FIN 500 Class Web Page, Fall '15

Business Finance Online, an interactive learning tool for the Corporate Finance Student https://www.zenwealth.com/BusinessFinanceOnline/index.htm

Weekly SCHEDULE, LINKS, FILES and Questions

Week

Coverage, HW, Supplements

- Required

WSJ Papers Reference

Videos (optional)

Week 1 , 2

Market Watch Games

Use the information and directions below to join the game.

1. URL for your game:
http://www.marketwatch.com/game/fin500

2. Password for this private game: havefun!

3. Click on the 'Join Now' button to get started.

4. If you are an existing MarketWatch member, login. If you are a new user, follow the link for a Free account - it's easy!

5. Follow the instructions and start trading!

General Introduction

Note:

Flow of funds describes the financial assets flowing from various sectors through financial intermediaries for the purpose of buying physical or financial assets.

*** Household, non-financial business, and our government

Financial institutions facilitate exchanges of funds and financial products.

*** Building blocks of a financial system. Passing and transforming funds and risks during transactions.

*** Buy and sell, receive and deliver, and create and underwrite financial products.

*** The transferring of funds and risk is thus created. Capital utilization for individual and for the whole economy is thus enhanced.

Chapter 5 Time value of money 1

Chapter 5 ppt

Concept of FV, PV, Rate, Nper

Calculation of FV, PV, Rate, Nper

Concept of interest rate, compounding rate, discount rate

Chapter 6 Time Value of Money 2

Chapter 6 PPT

Concept of PMT, NPV

Calculation of FV, PV, Rate, Nper, PMT, NPV, NFV

Concept of EAR, APR

Calculation of EAR, APR

Week 1 In Class Exercise

Week 1 In Class Exercise Solutions (Updated)

HW of week 1:

1. The Thailand Co. is considering the purchase of some new equipment. The quote consists of a quarterly payment of $4,740 for 10 years at 6.5 percent interest. What is the purchase price of the equipment? ($138,617.88)

2. The condominium at the beach that you want to buy costs $249,500. You plan to make a cash down payment of 20 percent and finance the balance over 10 years at 6.75 percent. What will be the amount of your monthly mortgage payment? ($2,291.89)

3. Today, you are purchasing a 15-year, 8 percent annuity at a cost of $70,000. The annuity will pay annual payments. What is the amount of each payment? ($8,178.07)

4. Shannon wants to have $10,000 in an investment account three years from now. The account will pay 0.4 percent interest per month. If Shannon saves money every month, starting one month from now, how much will she have to save each month? ($258.81)

5. Trevor's Tires is offering a set of 4 premium tires on sale for $450. The credit terms are 24 months at $20 per month. What is the interest rate on this offer? (6.27 percent)

6. Top Quality Investments will pay you $2,000 a year for 25 years in exchange for $19,000 today. What interest rate are you earning on this annuity? (9.42 percent)

7. You have just won the lottery! You can receive $10,000 a year for 8 years or $57,000 as a lump sum payment today. What is the interest rate on the annuity? (8.22 percent)

8. Around Town Movers recently purchased a new truck costing $97,000. The firm financed this purchase at 8.25 percent interest with monthly payments of $2,379.45. How many years will it take the firm to pay off this debt? (4.0 years)

9. Expansion, Inc. acquired an additional business unit for $310,000. The seller agreed to accept annual payments of $67,000 at an interest rate of 6.5 percent. How many years will it take Expansion, Inc. to pay for this purchase? (5.68 years)

10. You want to retire early so you know you must start saving money. Thus, you have decided to save $4,500 a year, starting at age 25. You plan to retire as soon as you can accumulate $500,000. If you can earn an average of 11 percent on your savings, how old will you be when you retire? (49.74 years)

11. You just received a credit offer in an email. The company is offering you $6,000 at 12.8 percent interest. The monthly payment is only $110. If you accept this offer, how long will it take you to pay off the loan? (82.17 months)

12. Fred was persuaded to open a credit card account and now owes $5,150 on this card. Fred is not charging any additional purchases because he wants to get this debt paid in full. The card has an APR of 15.1 percent. How much longer will it take Fred to pay off this balance if he makes monthly payments of $70 rather than $85? (93.04 months)

13. Bridget plans to save $150 a month, starting today, for ten years. Jordan plans to save $175 a month for ten years, starting one month from today. Both Bridget and Jordan expect to earn an average return of 8 percent on their savings. At the end of the ten years, Jordan will have approximately _____ more than Bridget. ($4,391)

14. What is the future value of weekly payments of $25 for six years at 10 percent? ($10,673.90)

15. At the end of this month, Bryan will start saving $80 a month for retirement through his company's retirement plan. His employer will contribute an additional $.25 for every $1.00 that Bryan saves. If he is employed by this firm for 25 more years and earns an average of 11 percent on his retirement savings, how much will Bryan have in his retirement account 25 years from now? ($157,613.33)

16. Sky Investments offers an annuity due with semi-annual payments for 10 years at 7 percent interest. The annuity costs $90,000 today. What is the amount of each annuity payment?
($6,118.35)

17. Mr. Jones just won a lottery prize that will pay him $5,000 a year for thirty years. He will receive the first payment today. If Mr. Jones can earn 5.5 percent on his money, what are his winnings worth to him today? ($76,665.51)

18. You want to save $75 a month for the next 15 years and hope to earn an average rate of return of 14 percent. How much more will you have at the end of the 15 years if you invest your money at the beginning of each month rather than the end of each month? ($530.06)

19. What is the effective annual rate of 10.5 percent compounded semi-annually? (10.78 percent)

20. What is the effective annual rate of 9 percent compounded quarterly? (9.31 percent)

21. Fancy Interiors offers credit to customers at a rate of 1.65 percent per month. What is the effective annual rate of this credit offer? (21.70 percent)

22. What is the effective annual rate of 12.75 percent compounded daily? (13.60 percent)

23. Your grandparents loaned you money at 0.5 percent interest per month. The APR on this loan is _____ percent and the EAR is _____ percent. (6.00; 6.17)

24. Three years ago, you took out a loan for $9,000. Over those three years, you paid equal monthly payments totaling $11,826. What was the APR on your loan? (18.69 percent)

The one skill you need in today’s jobs market…

Published: Oct 20, 2015 3:12 p.m. ET

American companies are rewarding people who have one special quality.

Jobs like computer research scientists are in higher demand than the average rate of job growth, government figures show, but that’s also because they are among the math- and computer-centric jobs that also require polished social skills, according to a new study by David Deming, an associate professor of education and education at Harvard Graduate School of Education and faculty research fellow at the National Bureau of Economic Research, private and nonpartisan research organization based in Cambridge, Mass.

“The slow growth of high-paying jobs in the U.S. since 2000 and rapid advances in computer technology have sparked fears that human labor will eventually be rendered obsolete,” he writes. The latest example: A machine that claims to be the world’s first laundry-folding robot, which aims to liberate users from 375 days of this particular chore over the course of a lifetime. But he concludes, “The labor market increasingly rewards social skills.”

Deming found that jobs requiring high social skills are outpacing those jobs requiring low social skills, regardless of whether they require people with high/low knowledge of math.He analyzed jobs that required math and social skills among the Occupational Information Network, a nationally representative survey on job tasks administered by the U.S. Department of Labor, and cross-referenced these with job growth from the U.S. Census.

One caveat: There are a lot more high-paying jobs that require high math skills and high social skills. Jobs with high social and math skills include registered nurses, physicians, financial managers, engineers, and jobs with high social but low math skills include police officers, detectives, social workers, lawyers and dentists.

While millions of jobs have been replaced by computers within the last half-century, nearly all job growth since 1980 has been in occupations that are relatively social skill-intensive, Deming says. Jobs that require high levels of math but low levels of social interaction have fared especially poorly, he adds. These include book-keeping, machinists, bank tellers, statistical clerks, electricians and general office clerks. (Jobs that require both low math and social skills fared even worse; they include carpenters, auto mechanics, truck drivers, laborers and welders.) The growing importance of social skills can potentially explain a gradual closing of the gender gap in earnings, Deming says. (Women dominate in fields such as nursing, teaching, social work and education, accounting, which require high social skills.)

Read: Here’s one thing Mark Zuckerberg looks for in a job candidate

His research is supported by a 2014 report by the Pew Research Center, a nonprofit think-tank based in Washington, D.C. That study’s authors interviewed nearly 1,900 experts, including programmers, executives, economists and Internet entrepreneurs. Automation and artificial intelligence will permeate most jobs by 2025, they found, but experts were divided over whether this will displace more jobs than they create.

“Computers had typically been thought of as best suited for jobs that involve routine, repetitive tasks that can easily be reduced to lines of code,” they found. “But with computer-controlled devices and systems already capable of doing far more than projected even a few years ago, many experts now see more complex jobs coming into play.”

The Pew report looked at everything from driverless cars potentially replacing taxi drivers or truck drivers to artificial intelligence replacing legal clerks and, in some cases, earnings reports released by automation instead of journalists.

“Certain types of jobs will resist the pressure of automation than others,” says Aaron Smith, associate director of research at Pew, and co-author of the report, which is part of an ongoing 10-year project. “Traits such as empathy, creative thinking and judgment are things that machines will never be able to do, or anything approaching a short timeline. We still have a lot to offer.” (The Pew report canvassed opinion and, unlike Deming’s recent study, was not a nationally representative survey.)

Why are social skills still so important in a market when so many jobs are automated?

This should be reflected in how students are taught in schools. “If you close your eyes and picture what a classic fourth grade math class looks like, it’s obedient children and sitting at their desk passively receiving information from their teacher,” Deming says. “That’s the industrial revolution model for education. It’s important, but it’s not enough. We need to encourage schools to look like the modern workplace.” (In fact, one recent study found that students who use computers at school frequently do worse than those who don’t.)

Computers are becoming more cognitively sophisticated, beating people at the television show ‘Jeopardy’ and are even world-class chess champions, Deming says. “But the one thing that computers aren’t good at is social interaction.”

Of course, this also means the employee — not the computer — must take responsibility when things go wrong. As C-3PO said in “Star Wars” (1977): “I don’t know what all this trouble is about, but I’m sure it must be your fault.”

Fall of Lehman Brother part i

https://www.youtube.com/watch?v=aPOtQkSiCk8

Fall of Lehman Brother part ii

https://www.youtube.com/watch?v=l0N_FX0kUMI&feature=relmfu

Fall of Lehman Brother part iii

https://www.youtube.com/watch?v=YmZd3vVoPgY&feature=relmfu

Fall of Lehman Brother part iv

https://www.youtube.com/watch?v=FcO_dQCJ3HA&feature=relmfu

Fall of Lehman Brother part v

https://www.youtube.com/watch?v=L4gqzRePtes

Fall of Lehman Brother part vi

https://www.youtube.com/watch?v=Ms_tnEe4wFk&feature=relmfu

How the stock market works

How the market works

Week 3

Chapter 7 Bond Market

ppt

1. Definition

2. FINRA.org (www.findra.org, è Investor center è market data è bond è corporate bond)

3. Cash flows of a bond

Annual coupon bond, semi-annual coupon bond. Zero coupon bond.

4. Bond Pricing

Annual coupon bond, semi-annual coupon bond. Zero coupon bond.

5. Bond Yield

Annual coupon bond, semi-annual coupon bond.

6. Bond rating agencies

Three rating agencies; how to understand the ratings

7. Term Structure (yield curve)

Summary of bond pricing excel functions

To calculate bond price (annual coupon bond):

Price=abs(pv(yield to maturity, years left to maturity, coupon rate*1000, 1000)

To calculate yield to maturity (annual coupon bond)::

Yield to maturity = rate(years left to maturity, coupon rate *1000, -price, 1000)

To calculate bond price (semi-annual coupon bond):

Price=abs(pv(yield to maturity/2, years left to maturity*2, coupon rate*1000/2, 1000)

To calculate yield to maturity (semi-annual coupon bond):

Yield to maturity = rate(years left to maturity*2, coupon rate *1000/2, -price, 1000)*2

To calculate number of years left(annual coupon bond)

Number of years =nper(yield to maturity, coupon rate*1000, -price, 1000)

To calculate number of years left(semi-annual coupon bond)

Number of years =nper(yield to maturity/2, coupon rate*1000/2, -price, 1000)/2

To calculate coupon (annual coupon bond)

Coupon = pmt(yield to maturity, number of years left, -price, 1000)

Coupon rate = coupon / 1000

To calculate number of years left(semi-annual coupon bond)

Number of years = pmt(yield to maturity/2, number of years left*2, -price, 1000)

Coupon rate = coupon / 1000

(annual coupon bond)

(semi annual coupon bond)

Homework

WAL-MART STORES INC

Coupon Rate 3.300% Maturity Date 04/22/2024

Symbol

CUSIP

Next Call Date

01/22/2024

Callable

Yes

Last Trade Price

$106.18

Last Trade Yield

2.512%

Last Trade Date

04/09/2015

US Treasury Yield

—

Credit and Rating Elements

Moody's Rating		Aa2 (04/21/2014)
Standard & Poor's Rating		AA (04/16/2014)
Fitch Rating		AA (09/30/2014)
Coupon Payment Frequency	Semi-Annual

Refer to the above table and answer questions 1-8.

1. How much is the coupon?

2. This WMT bond is callable. This means that when interest rate increases, Wal-Mart might call this bond back from bondholders. True _____ False _____

3. Moody’s rating of this bond is Aa2 for this bond. Assume that GE’s bond rating is A. JEA’s rating is B+. Treasury bond’s rating is AAA. Rank the risk of the four bonds from low to high.

4. Calculate the current yield based on the above table. (3.11%)

5. Imagine that the interest rate has increased to 4%. Calculate the new bond price. (semi-annual, coupon rate = 3.3%, 9 years left). ($947.53)

6. Imagine that the interest rate has increased to 4%. Calculate the new bond price. (annual, coupon rate = 3.3%, 9 years left). ($947.95)

7. Imagine that the price is $850. Calculate the new yield to maturity. (semi-annual, coupon rate = 3.3%, 9 years left).

(5.43%)

8. Imagine that the price is $850. Calculate the new yield to maturity. (annual, coupon rate = 3.3%, 9 years left).

(5.45%)

9. 9. Firm AAA’s bonds price = $850. Coupon rate is 5% and par is $1,000. The bond has six years to maturity. Calculate for current yield? (5.88%)

10. For a zero coupon bond, use the following information to calculate its yield to maturity. (14.35%)

Years left to maturity = 10 years. Price = $250.

11. For a zero coupon bond, use the following information to calculate its price. ($456.39)

Years left to maturity = 10 years. Yield = 8%.

12. Imagine that an annual coupon bond’s coupon rate = 5%, 15 years left. Draw price-yield profile. (hint: Change interest rate, calculate new price and draw the graph).

13. IBM 5 year 2% annual coupon bond is selling for $950. How much this IBM bond’s YTM? 3.09%

14. IBM 10 year 4% semi-annual coupon bond is selling for $950. How much is this IBM bond’s YTM? 4.63%

15. IBM 10 year 5% annual coupon bond offers 8% of return. How much is the price of this bond? 798.7

16. IBM 5 year 5% semi-annual coupon bond offers 8% of return. How much is the price of this bond? $878.34

17. IBM 20 year zero coupon bond offers 8% return. How much is the price of this bond?

18. Collingwood Homes has a bond issue outstanding that pays an 8.5 percent coupon and matures in 18.5 years. The bonds have a par value of $1,000 and a market price of $964.20. Interest is paid semiannually. What is the yield to maturity? (8.90%)

19. Grand Adventure Properties offers a 9.5 percent coupon bond with annual payments. The yield to maturity is 11.2 percent and the maturity date is 11 years from today. What is the market price of this bond if the face value is $1,000?

($895.43)

20. The zero coupon bonds of D&L Movers have a market price of $319.24, a face value of $1,000, and a yield to maturity of 9.17 percent. How many years is it until these bonds mature? (12.73 years)

21. A zero coupon bond with a face value of $1,000 is issued with an initial price of $212.56. The bond matures in 25 years. What is the implicit interest, in dollars, for the first year of the bond's life? (6.29%)

22. The bonds issued by Stainless Tubs bear a 6 percent coupon, payable semiannually. The bonds mature in 11 years and have a $1,000 face value. Currently, the bonds sell for $989. What is the yield to maturity? (6.14%)

Mid Term (chapters 5, 6, 7,8) due on 11/17/2015

Introduction to bond investing (video)

Treasury Bond Auction and Market information

http://www.treasurydirect.g

Bond risk (video)

Bond risk – credit risk (video)

Bond risk – interest rate risk (video)

Bond risk – how to reduce your risk (video)

Week 4

Chapter 8 Stock Valuation

ppt

from google.com/finance

58.70

+0.21 (0.36%)

After Hours: 58.63 -0.07 (-0.11%)

Nov 10, 4:58PM EST

Range	58.31 - 58.71
52 week	56.77 - 90.97
Open	58.31
Vol / Avg.	7.61M/14.04M
Mkt cap	188.06B
P/E	12.27

Div/yield	0.49/3.34
EPS	4.78
Shares	3.21B
Beta	0.27
Inst. own	31%

How the stock market works

How the market works

Fall of Lehman Brother part i

https://www.youtube.com/watch?v=aPOtQkSiCk8

Fall of Lehman Brother part ii

https://www.youtube.com/watch?v=l0N_FX0kUMI&feature=relmfu

Fall of Lehman Brother part iii

https://www.youtube.com/watch?v=YmZd3vVoPgY&feature=relmfu

Fall of Lehman Brother part iv

https://www.youtube.com/watch?v=FcO_dQCJ3HA&feature=relmfu

Fall of Lehman Brother part v

https://www.youtube.com/watch?v=L4gqzRePtes

Fall of Lehman Brother part vi

https://www.youtube.com/watch?v=Ms_tnEe4wFk&feature=relmfu

1. Comparison between bond and stock

In Millions of USD (except for per share items)	As of 2015-01-31
Total Assets	203,490.00
Total Current Liabilities	65,253.00
Long Term Debt	40,889.00
Capital Lease Obligations	2,606.00
Total Long Term Debt	43,495.00
Total Debt	50,165.00
Deferred Income Tax	8,805.00
Minority Interest	4,543.00
Other Liabilities, Total	-
Total Liabilities	122,096.00
Total Equity	81,394.00
Total Liabilities & Shareholders' Equity	203,490.00

2. Stockholders’ rights

3. Risk and return – where to find how risky the stock is

4. Calculate stock prices

1) Given next dividend and next period price

2) Given all dividends – Dividend growth model

5. Avoid emotional investing

1) Herding

2) Overconfidence

3) Mental accounting

4) Anchoring

5) Gambler’s fallacy

6) Momentum

6. How to pick stocks – Does it work?

PE ratio

PEG ratio (peg ratio vs. PE ratio – video)

Relative Strength Index (How To Profit From The Relative Strength Index - RSI - Like A Pro Part 4)

HOMEWORK (Due on 11/17/2015)

1. Northern Gas recently paid a $2.80 annual dividend on its common stock. This dividend increases at an average rate of 3.8 percent per year. The stock is currently selling for $26.91 a share. What is the market rate of return? (14.60 percent)

2. Douglass Gardens pays an annual dividend that is expected to increase by 4.1 percent per year. The stock commands a market rate of return of 12.6 percent and sells for $24.90 a share. What is the expected amount of the next dividend? ($2.12)
3. IBM just paid $3.00 dividend per share to investors. The dividend growth rate is 10%. What is the expected dividend of the next year? ($3.3)

4. The current market price of stock is $50 and the stock is expected to pay dividend of $2 with a growth rate of 6%. How much is the expected return to stockholders? (10%)

5. Investors of Creamy Custard common stock earns 15% of return. It just paid a dividend of $6.00 and dividends are expected to grow at a rate of 6% indefinitely. What is expected price of Creamy Custard's stock? ($70.67)

Week 5 –

Nov 17

Chapter 9 Capital Budgeting

ppt

NPV, IRR, Payback, PI, MIRR template (excel, simple, my contribution, updated)

NPV Excel syntax

Syntax

NPV(rate,value1,value2, ...)

Rate is the rate of discount over the length of one period.

Value1, value2, ... are 1 to 29 arguments representing the payments and income.

· Value1, value2, ... must be equally spaced in time and occur at the end of each period. NPV uses the order of value1, value2, ... to interpret the order of cash flows. Be sure to enter your payment and income values in the correct sequence.

IRR Excel syntax

Syntax

IRR(values, guess)

Values is an array or a reference to cells that contain numbers for which you want to calculate the internal rate of return.

Guess is a number that you guess is close to the result of IRR.

Chapter 9 Study Guide

Part I: Single project

Consider the following scenario.

You are reviewing a new project and have estimated the following cash flows:

— Year 0: CF = -165,000

— Year 1: CF = 63,120; NI = 13,620

— Year 2: CF = 70,800; NI = 3,300

— Year 3: CF = 91,080; NI = 29,100

Your required return for assets of this risk level is 12%.

1) Using payback period method to make capital budgeting decision.

2) Using discounted payback period method to make capital budgeting decision.

3) Using net present value method (NPV)

4) Using profitable index method (PI)

5) Using the Internal Rate of Return method (IRR)

6) Using modified IRR method (MIRR) – on slide 75

Part II: Multi-Projects

Period	Project A	Project B
0	-500	-400
1	325	325
2	325	200
IRR
NPV

If the required rate of return is 10%. Which project shall you choose?

1) How much is the cross over rate?

2) How is your decision if the required rate of return is 13%?

3) Rule for mutually exclusive projects:

4) What about the two projects are independent?

More on IRR – (non-conventional cash flow) (slide 73)

Suppose an investment will cost $90,000 initially and will generate the following cash flows:

– Year 1: 132,000

– Year 2: 100,000

– Year 3: -150,000

The required return is 15%. Should we accept or reject the project?

1) How does the NPR profile look like?

2) IRR1=

3) IRR2=

Exercise (slide 82)

An investment project has the following cash flows:

CF0 = -1,000,000; C01 – C08 = 200,000 each

If the required rate of return is 12%, what decision should be made using NPV?

How would the IRR decision rule be used for this project, and what decision would be reached?

How are the above two decisions related?

HOMEWORK
Question 1: Project with an initial cash outlay of $20,000 with following free cash flows for 5 years.

Year Cash flows

1 $8,000

2 4,000

3 3,000

4 5,000

5 10,000

1) How much is the payback period (approach one)?

2) If the firm has a 10% required rate of return. How much is NPV (approach 2)?

3) If the firm has a 10% required rate of return. How much is IRR (approach 3)?

4) If the firm has a 10% required rate of return. How much is PI (approach 4)?

Question 2: Project with an initial cash outlay of $60,000 with following free cash flows for 5 years.

Year FCF

Initial outlay –60,000

1 –25,000

2 –24,000

3 13,000

4 12,000

5 11,000

The firm has a 15% required rate of return.

Calculate payback period, NPV, IRR and PI. Analyze your results.

Question 3: Mutually Exclusive Projects

1) Consider the following cash flows for one-year Project A and B, with required rates of return of 10%. You have limited capital and can invest in one but one project. Which one?

§ Initial Outlay: A = $200; B = $1,500

§ Inflow: A = $300; B = $1,900

2) Example: Consider two projects, A and B, with initial outlay of $1,000, cost of capital of 10%, and following cash flows in years 1, 2, and 3:

A: $100 $200 $2,000

B: $650 $650 $650

Which project should you choose if they are mutually exclusive? Independent? Crossover rate?

‘Simple Rules’ for Running a Business

From the 20-page cellphone contract to the five-pound employee handbook, even the simple things seem to be getting more complicated.

Companies have been complicating things for themselves, too—analyzing hundreds of factors when making decisions, or consulting reams of data to resolve every budget dilemma. But those requirements might be wasting time and muddling priorities.

So argues Donald Sull, a lecturer at the Sloan School of Management at the Massachusetts Institute of Technology who has also worked for McKinsey & Co. and Clayton, Dubilier & Rice LLC. In the book Simple Rules: How to Thrive in a Complex World, out this week from Houghton Mifflin Harcourt HMHC -1.36%, he and Kathleen Eisenhardt of Stanford University claim that straightforward guidelines lead to better results than complex formulas.

Mr. Sull recently spoke with At Work about what companies can do to simplify, and why five basic rules can beat a 50-item checklist. Edited excerpts:

WSJ: Where, in the business context, might “simple rules” help more than a complicated approach?

Donald Sull: Well, a common decision that people face in organizations is capital allocation. In many organizations, there will be thick procedure books or algorithms–one company I worked with had an algorithm that had almost 100 variables for every project. These are very cumbersome approaches to making decisions and can waste time. Basically, any decision about how to focus resources—either people or money or attention—can benefit from simple rules.

WSJ: Can you give an example of how that simplification works in a company?

Sull: There’s a German company called Weima GmBH that makes shredders. At one point, they were getting about 10,000 requests and could only fill about a thousand because of technical capabilities, so they had this massive problem of sorting out which of these proposals to pursue.

They had a very detailed checklist with 40 or 50 items. People had to gather data and if there were gray areas the proposal would go to management. But because the data was hard to obtain and there were so many different pieces, people didn’t always fill out the checklists completely. Then management had to discuss a lot of these proposals personally because there was incomplete data. So top management is spending a disproportionate amount of time discussing this low-level stuff.

Then Weima came up with guidelines that the frontline sales force and engineers could use to quickly decide whether a request fell in the “yes,” “no” or “maybe” category. They did it with five rules only, stuff like “Weima had to collect at least 70% of the price before the unit leaves the factory.”

After that, only the “maybes” were sent to management. This dramatically decreased the amount of time management spend evaluating these projects–that time was decreased by almost a factor of 10.

Or, take Frontier Dental Laboratories in Canada. They were working with a sales force of two covering the entire North American market. Limiting their sales guidelines to a few factors that made someone likely to be receptive to Frontier—stuff like “dentists who have their own practice” and “dentists with a website”—helped focus their efforts and increase sales 42% in a declining market.

WSJ: Weima used five factors—is that the optimal number? And how do you choose which rules to follow?

Sull: You should have four to six rules. Any more than that, you’ll spend too much time trying to follow everything perfectly. The entire reason simple rules help is because they force you to prioritize the goals that matter. They’re easy to remember, they don’t confuse or stress you, they save time.

They should be tailored to your specific goals, so you choose the rules based on what exactly you’re trying to achieve. And you should of course talk to others. Get information from different sources, and ask them for the top things that worked for them. But focus on whether what will work for you and your circumstances.

WSJ: Is there a business leader you can point to who has embraced the “simple rules” guideline?

Donald Sull: Let’s look at when Alex Behring took over America Latina Logistica SARUMO3.BR +1.59%, the Brazilian railway and logistics company. With a budget of $15 million, how do you choose among $200 million of investment requests, all of which are valid?

The textbook business-school answer to this is that you run the NPV (net present value) test on each project and rank-order them by NPV. Alex Behring knows this. He was at the top of the class at Harvard Business School.

But instead, he decided what the most important goals were. You can’t achieve everything at once. In their case, their priorities were removing bottlenecks on growing revenues and minimizing upfront expenditure. So when allocating money, they had a bias for projects that both addressed the bottleneck problem and, for example, used existing tracks and trains.

Similarly, the global-health arm of the Gates Foundation gets many, many funding requests. But since they know that their goal is to have the most impact worldwide, they focus on projects in developing countries because that’s where the money will stretch farther.

Net Present Value NPV Explained with

NPV Example for NPV Calculation (Cartoon, video)

https://www.youtube.com/watch?v=7FsGpi_W9XI

Using Excel for Net Present Values, IRR's and MIRR's

https://www.youtube.com/watch?v=YgVQvn51noc

Week 6, 7 –

Nov 24

Chapter 13 Return, Risk and Security Market Line

ppt

Video of Class on 11/24/2015

Study Guide

1. Pick three stocks. Has to be the leading firm in three different industries. (We chose Tesla, Amazon, and Wal-mart)

2. From finance.yahoo.com, collect stock prices of the above firms, in the past five years (Here is the excel solution, from Dec 1st 2010 to Nov 2nd, 2015)

Steps:

Goto finance.yahoo.com

Search for the company

Click on “Historical prices” in the left column on the tope

Change the starting date and ending date to “December 1st, 2014” and “November 2^nd, 2015”, respectively. (last t

Download it to Excel

Delete all inputs, except “adj close” – this is the closing price adjusted for dividend.

(Amazon raw data, Tesla raw data, and Wal-mart raw data are here)

Merge the three datasets (Here is the final dataset with closing prices of the three firms)

3. Evaluate the performance of each stock: average return, and risk (standard deviation) (return and risk results in excel here)

4. Let’s draw a normal distribution CURVE using the average return and the standard deviation of each firm. (here it is in Excel)

Calculate the possibilities of profit or loss levels for each firm. (Excel file here)

5. Now let’s set up portfolio (equally valued portfolio: 1/3 in each stock)

6. Evaluate the performance of the portfolio: return, and risk (portfolio’s return and risk calculation is here)

7. What is your conclusion?

8. Imagine you are rational and hold a highly diversified portfolio: return and risk of this portfolio?

Systematic risk vs. idiosyncratic risk;

Beta and its calculation (Excel calculation is here)

Use slope function to find beta in Excel beta = slope(return of each stock, market return)

9. SML(Security market line) and CAPM (Capital asset pricing model)

Stock return = risk free rate + beta *(market return – risk free rate) ---- CAPM

HOMEWORK:

1. An investor currently holds the following portfolio: He invested 30% of the fund in Apple with Beta equal 1.1. He also invested 40% in GE with Beta equal 1.6. The rest of his fund goes to Ford, with Beta equal 2.2. Use the above information to answer the following questions. The beta for the portfolio is? 1.63. The three month Treasury bill rate (this is risk free rate) is 2%. S&P500 index return is 10% (this is market return). Now calculate the portfolio’s return. 15.04%

2. The three month Treasury bill rate (this is risk free rate) is 2%. S&P500 index return is 10% (this is market return).

2. What is the value of A? 2%

3. What is the value of B? 10%

4. How much is the slope of the above security market line? 8%

5. Your uncle bought Apple in January, year 2000 for $30. The current price of Apple is $480 per share. Assume there are no dividend ever paid. Calculate your uncle’s holding period return. 15 times

6. Your current portfolio’s BETA is about 1.2. Your total investment is worth around $200,000. You uncle just gave you $100,000 to invest for him. With this $100,000 extra funds in hand, you plan to invest the whole $100,000 in additional stocks to increase your whole portfolio’s BETA to 1.5 (Your portfolio now worth $200,000 plus $100,000). What is the average BETA of the new stocks to achieve your goal? (hint: write down the equation of the portfolio’s Beta first) 2.10

Years Market r Stock A Stock B

1 3% 16% 5%

2 -5% 20% 5%

3 1% 18% 5%

4 -10% 25% 5%

5 6% 14% 5%

· Calculate the average returns of the market r and stock A and stock B.

· Calculate the standard deviations of the market, stock A, and stock B.

· Calculate the correlation of stock A and stock B.

· Assume you invest 50% in stock A and 50% in stock B. Calculate the average return and the standard deviation of the portfolio.

· Calculate beta of stock A and beta of stock B, respectively.

Excel Command:

sumproduct(array1, array2)

stdevp(observation1, obv2, obv3,….)

correl(stock 1’s return, stock 2’s return)

beta = slope(stock return, sp500 return)

normdist(X, mean, standard_dev, cumulative)

Normal Distribution Syntax

(https://support.office.com/en-us/article/NORMDIST-function-126db625-c53e-4591-9a22-c9ff422d6d58)

NORMDIST(x,mean,standard_dev,cumulative)

The NORMDIST function syntax has the following arguments:

· X Required. The value for which you want the distribution.

· Mean Required. The arithmetic mean of the distribution.

· Standard_dev Required. The standard deviation of the distribution.

· Cumulative Required. A logical value that determines the form of the function. If cumulative is TRUE, NORMDIST returns the cumulative distribution function; if FALSE, it returns the probability mass function.

Remarks

· If mean or standard_dev is nonnumeric, NORMDIST returns the #VALUE! error value.

· If standard_dev ≤ 0, NORMDIST returns the #NUM! error value.

· If mean = 0, standard_dev = 1, and cumulative = TRUE, NORMDIST returns the standard normal distribution, NORMSDIST.

· The equation for the normal density function (cumulative = FALSE) is: