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Preliminaries Introduction to the course
Corporate finance Types of questions Course outline Course requirements
Preliminaries
Texts
Brealey & Myers, Principles of Corporate Finance, 7th edition Higgins, Analysis for Financial Management, 7th edition Case and Readings Packet
Professor
Katharina Lewellen
Introduction
Corporate finance
Investment policy
How the firm spends its money (real and financial assets)
How the firm obtains funds (debt, equity) and disposes of excess cash
Current Assets
Introduction, cont.
But we also need to understand
Capital markets
Types of securities (stocks, bonds, options) Trade-off between risk and return Pricing
Financial markets
Government
Introduction, cont.
Finance is really about value Firms Projects and real investments Securities Common characteristic Invest cash today in exchange for cash (hopefully) in the future Central question How do we create value through investment and financing decisions?
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Types of questions
Investment and financing decisions
General Dynamic
Major contractor in the defense industry Doing well during 1980s (cold war)
Growth in sales Reasonable profitability R&D and capital investment
Beginning of 1990s
The end of cold war Likely decline in defense spending Strategy???
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General Dynamics
$1,000 $800 $600 $400 $200 $0 -$200 -$400 -$600
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1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990
Market
$400 $300 $200 $100 $0 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991
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GD
General Dynamics
Investment, 1980 1990 R&D + Capital expenditures: If invested at 10%: Ending market value: $3.7 billion $5.5 billion $1.0 billion
Value destroyed: Sales grew from $4.7 billion to $10.2 billion Earnings in 1990 = -578 million
$4.5 billion
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Sells off divisions and subsidiaries Cuts workforce Distributes cash to shareholders
From 1991 through 1993, GD returns $3.4 billion to shareholders and debtholders
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CapEx + R&D
1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997
Net Inc
GD Market
Types of questions
Investment and financing decisions
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fluctuations in the foreign exchange rate affect the value of the project? What are the risks? What actions can Motorola take to hedge the risks? More importantly, should it hedge the risks? What are the costs and benefits?
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Our Approach
What we will do What we wont do
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Course Requirements
Class Participation (10%) Case Memoranda (30%)
Teams up to four people Hand in all write-ups except two write-ups of your choice A professional memo to the decision maker
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Advertising Agency Computer Software Developer Health Maintenance Org. Retail Drug Chain
Line #1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 Balance Sheet Percentages Cash and marketable securities Account receivables Inventories Other current assets Plant and equipment (net) Other assets Total assets
Notes payable Accounts payable Accrued taxes Other current liabilities Long-term debt Preferred stock Other liabilities Capital stock and capital surplus Retained earnings Total liabilities and stockholder equity Selected Financial Data Current assets/current liabilities Cash, marketable securities and accounts receivable/current liabilities Inventory turnover (X) Receivables collection period Total debt/total assets Long-term debt/capitalization Net sales/total assets Net profit/net sales Net profit/total assets Total assets/net worth Net profit/net worth
18 19 20 21 22 23 24 25 26 27 28
1.11 1.1 NA 3,278 0.69 0.09 0.10 0.14 0.01 14.10 0.19
1.03 0.97 NA 381 0.10 0.24 0.52 0.05 0.03 5.84 0.14
1.31 0.98 16.7 30 0.29 0.40 0.46 0.12 0.05 2.31 0.12
1.46 1.4 5.6 31 0.40 0.57 1.82 0.02 0.04 3.61 0.13
1.59 1.49 5.2 8 0.00 0.00 3.18 0.03 0.10 1.85 0.18
1.1 1.04 8.6 6 0.31 0.48 2.61 0.02 0.05 3.43 0.17
1.58 1.5 47.6 16 0.19 0.32 6.47 0.02 0.10 2.39 0.23
4.72 4.59 7.5 37 0.00 0.00 0.87 0.25 0.21 1.21 0.26
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Industry Groups
Service providers Advertising agency Airline Commercial bank HMO Zero inventories A, B, F, H
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A Line #1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 Balance Sheet Percentages Cash and marketable securities Account receivables Inventories Other current assets Plant and equipment (net) Other assets Total assets Notes payable Accounts payable Accrued taxes Other current liabilities Long-term debt Preferred stock Other liabilities Capital stock and capital surplus Retained earnings Total liabilities and stockholder equity Selected Financial Data Current assets/current liabilities Cash, marketable securities and accounts receivable/current liabilities Inventory turnover (X) Receivables collection period Total debt/total assets Long-term debt/capitalization Net sales/total assets Net profit/net sales Net profit/total assets Total assets/net worth 5 85 0 1 2 7 100 62 18 2 0 7 4 2 2 4 100
B 12 55 0 4 7 23 100 3 63 2 0 6 8 0 10 7 100
F 4 6 0 6 71 13 100 4 5 0 17 40 17 0 12 5 100
H 77 7 0 3 9 4 100 0 32 3 2 0 1 0 11 51 100
Group 1:
Advertising
Agency
Airline Commercial
Bank
18 19
HMO
20 21 22 23 24 25 26 27
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Group 2
C Line #1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 Balance Sheet Percentages Cash and marketable securities Account receivables Inventories Other current assets Plant and equipment (net) Other assets Total assets Notes payable Accounts payable Accrued taxes Other current liabilities Long-term debt Preferred stock Other liabilities Capital stock and capital surplus Retained earnings Total liabilities and stockholder equity Selected Financial Data Current assets/current liabilities Cash, marketable securities and accounts receivable/current liabilities Inventory turnover (X) Receivables collection period Total debt/total assets Long-term debt/capitalization Net sales/total assets Net profit/net sales Net profit/total assets Total assets/net worth Net profit/net worth 2 4 1 2 77 15 100 0 3 0 4 29 21 5 11 28 100
D 1 15 24 2 55 3 100 2 17 1 9 38 5 3 1 23 100
E 4 7 43 4 37 5 100 0 18 1 17 0 10 0 3 51 100
G 3 4 22 2 41 29 100 2 13 1 12 29 14 0 5 24 100
I 9 28 13 3 35 13 100 0 15 6 13 19 6 0 24 18 100
J 67 9 2 2 17 2 100 0 6 6 5 0 0 0 28 55 100
Computer
software dev.
18 19 20 21 22 23 24 25 26 27 28
1.31 0.98 16.7 30 0.29 0.40 0.46 0.12 0.05 2.31 0.12
1.46 1.4 5.6 31 0.40 0.57 1.82 0.02 0.04 3.61 0.13
1.59 1.49 5.2 8 0.00 0.00 3.18 0.03 0.10 1.85 0.18
1.1 1.04 8.6 6 0.31 0.48 2.61 0.02 0.05 3.43 0.17
1.58 1.5 47.6 16 0.19 0.32 6.47 0.02 0.10 2.39 0.23
4.72 4.59 7.5 37 0.00 0.00 0.87 0.25 0.21 1.21 0.26
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Industry I C G J D E K
Industry K J D E G
Collection period 74 37 31 8 6
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software dev.
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Any Comments?
Bank Advertising E & G Dpt Store Drug Airline Grocery HMO Meat Software Phama. Agency Utility Chain Chain Chain Packers Developer Manuf. Line #1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 Balance Sheet Percentages Cash and marketable securities Account receivables Inventories Other current assets Plant and equipment (net) Other assets Total assets Notes payable Accounts payable Accrued taxes Other current liabilities Long-term debt Preferred stock Other liabilities Capital stock and capital surplus Retained earnings Total liabilities and stockholder 5 85 0 1 2 7 100 62 18 2 0 7 4 2 2 4 100 12 55 0 4 7 23 100 3 63 2 0 6 8 0 10 7 100 2 4 1 2 77 15 100 0 3 0 4 29 21 5 11 28 100 1 15 24 2 55 3 100 2 17 1 9 38 5 3 1 23 100 4 7 43 4 37 5 100 0 18 1 17 0 10 0 3 51 100 4 6 0 6 71 13 100 4 5 0 17 40 17 0 12 5 100 3 4 22 2 41 29 100 2 13 1 12 29 14 0 5 24 100 77 7 0 3 9 4 100 0 32 3 2 0 1 0 11 51 100 9 28 13 3 35 13 100 0 15 6 13 19 6 0 24 18 100 67 9 2 2 17 2 100 0 6 6 5 0 0 0 28 55 100 19 13 12 6 48 1 100 7 5 2 8 15 1 0 16 46 100
18 19
20 21 22 23 24
Selected Financial Data Current assets/current liabilities 1.11 Cash, marketable securities and accounts receivable/current liabilities 1.1 Inventory turnover (X) NA Receivables collection period 3278 Total debt/total assets 0.69 Long-term debt/capitalization 0.09 Net sales/total assets 0.095
1.03
1.31
1.46
1.59
0.63
1.1
2.35
1.58
4.72 4.59
2.31 2.03
2.28 NA 13 0 0 2.032
7.5 37 0 0 0.867
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Leverage
Total Debt/Total Asset Industry Industry Industry Mean Std Dev Median 0.32 0.20 0.31 0.29 0.17 0.30 0.35 0.20 0.32 0.35 0.05 0.35 0.24 0.92 0.08 0.31 0.24 0.30 0.08 0.06 0.09 0.24 0.18 0.27 0.07 0.19 0.01 0.09 0.11 0.04
American Airlines Dayton Hudson American Stores Consolidated Edison Novo Nordisk IBP Interpublic Walgreens Microsoft US Healthcare
Industry Airlines Department Stores Grocery Stores Combination Utility Services Pharmaceuticals Meat Products Advertising Agencies Drug Stores Prepackaged Software HMOs
Firm 0.44 0.40 0.31 0.29 0.22 0.19 0.10 0.00 0.00 0.00
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Balance Sheet Cash and marketable securities Accounts receivable Inventories Other current assets Plant and equipment (net) Other assets Total assets
Firm A % 58 0 5 3 5 30 100
Firm B % 2 3 52 3 28 12 100
Notes payable Accounts payable Accrued taxes Other current liabilities Long-term debt Other liabilities Preferred stock Capital stock and capital surplus Retained earnings Total liabilities and stockholder equity
0 17 0 7 54 0 0 47 (25) 100
0 28 2 15 14 4 0 29 9 100
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