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Todays Agenda
Discussion of Syllabus Introduction to Finance (Chapter 1) Business forms Financial managers Agency problems Financial markets Financial Statements (Chapters 2,3)
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Course Objectives
Introduce the key concepts of Finance Evaluate Investment Projects Value Bonds and Stocks Analyze Risk and Return Estimate Costs of Capital Capital Structure Options Help with Personal Finance
Course Readings
Textbook
Fundamentals of Corporate Finance, by Ross, Westerfield, Jordan, Lim and Tan (Asia Global Edition) You can also use Corporate Finance Fundamentals, by Ross, Westerfield and Jordan, 8th/9th edition.
Lecture notes
Available at eLearn
Course Grading
5% 15%
Course Structure - I
Homework Assignments:
ask questions (including Q&A after student presentations) answer questions, help solving problems
surf internet chat SMS, etc.
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Bad behavior:
Computer policy
Course Structure - II
Quizzes
Two quizzes, 20 minutes, about 10 MCQs Closed book, closed notes, basic formulas will be provided Calculators are allowed. Cell phones are not allowed. No makeups. If you are unable to take quizzes due to a serious health problem (with MC), the first quiz (the second quiz) will be cumulated to your midterm (final exam).
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Midterm
Course Structure - IV
Final Exam April 23th, 13PM-15PM Cumulative, Closed-book, closed-notes, 2 hours Formulas will be provided. Calculators are allowed. Cell phones are not allowed.
Group Project - I
The project is about in-depth analysis on a firms financial health, emphasizing risk-return tradeoffs and valuation. Details are posted on eLearn.
Groups will be assigned randomly and announced in week 5. Each group needs to pick a listed (public) firm and email me and your TA the company picked by the end of week 8.
To ensure that every group picks a different company, we follow a first-come first-serve system. For those who fail to meet the deadline, a randomly selected company will be assigned to you. After the deadline, no further changes will be allowed.
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Group Project - II
Suggestions on how to select a company: A listed firm (SGX, NYSE, NASDAQ) A large firm with with easy access to financial information (and preferably with regular dividend payments) Mainly focus on one industry, and easy to find competitors in the same industry (and in the same country). Some examples: Coca Cola, Starwood Hotels and Resorts, IBM, Coach Inc., Ralph Lauren, Whole Foods Market, TripAdvisor.
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20-minute presentation + 5-minute Q&A Everybody should present. Members in a group may receive different grades based on their own performance. Week 12 Groups 1-5; Week 13 Groups 6-9
Maximum 20 pages (excluding appendix) Late submission will be punished by 5 points. Members in a group by default get same grade for the written report. However if someone has very little contribution, he/she will receive lower grade than others.
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Financial Calculator
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Teaching Assistants
My Expectations
Preparation for class Class Participation Missed Work Honor Code Hint: If you dont understand something, ask me a question!
Preliminary Schedule see syllabus
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Your Expectations of Me
Your questions will be answered! Course Materials on eLearn Availability Office: LKCSB Rm 4042 Email: rongwang@smu.edu.sg Phone: 6828 0148 Office hours: By appointment. I will announce office hours before exams.
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What is Finance?
Finance studies and addresses the ways in which individuals, business, and organizations raise, allocate, and use monetary resources over time, taking into account the risks entailed in their projects. (from Wikipedia)
Corporate Finance Investments work with financial assets Financial institutions International Finance
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What is a corporation?
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Disadvantages
1. Unlimited liability 2. Hard ownership transfer 3 Limited life of business 4. Limited capital
What businesses are likely to be sole proprietorships? What should be the goal of a sole proprietorship? Who gets to determine the goal?
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Disadvantages
1. 2. 3.
What businesses are likely to be partnerships? What should be the goal of a partnership? Who gets to determine the goal?
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Disadvantages
1. Double taxation 2. Agency issues 3. Complex regulation
What businesses are likely to be corporations? What should be the goal of a corporation? Who gets to determine the goal?
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Valuation: Is it magic?
Google, Inc. (founded 1998) provides Web search and online advertising services. Market capitalization: US$154B in 2008. Asia Pacific Breweries (founded 1931, listed on the Singapore Exchange) is one of the key players in the beer industry. Today, APB oversees a portfolio of over 40 beer brands and brand variants, including Tiger Beer, Heineken, Anchor and ABC Stout. Market capitalization: SG$3.9B in 2006.
Question: Which is the largest company listed on the Singapore Exchange?
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Financial Manager
The top financial manager within a corporation is usually the Chief Financial Officer (CFO)
Treasurer responsible for cash management, raising capital, and banking relationships Controller responsible for budgeting, accounting, and taxes
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How much capital to raise? Debt vs. equity What projects to invest in? Short-term assets and short-term liabilities
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What is the basic goal of financial management? Minimize costs? Maximize market share? Avoid bankruptcy/survive as long as possible? Maximize profit? Maximize shareholder value?
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Agency Problems
Do managers really maximize shareholder wealth? Agency Problems represent the conflict of interest between management and shareholders.
Managers do not always act in the best interests of shareholders, and they sometimes make decisions that destroy shareholder value.
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Monitoring
Compensation Plans
WorldCom 2001 Report $3.8 billion of operating expenses as investments and overstated the income. Assets: 103.9 Billion Enron 2001 Concealed $1.7 billion losses Assets: 65.5 Billion Sarbanes-Oxley Act of 2002 the Public Company Accounting Reform and Investor Protection Act of 2002 What is the largest bankruptcy in the world?
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(1)
Firm's operations
(3)
Financial Manager
(4a)
(4b)
(1) (2) (3) (4a) (4b) Money raised from investors Money invested in firm to buy real assets Money generated by real assets Money reinvested Money returned to investors
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Financial Markets
Primary market A market where the firm sells its securities to public for the first time Secondary markets A market in which the securities issued by firms are traded Auction Markets (a physical location): Listed securities trade in an organized exchange, e.g. NYSE Dealer markets (OTC, Over-the-counter): securities are bought from or sold to a dealer (NASDAQ)
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Financial Statements
Chapter 2,3
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Balance Sheet Income Statement Statement of Cash Flows (not covered) Statement of the sources & uses of cash Operating Activities Investing Activities Financing Activities
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The balance sheet is a snapshot of the firms assets and liabilities at a given point in time.
Assets are listed in order of liquidity Ease of conversion to cash Without significant loss of value Balance Sheet Identity Assets = Liabilities + Stockholders Equity Stockholders Equity = Assets Liabilities (shareholders are residual owners)
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Income Statement
The income statement is more like a video of the firms operations for a specified period of time. Income Statement Identity Net Income = Revenues - Expenses Matching principle show revenue when it accrues and match the expenses required to generate the revenue How is balance sheet and income statement linked to each other?
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Marginal vs. average tax rates Marginal the percentage paid on the next dollar earned Average the tax bill / taxable income
What is the firms tax liability? What is the marginal tax rate? What is the average tax rate?
If you are considering a project that will increase the firms taxable income by $100,000, what tax rate should you use in your analysis?
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1990
1991-1992 1993 1994-1996 1997-2000
32%
31% 30% 27% 26%
2003-2004
2005-2007 2008-2009 2010-2013
22%
20% 18% 17%
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Ratios provide relative measures to interpret firm performance (strength and weakness). There are five categories of ratios. Each category measure a different dimension of a firms performance (i.e. strengths & weaknesses). 1. Liquidity 2. Solvency or Leverage 3. Asset Management or Turnover 4. Profitability 5. Market value
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What do they measure: How well can the firm pay its bills without undue stress. A high ratio indicates liquid, but too high may mean the firm is inefficient.
What do they measure? Measures the firms long-run ability to meet its obligations. Too high of a ratio could lead to financial distress Too low of a ratio could indicate the firm is not utilizing all the benefits of debt.
Total debt ratio = (Total assets Total equity) / Total assets Equity multiplier = Total assets / Total equity
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Examples:
What do they measure? How efficiently does the firm use its assets to generate sales Investigates long-term and current assets.
Return on assets (ROA) = Net income/Total assets Return on equity (ROE) = Net income/Total equity
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Du Pont Identity
ROE =Net Income/Total Equity =(NI/Sales)*(Sales/Assets)*(Assets/Total Equity) =Profit margin*Assets Turnover*Equity Multiplier Du Pont Identity tells us that that ROE is affected by three things: Operating efficiency (as measured by profit margin) how well it controls costs Asset use efficiency (as measured by total asset turnover) how well does it manage its assets Financial leverage (as measured by the equity multiplier)
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Examples: PE ratio=price per share/earnings per share Market to Book ratio = market value per share / book value per share
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How do we measure Value? Book Value (BV) Market Value (MV)! BV is based on historical cost of assets. MV measures current value of assets and liabilities MV is forward looking, it reflects a firms potential growth.
Homework Assignments
Read syllabus, the group project description, chapters 1,2,3 Supplemental Readings
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Next Class
Financial Tools Chapters 5,6 Name Card Get a Financial calculator. Before the class,
Set the number of decimal places to four or higher Set P/Y (which means number of payments per year) to one.
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