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1
Lectures so far…Weeks 14
Corporate objective = Maximise firm
value
How to measure
value
?
– Bond value =
t
t
B
r
F
r
r
C
V
1
1
)
1
(
1
– Share value=
– Firm value =
– Project value =
1
0
1
n
n
n
R
D
P
Lecture 07
1
1
1
t
t
t
r
C
V
0
1
1
C
r
C
NPV
N
t
t
t
Lectures so far…Weeks 46
What you need to measure value?
– Type of cash flow
– Timing of the cash flow
–
Riskiness of the cash flow
Capital Budgeting: Evaluation
Step 1: Forecast cash flows
Step 2: Determine risk of cash flows
Step 3: Apply evaluation technique(s)
Step 4: Accept/reject proposal based on quantitative &
qualitative analysis
Lecture 07
2
Lectures so far…Week 6
Incorporating risk (uncertain cash flows) into capital
budgeting analysis involves:
– applying techniques that assess the risk level of a
project’s cash flows
– using a risk adjusted discoun rate
– using a riskadjusted discount rate
L7
: Risk & Return
L8
: Capital Asset Pricing Model
L9
: Cost of Capital
Lecture 07
3
Risk & Return
RTBWJ Chapters 10 & 11
RETURNS ON INVESTMENT
When an investment is made, there is the
expectation that this investment will generate
positive returns.
There are two different ways of measuring the
There are two different ways of measuring the
return generated by an investment
1.
Dollar Returns
2.
Rate of Return
5
Lecture 07
DOLLAR RETURNS
The dollar return is the difference between the amount you
receive at the end of the investment and the amount initially
invested.
ceived
Re
Amount
turn
Re
Dollar
6
Lecture 07
Invested
Amount
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DOLLAR RETURNS (CONT.)
To fully understand this measure, you need two
more pieces of information.
1.
The
scale
of the original investment.
2.
The
length of time
the investment has been held for.
7
Lecture 07
RATE OF RETURN
A more useful measure is the rate of return:
Invested
Amount
turn
Re
Dollar
turn
Re
of
Rate
This gives a
percentage
answer which is much
easier to understand.
8
Lecture 07
DOLLAR VS RATE OF RETURN: EXAMPLE
A share investment costs $2 per share at the start of
the year
It is offering a yearend dividend of $0.20 and the
year–end share price is expected to be $2.50
What is your investment return if held for a year, in
What is your investment return if held for a year, in
dollar and percentage terms?
9
Lecture 07
DOLLAR VERSUS RATE OF RETURN: EXAMPLE (CONT.)
$0.70
$2.00

$2.50]
[$0.20
Invested
Amount

Received
Amount
Return
Dollar
Dollar
Return
10
Lecture 07
Percentage
Rate of Return
35%
or
35
.
0
00
.
2
$
70
.
0
$
Invested
Amount
Return
Dollar
Return
of
Rate
RETURNS AND RISK
Returns are closely related to risk.
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This note was uploaded on 07/25/2011 for the course FINS 1613 taught by Professor Drkhshim during the Two '10 term at University of New South Wales.
 Two '10
 DrKHShim
 Finance

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