Fundamentals of Corporate Finance

Cover 
......Page 1
Brief Contents
......Page 9
Detailed Contents
......Page 11
PART 1 Introduction......Page 35
CHAPTER 1 Corporate Finance and the Financial Manager......Page 37
1.2 The Four Types of Firms......Page 38
Sole Proprietorships......Page 39
Corporations......Page 40
Corporate Taxation Around the World......Page 42
GLOBAL FINANCIAL CRISIS The Dodd-Frank Act......Page 44
The Goal of the Financial Manager......Page 45
The Corporate Management Team......Page 46
Ethics and Incentives in Corporations......Page 47
Citizens United v. Federal Election Commission......Page 48
The Largest Stock Markets......Page 49
Traditional Trading Venues......Page 50
INTERVIEW WITH Frank Hatheway......Page 51
New Competition and Market Changes......Page 52
Other Financial Markets......Page 53
The Financial Cycle......Page 54
Role of Financial Institutions......Page 55
MyFinanceLab Summary......Page 56
Problems......Page 58
CHAPTER 2 Introduction to Financial Statement Analysis......Page 61
International Financial Reporting Standards
......Page 62
INTERVIEW WITH Ruth Porat
......Page 63
2.2 The Balance Sheet......Page 64
Assets......Page 65
Stockholders’ Equity......Page 66
Market Value Versus Book Value......Page 67
Enterprise Value......Page 68
Earnings Calculations......Page 70
EBITDA......Page 71
Operating Activity......Page 72
2.5 Other Financial Statement Information......Page 75
2.6 Financial Statement Analysis......Page 76
Profitability Ratios......Page 77
Working Capital Ratios......Page 78
Leverage Ratios......Page 80
COMMON MISTAKE Mismatched Ratios......Page 82
Operating Returns......Page 83
The DuPont Identity......Page 84
The Sarbanes-Oxley Act......Page 88
Dodd-Frank Act......Page 89
The Financial Statements: A Useful Starting Point......Page 90
MyFinanceLab Summary......Page 91
Critical Thinking......Page 93
Problems......Page 94
Data Case......Page 102
PART 2 Interest Rates and Valuing Cash Flows......Page 105
CHAPTER 3 Time Value of Money: An Introduction......Page 107
Quantifying Costs and Benefits......Page 108
The Valuation Principle......Page 110
Why There Can Be Only One Competitive Price for a Good......Page 111
The Time Value of Money......Page 112
The Interest Rate: Converting Cash Across Time......Page 113
Timelines......Page 116
COMMON MISTAKE Summing Cash Flows Across Time......Page 117
Rule 2: Compounding......Page 118
Rule of 72......Page 119
Rule 3: Discounting......Page 120
MyFinanceLab Summary......Page 122
Critical Thinking......Page 123
Problems......Page 124
CHAPTER 4 Time Value of Money: Valuing Cash Flow Streams......Page 127
Applying the Rules of Valuing Cash Flows to a Cash Flow Stream......Page 128
Using a Financial Calculator: Solving for Present and Future Values of Cash Flow Streams......Page 131
Perpetuities......Page 132
Historical Examples of Perpetuities......Page 134
Present Value of an Annuity......Page 135
Future Value of an Annuity......Page 138
4.4 Growing Cash Flows......Page 139
Growing Perpetuity......Page 140
Growing Annuity......Page 142
Solving for the Cash Flows......Page 143
Rate of Return......Page 146
Solving for the Number of Periods......Page 149
4.6 Non-Annual Cash Flows......Page 150
The Big Picture......Page 151
MyFinanceLab Summary......Page 152
Problems......Page 153
Data Case......Page 159
CHAPTER 4 APPENDIX Using a Financial Calculator......Page 161
CHAPTER 5 Interest Rates......Page 165
The Effective Annual Rate......Page 166
Adjusting the Discount Rate to Different Time Periods......Page 167
Annual Percentage Rates......Page 168
COMMON MISTAKE Using the EAR in the Annuity Formula......Page 169
Computing Loan Payments......Page 171
Computing the Outstanding Loan Balance......Page 173
5.3 The Determinants of Interest Rates......Page 174
Inflation and Real Versus Nominal Rates......Page 175
Investment and Interest Rate Policy......Page 176
How Is Inflation Actually Calculated?......Page 177
The Yield Curve and Discount Rates......Page 178
INTERVIEW WITH Kevin M. Warsh......Page 180
The Yield Curve and the Economy......Page 181
5.4 The Opportunity Cost of Capital......Page 184
Interest Rates, Discount Rates, and the Cost of Capital......Page 185
MyFinanceLab Summary......Page 186
Problems......Page 188
CHAPTER 6 Bonds......Page 193
6.1 Bond Terminology......Page 194
6.2 Zero-Coupon Bonds......Page 195
Yield to Maturity of a Zero-Coupon Bond......Page 196
GLOBAL FINANCIAL CRISIS Negative Bond Yields......Page 197
Risk-Free Interest Rates......Page 198
Coupon Bond Cash Flows......Page 199
The U.S. Treasury Market......Page 200
Yield to Maturity of a Coupon Bond......Page 201
Finding Bond Prices on the Web......Page 203
Interest Rate Changes and Bond Prices......Page 204
Time and Bond Prices......Page 207
Interest Rate Risk and Bond Prices......Page 208
Bond Prices in Practice......Page 211
6.5 Corporate Bonds......Page 212
Are Treasuries Really Default-Free Securities?......Page 213
Corporate Bond Yields......Page 214
Corporate Yield Curves......Page 215
The Credit Crisis and Bond Yields......Page 217
MyFinanceLab Summary......Page 219
Critical Thinking......Page 220
Problems......Page 221
Data Case......Page 225
CHAPTER 6 APPENDIX A Solving for the Yield to Maturity of a Bond Using a Financial Calculator......Page 226
CHAPTER 6 APPENDIX B The Yield Curve and the Law of One Price......Page 227
CHAPTER 7 Stock Valuation......Page 231
Stock Market Reporting: Stock Quotes......Page 232
Common Stock......Page 233
Preferred Stock......Page 234
7.2 The Mechanics of Stock Trades......Page 235
A One-Year Investor......Page 236
Dividend Yields, Capital Gains, and Total Returns......Page 237
A Multiyear Investor......Page 238
Dividend-Discount Model Equation......Page 239
Constant Dividend Growth......Page 240
Dividends Versus Investment and Growth......Page 241
Changing Growth Rates......Page 243
COMMON MISTAKE Forgetting to “Grow” This Year’s Dividend......Page 244
Uncertain Dividend Forecasts......Page 246
Non-Dividend-Paying Stocks......Page 247
7.6 Share Repurchases and the Total Payout Model......Page 248
7.7 Putting It All Together......Page 249
MyFinanceLab Summary......Page 250
Problems......Page 252
PART 2 INTEGRATIVE CASE......Page 256
PART 3 Valuation and the Firm......Page 259
CHAPTER 8 Investment Decision Rules......Page 261
Net Present Value......Page 262
The NPV Decision Rule......Page 263
Organizing the Cash Flows and Computing the NPV......Page 264
The NPV Profile......Page 265
8.3 Alternative Decision Rules......Page 266
USING EXCEL Computing NPV and IRR......Page 267
The Payback Rule......Page 268
The Internal Rate of Return Rule......Page 269
Modified Internal Rate of Return......Page 273
Why Do Rules Other Than the NPV Rule Persist?......Page 274
8.4 Choosing Between Projects......Page 276
Differences in Scale......Page 277
INTERVIEW WITH Dick Grannis......Page 280
Timing of the Cash Flows......Page 281
8.5 Evaluating Projects with Different Lives......Page 282
Important Considerations When Using the -Equivalent Annual Annuity......Page 284
Evaluating Projects with Different Resource Requirements......Page 285
8.7 Putting It All Together......Page 288
MyFinanceLab Summary......Page 289
Critical Thinking......Page 290
Problems......Page 291
Data Case......Page 297
CHAPTER 9 Fundamentals of Capital Budgeting......Page 299
9.1 The Capital Budgeting Process......Page 300
Operating Expenses Versus Capital Expenditures......Page 301
Incremental Revenue and Cost Estimates......Page 302
Incremental Earnings Forecast......Page 303
9.3 Determining Incremental Free Cash Flow......Page 305
Converting from Earnings to Free Cash Flow......Page 306
Calculating Free Cash Flow Directly......Page 309
Calculating the NPV......Page 310
USING EXCEL Capital Budgeting Using a Spreadsheet Program......Page 311
Project Externalities......Page 312
COMMON MISTAKE The Sunk Cost Fallacy......Page 313
Adjusting Free Cash Flow......Page 314
Replacement Decisions......Page 316
Sensitivity Analysis......Page 317
Break-Even Analysis......Page 318
INTERVIEW WITH David Holland......Page 320
Scenario Analysis......Page 321
USING EXCEL Project Analysis Using Excel......Page 322
9.6 Real Options in Capital Budgeting......Page 323
Option to Abandon......Page 324
MyFinanceLab Summary......Page 325
Critical Thinking......Page 326
Problems......Page 327
Data Case......Page 334
CHAPTER 9 APPENDIX MACRS Depreciation......Page 335
CHAPTER 10 Stock Valuation: A Second Look......Page 337
Valuing the Enterprise......Page 338
Implementing the Model......Page 339
Connection to Capital Budgeting......Page 340
Valuation Multiples......Page 342
Limitations of Multiples......Page 347
10.3 Stock Valuation Techniques: A Final Word......Page 348
INTERVIEW WITH Douglas Kehring......Page 349
Information in Stock Prices......Page 350
Forms of Market Efficiency......Page 352
Lessons for Investors and Corporate Managers......Page 354
The Efficient Markets Hypothesis Versus No Arbitrage......Page 355
Hanging On to Losers and the Disposition Effect......Page 356
Investor Attention, Mood, and Experience......Page 358
MyFinanceLab Summary......Page 359
Problems......Page 360
Data Case......Page 365
PART 3 INTEGRATIVE CASE......Page 367
PART 4 Risk and Return......Page 369
CHAPTER 11 Risk and Return in Capital Markets......Page 371
11.1 A First Look at Risk and Return......Page 372
11.2 Historical Risks and Returns of Stocks......Page 374
Computing Historical Returns......Page 375
Average Annual Returns......Page 377
Arithmetic Average Returns Versus Compound Annual Returns......Page 379
The Variance and Volatility of Returns......Page 380
USING EXCEL Computing the Standard Deviation of Historical Returns......Page 382
The Normal Distribution......Page 383
The Returns of Individual Stocks......Page 385
Types of Risk......Page 387
Unsystematic Versus Systematic Risk......Page 389
GLOBAL FINANCIAL CRISIS Diversification Benefits During Market Crashes......Page 390
The Importance of Systematic Risk......Page 392
COMMON MISTAKE A Fallacy of Long-Run Diversification......Page 393
MyFinanceLab Summary......Page 394
Critical Thinking......Page 395
Problems......Page 396
Data Case......Page 399
CHAPTER 12 Systematic Risk and the Equity Risk Premium......Page 403
Portfolio Returns......Page 404
Expected Portfolio Return......Page 406
Diversifying Risks......Page 407
Measuring Stocks’ Co-Movement: Correlation......Page 409
Computing a Portfolio’s Variance and Standard Deviation......Page 411
The Volatility of a Large Portfolio......Page 413
Nobel Prize Harry Markowitz......Page 414
Role of the Market Portfolio......Page 415
Market Risk and Beta......Page 416
Index Funds......Page 417
COMMON MISTAKE Mixing Standard Deviation and Beta......Page 419
Estimating Beta from Historical Returns......Page 420
USING EXCEL Calculating a Stock’s Beta......Page 422
The CAPM Equation Relating Risk to Expected Return......Page 423
Why Not Estimate Expected Returns Directly?......Page 424
The Security Market Line......Page 425
The CAPM and Portfolios......Page 427
The Big Picture......Page 428
MyFinanceLab Summary......Page 429
Problems......Page 430
CHAPTER 12 APPENDIX Alternative Models of Systematic Risk......Page 435
CHAPTER 13 The Cost of Capital......Page 439
Opportunity Cost and the Overall Cost of Capital......Page 440
Weighted Averages and the Overall Cost of Capital......Page 441
Weighted Average Cost of Capital Calculations......Page 442
Cost of Debt Capital......Page 443
COMMON MISTAKE Using the Coupon Rate as the Cost of Debt......Page 444
Cost of Preferred Stock Capital......Page 445
Cost of Common Stock Capital......Page 446
WACC Equation......Page 448
Weighted Average Cost of Capital in Practice......Page 449
Methods in Practice......Page 450
13.4 Using the WACC to Value a Project......Page 451
Key Assumptions......Page 452
WACC Method Application: Extending the Life of a GE Facility......Page 453
COMMON MISTAKE Using a Single Cost of Capital in Multi-Divisional Firms......Page 454
Divisional Costs of Capital......Page 455
INTERVIEW WITH Shelagh Glaser......Page 456
13.6 When Raising External Capital Is Costly......Page 457
MyFinanceLab Summary......Page 458
Problems......Page 460
Data Case......Page 463
PART 4 INTEGRATIVE CASE......Page 465
PART 5 Long-Term Financing......Page 467
CHAPTER 14 Raising Equity Capital......Page 469
Sources of Funding......Page 470
INTERVIEW WITH Kevin Laws......Page 471
Securities and Valuation......Page 473
Exiting an Investment in a Private Company......Page 475
Primary and Secondary IPO Offerings......Page 476
Other IPO Types......Page 482
Underpriced IPOs......Page 485
“Hot” and “Cold” IPO Markets......Page 487
High Cost of Issuing an IPO......Page 488
Poor Post-IPO Long-Run Stock Performance......Page 489
SEO Process......Page 490
SEO Price Reaction......Page 492
SEO Costs......Page 493
MyFinanceLab Summary......Page 494
Problems......Page 495
Data Case......Page 498
CHAPTER 15 Debt Financing......Page 501
Debt Financing at Hertz: Bank Loans......Page 502
Public Debt......Page 503
Debt Financing at Hertz: Public Debt......Page 505
Sovereign Debt......Page 507
Municipal Bonds......Page 508
Asset-Backed Securities......Page 509
GLOBAL FINANCIAL CRISIS CDOs, Subprime Mortgages, and the Financial Crisis......Page 510
Advantages of Covenants......Page 512
Call Provisions......Page 513
New York City Calls Its Municipal Bonds......Page 515
Convertible Provisions......Page 516
MyFinanceLab Summary......Page 519
Problems......Page 521
Data Case......Page 523
CHAPTER 15 APPENDIX Using a Financial -Calculator to Calculate Yield to Call......Page 524
PART 5 INTEGRATIVE CASE......Page 525
PART 6 Capital Structure and Payout Policy......Page 529
CHAPTER 16 Capital Structure......Page 531
Capital Structure Choices Within Industries......Page 532
16.2 Capital Structure in Perfect Capital Markets......Page 534
Application: Financing a New Business......Page 535
Leverage and Firm Value......Page 536
The Effect of Leverage on Risk and Return......Page 537
Leverage and the Cost of Capital......Page 539
COMMON MISTAKE Capital Structure Fallacies......Page 540
GLOBAL FINANCIAL CRISIS Bank Capital Regulation and the ROE Fallacy......Page 542
Nobel Prize Franco Modigliani and Merton Miller......Page 543
The Interest Tax Deduction and Firm Value......Page 544
Value of the Interest Tax Shield......Page 545
The Interest Tax Shield with Permanent Debt......Page 547
Debt and Taxes: The Bottom Line......Page 548
16.4 The Costs of Bankruptcy and Financial Distress......Page 549
Indirect Costs of Financial Distress......Page 550
Differences Across Firms......Page 551
Optimal Leverage......Page 552
Agency Costs......Page 553
Airlines Use Financial Distress to Their Advantage......Page 554
GLOBAL FINANCIAL CRISIS Moral Hazard and Government Bailouts......Page 555
Debt and Information......Page 556
16.7 Capital Structure: Putting It All Together......Page 558
MyFinanceLab Summary......Page 559
Problems......Page 561
CHAPTER 16 APPENDIX The Bankruptcy Code......Page 569
CHAPTER 17 Payout Policy......Page 571
17.1 Cash Distributions to Shareholders......Page 572
Dividends......Page 573
Share Repurchases......Page 574
17.2 Dividends Versus Share Repurchases in a Perfect Capital Market......Page 575
Alternative Policy 2: Share Repurchase (No Dividend)......Page 576
Alternative Policy 3: High Dividend (Equity Issue)......Page 578
Modigliani-Miller and Dividend Policy Irrelevance......Page 579
Dividend Policy with Perfect Capital Markets......Page 580
Optimal Dividend Policy with Taxes......Page 581
Tax Differences Across Investors......Page 584
Retaining Cash with Perfect Capital Markets......Page 586
Retaining Cash with Imperfect Capital Markets......Page 587
Dividend Smoothing......Page 590
Dividend Signaling......Page 591
Signaling and Share Repurchases......Page 592
INTERVIEW WITH John Connors......Page 593
Stock Dividends and Splits......Page 594
Spin-Offs......Page 595
17.7 Advice for the Financial Manager......Page 596
MyFinanceLab Summary......Page 597
Problems......Page 599
Data Case......Page 602
PART 6 INTEGRATIVE CASE......Page 604
PART 7 Financial Planning and Forecasting......Page 605
CHAPTER 18 Financial Modeling and Pro Forma Analysis......Page 607
Plan for Future Funding Needs......Page 608
Percent of Sales Method......Page 609
Pro Forma Income Statement......Page 610
Pro Forma Balance Sheet......Page 611
Making the Balance Sheet Balance: Net New Financing......Page 612
18.3 Forecasting a Planned Expansion......Page 614
KMS Designs’ Expansion: Financing Needs......Page 615
KMS Designs’ Expansion: Pro Forma Income Statement......Page 616
Forecasting the Balance Sheet......Page 618
18.4 Growth and Firm Value......Page 619
Sustainable Growth Rate and External Financing......Page 620
Forecasting Free Cash Flows......Page 623
KMS Designs’ Expansion: Effect on Firm Value......Page 625
Optimal Timing and the Option to Delay......Page 628
MyFinanceLab Summary......Page 629
Problems......Page 630
CHAPTER 18 APPENDIX The Balance Sheet and Statement of Cash Flows......Page 634
CHAPTER 19 Working Capital Management......Page 637
The Cash Cycle......Page 638
Working Capital Needs by Industry......Page 640
Firm Value and Working Capital......Page 641
19.2 Trade Credit......Page 642
Trade Credit and Market Frictions......Page 643
COMMON MISTAKE Using APR Instead of EAR to -Compute the Cost of Trade Credit......Page 644
Managing Float......Page 645
The 5 C’s of Credit......Page 646
Monitoring Accounts Receivable......Page 648
Determining Accounts Payable Days Outstanding......Page 650
Stretching Accounts Payable......Page 651
Benefits of Holding Inventory......Page 652
Inventory Management Adds to the -Bottom Line at Gap......Page 653
Alternative Investments......Page 654
MyFinanceLab Summary......Page 656
Problems......Page 658
Data Case
......Page 661
CHAPTER 20 Short-Term Financial Planning......Page 663
Negative Cash Flow Shocks......Page 664
Seasonalities......Page 665
The Cash Budget......Page 667
Permanent Versus Temporary Working Capital......Page 669
Financing Policy Choices......Page 670
Line of Credit......Page 672
Common Loan Stipulations and Fees......Page 673
Short-Term Financing and the Financial Crisis of the Fall of 2008......Page 675
A Seventeenth-Century Financing Solution......Page 677
Loan Guarantees: The Ex-Im Bank Controversy......Page 678
20.6 Putting It All Together: Creating a Short-Term Financial Plan......Page 680
MyFinanceLab Summary......Page 681
Critical Thinking......Page 682
Problems......Page 683
PART 7 INTEGRATIVE CASE......Page 687
PART 8 Special Topics......Page 693
CHAPTER 21 Option Applications and Corporate Finance......Page 695
Option Contracts......Page 696
Stock Option Quotations......Page 697
21.2 Option Payoffs at Expiration......Page 699
The Long Position in an Option Contract......Page 700
The Short Position in an Option Contract......Page 701
Profits for Holding an Option to Expiration......Page 703
Returns for Holding an Option to Expiration......Page 705
Option Prices and the Exercise Date......Page 706
Option Prices and Volatility......Page 707
21.4 The Black-Scholes Option Pricing Formula......Page 708
Portfolio Insurance......Page 710
21.6 Options and Corporate Finance......Page 713
MyFinanceLab Summary......Page 715
Problems......Page 716
Data Case......Page 718
CHAPTER 22 Mergers and Acquisitions......Page 721
22.1 Background and Historical Trends......Page 722
Merger Waves......Page 723
22.2 Market Reaction to a Takeover......Page 724
Economies of Scale and Scope......Page 725
Monopoly Gains......Page 726
Tax Savings from Operating Losses......Page 727
Diversification......Page 728
Earnings Growth......Page 729
Managerial Motives to Merge......Page 730
Valuation......Page 731
The Offer......Page 732
Merger “Arbitrage”......Page 734
Tax and Accounting Issues......Page 735
Board and Shareholder Approval......Page 736
Poison Pills......Page 737
Staggered Boards......Page 738
Other Defensive Strategies......Page 739
Weyerhaeuser’s Hostile Bid for Willamette Industries......Page 740
The Free Rider Problem......Page 741
The Leveraged Buyout......Page 742
The Leveraged Buyout of RJR-Nabisco by KKR......Page 744
Competition......Page 745
MyFinanceLab Summary......Page 746
Problems......Page 748
CHAPTER 23 International Corporate Finance......Page 751
The Foreign Exchange Market......Page 752
23.2 Exchange Rate Risk......Page 754
Exchange Rate Fluctuations......Page 755
Brexit......Page 756
Hedging with Forward Contracts......Page 758
Cash-and-Carry and the Pricing of Currency Forwards......Page 760
Hedging Exchange Rate Risk with Options......Page 762
23.3 Internationally Integrated Capital Markets......Page 764
Application: Ityesi, Inc.......Page 766
The Law of One Price as a Robustness Check......Page 768
Multiple Foreign Projects and Deferral of Earnings Repatriation......Page 770
Differential Access to Markets......Page 771
Macro-Level Distortions......Page 772
Implications of Internationally Segmented Capital Markets......Page 773
23.7 Capital Budgeting with Exchange Rate Risk......Page 774
Application: Ityesi, Inc.......Page 775
MyFinanceLab Summary......Page 776
Critical Thinking......Page 778
Problems......Page 779
Data Case......Page 783
B
......Page 785
C
......Page 786
D
......Page 789
E
......Page 790
F
......Page 791
H
......Page 793
I
......Page 794
L
......Page 795
N
......Page 796
P
......Page 797
R
......Page 799
S
......Page 800
T
......Page 802
V
......Page 803
Z
......Page 804
WEB CHAPTER 1 Leasing
......Page 805
WEB CHAPTER 2  Insurance and Risk Management
......Page 831
WEB CHAPTER 3 Corporate Governance
......Page 853