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7. Review BUAD 306 Summer 2008

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Simple math formula Want to calculate an infinite sum... X = y + y z +y z 2 + y z 3 +... = ? z X = y z +y z 2 + y z 3 +... X - z X = y So, X = y /(1- z ) X = 1st term /(1- multiplier )!
Value of an asset PV of all CF For infinite CF, use the formula to get PV For finite CF, use two infinite CF (two perpetuities) to get PV For mixed CF, split CF as you wish (e.g., infinite CF part and finite CF part), then get each part’s PV and sum them up

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Discount rate Discount rate is (rate of) return to an investor (also called required rate of return) Discount rate is cost to a firm Discount rate is determined in a market (a firm takes it as given) Higher discount rate, more costly to finance
WACC (weighted average of cost of capital) Cost of capital : weighted average of cost of equity and cost of debt Average by weights = Leverage ratio (Lvg) WACC= r D × Lvg + r E × (1-Lvg)

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Capital structure Without tax and other factors ... Capital structure does not matter for firm value So, firms with same EBIT

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