FIN 500 Class Web Page, Spring '17
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
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Week |
Coverage, HW, Supplements -
Required |
Equations |
Videos (optional) |
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Week 1, 2 |
Market Watch Game Use the information and directions below to join the game. 1. URL for your game: 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! 1. Capital
Flow Chart (pdf) Chapter 5 Time value of
money 1 Week
1 in class exercise (word file) 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 Concept of PMT, NPV Calculation of FV, PV,
Rate, Nper, PMT, NPV, NFV Concept of EAR, APR Calculation of EAR, APR HOMEWORK of Chapters 5 and 6 due on 3/21/2017 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) 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%)
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%)
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) |
Math Formula FV = PV *(1+r)^n PV = FV / ((1+r)^n) N = ln(FV/PV) / ln(1+r) Rate = (FV/PV)1/n -1 Annuity: N = ln(FV/C*r+1)/(ln(1+r)) Or N = ln(1/(1-(PV/C)*r)))/ (ln(1+r))
EAR = (1+APR/m)^m-1 APR = (1+EAR)^(1/m)*m Excel Formulas To get FV, use FV
function. =abs(fv(rate, nper, pmt, pv)) To get PV, use PV
function = abs(pv(rate, nper, pmt, fv)) To get r, use rate
function = rate(nper, pmt, pv, -fv) To get number of years, use nper function = nper(rate, pmt, pv,
-fv) To get annuity payment, use PMT function = pmt(rate, nper, pv, -fv) To get Effective rate (EAR), use
Effect function = effect(nominal_rate, npery) To get annual percentage rate
(APR), use nominal function = nominal(effective rate, npery) |
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
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Week 3 |
Chapter
7 Bond Pricing Simplified Balance Sheet of WalMart
For discussion: · What is this “long term debt”? · Who is the lender of this “long term debt”? So this long term debt is called bond in the financial market.
Where can you find the pricing information and other specifications of the
bond issued by WMT?
How
Bonds Work (video) Investing Basics:
Bonds(video) FINRA – Bond market
information http://finra-markets.morningstar.com/BondCenter/Default.jsp WAL-MART
STORES INC Coupon Rate 3.300 % Maturity Date 04/22/2024
Credit and Rating
Elements
Classification
Elements
Special Characteristics
Issue Elements
For class discussion: Fed has hiked interest rates. So, shall you
invest in short term bond or long term bond? HW due on 4/4/2017 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. (3.22%: coupon=$33 and price
=$1,024.8) 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. 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%) |
Bond Pricing Formula (FYI)
Bond Pricing Excel Formula To calculate bond price in EXCEL
(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 |
Bond Investing - Interest
Rate Risk Is The 35-Year Bull Market
In Bonds Dead? The ‘Godfather of Bonds’ Gary Shilling Responds How To Invest in Bonds
When Rates Are Rising? Fed Hiked Interest Rates,
So Why Are Bond Yields Still So Low? |
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Week 4 |
Mid term (for chapters 5, 6, and 7) will be given
on 3/24 and is due on 4/4. |
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Week 4 |
Chapter
8 Stock Valuation 1.
Introduction from
google.com/finance for Wal-Mart (NYSE:WMT)
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Week 5 |
For
discussion: ·
Stockholders’ rights ·
Risk and return –
where to find how risky the stock is 2. Calculate stock prices 1) Given next dividends and price Po= Po= Po= Po= …… 2) Given all dividends – Dividend growth model Where Po: current stock price;
D1: next period dividend; r: stock return; g: dividend growth rate Exercise: 1. Consider the valuation of a
common stock that paid $1.00 dividend at the end of the last year and is
expected to pay a cash dividend in the future. Dividends are expected to grow
at 10% and the investors required rate of return is 17%. How much is the
price? 2. The current market price of stock
is $90 and the stock pays dividend of $3 with a growth rate of 5%. What is
the return of this stock? 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) HOMEWORK
(Due 4/11) 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) 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) See
the following for the summary of the paper above. Summary of Goldman Sachs 2017
Market Outlook 2017 US
Equity Outlook: Democracy in America and the Triumph of Hope over Fear November 28,
2016 · US
equity investors have focused “more on hope than fear” since Donald Trump’s
election. Ironically, many commentators believe his campaign
rhetoric focused “more on fear than hope.” In 2017, we expect the stock
market will be animated by competing views of whether economic policies and
actions of President Trump and a Republican Congress instill hope or fear. · “Hope”
will dominate through 1Q 2017 as S&P 500 climbs by 9% to 2400. The
inauguration occurs on January 20 and our Washington economist expects much
legislation will be proposed during the first 100 days. The prospect of lower
corporate taxes, repatriation of overseas cash, reduced regulations, and
fiscal stimulus has already led investors to expect positive EPS revisions.
Instead of our baseline adjusted EPS growth of 5% to $123, growth could
accelerate to 11% and reach $130, which would support a P/E multiple above
18x. Top “Hope” investment recommendations: (1) Cyclicals
vs. Defensives; (2) Stocks with high US versus foreign sales exposure; and
(3) High tax rate companies. · “Fear”
is likely to pervade during 2H and S&P 500 will end 2017 at 2300, roughly
5% above the current level. Our economists expect inflation will
reach the Fed’s 2% target, labor costs will be accelerating at an even faster
pace, and policy rates will be 100 bp higher than
today. Rising inflation and bond yields typically lead to a falling P/E
multiple. Congressional deficit hawks may constrain Mr. Trump’s tax reform
plans and the EPS boost investors expect may not materialize. Potential
tariffs and uncertainty around other policy positions may raise the equity
risk premium and lead to lower stock valuations in 2H. The median stock
trades at the 98th percentile of historical valuation based on an array of
metrics. Top “Fear” investment recommendations: (1) Low vs. High labor cost
companies; and (2) Strong vs. Weak Balance Sheet stocks. · Money
flow represents a potential upside to our baseline forecast. Equity
mutual fund and ETF inflows may benefit as investors lose money owning bonds.
After years of active management underperformance and outflows, higher return
dispersion will increase the alpha opportunity for investors skilled enough
to capture it. Economic policy uncertainty and the later stages of the
economic cycle are typically associated with higher stock return dispersion. DEMOCRACY IN
AMERICA AND THE TRIUMPH OF HOPE OVER FEAR More than
180 years after it was first published, Alexis de Tocqueville’s
Democracy in America remains the most insightful analysis of US society and
its political economy. Although written in 1835, his description of the
presidential elections is timeless: “For a long while before the appointed
time has come, the election becomes the important and, so to speak, the
all-engrossing topic of discussion. Factional ardor is redoubled, and all the
artificial passions which the imagination can create in a happy and peaceful
land are agitated and brought to light. . . . As the election
draws near, the activity of intrigue and the agitation of the populace
increase; the citizens are divided into hostile camps, each of which assumes
the name of its favorite candidate; the whole nation glows with feverish
excitement; the election is the daily theme of the press, the subject of
private conversation, the end of every thought and every action, the sole
interest of the present. It is true that as soon as the choice is determined,
this ardor is dispelled, calm returns, and the river, which had nearly broken
its banks, sinks to its usual level; but who can refrain from astonishment
that such a storm should have arisen.” (Alexis de Tocqueville, Democracy in
America, originally published 1835). The words
above perfectly characterize the nature of the 2016 election and the
unexpected victory of Donald Trump. Another observation of de Tocqueville has
particular relevance to our 2017 US equity outlook: “One of the principal
vices of the elective system is that it always introduces a certain degree of
instability into the internal and external policy of the estate.” Policy
uncertainty introduces a degree of instability to our 2017 forecast that has
been absent in recent years. Of course, last year any reference to “policy
uncertainty” would have related to the Fed’s own projections that it would
raise the funds rate four times during 2016, although as of this writing it
has not tightened even one time (but a hike is widely expected on December
14). Uncertainty
always exists when forecasting, but our projections for next year have more
elements of instability than usual. Tax reform is widely anticipated but details of
any corporate tax cuts are unknown. Policies on the repatriation of foreign
earnings are unknown. Specifics regarding any aspect of fiscal stimulus are
unknown. President-elect Trump has promised to reduce regulations, but
specific policies have not yet been identified. We expect no
policy details will be available until March 2017 at the earliest. Our Washington, DC-based
economist Alec Phillips anticipates draft budget resolutions from the House
and Senate Budget Committees will be released towards the end of 1Q. These
resolutions will show the top-line revenue, spending, and deficit projections
for the next 10 years and include reconciliation instructions for the
tax-writing and other committees relating to tax reform, infrastructure, and
other fiscal issues. (see US Daily: A
Fiscal Boost in 2017: How Much, How Fast?, November 17, 2016) In March or
April, our economist expects President Trump will submit a FY 2018 spending
bill with detail on tax reform and health care proposals. Between April and July the
actual budget resolutions will be debated on the floor of the House and
Senate, the tax-writing committees will begin work on detailed legislation,
and both chambers will consider the actual tax reform legislation. In
September, the final House/Senate conference report will be enacted before
the October 1 start of FY 2018. Note that many of the details of tax reform are
likely to change until final agreement is reached. Put simply, enormous tax
and fiscal policy uncertainty will exist for almost all of 2017. Trade is
another area of great policy uncertainty. Reflecting on the Great Convention of 1831
relating to the tariff, de Tocqueville wrote: “The question of a tariff or
free trade has much agitated the minds of Americans. The tariff was not only
the subject of debate as a matter of opinion, but it affected some great
material interests of the states.” The issues de Tocqueville identified
nearly 200 years ago remain contemporary. The revenue impact on individual
companies from potential tariffs, trade barriers, or a border-adjusted tax
system will remain unknown until details are released by the new
administration. We end our
political discussion on a hopeful note after cautioning investors about the
unusual uncertainty surrounding our 2017 forecast. As de Tocqueville observed:
“The President is chosen for four years, and he may be re-elected, so that
the chances of a future administration may inspire him with hopeful
undertakings for the public good and give him the means of carrying them into
execution.” In some
ways, the market response to the election of Donald Trump parallels the
market’s heightened expectations following the December 2012 election of Shinzo Abe as the Prime Minister of Japan. After years of economic
stagnation, Japan finally elected a politician committed to reflating the economy. Investors cheered and the TOPIX
rallied by 6% during the ten days between the election and when he took
office, and then surged by more than 50% within five months. We expect
S&P 500 will rally during the next four months by a relatively modest 9%. OUR 2017 US
EQUITY FORECAST ASSUMES THE FOLLOWING: 1. Earnings.
S&P 500 operating EPS will grow by 10% to $116 in 2017 and adjusted EPS
will increase by 5% to $123.Investors are excited about a prospective cut
in corporate taxes that could boost adjusted EPS to perhaps $130,
representing growth of 11%. However, our economists are skeptical that all
the anticipated tax cuts will take place given the federal budget deficit
constraints. Some tax reform will take place and upside exists to our
baseline EPS forecast but it will be less than many investors now expect. 2. Inflation
and interest rates. In terms of inflation, core PCE will reach the
Fed’s 2% objective by the end of next year. The Fed will hike interest rates
next month and three additional times in 2017. Ten-year US Treasury yields
will rise to 2.75%. 3. Valuation. S&P
500 currently trades at 19x our forward top-down operating EPS estimate, 18x
our forward top-down adjusted EPS and 17x our upside adjusted EPS scenario.
The market trades at 17x forward consensus bottom-up adjusted EPS. US
equities are highly valued relative to history on most metrics and versus
inflation and interest rates. We forecast static valuation during the next 12
months. 4. Path
and target. We expect the S&P 500 index will rise to 2400 (+9%)
by the end of 1Q as investors embrace the possibility that lower taxes will
lead to positive EPS revisions. But less-than-expected tax cuts and higher
inflation and interest rates will limit both upward EPS revisions and any P/E
multiple expansion. S&P 500 will end next year at 2300, reflecting a
price gain of 5% and a total return of 7% including dividends. 5. Buybacks
and dividends. Buybacks will rise by 30% as companies repatriate
cash held overseas. Dividends will rise by 6% in 2017, above the 4% growth
rate currently implied by the dividend swap market. 6. “Hope”
vs. “Fear” strategies: “Hope” will dominate during the first part of
2017 as Cyclicals beat Defensives. Firms with high
domestic sales will outperform along with companies with high tax rates.
“Fear” will dominate later in the year when investors focus on rising
inflation and interest rates. Low labor cost and strong balance sheet firms
will outperform. This outlook
was authored by GS Global Investment Research team.
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Stock screening tools · Reuters stock screener to help select stocks http://stockscreener.us.reuters.com/Stock/US/ · FINVIZ.com http://finviz.com/screener.ashx · WSJ stock screen http://online.wsj.com/public/quotes/stock_screener.html · Simply the Web's Best Financial Charts You can find analyst
rating from MSN money For instance, ANALYSTS RATINGS Zacks average brokerage recommendation is Moderate Buy
How to pick stocks Capital Asset Pricing
Model (CAPM)Explained https://www.youtube.com/watch?v=JApBhv3VLTo Ranking stocks using
PEG ratio https://www.youtube.com/watch?v=bekW_hTehNU Summary of stock screening
rules from class discussion PEG<1 PE<15 (? FB’s PE>100?) Growth
rate<20 ROE>10% Analyst
ranking: strong buy only Zacks average =1 (from Ranking stocks using
PEG ratio) current
price>5 |
Useful website money.msn.com/investing zacks.com minyanville.com moneychimp.com navellier.investor.com/portfolio-grader/ nasdaq.com marketwatch.com superstockscreener.com gurufocus.com portfoliomoney.com stockconsultant.com marketgrader.com moderngraham.com stockpickr.com stockta.com thestreet.com askstockguru.com quotes.wsj.com oldschoolvalue.com fool.com analystratings.com barchart.com stock2own.com theonlineinvestor.com seekingalpha.com |
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Week 6 |
Chapter 9 Capital Budgeting 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) (answer: $12,627.41) 4) Using profitable index
method (PI) (answer: 1.077) 5) Using the Internal Rate of
Return method (answer: 16.13%) 6) Using modified IRR method
(MIRR, using 12% for both investment rate and financing rate. Answer: 14.79%) Part II:
Multi-Projects
If the required rate of return is 10%. Which project shall you
choose? 1) How much is the cross over
rate? (answer: 11.8%) 2) How is your decision if
the required rate of return is 13%? (answer:
NPV of B>NPV of A) ·
Rule for mutually exclusive projects: (answer: Choose B) ·
What about the two projects are independent? (answer: Choose both) More on IRR – (non-conventional cash
flow) 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
NPV profile look like? (Answer:
Inverted) 2) IRR1= 10.11% -- answer 3) IRR2= 42.66% -- answer Exercise
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(Due on 4/18) 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)? ---- 4 years 2) If
the firm has a 10% required rate of return. How much is NPV (approach
2)?-- $2456.74 3) If
the firm has a 10% required rate of return. How much is IRR (approach
3)? ---- 14.55% 4) If
the firm has a 10% required rate of return. How much is PI (approach
4)? ---- 1.12 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? Chapter
14 Cost of Capital ppt A firm borrows money from bond market. The
price they paid is $950 for the bond with 5% coupon rate and 10 years to
mature. Flotation cost is $40. For the
new stocks, the expected dividend is $2 with a growth rate of 10% and price
of $40. The flotation cost is $4. The company raises capital in equal proportions
i.e. 50% debt and 50% equity (such as total $1m raised and half million is
from debt market and the other half million is from stock market). Tax rate
34%. What is WACC (weighted average cost of capital,
cost of capital)? 1) Why does the firm raise capital from the financial market? Is there of any costs of doing so? What do you think? 2) What is cost of debt? (Kd = rate(nper, coupon, -(price – flotation costs $)), 1000)*(1-tax rate)) 3) Cost of equity? (Ke = (D1/(Price – flotation costs $)) +g, or Ke = Rrf + Beta*MRP)) Why no tax adjustment like cost of debt? 4) WACC=Cost of capital = Percentage of Debt * cost of debt + percentage of stock * cost of stock = Wd*Kd + We* Ke Meaning:
For a dollar raised in the capital market from debt holders and stockholders,
the cost is WACC (or WACC * 1$ = several cents, and of course, the lower the
better but many companies do not have good credits) No
homework for chapter 14 |
‘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 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. FYI- The application of IRR in
academic studies A study in return of education by Si, Foley, Boylan, and Cebula. |
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 |
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Week 7 |
Chapter 13 Return, Risk and Security Market
Line Video
of Class on 11/24/2015 (FYI) Study
Guide 1. Pick
three stocks. Has to be the leading firm in three different industries. (We chose Tesla, MNKD, 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 March 2011 to April
2016) 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 “April 13th, 2016” and “April 13th, 2011”, respectively.
(Download it to Excel Delete all inputs, except “adj close” – this is the closing price adjusted for
dividend. (Tesla raw data, Wal-mart raw data , MNKD
raw data, and SP500 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 and the portfolio (1/3 of
investment in each stock)
5. What
is your conclusion? 6. 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 Use
slope function to find beta in Excel
beta = slope(return of each stock, market return)
7. 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 7. 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. |
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Week 8 |
Final (Take Home. Exam will be given
on 4/21 and due on 4/30) |
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