CHAPTER 1: INTRODUCTION

What is corporate finance?

Balance sheet modelo f the firm

 Total value of assets: activos que la  Total firm value to investor: lo que la
compañía tiene compañía debe
Current assets Current Liabilities
Fixed assets Long-Term Debt
Shareholders’ Equity

The firm and the financial Markets

Shareholders VS Debtholders

2. CORPORATE FIRM
The corporate firm form of business is the standard method for solving the problems encountered
in raising large amounts of cash

Business can take other forms:

Sole proprietorship:
- Sole proprietorship: firm owned (run) by one person
- Has few, if any, employees
- Is easy and cheap to create
- Pays no corporate taxes; all profits are taxes as individual income
- Has a limited life and unlimited personal liability
- Maximum amount raised limited to the proprietor’s personal wealth.

Partnership:
- Has more than one owner
- All partners are personally liable for all the firm’s debts; a lender can require any partner to
repay all the firm’s outstanding debts
- Ends with the death or withdrawal of any single partner
- Difficult to raise large amounts of cash
- Income from partnership is taxed as personas income to the partners

Limited liability company:

- LLC is a hybrid entity that combines the characteristics of a corporation and a partnership
- All owners have limited liability
- Income from LLC is taxed as a personal income to the owners
- Need a business continuation agreement to transfer the company when one of the owners
leaves owners leaves or dies  without one of the owners, LLC is dissolved and must be
recreated.

Corporation
 - O company is a legal entity separate from its owners.
- Has many of the legal power individuals have  ability to enter into contracts, own assets,
and borrow money.
- Must be legally formed  process more complicated and costly.
- Ownership is represented by shares (stock)
- An owner of shares is called shareholder, stockholder or equity holder
- Sum of all ownership value is equal to equity
- There is no limit to the number of shareholders, and thus the amount of funds a can raise

3. GOAL OF FINANCIAL MANAGEMENT

All the firms aims to:

- Maximize their profits  make money and keep it
- Minimize their expenses  costs must be controlled and reduced
- Maximize their market share  achieve greater scale in operation and improve profitability

Goal: maximize the current value per share of existing stock reward the shareholders who are
ultimate controller of the firm.

Financial management roles:

1. Ensure the company has enough fund to finances its expansion and meet its obligations 
issues securities (equity and debt), sell them to financial investors at the highest possible
price.
2. Create value from the firm’s capital budgeting, financing and liquidity activities.  select
value creating projects, make smart financing decisions
3. Identify and mange the financial risks the company is facing.

4. CONFLICTS OF INTEREST

- Agency relationship: occurs when a principal hires an agent to perform some duty.
- agency problem: conflict of interest between need of the principal and the need of the
agent
- in finance, there are two primary agency relationships: stockholders vs managers and
stockholders vs debtholders

SHAREHOLDERS VS MANAGERS
- Creation for value should be the ultimate goal for every decision taken by the management
 optimize the return of the share on the long term (dividend and price increase)
- Manager neither receive 100% the profit they generate, nor support 100% the costs they
induce
- Managers may deviate from this goal and pursue personal objectives  expansion of the
size of the company, growth of his bonus and increase its personal power.

SHAREHOLDERS VS DEBTHOLDERS
- DEBT:
o Right in the cash flow (fixed amount)
 o First right on the asset in case of liquidation
o No control on the decisions
- SHARE:
o Rights on the cash flow ( dividend)
o Come last in case of liquidation
o Controls on the strategy
- Solutions: check the use of the loan / impose covenants ( ej maximum amount of the
dividend to avoid outflows before bankruptcy / discussion and clarification with
shareholders.

CYCLES OF A COMPANY

INVESTMENTS: Grounds, builfinds,

FUNDING: Debts, own capital,
material, vehicles, furniture, FIRM
reserves --> financing cycle
depreciations --> Investing cycle

EXPENSES: Purchases, employees,

INCOMES: sales, financial receipts,
administrative charges, financial production
dividend received --> Operating cycle
expenses, taxes --> Operating cycle

PROFIT

Interest on debt Dividend 

Financing cycle

CYCLES OF A COMPANY

- Operating cycle: consumption of the material, of work, erc, to ensure production of goods
and services

FIRST MCQ

CHAPTER 2: FINANCIAL STATEMENTS

- Are written records that convey the financial statements activities and conditions of a
business or entity

Types of financial statements:

 - Statement of cash flow: shows the movement of money into and out the business during
the accounting period
o INTO: RECEIPTS
o OUT: PAYMENTS
o Types of cash flow:
 Operating cash flow: operating receipts- operating payments
 Investing cash flow: capital expenditure – fixed assets disposals
 Free cash flow: operating cash flows – investments cash flows
 Financial cash flow: loan received + share issuing – financial payments debt
(principal & interest) – dividend paid – own shares purchase
 Total cash flows: free cash flows +
 financing cash flows or total cash inflow – total cash outflow
- Income statement (profit and loss account): shows the amount of profit or loss made during
the accounting period
- Balance sheet (statement of financial position)

Accounting period: range of time for which financial statements are prepared

- Accounting periods: Half-yearly, Quarterly, Monthly

Cash flow: the movement of money in and out of the company.

- Cash flows nito the business as receipts

- Cash flows out the company as payments
-

EARNINGS

Revenues (

EBITDA = Operating revenues – Operating costs

EBIT= EBITDA – Depreciation or amortization – Impairment losses or write-down assets

Net financial expenses = Financial expenses – financial incomes

Profit before tax and non-recurring items = EBIT – Net financial expenses or EBIT – Financial
expenses + financial incomes
Q1

Q2 Tangible / intangible

Q3

Q4 Income statement shows the results between sales and costs, Balance sheet is what the
company owe and own in a specific period

STUDY CASE

CHAPTER 3 - FINANTIAL RATIO

Profitability ratio

- ROE = Return on equity = -net income profit / shareholder’s equity

o The higher, the better  shows how well managers are well employing the funds
invested y the firm’s shareholders to generate returns.
o ROE = Return on Assets * Equity multiplier
 = (Profit or loss/total assets) * (Total assets/shareholders’ equity)
 Equity multiplier = Total assets / shareholders’ equity = how many Euros of
assets the firm is able to deploy for each euro invested by its shareholders.
Low level indicates the company need less debt to finance its assets  is
generally better

- ROA = Return on assets = Profit or loss / Total assets

o ROA = ROR (Net profit margin) * asset turnover = (Profit or loss/Revenue) *
(Revenue/Total assets)
 ROR = Net profit margin = Profit or loss / revenue = How much the company
is able to keep as profits for each euro of revenue it makes.
 Asset turnover = Revenue / total assets

ROE = ROR * Asset turnover * Equity multiplier

- Current Ratio = Current assets / current liabilities

o >1 indicates that the firm can cover its current liabilities form the cash realized
from its current asset
- Quick Ratio = (cash and cash equivalents + Trade receivables) / Current liabilities
o Captures the firm’s ability to cover its current liabilities from liquid assets. It
assumes that not all current assets are easy to liquidate.
- Cash ratio = cash and cash equivalents / Current liabilities
o Captures the firm’s ability to cover its current liabilities from its cash and cash
equivalents only. cOntrary to Quick Ratio, it assumes that firm’s trade receivables
are not necessary very liquid.
- TOTAL DEBT RATIO = Total Debt / total Asesets
- Debt-to-equity ratio = Total Debt / Total shareholder equity = Equity multiplier -1
- Interest coverage ratio = EBIT / Interest expense
- Dividend payout ratio = Total cash dividends paid / Profit or loss
Is a measure of its dividends policy. Represent the portion of earning directly transferred to
shareholders via dividends.
- Dividend Yield = Cash dividends paid per share / Share price
Relates the return on the investment to the share price- the higher the ratio, the better.
- Earnings per share = profit or loss / number of shares
Portion of a company’s profit allocated to each outstanding share (but not necessarily
distributed). Indicator of a company’s profitability.  the higher, the better.
- Price earnings ratio = market value per share / earnings per share = market value / profit or
loss
Measures the current share price of a stock relative to its earnings per share (EPS). Shows
how much investors are willing to pay per euro of earnings  high P/E ratio -->
- Price to book ratio = market value per share / book value per share = market value / book
value
 CHAPTER 4 –

Goal and overview of the valuation

Valuation is the process of determining the economic value of a business or company

- GOAL: Determine the value of its share’s capital

- A wide variety of valuation approaches exist:
Discounted dividends / discounted cash flows / sum of the parts methods (Net asset
value) / Peer comparison (comparable method)
- in practice: several approaches are employed and combined together  investment
bankers commonly use five to ten different approaches.
- In this course: peer comparison analysis 

2. Presentation of the Peer Comparison

Principles:

- a current measure of performance is converted into a value by applying an appropriate

price multiple derived from the value of comparable firms  the value of company FGH is
equal to 10 times its net profit of the year.
- Assumption behind: the law of one price (identical securities should have the same price).

Main steps:

1. Build a sample of comparable companies

2. Retrieve financial data for those companies and compute their multiples
3. Calculate the average of the multiples over the companies
4. Apply them to the company you want to value
5. Calculate the average of the computed values.

1. Comparable companies:
identify companies which are comparable in terms of activities: same industy sector / if
possible, similar operating characteristics and strategies / ideally, same country.
choose companies that are listed whose shares are liquid
either focus on a few firms within the industry that are very similar, or take a large
number of firms in the industry if none a very similar (sources of noncomparability should
cancel each other).

2. Compute multiples
The main multiple are: Net sales multiple / EBIT multiple / eBITDA multiple / Net income
(P/E multiple) / Book value multiple (P/B multiple)
𝒎𝒂𝒓𝒌𝒆𝒕 𝒄𝒂𝒑𝒊𝒕𝒂𝒍𝒊𝒛𝒂𝒕𝒊𝒐𝒏
′𝒁′ 𝒎𝒖𝒍𝒕𝒊𝒑𝒍𝒆 = ′𝒁′
where ‘Z’: Net sales, EBIT, EBITDA, Net income, or
Book Value
Market capitalization: #shares * price per share
To get a good estimation, compute several multiples over several years (usually 3 years)
o When using several years, market capitalization remains the same (current year).
 3. Average of the multiples
compute both the means and the medians over the comparable firms
Means and medians can mask wide disparities within the sample and may contain
extreme situations that should to be excluded  understand the difference and exclude
extreme cases
In case some multiples are negative, not use these observations: choose another
company if to many observations are dropped.

4. Apply multiples to the company

once the means and medians of the multiples over the comparable companies are
calculated, we can apply them to the company we want to value
its price per share is calculated as follows:
´𝒁′ (𝑨𝒗𝒆𝒓𝒂𝒈𝒆 𝒐𝒓 𝒎𝒆𝒅𝒊𝒂𝒏 𝒎𝒖𝒍𝒕𝒊𝒑𝒍𝒆𝒔
𝑷𝒓𝒊𝒄𝒆 𝒑𝒆𝒓 𝒔𝒉𝒂𝒓𝒆 = # 𝒔𝒉𝒂𝒓𝒆𝒔

Problems with Peer Comparison:

- Choice of comparable firms

- Sample must be large enough
- Influence of exceptional events
- Quality of info
- Use of average or media

Advantage:

- Simple to apply
- Don’t have to make forecast about the future
- Gives info about over and under valuation