Business Finance
Q: Please compare the advantages and disadvantages of the following investment rules: Net Present Value (NPV), Payback Period, Discounted Payback Period, Internal Rate of Return (IRR) and Profitability Index (PI). (You can start by considering the following questions for each investment rule: Does it use cash flows or accounting earnings? Does it consider all cash flows or not? Does it apply a proper discount rate? Whether the acceptance criteria are clear and reasonable? In what situation it can be applied? What kind of weakness does it have?) (10 points)

A: Net Present Value is a method to evaluate a project value. NPV requires an estimate of the cost of capital. Therefore, to understand what is NPV, Discount rate should be completely understand. The first advantage is that NPV gives important to the time value of money. Secondly, in the calculation of NPV, both after cash flow and before cash flow over the life span of the project are considered. Thirdly, profitability and risk of the projects are given high priority. Fourth, NPV helps in maximizing the firm's value. On contrary, NPV is difficult to use. Also, NPV cannot give accurate decision if the amount of investment of mutually exclusive projects are not equal. One difficulty would be calculation of appropriate discount rate. Meanwhile, NPV may not give correct decision when the projects are of unequal life. It could be applied in the case when all future cash flows are incoming (such as coupons and principal of a bond) and the only outflow of cash is the purchase price, the NPV is simply the PV of future cash flows minus the purchase price (which is its own PV). NPV is a central tool in discounted cash flow (DCF) analysis and is a standard method for using the time value of money to appraise long-term projects. Used for capital budgeting and widely used throughout economics, finance, and accounting, it measures the excess or shortfall of cash flows, in present value terms, once...

...Final Finance Exam Notes
Definitions:
1. Capital Budgeting is the process of evaluating proposed large, long-term investment projects.
Capital budgeting is primarily concerned with evaluating investment alternatives.
The first step in the capital budgeting process is idea development.
A characteristic of capital budgeting is the internal rate of return must be greater than the cost of capital.
One of the simplest capital budgeting decision method is the payback method.
Capital budgeting techniques are usually used only for projects with large cash outlays.
2. Payback period is the number of time periods it will take before the cash inflows of a proposed project equal the amount of the initial project investment (a cash outflow). The payback period is calculated by counting the number of years it will take to recover the cash invested in a project.
3. Net present value is the dollar amount of the change in the value of the firm as a result of undertaking the project.
With non-mutually exclusive projects, the net present value and the internal rate of return methods will accept or reject the same project.
The Net Present Value Method is a more conservative technique for selecting investment projects than the Internal Rate of Return method because the NPV method assumes that cash flows are reinvested at the firm's weighted average cost of capital.
The net present value assumes returns are reinvested at the cost of capital.
If an...

...consultant, and instead, chooses to assign a 10 percent cost of capital to all projects in both divisions. Which of the following statements is most correct?
a. While Kemp’s decision to not risk adjust its cost of capital will lead it to accept more projects in its computer division and fewer projects in its restaurant division, this should not affect the overall value of the company.
b. Kemp’s decision to not risk adjust means that it is effectively subsidizing its restaurant division, which means that its restaurant division is likely to become a larger part of the overall company over time.
c. Kemp’s decision to not risk adjust means that the company will accept too many projects in the computer business and too few projects in the restaurant business. This will lead to a reduction in the overall value of the company.
d. Statements a and b are correct.
e. Statements b and c are correct.
Risk-adjusted cost of capital Answer: b Diff: M
[xxxii]. The Barabas Company has an equal amount of low-risk projects, average-risk projects, and high-risk projects. Barabas estimates that the overall company’s WACC is 12 percent. This is also the correct cost of capital for the company’s average-risk projects. The company’s CFO argues that, even though the company’s projects have different risks, the cost of capital for each project should be the same because the company obtains its capital from the same sources....

...UBFF2013 BUSINESSFINANCE
Question:
1.
(a)
Frodo Baggins has RM1,500 to invest. His investment counselor suggests an investment that pays no stated interest but will return RM2,000 at the end of 3 years. (i) (ii) What annual rate of return will Frodo earn with this investment? Frodo is considering another investment, of equal risk, that earns an annual return of 8%. Which investment should he make and why?
(b)
Samwise Gamgee was seriously injured in an industrial accident. He sued the responsible parties and was awarded a judgment of RM2,000,000. Today, he and his attorney are attending a settlement conference with the defendants. The defendants have made an initial offer of RM156,000 per year for 25 years. Samwise plans to counteroffer at RM255,000 per year for 25 years. Both the offer and the counteroffer have a present value of RM2,000,000. Assume both payments are at the end of each year. (i) (ii) (iii) What interest rate assumption have the defendants used in their offer (rounded to the nearest whole percent)? What interest rate assumption have Samwise and his lawyer used in their counteroffer (rounded to the nearest whole percent)? Samwise is willing to settle for an annuity that carries an interest rate assumption of 9%. What annual payment would be acceptable to him?
2.
Gandalf Enterprise must consider several investment projects, A through E using the capital asset pricing model (CAPM) and its graphical...

...Business Financing and the Capital Structure
Explain the process of financial planning used to estimate asset investment requirements for a corporation. Explain the concept of working capital management. Identify and briefly describe several financial instruments that are used as marketable securities to park excess cash.
As a business owner, it is important to know the value of your assets as they can be used as leverage for obtaining loans and can be used to estimate your ability to repay your debts. Calculate your current assets, long-term investments, fixed assets and intangible assets and add them up to get your total business assets. Pledgeable assets support more borrowing, which allows for further investment in pledgeable assets. The trade-off between liquidation costs and underinvestment costs implies that low-liquidity firms exhibit negative investment sensitivities to liquid funds, whereas high-liquidity firms have positive sensitivities. If real assets are not divisible in liquidation, firms with high financial liquidity optimally avoid external financing and instead cut new investment. If real assets are divisible, firms use external financing, which implies a lower sensitivity. In addition, asset redeployability decreases the investment sensitivity. Financial management includes management of assets and liabilities in the long run and the short run. The management of fixed and current assets, however, differs in...

...Subject Code
:
AF3313
Subject Title
:
BusinessFinance
Level
:
3
Credits
:
3
Mode of Study
:
Lectures
Seminars
Pre-requisites
:
Financial Accounting (AF2108)
Accounting for Decision Making (AF2111) OR equivalent
Assessment
:
Coursework
Final Examination
40%
60%
Minimum Pass Grade
:
Coursework
Final Examination
(D)
(D)
28 hours
14 hours
ROLE AND PURPOSE
This subject aims to provide a solid and rigorous introduction to the basic fundamentals of
finance. Topics covered in the module provide students with a foundation for other subjects
and a foundation of professional-specific skills and knowledge. Students are expected to
learn and understand BusinessFinance in the context of integrated business environment.
They will be able to analyse the financial function in business and its strategic role in corporate
management. They will also develop strong analytical skills and critical thinking.
LEARNING OUTCOMES
On successfully completing this subject, students will be able to:
•
•
•
•
•
•
Describe the major function of financial managers;
Compare investment appraisal techniques and understand the limitations of those
techniques;
Evaluate the various sources of finance available in Hong Kong;
Examine the factors affecting capital structure and dividend policy and...

...as well as the different risks of those divisions. This led to a misallocation of funds for each division and also did not allow PP to participate in low risk projects that could have been profitable and made PP more risk averse. Using the multiple cutoff rate approach will diminish the imbalance of divisions over investing in cutoff rates that are too low and divisions under investing in cutoff rates that are too high. In using the multiple cutoff rate approach PP will be able to make better investment decisions based on the NPV of potential investments for each division due to the fact that each division will have their own hurdle rate.
BIBLIOGRAPHY
Ruback, Richard S. "Pioneer Petroleum." Pearson Custom Business Resources. Ed. Frank
Bacon. Boston: Pearson Learning Solutions, 2011. 65-69. Print.
...

...Finance theory and Financial strategy
Strategic Planning means several things. But it certainly is a part of the decision-making in resource management of the business benefits. Finance theory has significant advantages in understanding the function of capital markets, the valuation of real assets and financial assets.
Discounted cash flow analysis(DCF) is a tool that derived from finance theory which has been widely used. However finance theory also has little effect on strategic planning and there are three differences between financial theory and strategic planning:
1. Traditional financial theory and strategic planning might have some differences in language and culture.
2. Discounted cash flow analysis might be used in an incorrect way of strategy therefore it is not acceptable in terms.
3. Discounted cash flow analysis might fail to apply a strategic, even if it is used properly.
The most relevant financial concepts in strategic planning is firms’ capital investment decisions and it is also a critical component of “financial theory”. The theory is focused on
cash flow and return on the investment. The tool used in investment decisions is net present valued (NPV) which was calculated from present valued minus required investment or which was reduced to discounted cash flow formula because the net present value is a matter of cash flow that will gain in...

...repurchase undervalued shares.
Janet Mortensen, the senior vice president of project finance for Midland Energy Resources, has been involved in estimating the cost of capital of the company. She calculated the weighted average cost of capital (WACC) for the company as a whole, as well as each of its three divisions. The estimates are used for asset appraisals for capital budgeting and financial accounting, performance assessments; merger and acquisition proposals and stock repurchase decisions.
Financial Analysis
Cost of Capital: By definition, cost of capital refers to the opportunity cost of making a specific investment. It is the rate of return that could have been earned by putting the same money into a different investment with equal risk1. For companies which use a combination of debt and equity to finance their businesses, their overall cost of capital is derived from a weighted average of all capital sources, also known as the weighted average cost of capital (WACC).
What we use “Cost of Capital” to evaluate? Cost of capital is an important component of business valuation work. Midland uses the cost of capital to evaluate value of the company and most prospective investments. For example, the fundamental value of the enterprise was estimated using DCF analysis with cost of capital as discount rate; the cost of capital rate is also used in determining whether the performance of a business or division is value...