An Outline on Corporate Finance

Corporate Finance, Spring 2010 Professor K. Ayotte (“A-Yacht”)

Note: Exam consisted of valuation exercise (about 50%) and short answer questions (about 50%), some of which were word limited. Valuation exercise was in Excel and resembled in-class exercises, except for a few new variations (e.g., cost of debt drawn from different source mentioned in slides but not used in class exercises).

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FINANCIAL STATEMENTS

Accounting & Financial Statements

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Abbreviations  EBIT: Earnings Before Interest and Taxes: measure of profit that belongs to (1) debt holders, (2)    

gov’t, and (3) equity holders. ROE:return on equity

PV: present value NI: net income r: opportunity cost/cost of capital

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Performance Measurement  Accounting Profit: Return On Equity (ROE) = NI/NW  Economic Value Added: NI – opportunity cost * Equity  Opportunity Cost of Capital = rate of return investor demands/can get for investment of comparable risk.

 E.g., if 10% return available on investment of comparable risk, NI = 75, and equity = 500, economic value added = 75 – 10%*500 = 75 – 50 = 25

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Basic Valuation  Present value of cash flow perpetuity, where C = cash flow and r = opportunity cost of capital:

PV = C/r

  E.g., Assuming 10% return on investment of comparable risk, max you’d pay for firm that generates $75 of income in perpetuity = $75/10% = $750. Multiples:  P/E multiple: Price-per-share/Earnings-per-share  NB: all else equal lower discount factor  higher P/E ratio Operating Efficiency: earnings generated by each dollar of sales Asset Turnover: sales generated by each dollar of assets Financing Decisions*: assets generated by each dollar of equity [*BUT be careful–many financing decisions do not affect shareholder value] DupontFormula:Helps you determine where SH value is generated by disaggregating ROE into 3 parts  Profit Margin = Net Income/Sales  Assets Turnover = Sales/Assets  Financial Leverage =...