Beruflich Dokumente
Kultur Dokumente
More than just book-keeping; corporate finance involves the creation of value
- Find ways to minimize costs
- Optimal allocation of resources
- Evaluating the tradeoff between risk and return
Finance professionals interact with a variety of divisions/organizations
within/outside the firm
Maximize profits?
- Earnings per share (the amount earned on behalf of each outstanding
share of common stock) are backward-looking, dependent on accounting
principles
Do not fully consider cash flow timing a manager needs to know how to
measure profits
- Focusing solely on earnings ignores risk managers not only need to
focus on expected profits, but also the risk of the investments
Maximize shareholder wealth?
- Wealth is measured by the firms stock price, which reflect the timing,
magnitude, and risk of the cash flows that investors expect a firm to
generate over time maximize stock price, not profits
- Shareholder, as residual claimants, have better incentives to maximize
firm value
o Residual claimants- corporate investors, typically common
stockholders, who have the right to receive cash flows after all
other claimants have been satisfied in full
-
Importance of Ethics
2) INCOME STATEMENT
- Income also called profit, earnings, or margin
- Income = revenue expenses
- Measures of income gross profit, operating profit, other income,
earnings before interest and taxes, pretax income, net income/net profit
after taxes
- Big Box Inc. Income Statement ($ Thousands)
Average amount of time that elapses from a sale on credit until the
payment becomes usable funds for a firm
o It can signal really bad things are happening
o Lower, the better if it is increases it could mean you are not
collecting or you have inventory that is aging
- Average sales per day = annual sales / 365
- Fixed asset turnover = sales / net fixed assets
o A measure of the efficiency with which a firm uses its fixed assets
o Higher, the better
- Total asset turnover = sales / total assets
o Measure of the efficiency with which a firm uses all its assets to
generate sales
o Higher, the better
DEBT RATIOS- a measure of the proportion of total assets financed by a
firms creditors
o You have book value or market value
- Debt ratio = total liabilities / total assets
o Measure of the proportion of total assets financed by a firms
creditors
o Its hard to say if the debt ratio increases or decreases, if its good or
bad
- Assets-to-equity ratio = total assets / common stock equity
o Measure of the proportion of total assets financed by a firms equity
- Debt-equity ratio = long-term debt / stockholders equity
o Measure of the firms financial leverage
o Its hard to say if the debt ratio increases or decreases, if its good or
bad
- Times interest earned ratio = EBIT / interest expense
o Measure of firms ability to make contractual interest payments
o EBIT = gross income operating expenses depreciation
amortization
o Higher, the better
PROFITABILITY RATIOS- relate a firms earnings to its sales, assets, or
equity
- Gross profit margin = gross profits / sales
o Measure of profitability that represents the percentage of each
sales dollar remaining after a firm has paid for its goods
- Operating profit margin = EBIT / sales
o Measure of profitability that represents the percentage of each
sales dollar remaining after deducting all costs and expenses other
than interest and taxes
o Higher, the better
- Net profit margin = net income / sales
o Measure of profitability that represents the percentage of each
sales dollar remaining after all costs and expenses, including
interest, taxes, and preferred stock dividends, have been deducted
- Earnings per share = net income / number of shares of common stock
outstanding
o
Corporate Taxes
Significant cash outflow
Ordinary income tax- income resulting from the sale of the firms goods
and services
- Progressive tax rate schedule
o Average tax rate- a firms tax liability dividend by its pretax
income
o Marginal tax rate- the tax rate applicable to a firms next dollar of
earnings
Capital gains tax- under existing tax laws, use ordinary income tax rates for
capital gains taxes
Demonstrating Translation Exposure (wont be on exam)
Time value of money- It is the concept that the value of money changes
over time (time * interest rate)
Dollar today vs. dollar tomorrow? Why?
- Dollar received today is more valuable than a dollar received tomorrow
Why? Interest (Discount) Rate
- Discount rate finds future value
Simple Vs. Compound Interest
Future Value
Future value: the value of a lump sum or stream or cash payments at a
future point in time
Future value depends on interest rate, number of periods, and
compounding interval
Rule of 72 how long does it take money to double- quick way to find how
long it takes money to double
Future value has to be greater than present value for any positive integer
Present Value
Important observations:
- The higher the discount rate, the lower the present value
- The longer the period of time, the lower the present value (downward
slope)
- Present value declines faster at higher discount rates
Higher discount rates penalize future cash flow
Annuities
A Simple Annuity Example: your friend wants to save $2000 at the end of
each year for the next three years (hoping to end up with $6000) so that
she/he can buy a car. Since you are a finance expert, you know the amount
will be different from $6000 in three years time. Assuming an annual interest
rate of 5.5%, how much does your friend end up after three years?
- Solution: PMT = $2,000, N = 3 years, r = 5.5%
Trickstar Inc., now comes up with a new plan! Now they announce that
they will pay $3000; $3000; $40000; $3000; and $2000 at the end of each
year for the next five years of you pay $12,000 up front
Again, you are suspicious of their offer and want to check that out
Assuming the interest rate to be a constant 4%, determine if their offer is
profitable for an investor.
Continuous compounding
- The more frequent the compound period, the larger the FV!
Compounding more Frequently than Annually
Special Applications
Additional applications of Time Value
- Deposits needed to accumulate a future sum
o Often need to find annual deposit needed to accumulate a fixed
sum of money in n years
o Closely related to the process of finding the future value of an
ordinary annuity
o Find annual deposit
- Loan amortization
- Implied interest or growth rates
- Number of compounding periods
Deposits needed to accumulate a future sum
- Often need to find annual deposit needed to accumulate a fixed sum of
money in n years
- Closely related to the process of finding the future value of an ordinary
annuity
- Find annual deposit needed to accumulate FVn dollars, at interest rate, r,
over n years, by solving this equations for PMT: