Reading Comprehension Overview
How to find capital structure
%E=market value of equity/(EV) %D=Net Debt/(EV)
Working Capital formula
(Current Assets- cash/cash equivalents)-(Current liabilities - ST debt- current portion of LT debt)
How can you find dividend tax rate
1-Stock price drop/dividend=tax rate
record date vs. ex-dividend date for dividends
Company declares dividend on record date, you must own stock 2 days before record date to receive dividend (ex-dividend date). If you purchase stock on or after ex-dividend dat you do not get dividend *it takes 3 business days of a purchase for ownership of stock to be registered after purchase *you must purchase stock one day before the ex-dividend date
Explain why bond issuers might voluntarily choose to put restrictive covenants into a new bond issue
Bond issuers benefit from placing restricting covenants because by doing so they can obtain a lower interest rate.
Why could a share repurchase be a positive thing
By choosing to do a share repurchase, management credibly signals that they believe the stock is undervalued.
How to find price of bond
CPN*(1/y)*((1-1/(1+y)^n))+FV/(1+y)^n
What effect would a $10 million capital expense have on this year's earnings if the capital is depreciated at a rate of $2 million per year for five years? What effect would it have on next year's earnings?
Capital expenses do not affect earnings directly. However, the depreciation of $2 million would appear each year as an operating expense. With a reduction in taxes of 2 × 35% = $0.7 million, earnings would be lower by 2 - 0.7 = $1.3 million for each of the next 5 years.
How to find market value of enterprise value
Market value of Equity + Book Net Debt(most recent numbers from quarterly filings)
The dividend tax cut passed in 2003 lowered the effective dividend tax rate for a U.S. investor in the highest tax bracket to a historic low. During which other periods in the last 35 years was the effective dividend tax rate as low?
1988-1990 or 2013-present
IRR example: You have an investment opportunity that requires an initial investment of $5000 today and will pay $6000 in one year. What is the IRR of this opportunity?
6000/(1+r)^n=5000 n=1 r=20%
What effect would a $10 million operating expense have on this year's earnings? What effect would it have on next year's earnings?
A $10 million operating expense would be immediately expensed, increasing operating expenses by $10 million. This would lead to a reduction in taxes of 35% × $10 million = $3.5 million. Thus, earnings would decline by 10 - 3.5 = $6.5 million. There would be no effect on next year's earnings
Explain the difference between a secured corporate bond and an unsecured corporate bond.
A secured corporate bond gives the bondholder the right over particular assets that serve as collateral in case of default. An unsecured corporate bond does not offer such protection to the bondholder. Thus, with an unsecured corporate bond, the bondholders are residual claimants in the case of bankruptcy after the secured assets have been given to the corresponding bondholders.
EBITDA to EBIT
EBIT + D/A = EBITDA
How do you get NI
EBIT- int exp - income taxes
How are lenders part of corporate governance
Motivated to carefully monitor the firm and require firms to maintain profitability and liquidity through covenants
Explain under which conditions an increase in the dividend payment can be interpreted as a signal of the following: a) good news b) bad news
a) By increasing dividends managers signal that they believe that future earnings will be high enough to maintain the new dividend payment. b) Raising dividends signals that the firm does not have any positive NPV investment opportunities, which is bad news.
What are some reasons why a horizontal merger might create value for shareholders?
Horizontal mergers are more likely to create value for acquiring shareholders. Horizontal mergers combine two firms in the same industry. This provides for greater potential synergies in eliminating redundant functions within the two firms and potentially increased pricing power with both vendors and customers.
stock price post dividend
In a perfect capital market, the first price of the stock on the ex-dividend day should be the closing price on the previous day less the amount of the dividend
If you are planning an acquisition that is motivated by trying to acquire expertise, you are basically seeking to gain intellectual capital. What concerns would you have in structuring the deal and the post-merger integration
In cases where you are buying a lot of intangible assets, especially human capital, you have to be particularly worried about how you are going to create incentives for the target's employees to stay on like retention bonuses
Interest Tax Shield
Interest Payment x tax rate
Why does risk premium on stocks not depend on diversifiable risk
Investors can costlessly remove diversifiable risk from their portfolio by diversifying. They, therefore, do not demand a risk premium for it.
Options for free cash flows after a firm satisfies interest payments
It can retain them and use them to make investments, or hold them in cash. It can pay them out to equity holders, either by issuing a dividend or by repurchasing shares
Net Debt Formula
LT debt+ current portion of LT debt +ST debt+NCI-cash/cash equivalents
NPV
NPV= PVbenefits-PVcosts
Why do bonds with lower seniority have higher yields than equivalent bonds with higher seniority
Requiring coupon payments protects the bondholders from waiting a long time in case the debtor defaults. Without coupon payments, default only happens when the bond matures, but by then the corporation might have depleted all of its assets. In contrast, with coupon payments the debtor would be in default the moment it misses one of the coupon payments, and the bondholders can then force the firm into bankruptcy. At this stage, they might be able to get a larger fraction of the value of the original debt than if they waited until maturity
What inherent characteristic of corporations creates the need for a system of checks on manager behavior
Separation of management and ownership results in the need of corporate governance
Why do you think shareholders from target companies enjoy an average gain when acquired, while acquiring shareholders on average often do not gain anything?
The acquiring firm has to compete against other firms, thus reducing the gains it can obtain from the transaction. Target shareholders benefit from this competition, as they obtain higher bids for the company
Natsam Corporation has $250 million of excess cash. The firm has no debt and 500 million shares outstanding, with a current market price of $15 per share. Natsam's board has decided to pay out this cash as a one-time dividend. a) what is ex-dividend price b)what is price per share after share repurchase instead c)which is better for shareholders
a) 250/500 = 0.5 15-0.5=14.50 b) 15 c) both are equally good for shareholders
Margoles Publishing recently completed its IPO. The stock was offered at a price of $14 per share. On the first day of trading, the stock closed at $19 per share. What was the initial return on Margoles? Who benefited from this underpricing? Who lost, and why?
The initial return on Margoles Publishing stock is ($19.00 - $14.00) / ($14.00) = 35.7%. Who gains from the price increase? Investors who were able to buy at the IPO price of $14/share see an immediate return of 35.7% on their investment. Owners of the other shares outstanding that were not sold as part of the IPO see the value of their shares increase. To the extent that the investors who were able to obtain shares in the IPO have other relationships with the investment banks, the investment banks may benefit indirectly from the deal through their future business with these customers. Who loses from the price increase? The original shareholders lose, because they sold the stock for $14.00 per share when the market was willing to pay $19.00 per share.
Book value vs market value of equity
The market value of a stock does not depend on the historical cost of the firm's assets, but on investors' expectation of the firm's future performance
What are the main advantages and disadvantages of going public?
The two main advantages of going public are liquidity and access to capital. One of the major disadvantages of an IPO is that once a company becomes a public company, it must satisfy all of the requirements of being a public company such as SEC filings and listing requirements of the securities exchanges.
What is the incentive to own a stock with a lower Re
There is less market risk so you don't need as high of a return to hold it, the stock will perform better in a market downturn
X today is what in n years
X*(1+r)^n
X in n years is what today
X/(1+r)^n
A rich relative has bequeathed you a growing perpetuity. The first payment will occur in a year and will be $1000. Each year after that, you will receive a payment on the anniversary of the last payment that is 8% larger than the last payment. This pattern of payments will go on forever. If the interest rate is 12% per year a) what is the PV of the bequest b) what is the PV of the bequest after first payment made
a) 1000/(.12-.08) b)((1000)*(1.08))/((.12-.08)
Which companies are likely to have high short term financing needs
companies with very seasonal cash flows like retailers
systemic vs diversifiable risk
diversifiable risk can be reduced through diversification. ... Systematic risk, also known as "market risk" or "un-diversifiable risk", is the uncertainty inherent to the entire market or entire market segment.
Strategies shareholders can use to incentivize managers to work to their benefit
i. Ensure that employees are paid with company stock and/or stock options. ii. Ensure that underperforming managers are fired. iii. Write contracts that ensure that the interests of the managers and shareholders are closely aligned. iv. Mount hostile takeovers.
Why do you think mergers cluster in time, causing merger waves?
it takes a combination of forces usually only present during strong economic expansions to drive peaks in merger activity either stock market valuations drive merger activity or industry shocks accompanying economic expansions drive merger activity
How do you find interest coverage
operating Income/Interest expense
How much money does a firm raise after IPO/SEO
stock price*shares sold*(1-fee rate)
Present value of a perpetuity
x amount/interest rate *if the benefits of a project go into perpetuity, use for PV of benefits to find NPV pf project
