ENTREPRENEURIAL FINANCE
D0O46A / D0O54A — Prof. dr. Randy Priem — KU Leuven
COMPLETE EXAM STUDY NOTES
Covers all 6 weeks of the Entrepreneurial Finance module
Topics: Financial Instruments · Markets · NPV/FCF · WACC · CAPM · Sensitivity/Scenario/Simulation ·
Capital Budgeting Techniques · Private Equity & Venture Capital · Valuation · Options · Real Options
,1. COURSE CONTEXT & TYPES OF FINANCE
1.1 USA vs. Europe — Key Structural Differences
When reading corporate finance books, understand that most are written with a US setting in mind.
In the USA:
• More listed/public companies with dispersed shareholder structure.
• More developed financial markets (equity-based financing dominates).
• More agency problems of equity: management ≠ shareholders → management may not always maximise firm
value.
• Primary goal of the firm = maximising shareholder value.
In Europe:
• More private companies; financial markets are less developed → banks dominate.
• Fewer agency problems between shareholders and managers (managers often also shareholders; many family
companies).
• Most corporate finance books apply only to listed companies (= the minority in Europe).
■ Theories/models often assume a US setting of listed/public companies. Always check assumptions when applying them.
1.2 Traditional vs. Modern Corporate Finance Objectives
Traditional view (Friedman 1970): Social responsibility of business is to increase its profits → creating shareholder
value is the key goal.
Newer view (CSR-based): Shareholder value creation is key, but in an ecological, sustainable, ethical, social manner.
Acting ethically does NOT rule out profit maximisation — it can enhance reputation, attract employees, and increase
sales.
■ Exam tip: Know both views and understand that they are not mutually exclusive.
1.3 Three Branches of Finance
Finance is broad. Three main sub-disciplines:
• Corporate Finance: Decisions by CFOs — capital budgeting, corporate investments, M&A, IPOs, working capital,
financial statement analysis. 'Investment' = buying real assets (buildings, machines). 'Financing decision' = selling
financial assets (equity, debt).
• Entrepreneurial Finance: Sub-set of corporate finance. Allocating and managing financial resources for start-ups
and early-stage companies. Key elements: VC, angel investing, crowdfunding, PE, loans, grants. Focus: balancing
high-risk, high-reward opportunities.
• Asset Management / Portfolio Management: Asset pricing (valuation of financial instruments) and portfolio
construction. 'Investment' = buying/selling financial securities (shares, bonds). 'Financing decision' = raising funds
from investors to invest in financial instruments.
• Financial Markets & Institutions: Functioning of financial markets (stock, bond, commodity, derivatives), trading
venues, CCPs, CSDs, and financial agents (banks, insurance, PE investors, etc.).
■ A holistic approach is necessary — there is a lot of overlap (e.g. WACC estimation requires interest rate knowledge from
both corporate finance and asset management).
2. FINANCIAL INSTRUMENTS
,2.1 Equity Instruments
• Definition: Represent ownership shares in a corporation. Each share = one vote at general meeting + share in
financial benefits (dividends).
• Historical origin: Dutch East Indian Company (17th century) invented the concept of buying a 'share' in voyages —
also functioned as risk diversification.
• Residual claim: Shareholders are LAST in line in case of default (after tax authorities, employees, suppliers,
bondholders, other creditors).
• Limited liability: Shareholders can lose their entire investment but NOT more (shares cannot have negative value).
Preferred Stock:
– Holders receive a fixed dividend specified as % of par value OR fixed EUR/year.
– NO voting power (in most countries) in exchange for priority over common stockholders in earnings and assets.
– Therefore often used in Private Equity to obtain equity capital without diluting control of current stockholders.
– Par value: Recorded figure in the corporate charter — not always the same as market value. Dividends are capped
(fixed), unlike common stock dividends.
2.2 Placing Orders on Stock Exchanges
• Market order: Executed at the best available price. Priority given to best price first, then to time of entry. No
guaranteed execution price.
• Limit order: Designates a price threshold. Buy limit = only buy at or below max price. Sell limit = only sell at or
above min price. Protected from bad prices but may not execute.
• Stop order: Not executed until market price reaches a designated level, then becomes a market order. Buy stop:
triggered when price rises to set level. Sell stop: triggered when price falls to set level. Useful when investor cannot
monitor market continuously.
• Child orders: Large trades split into smaller ones to minimise market impact (price movement) and manage timing
— going too fast → price drops; too slow → uncertainty about future prices.
• Market makers: Publish bid (buy) and ask (sell) prices providing liquidity. Earn the bid-ask spread. Quote-driven
market. Hybrid markets also exist.
• Order book: Exchange maintains order book where buyers and sellers post quotes (order-driven market).
2.3 Market Quality
Financial markets play a key role in capital allocation. Determinants of market quality:
• Direct cost of trading: How closely are prices to the asset's true value?
• Pre- and post-trade transparency: Sufficient information to identify true market value.
• Ease of transaction completion.
• Confidence that deals are honoured.
2.4 European Trading Venues (MiFID II / MiFIR)
Type Key Feature Example
Regulated Market (RM) Multilateral system; non-discretionary rules; authorised by regulator. Euronext Brussels
Listing requirements apply.
Multilateral Trading Facility Can be operated by investment firms (not just exchanges). No listing Various MTFs
(MTF) requirements → less restrictive than RM.
Organised Trading Facility Multilateral system for non-equity instruments only (bonds, structured Few in Belgium
(OTF) products, emission allowances, derivatives). Only investment firms can
operate.
Systematic Internaliser (SI) Investment firm dealing on own account executing client orders outside Large banks
RM/MTF/OTF without a multilateral system.
3 economic functions of financial markets: (1) Price discovery (supply/demand determine price), (2) Liquidity
(ability to sell financial assets), (3) Reduced transaction costs (lower search/information costs).
, 2.5 Fixed-Income Instruments
Debt instruments that pay a fixed amount of interest to investors.
• Government bonds: Government borrows from public; provides coupons + principal at maturity. Considered near
risk-free.
• Corporate bonds: Private firms borrow from public; coupons + principal. Default risk is real.
• Eurobonds: Bond denominated in currency other than that of the country in which it is issued (e.g.
yen-denominated bond issued outside Japan; note 'Euro' does not mean EUR currency).
• Convertible bonds: Bonds giving the holder the option to convert each bond into a stipulated number of shares.
• Mortgage-backed securities (MBS): Ownership claim in a pool of mortgages. Mortgages are securitised (bundled)
and traded. Borrower default → MBS falls in value (origin of GFC 2008).
• CDO (Collateralised Debt Obligation): Pool of loans (e.g. mortgages) sliced into tranches: Senior (AAA/AA, paid
first, lowest return), Mezzanine (A/BBB, middle), Equity/Residual (unrated, first to lose money, highest potential
return). Cash flows like a waterfall from top to bottom tranches. Banks use CDOs + SPVs to transfer default risk
off-balance sheet. Credit Default Swaps (CDS) act as insurance.
• Municipal bonds (USA): Issued by local governments; interest income exempt from federal income tax.
• Secured vs. unsecured bonds: Unsecured = debentures (no collateral). Secured = backed by collateral.
• Callable corporate bonds: Corporation has the right to repurchase the bond from holder at a stipulated price.
2.6 Money Market Instruments (Short-term, <1 year)
• Treasury Bills (T-bills): Government raises money by selling at a discount (e.g. 90%), repaid at face value at
maturity.
• Certificate of Deposit (CD): Time deposit with a bank; cannot be withdrawn on demand; bank pays interest +
principal at maturity only.
• Commercial paper: Short-term unsecured debt notes issued by larger companies; often backed by bank credit line.
• Eurodollars: USD-denominated deposits at foreign banks or foreign branches — not necessarily in European
banks.
• Repurchase agreement (repo): Dealer sells government securities overnight agreeing to buy back next day at
slightly higher price → effectively an overnight borrowing secured by government securities. Term repo = up to ~30
days.
• Reverse repo: Mirror image of a repo — dealer buys securities agreeing to sell back at higher price on future date.
2.7 Derivatives
Financial instruments whose payoff depends on the value of other assets (commodity prices, bonds, stocks, indices,
etc.). Value is 'derived' from the underlying asset.
• Call option: Right (NOT obligation) to purchase an asset at the exercise/strike price X on/before expiration date.
Premium must be paid. Bullish strategy.
• Put option: Right (NOT obligation) to sell an asset at price X. Bearish strategy.
• Futures contract: Obligation to buy (long position) or deliver (short position) an asset at a specified price at
maturity. Traded on exchanges. Requires initial margin and daily variation margins (mark-to-market). No upfront
premium cost (unlike options).
• Forward contract: Like futures but customisable between two parties, not standardised, not listed → less liquid.
Traded OTC.
• Options vs. Futures: Options = right, not obligation. Futures = obligation for both parties. Options require premium;
futures do not. Options give more flexibility but cost money.
• Warrants: Like call options issued by the firm itself. Exercise requires issuance of a NEW share (total shares
increase). Call option exercise does NOT increase shares outstanding.
• Swaps: Contract through which two parties exchange cash flows from two different financial instruments. E.g.
interest rate swap (fixed rate vs. EURIBOR) or FX swap.
D0O46A / D0O54A — Prof. dr. Randy Priem — KU Leuven
COMPLETE EXAM STUDY NOTES
Covers all 6 weeks of the Entrepreneurial Finance module
Topics: Financial Instruments · Markets · NPV/FCF · WACC · CAPM · Sensitivity/Scenario/Simulation ·
Capital Budgeting Techniques · Private Equity & Venture Capital · Valuation · Options · Real Options
,1. COURSE CONTEXT & TYPES OF FINANCE
1.1 USA vs. Europe — Key Structural Differences
When reading corporate finance books, understand that most are written with a US setting in mind.
In the USA:
• More listed/public companies with dispersed shareholder structure.
• More developed financial markets (equity-based financing dominates).
• More agency problems of equity: management ≠ shareholders → management may not always maximise firm
value.
• Primary goal of the firm = maximising shareholder value.
In Europe:
• More private companies; financial markets are less developed → banks dominate.
• Fewer agency problems between shareholders and managers (managers often also shareholders; many family
companies).
• Most corporate finance books apply only to listed companies (= the minority in Europe).
■ Theories/models often assume a US setting of listed/public companies. Always check assumptions when applying them.
1.2 Traditional vs. Modern Corporate Finance Objectives
Traditional view (Friedman 1970): Social responsibility of business is to increase its profits → creating shareholder
value is the key goal.
Newer view (CSR-based): Shareholder value creation is key, but in an ecological, sustainable, ethical, social manner.
Acting ethically does NOT rule out profit maximisation — it can enhance reputation, attract employees, and increase
sales.
■ Exam tip: Know both views and understand that they are not mutually exclusive.
1.3 Three Branches of Finance
Finance is broad. Three main sub-disciplines:
• Corporate Finance: Decisions by CFOs — capital budgeting, corporate investments, M&A, IPOs, working capital,
financial statement analysis. 'Investment' = buying real assets (buildings, machines). 'Financing decision' = selling
financial assets (equity, debt).
• Entrepreneurial Finance: Sub-set of corporate finance. Allocating and managing financial resources for start-ups
and early-stage companies. Key elements: VC, angel investing, crowdfunding, PE, loans, grants. Focus: balancing
high-risk, high-reward opportunities.
• Asset Management / Portfolio Management: Asset pricing (valuation of financial instruments) and portfolio
construction. 'Investment' = buying/selling financial securities (shares, bonds). 'Financing decision' = raising funds
from investors to invest in financial instruments.
• Financial Markets & Institutions: Functioning of financial markets (stock, bond, commodity, derivatives), trading
venues, CCPs, CSDs, and financial agents (banks, insurance, PE investors, etc.).
■ A holistic approach is necessary — there is a lot of overlap (e.g. WACC estimation requires interest rate knowledge from
both corporate finance and asset management).
2. FINANCIAL INSTRUMENTS
,2.1 Equity Instruments
• Definition: Represent ownership shares in a corporation. Each share = one vote at general meeting + share in
financial benefits (dividends).
• Historical origin: Dutch East Indian Company (17th century) invented the concept of buying a 'share' in voyages —
also functioned as risk diversification.
• Residual claim: Shareholders are LAST in line in case of default (after tax authorities, employees, suppliers,
bondholders, other creditors).
• Limited liability: Shareholders can lose their entire investment but NOT more (shares cannot have negative value).
Preferred Stock:
– Holders receive a fixed dividend specified as % of par value OR fixed EUR/year.
– NO voting power (in most countries) in exchange for priority over common stockholders in earnings and assets.
– Therefore often used in Private Equity to obtain equity capital without diluting control of current stockholders.
– Par value: Recorded figure in the corporate charter — not always the same as market value. Dividends are capped
(fixed), unlike common stock dividends.
2.2 Placing Orders on Stock Exchanges
• Market order: Executed at the best available price. Priority given to best price first, then to time of entry. No
guaranteed execution price.
• Limit order: Designates a price threshold. Buy limit = only buy at or below max price. Sell limit = only sell at or
above min price. Protected from bad prices but may not execute.
• Stop order: Not executed until market price reaches a designated level, then becomes a market order. Buy stop:
triggered when price rises to set level. Sell stop: triggered when price falls to set level. Useful when investor cannot
monitor market continuously.
• Child orders: Large trades split into smaller ones to minimise market impact (price movement) and manage timing
— going too fast → price drops; too slow → uncertainty about future prices.
• Market makers: Publish bid (buy) and ask (sell) prices providing liquidity. Earn the bid-ask spread. Quote-driven
market. Hybrid markets also exist.
• Order book: Exchange maintains order book where buyers and sellers post quotes (order-driven market).
2.3 Market Quality
Financial markets play a key role in capital allocation. Determinants of market quality:
• Direct cost of trading: How closely are prices to the asset's true value?
• Pre- and post-trade transparency: Sufficient information to identify true market value.
• Ease of transaction completion.
• Confidence that deals are honoured.
2.4 European Trading Venues (MiFID II / MiFIR)
Type Key Feature Example
Regulated Market (RM) Multilateral system; non-discretionary rules; authorised by regulator. Euronext Brussels
Listing requirements apply.
Multilateral Trading Facility Can be operated by investment firms (not just exchanges). No listing Various MTFs
(MTF) requirements → less restrictive than RM.
Organised Trading Facility Multilateral system for non-equity instruments only (bonds, structured Few in Belgium
(OTF) products, emission allowances, derivatives). Only investment firms can
operate.
Systematic Internaliser (SI) Investment firm dealing on own account executing client orders outside Large banks
RM/MTF/OTF without a multilateral system.
3 economic functions of financial markets: (1) Price discovery (supply/demand determine price), (2) Liquidity
(ability to sell financial assets), (3) Reduced transaction costs (lower search/information costs).
, 2.5 Fixed-Income Instruments
Debt instruments that pay a fixed amount of interest to investors.
• Government bonds: Government borrows from public; provides coupons + principal at maturity. Considered near
risk-free.
• Corporate bonds: Private firms borrow from public; coupons + principal. Default risk is real.
• Eurobonds: Bond denominated in currency other than that of the country in which it is issued (e.g.
yen-denominated bond issued outside Japan; note 'Euro' does not mean EUR currency).
• Convertible bonds: Bonds giving the holder the option to convert each bond into a stipulated number of shares.
• Mortgage-backed securities (MBS): Ownership claim in a pool of mortgages. Mortgages are securitised (bundled)
and traded. Borrower default → MBS falls in value (origin of GFC 2008).
• CDO (Collateralised Debt Obligation): Pool of loans (e.g. mortgages) sliced into tranches: Senior (AAA/AA, paid
first, lowest return), Mezzanine (A/BBB, middle), Equity/Residual (unrated, first to lose money, highest potential
return). Cash flows like a waterfall from top to bottom tranches. Banks use CDOs + SPVs to transfer default risk
off-balance sheet. Credit Default Swaps (CDS) act as insurance.
• Municipal bonds (USA): Issued by local governments; interest income exempt from federal income tax.
• Secured vs. unsecured bonds: Unsecured = debentures (no collateral). Secured = backed by collateral.
• Callable corporate bonds: Corporation has the right to repurchase the bond from holder at a stipulated price.
2.6 Money Market Instruments (Short-term, <1 year)
• Treasury Bills (T-bills): Government raises money by selling at a discount (e.g. 90%), repaid at face value at
maturity.
• Certificate of Deposit (CD): Time deposit with a bank; cannot be withdrawn on demand; bank pays interest +
principal at maturity only.
• Commercial paper: Short-term unsecured debt notes issued by larger companies; often backed by bank credit line.
• Eurodollars: USD-denominated deposits at foreign banks or foreign branches — not necessarily in European
banks.
• Repurchase agreement (repo): Dealer sells government securities overnight agreeing to buy back next day at
slightly higher price → effectively an overnight borrowing secured by government securities. Term repo = up to ~30
days.
• Reverse repo: Mirror image of a repo — dealer buys securities agreeing to sell back at higher price on future date.
2.7 Derivatives
Financial instruments whose payoff depends on the value of other assets (commodity prices, bonds, stocks, indices,
etc.). Value is 'derived' from the underlying asset.
• Call option: Right (NOT obligation) to purchase an asset at the exercise/strike price X on/before expiration date.
Premium must be paid. Bullish strategy.
• Put option: Right (NOT obligation) to sell an asset at price X. Bearish strategy.
• Futures contract: Obligation to buy (long position) or deliver (short position) an asset at a specified price at
maturity. Traded on exchanges. Requires initial margin and daily variation margins (mark-to-market). No upfront
premium cost (unlike options).
• Forward contract: Like futures but customisable between two parties, not standardised, not listed → less liquid.
Traded OTC.
• Options vs. Futures: Options = right, not obligation. Futures = obligation for both parties. Options require premium;
futures do not. Options give more flexibility but cost money.
• Warrants: Like call options issued by the firm itself. Exercise requires issuance of a NEW share (total shares
increase). Call option exercise does NOT increase shares outstanding.
• Swaps: Contract through which two parties exchange cash flows from two different financial instruments. E.g.
interest rate swap (fixed rate vs. EURIBOR) or FX swap.
