Week 3 Dam 3,4 Flashcards
Conventional accounting expenses can be categorized in 3 groups:
- Operating expenses (labor, arterial): they generate benefits only for the current period.
- Capital Expenses (CapEx) (land, buildings) generate benefits over multiple periods.
- Fianncial Expeses (interest rate experses) associated with non-eqity financing
Adjusted book value of equity =
book value of equity +
value of the reasherch asset
What is earning management?
Earnings management is the use of accounting techniques to produce financial statements that present an overly positive view of a company’s business activities and financial position
Why do firms manage earnings?
Firms generally manage earnings because they believe that they will be rewarded by markets for delivering smoother earnings and come consistently above matkers estimates.
Why must we be cautious when using the current year’s earnings as a base for projections?
Because firms tend to do earings management.
When firms dinest assets the can generate income in the form of…
…capital gains.
Expected growth in net income = (Equity reinvestment rate)(Return on equity)
(Equity reinvestment rate) X (Return on equity)
Increasing leverage will lead to a higher return on equity if the pre-interest, after-tax return on capital (ROC) exceeds …
…the after-tax interest rate paid on debt.
Whats the difference between T-Bills and T-bonds?
Treasury bills have much smaller maturity period (weeks) where as tresury bonds can go up to years
An integral component of the capital asset pricing model (CAPM), beta quantifies the relationship between …
systematic risk and the expected return.
β > 1: Shares are … than the market.
riskier
β = 1: Shares are … the market
just as risky as
β = 0: Shares … the market
have no correlation to
Claim : Levered beta is the beta of a firm that includes the effects of the capital structure.
True
The levered beta of a firm is different than the unlevered beta as it changes in … correlation with the amount of debt a firm has in its financial structure.
positive
When it comes to unlevered beta, you can essentially assume that the company is financed entirely with …
equity
Unlevered beta gives the firm’s beta under no …
debt
What is an LBO?
A leveraged buyout (LBO) is the acquisition of another company using a significant amount of borrowed money (bonds or loans) to meet the cost of acquisition.
“Equity β” is called the …
levered β
To get value of the equity we discount with…
CoE
To get value of the Firm we discount with…
WACC
Discounting cashflows to equity at the weighted average cost of capital will lead to an … estimate of the value of equity.
upwardly biased
Discounting cashflows to the firm at the cost of equity will yield a … estimate of the value of the firm.
downward biased
Expected growth for the firm, g is growth in…
operating earnings
Expected growth for the equity, g is growth in…
Net Income or EPS
EBIT - Taxes =
Net income
Net income + Depriciation =
Operationg CF
Claim: There may be far less private information and far more public
information in most analyst forecasts than is generally believed
True
Claim: A stable growth rate cannot be
higher than the growth rate of the economy in which the firm operates.
True
Why might the gemetric avg. be prefered over arithmetic avg. ?
Because the Geometric average is less sensitive to outliers and incorporates the fact that returns might be negatively correlated over time.
Risk-free rate of short-term investment: T-bills or T-bonds?
T-bills
How much of the risk in the company can be attributed to business risk and how much to financial leverage?
The proportion of the risk of the firm’s equity that can be attributed to business risk = βU/βL,
while the remainder is due to financial leverage risk = βU/βL - 1
HP is presented as divisions. You estimate the levered beta for Hewlett-Packard as a company. Is this beta going to be equal to the beta estimated by regressing past returns on HP stock against the market index? Why or why not?
NO. Since the divisional structure and leverage of Hewlett Packard has probably changed over the years, the beta obtained by regressing past returns of HP against a market index will not be the same as the one using the formula.
