Book IV Formulas

Question 1

Net Present Value (35.1)

One initial investment outlay

Answer 1

CF₁ = after-tax cash flow at time t

r = required rate of return for the investment

Outlay = investment cash flow at time zero

Invest if NPV > 0

Do not invest if NPV < 0

Question 2

Net Present Value (35.2)

Outlay as negative cash flow

Answer 2

Question 3

Internal Rate of Return (35.3)

(initial outlay)

Answer 3

Invest if IRR > r

Do not invest if IRR

Question 4

Internal Rate of Return (35.4)

Multiple outlays

Answer 4

Question 5

Profitability Index (35.5)

Answer 5

Invest if PI > 1.0

Do not invest if PI < 1.0

Question 6

Average Accounting Rate of Return (35)

Answer 6

AAR = Avg net income/ Avg book value

Question 7

Weighted Average Cost of Capital (36.1)

Answer 7

Question 8

Yield to Maturity (36.2)

Answer 8

Question 9

Cost of Preferred Stock (36.3)

Answer 9

Question 10

Capital Asset Pricing Model (36.4)

Answer 10

Question 11

Priced Risk (36.5)

Answer 11

Question 12

Dividend Discount Model (36.6)

Answer 12

Start with Gordon Growth Model:

P₀= D₁ / (r_e - g)

Question 13

Sustainable Growth Rate (36.7)

Answer 13

Question 14

Bond Yield Plus Risk Premium Approach (36.8)

Answer 14

Question 15

Lever Asset Beta (36.8.1)

Answer 15

Question 16

Market Risk of Company’s Equity 36.9)

Answer 16

Question 17

Estimate Beta Using Pure-Play Method With Comparables (36.11)

Answer 17

Question 18

Country Risk Premium (36.13)

Answer 18

Question 19

Break Point (36.14)

Answer 19

Question 20

Cost of Capital With Flotation Costs (36.15)

Answer 20