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## FIN303 CHAPTER 4 STUDY GUIDE

by: Giulia Dias Roncoletta

87

0

5

# FIN303 CHAPTER 4 STUDY GUIDE FIN303

Marketplace > University of Miami > Finance > FIN303 > FIN303 CHAPTER 4 STUDY GUIDE
Giulia Dias Roncoletta
UM
GPA 3.5

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Hey guys, i trying to get a study guide for each chapter, but the day before the test ill make sure to include a document with all the chapters study guides combined! so wait for that or just get n...
COURSE
Corporate Finance Management
PROF.
Douglas R. Emery
TYPE
Study Guide
PAGES
5
WORDS
CONCEPTS
finance, fin, notes, fin303
KARMA
50 ?

## Popular in Finance

This 5 page Study Guide was uploaded by Giulia Dias Roncoletta on Thursday February 11, 2016. The Study Guide belongs to FIN303 at University of Miami taught by Douglas R. Emery in Winter 2016. Since its upload, it has received 87 views. For similar materials see Corporate Finance Management in Finance at University of Miami.

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Date Created: 02/11/16
FIN303 NOTES CHAPTER 4  4.1 RATES OF RETURN AND NET PRESENT VALUE  Returns: Rate of Return = CF + (End. Value ­ Beg. Value)  Beginning Value Realized Returns: rate of return actually earned on an investment during a given time  period.  ­ an outcome, not a prediction  ­ observed from actual investment  ­ you can only react to it Expected Return: rate of return you expect to earn if you make the investment  ­ the return you expect to get from an investment ­ helps you make investing decision Required Return: rate of return that exactly reflects the riskiness of the expected future  cash flow ­ return market requires on invest. of identical risk ­ the market compares prices and risk of all other investments ­ the fair return for an investment Net Present Value ­ NPV: NPV = PV of future CFs ­ Cost  Positive: a positive NPV increases wealth because it means the asset invested on is  worth more than it costs. Earn more than the appropriate return. Negative: a negative NPV decreases wealth because it means the asset costs more  than it’s worth.  Zero: an NPV of 0 earns the required return and it’s “fair”  ­ NPV is measured on a benchmark of “normal” market return  ­ it provides framework for decision making on investments ­ measures the value created or lost by financial decisions ­ maximize shareholder’s wealth = strive for positive NPV “fair price” a price that does not favor the buyer or the seller ­ Principle of Capital Market Efficiency ­ all securities are fairly priced.  ­ makes the NPV 0  ­ does not mean zero return, but required return.  ­ Principle of Risk Return Trade off ­ more risk = more return.  * If markets were perfect required and expected return would be the same, because all  securities would be fairly priced and have an NPV of 0.  * Realized rarely equals Expected return, but you can measure risk, if there’s a great  difference between the rates of return the higher the risk, risk is low when difference is  slight.  4.2 VALUING SINGLE CASH FLOWS Future Values:  n  FV =n V(1+r) = PV(FVF ) r,n Future Value: value at the end of a given time period. Compound Interest: method of interest computation wherein interest is earned on both  the  original investment and on the reinvested interest.  Simple Interest: method of interest computation wherein interest in earned on only the  original      investment.      ­ use of simple interest has largely disappeared Future Value Factor is the (1+r) part of the FV equation, is the value \$1 is going to  grow to at a rate of r for n periods. ­ negative sign in FV is due to the fact that the formula sums up to 0. Present Values:    PV=  V [ 1 n = FV (PVF ) n r,n           (1+r)n    Present Value: an amount invested today at r per period that would provide a given  future value at time n.  ­ the larger the r  the smaller the present value ­ more time until cashflow, smaller the present value (for positive r )   Solving for a Return:    1/n r = [FV  n ]  ­ 1 [PV] 4.3 VALUING ANNUITIES  Future Value of an Annuity: FVA =Pn   [(1+r)    ­ 1]            r Annuity: series of qual, periodic cash flows, which occur regularly. ­majority of annuities have end­of­period payments Ordinary Annuities: annuities whose payments occur at the end of each period Deferred Annuities: annuities whose first payment is different than one period in the  future Annuity Due: annuities whose payments are made at the beginning of the period  ­ each subsequent payment earns interest for one less period than the previous  one ­ the last payment does not earn any interest because it occurs at the end of  annuity Present Value of an Annuity: n  PVA =Pn   [(1+r)    ­ 1]    r (1+r) n Present Value of an Annuity: If you borrow money and are paying back these are your present value payments: PMT=PV    [ n   r   (1                   n    (1+r) ­ 1 If you save money, the accumulated amount is the future value, therefore these are your receivables PMT= FVA n                        [(1+r) ­ 1]            Amortizing a Loan:  Loan Amortization Schedule: shows how a loan is paid overtime, aka the relationship  between its payments, principal, and interest rate. Create a Schedule: (1) star with amount borrowed (2) add first period’s interest (3) subtract the first periods payment (4) results in remaining balance = starting amount for 2nd period (5) repeat until remaining balance is 0 at last period. Valuing Deferred Annuities:   Deferred annuities start at a time other than right away, therefore they start at t=1 not  t=0   ­ PV of an annuity can be calculated by first calculating the annuity’s future value, then  calculating the present value of thats lump­sum future value.  (1) find future value using N= when payments are received, plug in payments  (2) use FV (­) to find real PV, use N=whole period, and pmt=0  Perpetuities:  PVA = PMT perpetuity              r Perpetuity: is an annuity that goes on forever.  ­ accurate approximations of long term annuities.  Valuing an Annuity Due: ­ has a higher present value than ordinary annuities ­ higher future value because each pay has an additional period to compound ­ value an annuity due, but multiplying the value of a comparable ordinary annuity and  multiply it by (1+r)  4.4 MULTIPLE EXPECTED FUTURE CASH FLOW  ­ NPV equals the sum of the present value of all cash flows.  ­ Or use “rollback” and discount the r back one period starting from last cashflow ­ Use FV and PV formulas to find the exact payment at any time period.  4.5 COMPOUNDING FREQUENCY  Annual Percentage Rate (APR)  APR = (m)(r)  APR is the periodic rate times the number of periods in a year ­ a nominal rate “in name only” Compound Frequency: how often an interest is compounded ­ monthly, weekly, daily,  annually ­ period rare is an effective rate (r ) ­ m  Annual Percentage Yield (APY)  (1)      APY = [ 1+ APR ]  ­ 1                     m (2)        APY = Annual Interest / Principal  APY is the effective (true) annual rate of return.  ­ rate you actually earn in one year ­ if APR is compounded annually, it equals APY  Continuous Compounding:  APR  APY = e ­ 1 ­ When the m (frequency) becomes too large (minutes, seconds) compounding becomes  essentially continuos  ­ Just use a very large value for m  like 100,000 and you’ll get the same number as a  continuous compounding APY  4.6 PARTIAL TIME PERIODS ­ read the book cuz its just examples and i cant really take note on it, it’s very  straight forward 4.7 EVALUATING “SPECIAL­FINANCING” OFFERS Special Financing Offers: used as part of sales promotion, consumers purchases it as  a package. It’s a promotional gimmick ­ firm is lowering the effective price to encourage sales. ­ how much does the interest savings lowers the price? ­ (1) market interest rate for such loans,  ­ market interest provides a measure of opportunity cost of the special financing  ­ use market rate to compute the real price of the product ­ if PV is smaller than cash price, special financing is a better deal ­

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