Corporate Finance

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Corporate Finance

• Everything..
• R Srinivasan

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Corporate Finance

• Valuation and Cost of capital
• Capital budgeting
• Capital structure, financing and dividend policy
• Working capital

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Valuation

• Generalised valuation
• Arbitrage and value additivity
• Patterns
• Level perpetuity
• Growing perpetuity
• Level annuity
• Growing finite cash flow

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Valuation

• Growing finite t years cash flow
• C1/(r-g)1-(1g)t/(1r)t

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Valuation

• Compounding intervals (1r/m)m-1
• Continuous compounding
• Stated and effective rates
• Nominal and real rates
• 1rnominal(1rreal)(1inflation rate)

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Valuation Straight Bonds

• YTM
• Duration
• Sensitivity of value to changes in interest
  rates
• 1PV(C1)/V2PV(C2)/V3PV(C3)/V
• ?V/V ?(1r)/(1r)D

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Valuation Common Stock

• Perpetual growth models
• Sustainable growth
• P0No-Growth PVGO
• No-growth EPS1/r
• PVGONPV1/(r-g)
• where NPV1 -INV1 INV1ROE/r
• gPloughbackROE
• EPS1/P0 interpretation

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Valuation

• Multiple stages
• Supernormal stage plus PV of normal growth
• Free cash flow
• NOI approach

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Cost of Capital

• Security return and standard deviation
• Portfolio return and standard deviation
• Diversification Portfolio variance
• 1/N Average Var(N-1)/N Average covariance
• Systematic and unsystematic risk
• CAPM
• Opportunity cost of capital r rAand
• Adjusted cost of capital r

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Cost of Capital

• 1. VL VU Tc D
• 2. WACC D/V (1-Tc) rDE/V rE Definition
  of WACC
• 3. rE rA (rA - rD ) (1- Tc) D/E MM
  Proposition II
• 4. b E 1 (1- Tc) D/E b A If debt is
  risk free
• 5. rE rf (rM - rf) b E CAPM
• 6. WACC rA (1- Tc D/V) MM

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Valuation

• Contingent cash flow
• Call/Put
• American/European
• Binomial
• Black-Scholes
• Underlying asset price, Exercise Price,
  Risk-free rate, Volatility, Time

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Capital Budgeting

• NPV and IRR not payback and accounting rate of
  return
• Accept/reject single project use NPV or IRR,
  unless no/multiple IRR
• Mutually exclusive projects Same life and risk
• Use NPV or IRR of difference between projects

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Capital Budgeting

• Mutually exclusive projects Different lives same
  risk
• Use NPV-assumes replacement projects have zero
  NPV. OK for projects with long lives
• Use NPV-with specific replacements that make
  project with comparable lives
• Use replacement chain or EAC
• Care Use only real cash flows for EAC

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Capital Budgeting

• Incremental nominal cash flows with empirically
  measured discount rate
• Components of cash flow
• Investment in fixed assets, salvage value
• Investment in working capital, release
• Operating revenues/expenses
• NO INTEREST

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Capital Budgeting

• NPV assumes now or never
• Real Option framework
• Abandonment
• Follow-up
• Wait and learn
• Flexibility

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Capital structure

• Market Efficiency
• MM-1 No taxes
• MM-2 Corporate taxes
• Miller Both corporate and personal taxes
• GL 1-(1-TC)(1-TpE)/(1-Tp)
• Bankruptcy costs
• Agency costs

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Dividends

• MM Does not matter
• Lintner behavioural model
• DIV1-DIV0Adjustment rate(target
  ratioEPS1-DIV0)
• Agency costs/signalling

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Working Capital Management

• Operating cycle, cash conversion cycle, weighted
  cycles and supply chain management
• Investment in receivables
• Cash management
• EOQ and Miller-Orr models