Notes On Finance

Submitted By starwars95
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Finance: Final Exam Johanan Ottensooser
Simple Interest:
Interest paid only on principle

Compound Interest
Interest paid on a changing principle (+interest or –payments)

Equal payments at equal intervals for a given period

Equal payments at equal intervals to perpetuity

Effective Annual Interest Rate
Changing rate with non-annual compounding periods to an annual rate with annual compounding periods

Debt & Valuation
Acceptor (guarantee)
Drawer (takes funds, issues debt)
Discounter (buys debt @ discount)
Short term debt
Period is less than one year
No explicit interest paid (interest is the difference between FV and purchase price)

Pay coupons at regular intervals
Repay an amount at maturity
Market interest rates (“i” or YTM or RRR) fluctuates
When bond price < face value the bond is discount

P0 = Value of share @ t=0
Dt = Expected dividend payout at time t
D = Value of a constant dividend r = Discount Rate g = growth rate
D1 = D0(1+g)
Equity Valuation (current value of a share) = PV of all future dividends

Constant Dividend Model
Is perpetuity ... therefore from Constant Growth Model
Constant rate of change in dividend
Rate smaller than the discount rate

Rights issue
M = Market Price
S = Subscription price
N = Number of shares

Ex Rights Price
X = Ex Rights Price
S = Subscription price
R = Rights issue value

Capital Budgeting
Choosing an investment
Accounting Rate of Return

If ARR ≥ required RR, then accept
Payback Period
Discounted payback
Cash flows are discounted to their present values
Removes the issue of TVM in Payback period
Gives breakeven life
Net Present Value
NPV is PV of all future cash flows discounted at the required rate of return less initial investments

than accept r = required rate of return
CFt = cash flows for time “t”
I0 = Invested amount at “t=0”
NPV = Change in s/h wealth
Internal Rate of Return
Required rr that NPV = 0

Investment relations
Mutually exclusive (one)
Independent (zero, one or two, as per # of choices)
Capital Rationing
Accept all projects w +ve NPV
But! Capital is limited!
By finance
By management
Profitability Index

Fischer Effect

R = nominal r = real h = infln.
Capital Budgeting
All net cash flows
1) @ y0
2) @ y1-yn
3) @ yn
After Tax Cash Flow

Tax saving on depn

Change in Accts’ receivable and inventory go in first and last year (where they are instituted and when they are reverted) ... Acct receivable increase as –ve, inventory increase as +ve
All information is reflected in share price
All public information is reflected in share price
Current price reflects own past prices
Trend analysis cannot find mispriced shares
Return (1 period)

R = Return
P = Price (Pt @ t) (Pt-1 @ “beginning”)
D = Cash Flow
Return (multiple periods)

r = rate of return
D = Cash Flow (present value of all future cash flows
Average return

r = rate of return in period n = number of observations
Expected Return

Pa = Probability of a occurring
Ra = Result of A occurring
NB: do “boom” and “bust” separate (i.e. average/weighted average them, and then use form)
Std dev
Old calculator
Mode SD
Clear SCL