Chapter 1, Fundamentals by Ross et. al.
3040.02 notes by A.P. Palasvirta, Ph.D.
 Corporate
Finance
 Investments
 International finance
 Derivatives
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
2
 Time
value of money
 Capital Budgeting
 Risk and Return
 Capital Stucture
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
3
 Markets
 Valuation
 Portfolio
Selection
 Equity Valuation Model
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
4
 Exchange
Rate
 Exchange Markets
 Parity Conditions & Exposure
 Foreign (Direct & Portfolio) Investment
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
5
 Options
 Option
Strategies
 Futures
 Swaps
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
6
 What


are the responsibilities of the CEO
Strategic management (create a business plan)
Tactical management (implement strategy)



Capital budgeting
 What projects to take on
 How much to spend on research and development
Financing
 Debt, equity
 Short-term, long-term
Working capital management
 Current asset management
 Current liability management
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
7
 Information

Pro forma income statement tracks expected
cash flows for the length of the investment


requirements
Pro forma means guesses about what these will be
 Positive cash flows (revenues)
 Negative cash flows (costs)
Weighted average cost of capital


What return the firm will have to pay investors on
average whether equity or bond holders
Needed to discount future cash flows back to the
present
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
8
 Where

the firms obtains its financing
Some financing options






Retain earnings
Issue new equity
Issue debt
 Bills (discount, zero-coupon)
 Bonds (debentures, coupon bonds)
 Mortgage bonds
Bank financing
Sale of assets
Lease
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
9
 Equity

Risk of default



versus debt financing
Equity holders lose control of the firm
GM, Ford, Citibank
Lower cost of financing


Interest cost lower
Tax deductibility of interest payments
 Measures



debt ratio
debt to equity ratio
Times interest earned (TIE ratio)
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
10
 Current




Cash
Marketable securities
Receivables
Inventories (input & output)
 Current


asset management
liability management
Payables
Accrual accounts




Wages, salaries
Interest payments
Taxes
Benefits (pensions, health insurance)
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
11
 sole


proprietorship
complete control
unlimited liability
 general


all partners share in gains and losses
unlimited liability
 limited

partnership
partnership
liability limited to amount contributed to
partnership
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
12
 articles

on incorporation
set out basics of the firm, name, etc.
 bylaws

rules determining how the organization is to be
run
 ownership


based on shares owned
limited liability to the value of the shares
shares easily traded on exchanges
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
13
 long-term

Maximize PV of net cash flows of the firm



increase revenues and other income
 capital budgeting decisions adding new projects
decrease costs
 substituting less expensive for more expensive
factors
reduce the weighted average cost of capital
 ethical

- increase the value of the firm
questions
green solutions?
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
14
 conflict


management hired by stockholders to maximize
value
management would prefer to maximize benefits
 direct


between principal and agent
agency costs
diversion of resources to managememt
cost of monitoring (auditing function)
 managerial
compensation
 corporate control
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
15
 Managerial

Optimal compensation



Salary
Stock options
Bonuses
 Who



compensation
controls the firm
Stockholders?
Board of directors?
CEO?
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
16
 stockholders
 management
 labor
 customers
 suppliers
 tax
authorities (local, provincial, national)
 Neighbors
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
17
 Short-term

Commercial bills



Finance general liquidity needs
Issued through investment banks, traded in secondary
markets
Lines of credit



instruments
Finance general liquidity needs
Issued through commercial banks, traded in secondary
markets
Bankers acceptances


Trade credit
Issued through commercial banks, traded in secondary
markets
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
18
 Coupon


bonds
Finance general long-term financing needs
Issued through investment banks, traded in
secondary markets
 Mortgage


Finance specific capital intensive projects
Issued through investment banks, traded in
secondary markets
 Preferred


bonds
& common stock
Finance both general and specific needs
Issued through investment banks, traded in
secondary markets
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
19
 chartered



banks
lines of credit
loans
export financing
 investment




banks
commercial bills
bonds
preferred stock
common stock)
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
20
 insurance



mortgages
receivables
bankers acceptances
 auction

companies discount
markets (central location)
TSE, CDNX, NYSE, etc.
 over-the-counter


(OTC) markets
foreign exchange markets
NASDAQ (dealers hold position in assets)
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
21
 compartmentalize


options truncate the return distribution
forwards & forwards



risk
eliminate the price volatility
generally at a cost (bid-ask) spread
swaps
3040.02 notes by A.P. Palasvirta, Ph.D.
July 17, 2016
22