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Corporate Finance > Term 1 > Flashcards

Term 1 Flashcards

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1
Q

What is the main objective in CF?

A

Shareholder value maximisation

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2
Q

What is an activist investor?

A

Somebody who buys shares to influence board decisions

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3
Q

What are the three key issues of CF?

A

Investment Decisions
Finance Decisions
Dividend Decisions

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4
Q

Key issues of Investment Decisions?

A

Use NPV to value investments, take highest

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5
Q

Key issues of Financing Decisions

A

Can use retained earnings or external sources (equity v debt)

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6
Q

What are the key issues of dividend devisions?

A

Dividends are not a legal obligation, therefore should have a higher ROR than debt

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7
Q

What is BETA?

A

Measure of company risk, likelihood of dividend failure

Based on assumption markets are efficient

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8
Q

What is the current macroeconomic environment?

A

Brexit Uncertainty
Slowing Economic Growth
Rising Inflation
Volatile Currency

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9
Q

What are the three costs of the principal agent problem?

A

Monitoring expenditures by the principal- So principal can ensure that agent is working well
The bonding expenditures by the agent- A long term contract to show the agent is dedicated
Residual loss

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10
Q

How can you limit detrimental managerial behaviour?

A

Incentives
Monitoring
Internal Control Mechanisms
External Control Mechanisms

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11
Q

What determins a firms share price?

A

Value of the company

Dividends

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12
Q

How to you calculate the future value of a sum?

A

FV=Sum(1+i)^n

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13
Q

How do you calculate the Present value of a future value?

A

Future Value / (1+i)^n

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14
Q

What are the financial returns to a shareholder?

A

Dividends

Growth of share price

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15
Q

How do you calculate a share price?

A

P0=(D1+P1)/1+ke

Ke is discount rate

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16
Q

What are the sources of uncertainty when calculating financial returns?

A

Difficult in estimating dividends

Difficult to calculate cost of capital

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17
Q

How do you calculate dividend yeild?

A

D1/P0

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18
Q

How do you calculate Capital gains yeild?

A

P1-P0/P0

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19
Q

How do you calculate Total Return?

A

Div Yeild + Capital Gains Yeild

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20
Q

How do you calculate a share price if held for multiple years?

A

P0=D1/1+Ke + D2+P2/(1+Ke)^2…

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21
Q

How do you calculate the price for constant dividends?

A

P0=D1/Ke-g
G is dividend growth
Can be manipulated to determine cost of capital

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22
Q

How do you calculate the share price for non constant dividends?

A

P=D1/1+Ke + D2/(1+Ke)^2 + D3/(1+Ke)^3 +(D4/Ke-G)/(1+ke)^4

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23
Q

What are home made dividends?

A

Selling a portion of your shares to provide the dividends if they are withheld

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24
Q

How do you calculate the yield on a bond?

A

CY=NI/P

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25
How do you calculate the YTM/Price of a bond?
PB= C[(1-(1/(1+i)^n))/i) +FaceValue/(1+i)^n C=Annual interest Payment
26
What is the fisher sepeartion theorem?
Seperation of investment and consumption decisions raises consumer utility
27
What are the assumptions of FST?
Outcomes of investment are certainty No transactions costs or taxes Decision relates to one period only Y0 income is received at the beginning of the period and Y1 income at end MU of consumption is positive MU of consumption is decreasing as consumption increases
28
What is C0 and C1
C0 is consumption at begining C1 is at end C1=Y1+I0(1+rI)
29
Discuss the IR method for FST?
The IR declines as more is invested, for that extra amount: First 100 = 10% Second 100 = 9%
30
How do you calculate wealth in P0 and P1
W0=Y+Y1/1+r | W1=W0(1+r)
31
What is the slope of the Financial Market Line?
-(1+r)
32
What is the optimum point of consumption with the Financial market line
Where it is tangential to an IC
33
What is the optimum point with all 3 Lines drawn?
Where the Production opportunity set is tangential to financial market line
34
Name some forms of capital expenditure?
Expansion of business Development of new business Replacement of machinery R&D
35
What is the process of capital budgeting?
``` Planning Estimating Evaluating Selecting Implementing Post-Auditing ```
36
What is the difference between in-dependant and mutually exclusive projects?
Independent - Cash flows to not impact on other project | Mutually Exclusive - Accepting one may prevents others
37
What is payback period:
Time required to recoup initial investment Benefits: Simple and easy to use Disadvantages Does not consider profitability
38
What is the Accounting ROR?
Average rate of profit: | AverageProfit/Inital Invesment
39
What is NPV?
CF/(1+r)^t-I | Cash flow from each period, discounted
40
What is IRR?
Set NPV =0 | Can be multiple IRR, Unconventional cash flows can cause issues, therefore must use incremental cash flow
41
How do you use incremental cash flows
Take project B away from project A This gives the NPV is switching from A to B If positive, B is the better project
42
What else can cause issues with IRR?
If you have unconventional cash flows, rely on NPV
43
How do you ration capital
Calculate B/C by dividing NPV by Initial Invesment Rank them in order Assume all projects are divisible
44
How do yo calculate Real Interest Rate?
RIR=(1+NIR)/(1+INF)-1
45
What are the two types of capital rationing?
Hard - Has problems raising funds | Soft - Internal constraints to prevent investment
46
What is a sensitivity analyisis?
Calculate NPV in a positive, negative and middle ground mindset Then change key variables and see how they are altered
47
What are modern approaches to risk ananalysis?
``` Maximin Maximax Bayes - Laplace Hurwicz Minimax Regret ```
48
What is a maxi-min approach
Consider worst possible outcomes and choose the best
49
What is Maximax
Consider best possible outcomes and choose the best
50
What is Bayes - Laplace?
Average payoffs across all states, take best, assume all probabilities equal
51
What is Hurwicz criterion?
A weighted average of Maximax and Minimax Weights are a and 1-a If A =1, maximin outcome
52
What is Minimax Regret?
This approach penalises for wrong decisions | If P1 is chosen, but N2 occurs, the opportunity cost is the forgone payoff of N2
53
How do you calculate returns to an asset?
Rt=Pt/Pt-1 -1
54
How do you calculate returns to an assset adjusting for Dividends?
R=(Pt-Pt-1)/Pt-1 + DT/Pt-1 R=Capital Yeild + Dividend Yield
55
How do you calcualte average return on a stock?
Sum the values and divide by the number
56
How do you calculate the variance of risk?
Sum (X-MeanX)^2/T-1
57
How do you choose between investments, the easy way?
If same risk, choose higher returns | If same returns, choose lower risk
58
What is unsystematic risk?
Unique Risk, associated with particular assets | Can be diversified
59
What is systematic Risk
Unique Risk, effects all assets | Cannot be diversified away
60
What is the market portfolio?
The portfolio that maximises diversification thus minimising risk
61
How do you calculate Expected Return on a portfolio?
Weight multiplied by return
62
How do you calculate the covarience of a portfolio?
Sum(Ri-ERi)(Rj-ERj)/T-1
63
How do you calculate correlation coefficent?
Corr=Cov/SDiSDj 1=No Risk Reduction -1=Max Risk Reduction
64
How do you calculate the portfolio Variance?
X^2VarX1 +X^2VarX2+ 2XXCov Remember Cov=CorrSDxSDY
65
What is the efficiency boundary?
A line which will be chosen by an efficient investor, as it maximises returns
66
If you have a risk free asset, what happens to the portfolio?
Constant Return, no risk | Variance(P) becomes Variance of X1 times weight
67
What is the slope of a Risky-Risk free Portfolio Line?
E(RA)-RF/SDA
68
What is the optimum combination of a risky-risk free portfolio, the marker portfolio?
A point of tangent between the risk free line and the efficient portfolio
69
Can an investor borrow to invest?
Any point on the line after the tangent point will need to be borrowed to achieve
70
What are the characteristics of the market portfolio?
Represents maximum diversification | Exists on capital market line
71
What is the expected return on the market portfolio?
ER = Rf+[E(Rm-Rf)/SDRm]SDRi Lamda = E(Rm-Rf)/SDRm Market price of risk
72
What does diversification look like when plotted on a graph?
1/x, assymptope at bottom is systematic risk
73
What determined the level of systematic risk faced by a firm?
Sensitivity of revenues to economic activity Degree of cost senstivity Gearing - More Debt = more Risk
74
An investor will only be rewarded for taking which type of risk?
Systematic
75
What are the assumptions of CAPM?
Investors are risk averse and utility maximises Perfect Competition Single rate of interest All assets perfectly divisible
76
What is the CAPM expression?
Er=Rf+ (E(Rm)-Rf)Cov(i,m)/VarM (E(Rm)-Rf) = Market risk premium Cov/Variance referes to how the asset is related to the market
77
What is BETA?
Measure of risk = Cov(i,m)/VarM
78
How can you calculate correlation coefficient?
B=P*SDi/SDM P=Correlation coefficient between market and i
79
Why do all assets return to SML line?
If ROR is above equilibrium, investors invest and price rises, causing ROR to fall
80
How does BETA relate to an assets ROR relative to the market
BETA>1 means an asset is more volatile than the makrket

Corporate Finance (2 decks)

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