Lecture 14
March 3rd
Reducing your cost of capital
A great deal of recent evidence suggests that expected
returns are related to the liquidity of an asset
What is liquidity?
An often-used proxy for liquidity is the bid-ask spread:
Bid price: price spe
Lecture 15
March 8th
Forms of market efficiency
Semistrong form market efficiency
Says that prices reflect all public information
News is quickly (instantaneously) incorporated into prices
Fundamental analysis doesnt work
2
Event Studies
Event Studie
Lecture 17
March 29th
The Balance-Sheet Model
of the Firm
The Capital Budgeting Decision
Assets
Tangible
Intangible
What
investments
should the
firm engage
in?
Debt
Shareholders
Equity
The Balance-Sheet Model
of the Firm
The Capital Structure Decision
Ass
Lecture 18
March 31st
Example
Suppose two firms are identical in all respects except for their capital
structure. Each will produce cash flows shown in the previous example. One
firm is unlevered, and has equity with a market value of $1,900. The other
fi
Lecture 19
April 5th
WACC and firm beta
You should note that the WACC is just an
application of the SML where the beta is
the overall beta of the firm (beta of assets)
B
S
RWACC =
RB +
RS (for simplicity assume no taxes)
B+S
B+S
B
S
RWACC =
)
Lecture 20
April 7th
Example
XYZ is a company thinking of entering the biotech
industry, where it plans to finance projects with a debt-tovalue ratio of 20 percent. Proxy Inc. is a biotech firm
with similar characteristics as the project that XYZ is
consi
Lecture 21
April 12th
Impact of Taxes
How will taxes affect investors preferences for
dividends relative to capital gains?
Consider the ex-day:
(P
) (1 T
P
Cum Div .
Ex Div .
Cap .Gains
) = Div.(1 T )
( PCum Div. PEx Div. ) = (1 TDiv. )
Div.
(1 T
Cap .Gai
Lecture 22
April 14th
Introduction to Options
Option contracts are referred to as derivative
instruments because their value depends on the value
of another asset (underlying asset).
An option is a contract giving its owner the right but not
the obligatio
Lecture 23
April 19th
Goldman Sachs
Goldman Sachs Options prices
on Friday
Example
Suppose you buy the call, buy the bond, sell the
put, and sell the stock. How much should you
pay for the portfolio?
Payoff at Expiration
ST=34
ST=58
Buy call
0
3
Buy bond
Lecture 24
April 21st
Hedging with forwards and futures
Hedging means arranging for two different positions,
such that potential losses from one position will be
more or less offset by profits from other position.
Futures, forwards, and swaps were develop
Lecture 12
February 24th
1
Review
In a large portfolio the variance terms are effectively
diversified away, but the covariance terms are not.
Diversifiable Risk;
Nonsystematic Risk;
Firm Specific Risk;
Unique Risk
Portfolio risk
Nondiversifiable risk;
Sys
Lecture 11
February 22nd
1
Big picture
We want to use NPV/IRR to evaluate a project:
T
Ct
NPV = C0 +
t
t =1 (1 + r )
Accept if NPV > 0
T
Ct
=0
t
t =1 (1 + IRR )
Accept if IRR > discount rate
IRR : C0 +
What is this
number?
We use CAPM to find the cost o
FI 504
Financial Management
Lecture 2
January 13th, 2010
1
Annuities
Suppose you will receive $C every year
for the next 5 years. The interest rate is r.
What is this worth today?
We could simply use the old formula and
sum up the discounted cash flows,
FI 504
Financial Management
Lecture 3
January 20th, 2010
1
Review Practice Question
We might not want to always find the present
value. What if we want to solve for the regular
payment given the present value?
Suppose you want to take out a $200,000 30 -
FI 504
Financial Management
Lecture 4
January 25th, 2010
1
Important assumption
We have assumed that the interest rate is
constant over all future periods.
But interest rates vary through time
We will usually not earn the same rate for
investing in a 2
FI 504
Lecture 5
January 27th, 2010
1
NPV
The best way to measure the attractiveness of a project
to a firm is to calculate the projects net present value
(NPV):
T
Ct
NPV = C0 +
t
t =1 (1 + r )
Where r is the relevant firm discount rate. For the next
f
Lecture 6
February 1st
What have we done so far?
Whats to come?
Lecture 1-4
Discount cash flows
-Annuities,Perpetuities
Stock and bond valuation
Lecture 5
Project Evaluation
NPV, alternative
investment rules
Lecture 7-8
Project Evaluation
in a more realwo
Lecture 7
February 3rd
Project Cash Flows
Discount expected cash flows, not accounting income
Estimate incremental after-tax cash flows
Incremental CF = CF with project CF without project
Treat inflation consistently
Dont include cash flows from financin
Lecture 9
February 10th
Determining r
How do we go about estimating r?
If the cash flows were riskless, we could just use the
return on a U.S. Treasury security
However, the cash flows associated with a project are
risky, and they should be discounted
Lecture 10
February 15th
Risk and Return of a Portfolio
A portfolio is a combination of different securities
The expected return and variance of a portfolio of N securities are
given by:
N
E ( R p ) = w i E ( Ri )
i =1
N
N
Variance(R p ) = w i w j i , j
i
Review
April 26th
1
The Balance-Sheet Model
of the Firm
Total Value of Assets:
Current
Assets
Total Firm Value to Investors:
Current
Liabilities
Long-Term
Debt
Fixed Assets
Tangible
Intangible
Shareholders
Equity
2
The Balance-Sheet Model
of the Firm
The