Questions, Comments
MBA 673: Fall 2013
Prof. PV Viswanath
Questions from Nov. 5
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How about for non-oligopolistic industries?
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I presume you’re asking if we need to worry about competitive strategy in nonoligopolistic industries. The answer is that it is much less important in such
industries. By this I mean that you don’t have to worry about how other firms are
going to react to what you do; of course, you still have to take correct decisions.
Considering that towards the end of class, you said that advertising is shortterm, would a more levered firm increase advertising or aim for lower levels
of advertising?
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I can’t tell you for sure that _all_ advertising has only short-run effects. What I
said was that that article, “The Journal of Industrial Economics, Vol. 42, No. 3
(Sep., 1994), pp. 263-276” by Elisabeth M. Landes and Andrew M. Rosenfield said
that empirically advertising effects seemed to be short-lived. The Grullon et al.
article suggested that the reason for their finding that levered firms had less
advertising was that advertising was long-lived and levered firms would not be able
to benefit from long-lived assets. If Landes and Rosenfield are right, then the
Grullon et al. reasoning is wrong. But, either way, Grullon et al. did find that
levered firms had less advertising.
Questions from Nov. 5
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What is the effect of advertising on debt?
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How does the debt level affect a firm’s hiring?
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In class, we spoke mainly about the effect of debt on advertising. As far as the
reverse effect is concerned, firms that have more advertising assets, tend to
finance them with equity rather than debt because advertising assets lose a lot of
their value in bankruptcy.
I would think that firms that are over-leveraged would have more difficulty hiring
good people because employees would not want to end up in firms that go belly-up
and lose their human capital.
How to make a Nash equilibrium model to make more aggressive decisions in
financial aspect?
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Please ask again more clearly, next time, or email me directly.
Questions from Nov. 5
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The optimal capital structure is that with the lowest WACC, but you told us
that higher debt could increase the value of a firm. So what’s the best
proportion of debt to total assets?
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The statement that the best capital structure is the one with the lowest WACC is
still true. If there are advantages to debt (or equity) that will be reflected in the
expected cost of debt (or equity). When we compute weighted-average-cost-ofcapital, we need to use – not the promised return on debt, or the dividend rate –
but the expected cost of debt and the expected cost of equity (where expected is
the same as average).
On slide 10, it says: “the greater a firm’s leverage, the greater its incentive
to produce at a higher level of output.” This goes contrary to our earlier
conclusion that firms with higher leverage would reduce product quality to
get more short-term profit.
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First of all, you can have several things occurring simultaneously. Here we are not
talking about the net effect, just the separate effect of different factors. In the
case of your issue, though, reducing product quality says nothing about product
quantity any way..
Questions from Nov. 5
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What’s the difference between game theory and Nash equilibrium?
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Game theory is a branch of science, where you examine what happens when there
are several agents and the agents react to each other’s actions. In order to come
to any conclusions regarding the likely outcome of such strategic behavior, you
have to make assumptions. In this case, we assume that each player knows the
equilibrium strategies of the other players; a Nash equilibrium refers to the
outcome of a game where no player has an incentive to unilaterally deviate from
his or her chosen strategy.
How can firms maintain a competitive advantage in the long run? And keep
barriers to entry in the long run?
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Not easy! A firm has to be constantly better and constantly trying to improve,
assuming that it cannot collude or act illegally. This is why capitalism is often said
to lead to the best outcomes. But, of course, capitalism doesn’t mean no
collusion, or illegality or inequality…
Questions from Oct. 22
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Why is a leveraged firm less likely to liquidate?
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Equity holders of a levered firm are like holders of a call option; just as holders of
a call option can buy the underlying stock for the fixed exercise price, independent
of the value of the stock, similarly, equityholders can get rights to the cashflows of
the entire firm simply by paying off the face value of the debt. Hence equity is
like a call option written on the assets of the firm with the face value of debt as
the strike price. |
And just as the value of a call option is increasing in the uncertainty of the
underlying stock price, similarly, the value of the levered equity is increasing in
the volatility of the rate of return on the assets of the firm. When volatility
increases, the downside potential increases, but since equity holders can simply
walk away from the firm due to limited liability; hence it’s only the upside
potential that matters.
I still don’t understand why leveraged firms are less risky to liquidate.
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Leveraged firms are less likely to liquidate, all other things being the same; not
less risky.
Questions from Oct. 22
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A firm with less debt may be willing to maintain high employment, but it still
may not be able to hire more people. Maybe the HR strategy has more to do
with company style; for example, if its’ a government company , it wont’ lay
off employees, right?
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We still haven’t seen the effect of leverage on advertising.
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Of course, HR strategy depends on many things, including company style and
culture; here we are focusing on leverage and HR policy.
Go to
http://webpage.pace.edu/pviswanath/class/mba673/notes/capstruc_competitiven
ess.html#adv for a note on leverage and advertising.
If we can have more real world examples to prove the knowledge we learn, it
will be more interesting.
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I will try; however, I do give you citations of papers that have looked at data from
firms to validate their hypotheses.
Questions from Oct. 15
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We know that the covenants are there to prevent debtholders’ rights. Are there
any cases where covenants don’t work for debtbholders?
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How do firms determine what is the right amount of debt to keep in order to
finance future projects?
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Debtholders can put in whatever covenants they want, as long as the firm agrees to
those covenants. Of course, if there are a lot of covenants, the firm might demand a
lower interest rate. However, if the debtholders ask for a certain covenant, presumably
that’s good from them. Debtholders could make a mistake, of course. They might think
ex ante that a covenant preventing the issue of debt with equal seniority is good and
then realize that it keeps the firm from making new investments.
Firms need to make forecasts of future capex needs and the state of the market at that
future time. This needs to be considered in the context of lost investment opportunities
today, since the money is being kept idle or, at the most, invested in short-term assets.
In the myopia problem or the debt-overhang problem, when the firm issues new
junior debt, the lender asks for higher interest rates. Is this true in the real
world?
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Yes, junior debt is paid after other senior claimants are paid. Hence there are more
states of the world where junior debt will be paid in full or in part. As a result, junior
debtdholders ask for a higher interest rate so that in good states they will get enough to
compensate them for losses in bad states.
Questions from Oct. 15
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How could a firm solve the credit rationing problem? We saw how it might
resolve the debt overhang problem, but what about the credit rationing
problem?
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If there is some way that the firm could credibly commit to choosing the less risky
projects, then the credit rationing problem could be avoided. However, this could
be expensive in terms of auditor monitoring or providing informational access
potentially to competitors.
When interest rates rise, are firms more willing to take risky investments?
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Firms may not want to dispossess bondholders in order to destroy their reputation
in the bond market. For example, Argentina is having much more difficulty
attracting bondholders after its bond default. But, yes, the attractiveness of
bondholder dispossession goes up when interest rates go up. Intuitively, if you
have to pay somebody a high price for the use of his money, you would want to
make sure you have a good chance at really high asset returns to make up for the
high cost of the money. And, since you won’t get anything in bad states, you want
to make up for it in good states. But generally, if you want very good asset returns
in good states, you will also have to take very low returns in bad states, i.e. very
volatile returns.
Questions from Oct. 15
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It seems like a lot of this simply depends on having the right profit margins from
potential projects and interest rates. Some of the interest rates used don’t’ seem
realistic, where bondholders aren’t even getting a full expected rate of return using
risk-free interest rates.
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As I explained several weeks ago, the conclusions don’t depend on the specific numbers. The
numerical examples are simply to give you a better feel for what’s happening and to show that
the claimed outcomes could occur. What’s important is the intuition and if that makes sense.
And, if it does, then the examples could be replicated with different interest rates etc.
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In our examples, risk attitudes are completely irrelevant, that’s why we use risk-free rates. If
you had a valid objection to the intuition behind a particular example, where your objection
was of the form “but if the bondholders were risk-averse, then this situation would not occur,”
then there would be a problem. But, as it is, if you wanted to make the examples more
realistic, they would become more complex, but not necessarily more convincing. What we are
trying with our examples is simply to show the possibility of certain situations and outcomes –
e.g. if the firm is levered, it’s going to take more risky projects; if the firm is levered, it’s
going to reject some otherwise desirable projects etc.
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There is empirical evidence for most of these phenomena, as well. For example, when savings
and loans were deregulated in the 1980s, they took on a lot of risky projects – banks/savings
and loans, of course, are by definition highly levered.
Questions from Oct. 15
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How can we use what we learned in class today (credit rationing, debt
overhang) to analyze the real world problems?
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For one thing, we can understand why firms would keep idle cash on hand.
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For another, we can understand why bondholders in certain situations might insert
covenants in bond indentures, and not in others.
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We can also understand why firms might use more expensive bank credit instead of
issuing public debt – it’s a lot easier to renegotiate terms with a bank: there is only
one party to deal with, and one doesn’t have to make a lot of information private.
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If you’re evaluating a bond issue, as an investor, you know what to be on the lookout
for, to see if the promised interest rate makes sense and compensates you for
possible negative outcomes.
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And we’ll see other implications in the next set of slides.
Is the percentage of the two projects (risky and not so risky) always 80% and
not 20%?
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Not sure what the question is; can you repeat your question with more information?
Seems like a question about the facts on a slide – just ask it directly in class!
Questions from Oct. 8
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Just for stating my point. Maybe existing debtholders only focus on cashflow, not
investment. So they want debt issuers to issue new debt to pay them back.
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How to make decisions on long-term and short-term investments.
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There is only one rule – NPV. If capital markets are relatively efficient, there is no need
to consider separate decision rules for long-term and short-term investments.
Are covenants always respected? What if they are not? What if new debt is raised
anyway?
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Apparently, this is a further comment to my answer to a question from last class. I am
not sure what this comment means. But I think it’s not productive to conduct a
conversation in this manner. One question, yes; but if you have comments on my answer
to your question, it’s probably better to do this face-to-face (but it doesn’t have to be in
class – make an appointment to see me in my office).
Covenants are part of the contract; so if a covenant is not respected, that’s a contract
violation and the bondholder can take the firm to court.
How does the negative pledge clause work?
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A negative pledge clause is a provision in a bond contract that prevents the borrower
from raising any new debt that might reduce the security of the current lender. For
example, issuing debt that is senior to the current debt.
Questions from October 8
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Equityholders don’t make decisions; managers do. Would they still invest in
risky projects, when there is a chance of losing their job?
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You’re absolutely right. This is what is known as the agency problem between
managers and shareholders. In order to ensure that managers act in the
shareholders’ best interests, they are often given stock options. As we saw on Oct.
8, the value of options are increasing in the volatility of the underlying asset. So
this makes the manager want to take greater risk. However, it must be
acknowledged that this could lead to criminal activities on the part of the
manager, as well, as might have happened in the Enron case.
Is there any case where the manager’s interests are aligned with the
bondholders’ interests?
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Yes, we have already seen that increasing risk is beneficial to the equityholders;
decreasing risk, to the bondholders. And since managers have a lot invested in the
firm (in terms of their human capital), they tend to not take as much risk as the
shareholders would like them to..
Questions from Oct. 8
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When thinking of debt, should equityholders take the interest rate into
consideration?
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More about options and futures would be interesting.
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Yes, of course. In our examples, I have assumed that the interest rate is
determined by competition in the marketplace. There is more to say about this,
but these issues are discussed in more detail in FIN 652. Unfortunately, we don’t
have time to discuss this in our class.
No doubt! But that’s another course!
Is myopia always bad for business?
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Picking a short-term project when a long-term project has greater value is, of
course, bad. However, if the short-term project has greater value, then it should
be chosen. Normally, the word myopia would not be used in such a context. So
myopia doesn’t just mean picking a short-term project; it means picking a shortterm project when it is suboptimal.
Questions from Oct. 8
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On slide twelve, how did you compute the value of the new debt? Why do you use
the computation (1700/2700)(2500) and (1700/2700)(800)?
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Are you saying that bondholders have the advantage in the short-term and equity
holders have the advantage in the long-term , but equity holders are greedy and
mess things up by desiring profits in the short term as well?
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This is a case, where it would have been much better for you to ask the question in
class! I hope I am not so threatening that you feel you can’t ask me such questions! The
answer to this question is that since the new debt has equal seniority with the existing
debt, they will both be paid pro-rata.
No! I assume that all economic actors are interested in maximizing their own well-being
– both equity holders and bondholders. However equity holders have decision-making
power in the firm, while bondholders can only choose whether or not to buy bonds, and
once they have bought the bonds, they don’t have much input into the firm’s decisions.
In general, since we assume relatively efficient capital markets, there is no conflict
between long-term objectives and short-term objectives for individuals (be they
bondholders, managers or shareholders).
I did not understand the debt and equity portion of class.
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Oops! What didn’t you understand? Please be more specific.
Comments from October 8
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I can’t read your handwriting.
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The class went by sooner than usual, for some reason.
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That is amazing! I thought some of you might have been bored!
Can you go slower with examples?
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I think the problem might be that I use cursive, because today I tried hard to write clearly.
Please ask me to read out from the blackboard, if you can’t read anything.
I tried to go as slow as necessary. If you need more clarification, you should ask me in class
to explain again. It would be pointless for me to explain things over and over again without
knowing if it was helping anybody! But if I am requested to do so, I have no objection to
going slower, explaining something over again etc.
I liked the Commons example you gave in class, it really helped us to see the
relationship of the class material to real life examples.
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There is actually a lot of history behind this; for more information, go to
http://en.wikipedia.org/wiki/Enclosure
Questions from Oct. 1
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I am still vague about what we use alternate decomposition for
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I am looking to find out what happens in case of bankruptcy/liquidation.
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Alternate decomposition is used for exactly the same sorts of things as standard Dupont
decomposition. The only difference is that it is more precise, since we are not mixing up
financial assets/liabilities with operating assets/liabilities and financing
income/expenses with operating income/expenses.
Essentially, the firm is sold intact or its assets are sold to pay off bondholders.
Alternatively, the firm’s debt is exchanged for stock and the previous stock (generally)
declared worthless. But who gets how much – that’s usually the difficult stuff. (Take a
look at http://en.wikipedia.org/wiki/Chapter_11,_Title_11,_United_States_Code.)
There is an optimal capital structure for a firm. Is there one for an industry?
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Well, industries don’t make decisions, firms (or firm managers) do. But the optimal
capital structure of a firm depends often on the nature of its assets and firms in a given
industry are often similar in terms of the nature of their assets. So in this sense, yes,
there is an optimal capital structure for an industry. Which is why you see variations
across industries in terms of average debt ratio.
Questions from Oct. 1
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How do you calculate borrowing interest taking bankruptcy into
consideration?
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Should we always choose the project with the higher equity value? Should we
not be considering cashflows, time values etc?
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I don’t know what this question means. Care to explain?
Yes, indeed. If capital markets are perfect and it’s possible to move cashflows
easily over time and place, then market value summarizes the present value of all
cashflows. This is the implicit assumption that we are making most of the time in
class. To the extent this is not true, capital structure would probably be even
more important and have much more of an impact on other decisions.
How do firms assess the value of overlooking equity holders’ myopia and
mitigate risk without the benefit of equity dealings?
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Not sure what the question is. Please explain. Do you mean how do firms decide
whether or not to obtain outside equity considering the fact that this might lead
firms to be myopic? If so, then the answer is that they should look at market value
if the firm used internally generated capital versus externally generated capital.
They should go with whichever generates higher market value.
Questions from Oct. 1
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In the short-sighted problem, debt holders want to be paid off as soon as
possible, but equity holders would also like to choose short-term projects. So is
there really a conflict?
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Think of the prisoner’s dilemma. (See
http://webpage.pace.edu/pviswanath/research/papers/environment.pdf, e.g p. 3).
The conflict here is not between the two parties; rather it’s between what they would
have wanted in the best of all possible worlds versus where they’re stuck now.
Here’s another example. Let’s say you’re trying to diet. You have to decide whether
to invite your friend over to watch TV with you. You really like the guy, but you know
that he’s going to bring candy over – he does that every time. And if the candy’s there
in front of you, you are going to eat it! One might say – what’s the problem? If the
guy eats it, clearly s/he wanted it, so there’s no conflict. The guy wanted candy and
the other guy who brought it over is happy because his gift was appreciated. So
everybody is happy! But is everybody happy? No! Everybody would have been happy
if the guest had _not_ brought the candy over. It’s the same here. There is no
conflict, but the ending is not what everybody desired. If the equity holders had
chosen the long-term project, firm value would have been higher and there would
have been more to share between bondholders and shareholders. You may ask – if so,
then why don’t shareholders choose the long-term project? That’s what I asked you to
think about and what we will discuss today.
Questions from Oct. 1
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How would the view of each side change when presented with more than two
options for investing and more than two possible states?
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You talked about two different ways of doing Dupont analysis – the standard one
and the alternative one. In a real company case, which technique is better?
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We use an example with two options and two possible states for convenience. We could
make the situation more complex, but we would have similar results. Of course, in
some cases making the situation more complex could change the result, but in this
case, our results match our intuition. Do you have any intuition that the
outcome/inference would be different with more than two options? Or more than two
states?
We answered this question, last week. Take a look and if you still don’t understand,
send me an email.
If google said they did not want to do an IPO considering their long-term goals,
why did they then go public at that time?
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They might have needed funding or more likely, they wanted to allow current
shareholders (who were employees and managers) a way of selling some of their stock
and keeping a more diversified portfolio.
Questions from Oct. 1
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Why can’t we buy low and sell high when we have an efficient markets?
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Market efficiency means that the price at any point in time is correct given the
information available at that time. Buying low and selling high means buying when the
price is lower than it should be and then selling later when the price corrects and
reflects the information, at which time it will be higher. But if the security is never
overvalued or undervalued, this is not possible.
When we think of investments, we talk of portfolios. When we borrow money, do
we also have to consider a portfolio? Is it better to borrow from different lenders
or from a single lender?
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Borrow money can be considered as a negative investment in an asset/security. And, as
such, it can be included in a portfolio analysis. Hence, just as it might be useful to
consider the correlation between returns on different assets from a portfolio analysis
standpoint, similarly, it might be useful to look at the return (i.e. rate of interest) on
borrowings (negative assets) with other holdings. If the rate of interest is a floating
rate, this could increase or decrease the volatility of the total portfolio.
Comments from October 1
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Your handwriting is not easy to read.
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I will try to be clearer. Keep in mind that I usually say aloud what I am writing –
that should be helpful as well, in deciphering my writing.
The class today was great.
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Now that sort of comment is easy on the ears!
Questions from Sept. 24
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How Dupont Decomposition can be used to analyze companies
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How to choose between traditional decomposition and the alternate
decomposition when doing Dupont Analysis
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As we discussed in class. I will put up a couple of the group projects that have done a
good job on Blackboard (if they agree).
Always use the alternate decomposition, if you have the data available.
Since higher financial leverage gives higher ROE, does this mean that the more
debt, the better?
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No, because assets with certain kinds of cashflows are best suited to be financed by
debt. For example, assets with relatively stable cashflows, assets that are liquid, assets
that are tangible, assets whose uses are relatively clear and stable/fixed. Investors
know that one, borrowers are unlikely to suddenly use the assets for risky purposes; two,
if borrowers don’t pay up, they can seize the assets, sell them and pay themselves off.
If companies choose to use debt financing for, say, non-marketable assets like human
capital, interest rates will be profitably high. Recall what we saw in the alternate
decomposition, ROE = Operating ROA + Spread x Net Fin Leverage. If Spread is low or
negative, it’s not going to enhance ROE!
Questions from Sept. 24
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How to use ROE for financial decisions
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Moving from high ROA to even higher ROE is a question of optimal capital
structure. We will talk about that in class, soon.
What is all this useful for? I don’t see the real world application
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We have seen how the firm’s strategy can be inferred from the Dupont
decomposition. Similarly, you can do it in reverse. That is, you can look at your
current Asset Turnover Ratio and Profit margin and compare them to where you
were in prior years; you can also compare your performance to competitors. You
can see where you stand with respect to them. If you’re in the wrong quadrant,
you will see it clearly; you can then take action.
Now exactly what action to take, we haven’t spent much time on. Should a firm
go the differentiation route or the cost minimization route? One approach to this
is given by the Resource-based view of the firm (see
http://en.wikipedia.org/wiki/Resource-based_view and
http://www.istheory.yorku.ca/rbv.htm). Dupont Analysis primarily allows you to
diagnose the problem and can, to some extent, help with the solution.
Questions from Sept. 24
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Benchmarking
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Could you provide a numerical example of Dupont Analysis?
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Yes, we will go over one today. (It’s online at
http://webpage.pace.edu/pviswanath/class/mba673/notes/dupont_analysis.html)
I would have liked comments on the presentation today to help me with the writeup.
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Didn’t follow what the question is..
I tried to provide comments. I will try harder.
In the Dupont Identity, “Sales” gets canceled out! So what’s the significance of
increasing sales in Dupont analysis?
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Ultimately, it doesn’t matter. It’s just Profit and how much you invest in assets to generate
those profits (leaving capital structure aside for now). However the Dupont identity
suggests how to generate those profits. The two elements of the Dupont decomposition –
to a certain degree – break down into operational strategies (when we focus on asset
turnover) versus marketing strategies (when we focus on profit margin). Looked at in that
manner, the Dupont analysis suggests a certain decentralization which a firm can
implement to achieve its objective of high ROA.
Suggestions from Sept. 24
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Can you present the slides at the beginning of class when we are most alert?
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I need to go over the material pertaining to the previous class first; then I can
move to the new material. Let me see what I can do to keep you most alert.
You are assigning a lot of group work in a short time!
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I think, particularly in this course, group work is rewarding. I will try to continue
to keep some time free during class for group work.
Questions from Sept. 17
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How to define your brand with a volume focus
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This is an interesting question. In a certain sense, it’s a self-contradictory
proposition, since according to the standard Dupont analysis, you either cultivate a
brand focus or a low-cost, volume focus.
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However, I have put an article called “Profit Leveraging” on Blackboard. Read this
article; we will discuss this in class on September 24 and it will figure on the
midterm, as well.
When a company decides to manipulate and play around with its financial
data to tell a more successful story, how can investors detect this?
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This is a difficult question. There is an entire field called “forensic accounting”
that deals with this. (See http://en.wikipedia.org/wiki/Forensic_accountant) The
accounting department has an undergraduate course ACC 366 - Forensic Accounting
that deals with such questions. Essentially what needs to be done is to locate
inconsistencies in the company’s accounting story.
Questions from Sept. 17
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Implications of marketing strategies that are reflected in financial statements
– how do we pick them up?
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Dupont Analysis can be used for this. Thus, a firm that has a higher asset-turnover
than the industry average and a lower profit margin is adopting a low-cost high
volume strategy. You may also want to look at
http://webpage.pace.edu/pviswanath/class/mba673/notes/dupont_analysis.html,
as well as the slides of Dupont Analysis Application at
http://webpage.pace.edu/pviswanath/class/mba673/notes/dupont_analysis_appli
cation.pptx.
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However, we are also trying to use Dupont Analysis as a guide to better marketing
decisions.
Different market strategy reflect different in the real market. ???
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Not sure what this means..
Questions from Sept. 17
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This does not seem like a financial decision to me.
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You’re absolutely right. The course has two kinds of topics. This first topic that deals with
applying financial theory/models to operating decisions. In this case, we’re using Dupont
analysis which financial analysts/accountants employ to throw light on marketing decisions.
Another example that I have on the syllabus, but which I don’t think I will have time to do is
the use of option theory (also developed by financial economists to price option securities) to
throw light on operating decisions (called real option theory).
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The second part of the course deals with the implications of financial decisions (in our case
financial leverage and hedging) on operating decisions.
Give us more examples of how financial decisions affect a firm’s operating activities.
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We will looking at this for the rest of the term; you can go ahead and look at the slides on
Capital Structure and on Hedging at
http://webpage.pace.edu/pviswanath/class/mba673/classnotes.html
What is the most accurate way to conduct an accurate Dupont Analysis?
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Dupont Analysis simply makes use of an identity that is developed to provide a model. It can
be used for various things – to throw light on a firm’s current marketing strategy, to forecast a
future marketing strategy, to plan a firm’s marketing strategy. Depending on what it’s to be
used for, you would use historical data or forecasted data; you’d compare it with other firms,
or look at the decomposition over time.
Questions from Sept. 17
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How can such models be sustained in the long run?
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Market research – how does this play out in the market?
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Don’t understand this question. If you mean, how can a firm maintain a high
profit-margin branding strategy, then the answer is that it’s not easy; the firm has
to keep an eye on competitors, be forever vigilant and forever innovative.
Not sure what this means.. However, one way to bring in market research is to
throw light on price elasticities and demand conditions to see how best to exploit
Dupont Model regularities.
How does the company maintain a balance between profit margin and asset
turnover?
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The balance is different for different firms. It depends on the firm’s resources in
terms of human capital and organizational resources, corporate culture etc.
Questions from Sept. 17

The exact nature of a company’s asset allocation strategy
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I don’t understand the question. Asset allocation in the context of a non-financial
firm could refer to how the firm’s financial resources are deployed to purchase
different productive assets – though the term is rarely used in this sense.
How do we use financial leverage in the Dupont formula?
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Financial leverage simply allows us to convert the ROA formula into an ROE
formula. Branding creates intangible assets, which cannot usually be financed by
equity, hence a branding approach would, ceteris paribus lead to a lower ROE
because of lower financial leverage. Furthermore, branding probably is a riskier
strategy. On the other hand, a volume strategy probably attracts lots of
competition because it’s easier to copy and replicate.
Questions from Sept. 17
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Based on the principle of financial decisions, how to establish a new firm and bring
it into the industry successfully?
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How does the financial industry work?
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This seems like an extremely broad question and I am not sure it has anything to do with
the “principle of financial decisions.” I am not aware exactly what you mean by this
principle. But perhaps I have misunderstood you.
Whoops! Wrong class! Unless you’re talking about the application of the Dupont formula
to financial firms. In that case, the Dupont analysis would apply similarly; we can talk
about branding and creating value in the provision of financial services, just as we can
create value in the selling of shoes (for example).
What is expected next class?
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This is the sort of question that’s better asked directly in class. I didn’t catch it until I
started looking at your questionnaire on Monday! Hopefully you have talked to the other
people in your class and you have figured out the answer!
Suggestions from Sept. 17
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Can you have the break in the middle of class?
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Please give specific examples when explaining things.
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I will try to do that.
Again, I try to do that. Two exceptions – one, when I present concepts first and
then develop examples; and two, when I forget to do that. The solution in both
cases is to ask me in class to provide concrete examples. If I don’t give examples,
it’s not because I don’t want to. 
Can you speak more loudly?
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I will try. Usually I speak loudly, but there could be exceptions.