midterm 1 notes

Corporate Finance
  • the law of one price - impact on local and global commerce
  • theory versus reality -  consequences of wrong prices
  • valuation practices ( highest and best use standard)
  • DCF ( expected cash flows, discount rates)
  • market comparisons( closeness of comparable, strength of attributes, etc.)
  • asset or cost ( not visually applicable for most "going concern" entities
  • goal of finance : valuation
  • Valuation is forward looking ( perspective)
  • Today's price is dependent on future cash flows into infinity
  • historical performance guides our ability to predict future expectations
  • finance studies the measurement of values
  • limitation of finance
    • useful only when elements are quantifiable in monetary terms
    • inability to measure significant qualitative values ( e.g. internal, employee loyalty, etc.)
Time Value of Money
perfect market assumption
  • no difference in opinion
  • same relevant information is all know to market participants
  • certainty of facts or same opinion shared by all regarding uncertainties
  • no taxes
  • no taxes and no government/ regulatory interface
  • no transaction costs
  • zero costs in any market transaction
  • no big sellers/buyers
  • no transaction is big enough to influence price
rate of return: cash flow and rate of return from 0 to period 1 - cash flow /cash flow
capital gains - cash flow 1- cash flow 0
compound rate of return: future value of period  n = present value of period n*
present value = future value/ ( 1+ required rate of return per period)^number of periods
net present value = present value + future value / (1+ required rate of return)^n-1/ required rate of return per period
present value of unity
annuity payment *{1-1/(1+required rate of return per period)^number of periods}/ required rate of return per period
Treasury Securities
Treasury bills ( T-bills) - maturity within 1 year
spot prices are quoted at a discount to the maturity face value
treasury notes - between 1-10 years maturity
treasury bonds - longer than 10 years maturity
spot prices are at a yield to maturity
intra- period rate of return )1+ annual rate of return = 1+ intra period rate of return; such that n=number of periods n a year
According, annual rate of return = (1+ intraperiod rate of return)^ number of periods in a year-1
Corporate Finance
Chapter 14 financial statements and economic cash flow
balance sheet effect on cash flow
inventories
accounts receivable
deferred tax assets
accounts payable
deferred tax liabilities
accrued expenses
Corporate Claims

firm value = liabilities + equity
claims on firm ( liabilities + equity) : capital structure
financial claims
debt liabilities
equity
non financial claims
other liabilities
liabilities have higher priority over equity
debt is cheaper than equity
corporate claims
cash flow rights of claim owners
  • describes how firm-generated cash will be allocated to claims
liabilities have higher claim priority over equity
control rights of creditors
  • force the firm into bankruptcy if firm doesn't pay obligations
covenants ( positive or negative)
control rights of stockholders
vote new board of directors to replace old board
board of directors appoints management team
corporate claims
financial claims - debt
  • straight - pays interest regularly and principal at maturity
  • convertible - right to exchange bonds for a number of shares
  • covenant - conditions of performance or restrictions of actions seniority - priority ranking in cash/ asset distribution at liquidation
  • collateral - pledge to specific loan in case of default
  • putable - right of bonds older to sell bond back to issuer at a pre-determined price
  • callable
  • right of issuer to retire bonds before maturity at pre-determined price
  • sinking fund - requires issuer to repurchase pre-determined portions of bond prior to maturity
Maturity
  • short term: commercial paper
  • long term : 30 year loan
  • sensitivity measure of bond price change due to change in market yield
  • derivative = dp/dy
  • duration
  • convexity: s2p/ dy^2
  • coupon - contract interest rate in bond agreement; typical pays interest twice a year
  • zero-coupon
  • equity
  • warrants and options
  • options- have the right to exercise the right to buy for the future


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