Corporate Finance chapter 1 PDF

Preview

Summary

Professor He...

Description

Corporate Finance Chapter 1 









Life cycle of firms o Private firm to public firm: proprietorship  Start off as start-up (2 or 3 people) founder  Stockholders are owners of corporation o (accounting firms) Partnership, corporation (publicly traded) o Founder’s own funds + Angel financing  business angels  Angels: wealthy individuals who want to invest in start-ups (form associations)  Largest associations in U.S. can have up to 300 members  $50,000 to $400,000 provided o Venture cap + bank debt finance expansions  Business expertise, offer advice, $30 million to $80 million, limited partnerships  Determine if start-up has potential to grow (equity financing)  Higher rate of return What should be management’s primary objective? o The primary objective should be shareholder wealth maximization which translates into maximizing stock price  Should focus on future stock price  Intrinsic/fundamental  Should firms behave ethically? YES!  Enron and Arthur Anderson  Protecting “whistle blowers”  Do firms have any responsibilities to society at large? Yes Stock Price Maximization and Social Welfare o Stock price maximization also benefits society  Owners of stocks are society  Customer benefits: efficient, low cost business that produce high-quality products  Employee benefits: increase employment, salary, and stock compensation Three aspects of cash flows that affect company value o Total amount of expected cash flows  Bigger is better o Timing of the cash flow stream  Sooner is better o Risk of the cash flows  Less risk is better o Show these aspects in a “scientific way”? “Equation One” o A firm’s value is the sum of all the future expected free cash flows when converted into today’s dollars: 2

o

( 1+WACC ) ¿ ¿ FCF 2 FCF 1 + ¿ 1+WACC

o

Discount at rate of WACC





o Magnitude captured by numerator o Timing captured by time frame o Risk captured by WACC Free Cash Flows (FCF) o Free cash flows are the cash flows that are available (or free) for distribution to all investors (stockholders and creditors) o FCF = sales revenues – operating costs – operating taxes – required investments in operating capital o Sales revenue: claims of other stakeholders o Operating costs: go to supplies, employees Weighted Average Cost of Capital (WACC) o WACC is the average rate of return required by all of the company’s investors o WACC is affected by:  Capital structure (the firm’s relative use of debt and equity as sources of financing)  Interest rates: debtholder ask for higher risk, higher return  Investors’ overall attitude toward risk  Debt is cheaper  less risky...