General Flashcards
Modigliani–Miller theorem
The capital structure is a irrelevance principle.
Consider two firms which are identical except for their financial structures. The first (Firm U) is unlevered: that is, it is financed by equity only. The other (Firm L) is levered: it is financed partly by equity, and partly by debt. The Modigliani–Miller theorem states that the value of the two firms is the same.
defensive tactics pre and post bid
Pre: communicate effectively with shareholders revaluate non-current assets poison pill strategy super majority
Post: appeal to own shareholders attack bidder White Knight Counterbid or Pacman defence Competition authorities
Also positive and negative covenants
Positive Covenant
A bond covenant that requires the issuer to take certain actions. For example, a positive covenant may require an issuer to maintain enough liquid assets to cover the principal of the bond. More commonly, a positive covenant requires the issuer to have a certain amount of insurance or submit to periodic audits. It contrasts with a negative covenant, which prevents the issuer from taking the enumerated actions. It is also called an affirmative covenant, ie certain ratios, GAAP reporting, audited financials, perform maintenance on assets, maintain life insurance on certain employees, pay taxes timely.
‘Negative Covenant’
A bond covenant preventing certain activities, unless agreed to by the bondholders. Negative covenants are written directly into the agreement creating the bond issue, are legally binding on the issuer, and exist to protect the best interests of the bondholders. Also referred to as “restrictive covenant”, ie dividends, further debt, sell assets, certain leases, takeover or merger, change salaries.
Adjusted Present Value (APV)
Adjusted Present Value (APV) is an approach to investment appraisal that should be used if the if the financial risk of the company is expected to change significantly as a result of undertaking a project.
APV = NPV + Financing Impact
The Capital Asset Pricing Model (CAPM)
The CAPM shows how the minimum required return on a quoted security depends on its risk.
The required return of a rational risk-averse well-diversified investor can be found by returning to our original argument:
Required Return = Risk Free + Risk Premium
NPV with taxation
When appraising capital projects, basic techniques such as ROCE and Payback could be used. Alternatively, companies could use discounted cash flow techniques such as Net Present Value (NPV) and Internal Rate of Return (IRR).
When calculating the WACC, the cost of debt should always be a “post tax” figure - i.e. has been adjusted for the tax relief on interest. This is the normal way of determining the WACC so no extra work is required.
Poison Pill Strategy
A shareholder rights plan, colloquially known as a “poison pill”, is a type of defensive tactic used by a corporation’s board of directors against a takeover. Typically, such a plan gives shareholders the right to buy more shares at a discount if one shareholder buys a certain percentage or more of the company’s shares.
Takeover methods considerations (3)
Cash:
PRO: quick at low costs, certainty about bid, easy for investors to realize investment, less risk
CON: usually requires borrowing cash, taxable, no participation in new company
Share exchange:
PRO: non-cash, “boot strap” E/P, shareholder capital increase, possible to fund large acquisitions.
CON: sharing of future gains, risk of falling share price of bidder.
Earn out:
refers to a pricing structure in mergers and acquisitions where the sellers must “earn” part of the purchase price based on the performance of the business following the acquisition.
Bootstrapping the P/E ratio
A CORPORATE FINANCE practice where an acquirer buys a company with a low PRICE/EARNINGS RATIO through a STOCK SWAP in order to boost the post acquisition EARNINGS PER SHARE (EPS) of the newly formed group and create a rise in the stock price.
problems with non-financial reporting
Relevance
Reliability
Comparability
Derivatives Types (5)
Forward Forward rate agreements Futures contracts Swaps Options
Derivatives Accounting Standards
IAS39: Recognition and measurement
IFRS 7: disclosure (assets and liabilities)
IFRS 9: to be implemented Jan 2018 supersedes IAS39
Disclosure and measurement
IFRS 7
significance
nature and extent of risk
qualitative and quantitative
Risk Categories:
credit risks
liquidity risks
market risk
Financing Criterias
Cost
Duration
Lending restrictions
Gearing
Currency associated with the cash flow (in/out)
Impact on financial statements, tax, stakeholders
Availability
Preference shares
post tax (compared to debt) paid as fixed proportion of share
Types:
cumulative (skipping a payment will have to be paid later)
non-cumulative (skipping possible)
participating (similar to ordinary shares)
convertible
