BUSINESS FINANCE FIN 3312
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This 13 page Class Notes was uploaded by Corine Gibson on Wednesday September 23, 2015. The Class Notes belongs to FIN 3312 at Texas State University taught by V. Lesseig in Fall. Since its upload, it has received 42 views. For similar materials see /class/212741/fin-3312-texas-state-university in Finance at Texas State University.
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Date Created: 09/23/15
1242012 81200 PM Fin week 2 7 Goal of the firm max value Agency problem is when the managers are not the owners And mangers are not acting as the owners would Solution board can fire managers Or make them better managers by giving them stock options and making them owners Financial statements Balance sheet Assets liabilities equity Snap shot Working capital current assets Net working capital current assets current liabilities Everything on a balance sheet is at book value Book value of Equity Common Stock number of shares outstanding x par value of stock normally 1 Paid in capital number of shares x issue price par value Retained earnings all income all dividends ever paid Income Statement Covers a period of time Revenues sales cost of good sold operationg expenses deprecation Earnings before interest and taxesEBIT aka operating income interest expense EBT taxT NET INCOMEPROFIT EARNINGS instead of income we want cash flow net cash flow net income noncash noncash expenses too hard not doing this net income depreciation free cash flowcf from assets after business is ran and paid for is the cash left over free and clear Cash flow from assets oper CF capital spendingchange in net working capital Cash flow from assets CF to creditors CF to stockholders Operating Cash flow EBIT depreciation Taxes Capital spending ending net fixed assets beginning net fixed Assests Depr Ending PPE Beginning PPE Depreciation If Capital Spending gt 0 purchased fixed assets PPE If Capital Spending lt 0 sold Fixed AssetsPPE Change in NET working Capital Endcurrent assets current liabilities Beginning CACL Cash flows to creditors interest expense new borrowing change in Debt Cash Flow to Stockholders Dividends new equity issued Financial statement Analysis Rearrange statements to answer specific questions I nu he competitors industry averages historicallast years numbers looking for trends Common size statement Bal sheet total assets Income statement by T revenue or sales Different size firms Growing firms FIN 3 31 2 Spring 2011 Review List of Material for 3ml Exam Chapter 6 Bonds o What are bonds 0 Bonds are normally an interestonly loan meaning that the borrower will pay interest every period but none of the principal will be repaid until the end of the loan 0 Bond Characteristics 0 Loan with many lenders Spread out risks gives liquidity to lender o Coupon I Stated interest payment made on a bond 0 Face Value Par Value I The principal amount of a bond that is repaid at the end of the term 1000 0 CouponInterest Rate I The annual coupon divided by the face value ofa bond I Never I YR I If coupon raterequired return pricepar vlaue o Maturity Date I Date on which the principal amount ofa bond is paid 0 Current Yield I A bond s annual coupon divided by its price 0 Zero Coupon Bond I A bond that makes no coupon payments and this is initially priced at a deep discount 0 Pricing Bonds 0 AnnualSemiannual Coupons 0 DiscountPremium I If Coupon Rate lt Required Return Price lt Par Discount 0 Interest Rates 0 Nominal vs Real 0 Nominal Rate I The nominal rate on an investment is the percentage change in the number of dollars you have 0 Real Rate I The real rate on an investment is the percentage change in how much you can buy with your dollars in other words the percentage change in your buying power 0 Risk Premiums 0 In ation Premium I The portion ofa nominal interest rate that represents compensation for expected future in ation o InterestRate Risk Premium I The longer the term to maturity the greater is the interest rate risk so the interest rate risk premium increases with maturity However interest rate risk increases at a decreasing rate so the interest rate risk premium does as well 0 Default risk premium I The portion ofa nominal interest rate or bond yield that represents compensation for the possibility of default 0 Taxability Premium I The portion ofa nominal interest rate or bond yield that represents compensation for unfavorable taX status 0 Liquidity Premium I The portion ofa nominal interest rate or bond yield that represents compensation for lack ofliquidity 0 Bond Risk 0 Default Risk I Bond Ratings 0 2 Leading bondrating firms 0 Moody s and Standard and Poor s SampP 0 Measure default risk 0 The lower the rating greater default risk 0 The greater default risk Higher yield I Ratings and YTM 0 Yield to Maturity o The rate required in the market on a bond 0 Expected return on bond given price IYR o Ifbond issued at par value YTMCoupon Rate 0 YTM must be annual I Changes in Ratings I Investment vs Speculative Grade 0 AAA highest corporatemunicipal bond rating 0 BBB amp up lnvestment grade 0 BBB amp down Speculative grade Iunk Bonds 0 InterestRate Risk I Meaning 0 The risk ofa change in the value of a bond resulting from a change in interest rates I Factors Affecting o Longerterm bonds have much greater risk ofloss resulting from changes in interest rates than shorterterm bonds Chapter 7 Stocks o Shareholder Rights 0 Stock Valuation 0 Price PV of future Dividends why 0 Constant Dividend I PricingPerpetuity o Constant Dividend Growth I Pricing I Finding g I Future prices I Making decisions 0 NonConstant Growth I Different Growth Rates I Nondividend paying stocks Chapter 12 Cost of Capital 0 Meaning 0 The minimum required return on a new investment 0 Cost of money cost of raising neXt dollar 0 Firm s aftertax cost ofnew money 0 The cost of capital depends primarily on the use of the funds not the source 0 Why important 0 Represents the firm s required return 0 Sources of Capital 0 Cost of Debt before and aftertax o The return that lenders require on the firm s debt 0 Cost of Equity best estimate 0 The return that equity investors require on their investment in the firm I The WACC is the overall return the firm must earn on existing assets to maintain the value of its stock I The weighted average of the cost of equity and the aftertax cost of debt Chapter 8 NPV and IRR o Calculating Each Diversificationto reduce risk without reducing return The key to diversification is correlation If Pgt0 its positive corr Plt0 negative corr As long as C0rrlt1 combining reduces risk The lower the correlation the more risk is reduced Portfolio Return wtdavg of the indiv returns Systematicmkt risk in uences large amt of assetsithis is the only one we care about it s the only risk that gets a return Port Risk is always less than the weighted avg diversi cation benefitIn a port stddev doesn t give you the risk only correlation Unsystematic affects small amtamp can be eliminated thru diversification 39Ihe ER on an asset depends only on systematic risk Measuring Mkt Risk B is directly impacted by leverage tells you how retums change when mkt retums chage Bgt1 stock is more volatile than the mkt more risky Blt1 Stock is less volatile less risky B1 means avg risk stock moves w mkt CAPM Capital Asset Pricing Model gives return for given B Portfolio B is a wtdavg ost in the port When CAPM becomes a line it is called the Securities Market Line SML and it shows you the req ret at every level of mkt risk 39ITME VALUE OF in diff time periods is not the same When you solve for I or N you must put the negative in Nonannual compounding Iyrannual intcomp periods per year and N yrscomp periods per year APRannual percentage ratF rate per comp period comp periods EAReffective annual rate accounts for the compounding during the year EAR allows the comparison of diff compounding frequency used in investments Annuityseries of equal payments at equal intervals for a specific of periods Ordinaryimost common pmts are at the end of ea period Annuity due pmt at beg of ea periodiworth more than ordinary FVannvalue end of pmt stream aka comp value In END mode calc gives you FVann time of last pmt and PVann 1 period before 1quotpmt BEG mode gives you FVannl period a er last pmt and PVann time of 1 pmt PVannaalue beg of pmt stream Amortized Loans a loan w pmts intervals for specific period of time Each pmt is part int and part princ ratio changes but total pmt remains the same Loan amountPV To find how much int you will pay the 1 month ut in 1 input1 shi FV For the 14myr 1312171412 As time goes on your int gets smaller and princ gets bigger If a stocks Exp ret is less than req return it is overpriced people will sell amp price will fall Stddev measures total risk while B measures systematic risk FIN 33 12 Summer20 14 Review List of Material for 3 dPart Chapter 67Bonds o What are bonds 0 Debt securitiesloan o The issuer is the borrower and the investor is the lender 0 Bond Characteristics 0 Spreads risk across many different lenders which reduces the risk for the individuals 0 Par Value face value stated amount of the loan ALWAYS 1000 for this class 0 Maturity Date end of the bond s life date that par value is paid 0 1ime to maturity is the remaining life of the bond 0 Coupon Rate stated interest rate on the loan NEVER IYR o Cou Eon PMT annual or semiannual interest payment determined by coupon rate 0 Pricing Bonds 0 AnnualSemiannual Coupons I Annual Coupon PMTcoupon ratepar value I Semiannual Coupon PMTCoupon ratepar value 2 o DiscountPremium I Bond that trades at a price less than par it is said to trade at a discount called a discount bond Bond that trades at a price greater than par the coupon rate is higher than the required return is said to trade at a premium The premium is how much extra you get 0 Prices over time I If rates go UP then price goes DOWN I If rates go DOWN then price goes UP I Prices always get closer and closer to par because at maturity it must equal par 0 Yield to Maturity o YTM N 1 YR is the expected return on the bond given current price if held to maturity 0 Interest Rates 0 Nominal vs Real 0 Nominal rate has in ation all rates that you actually see are nominal NominalReal rate in ation 0 Real Rate is in ation adjusted in ation is taken out 0 Risk Premiums 0 Default risk premium 0 Interest rate risk premiumaka maturity risk premium longer maturity means higher yield 0 Liquidity risksmaller bond issues extra return for things that are harder to sell Less liquidity means more risk I Required YieldR Rf in ation premium default risk premium IRR premium liquidity risk premium 0 Bond Risk 0 Default Risk I Bond Ratings 0 measure default risk lower rating greater riskhigher yield I Ratings and YTM o Ifthe bond gets riskier yield goes up and price goes down They NEVER move the same way negatively correlated Ratings range from AAAthe best to D default 0 AAA has a lower YTM and less risk than D I Changes in Ratings 0 Ratings can change for a variety of reasons I Investment vs Speculative Gra e 0 Any bonds BBB or higher are investment grade bonds Certain institutions who are large investors in bonds banks pension funds are not allowed to hold anything below investment grade LEGALLY because they are backed by the government 0 Any bonds BB or lower are speculative bonds aka junk bonds When you cross over from BBB to BB you lose a huge chunk of potential investors A high yield xed income fund invests primarily in junk bonds Even if it is a junk junk junk bond from a certain company it is still less risky than the company s stock because when the companies default they must pay debts first and a bond is a DEBT o InterestRate Risk I Meaning 0 is NOT the risk that rates will change because THEY WILL It is how much the price changes for a given change in rates the sensitivity of price to rate changes The greater the change in price the greater the IRR I Factors Affecting 0 Time to maturity longer maturitygreater IR 0 The closer it is to maturity the less room there is for the price to uctuate 0 Coupon rate lower coupon rate greater IR 0 Yield to maturity lower yieldgreater IRR bigger impact on prices Interest rates drive everything about a bond Chapter 77Stocks o Shareholder Rights 0 If you own common stock you have ownership of the lm You have voting rights and your claim on what is left of the dividends and that is about it Shareholders are last in line for div 0 Stock Valuation 0 Price PV of future Dividends why Because the dividends are the only CF from issuer to investors When you sell the stock you are really selling the future dividends o Constant Dividend I PricingiPerpetuity o In a perpetuity the dividend is the same amount every period forever A perpetuity is an in nite annuity o PVperpPMTi o If the dividend is constant you price it with P0D lR o Constant Dividend Growth I Pricing o P0 DlRg I Finding g o Div grows by g every year 0 RDlPOg where D lPOdividend yield and gcapital gains yield I Future prices o PtDt1Rg o EX P4D5Rg I Making decisions 0 If a dividend grows at a constant rate so does the price 0 If an acquisition raises price of the stock then you do it NonConstant Dividend Growth 0 AKA 2stage growth model 0 Eventually you have to assume that growth rate becomes constant gltR I Pricing 0 STEP 1 Forecast each dividend before constant growth starts 0 STEP 2 Find P at the year that constant rate begins 0 EX Stock just pd div of 1 that will double each year for 4 years then grow at a constant rate of 5 Req retl 1 Price F00 CF 12 CF24 CF38 CF416P4 0 THEN nd the NPV your price NonDividend Paying Stocks I Pricing 0 Chapter SiNPV and IR Calculating Each NPVPVin owsPVout ows IR is the rate that makes PVinflowsPVout ows Meaning of Each NPV is the value added to the rm by doing the project in todays AcceptReject Decisions with Each You would accept the project if NPVgt0 this means the CFs cover the cost You would accept the project if IRRgtRequired Return Common Stockshare outparvaICap in excessshare outiss priceparval REN DivAddition to RENidivhigher dep higher CF CFassOpCFCapSpANWC CFassCFcredCFstockOpCFEBITDepTaxCapSpEndNetFABegNetFADepANWCECACL BCACL CFcrednt NNewDethFstockDiv NNequ C 39 39 39 39 RafCACL TLcant pay debts THtoo many low return assetsQuickCAinvCLTLampTH same as CRDthAssTdbtTassDbt2EqTdbtTquuntTassTeq 1tdbtteqThe higher the more debt the more riskfor last3TimesntEarnedEBITintTLcant pay intexp TH can handle more dthashCoverEBITdepinthow well CF covers intexpon its debtlanurnCOGSianLnot selling enough or too much inv THrisk ofstockoutDaysSalesRec36SrecturnTHtakes too long to get paid ReceivturnsaesassrecTAssTurnsaestassTLtoo many ass THget more assOpMargEBITsaes Never too high NProfMargNsaes price v cost ROANtassNsaessaestass not directly affby dbtROENTeqROEROA eqmultprof per ofstockhinvdirectly affby lev BOTH help youfind out where your probs lie PEStPriceEPSmkt view of stability if high firm expected to grow a lot r 39 39 Ah 39 r 39 I 5 gr u H C 39 quot 39 39 39 39 used in lPOs amp firms wo income Risk averse investors will minimize risk for given returnamp maximize return for given riskROEamt of prof per 5 of shareholdinvf security is in equil price won39t changeprices change constantly bc new infoif reqretgtexpret its overpricedif CFstock is neg we sold equityif ROA in 2 firms are but ROE is higher in B B has more levf a firm buys lots of FA CFass will declineif ERgtRR prices will go upf capsp is neg the firm sold FA2 types of dbt risk bankramplevNo stock considered superior by every investmktva represents actual valsExp future CF quot ER quot When CPrice quot ER vReq Ret Riskfreerateriskpremiumin efficient mkt all prices are at equilif ERgtReqRet its underpriced people would buy and price would rise making ER fallampvice versaprices change constantly in efficient mktER sum of all prob of returnreturnStdevRisk aversion isthe reason that you only take risk if you can get more returnOne sec is betterthan another if it has quot return for same or less risk OR has less risk for same or quot retTota returnDiv yiedendpricebegpricebegprice green part is capital gains yieldDiv VieldDivinitial priceExcess return req by a risky investmentrisk premiumDays Sales Outsaccrecsales365
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