MFIN202: INTRODUCTION TO FINANCIAL MANAGEMENT

CHEAT SHEET FOR MIDTERM

(This cheat sheeet is still tentative, November 25th, 2023)

CHAPTER 1: Goals and Governance of the Corporation

-IPO-Initial Public Offering.

-Investment decision=Capital Budgeting=CAPEX=decision to invest in tangible (assets you can touch)
and/or intangible (R&D, patents etc.)

-Financing decision= decision to raise the money that the firm requires for its investments and operations.

-Capital Structure=Equity financing + Long-term debt financing

-Real Asset= assets used to produce goods and services

-Financial Assets= non-physical assets whose value is derived from a contractual claim such as bank
deposits, bonds and stocks.
-Corporation=(limited liability) a business organized as a separate legal entity owned by stockholders.
Before IPO – closely/privately held, After IPO- publicly held companies.
-Sole proprietorship/ Partnership= (unlimited liabilities) small business held by one person or shared by
several people.
-CFO-chief financial officer-sets overall financial strategy. Has 2 helpers:treasurer-deals with financing,
banking relationships, raising capital| controller – responsible for budgeting accounting and taxes.

CHAPTER 2: Financial Markets and Institutions

Financial Markets
(Stock, Fixed-income, Money, Foreign Exchange, Commodities, Derivatives, Capital )
Financial world
Financial Institutions + Intermediaries
( (Banks, Insurance comp, Brokerage firms + funds)

MARKETS
-Primary market= where securities issued and traded during IPO.
-Secondary market= where the previously issued financial instruments are traded.
-Stock Market= Equity Market=where stocks/shares are issued and traded.
-Debt Market= Fixed income market=debt securities are issued and traded.

-Money market = markets for short term securities (maturity<1 year)

-Capital market = markets for long term debt and equity (maturity>=1 year)

OTHER MARKETS
-Foreign exchange market = market where currencies are traded
-Commodity market = market where commodities are traded (corn, wheat, gas, oil, water etc.)
-Derivatives market = market where derivatives as futures contracts are traded.
-Over-the-counter (OTC): a decentralized market, without a physical location, where market participants
trade with one another through various commuication modes such as phone, email etc.

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FINANCIAL INSTITUTIONS
-Banks
-Commercial Banks= major sources of loans for corporations, provide investors a place to put their
deposits.
-Investment Banks= they assist companies in obtaining finance, run trading desks for foreign exchanges,
commodities, options and derivatives
-Insurance companies= to raise the value of money they get from their clients they invest in corporate
stocks and bonds.
-Brokerage firms= facilitates buying and selling of financial securities between buyers and sellers.

FINANCIAL INTERMEDIARIES
-Mutual fund = investment company. Pools the savings of many investors in a portfolio of securities.
Investors can buy and sell shares as they please. Takes relatively low fees. Provides low cost diversification
and professional money management
-Hedge fund= follows more risk investment strategies, that’s why it needs more talented managers and
costs more compares to mutual fund
-Pension fund=a fund from which pensions are paid, accumulated from contributions from employeers,
employeers or both.

CHAPTER 3: Accounting and Finance

-Balance sheet- shows the value of firm assets and liabilities at a particular time (snapshot)
-Current (Short-term)Assets: Cash and marketable securities, Accounts Receivable, Inventory
-Fixed Assets: tangible assets:PP&E (- deprec), intangible assets: brand name,skills, goodwill (acquisition
of any business), long term investments (-amortization)
-Current (Short-term) liabilities: Debt due for payment, Accounts Payable
-Long-term liabilities: Long-term debt, deferred income tax
-Shareholders’ Equity: Common Stock, Preferred stock, Treasury stock (money spent on buying back
company’s stock), Retained earnings.

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-Income Statement- shows how profitable the firm has been during the past year (video)

-Cash flow Statement: keeps track of cash provisions within a year.

-Cash from Operations= Net income+Depreciation+Change in Working Capital Items

-Cash from Investment= Cash provided by (used for) disposal of (additions to) PPE (property, plant and
equipment)+ sales (acqusitions) of other long term assets

-Cash from Financing=additions to (reductions in) short-term debt+ additions to (reductions in) long-term
debt+dividends+issues of stock+repurchases of stock+other

-Net cash flow= Net increase (decrease) in cash and cash equivalents=Cash from Operations + Cash from
Investment + Cash from Financing
-Free Cash Flow = EBIT*(1-tax rate)+ depr - change in NWC – Capital Expenditure

= after-tax operating income+ depr-change in NWC – Capital Expenditur

=netincome+after-tax interest payments+ depr -change in NWC – Capital Expenditure

-Net Working Capital (NWC)=current assets-current liabilities

-Marginal Tax Rate= the tax that the individual pays on each extra dollar of income.

-Average Tax Rate= the total tax bill divided by total income.

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Chapter 4: Measuring Corporate Performance

-Market Capitalization=number of shares x price per share.

-Market value added= market capitalization – book value of equity
Market Valueof equity
-Market to book ratio =
Book Value of equity

Profitability measures

-EVA = Economic Value Added = Economic Profit = Residual income = After-tax operating income –
(cost of capital x total capitalization)

-Cost of capital measurement bases on Weighted Average Cost of Capital (WACC) which is calculated as:

-WACC=(Re x E/V)+[(1-tax rate) x (Rd x D/V)] where E,D,V are market value of equity, market value of
debt, and the sum of market value of equity and market value of debt, respectively. Re and Rd are return on
equity, and return on debt, respectively.

-Total capitalization= long term debt+ shareholder’s equity

After−tax operating income

-ROA = Return on assets = total assets

After−tax operating income

-ROC = Return on capital = '
long−term debt +shareholde r sequity

net income
-ROE = Return on equity = '
shareholde r s equity

net income
-Operating margin = sales

after−tax operating income

-Operating profit margin = sales

Efficiency Ratios

Sales
-Asset turnover ratio =
Total assets at start of year

COGS
-Inventory Turnover ratio =
inventory at start of year

inventory at start of year

-Average days in inventory¿
cost of goods sold/365

Sales
-Receivable Turnover ratio =
Accou n ts Receivable at start of year

Leverage ratios

long term debt

-Long term debt ratio = '
long term debt + shareholder sequity
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 long−term debt
-Long term debt-equity ratio = '
shar e holde r sequity

total liabilities
-Total debt ratio =
total assets

EBIT
-Times interest earned =
interest payments

EBIT +depreciation
-Cash coverage ratio =
Interest payments

Dupont System

sales aftertax operating income

-ROA=asset turnover ratio x operating profit margin= ×
assets sales

-ROE=leverage ratio x ROA x debt burden

assets sales aftertax operating income net income

= × × ×
equity assets sales aftertax operating income

Liquidity ratios

net working capital

-Net working capital to assets =
total assets

current assets
-Current ratio =
current liabilities

cash+ marrketable securities +receivables

-Quick ratio =
current liabilities

cash+ marketable securities

-Cash ratio =
current liabilities

Chapter 5: Time Value of Money

-Simple interest - interest earned on original investment

-Compound interest – interest earned on interest

-FutureValue (FV) Simple =Initial Investment x (1+r x t) where r: annual interest rate, t: number of years

-FV compound=Initial Investment x (1+r)t

Future value after t periods

-Present Value=PV= t
(1+ r)

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-Discount factor=
(1+r )t

-Simple interest:

FV
PV= days mode: annualy=365; monthly=30; weekly=7; daily=1
1+ r x
mode

-Perpetuity: equally spaced cash flows, equal amounts, forever.

-Present Value of Perpetuity

C
PV= where C and r are yearly cash payment and discount rate, respectively.
r

C 1
Today’s value of a perpetuity that will start at year t PV= r x t
(1+r )

Perpetuity due

C
PV of Perpetuity due= x ( 1+r )
r

-Annuity: equally spaced cash flows, equal amounts. (it may last more than 1 year)

-Present Value of Annuity

1 1 1 1
PV= C x [ r - r (1+r )t ] ; Present Value Annuity Factor (PVAF)= [ r - r (1+r )t ]

-Future Value of Annuity

t
(1+r ) −1
FV= Cx r

Annuity due

-FVannuity due= FV of ordinary annuity x (1+r)

-PVannuity due = PV of ordinary annuity x (1+r)

-APR – annual percentage rates

( )
m
APR
-EAR – effective annual interest rate. = 1+ −1 ; m-# of compounding periods
m

1+ nominalinterest rate
1+real interest rate =1+inflation for small values of nominal, real and interest rates, it
approximately equals:

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Real interest rate=nominal interest rate-inflation

Chapter 6

FV=Face value=Principal=Par value=the amount of money payed to the holder when the bond mature. It is
usually $1000.

Cr=Coupon rate= percentage of interest payed according to face value.

C=Coupon payment= interest payment=Coupon rate*Face Value.

Asked price= the price that investors need to pay to buy the bond

Ex:107:01 means that the price is 107 + 1/32=107.031% of face value.

Bid price=price at which an investor that already owns the bond wishes to sell it.

Asked yield to maturity=the return to investors if they buy the bond at the asked price and hold it to its
maturity.

The value of the bond is the present value of the cash flows it offers.

PV of a bond=PV of coupons+ PV of Face value=(Coupon payment*annuity factor)+(Face value*discount

factor)

1 1
Annuity factor= -
r r∗(1+r )t

1
Discount factor= t
(1+r )

If r=Cr the bond’s price is its Face Value.

If r<Cr the bond’s price is higher than its Face Value

If r>Cr the bond’s price is lower than its Face Value

The interest rate affect the present value of the coupon payment, not the payment itself.

C+(P₁−Pₒ)
Rate of return= ; P₁-price in year 1, Pₒ-price at which the bond is baught.
Pₒ

C
Current Yield=
Market Price

YTM=Yield to Maturity= the discount rate that makes the present value of the bond’s payments equal to its
price.

Default risk- the risk that a bond issuer may default on its obligations

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Default premium- the difference between the promised rate of interest of a bond and the rate of interest of a
Treasury Bond with the same coupon payment and maturity. The bigger the default premium, the greater the
chances that the company issuing the bond will get into trouble.

Types of Corporate bonds:

1. Zero-Coupon Bonds: investors do not get coupon payments but only the face value of the bond.
Bond’s coupon rate is 0.
2. Floating-Rate Bonds: Coupon rate changes over time depending on current market rates.
3. Convertible Bonds: The bond can be exchanged for a specific number of shares of common stock.

Chapter 7

Market order – An order to buy or sell shares at the best currently available market price.

Limit order – An order to buy or sell shares at a predetermined price, to be executed when the market price
reaches the requested price

Liquidation Value – amount of cash a company could raise if it sells all of its assets in secondhand markets
and pays all its debt

Going concer value – the difference between company’s actual market value and liquidation or book value.
Valuation by comparables – how much investors of similar firms are prepared to pay for each dollar of
assets or earning.

Intrinsic Value – The present value of future cash payoffs from a stock or other security.

If an investor buys a share and plans to sell it in one year:

¿ ₁+ P ₁
Vₒ= ; Vₒ- intrinsic value – the fair price for the stock; Div₁= expected dividend per share over 1
1+r
year; P₁ = predicted stock price over 1 year; r= discount rate for stock’s cash flows.

If an investor buys the share at its intrinsic value, its expected rate of return will be equal to discount rate:

¿ ₁+( P ₁−Pₒ)
Expected return =Holding period return=HPR= = Expected Dividend Yield + Expected
Pₒ
Capital Gain.

¿₁
Expected dividend yield = ; Pₒ= share price per year. (If company doesn’t pay dividends this value=0)
Pₒ

P ₁−Pₒ
Expected Capital Gain = Capital Gains Yield =
Pₒ

Pₒ
P/E ratio = ; Pₒ= share price per year; EPS=Earnings per Share
EPS

Dividend Discount Model

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 ¿₁ ¿₂ ¿₃ ¿h Ph
Pₒ=Present Value of (Div1, Div2, Div3……Divh)= + 2
+ 3 +…..+ h+ ; h- time
1+ r (1+r ) (1+ r) (1+r ) (1+r )h
horizon for the investment.

Dividend Discount Model with NO GROWTH

No growth= The company doesn’t reinvest in itself, so it doesn’t grow => Div1=Div2= Div3= Div H.

In this case Earnings = Dividends.

EPS₁ ¿ ₁
Vₒ of no-growth stock= Pₒ= =
r r

Dividend Discount Model with CONSTANT GROWTH

Constant growth= forecasted dividends grow at a constant rate into the indefinite future.

¿₁ Divₒ(1+ g)
Pₒ= = ;r- expected rate of return offered by other, equally risky stocks; g- growth rate. (g>r)
r−g r−g

¿₁
r= + g= Dividend yield + Growth rate
Pₒ

Dividend Discount Model with NON CONSTANT GROWTH

¿₁ ¿₂ ¿₃ ¿h Ph
Pₒ= + 2
+ 3 +…..+ h+ .
1+ r (1+r ) (1+ r) (1+r ) (1+r )h

Bargain Price = A price less than intrinsic price.

Growth Stocks- interested in capital gains, future growth of earning

Income Stocks- interested in cash dividends.

Net income
EPS= BV per share * ROE; ROE = '
Shareholder s equity

¿ ₁ Dividends
Payout ratio = = = 1- plowback ratio
EPS Net income

EPS−¿ ₁ Retained earnings

Plowback ratio= = =1- payout ratio
EPS Net income

Growth rate= plowback ratio*ROE

Sustainable growth rate= The firm’s growth rate if it plows back a constant fraction of earnings, maintains a
constant return on equity, and keeps its debt ratio constant

PVGO – present value of company’s growth opportunity

PVGO= Pₒ of stock if company reinvest - Pₒ of stock if company doesn’t reinvest.

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 EPS
Pₒ= + PVGO
r

Methods to analyze the market:

1. Technical Analysis-trying to spot undervalued stocks by evaluating the past patterns of the share
prices and forecast the future value of a share based on the historical costs
2. Fundamental Analysis- trying to spot mispriced securities by analyzing NPVs and other measures of
cash flows.

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