340 Exam Review Final - Summary Business Finance PDF

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Teddy Li | BMGT340 | Exam 3

Chapter 10 – Stock Valuation & Sensitivity Analysis Free Cash Flow = EBIT * (1-Tax Rate) + Depreciation – CapEx – Increases in Net Working Capital V0 =

FCF1 FCF2 FCFN VN + +... + + 1 + rwacc (1 + rwacc ) 2 (1 + rwacc ) N (1 + rwacc ) N V0

VN =

! 1 + gFCF " FCFN +1 =$ % × FCFN r wacc −g FCF ' rwacc −g FCF (

P0 =

V0 +Cash 0 − Debt 0 SharesOutstanding

is the Present Value(Future Free Cash Flow of Firm)

Terminal Enterprise Value of a constant long-run growth rate

Share price per stock WACC = rate company expected to pay shareholders to finance assets (inversely related to share price bc have to discount FCF by WACC); Terminal Growth = Stable growth rate expected for all future cash flows (directly related bc FCF worth more) Chapter 11 – Risk and Return in Capital Markets R t+ 1 =

Divt + 1 + Pt + 1 − Pt Pt

=

Divt + 1

P −P + t +1 t Pt Pt = Dividend Yield + Capital Gain Yield

Realized return from your investment in the stock from t to t+1 (Total return over time

period) 1 + Rannual = (1 + R1 )(1 + R2 )(1 + R3 )(1 + R4 ) Realized

Return for Quarterly Returns, found by compounding

1

R = ( R1 + R2 + ... + RT ) T

Var (R ) =

Average Annual Return of Security |||| Geometric Return = [(1+R1)(1+R2)(1+Rt)]1/t

1 ((R1 − R ) 2 + (R2 − R ) 2 + ...+ (R T − R ) 2 ) T−1

Variance of Return |||| Standard Deviation (Volatility) SD( R) = Var( R) Standard Deviation @ 95% CI: Average +/- (2*SD) Larger stocks = lower variation; Common Risk = Linked across investments; Independent = unrelated Diversification can eliminate unsystematic risk but does not remove systematic risk Chapter 12 – Systematic Risk and Equity Risk Premium (Systematic Risk = Undiversable Risk or Market Risk/Volatility) Security Market Line = representation of market equilibrium E(Ri) = Rf + bi * [E(RM) – Rf] (Required Rate/Capital Asset Pricing Model); bi * [E(RM) – Rf] = Risk Prem for bonds/Security/Stock where Rf is risk free rate, Rm = return on market Stock Beta of less than 1 = Security is less volatile than the market; Market of all investable assets = 1.0 Expected Return = weight*Expected + weight2*Expected2 + weightn*Expectedn Variation = w2SD2 + w22SD22 + wn2SDn2 Stock beta = percentage change in return that we expect for each 1% change in market’s return (use historical return); portfolio = weighted avg beta Chapter 13 – The Cost of Capital Debt & Equity of a Firm = Capital; the outstanding amount constitute capital structure Cost of debt is the interest a firm would need to pay on new debt; different from coupon rate of existing (can be est by ytm) Cost of Equity = Risk Free Rate + Equity Beta * Market Risk Premium = Dividend1 year future/Pcurrent stock price + g rWACC = rEE% + rpreferredP% + rD(1-TC)D% with preferred stock |||| without preferred stock rWACC = rEE% + rD(1-T C)D% WACC is driven by risk of company’s line of business & leverage DON’T USE WACC if project risk differs from average risk for firm Chapter 16 – Capital Structure Modigliani Miller Theorem (MM), three variants based on assumptions: perfect capital market; existence of taxes; existence of taxes, costs & financial distress Collection of Securities that firm issues to raise capital from investors (Equity/debt most common) Interest Expense = tax deductible, leverage increases total amount of income available to all investors: ITS = Corporate Tax Rate * Interest Payments MM Perfect Capital Market, all equity MM Taxes MM Taxes & Financial Distress financed •! Value of Levered = Value of •! VLev = VUnlevered + PV(Tax Shield) •! VLev = VUnlevered + PV(Tax Unlevered •! Tax shield = single period Shield) – PV(Distress) •! Cost of Equity INC with leverage •! Static Tradeoff Theory – optimize •! Cost of Equity INC with leverage, not benefits of leverage (tax shield) •! Cost of Equity for levered equity: re as big (eq. holders benefit from shield) = rU + D/E(ru – rd) less cost of lev (cost of distress) •! Cost of Eq. re = rU + D/E(ru – rd)(1-t) •! Can DEC WACC by INC leverage Weighted average of cost of capital (with corporate taxes) = rE(E/(E+D)) + rD(1-T C)D/(E+D) Financial Distress costs = (direct) lawyers, bankruptcy experts; (indirect) customers, suppliers, employees Tradeoff Theory – total value of levered firm = value of firm w/o leverage + PV(tax savings from debt) – PV of fin. distress cost Leverage = amount of debt used to finance assets Equity Financing = loans without repayment & interest (must share profits) vs. Debt Financing (Tax deductible, no need to give up part of company) Current Yield = Interest/Market Price; (1+Nominal)/(1+Inflation) = 1+real...