(2) Present Value Basics

Corporate Finance
in a Nutshell
• CFi is the cash flow at time i, ri the rate of
return on a similar investment from time 0 to i
• NPV > 0 => accept
• NPV < 0 => reject

(3) NPV Shortcuts (4) Valuing Bonds

• Perpetuity: from time 1 on forever, constant CF • Price P0 is the discounted sum of coupons and
principal repayment

• Annuity: from time 1 to t, constant CF

• Given P0, the yield to maturity is the discount rate

• Growing Perpetuity: from t=1 on forever, growing r that gives the correct price
at rate g • Spot rate: from 0 to t, forward rate: from t1 to t2

(5) Valuing Stocks (6) Other valuation techniques

• Price P0 is the discounted sum of future • Payback is the time until the cumulative cash
dividends flows exceed the initial investment

• Alternatively, it is the next dividend plus the • IRR is the discount rate that sets the NPV = 0
expected price
• Both are flawed, so it is best to stick to NPV
• Incorporating growth:
 (7) Extensions to NPV (8) Risk
• If capital is rationed, pick projects according to
the profitability index

• If projects have different running times,

compare the equivalent annual costs, not NPV

(9) Risk and Return (10) The cost of capital

• CAPM: • Use the wacc, obtain rE from the CAPM:

• APT:
• No fudge factors
• Fama-French: • Beta can be approximated
• Look at certainty equivalents

(12) Project Analysis (13) Performance measurement

• Use sensitivity analysis, scenario analysis and • Net Return on Investment =
Monte Carlo simulation to obtain confidence
intervals (Operating Income/Asset Book Value) – cost of
capital

• Consider real options built into the project

• Economic Value Added =

• Value real options by the use of a decision Income earned – (cost of capital) x investment
tree, work backwards