BALANCE

S HEET RATIOS













INCOME STMT RATIOS















Dfq

TYPES OF F IRMS
Effective Annual Rates for a
6% A PR w ith Different
Compounding P eriods
nd
nd
2 C PT, 2 ,2 (ICONV),
Nom=APR, EFF=EAR,
c/y=times compound p er y r
c/y = 1, Eff, c pt = 6
C/y = 2, Eff, cpt = 6.09
C/y = 12, Eff, cpt = 6.167
C/y = 365, Eff, cpt = 6 .183
Annual


Semiannual


Monthly


Daily

FV( annuity) = C 1r [(1 + r )n 1]

Assets = Liabilities + S tockholders Equity
Net Working Capital = Current Assets Current Liabilities
Market Capitalization = Market P rice * Number o f Shares
Enterprise V alue = Market V alue o f Equity + D ebt Cash
Gross Profit = Revenue, N et S ales Cost of S ales
Operating I ncome = G ross P rofit Operating Expense
EBIT = Operating income + Other Income
Earnings
Per Share = N et I ncome / Shares Outstanding

Retained Earnings = N et I ncome Dividends

Payout R atio = Dividends / N et Income

CPN payment = (Coupon Rate * F ace Value) / n o. coupon pmts p er y ear

BONDS: N=years o r number of payments, I/Y=YTM, P V= bond price,


PMT=coupon rate X face value, FV=face value, P MT
Coupon Rate > YTM p remium; if CR=YTM, p ar; if CR<YTM = d iscount
If

Bonds: C lean P rice = Cash(dirty) price A ccrued Interest

Accrued Interest = Coupon amt x (Days s ince last coupon pmt)

Days in C urrent C oupon Period
If m arket interest rates , b ond p rice

Stocks Multiyear Investor: (CF) C F1, C F2 ,
NPV, R e=disc rate,
hit
compute value


1+Rannual = [ (1+R1)(1+R2 )(1+R3).]-1

as m any times up to a y ear






Geometric avg =
Arithmetic avg
[(1+R1 )(1+R2)n th root]-1

Annuity:Your grandmother putting $1000 into savings every birthday since when you
turned one. interest rate of 3%. How m uch m oney on your 18th birthday?

N=18, I/Y=3%, PV=0, PMT=1000, solve FV=(23,414.43)

So,

Annuity: Parents wanted $160,000 saved for college by your 18 started on 1st bday.
Earned 8% per year on their investments. a. How m uch w ould they have to save each
year to reach their goal?

N=18, I/Y=8%, PMT=0, FV=160,000, solve PV=(40,039.84)

Annuity pmt N=18, I/Y=8%, PV=40,039.84, FV=0, solve PMT=(4,272)
b. If they decided to have $200,000 saved, how m uch m ore have to save per year?

N=18, I/Y=8%, PMT=0, FV=200,000, solve PV=(50,049.81) ! pmt 5340.42

Coupon Bonds. Spot rates for 6 m onths=1%, 1 year=1.1%, and 1.5 years=1.3%,
semiannually compounded APRs. W hat is the price of a $1000 par, 4% coupon bond
maturing in 1.5 years (the next coupon is exactly 6 m onths from now)?

Payments at 6 m onths=$20, 1yr=$20, 1.5yrs=$1020.

PV= 20/(1.005) + 20/(1.0055)2 + 1020/(10065)3 = $1040.05

Annuity: How m uch to save for retirement. plan to save $5000 per year, first
investment 1 year from now. can earn 10% per year, retire in 43 years,
a) How m uch have in retirement account on the day you retire?
N=43, I/Y=10%, PV=0, PMT=-5000, solve FV=2,962,003.46
b) If wanted to m ake one lump-sum investment today
N=43, I/Y=10%, PMT=0, FV=2,962,003.46, solve PV=(49,169.99)
c) Live 20 years in retirement, how m uch can withdraw every year to exhaust your
savings with the twentieth withdrawal (assume earn 10% retirement)?

N=20, I/Y=10%, PV=2,962,003.46, FV=0, solve PMT=-347,915.81
d) If you withdraw $300,000 /year in retirement (first withdrawal 1 year after
retiring), how m any years will it take until you exhaust your savings?

I/Y=10%, PV=2,962,003.46, FV=0, PMT=-300,000.00, solve N=45.84
e) Assume $1000/year, retire with $1 m illion in investment, what rate need to earn?

N=43, PV=0, FV=1,000,000, PMT=-1000.00, solve I/Y=11.74291%
Growing perpetuity: You building new m achine will save you $1000 in first year. The
machine w ill w ear out, savings decline at a rate of 2% per year forever. W hat is the
present value of the savings if the interest rate is 5% per year?

PV = 1000 / 0.05 (0.02) = $14,285.71
Growing Annuity: New drug patent will last 17 years. Expect drugs profits $2 m illion
in first year, grow at rate 5% per year for next 17 years. Once expires, competition
will drive profits to zero. W hat is PV of drug if the rate is 10% per year?

Annuity: Piece of art $50,000. Art dealer will lend you the m oney, you will repay by
making same payment every two years for 20 years (10 payments). If the interest rate
is 4% per year, how m uch w ill you have to pay every two years?
Calculate the 2-year interest rate: The 1-year rate is 4%, and $1 today w ill be w orth
(1.04)2 = 1.0816 in 2 years, so the 2-year interest rate is 8.16%.

Then, N=10, I/Y=8.16%, PV=-50000, FV=0, solve PMT=7505.34
House costs $350,000. You have $50,000 in cash down payment, borrow the rest.
Bank offering a 30-year m ortgage, annual payments and interest rate 7% per year.
How m uch your annual payment?

N=30, I/Y=7%, PV=-300000, FV=0, solve PMT=24175.92
You can afford only $23,500 per year. The bank agrees to allow you to pay this
amount each year, yet still borrow $300,000. At the end of the m ortgage (in 30
years), you m ust m ake a balloon payment; How m uch?

N=30, I/Y=7%, FV=0, PMT=23500, solve PV=-291612.47, less 8387.53.

Then, N=30, I/Y=7%, PV=8387.53, PMT=0, solve FV=-63848.02
Annuity: You are 22. Your retirement plan. Every dollar earns 7% per year. No
withdrawals until 65. Live to 100, work until 65. You will need $100,000/yr in
retirement, you contribute same amount at end of every year you work. How m uch
need to contribute each year to fund retirement?

In yr 43, N=35, I/Y=7%, FV=0, PMT=100000, solve PV=-1,294,767.23,

Value today, N=43, I/Y=7%, PMT=0, FV=1,294,767.23, solve PV=-70,581.24

Annual pmt N=43, I/Y=7%, PV=70581.24, FV=0, solve PMT=-5225.55
Converting APR to Discount Rate: Suppose bank account pays interest m onthly with
an effective annual rate of 6%. W hat interest w ill you earn each m onth?
2ND CPT; 2nd, 2 (iCONV); 2nd CLR W ORK; UP, UP, (find EFF), 6, ENTER;
DOWN, (find c/y), 12, ENTER; down to NOM, CPT = 5.84 " divide by 12 to
get periodic rate; STO, 0, RCL, 0, /,12 = 0.486755
If you have no m oney in the bank today, how m uch will you need to save at the end
of each m onth to accumulate $100,000 in 10 years?
0.486755, I/Y; 10*12 = 120, N; 100000, FV; CPT, PMT = 615.48
Computing Loan payments: Timeline for a $30,000 car loan w ith these terms: 6.75%
APR for 60 m onth (assume m onthly compounding coz APR is not specifically defined)

PV=30000, N=60, I/Y=6.75/12, solve PMT = 590.50
You are now 3 years into loan. You decide to sell the car. After 36 m onths of
payments, how m uch do you still owe on your car loan?

2nd, PV (AMORT), P2 = 36, P1 = 1, BAL = 13222
or N=24, I/Y=6.75/12, PMT = -590.50, FV=0, solve PV=13222.32
or N=36, I/Y=6.75/12, PMT = -590.50, PV=30000, solve FV=13222.32
Endowment Cash flow needed $10,000. Grow at rate 7%. Endowment starts in 10 yrs

PV needed = 10000 0.07 = 142,857.14 = value in year 9

Value today = 142,857.14 (1.07)9 = 77,704.82
Car Payment PMT=5000, N=5, I/Y=6, FV=0, solve value of loan PV = 21061.81

Shift-PV (AMORT), P1=1, P2=1, balance 17325.52

After 4 payments, P1=1, P2=4, balance 4716.98
If $1 invested at 9% APR with daily compounding,

Formula: 1 + (0.09/365)365 = 1.09416, so EAR = 9.416%

2nd-2 (ICONV) Nom=9, c/v=365, EFF=9.4162
Firms credit rating AA. Credit spread for 10-year m aturity AA debt is 90 basis points
(0.90%). Firms ten-year debt coupon rate 5%. New ten-year Treasury notes are $100
issued at par, coupon rate 4.5%. W uts the price of your outstanding ten-year bonds?

debts YTM= 4.5% + 0.9% = 5.4%, 6-mo rate =2.7%.

Cash flows 5%=$5 per year, semiannual = $2.5. 10 yrs, 20 pmts.
N=20, I/Y=2.7%, PMT=2.5, FV=100, solve PV=$96.94

Divident Discount M odel Store to pay an annual dividend of $0.56 per share, trade
$45.50 per share end of year. Expected return of 6.8%, a) what is the m ost youd pay
today for Longs stock? FV=46.06 (45.50 + 0.56), N=1, I/Y=6.8, solve PV=43.13
b) W hat dividend yield and capital gain rate would you expect at this price?

Div yield=0.56/43.13 = $2.37 per share. Cap gain rate = 2.37/43.13 = 5.5%

Constant Dividend Growth. Utility company to pay (div1) $2.30 /share in dividends in
the coming year. If equity cost of capital is 7% (rE) and dividends grow by 2% (g) per
year in future, estimate the value of stock.

P0= Div1 / (rE-g) = 2.30 / (0.07-0.02) = $46.00

Dividends: Profitable-Unprofitable Growth. Crane expects earnings per share of $6

coming year. Firm plans to pay out all of its earnings as dividend. W ith expectations
of no growth, Cranes current share price is $60. Suppose Crane could cut dividend
payout rate to 75% and use retained earnings to open new stores. The ROI in these
stores is expected to be 12%. If we assume that the risk of these new investments is
the same as the risk of its existing investments, then the firms equity cost of capital
is unchanged. W hat effect w ould this new policy have on Cranes stock price?

Div1=EPS1 * 75% = 6 * 75% = $4.50 ; rE=Div1/P0 + g = 6/60 + 0% = 10%

g=retention rate * ROI = 25% * 12% = 3%

therefore, P0= Div1 / (rE-g) = 4.50/(0.10-0.03) = $64.29
Suppose return on new investments is 8% instead. Expected earnings per share $6,
equity cost of capital of 10% (assume risk same), whats Cranes current share price?

g=retention rate * ROI = 25% * 8% = 2%

therefore, P0= Div1 / (rE-g) = 4.50/(0.10-0.02) = $56.25
Valuing Firm different Growth Rates. Firm reinvesting all earnings to expand.
Earnings $2/share this past year, expected growth rate 20% /yr until end of yr 4,
when firm will cut investment and begin paying 60% dividends. Its growth will slow
to a long-run rate of 4%. If equity cost of capital is 8%, w hats todays value of a share?

P3= Div1 / (rE-g) = $2.49 / (0.08-0.04) = $62.25

N=3, I/Y=8%, FV=$62.25, solve PV=$49.42

Titan has 217 m il shares outstanding, expects earnings end of year of $860 m il. Titan
plans to pay out 50% of its earnings in total, paying 30% as dividend, 20% to
repurchase shares. If earnings are expected to grow by 7.5% /year and payout rates
remain constant, whats Titans share price assuming equity cost of capital 10%?

Total payout = 50% * $860 m il = $430 m illion

PV(Future total divs & repurch) = 430mil / (0.10-0.075) = $17.2 billion

P0 = $17.2 bil / 217 m il shares = $79.26 per share

Investments highest avg returns=small stocks, also m ost volatile. Bonds least volatile.
Larger stocks, lower volatility. Portfolio of stocks will have lower volatility than
individual stocks w hich have lower returns and higher risk.
Investors demand higher returns on riskier investments cos averse to fluctuations.
Compound annual return is better to describe long-term historical performance,
average of history of returns. Used m ost often for comparison
Arithmetic average return assumes reset investments every year. U sed when
estimating expected return over a future horizon based on past performance.
Std Deviation. 1sd = 68% confident, 2sd = 95%, 3sd = 99%
Systematic Risk not diversifiable, requires risk premium.
Unsystematic Risk - diversifiable, does require risk premium
Bank A has 100 loans outstanding, each $1 m illion, will be repaid today. Each loan 5%
probability of default. Bank B one loan of $100 m illion repaid today. Also 5% default.

Bank A = ($1 m illion 0.95) 100 = $95 m illion expected payoff

Variance of each loan = (1 0.95)2 0.95(0 0.95)2 0.05 = 0.0475

Std Deviation of each loan = 0.0475 = 0.2179, for portfolio x100=2.179

Bank B = $100 m illion 0.95 = $95 m illion, one loan

Variance = (100 95)2 0.95 + (0 95)2 0.05 = 475, std dev 475 = 21.79