Lecture 3_Student_6slides

# Lecture 3_Student_6slides - Wiley-Plus available FIN 221...

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1 FIN 221 Lecture CH8: Bond Valuation CH9: Stock Valuation 2 • Online practical quiz is available. The assignment name is Lecture 1-2 . – Go to the elearning site. – Open the file “Parrino Wiley Plus -How to register” and follow the instruction to register. •Do CQ 9.9 instead of CQ 9.10 Tutorial Question Wiley-Plus available 3 Relevant Reading Chapters •8.2 Types of corporate bonds VANILLA BONDS ZERO COUPON BONDS •8.3 •8.4 Yield to maturity Effective annual yield •8.5 •9 .1 Secondary Markets Common and Preferred stock Preferred Stock: Debt or Equity? .2 .3 .4 4 Asset Valuation CF = PV (1+i) CF CF 2 CF 3 CF n n k=1 K CF CF 1 k • What are the three key variables needed in asset valuation? Future Cash flows Discount rate No of periods 5 What are we learning today? •Based on what we learnt last week –How to compute PV of different types of Cash flows (CFs) •Can we apply to valuing financial assets? –Est imate future CFs expected from each type of security •share , bond, preference shares –Do we know appropriate discount rates? • Will be given until how to compute is taught in this course – Compute PV of future CFs using an appropriate valuation formula (we learnt basics last week!) –Then the resulting PV represents how much the asset is worth today 6 Debt vs Equity Characteristic Debt Equity Cashflow Return Life Asset claim Voting Right Example Interest, principal Dividend Fixed Variable Fixed Indefinite First Residual No Yes Bond Shares (common stock) ________ ________ _________ Preference shares

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2 7 Issue Securities Shares (Common stock) Preference Shares (Preferred stock) Bond (Debt) 8 CFs Available for Shareholders CFs Available for Debtholders Interests & Principal Dividends (1+ i ) n (1+ R ) n PV= •Discount rate •Cost of debt •Required rate of return for debtholders •Discount rate •Cost of equity •Required rate of return for shareholders PV= TAX 9 Bond • What is a Bond? –A long-term contract under which a borrower agrees to make payments of interest and principal on specific dates to the bondholders Borrower =Issuer Eg. Corporations government Lenders =bondholders Eg. Individuals Lend \$50 mil by purchasing bonds Issued by the borrower In exchange, borrower pays -Periodic interest payments -Principal of \$50 mil at maturity 10 Variables in Bond Valuation CASH FLOWS • Coupon Payments (C) ** – Periodic interest payments made to bondholders • Pay attention to frequency of coupon payment: Annual? Semi-annual? – Size of C is FIXED for the life of bond • Face Value (=Par Value) (F) – The principal amount owned to the bondholder at maturity ** \$C= Coupon rate per period X Face value Eg. 8% Treasury bond paying interest semi-annually with a face value of \$1000 \$C \$C \$C \$C \$C \$C \$C \$C \$C \$C+\$F C = 11 Variables in Bond Valuation DISCOUNT RATE (i) • Terms: Market interest rate= Cost of debt = Required rate of return for debt-holders=Yield to maturity (YTM)
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## This note was uploaded on 06/16/2010 for the course COMMERCE f221 taught by Professor Ala during the Spring '10 term at Uni. West.

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Lecture 3_Student_6slides - Wiley-Plus available FIN 221...

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