Corporate Finance: Any decision that involves use of money.

Marketing, Operation research, accounting are all pieces of corporate Finance.

Accounting is backward focus. Finance is forward focus.
In Finance:
Assets: Assets in place and Growth assets. (Tangible or Intangible)
Liabilities: Debt, Equity.
Three Principles:
 Investment Principle: Hurdle rate and return. (Make a return greater than hurdle
rate)
 Financing principle: Optimal mix of debt. (If assets are long term then have long
term debts.
 Dividend Principle. If you don’t find investments. Give cash back to stockholders.

High Growth companies: Have more growth assets (Investment decisions important)
better to have mostly equity and little debt.
Mature companies: Have assets in place rather than growth assets. Have many cash
inflows and won’t be trouble to distribute dividend or payback debt. It Can have debt in
balance sheet.

Across business the corporate finance are same.

 Disney: Large company

 Vale: Mining company. Service, commodity, emerging market company
 Tata motors: Family company, manufacturing
 Baidu: Chinese search engine. Dominant in china.
 Deutsche Bank: Regulated german company
 Bookscape: To show the similarity between large and small company. It is a
small bookstore.

Objective of Corporate Finance: Maximize value of business and not stock price
The Board of director’s problem:
The CEO and the Board relationship is important. The Relationship between CEO and
board as in any way is bad. This is because the board is supposed to keep an eye on
the board.(Disney of 90’s)

When Manager do not fear stockholder:

Greenmail: Offers the acquirer a sum of money to go away.
Golden parachute: Protect manager by giving a big salary package
Poison pill: Make less attractive.
Shark repellants: Threshold of 80 percent and above votes to get acquired.

In short: Manager won’t be looking for shareholder interest.

NEBISCON: Lending money to a company (Be Bondholder and not get protected.) The
Case of RJR Nabisco and Nabisco acquired by KKR. The Bond prices dropped by 20
percentage, even though it was a well established firm.

The Shareholding patterns:

1. Institutional Investors: Larger the amount of holdings for institutional investors
larger the risk. They can sell off any time.
2. Differential voting rights: Public are given less power votes. (Golden shares: Held
by govt, ie more than 51 percent.)
3. Family group share pattern: The family group companies may be having more
shares and impossible to question their power.
4. Baidu: Chinese company but incorporated in Cayman Islands. Huge concern
over the way rules change regarding incorporating in Cayman Islands.

In short it is always advisable to have good and powerful individuals as board members
who act well and go for change if needs a change. (Steve jobs in board of Disney.) In
case if the institutional investors are more in the holding pattern, they will once sell off
the shares because they are marginal investors. In case of Disney, Steve jobs being the
holder of shares never sell any because he is not a marginal investor.
So always prefer for company which does not have much marginal investors. This Is
because they diversify.
If govt hold stock in a company it is not easy to acquire it (eg: ITC)

Keiretsus:Japan
Germany: Banks form the core of system.
By this way they rose form ashes of second world war.(Cross shareholding system)
But concepts like increasing market share only will end up in losses. That happened for
Japan in 80’s.

Case of Disney: Market corrected itself when stockholder where not happy with the
board. The acquires come up and there is a cry to change in board. Later the board
become efficient by new leadership.
Session 4:

Benchmark. When we make an investment we should need to break even.

The Important things are free return rate and risk premium.
What is risk?
Risk= Danger and Opportunity.
We should take risk by expecting a reward back.
Hurdle rate calculation models:
1. CAPM: No transaction cost (assumption). Beta is a baggage of risk.
2. Arbitrage pricing model: Many factors against each beta. Measuring beta against
each risk.
3. Multi factor model: Because the factors that drive the stockmarket changes time
to time.
4. Proxy risk= Proxy variables

Risk free rate.

Expected return= Rf+ B(Rm-Rf)
The risk free rate of return should be calculated on the basis that the return and the
entity issuing the instrument should be consistent.
The default risk can be measured as the investment which is closest to make the
default.
If the interest rate of countries like Germany, Spain and Greece vary like 1.75, 6,8
percentage. We should choose Germany as the default risk rate because the other
countries are more likely to default in future.
Eg: Greece went bankrupt in 2016

Determining risk free rate of return of India

In India the present G-sec bond rate is 6.6 percentage. But it cannot be assumed as a
risk-free investment because the rating of India is average by most of the rating
agencies. By taking it into the account, the spread of default risk is approximately 2
percentage of the Indian govt. Then we can arrive at the risk-free rate by
6%-2%= 4%.
High inflation currency has high risk free rates while low inflation currency has low risk
free rates.

Risk Premium