1.The Basic Ideas, Scope and Tools of Inflows t 6.Applications of Company Investment Analysis 1 1 10.

plications of Company Investment Analysis 1 1 10.Working Capital Management: Current Assets & Current Liabilities
Finance  tn 0 •The Payback Period Payback   •Risk, Return and Term
t n •Risk
Financial Markets and Participants
•Market Interest Rates (of exchange) and CBR 
(1  rv *) •The Average (Accounting) Return on Investment
•Internal Rate of Return vs. Net Present Value
rv * rv * (1  rv *)
*
and Rates of Return on Assets by Term
•Risk and Rates of Return on Financings by Term £U  £ M  3 £ R  £ M  
Outflows t •Combining Risk, Rates of Return on Assets & Financings: maturity matching
Market Prices - Lending n •IRR vs. NPV in Mutually Exclusive Investment Decisions FCF
t 0 t •Management of Short-Term Assets and Financings
•A Simple Financial Market t •Summary of IRR vs. NPV  tn1
(1  rv *) t •Optimisation and Short-Term Investment: highest net benefit, lowest net cost
•Shifting Resources in Time: accruing* •The Cost-Benefit Ratio and the Profitability Index (1  rv *) •Management of Cash Balances
(1+i), discounting /(1+i) CFt •The Cost-Benefit Ratio PI 
* •Management of Receivables: debtors & stock
NPV   CF0  •The Profitability Index
•Present Value & Present Wealth t  FCF0 •Management of Short-Term Financings-trade credit
(1  i ) •Summary of Alternatives to the NPV Purely Contingent,
•Investing – Real Assets Somewhat positive •Cash Budgeting and Short-Term Financial Management
•Net Present Value CFt •Capital Rationing –list by PI, choice based on outlay & NPV •Appendix to Module 10: Financial and Ratio Analysis
Independent
•Internal Rate of Return IRR  NPV  0   CF0  •Investment Interrelatedness Somewhat negative •Liquidity Ratios: ability to meet its maturing short term obligations
t •Renewable Investments – npv/ annuity pv •Profitability Ratios: measure management’s overall effectiveness
More Realistic Financial Markets mt (1  IRR ) Mutually Exclusive 365
•Multiple-Period Finance i   it
•Inflation and Company Investment Decisions
•Leasing
•Capital Structure Ratios: asset structure & debt 
•Efficiency Ratios: managing its assets. i  1 
 ' discount %'   DiscountDays

  1 ' discount %'  
•Compound Interest PV  CF0 1  (1+Nominal Return) = (1+RealReturn)(1+Inflation)
•Calculating Techniques and Short Cuts in m
 
CF0 ( e ) •Economics of Leasing – initial outlay, debt, tax, info asymmetries, economies of scale •Other Possible Ratios: consistent, show trends
•Financial Analysis and Internal Accounting: an Integrated Approach:
•Evaluating Leases –npv of lease vs borrow/purchase cash flows chart approach
Multiple-Period Analysis CF •Managing the Investment Process
•Annuities, Perpetuities PV 
Interest Rates, Interest Rate Futures and ig  
•Using Economic Income in Performance Measurement (EVA, EP, etc.)
Expected Profit=(NumGoodCustomers x ProfitPerCustomer) + (NumBadCustomers x LossPerCustomer) - £Credit Analysis
Yields
•Bonds 7.Risk and Company Investment Decisions Relative Interest Rates = Relative FX discount/premium

 
•Yield to Maturity: Coupon Effect 2 •Risk and Individuals 11.International Financial Management
•Forward Interest Rates 1  i2  (1  f )(1 1 f 2 ) •Risk, Return and Diversification – Joint Prob Dist, Correlation Coefficient
•Interest Rate Futures - hedging 0 1 •The Market Model and Individual Asset Risk – undiversifiable, systematic risk
•The Foreign Exchange Markets
•Exchange Rates and the Law of One Price: Purchase power parity , frictions
•Interest Rate Risk and Duration •The Market Model or Security Market Line E ( r j )  rf  [ E ( rm )  rf ]  j •Spot and Forward Exchange Rates: Contracts-sale/buy fix time, amount, hedging
(immunisation) •Using the Capital Asset Pricing Model in Evaluating Company •Exchange Rates and Interest Rates: interest rate parity
Div1  E1
•Estimating Systematic Risk of Company Investments – WACC/SML E D •Forward Exchange, Interest Rates and Inflation Expectations
•Estimating the WACC of an Investment u  e  d •International Financial Management
E0  •Other Considerations in Risk and Company Investments V V •Hedging International Cash Flows: frictions, net exposure, automation, FX option
2.Fundamentals of Company Investment Decisions 1  re •Certainty Equivalents E ( rm )  rf •Investing in Foreign Real Assets: avoid forward fx estimations >1yr ,frictions
•Investment Decisions and Shareholder Wealth •Risk Resolution across Time CFce  CF  Co var iance(CF , rm )
•Corporate Equity
Div1 Div 2  E 2 Variance ( rm ) •Financial Sources for Foreign Investment: monetary (hedge) , real (inflation),
•The Market Value of Common Shares E0   8.Company Dividend Policy
eurobonds, repatriation
2 •Financial Solutions to Other International Investment Risks: moral hazard,
•Investment and Shareholder Wealth 1  re (1  re ) •Dividend Irrelevancy I – Capital Gains, Dividend vs Cash Retention Agency theory
•Investment Decisions in All-Equity Corporations (shareholders)
•Investment Decisions in Borrowing Corporations (Bonds)
•Dividends and Market Frictions
•Taxation of Dividends – Company & Shareholder Tax 1  NR
n
 (1  RR 
)
n
 (1  Inflation )
n

•Share Values and Price/Earnings Ratios •Transaction Costs of Dividend Payments – brokerage fees Share Holder Cash Flow
DPS  EarningsPS  PayoutRatio •Flotation Costs - intermediaries
PPS  Expectations
re  g   •Combined Frictions – Passive Residual dividend policy
•Dividend Clienteles: Irrelevancy II - Clienteles
Company Operating Cash Flow
Company Interest Payment Cu  C d uC  dC
d u
C o  YS o  Z
Y  Z 
 
Company Profit
•Other Considerations in Dividend Policy
 u  d  (1  rf )
CASH FLOW
Customers INCOME Company Taxes
•Dividends and Signalling – smoothing, info Net Cash from company So u  d
Operations Revenue
3.Earnings, Profit and Cash Flow Assets Expenses: •Dividends and Share Repurchase – M&A, under priced, signalling Personal Interest 12.Options, Agency, Derivatives and Financial Engineering
Government Operations Net Personal Pre-Tax flow
•Corporate Cash Flows --------------- Depreciation 9.Company Capital Structure Personal Taxes •Options: contingent claims, call/put
•Cash Flows and Profits Capital / FCF Interest •Capital Structure, Risk and Capital Costs
Net Personal after-tax cash flow •Option Characteristics: fixed price & time
 rfT
Less ITS Total Expenses •An Introduction to Options Valuation C  S N ( d )  Xe N (d )
•Capital Structure and Risk - an Illustration SML: Debt, Ungeared, Equity
----------- Profit Before Tax •Calculating the Value of a Simple Option: Binomial o o 1 2

4.Company Investment Decisions Using the WACC

FCF* Taxes (50%)
Profit After Tax
•Capital Structure and Risk an `EBIT-EPS' Example: chart Geared, Ungeared, implicit cost of borrowing
•Capital Structure Irrelevance I: M&M (Merton Miller, Franco Modigliani) : D+E=V
•Observations about the Simple Option Pricing Model
•Valuing More Realistic Options:Black-Scholes
 
ln S o / X  rfT  
   
•Arbitrage and Prices - a Digression d 
•FCF and Profits for Borrowing Corporations •Relationships Among Options: put-call parity 1 1/ 2 1/ 2
D E •Summation of Capital Structure Irrelevancy I: Connections with Capital Costs and Values: frictionless •Applications of Option Valuation  T  0.5 T
•Investment Value for Borrowing Corporations ( re ) •Capital Structure Decisions and Taxes
 
rv *  ( rd *)  ITS •Real Options and `Strategic Finance‘: NPV inadequate
•Overall Corporate Cash Flows and Investment Value VITS 
•Capital Structure Relevance with Taxes - ITS, personal taxes , V  VU  VITS •An Example of a Real Option Decision 1/ 2
•Investment NPV and the WACC V V rd d 2  d1   T
•Summation of Capital Structure Relevance with Taxes: Connections with Capital Costs and Values •Other Real Options
•The Adjusted Present Value Technique •Capital Structure Irrelevancy II: Taxes – ALL taxes FCF * •Agency: incentive to solve, call provisions
•The Choice of NPV Techniques •Summary of Company Borrowing under Taxation - debt cheaper than equity? Other ITS V 
•Derivatives
•Capital Structure and Agency Problems – shareholders vs bondholders, convertibility rv * •What they Are and Are Not, and the Reasons for their Reputation
•Default and Agency Costs – bankruptcy: owners change, extra costs, opportunity costs •Participation in Derivative Markets: reduce not increase risk
•Conclusion to Agency Considerations in Borrowing •Types of Derivatives: interest rates, stock market, FX, mortgage, real asset, hybrid & exotics
•Making the Company Borrowing Decision •Swaps: hedging risk of interest rates & FX
•Book Values and Borrowing –Book Value vs Market Value: frictions •Exotics: combs of other derivatives, tailored specific to company
5.Estimating Cash Flows for Investment Projects •Techniques of Deciding upon Company Capital Structure – rule of thumb or financial planning •Conclusion to Derivatives
•A Cash-Flow Estimation Example •All Cash Flows •Suggestions for Deciding about Capital Structure: simulations •Financial Engineering
•Only Cash Flows S  mC  dS  mC •Definition of Financial Engineering and its uses: one-off analysis, experts: financial & Company
•Calculating the NPV, APV and IRR of the Example u o u o d
•The Elements of Financial Engineering: credit extension, price fixing and insurance
S (u  d ) •Conclusion to Financial Engineering
o
m  •Alternative Derivation of Binomial Call Option Value: hedging
EBS MBA FINANCE – Author: Sam Harlow - Dec 2003 C C •Numerical Application of Agency Theory
u d