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Class_1_Introduction_Upload - Intro to Accounting &...

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Unformatted text preview: Intro to Accounting & Finance W2261/4261 Lecture 1 Columbia University Jan 16, 2007 W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 1 Motivations Why do we come to school for education? What are the costs of education? What are the benefits? < = > Costs Benefits? W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 2 Motivations, cont. Suppose you will earn $1,000,000 when you graduate. How do you allocate $1,000,000? W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 3 Motivations, cont. Given $1M, how do you spend it? Individuals may... Consume some of it. Invest the rest... Deposit it in a bank Buy bonds Buy stocks Buy financial derivatives: options, futures, etc. Other means. Which investment? W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 4 Motivations, cont. Given $1M, how do you spend it? Organizations may... Financial investments: Bonds Stocks Derivatives Project A: requires $20,000 today. Pays back $2,000 for 20 years. Project B: requires $30,000 today. Pays back $1,500 for 50 years. Which one to choose? Real investments: W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 5 Motivations, cont. Suppose we decide to spend all of the $1M on buying stocks. W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 6 Motivations, cont. Stock price from 08/19/2004 to 09/01/2006 Amazon 60 50 40 30 20 10 0 Date 5-Nov-04 27-Jan-05 4-Nov-05 27-Jan-06 27-May-05 30-May-06 28-Sep-04 16-Dec-04 17-Aug-05 27-Sep-05 15-Dec-05 10-Jul-06 W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 7 17-Aug-06 19-Apr-05 19-Apr-06 9-Mar-05 8-Jul-05 9-Mar-06 Motivations, cont. 30 25 20 15 10 5 0 5-Nov-04 Stock price from 08/19/2004 to 09/01/2006 Microsoft 4-Nov-05 27-Jan-06 28-Sep-04 16-Dec-04 27-Jan-05 17-Aug-05 27-Sep-05 15-Dec-05 10-Jul-06 8-Jul-05 27-May-05 W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 8 30-May-06 17-Aug-06 9-Mar-05 19-Apr-05 9-Mar-06 Date 19-Apr-06 Motivations, cont. 500 450 400 350 300 250 200 150 100 50 5-Nov-04 27-Jan-05 0 Stock price from 08/19/2004 to 09/01/2006 Google 4-Nov-05 27-Jan-06 30-May-06 27-May-05 17-Aug-05 28-Sep-04 16-Dec-04 27-Sep-05 15-Dec-05 10-Jul-06 W2261/4261 Zhang Intro. to Accounting and Finance Spring 07 9 17-Aug-06 19-Apr-05 19-Apr-06 9-Mar-05 8-Jul-05 9-Mar-06 Date Motivations, cont. Suppose we decide to spend all of the $1M on buying stocks. Which stock to buy? Microsoft? Google? Amazon? Suppose also that today is 08/01/2000. Would you buy Enron? Why? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0710 Motivations, cont. Suppose we don't have the $1M now and we still need to undertake a project. Where to get money? Among different sources, which one to choose and in what mix? Where to spend money? In what mix? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0711 Motivations, cont. We will learn: Some basic finance models to value bonds, stocks, and some other derivatives. Project valuations. The relationship between returns and risks. Investment decision and criteria. Financial decision: capital structure and payout policy. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0712 Motivations, cont. In order to understand finance, we need to have some knowledge about accounting. We will also learn: The three basic statements: balance sheet, income statement, statement of cash flows. Financial statement analysis. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0713 Outline of Today's Class Motivations A helicopter tour to accounting and finance Course requirements W2261/4261 Zhang Intro. to Accounting and Finance Spring 0714 Introduction to Accounting Accounting is the measurement, disclosure or provision of assurance about financial information that helps managers, investors, tax authorities and other decision makers make resource allocation decisions. Financial accounting is one branch of accounting and historically has involved processes by which financial information about a business is recorded, classified, summarized, interpreted, and communicated. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0715 Introduction to Accounting The accounting we will learn in this course: We will learn the preparation and interpretation of financial statements. Our perspective and main focus are those of the external users of the information contained in them, mostly investors, creditors and regulators. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0716 Introduction to Accounting The purpose and content of the three principal financial statements. Financial ratios W2261/4261 Zhang Intro. to Accounting and Finance Spring 0717 Three Principal Financial Statements: (a). Balance sheet, (b). Income statement, (c). Statement of cash flows. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0718 Balance Sheet Snap Shot in Time Assets, Liabilities, Owners' Equity Retained Earnings Assets = Liabilities + Owners' Equity Historical Valuation Analysis of the Balance Sheet W2261/4261 Zhang Intro. to Accounting and Finance Spring 0719 Balance Sheet Snapshot of the investing and financing activities at a moment in time. The Basic Accounting Equation: Assets = Liabilities + Shareholders' Equity which is the same idea as Investing = Financing Resources = Sources of Resources Resources = Claims on Resources W2261/4261 Zhang Intro. to Accounting and Finance Spring 0720 Exhibit 1.1 Balance Sheet W2261/4261 Zhang Intro. to Accounting and Finance Spring 0721 Income Statement Indicates earning or profit Report results of the operating activities of a firm for a period of time Typically one year Revenue Expenses Some concepts: How is classification accomplished? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0722 Income Statement W2261/4261 Zhang Intro. to Accounting and Finance Spring 0723 Balance Sheet and Income Statement The income statement links the balance sheet at the beginning of the period with the balance sheet at the end of the period. Retained Earnings is increased by net income and decreased by dividends. How is the income statement related to the balance sheet? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0724 Balance Sheet and Income Statement Liabilities + Shareholders' Equity Liabilities + Shareholders' Equity Common Stock Common Stock + Retained Earnings = Total Liabilities and Shareholders' Equity Income Statement for the Period Revenues Expenses = Net Income Net Income Dividends + Retained Earnings = Total Liabilities and Shareholders' Equity W2261/4261 Zhang Intro. to Accounting and Finance Spring 0725 Statement of Cash Flows Report for a period of time Typically one year Operations Investing Financing Classification of items: W2261/4261 Zhang Intro. to Accounting and Finance Spring 0726 Classification of Cash Flows Operations: cash from customers less cash paid in carrying out the firm's operating activities. Investing: cash paid to acquire noncurrent assets less amounts from any sale of noncurrent assets. Financing: cash from issues of long-term debt or new capital less dividends. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0727 The Inflows and Outflows of Cash INFLOWS Sale of Goods Operations and Services to Customers Sale of Noncurrent Assets Issue of Debt and Stockholder Equity OUTFLOWS Acquisition of goods & services for operations Investing Pool of Cash Acquisition of Noncurrent Assets Dividends and Reduction in Debt and Shareholders' Equity Financing W2261/4261 Zhang Intro. to Accounting and Finance Spring 0728 Exhibit 1.3 Cash Flows W2261/4261 Zhang Intro. to Accounting and Finance Spring 0729 Balance Sheet & Statement of Cash Flows Balance Sheet at Beginning of Period Changes in Balance Sheet During the Period Balance Sheet at End of Period Assets Assets Cash Statement of Cash Flows for the Period Cash Flows from Operating Investing and Financing Activities Cash + Other Assets = Total Assets + Other Assets = Total Assets W2261/4261 Zhang Intro. to Accounting and Finance Spring 0730 Introduction to Finance Finance studies and addresses the ways in which individuals and organizations raise, allocate and use monetary resources over time, taking into account the risks entailed in their projects. The term finance may thus incorporate any of the following: The study of money and other assets. The management and control of those assets. Profiling and managing project risks W2261/4261 Zhang Intro. to Accounting and Finance Spring 0731 Introduction to Finance Topics I plan to cover: Time value of money Valuation of bonds and stocks Investment criteria Modeling cash flows Risk and return Hedging against returns. Debt policy Payout policy W2261/4261 Zhang Intro. to Accounting and Finance Spring 0732 Time value of money What would you choose? $1 today vs. $1 tomorrow. $1 today vs. $1.1 tomorrow How do you make your choice? Time valuation of money Suppose you can deposit $1 in the bank and earn a return of 20%. What now? Suppose you can deposit $1 in the bank and earn a return of 5%. What now? Future value. Present value and discounting. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0733 Bond It is a debt: I borrow $x from you and agree to pay you back $1 next year. What should x be? Suppose interest rate is 10%? 20%? What if the $1 is paid back two years later? What are the risks buying/issuing a bond? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0734 Stock When I buy a stock today, I pay $x. From now on, I receive dividends of $y every year. Suppose I sell the stock 10 years later for $z. How should we price the stock today? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0735 Investment Criteria NPV IRR Capital rationing W2261/4261 Zhang Intro. to Accounting and Finance Spring 0736 Modeling Cash Flows How do we use discounted cash-flow analysis to make investment decisions? First, we need to know how to model cash flows. Project valuations. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0737 Risk and Return No free lunch. If an asset has a higher return, it must be riskier. How to measure risks? Can we eliminate risks? How? Can we reduce risks? How? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0738 Options One way of hedging. An option is a contract whereby one party (the holder or buyer) has the right but not the obligation to exercise a feature of the contract (the option) on or before a future date (the exercise date or expiry). How do we price options? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0739 Forwards and Futures An forward contract is an agreement between two parties to buy or sell an asset at a pre-agreed future point in time, at a pre-set price. A futures contract is a standardized forward contract traded on a futures exchange. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0740 Debt Policy As a verb, "to finance" is to provide funds for business. Two ways of financing: Debt Equity How much debt and how much equity? What are the benefits of them? What are the disadvantages of using them? The equilibrium --- the optimal capital structure. W2261/4261 Zhang Intro. to Accounting and Finance Spring 0741 Payout Policy How should a firm pay back cash to shareholders? Dividends. Share repurchase. Which one to choose? W2261/4261 Zhang Intro. to Accounting and Finance Spring 0742 Course Requirements Registration requirement The Courseworks https://courseworks.columbia.edu/ Textbooks Course evaluation W2261/4261 Zhang Intro. to Accounting and Finance Spring 0743 Next Class The Balance Sheet Read SW Ch 2 W2261/4261 Zhang Intro. to Accounting and Finance Spring 0744 ...
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