jurisdictions the business of banking is regulated and banks require permission to trade. Authorization to trade is granted by bank regulatory authorities and provide rights to conduct the most fundamental banking services such as accepting deposits and making loans. There are also financial institutions that provide banking services without meeting the legal definition of a bank (see banking institutions).

Banks have a long history, and have influenced economies and politics for centuries.

Traditionally, a bank generates profits from transaction fees on financial services and from the interest it charges for lending. In recent history, with historically low interest rates limiting banks' ability to earn money by lending deposited funds, much of a bank's income is provided by overdraft fees and riskier investments.

The name bank derives from the Italian word banco, desk, used during the Renaissance by Florentines bankers, who used to make their transactions above a desk covered by a green tablecloth.

Credit union

A credit union is a cooperative financial institution that is owned and controlled by its members. Credit unions differ from other financial institutions (banks, savings and loan, etc.) in that the members who have accounts in the credit union are the credit union's owners.

Credit union policies governing interest rates and other matters are set by a volunteer Board of Directors elected by and from the membership itself. Only a member of a credit union may deposit money with the credit union, or borrow money from it. As such, credit unions have historically marketed themselves as providing superior member service and being committed to helping members improve their financial health.

Credit unions typically pay higher dividend (interest) rates on shares (deposits) and charge lower interest on loans than banks.[1]. Credit union revenues (from loans and investments) do, however, need to exceed operating expenses and dividends (interest paid on deposits) in order to maintain capital and solvency.

Credit unions offer many of the same financial services as banks, including share accounts (savings accounts), share draft (checking) accounts, credit cards, and share term certificates (certificates of deposit) and online banking.

Due to their status as not-for-profit financial institutions, credit unions in the United States are exempt from federal and state income taxes.

Credit unions exist in a wide range of sizes, ranging from volunteer operations with a handful of members, operated out of a shoebox, to institutions with several billion dollars in assets and hundreds of thousands of members.

Stock Broker

Stock brokers are people who deal with stock & bonds.A stock broker sells or buys stock on behalf of a customer. The stock broker works as an agent matching up stock buyers and sellers. A transaction on a stock exchange must be made between two members of the exchange — a typical person may not walk into the New York Stock Exchange (for example), and ask to trade stock. Such an exchange must be done through a broker.

In addition to actually trading stocks for their clients, stock brokers may also offer advice to their clients on which stocks, mutual funds, etc. to buy.