Cfe - Finance

Front 1

Working Capital

Back 1

Current assets - current liabilities

Front 2

Business valuation - Asset-based approach

Back 2

To decide which valuation approach to apply, we must first determine whether the entity is a going concern.

· If the entity is NOT a going concern, a liquidation approach must beused

o Net realizable value will depend upon whether or not there is a “forced” sale, or orderly liquidation

· If the entity IS a going concern, and the entity does not maintain active operations, the Adjusted Net asset approach may be appropriate

o Assets are valued at fair market value, net of disposition and tax costs

o Liabilities are paid

Front 3

Business valuation - Income-based approach

Back 3

If the entity IS a going concern, and the entity maintains activeoperations and “excess earnings”, an income-based valuation approach may beappropriate

· Capitalized cash flow approach- where the entity has consistent cashflows that are reflective of future earnings considering:

o Maintainable (normalized)EBITDA

o Sustaining capitalreinvestments

o Capitalizationrate/multiplier

o Income tax shield

o Redundancies

· Discounted cash flow approach- where the entity is in the start up stage

· Market based approach- where there is publiclyavailable comparative information available

Front 4

Capital Budgeting - Buy vs Lease

Back 4

Calculate NPV of each option:

NPV of buy optio

n:

-cost

-PV of tax shield

-maintenance costs

NPV of lease option:

-PV of after tax lease payments

Other factors:

-impact on covenants

-cash flows (leasing lessens current cash burden

-leasing easier to come by if can't obtain financing

-purchasing might provide more flexibility

-leasing might insulate from severe declines in value

-possible tax advantages (lease pmts fully deductible)

Case: Fitness Elitists Inc.

Front 5

Financing Options - debt vs equity

Back 5

Debt financing:

-Loan

-Lease

-Gov't assistance

Equity financing:

-Angel investors - generally passive

-Venture capitalists - looking for high returns (>30%), active participants in mgmt, clear exit strategy

-Private equity - typically later in lifecycle, lower risk

-Public mkts

Case: Fitness Elitists Inc.

Front 6

Incremental Cash Flows

Back 6

Incorporate tax-affected initial outlay, annual revenues and expenses, terminal value(cost)

• Sunk costs (not included)
• Opp'ty costs
• Cannibalization
• Working capital changes

Case: Molly Sue Brews, Kinfolk

Front 7

NPV vs. IRR

Back 7

NPV - positive NPV = invest

IRR - rate of return > opp'ty cost of capital = invest

Rate of return = discount rate at which NPV of project = 0

Thus both should give same answer

A project’s cash flows should include incremental elements only (i.e.additional sales, associated expenses, lost margin on cannibalization,investment & associated tax-shield, etc., but no financing elements, asdiscounting of the cash flows already addresses financing)

Case: Rent a Bike

Front 8

Discounted vs. Undiscounted cash flows

Back 8

• Incremental cash flows (excluding financing) should be discounted for purposes of making decision regarding accepting/rejecting project
• Incremental cash flows (including financing) should be analyzed year over year, undiscounted, to dtermine if certain cash position would be met by certain time

Case: Rent a Bike

Front 9

Payback period

Back 9

• In general, investments with lower payback preferred
• Calculate cumulative net cash flow for each period and then use formula:
• A+B/C
• A= last period with negative cumulative cash flow
• B= absolute value of cumulative cash flow at end of period A
• C= total cash flow during period after A

Front 10

NPV - residual value

Back 10

Don't include - only include cash inflows/outflows

Case: Week 3 Day 1 - PRI

Front 11

Rate Function in Securexam

Back 11

=RATE(nper,pmt,pv,[fv],[type],[guess])

0=end of period

1=begin

Front 12

IRR Function in Securexam

Back 12

=IRR(values,[guess])

• Values should be array
  
• 1 positive and 1 negative # required

Front 13

Declining Balance Function in Securexam

Back 13

=DB(cost,salvage,life, period,[month])

• Month is # months in 1st year

Front 14

Modified IRR in Securexam (if CFs reinvested)

Back 14

=MIRR(values,finance_rate,reinvest_rate

• values must be array
• must be 1 positive and 1 negative value
• Finance rate=interest paid to receive CFs
• Reinvest rate=interest received on CFs as reinvested

Front 15

Payment Function in Securexam

Back 15

=PMT(rate,nper,pv,[fv],[type])

Front 16

Weighted average cost of capital

Back 16

(Interest % on debt (after-tax)) + (Interest on preferred shares) + (Cost of equity per CAPM)

All weighted by % of debt/equity on B/S

*After tax interest % on debt =

I-rate x (1-tax rate)

Front 17

Capital Asset Pricing Model (for WACC)

Back 17

= Rf + B (Rm - Rf)

Rf= Risk free rate

B= Beta

Rm = Market's expected rate of return

Front 18

Inventory turnover

Back 18

COGS/Ave inventory

Days in inventory:

365/(COGS/Ave inventory)

Front 19

Buy vs Lease - qualitative factors

Back 19

• Upfront cash requirements
• Tax - lease pmts fully deductible for tax vs CCA
• Control over equipment
• FS presentation (debt covenants?)
• Purchase - obsolescence risk
• Provisions of lease agreement may be less restrictive than financing (e.g. no covenants)

Front 20

Valuation of Preferred shares/Common shares

Back 20

PV of annual PS Dividend/PS Holders' required rate of return

*same for Common shares

Front 21

Common synergies

Back 21

• Increased market share
• raising prices due to reduced competition
• ability to cross-sell products
• increased efficiency/lower costs
• economies of scale