FIN 305W Midterm I

- SEC requires public companies to let shareholders vote to approve the company's executive compensation - The vote must be held at least once every three years - The vote however has an advisory nature (BOD can still approve it) - Shareholders vote "yes" in most cases (money managers hold most weight & they make even more so they'd just say yes) - Most of the voters are professional money managers and not individual investors - Read the HBS article

"say on pay"

Aunt Clarisse has promised to leave you an annuity that will pay $60 next year and grow at an annual rate of 4%. The payments are expected to go on indefinitely and the interest rate is 9%. What is the value of the growing perpetuity?

$1,200

What is the future value of $500 in 15 years if invested at 5% per year?

$1039.46

A shale gas company has discovered a new location for well drilling. A team of engineers estimates that the new well will produce $10 Million worth of gas at the end of the first quarter. After that the production will decrease by 15% every quarter until the well reaches the age of two years. Starting from year 3 and onwards the production will remain at a constant level (of Quarter 8). Given that the life span of a well is 10 years and the quarterly interest rate is 2%, what is the present value of all the revenues to be generated from the new well?

$109.3546

If you can afford a $400 monthly car payment, what price would you pay if monthly interest rate is 0.6% on 36-month loans?

$12,916.29

Suppose I put $100 in a savings account that pays annual interest rate of 5%. How much money will I generate after 5 years?

$127.63

A smooth-talking used-car salesman who smiles considerably is offering you a great deal on a "pre-owned" car. He says, "For only 8 annual payments of $2,400, this beautiful 2005 BMW 335i can be yours." If you can borrow money at 6%, what is the price of this car? Assume the payment is made at the end of each year.

$14,903.51

What is the value of a British consol that promises to pay £15 every year forever? The interest rate is 10-percent.

$150

What is the value today of receiving $50,000 every other year for 20 years if r=8%? The first cash flow starts 2 years from now.

$236,013

The expected dividend next year is $1.30, and dividends are expected to grow at 5% forever. If the discount rate is 10%, what is the value of this promised dividend stream?

$26

Your child will go to college 18 years from today. You estimate that at that time tuition will be $25,000 per year (at years 18-21) What annual amount must you deposit in an account earning 4% per year (first deposit 1 year from today, last deposit 17 years from today) so that you will have sufficient funds to finance your child's education?

$3,829

How much money will you find in your bank account 10 years from now if you add $1,000 in three years and $2,000 in five years? Suppose today's account balance is $500, you don't withdraw any money, and the savings rate is 3.5%.

$4352.95

What is the value today of receiving $50,000 per year for 20 years if the first payment occurs today and r=8%?

$530.18

The Canadian Government has once again decided to issue a consol (a bond with a never- ending interest payment and no maturity date). The bond will pay $30 in interest each year (at the end of the year), but it will never return the principal. The current discount rate for Canadian government bonds is 5.5%. What should this consol bond sell for in the market? What if the interest rate should fall to 4.5%? Rise to 6.5%? Why does the price go up when interest rates fall? Why does the price go down when interest rates rise?

$545.45 $666.67 $461.54 When the interest rate becomes larger (smaller), the present value of each payment becomes smaller (larger) and the total present value of the perpetuity decreases (increases).

What is the present value of receiving 10,000$ every other year for 20 years (you will receive 10 payments in total), if the annual interest rate (compounded annually) is 6%. The first payment is today. $62,561 $63,282 $78,017 $121,581 None of the above

$62,561

The Olympic committee generates € 2.5 billion from broadcast partnerships, sponsorships and ticketing on the year of the Olympic games. Assuming that the next games are exactly 4 years from now and the Olympic games will last forever, how much are all the future revenues worth today? The annual discount rate is 7.5%

$7.4516 B

Southern California Publishing Company is trying to decide whether to reviseits popular textbook, Financial Psychoanalysis Made Simple. The company has estimated that the cash flows from increased sales will be $18,000 the first year. These cash flows will increase by 4 percent per year. The book will go out of print five years from now (so there will be 5 cash flows in total). Assume that the revenues are received at the end of each year. If the company requires an 11 percent return for such an investment, what is the present value of these cash flows?

$71,479.47

Find the present values of the following annuities. Assume first payment is one year from now: Number of Payments or Years: 6, 17, 25, 320 Annual Interest Rate: 9%, 13%, 2.5%, 1.2% Annuity: $183.19, $3,324.02, $535.14, $2,400.09

$821.78 $22,367.64 $9,859.62 $195,609.23

What is the present value of $1,000 to be received in 2 years assuming a discount rate of 10%?

$826.45

What is the present value of receiving 10,000$ a year for 12 years (you will receive 12 payments in total), if the annual interest rate (compounded annually) is 6%. The first payment is today. $83,838 $88,869 $94,201 None of the above

$88,869

You are evaluating whether or not to buy a townhouse in State College as an income generating property. Net rent is received at the end of each year. The first year's rent is expected to be $18,000, and rent is expected to increase 5% each year thereafter. What is the present value of the estimated income stream over the first 5 years if the discount rate is 3%?

$90,838.51

How much would an investor have to set aside today in order to have $20,000 five years from now if the current rate is 15%?

$9943

SP and P are easy to set up and manage, but difficult to expand and transfer

...

federal funds rate target

0-.25%

You can borrow $1,000 today if you promise to repay $1,250 two years from today. At what rate is this a fair deal?

11.8%

If you invest $100,000 today at 12% per year over the next 15 years, what is the most you can spend in equal amounts out of the fund each year over that time?

14,682.42

Boeing has recently announced that the completion of development for the new Boeing 737 MAX is scheduled for 2017. The price of the new plane will be $80M, and the company estimates that it will be able to sell 40 planes a year during the subsequent 10 years (all the revenues are received at the end of the year, and the first cash flow is generated in 2018). - Suppose we are at the end of 2014. What is the PV of all the expected revenues from the new plane model if the relevant discount rate is 8% ? - The original delivery was scheduled for the end of 2014. How much money has the company lost because of the delay?

17.0454 $4.4269 B

target inflation rate

2%

You have $3,675 today deposited in a bank account earning 8% per year. You have decided that when the account balance reaches $5,000 you will go on vacation. How long will it take before you can go?

4 years

You decided to set up a new startup company that produces a fully automated milking system for local dairy farms. You anticipate to receive the first profit of $1.2M at the end of the year. After that the profits will grow at the rate of 15% for the next 5 years, but continue growing at a 2% rate starting from year 6 as the markets become saturated. Given the rate of return of 25% and potentially infinite life of the startup, how much are the future profits worth in terms of today's dollars?

7.141

What is the present value of receiving 10,000$ a year for 12 years (you will receive 12 payments in total), if the annual interest rate (compounded annually) is 6%. The first payment is one year from now. 83,838 90,324 120,000 166,666 None of the above

83,838

target unemployment rate

<5%

An investor purchasing a British consol is entitled to receive annual paymentsfrom the British government forever. What is the price of a consol that pays $120 annually if the next payment occurs one year from today? The market interest rate is 5.7 percent.

A consol is a perpetuity. To find the PV of a perpetuity, we use the equation: PV = C / r PV = $120 / .057 PV = $2,105.26

Suppose that every other year you have to get a fire extinguisher inspection for your house. If the inspection costs $50, annual interest rate is 3%, the next inspection is two years from now, and you plan on owning the house forever, what is the present value of all the future payments for the inspection? A. $ 821.02 B. $ 833.33 C.$1,570.99 D.$1,666.67

A. $ 821.02

If the present value of $1.00 received n years from today at an interest rate of r is 0.621, then what is the future value of $1.00 invested today at an interest rate of r for n years? A. $1.00 B. $1.61 C. $1.621 D. Not enough information to solve the problem

B. $1.61

The expected dividend stream of security X is $1 next year, and dividends are expected to decrease at 5% forever. Interest rate is 3%. What is the PV of the dividends to be received in the future? A. $50 B. $12.5 C. $0 D. Cannot determine

B. $12.5

What is the interest rate that will quadruple (increase four times) your money in 20 years? A. 5.00% B. 7.18% C. 30.10% D. Cannot determine without knowing the amount invested

B. 7.18%

A company has invested in a new line of business that will generate annual cash flows of $100M forever. What is the present value of all the future cash flows if the interest rate is 5% and the first cash flow will arrive two years from today? A.$1,814 M B.$1,905 M C.$2,000 M D.$2,100 M

B.$1,905 M

When interest rate r equals to zero then: A.An annuity will have a value of infinity B.A perpetuity will have a value of infinity C.Both A and B are correct D.Neither A nor B is correct

B.A perpetuity will have a value of infinity

What is the present value of an annuity of $5,000 per year, with thefirst cash flow received three years from today and the last one received 25 years from today? Use a discount rate of 8 percent.

Because the first payment is in 3 years, we need to discount the annuity formula by 2 additional years. There are 23 payments in total (not 22, be careful): 44,457.56

You invested in a project that returns $500 every year for the next 7 years. If interest rate is 0 (zero), what is the present value of all the future cash flows from the project? A. $0 B. $500 C. $3,500 D. Infinity

C. $3,500

A company has invested in a new line of business that will generate annual cash flows of $100M for 10 years. What is the present value of all the future cash flows if the interest rate is 5% and the first cash flow arrives today? A.$710.78 M B.$772.17 M C.$810.78 M D.$830.64 M

C.$810.78 M

"Say on pay" means that: A. a CEO can reject his compensation package if he is not happy with it B. The Securities and Exchange Commission (SEC) can reject the compensation package that the company proposes for its CEO C. Shareholders can sell their shares if they are unhappy with the compensation package that the company proposes for its CEO D. Shareholders can vote against the compensation package that the company proposes for its CEO

D. Shareholders can vote against the compensation package that the company proposes for its CEO

- Economic conditions are currently anticipated to evolve in a manner that will warrant only gradual increases in the target federal-funds rate," Fed Chairwoman Janet Yellen said (now Jerome Powell) - As part of its release, the Fed suggested it might raise rates only once in 2015 by a quarter percentage point - Many Fed officials indicated they thought a rate increase in June was a likely scenario. Then a winter slowdown derailed that plan, and officials in recent weeks had pulled away from a June move. - Mr. Kelman said he is seeing home prices appreciate at a double-digit pace in some markets, raising worries that home values are getting inflated by an extended period of rock-bottom borrowing costs. - Projections for the years to come are moving down as well. The median estimate for rates in 2016 has shifted down to 1.625% from 1.875% in March. The median estimate for 2017 has shifted down to 2.875% from 3.125% in March.

Fed Flags Slow Pace for Rate Hikes WSJ June,2015

What is the value of a security that makes 10 equal payments of 1000$ each once every three years? The annual interest rate is 4% and the first payment will be received 1 year from today.

First, find the effective rate for the 3 year period: 1.043-1=12.486% Then the standard annuity formula will give the PV two years ago: PV = V(𝑡 = −2) × (1.04)^2 = 5,991.49

You are saving for the college education of your two children. They are two years apart in age: one will begin college 15 years from today and the other will begin 17 years from today. You estimate your children's college expenses to be 21,000$ per year per child, payable at the beginning of each school year. It takes four years to graduate. The annual interest is 15%. How much money must you deposit in an account each year to fund your children's education? Your deposits begin one year from today. You will make your last deposit when your oldest child enters college.

First, find the present value of the tuition expenses:For the older child (enters college in 15, so first tuition expense is due in 15 years) PV old = 8,473.30 Note that we are discounting by 14 years because the formula assumes the first payment is one period (year) ahead. For the younger child (enters college in 17, so first tuition expense is due in 16 years) PV young = 6,407.03 The total present value of tuition is then: PV old + PV young = 14,880.32 This has to be equal to the present value of the deposit payments (a 15 year annuity): 𝑐 = 2,544.79

Joe, a freshman in college, needs $55,000 in 4 years to buy the car of his dreams. His investments earn 6% interest per year. If he invested once a year for four years beginning today until the end of the 4 years how much must he invest? (so he will make 4 annual payments, the first one today, the last one 3 years from now and he needs his car in 4 years from today).

Here we assume that there will be 4 payments in total, first payment today, last payment 3 years from today. This can be viewed as a one-time payment C today plus a 3 year annuity C=$11,860.87

Jackson Enterprises has just spent $220,000 to purchase land for a future beach front property development project that will include rental cabins, lodge, and recreational facilities. Jackson Enterprises has not committed to the development project, but will decide in five years whether to go forward with the project or sell off the land. Real estate values increase annually at 2.5% for unimproved property in this area. For how much can Jackson Enterprises expect to sell the property in five years if it chooses not to proceed with the beach front development project? What if Jackson Enterprises holds the property for ten years and then sells?

Holding Property 5 years: 𝐹𝑉 = $220,000 ∗ (1.025)5 = $220,000 ∗ 1.1314 = $248,909.81 Holding Property 10 years: 𝐹𝑉 = $220,000 ∗ (1.025)5 = $220,000 ∗ 1.2801 = $281,618.60

When adjusting the federal funds rate, the two PRIMARY concerns of the Fed are Inflation and GDP growth Inflation and foreign investments Inflation and unemployment Unemployment and the stock market None of the above

Inflation and unemployment

The Stack has just written and recorded the single greatest rock song ever made. The boys in the band believe that the royalties from this song will pay the band a handsome $240,000 every year forever. The record studio is also convinced that the song will be a smash hit and that the royalty estimate is accurate. The record studio wants to pay the band up front and not make any more payments for the song. The Stack agrees to the one-time payment but wants the royalty payments figured from the beginning of the year, not the end of the year. What should the record company offer the band if it uses a discount rate of 4%, 6%, or 9%?

PV = C+C / r $6,240,000 $4,240,000 $2,906,667

Your job pays you only once a year for all the work you did over theprevious 12 months. Today, December 31, you just received your salary of $60,000, and you plan to spend all of it. However, you want to start saving for retirement beginning next year. You have decided that one year from today you will begin depositing 5 percent of your annual salary in an account that will earn 9 percent per year. Your salary will increase at 4 percent per year throughout your career. How much money will you have on the date of your retirement 40 years from today?

Since your salary grows at 4 percent per year, your salary next year will be: Next year's salary = $60,000 (1 + .04) Next year's salary = $62,400 This means your deposit next year will be: Next year's deposit = $62,400(.05) Next year's deposit = $3,120 Since your salary grows at 4 percent, you deposit will also grow at 4 percent. We can use the present value of a growing perpetuity equation to find the value of your deposits today. Doing so, we find: PV = $52,861 The question is about the value in 40 years, the future value: FV = $1,660,364.12 This is the value of your savings in 40 years.

a business which legally has no separate existence from its owner. — No formal charters, few government regulations — No corporate income taxes - TAXED AT PERSONAL LEVEL — Unlimited liability for business debts — Limited to the owner's life span - your assets are the company's

Sole Proprietorship

— How should the firm finance its investment? — What is the optimal mix of debt and equity capital? — When and how to raise money?

capital/financial structure

Barrett Pharmaceuticals is considering a drug project that costs $150,000 todayand is expected to generate end-of-year annual cash flows of $13,000, forever. At what discount rate would Barrett be indifferent between accepting or rejecting the project?

The company would be indifferent at the interest rate that makes the present value of the cash flows equal to the cost today. Since the cash flows are a perpetuity, we can use the PV of a perpetuity equation. Doing so, we find: PV = C / r $150,000 = $13,000 / r r = $13,000 / $150,000 r = .0867 or 8.67%

Given an interest rate of 7.3 percent per year,what is the value at date t = 7 of a perpetual stream of $2,100 annual payments that begins at date t = 15?

The perpetuity formula gives us the value one period (in this case one year) before the first payment, in this problem it is year 14. Therefore, to compute the (future) value at year 7, we need to discount by 14-7=7 years $17,567.03

The Perpetual Life Insurance Co. is trying to sell you aninvestment policy that will pay you and your heirs $20,000 per year forever. If the required return on this investment is 6.5 percent, how much will you pay for the policy? Suppose the Perpetual Life Insurance Co. told you the policy costs $340,000. At what interest rate would this be a fair deal?

This cash flow is a perpetuity. To find the PV of a perpetuity, we use the equation: PV = C / r PV = $20,000 / .065 = $307,692.31 To find the interest rate that equates the perpetuity cash flows with the PV of the cash flows. Using the PV of a perpetuity equation: PV = C / r $340,000 = $20,000 / r We can now solve for the interest rate as follows: r = $20,000 / $340,000 = .0588 or 5.88%

Mark Weinstein has been working on an advanced technology in lasereye surgery. His technology will be available in the near term. He anticipates his first annual cash flow from the technology to be $215,000, received two years from today. Subsequent annual cash flows will grow at 4 percent in perpetuity. What is the present value of the technology if the discount rate is 10 percent?

This is a growing perpetuity. Because the first cash flow arrives in two years and the formula assumes that the first cash flow arrives in one period (in this case one year), one needs to discount by one year. Therefore, the present value is: $3,257,575.76

You decided to set up a new company that produces a fully automated milking system for local dairy farms. You anticipate to receive the first profit of $1.2M at the end of the second year. After that the profits will grow at the rate of 10% in years 3 through 7, but will then decline at a 3% rate starting from year 8 until year 15, when the market for your products will cease to exist (your last cash flow will be in year 15). Given the rate of return of 15%, how much are the future profits worth in terms of today's dollars?

We can use the formula for PV of a growing annuity to discount at rate 𝑟𝑟 a series of 𝑇𝑇 future period payments that grow (or decline) at a proportionate rate 𝑔𝑔: Step 1) Calculate PV of cash flows with 10% growth (6 cash flows occurring in year 2 through year 7): 5.618527 Since the first cash flow occurs at the end of the second year, this formula gives the PV as of the beginning of the second year. So, we need to discount this amount one more year to arrive at the PV today: 5.6181.15/1.15 = 4.88𝑀 Step 2) Calculate PV of cash flows with 3% decline (8 cash flows occurring in year 8 through year 15): Year 7 profit is 1.2 ∗ (1.1)5 = 1.932612, so the cash flow occurring at the end of year 8 is 1.932612 ∗ 0.97 = 1.874634. 7.74633 This formula gives the PV as of the beginning of the 8th year, so we need to discount this amount 7 years to arrive at the PV today: 2.91M Total PV of all future profits: 4.88𝑀𝑀 + 2.91𝑀𝑀 = 7.79𝑀

When they are first born, Grandma gives each of her grandchildren a $5,000 savings bond that matures in 18 years. For each of the following grandchildren, what is the present value of each savings bonds if the current discount rate is 4%? a. Seth turned fourteen years old today. b. Shawn turned twelve years old today. c. Sherry turned ten years old today. d. Sheila turned four years old today. e. Shane was just born.

a. $4,274.02 (4 years remaining until the bond matures) b. $3,951.57 (6 years remaining) c. $3,653.45 (8 years remaining) d. $2,887.38 (14 years remaining) e. $2,468.14 (18 years remaining)

You currently have no money in your bank account but you plan to make the following deposits: 1,000 in 2 years, 2,000 in 4 years and 5,000 in 5 years. The savings interest rate is 4% annually. a. How much will you have in your bank account 10 years from now if you do not withdraw any money? b. How much will you have in 10 years if you withdraw 2,000 seven years from now?

a. 9,982.47 b. 7.732.74

Dixie Bank offers a certificate of deposit with an option to select your own investment period. Jonathan has $5,500 for his CD investment. If the bank is offering a 3.5% interest rate, compounded annually, how much will the CD be worth at maturity if Jonathan picks a... a. two-year investment period? b. five-year investment period? c. eight-year investment period? d. fifteen-year investment period?

a. 𝐹𝑉 = $5,500 ∗ (1.035)2 = $5,500 ∗ 1.0712 = $5,891.74 b. 𝐹𝑉 = $5,500 ∗ (1.035)5 = $5,500 ∗ 1.1877 = $6,532.27 c. 𝐹𝑉 = $5,500 ∗ (1.035)8 = $5,500 ∗ 1.3168 = $7,242.45 d. 𝐹𝑉 = $5,500 ∗ (1.035)15 = $5,500 ∗ 1.6753 = $9,214.42

Jose has $6,000 to invest for a 6-year period. He is looking at four different investment choices. What will be the value of his investment at the end of 6 years for each of the following potential investments? a. Bank CD at 5%. b. Bond fund at 8.5%. c. Mutual stock fund at 11 % d. New venture stock at 21 %.

a. 𝐹𝑉 = $6,000 ∗ (1.05)6 = $6,000 ∗ 1.3401 = $8,040.57 b. 𝐹𝑉 = $6,000 ∗ (1.085)6 = $6,000 ∗ 1.6315 = $9,788.81 c. 𝐹𝑉 = $6,000 ∗ (1.11)6 = $6,000 ∗ 1.8704 = $11,222.49 d. 𝐹𝑉 = $6,000 ∗ (1.21)6 = $6,000 ∗ 3.1384 = $18,830.57

potential problem to achieving goals of a corporation

agency problem

A stream of constant cash flows that lasts for a fixed number of periods

annuity

mortgage payments subscriptions savings accounts treasuries/bond coupons dividend payments structured settlement

annuity examples

-1/100 of % or -1/10000 of a number .01% .0001

bp

Planning and managing long-term investments

capital budgeting

— Supervises operations, reports to CEO — Also called PRESIDENT — Responsibilities: similar to vice-president of a country — Not all companies have this position; sometimes the CEO also serves as a COO

chief operations officer (COO)

responsible for the accounting side (supervises accounting reporting and tax management)

controller

— A distinct legal entity (like a person, but cannot vote), is a "resident" of the state where it was incorporated — Requires articles of incorporation (Delaware 50%) — Separation of ownership and management: - Shareholders (the owners) - Directors - Officers — CORPORATE INCOME TAXES + PERSONAL LEVEL (DOUBLE TAXATION)

corporation

- Shareholders "own" the corporation. - Shareholders elect a board of directors (from outside and within the firm); represents shareholders' interests. - Board of directors appoints top management and ensures that managers act in shareholders' interests. - Separation of ownership and management is necessary for corporate permanence.

corporation structure

effect of decline in interest rates

decline unemployment increase inflation don't know stock market increase bond market (interest down = price up) housing market (mortgage rates down, price up, construction industry up) dollar weaker (foreign currencies more attractive)

— Shareholders: Increase value of the firm — Managers: Own utility, e.g. nice offices, luxury car, empire building, avoid unpopular decisions to minimize the risk of being fired, etc.

different objectives in principal-agent problem

costs of managerial perks; costs to monitor managers

direct agency costs

Converting a future amount of money (FV) into a present value (PV)

discounting

Distributing cash back to the shareholders vs investing in new projects

dividend policy

In the large corporation, the separation of management and ownership provides the following advantage(s) it must have a limited life. ease of share ownership transfer unlimited shareholder liability. Both A and B. Both B and C

ease of share ownership transfer

Sole Proprietorship/partnership: corporation: How easy/costly is it to establish?

easy hard

Sole Proprietorship/partnership: corporation: How easy/costly is it to manage on a daily basis

easy hard

What is the most efficient way to compensate top managers

executive compensation

The value in the future of a given amount of money today

future value (FV)

— Medical — Real Estate — Legal

general partnerships

A stream of cash flows that grows at a CONSTANT rate for a fixed number of periods

growing annuity

salary rental income dividends

growing annuity examples

A stream of cash flows that grows at a constant rate forever

growing perpetuity

rental income bank deposit (but not the whole interest amount) salary dividend payment

growing perpetuity examples

Sole Proprietorship/partnership: corporation: How easy is it to raise capital?

hard easy

managers don't maximize value

indirect agency costs

Time value of money - One dollar today is worth more than one dollar in one year. Why?

inflation, impatient, could make interest now

— A hybrid between a partnership and a corporation — A business entity, but not a corporation — Limited liability just like in the case of a corporation — But no double taxation, income is passed through to partners — Goldman Sachs some years ago converted from a private partnership to an LLC (and later to a corporation) — Large accounting and law firms are LLCs — Unlike a corporation, cannot issue stock

limited liability company (LLC)

— Many private equity firms — Bloomberg L.P.

limited partnerships

Sole Proprietorship/partnership: corporation: What is potential life span?

limited to lifetime of owner infinity

— Merging with other companies — Accepting a bid from a potential acquirer

mergers and acquisitions

— Formed by two or more people (typically professionals in the same area) — TAXED AT PERSONAL LEVEL OF EACH PARTNER — Can be general or limited - General: each partner liable for all the debts of the partnership (all are fully liable) - Limited: liability of some partners can be limited to their contribution (but then they do not participate in managing the business)

partnership

A constant stream of cash flows that lasts forever

perpetuity

real estate mortgage college endowment long-term coupon bonds bank deposits British console bond (perfect example)

perpetuity examples

attract investors/shareholders, generate profit to payout dividends & finance projects, grow business to generate more profits, appoint right people to take initiative, pretty financial statements to attract investors, enhance company's image, maximize shareholder value (most important), bond holders for credit ratings

potential goals of a corporation

Today's value of an amount of money to be received in the future

present value (PV)

Separation of ownership and control: — Practical necessity, guarantees unlimited life of a company — Agent: Manager — Principal: Shareholders - Shareholders (board of directors) appoint management to operate the business. - Sometimes principal and agent have different objectives

principal-agent problem or agency problems

Stick: monitoring — By board of directors — By shareholders - "voting with your feet" — By market for corporate control - POTENTIAL TAKEOVERS - Chrysler was acquired in 2007 by Cerberus Capital Management as part of their "find, fix, and fold" investment strategy. They appointed Robert Nardelli, former Home Depot CEO, to run Chrysler. Two years later Chrysler went bankrupt. (08 crisis) Carrot: Align incentives of managers with those of shareholders — Variable salary (performance dependent) — Grant stocks (or stock options)

stick and carrot remedy to principal-agent problem

good for: american tourists investors foreign assets importers (need less dollars)

strong $

responsible for the financial side (cash and credit management, capital structure, risk management)

treasurer

Sole Proprietorship/partnership: corporation: liaiblity

unlimited limited

Chief Financial Officer (CFO). He is in charge of Controller and Treasurer

vice president of finance

good for: tourists american travel agencies foreign investors exporters (need more dollars)

weak $

Management of short-term assets and liabilities (inventory, cash, accounts receivable/payable, etc.)

working capital management

can interest rates be 0?

yes

can interest rates be negative?

yes (to keep dollar safe) -> Swiss weakened so exporters complained

Marty has been offered an injury settlement of $ 10,000 payable in 5 years. He wants to know what the present value of the injury settlement is if his opportunity cost is 4%. (The opportunity cost is the interest rate in this problem.) What if the opportunity cost is 6%? What if it is 12%?

𝑃𝑉 = $10,000 ∗ (1.04)5 = $10,000 ∗ 0.8219 = $8,219.27 𝑃𝑉 = $10,000 ∗ (1.06)5 = $10,000 ∗ 0.7473 = $7,472.58 𝑃𝑉 = $10,000 ∗ (1.12)5 = $10,000 ∗ 0.5674 = $5,674.27

Your job pays you only once a year for all the work you did over the previous 12 months. Today, December 31, you just received your salary of $80,000, and you plan to spend all of it. However, you want to start saving for retirement beginning next year. You have decided that one year from today you will begin depositing 5 percent of your annual salary in an account that will earn 7 percent per year. Your salary will increase at 3 percent per year throughout your career. How much money will you have on the date of your retirement 40 years from today?

𝟏, 𝟐𝟎𝟔, 𝟑𝟕𝟗