1. Corporate Finance Flashcards
Modigliani Miler Proposition #1
No Tax: Capital Structure does not affect the Value of the Firm (Vlev = V unlev)
Tax: 100% Debt is NICE (Vlev = Vunlev + tD)
Modigliani Miller Assumption
- Homogeneous Expectations
- Perfect Capital Markets (no tax, no bankruptcy)
- Risk Free Rate
- No Agency Costs (monitoring, bonding)
- Independent Decisions
Modigliani Miller Proposition #2
No Tax: Higher Leverage increases Ke and offsets any debt effect. WACC not affected.
- Equation: Re = Ro + [(Ro - Rd) * D/E] and WACC is constant
W/ Tax: WACC is minimized @ 100% debt, even though more leverage increases Ke
Equation: Re = Ro + [(Ro - Rd) * D/E] * (1-t)
Modigliani Miller w/ Taxes
Equation: V(lev) = Vunlev + tD - FD
Equation 2: Re = Ro + [(Ro - Rd)*(1-t)] * D/E
Agency Costs
- Managers v. Shareholders
1) Monitoring (Auditor, BoD, Watching)
2) Bonding (Non-compete, Insurances Performance) - Residual Losses (Since 1 & 2 are not perfect)
Static Trade-Off Theory
From a certain point, adding debt will increase WACC, despite the tax shield provided by debt
Equation: V(lev) = Vunlev + tD - FD
Common Law
- Less Debt, More Equity
Civil Law
- More Debt, Less Equity
Consequences (Inflation, GDP)
- High inflation and low GDP worsen long-term investments
Dividend Types
1) Regular (may include DRP)
2) Extra / Special
3) Liquidating
3) Stock Dividend
DRP (Div Type)
- Div Cash -> Reinvestment
- Do NOT dilute EPS (if bought @ market price)
- Issuance
- Pros: empowerment of minorities, cheaper (no flotation), no transaction costs for participants
- Cons: more work record keeping, cash is STILL taxed
Dividend Impact in Balance Sheet
- Lower Cash
- Higher Leverage
Stock Split (Impacts)
- More qtd of shares
- Lower EPS and Dividend per Share
Equation V(unlev)
Equation: V(unlev) = EBT (1-t) / WACC
Calculate Re (cost of equity) after buyback
Re = Ro + [(Ro-Rd)*(1-t)] * Debt / Equity after Buyabck
Stock Dividend (Div Type)
- NO chg in value
- NO chg in % ownership
- NO chg in leverage because mkt value of equity does not change
- Cost PER share will be lower (but TOTAL cost remains flat)
- MORE liquidity
- LESS volatility
- ↓ Price
- ↓ Retained Earnings
- ↑ Contributed Capital
- ↓ EPS = ↑ Qt of Shares
- PRICE drops by [D*(1-td)]/(1-tcg)]
Stock Split (Div Type)
- Similar to stock dividend (non-cash)
- Does not affect P/E (double qtd of shares, so half of price, but also half of EPS)
Dividend Irrelevance
- If no tax, no transaction costs, no agency costs, no info assymetry
Bird in Hand Theory
- Investors prefer money in hand
Tax Aversion in Dividends (Implications)
- If Tcapgains < Tdiv, prefer capgains
- If Tcapgains > Tdiv, prefers CASH
- If Tcapgains = Tdiv, prefers CASH
Dividend Signs
- Dividend Initiation: ambiguous
- Unexpected Dividend Increase: revenues are strong
- Dividend Decrease: revenues are bad
Agency Costs
- Shareholders v. Mgrs: over or underinvestments due to preferences over less/more payout
- Shareholder v. Bondholder: Fight for CASH (payout, interest payment)
Factors affecting dividend policy
- Investment Opportunities
- Volatility of future earnings
- Financial flexibility (need for cash)
- Tax considerations
- Flotation costs
- Legal (covenants etc)
Tax Systems (Types)
- Double Taxation (@ corporate + @ individual)
- Split Rate (different rates for retained or distributed). Divs still taxed twice, but @ lower levels in comparison to Double
- Imputation (pay @ corporate, but due @ individual)
Stable Dividend
- Changes are only allowed when SUSTAINED earnings increased
Target Payout Adjustment Model
Δ Increase = [(Lucro t1*Payout Novo) - Atual Div] * (1 / n)
Share Repurchase Methods
- Open mkt (vai a mercado e já era)
- Fixed price tender offer (Banco Inter)
- Dutch Auction (selects range, bids until all order is cleared @ higher price for all)
- Direct negotiation
Wealth for Shareholders from Cash Dividend (Formula)
Equation: (mkt value - cash)/#shares + div/#shares
EPS effect from repurchase
EPS dps = NI antes - cash / #qtd menor shares
Repurchase / Buyback Effects
Internal Funds = ↑ EPS (NI/#menos shares)
External Funds = ↑ EPS if Kd after-tax < E/P
Effect BVPS:
If Precompra > Pbefore = ↓ BVPS
If Precompra < Pbefore = ↑ BVPS
Dividend Trends Nowadays
- Adapt to investor preferences
- ↓ Cash dividends
- ↑ Repurchases (US, Europe)
DPR (Payout)
DPR = Div / NI
Coverage (DCR)
DCR = NI / Div
FCFE Coverage
FCFE Coverage = FCFE / (Div + Repurchase)
Dividend Yield
Div Yield = Div / Price
Governance: disperse ownership v. disperse voting
- Weak shareholders
- Strong managers
Governance: concentrated owner v. concentrated voting
- Strong shareholders
- Weak managers
Governance: disperse owner v. concentrated voting
- Weak minorotários
Governance: concentrated owner v. disperse voting
- Results from shareholders w/ restrictions
Stewardship Codes
Voluntary Codes
ESG approach to fixed income v. equity
Fixed Income: worries on the downside risks
Equity: worries on upside/downside risks
M&A integration types
- Statutory = (Assets + Liabilities) = Spoonrocket
- Subsidiary = Gilette and P&G
- Consolidation = ITUB4
M&A merger types
- Horizontal (similar businesses)
- Vertical (same supply chain, backward supplier or forward distributor)
- Conglomerate (diversification)
Bootstrap Earnings
- High P/E firm issues shares with low book value but high prices to acquire real book value shares w/ lower prices
- ↑ EPS, but should converge to weighted average
- Diff stages, diff business (similar sectors trade @ similar stock prices and multiples)
M&A buying stocks (advantages)
- Shareholders receive
- You can bypass mgmt and directly buy shares
- Shareholders pay taxes on the deal liquidation
M&A buying assets (advantages)
- If >50% it will need shareholders
- If <50% it just needs management
- Target pays taxes on the income received
Pre-Deal Defense
- Poison pill (flip IN buying target or flip over buying acquirer)
- Poison put (cláusula de vencto antecipado)
- Restricted vvoting
- Supermajority rules
- Staggered board
- Golden parachutes
Post-Deal Defense
- Say no
- Litigation
- Greenmail (calaboca $)
- Repurchase of shares
- Recapitalize w/ debt
- Crown Jewel (may be subject to litigation)
- Pacman (offer to buy acquirer)
- Knight (bid war via friend)
- Squire (minority stake purchase via friend)
Bear Hug
- Go directly to the BoD
- If they refuse,
M&A Valuation - DCF (Pros and Cons)
Pros: easy to customize
Cons: DCFs may be negative, usual errors, chg of WACC across time brings inconsistency
M&A Valuation - Multiples (Pros and Cons)
Pros: data access is easy, similar assets
Cons: gives fair price stock but not a fair takeover price
- hard to incorporate in the analysis
- timing and demand
Takeover Premium (Formula)
TP = (DP - SP) / SP
Acquirers Gains (Formula)
Gacquires = S - (Pdeal - Pantes)
Target Gains (Formula)
Gtarget = (Pdeal - Pantes)
Value A+T (Formula)
Vat = Va + Vt + S - Cash
Conditions to create value in a M&A
- Strong buyer, low premiums, few bids, good market reaction
Target Possibilities
- Carve-out (create new tax ID + IPO in the future)
- Spin-off (Getnet)
- Split-off (Shareholders may exchange shares in the parent for shares in the Newco)
- Liquidation
Cashflow Estimations
- Initial Layout = FCInv + NWC Inv
- Op. Inflow = [(S - C - D)*(1-t)] + D
- TNOCF = Sal(t) + NWC Inv - [t* (lucro na venda)]
MACRS 10y (scheme)
Depreciate 10% in Y0,5
Depreciate higher in volume between (linear, 20%)
How to evaluate mutually exclusive projects
- Calculate NPV for MMC
- Find each project NPV and use as PV, find EAA (PMT)
Real Options (Types)
- Timing
- Sizing
- Flexibility (price-setting or production-flexibility)
- Fundamental (PETRO)
Scenarios
- Scenario (base, best, worst case)
- Sensitivity (chg one input)
- Monte Carlo (distribution of NPV outcomes)
