Integrated Project - Part 2 Capital Structure with comments Revised v2-2 (1)

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1 Integrated Project Part 2: Capital Structure Completed by Royal Bank of Canada, RBC Czegledi, Anna September 29, 2023 Part 2: Capital Structure Compare and Contrast Debt and Equity Financing Debt and equity financing represent two pivotal avenues businesses employ to secure capital, serving diverse objectives like expansion, investments, or operational requirements. Each method boasts unique attributes, benefits, and inherent limitations. To elucidate these financing paradigms, we turn to the comprehensive financial data divulged by the Royal Bank of Canada (RBC) in its 2022 Annual Report. Delving into these financials offers valuable insights into RBC's strategic capital allocation, highlighting its prudent financial management.

2 Debt Financing: Debt financing involves borrowing capital from external sources, which is evident in RBC's operations. RBC extends loans to key individuals, including directors and their families, ensuring a steady cash flow with predefined interest rates and security measures. Moreover, RBC has outstanding loans with joint ventures and associates totaling $251 million as of October 31, 2022 ( Royal Bank of Canada, 2022, p.221). RBC's commitment to diligently manage loans to entities it holds interests in reflects its continuous utilization of debt financing. Advantages of Debt Financing: One of the crucial advantages of debt financing is that it allows businesses to leverage their existing resources. RBC can expand its lending capacity and generate interest income by borrowing finances. Additionally, interest payments on debt are tax-deductible, which can lead to implicit tax benefits for the institution ( FIN74000 - Fall 2023 pg. 421) . Furthermore, debt financing doesn't dilute ownership or control. RBC maintains complete control over its operations and strategic decisions, as creditors don't have any voting rights or ownership claims. Disadvantages of Debt Financing: However, debt financing also comes with its set of challenges. One primary concern is the obligation to make regular interest payments and repay the top amount. In profitable downturns or financial stress, meeting these obligations can strain a company's cash flow. Moreover, excessive debt can negatively impact a company's creditworthiness, potentially leading to advanced borrowing costs or difficulty securing future loans. Equity Financing: Equity financing involves raising capital by issuing shares of stock to investors in exchange for ownership stakes in the company. This method allows companies to sell partial ownership to external investors, like individual or institutional investors. In the case of RBC, equity financing is apparent through its ownership structure ( FIN74000 - Fall 2023 pg. 423) . RВC is a publicly traded company, meaning it has issued shares of stock that are traded on stock exchanges. Individual and institutional investors hold ownership stakes in RВC based on the number of shares they own. Advantages of Equity Financing: One of the crucial advantages of equity financing is that it doesn't involve debt obligations. Unlike debt, equity doesn't require regular interest payments or top repayment. This can provide lesser financial flexibility, especially during uncertain profitable conditions. Additionally, equity investors share in the company's success. However, shareholders profit from capital

3 appreciation and may receive dividends, enhancing their overall return on investment If RBC performs well. Disadvantages of Equity Financing: However, equity financing also has its drawbacks. When a company issues shares, it dilutes existing shareholders' ownership stake. In the case of RBC, issuing new shares would dilute current shareholders' ownership, potentially impacting their control over the company. Also, sharing ownership with external investors means sharing profits and decision-making authority. While this can bring fresh perspectives and expertise, it also means relinquishing some control over strategic decisions. A table on Comparison of Debt Financing and Equity Financing Aspects Debt Financing Equity Financing Underwriting and Advisory Fees Decreased $634 million or 24%, indicating debt underwriting services. Likely involved in equity underwriting as part of investment banking. Interest Income Recognizes interest on loans, indicating lending activities. Invests in equity securities, earning income from dividends. Tax Treatment Interest payments may be tax-deductible. Tax treatment varies, potentially fewer tax benefits. Flexibility Fixed repayment schedules. More flexibility in dividend payments. Source: RBC, 2022 Annual Report, Page 26 https://www.rbc.com/investor-relations/_assets-custom/pdf/ar_2022_e.pdf Debt and Equity Financing for RBC One of the biggest banks in Canada, Royal Bank of Canada (RBC), has operations all over the world. RBC, like many big organizations, finances its operations and expansion plans using a combination of debt and equity funding. A summary of RBC's use of debt and equity financing is shown below: Debt funding 1. Bonds: To raise money, RBC issues corporate bonds. These bonds are interest-bearing debt instruments that are sold to bondholders. The money raised from bond sales is used by

4 RBC for a variety of projects, including business growth, funding acquisitions, and debt refinancing. 2. Loans from banks: In addition, RBC has access to loans from other financial institutions and the money market. Depending on the requirements of the bank, these loans offer either short- or long-term funding. Commonly, the terms and interest rates are negotiated based on the state of the market and the bank's creditworthiness. 3. Commercial Paper: It is a sort of short-term financial instrument with maturities ranging from a few days to many months. RBC may issue commercial papers. RBC effectively meets its short-term liquidity needs with the use of commercial paper. 4. Subordinated Debt: RBC may issue subordinated debt, a sort of bond that, in the event of bankruptcy, has a lesser priority than senior debt but often has a higher interest rate for investors. Diversifying funding sources frequently involves using subordinated debt. Equity Financing: 1. Common Stock: By issuing common stock, RBC raises equity capital. Common shareholders are entitled to ownership and dividends. Either to increase the bank's capital base or to generate significant funds for long-term investments, common stock issuance can be a successful strategy. 2. Preferred Stock: RBC may also issue preferred stock in addition to ordinary stock. Common shareholders do not have preference over preferred shareholders in the case of a liquidation, and preferred shareholders normally get set dividend payments. Investors seeking a combination of income and equity ownership may find preferred shares appealing. 3. Retained Earnings: RBC is also able to get equity financing by using its retained earnings. The accumulated profits that the bank has not distributed as dividends are known as retained earnings. This money may be used to expand the company, make acquisitions, or improve the balance sheet, among other things. 4. Stock Options and Employee Stock Purchase Plans: To motivate staff and match their interests with those of shareholders, RBC may utilize stock options and employee stock purchase plans. These initiatives assist to retain workers and foster an ownership culture by enabling them to purchase RBC shares at a reduced cost.

5 RBC must consider its capital requirements, market conditions, cost of capital, and risk assessment while deciding between debt and equity financing. The financial management team of the bank assesses these variables to choose the best ratio of debt-to-equity financing to support its strategic goals while preserving a sound financial position. RBC's financing choices may also be impacted by market circumstances and regulatory obligations. For more information about RBC’s debt and equity financing, refer to pages 57 and 58. Source: RBC, 2022 Annual Report, Page 57-58 https://www.rbc.com/investor-relations/_assets-custom/pdf/ar_2022_e.pdf Short-Term and Long-Term Financing Plan for RBC Royal Bank of Canada (RВС), one of the most prominent economic institutions globally, calls for comprehensive financing рlan to aid its short-term and long-term monetary desires. This рlan should align with RBС’s strategic goals, risk tolerance, and the dynamic nature of the financial industry. In outlining a financing plan for both short-term and long-term perspectives: Short-Term Financing Plan: Short-term financing is critical to the Royal Bank of Canada's (RBC) financial strategy, addressing immediate funding needs, maintaining liquidity, and seizing short-term opportunities. RBC employs several key approaches in its short-term financing plan: Firstly, interbank borrowing plays a pivotal role, leveraging RBC's strong reputation and creditworthiness to access short-term funds swiftly from other banks and financial institutions. This flexibility allows RBC to efficiently cover daily operational expenses, meet regulatory requirements, and capitalize on short-term investment prospects. Additionally, RBC issues commercial paper, a short-term debt instrument with maturities typically ranging from days to 270 days, tapping into capital markets for short-term funding at competitive rates. RBC's robust credit rating positions it as an attractive issuer, drawing investors seeking reliable short-term investments. Moreover, RBC utilizes repurchase agreements (repos) to secure short-term capital, selling securities with a commitment to repurchase them later (Royal Bank of Canada, 2022, p.55). Conversely, reverse repos can invest surplus cash for short durations, optimizing idle funds by earning interest. Effective cash and cash equivalents management is another essential facet of RBC's short-term financing strategy. Continuous assessment of liquidity positions ensures optimal utilization of available cash while ensuring compliance with regulatory requirements. Lastly, RBC maintains a robust contingency funding plan to address unforeseen liquidity needs, given the unpredictable nature of financial markets (Royal Bank of Canada, 2022, p.82). This

6 plan outlines actions to be taken in various scenarios, ensuring the bank's resilience in the face of financial uncertainties. RBC Short Term Financing Source: RBC, 2022 Annual Report, Page 57 https://www.rbc.com/investor-relations/_assets-custom/pdf/ar_2022_e.pdf Deposits RBC operates in the banking industry, which means that its short-term financing is primarily funded by deposits. RBC Deposits (Current Year: $1,208,814 million (about $3,700 per person in the US) (about $3,700 per person in the US), Previous Year: $1,100,831 million (about $3,400 per person in the US) (about $3,400 per person in the US): These figures represent the total amount of deposits held by RBC at two different points in time. Current Year (e.g., 20XX): $1,208,814 million (about $3,700 per person in the US) Previous Year (e.g., 20XX-1): $1,100,831 million (about $3,400 per person in the US). As one of Canada's leading banks, RBC offers a wide range of deposit products to its customers, including savings accounts, checking accounts, fixed- term deposits (such as certificates of deposit or CDs), and other specialized accounts. These deposits are provided by individual customers, businesses, institutions, and other entities. The increase in deposits from the previous year to the current year suggests that RBC has seen growth in its deposit base during that period. This can be influenced by factors such as marketing strategies, interest rates offered on deposits, economic conditions, and changes in customer preferences. RBC, like other banks, relies on deposits as a source of funding to support its lending activities, investment in securities, and other financial services. The bank uses these funds to make loans to individuals and businesses, invest in financial markets, and

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