Principles Of Corporate Finance - Faculty.sjcny.edu
Principles of Corporate FinanceProfessor James J. Barkocy“In the business world,the rearview mirror isalways clearer than thewindshield”Warren BuffetMcGraw-Hill/IrwinCopyright 2015 by The McGraw-Hill Companies, Inc. All rights reserved.
RiskRisk presents both danger and opportunity2
Rates of ReturnPercentage Return Dividend Capital GainInitial Share Price.40 2.82Percentage Return 12.61 .255 or 25.5%3
Rates of ReturnPercentage Return Div. Yield Cap. Gain YieldDividend Yield DividendInitial Share PriceCapital Gain Yield Capital GainInitial Share Price4
Rates of Return.40Dividend Yield 12.61 .032 or 3.2%2.82Capital Gain Yield 12.61 .224 or 22.4%5
Market IndexesDow Jones Industrial Average (The Dow)Value of a portfolio holding one share in each of 30 largeindustrial firms.Standard & Poor’s Composite Index (The S&P 500)Value of a portfolio holding shares in 500 firms. Holdingsare proportional to the number of shares in the issues.6
The Value of a 1 Investment in 19007
1120142017Rate of return, %Rates of ReturnCommon Stocks (1900-2017)6040200-20-40-60Year8
Rates of Return 1926-1998Percentage Return6040200-20Common Stocks-40Long T-BondsT-Bills-602630354045Source: Ibbotson Associates50556065707580859095Year9
Expected ReturnInstrumentAvg RORT.Bill (rf)3.8T. Bond5.3Common Stock (rm)11.5Avg Risk Prem.--1.57.7 (rm-rf)Expectedinterest rate onnormal risk market returnTreasury billspremium(1981) 21.7%(2018) 9.4% 141.7 7.77.710
Measuring RiskVariance - Averagevalue of squareddeviations from mean.A measure of volatility.Standard Deviation –Square root of theaverage value ofsquared deviationsfrom mean. A measureof volatility.11
Distribution for BFI and AMC ReturnsWhile both stocks have the same expected return, AMC’s return hasa higher variance and standard deviation.12
Risk and Diversification13
Measuring RiskPercent Rateof Return 40 10- 20Probabilityof ReturnDeviationfrom Mean.25.50.25 300- 30Squared Deviation.25 x 900 225.50 x 0 0.25 x 900 225Expected Return (.25 x 40) (.50 x 10) (.25 x -20) 10Variance weighted avg. of squared deviations 225 0 225 450Standard deviation square of root variance 450 21.2%14
Expected ReturnInstrumentAvg RORT.Bill3.8T. Bond5.3Common Stock11.5Risk Prem.--1.57.7Std. Dev.2.99.019.715
Historical Returns, 1926-2002SeriesAverageAnnual ReturnStandardDeviationLarge Company Stocks12.2%20.5%Small Company Stocks16.933.2Long-Term Corporate Bonds6.28.7Long-Term Government Bonds5.89.4U.S. Treasury Bills3.83.2Inflation3.14.4Distribution– 90%0% 90%Source: Stocks, Bonds, Bills, and Inflation 2003 Yearbook , Ibbotson Associates, Inc., Chicago(annually updates work by Roger G. Ibbotson and Rex A. Sinquefield). All rights reserved.16
Risk and DiversificationDiversification - Strategy designed toreduce risk by spreading the portfolio acrossmany investments.Unique Risk - Risk factors affecting onlythat firm. Also called “diversifiable risk.”Market Risk - Economy-wide sources ofrisk that affect the overall stock market.Also called “systematic risk.”17
Portfolio VarianceAuto StockGold StockScenarioRate nRecession-8-13Normal 5 18BoomRate n169 20 1936100 3 2413169-20-21441Expected Return (-8 5 18)/3 5%( 20 3 - 20)/3 1%Variance (169 0 169)/3 112.7(361 4 441)/3 268.7Standard Deviation 10.6%16.4%18
Risk and DiversificationPortfolio rateof return(( )()(fraction of portfolioin first assetfraction of portfolioin second assetxxrate of returnon first assetrate of return))on second asset19
Portfolio WorksheetConsider the following:Scenario ProbabilityReturnsAutoGoldPortfolio (75% auto, 25% gold)RecessionNormalBoom-8 5 18.75(-8) .25 (20) -1.0%.75(5) .25 (3) 4.5%.75(18) .25 (-20) 8.5%1/31/31/3 20 3-20Expected ReturnAuto(-8 5 18)/3 5%Gold( 20 3-20)/3 1%Portfolio(-1 4.5 8.5)/3 4%VarianceAutoGoldPortfolio(169 0 169)/3 112.7 (std. 10.6%)(361 4 441)/3 268.7 (std. 16.4%)(25 .25 20.25)/3 15.2 (std 3.9%)20
Portfolio standard deviationRisk and DiversificationUniqueriskMarket risk051015Number of Securities21
Principles of Corporate Finance. 2 Risk Risk presents both danger and opportunity. 3 Rates of Return .255 or 25.5% 12.61.40 2.82 Percentage Return l e e e d l n. Y he 4 Rates of Return a ain he Percentage Return Div. Yield Cap. Gain Yield. 5 Rates of Return.032 or 3.2% 12.61.40 Dividend Yield .224 or 22.4%
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Descriptif des cours Course Outlines 10 Catalogue des cours/ Course Catalog 2017-2018 FIN: Finance/Finance A : Actuariat/Actuarial, Insurance E : Finance d’entreprise/Corporate Finance The course liste tables and the course outlines G : Finance générale/General Finance M : Finance de marché/Market Finance S : Synthèse/Synthesis IDS: Systèmes d’Information, Sciences de la Décision et .
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Finance Volume 1 Ross et al. Fundamentals of Corporate Finance, Sixth Edition, Alternate Edition Front Matter 1 Preface 1 I. Overview of Corporate Finance 33 1. Introduction to Corporate Finance 33 2. Financial Statements, Taxes, and Cash Flow 55 II.
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