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CORPORATE FINANCE STUDY GUIDE FULLY EXPLAINED #8
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CORPORATE FINANCE STUDY GUIDE FULLY EXPLAINED #8
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CORPORATE FINANCE STUDY GUIDE FULLY EXPLAINED #8Financial break-even - correct answer Financial break even
NPV solved=0, OCF* for NPV=0
Q=(FC+OCF*)/ (P-v)
V=variable cost per unit
General Break-Even - correct answer Q=(FC+OCF) /(P-v)
Constant Growth Model (infinite) - correct answer a widely cited dividend valuation
approach that assumes that dividends will grow at a constant rate, but a rate that is less
than the required return
Constant Growth Model (finite) - correct answer Should include terminal value (what you
sell it for) @ end
To do so you calculate the non-constant growth rate until horizon date T...then calculate
the terminal value as you would in an infinite CGM w/ denominator raised to power T
Expected rate of return (constant growth model) - correct answer The rate of return
expected to be realized from an investment; the weighted average of the probability
distribution of possible results
Capital gains yield - correct answer the dividend growth rate, or the rate at which the
value of an investment grows
Dividend Yield - correct answer a stock's expected cash dividend divided by its current
price
Terminal value (Horizon Value) - correct answer the sale price at the end of the
expected holding period
Perpetual Growth Method - correct answer dividing the last cash flow forecast by the
difference between the discount rate and terminal growth rate. The terminal value
calculation estimates the value of the company after the forecast period.
(FCF * (1 + g)) / (d - g)
Free Cash Flow Valuation Model - correct answer A model that determines the value of
an entire company as the present value of its expected free cash flows discounted at
the firm's weighted average cost of capital, which is its expected average future cost of
funds over the long run.
FCF Constant Growth Model - correct answer A variation of the constant growth model
,Market Multiple Analysis - correct answer A method of valuing a target company that
applies a market determined multiple to net income, earnings per share, sales, book
value, and so forth.
Preferred Stock Dividends - correct answer Fixed. Have priority over common stock
dividends.
Convertible preferred stock - correct answer Preferred stock with an option to exchange
it for common stock at a specified rate.
Cumulative preferred stock - correct answer Preferred stock on which undeclared
dividends accumulate until paid; common stockholders cannot receive dividends until
cumulative dividends are paid.
Free Cash Flow - correct answer net operating profit after taxes (NOPAT), add in
depreciation expense, then subtract money set aside for capital expenditures and any
need for increasing working capital
Capital Asset Pricing Model (CAPM) - correct answer a model that relates the required
rate of return on a security to its systematic risk as measured by beta
Call option - correct answer the option to buy shares of stock at a specified time in the
future
Put option - correct answer the option to sell shares of stock at a specified time in the
future
Cash Conversion Cycle (CCC) - correct answer the length of time funds are tied up in
working capital, or the length of time between paying for working capital and collecting
cash from the sale of the working capital
Return on Equity (ROE) - correct answer Net Income/Total Equity
Weighted Average Cost of Capital (WACC) - correct answer the weighted average of
the cost of equity and the aftertax cost of debt
Why is Equity more expensive than Debt? - correct answer Because it comes w/ higher
expected rate of return due to higher risk (residual claimant of the firm's cash flows)
Levered Beta - correct answer The unlevered beta adjusted for financial risk due to
leverage
Unlevered Beta - correct answer The firm's beta coefficient if it has no debt
Working capital requirement - correct answer (Current assets - inventory) - current
liabilities
, Net Present Value (NPV) - correct answer the sum of the present values of expected
future cash flows from an investment, minus the cost of that investment
Internal Rate of Return (IRR) - correct answer the discount rate that makes the NPV of
an investment zero
How do we value a share of stock? - correct answer Collapse future earnings down to
present value equivalents
Disintermediation - correct answer the long-term trend of moving away from banks to
markets for capital requirements
Risk-free rate - correct answer No such thing...but many use 10 year Treasury bonds as
a proxy for the risk-free rate
Flotation Costs - correct answer the transaction cost incurred when a firm raises funds
by issuing a particular type of security
Flotation Cost Adjustment - correct answer the amount that must be added to cost of
retained earnings to account for flotation costs to find cost of new common stock
Pure play method - correct answer a method for estimating a project's or division's beta
that attempts to identify publicly traded firms engaged solely in the same business as
the project or division
Accounting Beta Method for Estimating Beta - correct answer Run regression between
project's ROA and S&P Index ROA.
Accounting betas are correlated (0.5 - 0.6) with market betas.
But normally can't get data on new projects' roas before the capital budgeting decision
has been made.
Effective rate of interest - correct answer the annual rate of return that is actually earned
(or charged) during the period the funds are held (or borrowed) k=compounding periods
Special Purpose Vehicle - correct answer A legal entity to which the assets used as
collateral in an ABS issue are sold. This transaction separates the assets backing the
ABS from the other assets of the company that creates the SPV.
Horizontal merger - correct answer the combination of two or more firms competing in
the same market with the same good or service
Vertical merger - correct answer the combination of two or more firms involved in
different stages of producing the same good or service
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