Corporate Finance - Concept Questions

Topics: Net present value, Internal rate of return, Time value of money Pages: 31 (7261 words) Published: July 8, 2013

Class Notes - Introduction to Corporate Finance

1. Finance point of view: Corporation: a money processing machine? * Product markets: everything what corporates make (lead with customers, suppliers, labor)

* Capital markets: generic term for the entities which supply cash to this money processing machine, and the processing machine uses the money to do things and then periodic sends money back to the capital market
there are inflows from the capital markets to the corporations and the money comes back out from to the corporations to the capital market
this set of transactions in which the company interacts directly with the capital markets in particular when it takes in money in the capital market are called primary transactions

Primary Transactions: company takes in money in the form of equity and in the form of debt (issue debt to the market place). Each of those has different value and characteristics. How is equity get back from corporations: dividends, stock buyback
How they return money to the debtholders: pay interest and pay principal

2. Secondary Markets
Secondary Markets:
Very financial instruments that have been created by this primary transactions are traded back and for between entities. And in those transactions the corporation itself is not a direct party. So, why do we care? As investors we might care, but as corporate financial executives care because this market provides real time information, which influences their decision making virtually all the time.
 What is the decision making that goes on? What are the things that corporate finance take into account?
 * Analyzing project investments for the corporation that quantify the value of projects
 * Goal: increasing shareholders money or increasing the value of the corporation
 * Monitoring the flow and managing the flow of money in (how the money structure is inside) and monitoring how the money comes out. Managing the flow of money and considering the information of secondary markets

Chapter 5 – Introduction to Valuation: The Time Value of Money

1. Time Value of Money
The value of money indicates that money has different values depending when it is occurring on time.

Money today: opportunity to invest and expect in predictable way that money will change (obtain more money i.e interests)

2. Exercise - Calculator
What is the value of $100 today if we can invest at 7% per year for 10 years? FV: 100
I: 7%
N: 10
PV: ? = $196.72

How much do you need to invest today at 5.5% to achieve 1 MM in 15 years? FV: 1MM
i: 5.5
n: 15
PV: 447,933

3. What do we mean by the future value of an investment?
Future value refers to the amount of money an investment will grow to over some period of time at some given interest rate. The amount an investment is worth after one or more periods.

4. What does it mean to compound interest? How does compound interest differ from simple interest?

Compound interest: is the earning interest on interest. The compound interest is the interest earned on both the initial principal and the interest reinvested from prior periods.

Simple interest: is the interest earned only on the original principal amount invested. Interest not reinvested, so interest is earned each period only on the original principal.

5. What do we mean by the present value of an investment? Present value is the current value of future cash flows discounted at the appropriate discount rate (the rate used to calculate the present value of future cash flows [1/(1 + r)t]

R: rate (or i)
T: period of time

6. The process of discounting a future amount back to the present is the opposite of doing what? Is the opposite of calculating the future value.

7. Rule of 72
# of years it takes to double an investment.

Expressed by the equation:
72/interest rate = number of years it takes to double the investment.

8. What do we mean...
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