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Alan Cring Productions in association with Emergent Light Studio presents the

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Illinois State Collegiate Compendium, academic lectures in business and economics.

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This is business finance, FIL 341 for Autumn Semester 2024.

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Today review for the final exam. The final exam will be held on, when will the final

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exam be held here? Next Wednesday I believe it is. Let me make sure of that.

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Yeah the exam will be held on Wednesday December the 11th from 1210 until 210

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p.m. and you will have the full time. A couple of just the minor markers for the

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exam. You are, I'm going to let you use your notes for the final exam. You can

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use all your notes. I would not rely on those to be able to take the exam

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because then you'll burn up all your time looking for things in your notes.

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But certainly you can get a summary put together and that will help at least to

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some extent with the final exam. Let me look at the number of questions. It's a

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hundred points but of course it counts for more than that as a percentage of

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your grade. And as it stands now, now this is actually only an estimate, there

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will be approximately 57 questions on it. Now some of those are multiple part

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questions like two drop-down menus or check mark all that apply, that kind of

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thing. And of course there's a matching in there as well and that matching is a

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total of 12 different possible matches and there are approximately eight

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distractors. In other words, there are terms that don't match to anything. The

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left you're matching something that's on the right but there are seven extras on

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the right that don't go to anything. So there are distractors, seven or eight

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of those. Those are all definitional words and terms, descriptions, you

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know, financial intermediation or something along that line or debenture or

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spot forward, those kinds of terms. Now in your files folder you have a ginormous

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list of terms but you also have a short, I'm putting up a shorter list of terms

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as well. That giant list is like 280 or 300 terms that I bring up during a

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course and I shrink that down to what's relevant for you to know that it's not

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just something way out there that I wouldn't ask a question on. But that's a

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good place for just making sure that you're solid on how, what kinds of terms

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that I could throw at you on the final exam. Now let me go kind of backwards. The

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last part of the final exam and I could put it up, actually I could put the final

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exam up here but he probably wouldn't want to see it. Okay, let me, the

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numerical questions on the exam. They are, the quiz, that last quiz was most of the

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numericals but there will be a few more of numericals than what were on the

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quiz. So in other words, I'm going to, let me give you a breakdown and the first

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ones are pretty much what you saw on quiz eight or a quiz before that maybe

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even. But you're going to have a question on present value of an annuity. Future

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value of an annuity.

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Bond price, bond yield.

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We'll have just basic bread and butter, meat and potatoes kind of questions like

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final loan payment. Nothing difficult. Now remember, get your Excel spreadsheets up

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and running before the quiz, before the, rather the final. Have them up there, use

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them and make sure that you download a fresh copy. I usually encourage that, just

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make sure that you didn't accidentally delete a formula cell or something like

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that so that you've got the latest and in a couple of cases I've done a quick

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little enhancement to help you out a little bit. So make sure that you've got

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the latest download of those spreadsheets. Now let me go on here.

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Stock price with dividends and a selling price.

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Stock price with a constant growth rate dividend.

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And stock price with a horizon value.

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Now those will all be in your stock valuation spreadsheet.

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Now net present value, internal rate of return, and a modified internal rate of

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return. Now you didn't see an MIRR before now but it's just plug, it's one of

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the worksheets in the net present value, the NPV and IRR. There is an NPV sheet

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and IRR and then there's one for MIRR, modified internal rate of return.

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And all you have to do is just the same as you've done for the other

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ones, just put in the numbers and in that one you have both a financing rate and a

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reinvestment rate. So you put those in and out comes your MIRR.

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Now also you'll have a breakeven and those are real, those are gimmies, the

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breakeven. I will not ask you for a payback period. Now there'll be a just a

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classic meet the objective capital asset pricing model. There's a CAPM

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spreadsheet, you work sheet, you can spreadsheet, you can download. It's not

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that hard to do it by hand but I've got a spreadsheet for you to do it anyway.

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Now also you will have a weighted average cost of capital problem. That's

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that's a difficult one in terms of time. Just make sure you fill in all of the

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white cells from the narrative and out will come your weighted average cost of

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capital.

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Now that's about it, that's it for numericals.

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You should be able to clean those up relatively quickly. It's just make sure

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that you check your numbers again, make sure you put in the right numbers before

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you commit to sending the exam up closing the exam. Just make sure that you

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double check your numbers. Okay now on to the rest of the exam. First thing first, I

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will go back to the early part of the semester and again what we're doing in a

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course like this as much as anything else is absolutely solidifying your

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understanding of fundamentals of corporate finance and finance in

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general so that we can be assured that there are no questions like that when

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you go on to the courses after me that you know what a corporation is, what it

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means to be what stockholders and bondholders, just those fundamentals.

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Who has a prior claim, who has a residual claim,

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and all of that kind of thing.

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What do I mean by a dividend? Does the company have to pay a dividend? Does it

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not have to? Basic knowledge of stocks, common stocks, you should know what it

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means to what common stock means, preferred stock. I mean there's also

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classified stock and tracking stock.

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Now on the other side, debt instruments. You know the difference between a

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mortgage bond and a debitor.

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Know the difference between a bill, a note, and a bond.

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Who is the issuer, who is the borrower, who's selling the bond, who is buying

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the bond as far as the lender and the borrower go. Make sure you know

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that, you understand that.

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Now I'm not going to hit you. There are a lot of different things about

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bonds like callable and puttable bonds. I won't hit you with that. Just I told

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about it, the book told about it, and that's about it. I won't check you on

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callable and puttable bonds. Make sure you do know about foreign bonds. What do

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I mean by a foreign bond?

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Now make sure you know about financial intermediation. Matching of surplus and

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deficit economic units based on level timing and risk.

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Okay, interest rates.

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Now what the structure of an interest rate is, what is the risk-free rate, what

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is the risk premium, default maturity and liquidity,

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what I mean by nominal versus real.

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Going on here to other matters. Risk and return, our biggest, most important

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concept in finance. And be sure you understand know that the technically

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correct definition is the greater the non-diversifiable or systematic risk, the

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greater the expected return. Now we say greater the greater the risk, the greater

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the return. That's sloppy. The technically it's the greater the

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systematic or non-diversifiable risk, the greater the expected return.

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I will expect you to show me that you know the difference between systematic

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and non-systematic risk

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and total risk. How do we measure total risk? What's the classic for that? That's

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of course standard deviation, sigma. But in our business a lot of the time what

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we are not we're not interested in sigma. We're interested in a tighter measure of

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the part of the risk, of a part of the risk. What's the metric that we use for

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systematic risk?

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How do you read it? If I see that this number is 1.5, what does that tell us

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about the investment?

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Related to that, leading to a little bit tighter question, why do we care in

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responsible professional finance? Why do we care so much about adding stocks to a

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portfolio? What's the purpose of this? Just so we have a lot of different

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letters to brag about or is there a purpose to it?

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Moving on with that, CAPM of course you'll do a CAPM calculation but I also

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anticipate that you'll understand that what capital asset pricing model is

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telling us. What do we mean by the risk of the market premium over risk-free?

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Now moving over to component cost of capital. We went through the formulas to

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find the cost of debt after taxes, the cost of equity which is broken

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down into three different equity parts. The cost of preferred stock, the cost of

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common stock as the book says the cost of retained earnings, and the cost of

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new common stock. There's a binding, I'm trying to

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telegraph a question to you but if you look at the formulas for the cost of

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equity, there's something that comes shining through in every one of those.

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You see a relationship between the price of the security and the cost of the

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component capital, a component. There's a relationship and it's showing through in

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all the different formulas. Make sure you know that. It's a question that if I

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telegraph as much as I can about the question because it could sort of lead

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you blindside you if you just hit it on the exam. There's also a relationship

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between the cost of equity and the growth rate of the dividends. Make sure

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you know those relationships. Just look at the formulas for all three of those

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pieces and you'll see that come shining through those relationships which is why

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a company cannot pretend that it doesn't care about its stock price. I told, I may

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have, I think I told you, I had companies that I consulted for and I would go to

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we'd have a meeting I said well the stock price is following and their

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immediate reaction was well so what? You know it'll go down you know and someday

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they'll see how great our company is. Why is that a wrong attitude? Why is that

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fundamentally wrong to think that the price isn't something that we should

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worry about? Especially on a long-term basis. I'm trying to think I'm not gonna

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go beat it beat that course anymore. Just make sure that you understand that those

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relationships between the cost of equity and the price of the equity and the cost

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of the equity and the growth rate of the dividends. Just as a quick mention

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also going back make sure that you understand corporate governance. Now I

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first passed a passed over corporate governance early in the semester

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talking about the executives, the C-suite, and the board of directors and all of

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that and I would certainly that's fair game to ask you something about board of

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directors versus the executive officers of the corporation and then I passed

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over it again late in the course corporate governance in a more formal

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fashion aiming to deepen the understanding of the corporate

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governance framework and also about ethics and how that is tied in to the

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governance and the management of the corporation. So in that regard agency at

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the agency question or two could show up. You could also see something about

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ethical frameworks that have been considered historically and we now

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settle on some version of the agency approach. Who's the agent, who's the

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principal, what are the costs agency costs that can be extracted that kind of

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thing.

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But moving on from there I better look at this before I just start

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flapping my jowls a bit.

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Capital structure, make sure you know what I mean by capital structure and what

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constitutes the optimal capital structure.

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Now as far as ratios go, now I've said this before and I'll say it again, I don't

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care whether or not you can actually calculate a ratio. Bring your ratio

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formula sheet with you because I can ask you questions about ratios and what

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relationships among ratios. Well what's the order from largest to

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smallest of liquidity ratios or what happens if ROA increases and the

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ROE, what will it do? What happens if a company becomes more

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leveraged? What does that do to ROE?

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Questions like that. In other words, don't show me that you can do the numbers, we

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can do those in Excel all day long. Show me that you know what the numbers are

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telling us and why they can do the things that they do and what you check

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for to see what's going on with a particular ratio. Okay, ROE is going

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through the roof. Okay, let's find out why that is. Let's look at the numerator

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and the denominator and see which one is driving it upward and is that all good

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news or is that maybe even bad news? Whatever.

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So the ratios part of it is more interpretive of what they tell us.

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Let me look here.

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Oh let me see. I'm just trying to make sure that I give you a good overview.

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Sources of capital. I won't hit too hard on this and I'd be more focused on you

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knowing the kinds of financial institutions that you

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could actually end up being, where you might actually end up being employed.

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And the big ones are of course the commercial banks and the investment

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banks and then probably in that you might run into an opportunity in a hedge

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fund or in a private equity fund. Just have a have sort of an understanding of

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what the differences are among different types of financial

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institutions. What can one do that another can't do and all of that.

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Although that's becoming so blurred anymore by financial institutions that do

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everything. They do IB, they do commercial banking, they do

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in other words regular retail banking. They even have a side that does private

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equity or offers hedge funds. So it's all over the place mutual funds. A lot of

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banks are now heavily into mutual funds these days.

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Just a few other things I'm just kind of cleaning up now and then you can ask me

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some questions. Make sure you know about bond price dynamics. What happens to a

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bond price as the spread between yield and coupon gets smaller?

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What happens to the price of a bond as it approaches maturity?

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Questions like that are always fair game. What would happen to the, I mean I might

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even throw one at you, what happens to the price of a bond? What happens to the

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yield on a bond if a corporation's bonds get downgraded in their credit rating?

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In a related, somewhat related vein I will expect you to have watched what I

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was doing when I did the let's look at the numbers. I could give you, okay well

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which of these numbers is close to the current price of gold or which of these

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numbers is closest to the current yield on bonds?

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Something like that just to ensure that you did watch and that it did have

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meaning to you the current market world out there which is where you'll be very

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shortly if you're not already starting to dive into it now. What did I say, what

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did we look at, what were the numbers and what did I comment on those numbers?

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And it's about what's been going on recently, not historically so much.

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Oh, I'll do a, there will be a question where I'll say which is the formula for

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something and I'll give you a list of like six or eight and you have to tell

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me which one of those it is. It could be something like a stock cost of capital,

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it could also be a free cash flow, something like that.

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And you just have to identify which formula is the one that you would use

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and they'll look quite similar so watch what you're, watch the

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additions and subtractions and all that kind of good stuff.

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Might not, I'm not above like I did on the midterm something about okay, your

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current assets went up faster than your current liabilities, what did that do to

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your free cash flow? Or you got brought in additional inventory as a buffer

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against supply chain disruptions, what's that going to do to your free cash flow?

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Or you have decided that you're going to slow down paying your suppliers, what

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would that do to your free cash flow? It's kind of common sense in a lot of

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cases.

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Okay.

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It's your turn, ask me questions.

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You got any questions for me? Now I'll be sending out an announcement about some

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office hours for Monday and Tuesday of next week if you want to come into my

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office where it's warm because I've got my space heater running at full blast

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and ask me any last minute questions you have. But again I do encourage you to

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download the freshest versions of the spreadsheets that I've given in the

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course, that you've used in the course. That's all you have for me, that's all I

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have for you now and forever. I thank you for being my students.