r=
Loan amount:
T=
Year
1
2
3
4
10% (Annual Interest Rate, EAR)
$1,000 (Principal, the amount that was borrowed and must be repaid)
4 (Number of payments. Also, the number of years until the loan is repaid.)
Beginning of
End of Year
Year Balance Installme
Valuing Debt
Debt
Debt: contract explicitly spells out
What cash flows will be received
When they will take place
Interest payments are
Tax deductible by the firm
Fully taxable to the recipient
Debt holders have priority claim on a
firm's cash flow
Finance 501
Andrs Marosi
[email protected]
Subject line: Fin501
Office hours (BUS 2-32F):
Thursday, 1:00-2:00pm
By appointment
Corporate Finance
3rd Canadian Edition
Berk DeMarzo and Stangeland
Course Web Pages
All material will be posted on
Blackboar
Time Value Mechanics
Investing for Multiple Periods
Calculating
Future Value:
P1 P0 (1 r )
P2 P1 (1 r ) P0 (1 r ) 2
P3 P2 (1 r ) P0 (1 r ) 3
Pt Pt 1 (1 r ) P0 (1 r ) t
Discounting:
Pt
P0
(1 r ) t
2
Compound Interest
Interest on interest earned in ear
Time Value of Money Questions: Answers to Questions 7-10
FIN 301
Question #7
Suppose that after you graduate you decide that finance was the best thing that has ever
happened in your lives and in a fit of collective glee your class decides to endow a chai
Finance 501
Lecturer: Andrs Marosi
BUS 2-32 F
[email protected]
Subject line: Fin501
Office hours: M W 9:30AM to
10:20AM
Corporate Finance
3rd Canadian Edition
Berk DeMarzo and Stangeland
Course Web Pages
AllmaterialwillbepostedonBlackboard
aka
3
Gradin
Alternative Investment Criteria
What Should a Good Criterion Do?
Agoodevaluationmethodshould
Considerallcashflows
Accountfortimingdifferences
Provideunambiguousdecisionrule
Measurewealthcreatedforshareholders
Somecriteriathatdont
Payback
DiscountedPayback
Equity Valuation
What Does an Equity Holder Get?
VoteforDirectors
Righttohireandfireseniormanagement
DividendStream
Assumestockpaysdividendsonceattheend
ofeachperiod.Howmuchisitworthtoday?
0
P0
1
P +Div1
P0 = 1
(1 +rE )
P1 +
Div1
2
Total Return
P - P0 Div
Time Value Mechanics
Investing for Multiple Periods
Calculating
FutureValue:
P P0 1 r )
(
1
P2 P 1 r ) P0 1 r ) 2
(
1 (
P3 P2 1 r ) P0 1 r ) 3
(
(
Pt Pt 1 1 r ) P0 1 r ) t
(
(
Discounting:
Pt
P0
(1 r ) t
2
Compound Interest
Interestoninterestearnedinear
Risk and Return
What goes in the denominator?
Expected Return on TD Stock = ?
Whatisanexpectation(expectedvalue)?
Alikelyorrepresentativeoutcome:
MidtermScore(Zi)
100
95
80
70
60
Probability( pi )
p1
p2
p3
p4
p5
2
What is an expectation?
Whatifallequallyl
Project vs Firm Risk and the Impact of
Leverage
The SML and WACC
Consider100%equityfinancedfirm
Beta=1
E/V=1!
D/V=0!
WACC=?
E
D
WACC RE RD (1 TC ) RE
V
V
WACC=CostofequityfromCAPM
WACC RE R f E RM R f E RM
Beta=1!
2
SML and WACC
SML
Expecte
dReturn
WACC=
Capital Structure Theory
The cost of capital
Sourcesoffinancing:
Debt
Equity
Firmvalue:V=E+D
Maindifferences:
Cashflowrights
Controlrights
2
Weighted Average Cost of Capital
(WACC)
Proportionofequity
rWACC
Proportionofdebt
E
D
= rE + rD (1 - TC )
V
V
Cost