#7 Finance tvm

#7 Finance tvm - Finance The Time Value of Money Or A...

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Finance The Time Value of Money Or A dollar today is worth more than a dollar tomorrow Professor Dixon Based on lectures given by Ted Chadwick and Peter Arnold

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Quiz Question 1 Suppose a firm has variable costs of \$2 per unit and a selling price of \$4.50 per unit. If fixed costs are \$10,000, how much revenue must the firm earn to breakeven? a) \$18,000 b) \$20,0002 c) \$25,000 d) \$100,000
Quiz Question 2 Suppose a firm has variable costs of 80% of revenues. If fixed costs are \$20,000, how much revenue must the firm earn to break even? a) \$16,000 b) \$20,000 c) \$25,000 d) \$100,000

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Quiz Question 3 Suppose a firm has variable costs of 20% of revenues. If fixed costs are \$20,000, how much revenue must the firm earn to breakeven? a) \$16,000 b) \$20,000 c) \$25,000 d) \$100,000
Quiz Question – Circuit City and Breakeven 2005 2004 2003 \$,000s \$,000s \$,000s Net Revenues 10,472 9,857 10,055 CGS 7,903 7,573 7,648 Gross Profit 2,569 2,284 2,407 2,457 2,277 2,385 EBT 112 7 22 Income Tax 36 2 7 Net Income 76 5 15 What was breakeven in 2005? a. < \$10,000 b. \$10,000 < BE < \$10,028 c. >\$10,280 What was breakeven in 2003? a. < \$10,000 b. \$10,000 < BE < \$10,028 c. >\$10,280

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Decision Criteria Managers typically base investment decisions on: Profitability ROA, ROE, ROS or just simply Net Income Revenue growth Top line year over year Time to payback The investment divided by the periodic return Example: A firm buys a new machine for \$1,000 » The machine saves \$500 per year » The machine has a time to payback of two years The rate of return The interest rate that the investment returns (IRR) The present value of the expected cash flows The amount, in terms of today’s value, of the cash, in and out, related to an investment alternative.
Shareholder Value Although each of the criteria mentioned is important, each has shortcomings. For example, profitability, growth, and quick payback do not always add to shareholder value Suppose you cut the training budget. Short term profits may increase, but quality may suffer, leading to problems later. Suppose you purchase a device that will eliminate workers and pay for itself in a very short period. The loss of the worker’s expertise may lead to loss of future competitiveness. Suppose you double the ad budget to grab a few marginal customers. Sales will grow, but profits are wiped out. Analysis using Net Present Value (NPV), also known as Discounted Cash Flow (DCF) Valuation, does a better job of measuring the impact on shareholder wealth. The technique focuses on cash, not profits it recognizes the time value of money it is adjusted for the risk of the investment

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Valuation:the BIG picture How would you know a fair price for: a used car a 3 bedroom house a painting by Picasso an acre of land in Brookline a controlling interest in RJR Nabisco answer: comparison shopping The Law of One Price - the basic idea is : in well functioning markets, assets with similar attributes will sell for
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This note was uploaded on 04/07/2008 for the course SM 299 taught by Professor Dixon during the Summer '08 term at BU.

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#7 Finance tvm - Finance The Time Value of Money Or A...

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