FIN 531 Corporate Finance Cheat Sheet

by deluded1 via cheatography.com/42545/cs/12802/

Calcul​ating Portfolio Risk Internal rate of return | IRR (cont) Present Value of a Growing Perpetuity

σ2=W​a 2​ ​σa​2​+W​b 2​ ​σb​2​+2​(W​a Wb Pitfall 3 = Mutually exclusive projects- IRR PV = CF1 / r - g r > g
Cor σaσb) sometimes ignores magnitude of a project
Bond Valuation
σx=s​tandard σ2= variance of portfolio Pitfall 4 – What Happens When There is More
than One Opport​unity Cost of Capital PV=C1/​(1+​r)​1+​C2/​(1+​r)​2...+​(Pa​r+C​n)/​(1+​r)n
deviation

Wx = weight of Covariance of stocks = Duration = [1xPV (c1)]/​PV+​[2xPV (c2)]/

Term Structure Assumption
stock in portfolio correl​ation *σa​*σb PV...+​(Tx​PV(​CT)]/PV
We assume that discount rates are stable
σ = risk of an individual stock during the term of the project. Modified Duration = volatitliy
This assumption implies that all funds are (%)=du​rat​ion​/(1​+yield)
ß = Market risk
reinvested at the IRR.
If you need to find out the standard deviation, This is a false assump​tion. DPS Calcul​ation
take the square root of the answer. Variance,
leave it squared. D0=1.50
Efficient Frontier
D1=1.5​0(1.07)
D2=1.5​0(1.07)2
Book Rate of Return
D3=1.5​0(1.07)3
Book Rate of Book income​/book D4=1.5​0(1.07​) 3​(1.05)
Return= assets
D5=1.5​0(1.07​) 3​(1.05)2

Payback & Discounted Payback Period

Sharpe Ratio = (r-rf​)/(σ)
Payback = # of years to payback investment
Risk premium r-rf
(no NPV adjust​ment)
Standard Deviation σ
Discounted = # of years to payback investment
Covariance of multiple stocks
NPV adjust​ment) Ratio of risk premium to standard deviation.
With 100 securi​ties, the box is 100 by 100.The Measures risk-a​djusted perfor​mance of
NPV= C0+
variance terms are the diagonal terms, and thus investment managers
(​C1​/(​1+r​ 1​))+​(C​2 /​(1+​r 2​))..............
there are 100 variance terms. The rest are the
(​Ct​/(​1+r​ t)) covariance terms. Because the box has(100 × SML
100) terms altoge​ther, the number of
Non-co​nstant growth valuation stock covariance terms is:Number of covariance
terms = 1002– 100 = 9,900Half of these terms
G1= 20% for 2 years; G2=5% for rest of time
(i.e., 4,950) are different.
D0=1.25
bWith 50 stocks, all with the same standard
D1=1.2​5(1.20) = 1.50
deviation (.30), the same weight in the portfolio
D2=1.2​5(1.20​) 2​=1.80
(.02), and all pairs having the same correl​ation
D3=1.2​5(1.20​) 2​(1.05) =1.89
coeffi​cient (.40), the portfolio variance is
D4=1.2​5(1.20​) 2​(1.05​)2​=1.98 :σ2= 50(.02​)2(.30)2+ [(50)2– 50](.0​2)2​(.4​0)
(.30)2= .03708σ = .193, or 19.3% The Y-inte​rcept of the SML is equal to the risk-
Internal rate of return | IRR c.For a fully divers​ified portfolio, portfolio free interest rate. The slope of the SML is equal

variance equals the average covari​anc​e:σ2= to the market risk premium and reflects the risk
NPV must =0 to calculate
(.30)(.30​)(.40) = .036σ = .190, or 19.0% return trade off at a given time.
NPV=C​0 +​C 1​/(​1+I​RR)​1​+C​2/​(1+​IRR​) 2=0 where:

Must use Excel to calculate

E(Ri) is an expected return on security
Pitfall 1 = Lending or borrowing? E(RM) is an expected return on market
Pitfall 2 = Multiple rates of return (when cash portfolio M
goes from + to -) β is a nondiv​ers​ifiable or systematic risk
RM is a market rate of return
Rf is a risk-free rate

By deluded1 Published 3rd October, 2017. Sponsored by ApolloPad.com

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 FIN 531 Corporate Finance Cheat Sheet
by deluded1 via cheatography.com/42545/cs/12802/

Efficient Frontier Profit​ability Index

The efficient frontier is the set of optimal PI = NPV/In​ves​tment

portfolios that offers the highest expected return
Another Example - continued
for a defined level of risk or the lowest risk for a
Proj NPV Investment PI
given level of expected return. Portfolios that lie
A 230,000 200,000 1.15
below the efficient frontier are sub-op​timal,
B 141,250 125,000 1.13
because they do not provide enough return for
C 194,250 175,000 1.11
the level of risk.
D 162,000 150,000 1.08

Stock Returns
Select projects with highest Weighted Avg PI

R=(Pt​+1​-P​t+​D)/​(Pt) WAPI (BD) = 1.13(125) + 1.08(150) + 0.0 (25)

(300) (300) (300)
R= Return
= 1.01
Pt= Stock Price @ time

D= Dividend Captal Rationing

Capital Rationing - Limit set on the amount of

CAPM = Capital Asset Pricing Model funds available for invest​ment.
Soft Rationing - Limits on available funds
ri=r​f ​+ß(​rm​-rf) ß=Beta
imposed by manage​ment.
rf= risk free rate rm = market rate Hard Rationing - Limits on available funds
imposed by the unavai​lab​ility of funds in the
i = investment E(r) = expected return
capital market.
Expected risk beta x expected risk
premium on stock= premium on market
Market Risk premium
r-rf​=ß(​rm​-rf)
=rm-rf
Beta is the extent to which a stock moves with
the market. CAPM says that the higher the For any invest​ment, we can find the

Beta, the higher the risk opport​unity cost of capital using the security
market line. With = 0.8, the opport​unity cost of
capital is:
Market Efficiency
r = rf + B(rm – rf)
1.) Weak = Market reflects past info r = 0.04 + [0.8 B (0.12 – 0.04)] = 0.104 =

2.) Semi-S​trong = Past & Current public info is 10.4%

reflected
3.) All inform​ation is reflected in the stock price
(public & private)
Efficient Market - Market in which inform​ation is
reflected in stock prices quickly + correctly
The opport​unity cost of capital is 10.4% and
the investment is expected to earn 9.8%.
Therefore, the investment has a negative NPV.
If return is 11.2% What is Beta?
r = rf + (rm – rf)
0.112 = 0.04 + (0.12 – 0.04) = 0.9

By deluded1 Published 3rd October, 2017. Sponsored by ApolloPad.com

cheatography.com/deluded1/ Last updated 3rd October, 2017. Everyone has a novel in them. Finish Yours!
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