FIN534 Class Web Page, Fall '18

Jacksonville University

Instructor: Maggie Foley

The Syllabus

Term Project (due in week 6)  (references from prior semesters: 1  2  )

 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

 

Miscellaneous

Week1

Marketwatch Stock Trading Game (Pass code: havefun)

(game will start on 10/22/2018 and will end on 12/5/2018)

Use the information and directions below to join the game.

1.     URL for your game: 
http://www.marketwatch.com/game/jufi534-18f

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!

 

 

 

Chapter 2 Financial Statements

 

ppt

Topics in Chapter 2:

  • Introduction of Financial Statement
  • Firm’s Intrinsic Value
  • Balance Sheet
  • Income Statement

 

·        Experts explain: Financial Statements  (video)  

(https://www.wsj.com/video/experts-explain-financial-statements/BEF70E1D-5B33-405B-AA48-001E2C311B51.html#%21BEF70E1D-5B33-405B-AA48-001E2C311B51)

·        Finviz.com/screener for ratio analysis (https://finviz.com/screener.ashx) 

 

Chapter 3 Analysis of Financial Statements

 

ppt  

Topics in Chapter 3:

  1. Ratio analysis
  2. DuPont equation
  3. Benchmarking for ratio analysis
  4. Limitations of ratio analysis
  5. Qualitative factors

 

·         Ratio Formulas  

·         Chapter 3 Tool Kit 

·         DuPont identity:  video 

ROE = (net income / sales) * (sales / assets) * (assets / shareholders' equity)

This equation for ROE breaks it into three widely used and studied components:

ROE = (net profit margin) * (asset turnover) * (equity multiplier)

 

Nike Income Statement (values in 000's)

Period Ending:

Trend

5/31/2018

5/31/2017

5/31/2016

5/31/2015

Total Revenue

$36,397,000

$34,350,000

$32,376,000

$30,601,000

Cost of Revenue

$20,441,000

$19,038,000

$17,405,000

$16,534,000

Gross Profit

$15,956,000

$15,312,000

$14,971,000

$14,067,000

Operating Expenses

Research and Development

$0

$0

$0

$0

Sales, General and Admin.

$11,511,000

$10,563,000

$10,469,000

$9,892,000

Non-Recurring Items

$0

$0

$0

$0

Other Operating Items

$0

$0

$0

$0

Operating Income

$4,445,000

$4,749,000

$4,502,000

$4,175,000

Add'l income/expense items

($66,000)

$196,000

$140,000

$58,000

Earnings Before Interest and Tax

$4,325,000

$4,886,000

$4,623,000

$4,205,000

Interest Expense

$0

$0

$0

$0

Earnings Before Tax

$4,325,000

$4,886,000

$4,623,000

$4,205,000

Income Tax

$2,392,000

$646,000

$863,000

$932,000

Minority Interest

$0

$0

$0

$0

Equity Earnings/Loss Unconsolidated Subsidiary

$0

$0

$0

$0

Net Income-Cont. Operations

$1,933,000

$4,240,000

$3,760,000

$3,273,000

Net Income

$1,933,000

$4,240,000

$3,760,000

$3,273,000

 

 

 

Nike Balance Sheet (values in 000's)

Period Ending:

Trend

5/31/2018

5/31/2017

5/31/2016

5/31/2015

Current Assets

Cash and Cash Equivalents

$4,249,000

$3,808,000

$3,138,000

$3,852,000

Short-Term Investments

$996,000

$2,371,000

$2,319,000

$2,072,000

Net Receivables

$3,498,000

$3,677,000

$3,241,000

$3,358,000

Inventory

$5,261,000

$5,055,000

$4,838,000

$4,337,000

Other Current Assets

$1,130,000

$1,150,000

$1,489,000

$1,968,000

Total Current Assets

$15,134,000

$16,061,000

$15,025,000

$15,587,000

Long-Term Assets

Long-Term Investments

$0

$0

$0

$0

Fixed Assets

$4,454,000

$3,989,000

$3,520,000

$3,011,000

Goodwill

$154,000

$139,000

$131,000

$131,000

Intangible Assets

$285,000

$283,000

$281,000

$281,000

Other Assets

$0

$0

$0

$0

Deferred Asset Charges

$2,509,000

$2,787,000

$2,422,000

$2,587,000

Total Assets

$22,536,000

$23,259,000

$21,379,000

$21,597,000

Current Liabilities

Accounts Payable

$5,698,000

$5,143,000

$5,313,000

$6,151,000

Short-Term Debt / Current Portion of Long-Term Debt

$342,000

$331,000

$45,000

$181,000

Other Current Liabilities

$0

$0

$0

$0

Total Current Liabilities

$6,040,000

$5,474,000

$5,358,000

$6,332,000

Long-Term Debt

$3,468,000

$3,471,000

$1,993,000

$1,079,000

Other Liabilities

$0

$0

$0

$0

Deferred Liability Charges

$3,216,000

$1,907,000

$1,770,000

$1,479,000

Misc. Stocks

$0

$0

$0

$0

Minority Interest

$0

$0

$0

$0

Total Liabilities

$12,724,000

$10,852,000

$9,121,000

$8,890,000

Stock Holders Equity

Common Stocks

$3,000

$3,000

$3,000

$3,000

Capital Surplus

$6,384,000

$5,710,000

$7,786,000

$6,773,000

Retained Earnings

$3,517,000

$6,907,000

$4,151,000

$4,685,000

Treasury Stock

$0

$0

$0

$0

Other Equity

($92,000)

($213,000)

$318,000

$1,246,000

Total Equity

$9,812,000

$12,407,000

$12,258,000

$12,707,000

Total Liabilities & Equity

$22,536,000

$23,259,000

$21,379,000

$21,597,000

 

 

 

Nike Cash Flow Statement  (values in 000's)

Period Ending:

Trend

5/31/2018

5/31/2017

5/31/2016

5/31/2015

Net Income

$1,933,000

$4,240,000

$3,760,000

$3,273,000

Cash Flows-Operating Activities

Depreciation

$774,000

$716,000

$662,000

$649,000

Net Income Adjustments

$766,000

($175,000)

$254,000

$502,000

Changes in Operating Activities

Accounts Receivable

$187,000

($426,000)

$60,000

($216,000)

Changes in Inventories

($255,000)

($231,000)

($590,000)

($621,000)

Other Operating Activities

$35,000

($120,000)

($161,000)

($144,000)

Liabilities

$1,515,000

($158,000)

($586,000)

$1,237,000

Net Cash Flow-Operating

$4,955,000

$3,846,000

$3,399,000

$4,680,000

Cash Flows-Investing Activities

Capital Expenditures

($1,028,000)

($1,105,000)

($1,143,000)

($963,000)

Investments

$1,326,000

$118,000

$93,000

$785,000

Other Investing Activities

($22,000)

($21,000)

$16,000

$3,000

Net Cash Flows-Investing

$276,000

($1,008,000)

($1,034,000)

($175,000)

Cash Flows-Financing Activities

Sale and Purchase of Stock

($3,521,000)

($2,734,000)

($2,731,000)

($2,020,000)

Net Borrowings

($29,000)

$1,421,000

$868,000

($26,000)

Other Financing Activities

($55,000)

($29,000)

($22,000)

$0

Net Cash Flows-Financing

($4,835,000)

($2,148,000)

($2,974,000)

($2,790,000)

Effect of Exchange Rate

$45,000

($20,000)

($105,000)

($83,000)

Net Cash Flow

$441,000

$670,000

($714,000)

$1,632,000

 

  

 

 

 

Nike Stock price chart in the past four years

 image019.jpg

 

 

 

 

 

 

Nike ---  Valuation

P/E Current

70.74

P/E Ratio (w/o extraordinary items)

61.37

Price to Sales Ratio

3.28

Price to Book Ratio

11.72

Price to Cash Flow Ratio

24.04

Enterprise Value to EBITDA

25.71

Enterprise Value to Sales

3.62

Total Debt to Enterprise Value

0.03

Efficiency

Revenue/Employee

497,442.00

Income Per Employee

26,443.00

Receivables Turnover

10.14

Total Asset Turnover

1.59

Liquidity

Current Ratio

2.51

Quick Ratio

1.63

Cash Ratio

0.87

Profitability

Gross Margin

44.03

Operating Margin

12.38

Pretax Margin

11.89

Net Margin

5.32

Return on Assets

8.44

Return on Equity

17.4

Return on Total Capital

30.17

Return on Invested Capital

13.26

Capital Structure

Total Debt to Total Equity

38.83

Total Debt to Total Capital

27.97

Total Debt to Total Assets

16.91

Long-Term Debt to Equity

35.34

Long-Term Debt to Total Capital

25.46

www.marketwatch.com

 

 

For class discussion:

Between Nike and GoPro, which company is worth investing? But are you sure? Is GoPro over-valued? Or under-valued? And what about Nike?

 

 

Homework of Week 1 – No homework assignment

 

  FYI:

Below are Benjamin Graham’s seven time-tested criteria to identify strong value stocks.

https://cabotwealth.com/daily/value-investing/benjamin-grahams-value-stock-criteria/

Value Stock Criteria List:

VALUE CRITERIA #1:

Look for a quality rating that is average or better. You don’t need to find the best quality companiesaverage or better is fine. Benjamin Graham recommended using Standard & Poors rating system and required companies to have an S&P Earnings and Dividend Rating of B or better. The S&P rating system ranges from D to A+. Stick to stocks with ratings of B+ or better, just to be on the safe side.

VALUE CRITERIA #2:

Graham advised buying companies with Total Debt to Current Asset ratios of less than 1.10. In value investing it is important at all times to invest in companies with a low debt load. Total Debt to Current Asset ratios can be found in data supplied by Standard & Poors, Value Line, and many other services.

VALUE CRITERIA #3:

Check the Current Ratio (current assets divided by current liabilities) to find companies with ratios over 1.50. This is a common ratio provided by many investment services.

 

 

 

 

 

 

 

 

 

 

 

Balance Sheet Template  

http://www.jufinance.com/10k/bs

 

Income Statement Template  

http://www.jufinance.com/10k/is

 

 

Cash flow template

http://www.jufinance.com/10k/cf

 

 

Ratio Analysis   (plus balance sheet, income statement)

https://www.jufinance.com/ratio

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

GoPro Income Statement (values in 000's)

Period Ending:

Trend

12/31/2017

12/31/2016

12/31/2015

12/31/2014

Total Revenue

$1,179,741

$1,185,481

$1,619,971

$1,394,205

Cost of Revenue

$795,211

$723,561

$946,757

$766,970

Gross Profit

$384,530

$461,920

$673,214

$627,235

Operating Expenses

Research and Development

$229,265

$358,902

$241,694

$151,852

Sales, General and Admin.

$318,725

$475,987

$376,772

$288,348

Non-Recurring Items

$0

$0

$0

$0

Other Operating Items

$0

$0

$0

$0

Operating Income

($163,460)

($372,969)

$54,748

$187,035

Add'l income/expense items

$733

$787

($588)

($6,060)

Earnings Before Interest and Tax

($162,727)

($372,182)

$54,160

$180,975

Interest Expense

$13,660

$2,992

$1,575

$0

Earnings Before Tax

($176,387)

($375,174)

$52,585

$180,975

Income Tax

$6,486

$43,829

$16,454

$52,887

Minority Interest

$0

$0

$0

$0

Equity Earnings/Loss Unconsolidated Subsidiary

$0

$0

$0

$0

Net Income-Cont. Operations

($182,873)

($419,003)

$36,131

$128,088

Net Income

($182,873)

($419,003)

$36,131

$128,088

 

 

 

GoPro Balance Sheet (values in 000's)

Period Ending:

Trend

12/31/2017

12/31/2016

12/31/2015

12/31/2014

Current Assets

Cash and Cash Equivalents

$202,504

$192,114

$279,672

$319,929

Short-Term Investments

$44,886

$25,839

$194,386

$102,327

Net Receivables

$112,935

$164,553

$145,692

$183,992

Inventory

$150,551

$167,192

$188,232

$153,026

Other Current Assets

$62,811

$38,115

$25,261

$63,769

Total Current Assets

$573,687

$587,813

$833,243

$823,043

Long-Term Assets

Long-Term Investments

$0

$0

$0

$0

Fixed Assets

$68,587

$76,509

$70,050

$41,556

Goodwill

$146,459

$146,459

$57,095

$14,095

Intangible Assets

$24,499

$33,530

$31,027

$2,937

Other Assets

$37,014

$78,329

$111,561

$36,060

Deferred Asset Charges

$0

$0

$0

$0

Total Assets

$850,246

$922,640

$1,102,976

$917,691

Current Liabilities

Accounts Payable

$351,287

$416,351

$282,435

$244,747

Short-Term Debt / Current Portion of Long-Term Debt

$0

$0

$0

$0

Other Current Liabilities

$19,244

$14,388

$12,742

$14,022

Total Current Liabilities

$370,531

$430,739

$295,177

$258,769

Long-Term Debt

$130,048

$0

$0

$0

Other Liabilities

$50,962

$44,956

$35,766

$17,718

Deferred Liability Charges

$0

$0

$0

$0

Misc. Stocks

$0

$0

$0

$0

Minority Interest

$0

$0

$0

$0

Total Liabilities

$551,541

$475,695

$330,943

$276,487

Stock Holders Equity

Common Stocks

$854,452

$757,226

$663,311

$533,000

Capital Surplus

$0

$0

$0

$0

Retained Earnings

($442,134)

($274,668)

$144,335

$108,204

Treasury Stock

($113,613)

($35,613)

($35,613)

$0

Other Equity

$0

$0

$0

$0

Total Equity

$298,705

$446,945

$772,033

$641,204

Total Liabilities & Equity

$850,246

$922,640

$1,102,976

$917,691

  

 

 

GoPro Cash flow Statement (values in 000's)

Period Ending:

Trend

12/31/2017

12/31/2016

12/31/2015

12/31/2014

Net Income

($182,873)

($419,003)

$36,131

$128,088

Cash Flows-Operating Activities

Depreciation

$41,478

$41,640

$28,981

$17,945

Net Income Adjustments

$65,482

$136,895

$45,291

($20,790)

Changes in Operating Activities

Accounts Receivable

$52,278

($18,816)

$38,313

($61,323)

Changes in Inventories

$16,641

$21,040

($35,005)

($41,033)

Other Operating Activities

$9,303

($14,618)

($23,281)

($30,317)

Liabilities

($39,162)

$145,109

$67,181

$104,352

Net Cash Flow-Operating

($36,853)

($107,753)

$157,611

$96,922

Cash Flows-Investing Activities

Capital Expenditures

($24,061)

($43,627)

($51,245)

($27,210)

Investments

($19,036)

$167,266

($95,327)

($102,744)

Other Investing Activities

$0

($104,353)

($65,405)

($3,950)

Net Cash Flows-Investing

($43,097)

$19,286

($211,977)

($133,904)

Cash Flows-Financing Activities

Sale and Purchase of Stock

($68,249)

$9,664

$259

$294,367

Net Borrowings

$175,000

$0

$0

($114,000)

Other Financing Activities

($12,193)

($7,839)

($13,942)

($2,000)

Net Cash Flows-Financing

$88,594

$1,955

$15,665

$255,501

Effect of Exchange Rate

$1,746

($1,046)

($1,556)

$0

Net Cash Flow

$10,390

($87,558)

($40,257)

$218,519

 

  

 

 

 

GoPro Stock price chart in the past four years

image020.jpg

 

  

GoPro ---

Valuation

P/E Current

-5.55

P/E Ratio (with extraordinary items)

-6.59

Price to Sales Ratio

0.89

Price to Book Ratio

3.47

Enterprise Value to EBITDA

-10.29

Enterprise Value to Sales

0.83

Total Debt to Enterprise Value

0.14

Efficiency

Revenue/Employee

926,741.00

Income Per Employee

-143,655.00

Receivables Turnover

8.5

Total Asset Turnover

1.33

Liquidity

Current Ratio

1.55

Quick Ratio

1.14

Cash Ratio

0.67

Profitability

Gross Margin

34.86

Operating Margin

-11.37

Pretax Margin

-14.95

Net Margin

-15.5

Return on Assets

-20.63

Return on Equity

-49.05

Return on Total Capital

-30.64

Return on Invested Capital

-41.77

Capital Structure

Total Debt to Total Equity

43.54

Total Debt to Total Capital

30.33

Total Debt to Total Assets

15.3

Long-Term Debt to Equity

43.54

Long-Term Debt to Total Capital

30.33

www.marketwatch.com

 

 

 

 

 

 

VALUE CRITERIA #4:

Criteria four is simple: Find companies with positive earnings per share growth during the past five years with no earnings deficits. Earnings need to be higher in the most recent year than five years ago. Avoiding companies with earnings deficits during the past five years will help you stay clear of high-risk companies.

 

VALUE CRITERIA #5:

Invest in companies with price to earnings per share (P/E) ratios of 9.0 or less. Look for companies that are selling at bargain prices. Finding companies with low P/Es usually eliminates high growth companies, which should be evaluated using growth investing techniques.

VALUE CRITERIA #6:

Find companies with price to book value (P/BV) ratios less than 1.20. P/E ratios, mentioned in rule 5, can sometimes be misleading. P/BV ratios are calculated by dividing the current price by the most recent book value per share for a company. Book value provides a good indication of the underlying value of a company. Investing in stocks selling near or below their book value makes sense.

VALUE CRITERIA #7:

Invest in companies that are currently paying dividends. Investing in undervalued companies requires waiting for other investors to discover the bargains you have already found. Sometimes your wait period will be long and tedious, but if the company pays a decent dividend, you can sit back and collect dividends while you wait patiently for your stock to go from undervalued to overvalued.

One last thought. We like to find out why a stock is selling at a bargain price. Is the company competing in an industry that is dying? Is the company suffering from a setback caused by an unforeseen problem? The most important question, though, is whether the company’s  problem is short-term or long-term and whether management is aware of the problem and taking action to correct it. You can put your business acumen to work to determine if management has an adequate plan to solve the company’s current problems.

Week 2

Chapter 1 An Overview of Financial Management 

ppt  

 

Concepts:

Primary market vs. secondary market

Money market security vs. stock vs. bond

Goal of a corporation

IPO vs. SEO vs. Going private

NYSE vs. NASDAQ

Agency problem

Investment bank vs. commercial bank

Intrinsic value vs. market value

FCF vs. Earning

image006.gif

image007.png

Let’s focus on Amazon, Apple, and Tesla.

1.      The history of the three firms? Who provide capitals to them before they went for IPO?

2.      When do they IPO? SEO? Do they have debts?

3.      Any differences in board structure among the three firms? CEO? Do you trust them? Any agency problems in those firms? What can you do to eliminate the agency problems?

4.      Their WACC? Which one has the highest WACC? The lowest one? Make sense?

5.      Their intrinsic value? Market value?

 

Let’s give it a try to calculate the intrinsic values of the three firms using the above equation. What is your conclusion?

 

Free Cash Flow of Amazon

https://www.zacks.com/stock/chart/AMZN/fundamental/free-cash-flow-ttm

 

Fiscal year is January-December. All values USD millions.

2013

2014

2015

2016

2017

 

 Free Cash Flow

2.03B

1.95B

7.33B

9.71B

6.48B

 

https://www.marketwatch.com/investing/stock/amzn/financials/cash-flow

 

 

Note:

The Company's trailing twelve month (TTM) Free Cash Flow is a measure of financial performance and represents the cash that a company is able to generate after factoring the money required to maintain or expand its asset base. Free cash flow is important because it allows a company to pursue opportunities that enhance shareholder value.

 

Free Cash Flow

= net income + depreciation and amortization - capital expenditures. 

 

6.      Read the attached article about Amazon and its acquisition of whole food. Do you think that it is a value creation deal? Or opposite? If you have Amazon stocks, do you vote for this deal or not?

Whole foods and Jana Harvard Business Case Study (FYI)

7.      Apple acquires Tesla. Do you think that it is possible?

8.      How can a firm increase its intrinsic value? Its market value?

Apple not buying stake in Tesla would be 'biggest mistake of Tim Cook's career': Strategist (video)

9.      What is the role of hedge funds? Investment banks? Other shareholder activists?

10.  The role of the government?

The government just gave its explanation for appealing the $85 billion AT&T-Time Warner merger (video)

11.  The stocks are changing hands among investors in the secondary market, not in the primary market. Why are CEOs so worried for stock market performance?

12.  Why do firms borrow for long term in bond market, not for short term from banks?

 

Homework Questions on Page 54 (due with mid term)

1(a-i), 2, 3, 4, 5, 6, 7, 8, 10 (as follows)

(1-1)           Define each of the following terms: a. Proprietorship; partnership; corporation; charter; bylaws b. Limited partnership; limited liability partnership; professional corporation c. Stockholder wealth maximization d. Money market; capital market; primary market; secondary market e. Private markets; public markets; derivatives f. Investment bank; financial services corporation; financial intermediary g. Mutual fund; money market fund h. Physical location exchange; computer/telephone network i. Open outcry auction; dealer market; automated trading 

(1-2)           What are the three principal forms of business organization? What are the advantages and disadvantages of each?

(1-3)            What is a firm’s fundamental value (which is also called its intrinsic value)? What might cause a firm’s intrinsic value to be different from its actual market value?

(1-4)            Edmund Corporation recently made a large investment to upgrade its technology. Although these improvements won’t have much of an impact on performance in the short run, they are expected to reduce future costs significantly. What impact will this investment have on Edmund’s earnings per share this year? What impact might this investment have on the company’s intrinsic value and stock price?

(1-5)           Describe the ways in which capital can be transferred from suppliers of capital to those who are demanding capital.

(1-6)           What are financial intermediaries, and what economic functions do they perform?

(1-7)           Is an initial public offering an example of a primary or a secondary market transaction?

(1-8)           Contrast and compare trading in face-to-face auctions, dealer markets, and automated trading platforms.

(1-9)           What are some similarities and differences between the NYSE and the NASDAQ Stock Market?

 

Chapter 4 Time Value of Money

ppt  

 

Topics:

n  Future Value and Compounding

n  Present Value and Discounting

n  Rates of Return/Interest Rates

n  Amortization

 

Summary of this chapter

·         Time value of money is regarded as the most basic and the most important knowledge for finance. There are five factors associated with the time value of money: interest rate, time remaining for investment, periodical payment, present value, and future value. Any of these four values can be considered while trying to identify the fifth aspect, by using equations, calculators, or Excel worksheet. Examples can be viewed on the powerpoint slides.

·         Let us focus on the amortization table. The template is available.

·         Anytime you want to get a loan to buy a car or a house; you can request a copy of the amortization table from your banker. The table shows you the value of your monthly payments, and you will be able to determine from each payment, the value of interest charged and how much will be paid into your account. Furthermore, from the table, you can determine the remaining balance of the loan for the subsequent months.

·         How to generate an amortization table independently?

·         You can use this template.

·         The input information should be included in the top part of this template. The APR is the annual percentage rate. The frequency refers to how many times the value is compounded in a year. The loan amount is the total value of the loan. The loan term refers to the duration of the loan. After analyzing the input segment, the analysis section will show the periodical rate and the total number of periods for the loan as well as the periodical payment.

·         The last part of this table represents the actual amortization table. The initial balance shows the value of the loan before a payment is made. The next column shows the periodic payment. It is the fixed amount of the different periods. The interest payment indicates how much is paid as interest. It is calculated by multiplying the initial balance by the periodic interest rate. Since the loan balance is reduced after each payment, the interest payment also reduces. The section repayment of principal indicates how much is paid into your account. It is the difference between the periodic payment and the payments made as interest. The ending balance shows the remaining debt. It is the difference between the initial balance and the repayment of principal. The ending balance will eventually become zero after all the scheduled payments have been made.

 

·       Amortization Table template  

·         The time value of money - German Nande   (video

https://www.youtube.com/watch?v=MhvjCWfy-lw

 

 

 

NPV calculator (FYI)

NFV calculator (FYI)

Time Value of Money Calculator (FYI)

 

 

 

Homework of Chapter 4   (due with mid term)

 

n  Questions on P183:

            1: e, g, h, i, j; 4, 5

n  Problems on P184:

            1, 2, 3, 4, 16, 17, 19, 27, 29

            (You can use formula/financial calculator/spreadsheet:          for each question one approach is enough. You may use       multiple approaches to double check.)

n  Develop an Amortization Schedule in Excel:

            5-year Auto Loan of $30,000 with APR 3%

            (use the home mortgage loan example in course         materials as a template)

Page 183: (4-1) Define each of the following terms:   e. Perpetuity; consol  g. Compounding; discounting h. Annual, semiannual, quarterly, monthly, and daily compounding i. Effective annual rate (EAR or EFF%);nominal (quoted) interest rate; APR; periodic rate  

(4-4) If a firms earnings per share grew from $1 to $2 over a 10-year period, the total growth wouldbe100%,buttheannualgrowthratewouldbelessthan10%.Trueorfalse?Explain.

(4-5) Would you rather have a savings account that pays 5% interest compounded semiannually or one that pays 5% interest compounded daily? Explain

Page 184:

1.       If you deposit $10,000 in a bank account that pays 10% interest annually, how much will be in your account after 5 years?

2.       What is the present value of a security that will pay $5,000 in 20 years if securities of equal risk pay 7% annually?

3.       Your parents will retire in18 years. They currently have$250,000, and they think they will need $1 million at retirement. What annual interest rate must they earn to reach their goal, assuming they dont save any additional funds?

4.       If you deposit money today in an account that pays 6.5% annual interest, how long will it take to double your money?

16. Find the amount to which $500 will grow under each of the following conditions. a. 12% compounded annually for 5 years b. 12% compounded semiannually for 5 years c. 12% compounded quarterly for 5 years d. 12% compounded monthly for 5 years

17. Find the present value of $500 due in the future under each of the following conditions. a. 12% nominal rate, semiannual compounding, discounted back 5 years b. 12% nominal rate, quarterly compounding, discounted back 5 years c. 12% nominal rate, monthly compounding, discounted back 1 year

19. Universal Bank pays 7% interest, compounded annually, on time deposits. Regional Bank pays 6% interest, compounded quarterly. a. Based on effective interest rates, in  which bank would you prefer  to deposit your money? b. Could your choice of banks be influenced by the fact that you might want to withdraw your funds during the year as opposed to at the end of the year? In answering this question, assume that funds must be left on deposit during an entire compounding period in order for you to receive any interest.

27. What is the present value of a perpetuity of $100 per year if the appropriate discount rate is 7%? If interest rates in general were to double and the appropriate discount rate rose to 14%, what would happen to the present value of the perpetuity?

29. Assume that your aunt sold her house on December 31, and to help close the sale she took a second mortgage in the amount of $10,000 as part of the payment. The mortgage has a quoted (or nominal) interest rate of 10%;it calls for payments every 6 months, beginning on June30, and is to be amortized over 10 years. Now, 1yearlater, your aunt must inform the IRS and the person who bought the house about the interest that was included in the two payments made during the year. (This interest will be income to your aunt and a deduction to the buyer of the house.) To the closest dollar, what is the total amount of interest that was paid during the first year?

 

 

FYI: Amazon.com Inc. (AMZN) https://www.stock-analysis-on.net/NASDAQ/Company/Amazoncom-Inc/DCF/Present-Value-of-FCFF

Week 3

Chapter 5 Bond, Bond Valuation and Interest Rates

ppt

For class discussion:

·         Name major categories of bonds

image015.jpg

As an investor, which type of bond is your favorite one? Why?

·         Why we say that bond is safer than stock? How to calculate bond market prices? Where can you find bond price information?

Bond calculator here (www.jufinance.com/bond)

·         What are the key determinants to bond valuation?

·         What is current yield? Capital gain yield? Yield to call?

·         What is premium bond? Discount bond? Between premium bond and discount bond, which one might be called back? Which one will not be called back?

·         Once we know the yield to maturity (YTM) of a bond, we can calculate its price. But how to figure out YTM?

image025.jpg

·         How is each component in the above slide?

·         How to calculate IP? What is TIPS?

·         What is interest rate risk? What is reinvestment risk? Compare the risks between a short term bond and a long term bond,

·         What is bond rating?

 

Do you know z score?  

How the credits are assigned? It is based on z score. (FYI)

The ratios are combined in a function known as the Z-score that yields a score for each company. The equation for calculating Zscores is as follows:

 Z = α +

where a is a constant, Ri the ratios, βi the relative weighting applied to ratio Ri and n the number of ratios used.

image060.jpgimage041.jpg

 

·         Overall, bond yield should look like the following.

image062.jpg

 

MRPt = 0.1% (t – 1)

 

 

 

image068.jpg

image064.jpg

 

image070.jpg

image072.jpg

 

 

image074.jpg

 

Homework of Chapter 5  (due with mid term) 

n Questions on P231:    1 a, b, d, f, g, h, i, j, k, l. 2, 3;

n Problems on P232:     1, 7, 12, 13.

Page 231 (5-1) Define each of the following terms:

a. Bond; Treasury bond; corporate bond; municipal bond; foreign bond

b. Par value; maturity date; coupon payment; coupon interest rate

d. Call provision; redeemable bond; sinking fund

f. Premium bond; discount bond

g. Current yield (on a bond); yield to maturity (YTM); yield to call (YTC)

h. Indentures; mortgage bond; debenture; subordinated debenture

 i. Development bond; municipal bond insurance; junk bond; investment-grade bond

j. Real risk-free rate of interest, r ; nominal risk-free rate of interest, rRF

k. Inflation premium(IP);default risk premium(DRP); liquidity; liquidity premium(LP)

l. Interest rate risk; maturity risk premium (MRP); reinvestment rate risk 

(5-2) “Short-term interest rates are more volatile than long-term interest rates, so short-term bond prices are more sensitive to interest rate changes than are long-term bond prices.” Is this statement true or false? Explain.

(5-3) The rate of return on a bond held to its maturity date is called the bond’s yield to maturity. If  interest rates in the economy rise after a bond has been issued, what will happen to the bond’s price and to its YTM? Does the length of time to maturity affect the extent to which a given change in interest rates will affect the bond’s price? Why or why not?

Page 232:

5-1 Jackson Corporation’s bonds have 12 years remaining to maturity. Interest is paid annually, the bonds have a $1,000 par value, and the coupon interest rate is 8%. The bonds have a yield to maturity of 9%. What is the current market price of these bonds?

5-7 Renfro Rentals has issued bonds that have a 10% coupon rate, payable semiannually. The bonds mature in 8 years, have a face value of $1,000, and a yield to maturity of 8.5%. What is the price of the bonds?

5-12 A 10-year, 12% semiannual coupon bond with a par value of $1,000 may be called in 4 years at a call price of $1,060. The bond sells for $1,100. (Assume that the bond has just been issued.) a. What is the bond’s yield to maturity? b. What is the bond’s current yield? c. What is the bond’s capital gain or loss yield? d. What is the bond’s yield to call?

5-13 You just purchased a bond that matures in 5 years. The bond has a face value of $1,000 and has an8% annual coupon. The bond has a current yield of 8.21%.What is the bond’s yield to maturity?

 

 

Chapter 6 Risk and Return: High risk, high return. Right/Wrong?

ppt  

 

·       How to calculate risk of an individual stock, like WMT?

Example:

1.      Realized return

Holding period return (HPR) = (Selling price – Purchasing price + dividend)/ Purchasing price

HPR calculator (www.jufinance.com/hpr)

 

2.      Expected return of this stock and its standard deviation

Expected return and risk (standard deviation) calculator (www.jufinance.com/return)

 

·       A portfolio of two stocks, like WMT and Amazon?

Portfolio Calculator (www.jufinance.com/portfolio) – see equations below

Equation:

image026.jpg

W1 and W2 are the percentage of each stock in the portfolio.

image028.jpg

 

image031.gif

  • r12 = the correlation coefficient between the returns on stocks 1 and 2,
  • s12 = the covariance between the returns on stocks 1 and 2,
  • s1 = the standard deviation on stock 1, and
  • s2 = the standard deviation on stock 2.

 

image022.jpg

  • s12 = the covariance between the returns on stocks 1 and 2,
  • N = the number of states,
  • pi = the probability of state i,
  • R1i = the return on stock 1 in state i,
  • E[R1] = the expected return on stock 1,
  • R2i = the return on stock 2 in state i, and
  • E[R2] = the expected return on stock 2.

image076.jpg

 

·       A portfolio of three stocks, like WMT, Amazon, and APPLE?

Three stocks is the sum of three pairs of two-stock-portfolio. So same as above but repeat it three times.

 

·       What about a diversified portfolio, with 25 stocks?

n  As more stocks are added, each new stock has a smaller risk-reducing impact on the portfolio.

n  sp falls very slowly after about 40 stocks are included.  The lower limit for sp is about 20% = sM (M: market portfolio).

n  By forming well-diversified portfolios, investors can eliminate about half the risk of owning a single stock.

n  Market risk is that part of a security’s stand-alone risk that cannot be eliminated by diversification.

n  Firm-specific, or diversifiable, risk is that part of a security’s stand-alone risk that can be eliminated by diversification.

 

CAPM model (CAPM calculator)

1.      What is Beta? Where to find Beta?

image018.gif

 

2.      Why can we use beta as measure for risk?

3.      What is three month Treasurye bill’s beta? S&P500 index’s beta? WMT’s beta? Amazon’s beta? Why are they different?

4.      Use CAPM to calculate the expected return of the above stocks

5.      Find those stocks in SML

image043.jpg

6.      What is market efficiency? Do you agree with the hypothesis that market is efficient? Do you have any evidence to disapprove it?

 

 

 

Homework of Chapter 6   (due with mid term)

Questions on P284:1(a, b, d, f, g, h, i, j, k, l, m), 3;

Problems on P286:1, 2, 3, 5, 10.

Page 284 (6-1) Define the following terms, using graphs or equations to illustrate your answers where feasible.

a. Risk in general; stand-alone risk; probability distribution and its relation to risk

b. Expected rate of return, r ^

c. Continuous probability distribution

d. Standard deviation, σ; variance, σ2

f. Risk premium for Stock i, RPi; market risk premium, RPM

g. Capital Asset Pricing Model (CAPM)

h. Expected return on a portfolio, r ^ p; market portfolio

i. Correlation as a concept; correlation coefficient, ρ

j. Market risk; diversifiable risk; relevant risk

k. Beta coefficient, b; average stock’s beta

l. Security Market Line (SML); SML equation

m. Slope of SML and its relationship to risk aversion 

Page 286

6-1 Your investment club has only two stocks in its portfolio. $20,000 is invested in a stock with a beta of 0.7, and $35,000 is invested in a stock with a beta of 1.3.What is the portfolio’s  beta?

6-2 AA Corporation’s stock has a beta of 0.8. The risk-free rate is 4% and the expected return on the market is 12%. What is the required rate of return on AA’s stock?

6-3 Suppose that the risk-free rate is 5% and that the market risk premium is 7%. What is the required return on (1) the market, (2) a stock with a beta of 1.0, and (3) a stock with a beta of 1.7?

6-5

A stock’s return has the following distribution:

Demand for the Company’s Products

Probability of This Demand Occurring

Rate of Return If This Demand Occurs (%) 

Weak 

0.1

-50%

Below average 

0.2

-5%

 Average

0.4

16%

 Above average 

0.2

25%

Strong

0.1

60%

Calculate the stock’s expected return and standard deviation

6-10 Suppose you manage a $4 million fund that consists of four stocks with the following investments:

Stock

Investment

Beta

A

400000

1.50

B

600000

-0.50

C

1000000

1.25

D

2000000

0.75

If the market’s required rate of return is 14% and the risk-free rate is 6%, what is the fund’s required rate of return?

 

 

FYI    What is yield curve? ( http://www.yieldcurve.com/MktYCgraph.htm)

Market watch on Wall Street Journal has daily yield curve and interest rate information.

http://www.marketwatch.com/tools/pftools/

 

Draw yield curve yourself using the following information 

Date

     1 Mo

  2 Mo

   3 Mo

      6 Mo

       1 Yr

      2 Yr

      3 Yr

    5 Yr

    7 Yr

   10 Yr

   20 Yr

    30 Yr

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10/23/18

     2.21

  2.23

    2.33

      2.48

      2.67

      2.89

      2.95

   3.01

   3.10

   3.17

   3.29

    3.37

·        What can yield curve tell us?

What is yield curve, video (youtube)

 

Daily Treasury Yield Curve Rates

 (https://www.treasury.gov/resource-center/data-chart-center/interest-rates/Pages/TextView.aspx?data=yieldYear&year=2017)

Date

1 Mo

2 Mo

3 Mo

6 Mo

1 Yr

2 Yr

3 Yr

5 Yr

7 Yr

10 Yr

20 Yr

30 Yr

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

01/02/18

1.29

N/A

1.44

1.61

1.83

1.92

2.01

2.25

2.38

2.46

2.64

2.81

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

02/01/18

1.41

N/A

1.48

1.64

1.89

2.16

2.33

2.56

2.72

2.78

2.90

3.01

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

03/01/18

1.50

N/A

1.63

1.85

2.05

2.22

2.36

2.58

2.74

2.81

2.97

3.09

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

04/02/18

1.68

N/A

1.77

1.92

2.08

2.25

2.37

2.55

2.67

2.73

2.85

2.97

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

05/01/18

1.68

N/A

1.85

2.05

2.26

2.50

2.66

2.82

2.93

2.97

3.03

3.13

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

06/01/18

1.74

N/A

1.92

2.10

2.28

2.47

2.61

2.74

2.85

2.89

2.96

3.04

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

07/02/18

1.90

N/A

1.98

2.14

2.34

2.57

2.65

2.75

2.83

2.87

2.92

2.99

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

08/01/18

1.93

N/A

2.03

2.22

2.45

2.67

2.78

2.87

2.96

3.00

3.07

3.13

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

09/04/18

2.00

N/A

2.13

2.29

2.49

2.66

2.73

2.78

2.85

2.90

2.99

3.07

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10/01/18

2.13

N/A

2.23

2.40

2.60

2.82

2.90

2.96

3.04

3.09

3.18

3.24

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10/19/18

2.19

2.23

2.31

2.48

2.67

2.92

2.99

3.05

3.14

3.20

3.31

3.38

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10/22/18

2.18

2.25

2.34

2.49

2.68

2.92

2.99

3.05

3.13

3.20

3.31

3.38

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10/23/18

2.21

2.23

2.33

2.48

2.67

2.89

2.95

3.01

3.10

3.17

3.29

3.37

 

 

Summary of Yield Curve Shapes and Explanations

Normal Yield Curve
When bond investors expect the economy to hum along at normal rates of growth without significant changes in inflation rates or available capital, the yield curve slopes gently upward. In the absence of economic disruptions, investors who risk their money for longer periods expect to get a bigger reward — in the form of higher interest — than those who risk their money for shorter time periods. Thus, as maturities lengthen, interest rates get progressively higher and the curve goes up.

 

image013.jpg

 

Steep Curve – Economy is improving
Typically the yield on 30-year Treasury bonds is three percentage points above the yield on three-month Treasury bills. When it gets wider than that — and the slope of the yield curve increases sharply — long-term bond holders are sending a message that they think the economy will improve quickly in the future.

image014.jpg

 

Inverted Curve – Recession is coming
At first glance an inverted yield curve seems like a paradox. Why would long-term investors settle for lower yields while short-term investors take so much less risk? The answer is that long-term investors will settle for lower yields now if they think rates — and the economy — are going even lower in the future. They're betting that this is their last chance to lock in rates before the bottom falls out.

image015.jpg

 


Flat or Humped Curve

To become inverted, the yield curve must pass through a period where long-term yields are the same as short-term rates. When that happens the shape will appear to be flat or, more commonly, a little raised in the middle.

Unfortunately, not all flat or humped curves turn into fully inverted curves. Otherwise we'd all get rich plunking our savings down on 30-year bonds the second we saw their yields start falling toward short-term levels.

On the other hand, you shouldn't discount a flat or humped curve just because it doesn't guarantee a coming recession. The odds are still pretty good that economic slowdown and lower interest rates will follow a period of flattening yields.

image016.jpg

 

 

 

What You Can Learn from the Yield Curve (FYI)

A flattening trend often is a red flag, but experts warn against betting on short-term market swings.

By Jeff Brown, ContributorSept. 10, 2018, at 10:23 a.m.

U.S. News & World Report

Why Investors Watch the Yield Curve (FYI)

SHORT-TERM interest rates have been inching up faster than long-term rates, a condition called a "flattening yield curve" that for decades has predicted recessions and put investors into a quandary.

What should investors do? The options range from nothing to changing holdings to employing strategies to either grow or protect the portfolio, to putting money on the sidelines for safe keeping.

"The yield curve is one of the single most effective recession indicators available to us as investors, it is almost never wrong," says Patrick R. McDowell, investment analyst at Arbor Wealth Management in Miramar Beach, Florida. "We believe the yield curve will invert in the next 12 months," he says.

"Every U.S. recession in the past 60 years was preceded by …. an inverted yield curve," the Federal Reserve Bank of San Francisco says in a March 2018 study, adding that inverted curves have been followed by recessions in all but one instance over that period.

The yield curve is a graph with bond maturities on the horizontal axis and yields on the vertical one. Most of the time short-term bonds have lower yields than long-term ones, because investors demand more for tying their money up longer and exposing their holdings to the unknown. The curve starts in the lower left and rises steadily to the right as maturities and yields go up.

But every so often the gap between short- and long-term yields shrinks to almost nothing, and sometimes the curve "inverts" so that short-term yields are higher. The curve flattens rather than rising, or heads down instead of up.

This tends to happen when the Federal Reserve pushes up the short-term interest rates it can control while investors push down long-term yields because they expect the Fed to reduce short-term yields in the future to stimulate the economy in a downturn or recession. (Lower interest rates make it cheaper to borrow, increasing spending to perk up the economy.)

Long-term yields are governed by supply and demand in the bond market and represent the combined wisdom of vast numbers of bond investors.

Currently, the 10-year Treasury note yields 2.9 percent, not much more than the two-year's 2.66 percent. Two years ago the rates were 1.55 percent and 0.74 percent. Shrinking the gap from 0.81 to 0.24 may not seem earth shaking but is a red flag on the economy.

Though a recession is likely if the curve inverts, this is not necessarily a bad time for investors, says Craig Thompson, president of Asset Solutions in Lafayette, Louisiana.

"The yield curve has not inverted yet and even when it does the lead time for a stock market peak can be considerable," Thompson says. "Yet, it is something to monitor given we are at the end of the current period of economic expansion. So, yes, we are in a bull market and should be invested in stocks. However, the bull market will not last forever and we are probably at the tail end."

Investors can react in various ways depending on how much risk they like to take.

For income-oriented bond investors the safe course is to load up on shorter-term bonds in the belief long-term bonds no longer offer the extra income needed to justify the risk of bad things happening before the bond matures. Compared to a two-year note, a 10-year note entails much more risk that the economy could collapse, the bond issuer could default, or that rising interest rates could make existing bonds lose value as investors prefer newer ones that pay more.

The damage from rising rates is much more severe for long-term bonds because the consequences last so much longer.

Bond risk can be measured with duration, a figure that indicates how much value a bond or bond fund could lose for every one-percentage point rise in prevailing interest rates. A bond with a 10-year duration could lose 10 percent, while one with a two-year duration only 2 percent.

"Investors should continue to keep duration low and [hold] high-quality investment-grade bonds … to help hedge against rising rates in the future," says Jordan Niefeld, planner with Raymond James & Associates in Aventura, Florida. He also recommends keeping cash on the sidelines to weather market jolts.

"An individual investor should look at the bonds they own and make sure they mature within three to five years," says Alan J. Conner, president of NovaPoint Capital in Atlanta. "These bonds will provide the best combination of relatively high interest rates and lower interest-rate risk, allowing investors to wait out this transition period, and perhaps invest at higher rates as the yield curve normalizes."

On the other hand, investors who move quickly enough can bet that long-term yields will fall further as the curve flattens even more and then inverts. Falling interest rates push existing bond prices up because investors would rather have older bonds that pay more than newer ones.

What Is a Flattening Yield Curve?

 

"People think shortening their duration exposure is the appropriate response to a flattening yield curve when in fact the opposite is true," McDowell says. "If you could execute it seamlessly, you'd want to be shorting short-term bonds and buying long-term bonds to bet on that type of yield curve inversion, even though on an absolute [income-paying] basis short-term bonds are much more attractive."

The ultimate play, he says, is to buy long-duration zero-coupon bonds, which deliver their accumulated interest earnings only when the bond matures. These bonds are extremely sensitive to interest rate changes and can be very profitable if rates fall – but are big losers if rates go up.

Betting on price changes from changing yields is speculative, perhaps not the best option, many experts say, for investors using bonds for income or to reduce the ups and downs of a portfolio that also has stocks.

As for equities, a flattening yield curve may forecast a slower economy, which can hurt corporate earnings and stock prices, but that doesn't necessarily mean stockholders should run for the exits, says Brenda Wenning, principal of Wenning Investments in Newton, Mass

"The stock market has produced gains in four of the last five periods when the yield curve inverted," she says. "Going back to 1978, the S&P 500 has risen about 16 percent in the 18 months following an inversion, according to a new analysis by Credit Suisse. Over 24 months following an inversion, stocks rose an average of 14 percent and over 30 months, they rose an average of 9.5 percent."

The likely reason: stocks are a bet on the future and investors bid up prices when they anticipate higher corporate profits after a recession ends.

The anxious stock investor's most obvious choice is to play it safe in uncertain times by trimming stock holdings and putting the proceeds on the sidelines as cash.

But advisors generally warn against betting on short-term market swings and instead hanging on to stocks through a recession to enjoy the rebound that follows.

Wenning says investors should not be alarmed.

"While other factors point to a potential slowdown in the fourth quarter, it appears that a recession remains far away, even if the yield curve inverts," she says.

 

 

Opinion: Fed officials are playing with fire if they deliberately invert the yield curve (FYI)

Published: Sept 18, 2018 4:22 p.m. ET  By Carline Baum

 

The converts are lining up.

First it was John Williams, who left his perch atop the Federal Reserve Bank of San Francisco in June to assume the presidency of the New York Fed.

In April, Williams acknowledged that an inverted yield curve is “a powerful signal of recessions,” based on a significant body of research, including that by staff economists at his former bank.

By September, Williams was already disavowing that signal.

“I don’t see the flat yield curve or inverted yield curve as being the deciding factor in terms of where we should go with policy,” Williams said following a speech in Buffalo on Sept. 6.

Next up was Fed Gov. Lael Brainard. She broke new ground in a speech last week when she said she expects the short-run neutral rate of interest — the unobservable interest rate that keeps the economy growing at its potential — to rise above the Fed’s projected long-run equilibrium rate of about 3% as a result of fiscal stimulus.

Then she invoked the four most dangerous words in finance — “this time is different” — and applied them to the prospect of an inverted yield curve.

https://ei.marketwatch.com/Multimedia/2018/09/18/Photos/MG/MW-GQ266_yieldc_20180918143914_MG.png?uuid=241ed5ca-bb72-11e8-87cc-ac162d7bc1f7

The spread between the 10-year Treasury note and the federal funds rate is still positive, but further rate hikes by the Fed could push the fed funds rate higher than the 10-year yield, inverting the yield curve and signaling a recession.

While “attentive to the historical observation” that inversions of the term structure of interest rates had a reliable track record of preceding recessions in the U.S., Brainard implied that this time is different because: 1) long-term rates are much lower now than they were during previous economic expansions; and 2) the term premium is very low. (The term premium is the extra compensation investors demand for holding a long-term Treasury security such as a 10-year note TMUBMUSD10Y, -1.28%   instead of one that matures in months.)

San Francisco Fed economists Michael Bauer and Thomas Mertens shot down the term-premium argument, finding “no clear evidence” that it affects the predictive power of an inverted curve. And the low level of long-term rates was a popular excuse for why “this time was different” when the term spread inverted in mid-2006.

The significance of an inverted yield curve was even a topic of discussion at the Fed’s July 31-Aug. 1 meeting. “Several participants” advised paying attention to the curve in assessing the economic and policy outlook. “Other participants” said it was inappropriate to infer “causality from statistical correlations.”

Forget statistical correlations. What’s important is the intuition behind the yield curve: What it says, and why it works.

The juxtaposition of an artificially pegged short-term rate and a market-determined long-term rate is a succinct expression of the stance of monetary policy. (For simplicity’s sake, I will ignore interest on excess reserves, which the Fed also sets, and focus on the Fed’s old-fashioned system of reserve management.)

The overnight interbank lending rate is set by the Fed, which adjusts the supply of reserves to meet the banking system’s demand.

(Banks are required to hold reserves as vault cash or as deposits at a Fed bank on demand deposits and checking accounts.) If the Fed supplies fewer/more reserves than the banking system demands, the funds rate will rise/fall.

Imagine a situation where the economy is strong, market rates are rising across the curve and the fed funds rate is steady. It’s fair to assume that increased demand for credit would be pushing up the overnight rate as well were it not for the Fed’s largesse. In other words, a steeper curve equates with an expansionary monetary policy.

Similarly, if the Fed is raising the funds rate — restricting the supply of credit — and market rates begin to decline, eventually breaching the overnight rate, one can be pretty sure that the Fed is running a restrictive monetary policy. Recession is the result.

These two interest rates encapsulate the stance of monetary policy. As an indicator, it’s about as simple as it gets. It’s available 24/7 to anyone who is interested and is never revised.

The term spread was pretty much ignored in previous business cycles. Now, it’s the talk of the town, in all its permutations.

Any two market rates — 2s/10s, 5s/30s — are game even though those spreads lack the intellectual rigor of the fed funds/10-year spread or, using a proxy for the overnight rate, the 3-month/10-year spread, which Bauer and Mertens say works best.

Many of the Fed district bank presidents — including St. Louis’s James Bullard,Atlanta’s Raphael Bostic, Dallas’ Robert Kaplan, Philadelphia’s Patrick Harker and Minneapolis’ Neel Kashkari — have expressed confidence in the predictive power of the yield curve. In recent months, all of them have said they want to avoid precipitating an inversion of the curve.

We have yet to hear anything definitive from Fed Chairman Jay Powell on whether he would view an inverted curve as a form of “forward guidance” in setting policy. We know he’s not married to the model, an least an econometric one.

In his speech at Jackson Hole last month, he said that setting monetary policy based on unknowable and ever-changing metrics — the natural rate of unemployment, the neutral rate of interest — is challenging. Short of any break-out of inflation expectations or unforeseen crisis, gradualism remains Powell’s preferred approach.

What we have yet to learn is whether Fed gradualism will be aborted if and when it runs into resistance from long-term rates.

 

 

 

 

Week 4

Midterm Exam

 

 

Week 4

Chapter 7 Valuation of Stocks and Corporations

ppt  

For class discussion:

·       What is dividend growth model? Why can we use dividend to estimate a firm’s intrinsic value?

·       Are future dividends predictable?

·       Refer to the following table for WMT’s dividend history

http://stock.walmart.com/investors/stock-information/dividend-history/default.aspx

 

Record Dates

Payable Dates

Amount

Type

March 9, 2018

April 2, 2018

$0.52

Regular Cash

May 11, 2018

June 4, 2018

$0.52

Regular Cash

Aug. 10, 2018

Sept. 4, 2018

$0.52

Regular Cash

Dec. 7, 2018

Jan. 2, 2019

$0.52

Regular Cash

Record Dates

Payable Dates

Amount

Type

March 10, 2017

April 3, 2017

$0.51

Regular Cash

May 12, 2017

June 5, 2017

$0.51

Regular Cash

Aug. 11, 2017

Sept. 5, 2017

$0.51

Regular Cash

Dec. 8, 2017

Jan. 2, 2018

$0.51

Regular Cash

 

Record Dates

Payable Dates

Amount

Type

March 11, 2016

April 4, 2016

$0.50

Regular Cash

May 13, 2016

June 6, 2016

$0.50

Regular Cash

Aug. 12, 2016

Sep. 6, 2016

$0.50

Regular Cash

Dec. 9, 2016

Jan. 3, 2017

$0.50

Regular Cash

Record Dates

Payable Dates

Amount

Type

March 13, 2015

April 6, 2015

$0.490

Regular Cash

May 8, 2015

June 1, 2015

$0.490

Regular Cash

Aug. 7, 2015

Sep. 8, 2015

$0.490

Regular Cash

Dec. 4, 2015

Jan. 4, 2016

$0.490

Regular Cash

 

Can you estimate the expected dividend in 2019? And in 2020? And on and on…

image080.jpg

 

Can you write down the math equation now?

WMT stock price = ?

 

Can you calculate now? It is hard right because we assume dividend payment goes to infinity. How can we simplify the calculation?

 

We can assume that dividend grows at certain rate, just as the table on the right shows.

Discount rate is r (based on Beta and CAPM learned in chapter 6)

 

Details about how to derive the model mathematically (FYI)

The Gordon growth model is a simple discounted cash flow (DCF) model which can be used to value a stock, mutual fund, or even the entire stock market.  The model is named after Myron Gordon who first published the model in 1959.

The Gordon model assumes that a financial security pays a periodic dividend (D) which grows at a constant rate (g). These growing dividend payments are assumed to continue forever. The future dividend payments are discounted at the required rate of return (r) to find the price (P) for the stock or fund.

Under these simple assumptions, the price of the security is given by this equation:

image086.jpg

In this equation, Ive used the 0 subscript on the price (P) and the 1 subscript on the dividend (D) to indicate that the price is calculated at time zero and the dividend is the expected dividend at the end of period one. However, the equation is commonly written with these subscripts omitted.

Obviously, the assumptions built into this model are overly simplistic for many real-world valuation problems. Many companies pay no dividends, and, for those that do, we may expect changing payout ratios or growth rates as the business matures.

Despite these limitations, I believe spending some time experimenting with the Gordon model can help develop intuition about the relationship between valuation and return.

Deriving the Gordon Growth Model Equation

The Gordon growth model calculates the present value of the security by summing an infinite series of discounted dividend payments which follows the pattern shown here:

image081.jpg

Multiplying both sides of the previous equation by (1+g)/(1+r) gives:

image082.jpg

We can then subtract the second equation from the first equation to get:

image083.jpg

Rearranging and simplifying:

image084.jpg

image085.jpg

Finally, we can simplify further to get the Gordon growth model equation

dividend growth model:

image086.jpg

Refer to http://www.calculatinginvestor.com/2011/05/18/gordon-growth-model/

 

·        Now let’s apply this Dividend growth model in problem solving.

 

 

Dividend Growth Model calculator (www.jufinance.com/stock)

 

Homework of Chapter 7   (due with final)  

n Questions on P333: 7-1(aefgh), 7-3;

n  Problems on P334: 7-2, 7-3, 7-4, 7-8, 7-9, 7-14.

 

 

*****Q&A Session*****

 

 

P/E Ratio Summary by industry (FYI)

(http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/pedata.html

 

Industry Name

#of firms

Current PE

Expected growth - next 5 years

PEG Ratio

Advertising

40

42.07

7.24%

2.19

Aerospace/Defense

87

45.24

11.46%

2.08

Air Transport

17

12.40

6.46%

2.00

Apparel

51

19.94

11.32%

2.33

Auto & Truck

18

15.03

18.35%

0.80

Auto Parts

62

23.32

12.64%

1.17

Bank (Money Center)

11

17.09

7.54%

1.86

Banks (Regional)

612

33.24

9.43%

1.87

Beverage (Alcoholic)

28

31.31

20.06%

0.95

Beverage (Soft)

35

28.28

10.77%

2.99

Broadcasting

27

31.34

7.59%

2.58

Brokerage & Investment Banking

42

31.77

11.70%

1.39

Building Materials

39

28.83

14.98%

1.58

Business & Consumer Services

169

59.52

12.94%

2.01

Cable TV

14

25.74

10.25%

2.51

Chemical (Basic)

38

28.39

14.14%

1.38

Chemical (Diversified)

7

281.02

18.82%

2.28

Chemical (Specialty)

99

145.32

12.34%

2.04

Coal & Related Energy

30

13.36

NA

NA

Computer Services

111

48.66

12.36%

1.37

Computers/Peripherals

58

26.11

15.79%

1.14

Construction Supplies

49

35.67

15.00%

2.21

Diversified

24

38.63

12.48%

1.96

Drugs (Biotechnology)

459

127.65

27.31%

0.65

Drugs (Pharmaceutical)

185

46.35

20.47%

1.32

Education

34

132.99

11.91%

2.35

Electrical Equipment

118

29.63

15.09%

1.75

Electronics (Consumer & Office)

24

35.28

12.77%

4.86

Electronics (General)

167

56.36

17.82%

1.42

Engineering/Construction

49

28.75

12.30%

1.92

Entertainment

90

312.73

11.54%

1.56

Environmental & Waste Services

87

73.67

12.83%

2.43

Farming/Agriculture

34

22.90

15.33%

1.42

Financial Svcs. (Non-bank & Insurance)

264

41.45

11.62%

0.88

Food Processing

87

36.08

9.46%

2.55

Food Wholesalers

15

50.79

8.70%

3.03

Furn/Home Furnishings

31

17.82

13.40%

1.43

Green & Renewable Energy

22

89.05

11.05%

2.91

Healthcare Products

251

161.11

16.55%

2.27

Healthcare Support Services

115

38.56

14.52%

1.37

Heathcare Information and Technology

112

174.42

15.21%

2.52

Homebuilding

32

883.19

17.58%

0.99

Hospitals/Healthcare Facilities

35

58.93

6.50%

2.09

Hotel/Gaming

70

34.20

13.18%

1.90

Household Products

131

46.52

11.60%

1.61

Information Services

61

60.11

14.92%

2.42

Insurance (General)

21

34.97

10.46%

2.11

Insurance (Life)

25

152.83

7.82%

1.52

Insurance (Prop/Cas.)

50

120.04

11.56%

1.64

Investments & Asset Management

165

99.35

13.11%

1.31

Machinery

126

47.35

14.03%

1.82

Metals & Mining

102

28.08

30.62%

0.92

Office Equipment & Services

24

18.92

12.25%

1.72

Oil/Gas (Integrated)

5

45.20

25.77%

1.26

Oil/Gas (Production and Exploration)

311

25.17

1.81%

7.33

Oil/Gas Distribution

16

313.75

10.00%

3.77

Oilfield Svcs/Equip.

130

87.54

40.24%

0.90

Packaging & Container

25

51.42

9.31%

2.31

Paper/Forest Products

21

40.11

9.62%

2.09

Power

61

25.25

5.41%

2.07

Precious Metals

111

29.92

24.26%

2.47

Publishing & Newspapers

41

53.87

7.90%

2.75

R.E.I.T.

244

58.88

6.81%

3.65

Real Estate (Development)

20

20.24

NA

NA

Real Estate (General/Diversified)

10

216.85

NA

NA

Real Estate (Operations & Services)

60

486.19

13.63%

1.39

Recreation

70

27.16

12.23%

1.90

Reinsurance

3

11.75

8.75%

2.27

Restaurant/Dining

81

37.50

15.04%

1.70

Retail (Automotive)

25

14.30

16.63%

0.96

Retail (Building Supply)

8

46.86

20.46%

1.21

Retail (Distributors)

92

120.38

15.04%

1.45

Retail (General)

18

96.81

7.88%

2.93

Retail (Grocery and Food)

14

28.23

7.90%

1.75

Retail (Online)

61

73.27

20.77%

3.70

Retail (Special Lines)

106

43.48

11.59%

1.52

Rubber& Tires

4

13.28

9.50%

0.85

Semiconductor

72

49.82

15.68%

1.30

Semiconductor Equip

45

37.81

16.67%

0.97

Shipbuilding & Marine

9

18.23

13.50%

1.96

Shoe

11

95.38

12.39%

2.17

Software (Entertainment)

13

67.28

14.94%

2.56

Software (Internet)

305

205.58

27.74%

1.03

Software (System & Application)

255

209.66

17.06%

1.90

Steel

37

28.91

12.22%

1.53

Telecom (Wireless)

18

64.32

10.83%

2.27

Telecom. Equipment

104

114.62

14.42%

1.36

Telecom. Services

66

61.28

5.99%

2.77

Tobacco

24

29.52

10.33%

1.30

Transportation

18

82.37

15.49%

1.74

Transportation (Railroads)

8

27.22

10.56%

2.26

Trucking

30

29.95

21.01%

1.54

Utility (General)

18

27.54

5.50%

4.30

Utility (Water)

23

141.22

8.99%

3.66

Total Market

7247

71.28

13.60%

1.58

Total Market (without financials)

6057

75.42

14.19%

1.64

Week 5

Thanksgiving holiday. No class this week.

image079.jpg

 

Week 6

Chapter 9 The Cost of Capital

ppt  

 

For class discussion:

What is WACC?

Why is it important?

WACC increases, good or bad to stock holders?

How to apply WACC to figure out firm value?

What is DCF?

 

image092.jpg

 

 

One option (if beta is given)

image087.jpg

 

Another option (if dividend is given):

 

image088.jpg

 

WACC Formula

 

image089.jpg

 

 

WACC calculator (without preferred stock)

(www.jufinance.com/wacc)

 

image090.jpg

 

WACC calculator (with preferred stock)

 (www.jufinance.com/wacc_1)

 

Homework of Chapter 9  (due with final)  

·       Questions on Page 406: 9-1, 9-2.

·       Mini Case on Page 411: a, b, c, d, e(1&2), f, g, h, i, n, o(1).

 

 

Chapter 10         The Basics of Capital Budgeting

ppt  

 

image093.jpg 

 

 

 

image094.jpg

 

image095.jpg

 

image096.jpg

 

Math equation:

 

image100.jpg

 

 

 

image097.jpg

 

Math equation:

image099.jpg

 

 

image098.jpg

 

Math equation:

image101.jpg

 

NPV, IRR, Payback Period calculator (www.jufinance.com/npv)

 

 

 

Homwork of Chapter 10  (due with final)  

·       Questions on P442: 10-1 a(skip discounted payback period), b, c(skip profitability index), f; 10-2.

·       Problems on P443: 10-1, 10-2, 10-5, 10-9.

 

 

 

 

FYI
Walmart Inc  (NYSE:WMT) WACC %:5.54% As of Today 

 

As of today, Walmart Inc's weighted average cost of capital is 5.54%. Walmart Inc's ROIC % is 11.05% (calculated using TTM income statement data). Walmart Inc generates higher returns on investment than it costs the company to raise the capital needed for that investment. It is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases.

https://www.gurufocus.com/term/wacc/WMT/WACC/Walmart%2BInc

 

 

Amazon.com Inc  (NAS:AMZN) WACC %:14.27% As of Today 

 

As of today, Amazon.com Inc's weighted average cost of capital is 14.27%. Amazon.com Inc's ROIC % is 31.08% (calculated using TTM income statement data). Amazon.com Inc generates higher returns on investment than it costs the company to raise the capital needed for that investment. It is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases.

https://www.gurufocus.com/term/wacc/AMZN/WACC-Percentage/Amazon.com%20Inc

 

 

 

Apple Inc  (NAS:AAPL) WACC %:9.34% As of Today 

 

As of today, Apple Inc's weighted average cost of capital is 9.34%. Apple Inc's ROIC % is 34.64% (calculated using TTM income statement data). Apple Inc generates higher returns on investment than it costs the company to raise the capital needed for that investment. It is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases.

https://www.gurufocus.com/term/wacc/AAPL/WACC/Apple%2Binc

 

 

 

Industry Name

Number of Firms

Cost of Equity

E/(D+E)

Cost of Debt

Tax Rate

D/(D+E)

Cost of Capital

Advertising

40

8.27%

57.51%

6.91%

6.38%

42.49%

6.99%

Aerospace/Defense

87

7.91%

84.42%

3.91%

11.59%

15.58%

7.14%

Air Transport

17

7.54%

58.48%

3.91%

24.57%

41.52%

5.64%

Apparel

51

7.58%

74.52%

3.91%

10.35%

25.48%

6.40%

Auto & Truck

18

8.49%

40.31%

3.61%

8.15%

59.69%

5.06%

Auto Parts

62

7.68%

77.94%

3.91%

7.71%

22.06%

6.64%

Bank (Money Center)

11

5.65%

38.87%

3.61%

27.31%

61.13%

3.87%

Banks (Regional)

612

4.96%

63.02%

3.61%

25.57%

36.98%

4.14%

Beverage (Alcoholic)

28

9.15%

79.27%

3.91%

10.12%

20.73%

7.87%

Beverage (Soft)

35

5.99%

81.26%

3.91%

6.41%

18.74%

5.42%

Broadcasting

27

8.10%

47.13%

3.91%

17.18%

52.87%

5.39%

Brokerage & Investment Banking

42

8.70%

31.26%

3.91%

14.56%

68.74%

4.76%

Building Materials

39

8.04%

82.33%

3.91%

23.34%

17.67%

7.15%

Business & Consumer Services

169

8.35%

78.47%

3.91%

11.09%

21.53%

7.19%

Cable TV

14

7.09%

65.34%

3.61%

22.23%

34.66%

5.58%

Chemical (Basic)

38

8.49%

70.78%

3.91%

9.76%

29.22%

6.88%

Chemical (Diversified)

7

12.74%

78.63%

4.66%

11.66%

21.37%

10.78%

Chemical (Specialty)

99

8.07%

77.52%

3.91%

9.64%

22.48%

6.93%

Coal & Related Energy

30

8.75%

68.77%

8.16%

4.94%

31.23%

7.96%

Computer Services

111

8.00%

76.43%

3.91%

9.40%

23.57%

6.82%

Computers/Peripherals

58

7.54%

84.62%

3.91%

5.03%

15.38%

6.84%

Construction Supplies

49

8.10%

75.49%

3.91%

17.36%

24.51%

6.85%

Diversified

24

8.48%

75.48%

3.61%

12.09%

24.52%

7.07%

Drugs (Biotechnology)

459

9.72%

86.33%

8.16%

1.36%

13.67%

9.24%

Drugs (Pharmaceutical)

185

8.55%

87.24%

6.91%

2.11%

12.76%

8.13%

Education

34

8.27%

72.03%

3.91%

8.24%

27.97%

6.79%

Electrical Equipment

118

7.92%

86.32%

4.66%

5.06%

13.68%

7.32%

Electronics (Consumer & Office)

24

7.96%

93.51%

4.66%

5.98%

6.49%

7.67%

Electronics (General)

167

7.17%

86.98%

3.91%

8.34%

13.02%

6.63%

Engineering/Construction

49

8.86%

77.09%

3.91%

13.37%

22.91%

7.51%

Entertainment

90

8.26%

74.77%

3.91%

5.45%

25.23%

6.93%

Environmental & Waste Services

87

6.87%

74.15%

4.66%

4.45%

25.85%

6.01%

Farming/Agriculture

34

6.19%

64.29%

3.91%

7.69%

35.71%

5.04%

Financial Svcs. (Non-bank & Insurance)

264

5.49%

8.83%

3.61%

19.89%

91.17%

2.99%

Food Processing

87

5.84%

76.44%

3.91%

15.13%

23.56%

5.17%

Food Wholesalers

15

11.48%

72.75%

3.91%

11.91%

27.25%

9.16%

Furn/Home Furnishings

31

6.42%

78.21%

3.91%

12.56%

21.79%

5.67%

Green & Renewable Energy

22

8.51%

50.45%

3.91%

2.41%

49.55%

5.77%

Healthcare Products

251

7.19%

85.41%

4.66%

4.79%

14.59%

6.66%

Healthcare Support Services

115

6.97%

80.11%

3.91%

13.69%

19.89%

6.17%

Heathcare Information and Technology

112

7.38%

83.83%

3.91%

5.96%

16.17%

6.67%

Homebuilding

32

8.04%

71.61%

3.91%

23.86%

28.39%

6.60%

Hospitals/Healthcare Facilities

35

8.40%

36.16%

3.91%

10.57%

63.84%

4.93%

Hotel/Gaming

70

7.18%

71.48%

3.91%

14.01%

28.52%

5.98%

Household Products

131

7.47%

82.63%

3.91%

7.35%

17.37%

6.69%

Information Services

61

6.89%

86.42%

3.91%

15.90%

13.58%

6.36%

Insurance (General)

21

6.39%

72.20%

3.61%

14.71%

27.80%

5.38%

Insurance (Life)

25

7.53%

63.67%

3.61%

15.32%

36.33%

5.79%

Insurance (Prop/Cas.)

50

6.67%

79.10%

3.61%

18.50%

20.90%

5.85%

Investments & Asset Management

165

7.43%

70.38%

3.91%

8.30%

29.62%

6.11%

Machinery

126

8.25%

83.51%

3.91%

14.05%

16.49%

7.38%

Metals & Mining

102

8.01%

76.61%

6.91%

1.66%

23.39%

7.37%

Office Equipment & Services

24

9.39%

65.94%

3.91%

18.37%

34.06%

7.20%

Oil/Gas (Integrated)

5

9.38%

86.74%

3.11%

10.96%

13.26%

8.45%

Oil/Gas (Production and Exploration)

311

8.80%

70.47%

6.91%

2.18%

29.53%

7.76%

Oil/Gas Distribution

16

8.54%

51.70%

3.91%

4.84%

48.30%

5.85%

Oilfield Svcs/Equip.

130

8.64%

76.35%

4.66%

5.27%

23.65%

7.44%

Packaging & Container

25

6.16%

66.57%

3.61%

22.37%

33.43%

5.02%

Paper/Forest Products

21

8.50%

71.42%

3.91%

14.18%

28.58%

6.92%

Power

61

4.97%

56.70%

3.61%

20.31%

43.30%

4.01%

Precious Metals

111

7.30%

84.85%

8.16%

2.16%

15.15%

7.14%

Publishing & Newspapers

41

7.59%

69.21%

3.91%

11.92%

30.79%

6.17%

R.E.I.T.

244

5.76%

56.02%

3.61%

1.96%

43.98%

4.43%

Real Estate (Development)

20

6.22%

68.82%

3.91%

5.80%

31.18%

5.21%

Real Estate (General/Diversified)

10

6.20%

80.90%

3.91%

12.77%

19.10%

5.58%

Real Estate (Operations & Services)

60

7.60%

68.16%

3.91%

8.82%

31.84%

6.13%

Recreation

70

6.73%

77.17%

3.91%

10.16%

22.83%

5.87%

Reinsurance

3

5.06%

78.29%

3.11%

10.92%

21.71%

4.47%

Restaurant/Dining

81

6.73%

75.64%

3.91%

14.99%

24.36%

5.81%

Retail (Automotive)

25

7.55%

56.83%

3.91%

19.04%

43.17%

5.57%

Retail (Building Supply)

8

6.76%

84.85%

3.91%

15.36%

15.15%

6.19%

Retail (Distributors)

92

8.25%

68.69%

3.91%

14.20%

31.31%

6.59%

Retail (General)

18

7.74%

76.25%

3.91%

22.96%

23.75%

6.61%

Retail (Grocery and Food)

14

6.00%

54.44%

3.91%

21.04%

45.56%

4.62%

Retail (Online)

61

8.41%

89.76%

3.91%

7.57%

10.24%

7.86%

Retail (Special Lines)

106

8.05%

65.36%

3.91%

22.01%

34.64%

6.29%

Rubber& Tires

4

7.25%

56.18%

3.91%

7.91%

43.82%

5.38%

Semiconductor

72

8.37%

88.42%

3.91%

8.04%

11.58%

7.74%

Semiconductor Equip

45

7.40%

89.66%

3.91%

8.51%

10.34%

6.94%

Shipbuilding & Marine

9

9.22%

68.05%

8.16%

8.31%

31.95%

8.26%

Shoe

11

6.89%

91.20%

3.91%

16.75%

8.80%

6.54%

Software (Entertainment)

13

6.94%

93.94%

3.91%

2.21%

6.06%

6.70%

Software (Internet)

305

8.52%

96.79%

4.66%

2.50%

3.21%

8.36%

Software (System & Application)

255

7.93%

87.61%

3.91%

3.98%

12.39%

7.32%

Steel

37

11.64%

73.41%

4.66%

7.05%

26.59%

9.49%

Telecom (Wireless)

18

9.02%

45.46%

3.91%

7.95%

54.54%

5.72%

Telecom. Equipment

104

7.67%

82.83%

3.91%

8.12%

17.17%

6.86%

Telecom. Services

66

7.91%

55.70%

3.91%

8.05%

44.30%

5.72%

Tobacco

24

8.82%

85.37%

3.91%

5.25%

14.63%

7.97%

Transportation

18

7.23%

76.91%

3.91%

21.92%

23.09%

6.25%

Transportation (Railroads)

8

7.52%

81.52%

3.61%

23.82%

18.48%

6.64%

Trucking

30

8.50%

58.89%

3.91%

20.56%

41.11%

6.23%

Utility (General)

18

3.90%

59.79%

3.11%

30.89%

40.21%

3.28%

Utility (Water)

23

4.15%

72.39%

3.61%

15.09%

27.61%

3.76%

Total Market

7247

7.49%

62.89%

3.91%

10.04%

37.11%

5.81%

Total Market (no financials)

6057

7.84%

76.49%

3.91%

7.92%

23.51%

6.69%

http://people.stern.nyu.edu/adamodar/New_Home_Page/datafile/wacc.htm

 

 

image091.jpg

https://www.forbes.com/sites/greatspeculations/2016/05/12/ranking-u-s-stocks-on-weighted-average-cost-of-capital/#3e12e7f541a6

Week 7

Chapter 11 Cash Flow Estimation and Risk Analysis

ppt  

 

 

image102.jpg

 

11-2: an expansion project

Detail:

Project L is the application of a radically new liquid nano-coating technology to a new type of solar water heater module, which will be manufactured under a 4-year license from a university. In this section, we show how these cash flows are estimated (we only show this for Project L here). It’s not clear how well the water heater will work, how strong demand for it will be, how long it will be before the product becomes obsolete, or whether the license can be renewed after the initial 4 years. Still, the water heater has the potential for being profitable, though it could also fail miserably. GPC is a relatively large company and this is one of many projects, so a failure would not bankrupt the firm but would hurt profits and the stock’s price.

 

Information given as blow:

·        Units sold at year 1: 10,000; increase by 15% after year 1;

·        Unit sales price at year 1: $1.50; increase by 4% after year 1;

·        Variable cost per unit at year 1: $1.07; increase by 3% after year 1;

·        Fixed cost at year 1: $2,120; increase by 3% after year 1;

·        Net working capital requirement

o   NWCt = 15%(Salest+1)

·        Tax rate = 40%.

·        Project cost of capital (WACC) = 10%.

 

Analysis of an Expansion Project: Project L, Guyton Products Company (GPC)

Assumptions / Inputs: Base Case

Equipment Cost

$7,750

Salvage Value of Equipment at Year 4

$639

Opportunity Cost

0

Externalities (Cannibalization)

0

Units Sold, Year 1

10,000

Annual Change Units sold after Year 1

15%

Sales Price Per Unit, Year 1

$1.50

Annual Change Sales Price after Year 1

4%

Variable Cost per Unit (VC), Year 1

$1.07

Annual Change in VC after Year 1

3%

Nonvariable Cost (FC), Year 1

$2,120

Annual Change in FC after Year 1

3%

Project WACC

10%

Tax Rate

40%

Working Capital as % of Next Year's Sales

15%

 

Template (excel) solution

 

Questions for discussion:

How to calculate OCF (operating cash flow)?

 

OCF

= (Sales Revenue – COGS – SG&A – Depreciation)*(1-T) + Depreciation

= EBIT *(1-T) + Depreciation

= Net Operating Profit after Taxes + Depreciation

 

 

What is incremental cash flow?

What is sunk cost? Example? Included in the cash flow?

What is opportunity cost? Example? Included in the cash flow?

Do you prefer companies that are stingy to give back to investors,  to those that are generous?

 

 

Homework of Chapter 11   

Questions on P487: 11-1abc, 11-2, 11-3, 11-4, 11-5, 11-7, 11-8, 11-9.

 

 

 

Chapter 14 Distribution to Shareholders: Dividends and Repurchases

ppt  

 

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image104.jpg

 

image106.jpg

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image109.jpg

 

image110.jpg

 

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image113.jpg

 

IMPORTANT MUST KNOW DIVIDEND DATES! | Dividend Investing 101 (video)

 

Ex/Eff Date

Type

Cash Amount

Declaration Date

Record Date

Payment Date

12/6/2018

Cash

0.52

2/20/2018

12/7/2018

1/2/2019

8/9/2018

Cash

0.52

2/20/2018

8/10/2018

9/4/2018

5/10/2018

Cash

0.52

2/20/2018

5/11/2018

6/4/2018

3/8/2018

Cash

0.52

2/20/2018

3/9/2018

4/2/2018

12/7/2017

Cash

0.51

4/3/2017

12/8/2017

1/2/2018

8/9/2017

Cash

0.51

2/27/2017

8/11/2017

9/5/2017

5/10/2017

Cash

0.51

2/21/2017

5/12/2017

6/5/2017

3/8/2017

Cash

0.51

2/21/2017

3/10/2017

4/3/2017

12/7/2016

Cash

0.5

2/29/2016

12/9/2016

1/3/2017

8/10/2016

Cash

0.5

2/29/2016

8/12/2016

9/6/2016

5/11/2016

Cash

0.5

2/18/2016

5/13/2016

6/6/2016

3/9/2016

Cash

0.5

2/18/2016

3/11/2016

4/4/2016

12/2/2015

Cash

0.49

3/2/2015

12/4/2015

1/4/2016

8/5/2015

Cash

0.49

3/2/2015

8/7/2015

9/8/2015

5/6/2015

Cash

0.49

2/25/2015

5/8/2015

6/1/2015

3/11/2015

Cash

0.49

2/25/2015

3/13/2015

4/6/2015

12/3/2014

Cash

0.48

2/24/2014

12/5/2014

1/5/2015

8/6/2014

Cash

0.48

2/24/2014

8/8/2014

9/3/2014

5/7/2014

Cash

0.48

2/20/2014

5/9/2014

6/2/2014

3/7/2014

Cash

0.48

2/20/2014

3/11/2014

4/1/2014

12/4/2013

Cash

0.47

2/25/2013

12/6/2013

1/2/2014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

https://www.nasdaq.com/symbol/wmt/dividend-history

 

 

Ex-dividend dates for December 05, 2018

Company (Symbol)

Ex-Dividend Date

Dividend

Indicated Annual Dividend

Record Date

Announcement Date

Payment Date

Brown Forman Corporation (BF.A)

12/05/2018

0.166

0.664

12/06/2018

11/15/2018

01/02/2019

Brown Forman Corporation (BF.B)

12/05/2018

0.166

0.664

12/06/2018

11/15/2018

01/02/2019

Franco-Nevada Corporation (FNV)

12/05/2018

0.24

0.96

12/06/2018

11/05/2018

12/20/2018

Gladstone Investment Corporation (GAIN)

12/05/2018

0.06

0.816

12/06/2018

10/09/2018

12/14/2018

Golden Ocean Group Limited (GOGL)

12/05/2018

0.15

0.6

12/06/2018

11/20/2018

12/20/2018

Halliburton Company (HAL)

12/05/2018

0.18

0.72

12/06/2018

11/07/2018

12/27/2018

Liberty Oilfield Services Inc. (LBRT)

12/05/2018

0.05

0.2

12/06/2018

10/23/2018

12/20/2018

Mosaic Company (The) (MOS)

12/05/2018

0.025

0.1

12/06/2018

10/18/2018

12/20/2018

Mannatech, Incorporated (MTEX)

12/05/2018

0.5

2

12/06/2018

11/14/2018

12/27/2018

Newmont Mining Corporation (NEM)

12/05/2018

0.14

0.56

12/06/2018

10/24/2018

12/27/2018

Old Dominion Freight Line, Inc. (ODFL)

12/05/2018

0.13

0.52

12/06/2018

11/01/2018

12/20/2018

Patterson-UTI Energy, Inc. (PTEN)

12/05/2018

0.04

0.16

12/06/2018

10/24/2018

12/20/2018

QUALCOMM Incorporated (QCOM)

12/05/2018

0.62

2.48

12/06/2018

10/16/2018

12/20/2018

TiVo Corporation (TIVO)

12/05/2018

0.18

0.72

12/06/2018

11/01/2018

12/20/2018

Travelport Worldwide Limited (TVPT)

12/05/2018

0.075

0.3

12/06/2018

10/31/2018

12/20/2018

The Vivaldi Opportunities Fund (VAM)

12/05/2018

0.119

0.608

12/06/2018

11/27/2018

12/14/2018

Vishay Intertechnology, Inc. (VSH)

12/05/2018

0.085

0.34

12/06/2018

10/29/2018

12/20/2018

 

    https://www.nasdaq.com/dividend-stocks/dividend-calendar.aspx?date=2018-Dec-05

 

 

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Homework of Chapter 14    

 

  Questions on P600: 14-1 (except f), 14-3, 14-5 (except c);

Problems on P602: 14-5, 14-7, 14-9.

 

 

 

Battle of Dividends: McDonald's vs. Walmart (FYI)

It's a close battle, but one comes out ahead.

Daniel Sparks

(TMFDanielSparks)

Sep 19, 2018 at 11:47AM

Unlike many growth stocks, dividend stocks can provide investors returns in two ways. Like a growth stock, the per-share value can appreciate over time. But what makes a good dividend stock different from the typical growth stock is its meaningful dividend payments. Through the day-to-day, month-to-month, and even year-to-year volatility that stocks often see, good dividend stocks continue paying solid dividends through thick and thin.

Two companies that exemplify consistency in their dividend payments are Walmart (NYSE:WMT)and McDonald's (NYSE:MCD). These two iconic dividend stocks have not only paid dividends for more than four decades, they've also increased their dividend payments every year since declaring their first dividends.

But which of these two dividend stocks is a better bet for investors' money today? Read on to find out.

Walmart

Dividend Yield

Dividends/Free Cash Flow

5-Year Average Annual Dividend Growth Rate

2.2%

34%

5.1%

DATA SOURCE: REUTERS AND MORNINGSTAR AND REUTERS. TABLE BY AUTHOR.

Walmart's dividend is solid no matter how you look at it. Not only does the company have a meaningful dividend yield of 2.2%, but the company is notably only paying out 34% of its free cash flow in dividends. This means Walmart's already juicy dividend has plenty of room for growth.

Then there's Walmart's impressive dividend history. The company has paid dividends every year since its first dividend in 1974. Further, Walmart has increased its dividend on an annual basis since its first dividend was paid.

Walmart continues to make dividend increases a priority, boosting its payout by an average of 5.1% every year over the past five years. The company's most recent dividend increase, however, was very small. Walmart increased its dividend by just 2% last year. 

Fortunately for dividend investors, Walmart has recently been serving up strong underlying business growth -- growth that can easily support further dividend increases. Highlighting Walmart's healthy business, adjusted earnings per share rose 19% year over year in the company's most recent quarter.

McDonald's

Dividend Yield

Dividends/Free Cash Flow

5-Year Average Annual Dividend Growth Rate

2.6%

88%

5.9%

DATA SOURCE: REUTERS AND MORNINGSTAR AND REUTERS. TABLE BY AUTHOR.

The one area McDonald's dividend doesn't live up to Walmart's is when it comes to the percentage of cash it is paying out in dividends. The fast-food company is already paying out 88% of free cash flow, leaving less breathing room for its dividend.

But McDonald's dividend is more attractive when it comes to dividend yield and recent dividend growth. At 2.6%, McDonald's dividend yield is well ahead of Walmart's. In addition, McDonald's average five-year growth rate for its dividend of 5.9% slightly outpaces Walmart's dividend growth during this period. Similarly, the fast-food king's 7% dividend increase last year is above Walmart's most recent increase of 2%.

In addition, McDonald's longer-term dividend history is just as impressive as Walmart's, with dividend payments and consecutive annual increases dating back to the company's first dividend in 1976.

Finally, McDonald's business is growing nicely as well. The fast-food restaurant's adjusted earnings per share increased 15% year over year in the company's most recent quarter. 

The verdict

Both of these dividend stocks represent enduring companies with strong underlying businesses and dividend-friendly capital allocation practices, making them each worth further consideration.

But Walmart's recent stronger earnings momentum, combined with the greater wiggle room for its dividend thanks to the fact that it is paying out just 34% of free cash flow in dividends, makes the supermarket retailer's dividend slightly more attractive. Sure, McDonald's has a higher dividend yield. But there's less risk in Walmart's dividend ever taking a hit since the company is paying out a lower portion of its annualized free cash flow in dividends.

That said, this was a close battle.

 https://www.fool.com/investing/2018/09/19/battle-of-dividends-mcdonalds-vs-walmart.aspx

 

 

*** stock repurchase”

For discussion:

Shareholders will be better off with a cash dividend or a stock buyback plan?

What about the company?

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Useful website (FYI):

https://www.wallstreetmojo.com/share-repurchase-buyback-guide/

 

Wal-Mart's buyback is huge, but here's why you should not be chasing buybacks (FYI)

·         Wal-Mart is part of an elite group of large-cap companies I call "buyback monsters" who have bought back huge amounts of their stock in the last decade or so. Their ranks include IBM, Microsoft, Kohl's, Target, and Boeing.

·         What's it mean? It means that these companies have dramatically boosted their earnings, not by selling more stuff, but by buying back stock.

·         The lesson: stock buybacks can boost earnings, but without underlying fundamentals, it's not worth chasing them.

Bob Pisani@BobPisani

Published 5:38 PM ET Tue, 10 Oct 2017  Updated 7:25 PM ET Tue, 10 Oct 2017CNBC.com

 

Wal-Mart trading volume was huge today, more than three times normal as investors love the emphasis on e-commerce and another massive $20 billion buyback.

You can buy a lot of Wal-Mart stock for $20 billion. It's about 8 percent of the shares outstanding at the current price, but it doesn't even come close to the biggest buybacks ever announced:

Biggest buybacks ever

GE (2015) $50 billion
Apple (2017) $50 billion
Apple (2015) $50 billion
Apple (2013) $50 billion
Microsoft (2013) $40 billion
Microsoft (2006) $40 billion
Microsoft (2008) $40 billion

Still, what's important is that Wal-Mart is part of an elite group of large-cap companies I call "buyback monsters" that have bought back huge amounts of their stock in the last decade or so. Their ranks include IBM, Microsoft, Kohl's, Target, and Boeing:

Buyback monsters
(% of shares bought back)

Wal-Mart (since 2002) 30 percent
ExxonMobil (since 2000) 41 percent
IBM (since 1998) 53 percent
Kohl's (since 2006) 50 percent
Target (since 2004) 40 percent
Boeing (since 1999) 39 percent

What does it mean? It means that these companies have dramatically boosted their earnings, not by selling more stuff, but by buying back stock. It means that all other things being equal, Wal-Mart, for example, has improved its earnings by 30 percent since 2002 just by buying back stock.

This sounds like a great deal for stock holders. But does buying back stock really cause stock prices to outperform? If it really does help boost earnings, why don't we just buy the companies that have bought back the most stock?

It's a tough question to answer, but, as with everything, there's an ETF for that. And the evidence is it can be a big help, but without improvement in fundamentals, investors are not going to be fooled.

There are two ETFs that specialize in buybacks: The Powershares BuyBack Achievers Index (PKW) is comprised of U.S. securities issued by corporations that have effected a net reduction in shares outstanding of 5 percent or more in the trailing 12 months. And the SPDR Buyback Index (SPYB) is designed to measure the performance of the top 100 stocks with the highest buyback ratios in the S&P 500.

OK, so far so good. What's the verdict?

Buybacks vs. the markets
(YTD)

S&P 500 up 13.8 percent
SPDR Buyback (SPYB) up 11.0 percent
PowerShares Buyback (PKW) up 11.3 percent

Well, that's underwhelming. There is no outperformance. It's the same if you go back two years.

It's possible there are too many companies in the ETFs. Both have over 100. But I think there's a bigger problem. Buybacks do not guarantee stock price hikes.

Just look at General Electric, which has bought back 15 percent of its stock just since the start of 2016. It's down 20 percent in that same period.

And look at Kohl's, Target, and IBM. Buyback monsters, all of them, but the fundamentals are awful, and buybacks did not save them. All three are down double-digits this year.

In contrast, Apple's business has been great, as has Microsoft. Both are also buyback monsters, and they are up huge this year.

The lesson: Stock buybacks can boost earnings, but without underlying fundamentals, it's not worth chasing them. Wal-Mart's buyback was certainly a big help, but without the added bonus of additional investments in the e-commerce business, it wouldn't have been a long-term boost.

 

https://www.cnbc.com/2017/10/10/wal-marts-buyback-is-huge-but-dont-chase-buybacks.html

 

 

 

Week 8

Final Exam  

Project due with final

 

 

 

Summary of Equations FYI

 

*** time value of money***

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))

 

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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)

 

*** bond pricing ***

 

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

 

 

image004.jpg (annual coupon bond)

 

image006.jpg(semi annual coupon bond)

 

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NPV and IRR

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Return, Risk

 

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Dividend Growth Model

        Po= D1/(r-g) or Po= Do*(1+g)/(r-g)

     R = D1/Po+g = Do*(1+g)/Po+g

     D1=Do*(1+g); D2= D1*(1+g)…

 

WACC

WACC = weight of debt * cost of debt   + weight of equity *( cost of equity)

Wd= total debt / Total capital  = total borrowed / total capital

We= total equity/ Total capital  

 

Cost of debt = rate(nper, coupon, -(price – flotation costs), 1000)*(1-tax rate)

Cost of Equity = D1/(Po – Flotation Cost)  + g   

D1: Next period dividend; Po: Current stock price; g: dividend growth rate

Note: flotation costs = flotation percentage * price

 

Or if beta is given, use CAPM model (refer to chapter 6)

Cost of equity = risk free rate + beta *(market return – risk free rate)

Cost of equity = risk free rate + beta * market risk premium