Fin301 10 - FIN 301 study guide PDF

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FIN 301 study guide...

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Actual v. Target numbers •

Target=optimal capital structure

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Too high/too little debt then cost is high

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Target numbers are used

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bond YTM

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before tax cost of debt

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a marginal cost

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cost of debt

rd

Low rd •

Higher price of bond

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Less risky bond

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Better company

Public v. Private Placement •

Public: in news paper

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Private: contact investors and negotiate, price can vary, less investors needed, less gov't regulation, cheaper

Company with no existing bond issues rd •

Calc cost of debt from money borrowed form bank (lending rate)

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Refer to cost of debt of similar company

Interest's effect on taxation •

Interest is a necessary expense for running a business

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Dividends are not necessary

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Interest is tax deductable

Debt v. Preferred Stock •

Debt (bond)

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Preferred stock (equity)

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Cash priority bond holder first

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Div not required for preferred but incentive to pay

Incentive to pay preferred dividend 1. cannot pay common divided 2. difficult to raise additional funds 3. preferred stockholders may gain control of firm (recieve voting power) rp v. rd •

rp is always greater than rd

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may differ in real market because have to consider AT rd

Cost of RE •

Csh within company

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No interest pay

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Opportunity cost!

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Money could be used to buy other securities, earn possible higher return

2 choices with RE 1. pay dividends 2. reinvents in company (ie new project) 3 ways to determine cost of common equity 1. CAPM: rs = rrf + (rm - rrf)b 2. DCF: rs=D1/P0 + g 3. Bond-yield-risk premium: rs = rd + RP (RP is a predetermined %)...