BriefContents
PART1 THECOMPANYANDITS ENVIRONMENT
1
CHAPTER1 AnOverviewofFinancial ManagementandtheFinancial Environment3
WebExtensions 1A: AnOverviewofDerivatives
CHAPTER2 FinancialStatements,CashFlow, andTaxes57
WebExtension 2A: TheFederalIncomeTaxSystemfor Individuals
CHAPTER3 AnalysisofFinancial Statements101
PART2
FIXEDINCOMESECURITIES 137
CHAPTER4 TimeValueofMoney139
WebExtensions 4A: TheTabularApproach
4B: DerivationofAnnuityFormulas 4C: ContinuousCompounding
CHAPTER5 Bonds,BondValuation,and InterestRates193
WebExtensions 5A: ACloserLookatZeroCoupon andOtherOIDBonds
WebExtensions 5B: ACloserLookatTIPS:Treasury Inflation-ProtectedSecurities
WebExtensions 5C: ACloserLookatBondRisk: Duration
WebExtensions 5D: ThePureExpectationsTheoryand EstimationofForwardRates
PART3 STOCKSANDOPTIONS 239
CHAPTER6 RiskandReturn241
WebExtensions 6A: ContinuousProbability Distributions
WebExtensions 6B: EstimatingBetawithaFinancial Calculator
CHAPTER7 CorporateValuationandStock Valuation293
WebExtension 7A: DerivationofValuation Equations
CHAPTER8 FinancialOptionsandApplications inCorporateFinance343
PART4 PROJECTSANDTHEIR VALUATION 373
CHAPTER9 TheCostofCapital375
WebExtension 9A: TheRequiredReturnAssuming NonconstantDividendsandStock Repurchases
CHAPTER10 TheBasicsofCapitalBudgeting: EvaluatingCashFlows413
WebExtension 10A: TheAccountingRateofReturn (ARR)
CHAPTER11 CashFlowEstimationandRisk Analysis453
WebExtension 11A: CertaintyEquivalentsandRiskAdjustedDiscountRates
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PART5 CORPORATEVALUATIONAND GOVERNANCE 501
CHAPTER12 CorporateValuationandFinancial Planning503
CHAPTER13 CorporateGovernance541
PART6 CASHDISTRIBUTIONSAND CAPITALSTRUCTURE 563
CHAPTER14 DistributionstoShareholders: DividendsandRepurchases565
CHAPTER15 CapitalStructureDecisions607
WebExtension 15A: DegreeofLeverage
WebExtension 15B: CapitalStructureTheory: ArbitrageProofsoftheModiglianiMillerTheorems
PART7 MANAGINGGLOBAL OPERATIONS 653
CHAPTER16 SupplyChainsandWorking CapitalManagement655
WebExtension 16A: SecuredShort-TermFinancing
CHAPTER17 MultinationalFinancial Management705
PART8 TACTICALFINANCING DECISIONS 749
CHAPTER18 PublicandPrivateFinancing:Initial Offerings,SeasonedOfferings,and InvestmentBanks751
WebExtensions 18A: RightsOfferings
CHAPTER19 LeaseFinancing791
WebExtensions 19A: LeasingFeedback
WebExtensions 19B: PercentageCostAnalysis
WebExtensions 19C: LeveragedLeases
CHAPTER20 HybridFinancing:Preferred Stock,Warrants,and Convertibles819
WebExtensions 20A: CallingConvertibleIssues
PART9 STRATEGICFINANCEIN
ADYNAMICENVIRONMENT 847
CHAPTER21 DynamicCapitalStructuresand CorporateValuation849
WebExtensions 21A: ProjectingConsistentDebtand InterestExpenses
CHAPTER22 MergersandCorporate Control873
CHAPTER23 EnterpriseRisk Management911
CHAPTER24 Bankruptcy,Reorganization,and Liquidation947
WebExtensions 24A: MultipleDiscriminant Analysis
PART10 SPECIALTOPICS 979
CHAPTER25 PortfolioTheoryandAssetPricing Models981
CHAPTER26 RealOptions1015
WebExtensions 26A: TheAbandonmentReal Option
WebExtensions 26B: Risk-NeutralValuation
APPENDIXES
APPENDIXA SolutionstoSelf-TestProblems 1041
APPENDIXB AnswerstoEnd-of-Chapter Problems 1075
APPENDIXC SelectedEquations 1085
APPENDIXD ValuesoftheAreasunderthe StandardNormalDistribution Function 1099
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GLOSSARYANDINDEXS
Glossary 1101
NameIndex 1149
SubjectIndex 1153
WEBCHAPTERS:
CHAPTER27 ProvidingandObtainingCredit
CHAPTER28 AdvancedIssuesinCash ManagementandInventory Control
CHAPTER29 PensionPlanManagement
CHAPTER30 FinancialManagementinNotfor-ProfitBusinesses
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Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
Preface
PART1 THECOMPANYANDITS
ENVIRONMENT 1
CHAPTER1
AnOverviewofFinancial ManagementandtheFinancial Environment 3
TheFive-MinuteMBA 4
Financefrom40,000FeetAbove 4
TheCorporateLifeCycle 5
GoverningaCorporation 10
Box:BeNicewithaB-Corp 12
Box:TaxesandWhistleblowing 14
AnOverviewofFinancialMarkets 14
ClaimsonFutureCashFlows:TypesofFinancial Securities 16
ClaimsonFutureCashFlows:TheRequiredRate ofReturn(TheCostofMoney) 20
TheFunctionsofFinancialInstitutions 24
FinancialMarkets 29
OverviewoftheU.S.StockMarkets 33
TradingintheModernStockMarkets 34
Box:MeasuringtheMarket 42
FinanceandtheGreatRecessionof2007 42
Box:AnatomyofaToxicAsset 50
TheBigPicture 52
e-Resources 53
Summary 53
WebExtensions
1A:AnOverviewofDerivatives
CHAPTER2
FinancialStatements,CashFlow, andTaxes 57
Box:IntrinsicValue,FreeCashFlow,and FinancialStatements 58
FinancialStatementsandReports 58
TheBalanceSheet 59
Box:TheGreatRecessionof2007:Let sPlay Hide-and-Seek! 62
TheIncomeStatement 62
StatementofStockholders’ Equity 65
Box:FinancialAnalysisontheWeb 66
StatementofCashFlows 66
Box:FillingintheGAAP 69
NetCashFlow 70
FreeCashFlow:TheCashFlowAvailablefor DistributiontoInvestors 70
Box:Sarbanes-OxleyandFinancialFraud 76
PerformanceEvaluation 78
TheFederalIncomeTaxSystem 84
Box:WhenItComestoTaxes,HistoryRepeats andRepealsItself! 86
Summary 89
WebExtension
2A:TheFederalIncomeTaxSystemfor Individuals
CHAPTER3
AnalysisofFinancialStatements 101
Box:IntrinsicValueandAnalysisofFinancial Statements 102
FinancialAnalysis 102
LiquidityRatios 104
Contents
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Contents
AssetManagementRatios 106
DebtManagementRatios 109
Box:TheGreatRecessionof2007:ThePriceIs Right!(OrWrong!) 110
ProfitabilityRatios 114
Box:TheWorldMightBeFlat,butGlobal AccountingIsBumpy!TheCaseofIFRSversus FASB 115
MarketValueRatios 116
TrendAnalysis,CommonSizeAnalysis,and PercentageChangeAnalysis 120
TyingtheRatiosTogether:TheDuPont Equation 123
ComparativeRatiosandBenchmarking 124
UsesandLimitationsofRatioAnalysis 125
Box:RatioAnalysisontheWeb 126
LookingBeyondtheNumbers 126 Summary 127
PART2 FIXEDINCOMESECURITIES 137
CHAPTER4
TimeValueofMoney 139
Box:CorporateValuationandtheTimeValueof Money 140
TimeLines 140
FutureValues 141
Box:HintsonUsingFinancialCalculators 145 PresentValues 149
Box:It saMatterofTrust 150
FindingtheInterestRate,I 153
FindingtheNumberofYears,N 154
Perpetuities 154
Annuities 155
FutureValueofanOrdinaryAnnuity 156
Box:ThePowerofCompoundInterest 159
FutureValueofanAnnuityDue 159
PresentValueofOrdinaryAnnuitiesandAnnuities Due 160
FindingAnnuityPayments,Periods,andInterest Rates 162
Box:VariableAnnuities:GoodorBad? 163
Box:UsingtheInternetforPersonalFinancial Planning 164
Uneven,orIrregular,CashFlows 165
FutureValueofanUnevenCashFlowStream 168
SolvingforIwithIrregularCashFlows 169
SemiannualandOtherCompoundingPeriods 170
Box:TruthinLending:WhatLoansReallyCost 173 FractionalTimePeriods 174
AmortizedLoans 175
Box:WhatYouKnowIsWhatYouGet:Notin PaydayLending 176
GrowingAnnuities 178
Box:TheGreatRecessionof2007:AnAccident WaitingtoHappen:OptionResetAdjustableRate Mortgages 179
Summary 181
WebExtensions
4A:TheTabularApproach
4B:DerivationofAnnuityFormulas
4C:ContinuousCompounding
CHAPTER5
Bonds,BondValuation,andInterest Rates 193
Box:IntrinsicValueandtheCostofDebt 194 WhoIssuesBonds? 194
Box:BettingWithorAgainsttheU.S. Government:TheCaseofTreasuryBondCredit DefaultSwaps 196
KeyCharacteristicsofBonds 196
BondValuation 200
ChangesinBondValuesOverTime 205
Box:ChocolateBonds 208
BondswithSemiannualCoupons 208
BondYields 209
ThePre-TaxCostofDebt:DeterminantsofMarket InterestRates 212
x
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TheRisk-FreeInterestRate:Nominal(rRF)and Real(r *) 213
TheInflationPremium(IP) 214
TheMaturityRiskPremium(MRP) 216
TheDefaultRiskPremium(DRP) 219
Box:InsuringwithCreditDefaultSwaps:Letthe BuyerBeware! 221
Box:TheGreatRecessionof2007:U.S.Treasury BondsDowngraded! 223
Box:TheFew,theProud,the AAA-Rated Companies! 225
TheLiquidityPremium(LP) 225
Box:TheGreatRecessionof2007:Fearand Rationality 226
TheTermStructureofInterestRates 226
FinancingwithJunkBonds 228
BankruptcyandReorganization 228
Summary 229
WebExtensions
5A:ACloserLookatZeroCouponandOtherOID Bonds
5B:ACloserLookatTIPS:TreasuryInflationProtectedSecurities
5C:ACloserLookatBondRisk:Duration
5D:ThePureExpectationsTheoryand EstimationofForwardRates
PART3 STOCKSANDOPTIONS 239
CHAPTER6
RiskandReturn 241
Box:IntrinsicValue,Risk,andReturn 242
InvestmentReturnsandRisk 242
MeasuringRiskforDiscreteDistributions 243
RiskinaContinuousDistribution 247
Box:WhatDoesRiskReallyMean? 249
UsingHistoricalDatatoEstimateRisk 249
Box:TheHistoricTrade-OffbetweenRiskand Return 252
RiskinaPortfolioContext 252
TheRelevantRiskofaStock:TheCapitalAsset PricingModel(CAPM) 256
Box:TheBenefitsofDiversifyingOverseas 263
TheRelationshipbetweenRiskandReturninthe CapitalAssetPricingModel 263
Box:AnotherKindofRisk:TheBernieMadoff Story 271
TheEfficientMarketsHypothesis 272
TheFama-FrenchThree-FactorModel 276
BehavioralFinance 280
TheCAPMandMarketEfficiency:Implicationsfor CorporateManagersandInvestors 282
Summary 283
WebExtensions
6A:ContinuousProbabilityDistributions
6B:EstimatingBetawithaFinancialCalculator
CHAPTER7
CorporateValuationandStock Valuation 293
Box:CorporateValuationandStockPrices 294
LegalRightsandPrivilegesofCommon Stockholders 294
TypesofCommonStock 295
StockMarketReporting 296
ValuingCommonStocks IntroducingtheFree CashFlow(FCF)ValuationModel 297
TheConstantGrowthModel:ValuationWhen ExpectedFreeCashFlowGrowsataConstant Rate 300
TheMultistageModel:ValuationwhenExpected Short-TermFreeCashFlowGrowsata NonconstantRate 305
ApplicationoftheFCFValuationModelto MicroDrive 309
DoStockValuesReflectLong-TermorShort-Term CashFlows? 315
Value-BasedManagement:UsingtheFreeCashFlow ValuationModeltoIdentifyValueDrivers 316
WhyAreStockPricesSoVolatile? 319
ValuingCommonStockswiththeDividend GrowthModel 320
TheMarketMultipleMethod 328
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ComparingtheFCFValuationModel,the DividendGrowthModel,andtheMarket MultipleMethod 329
PreferredStock 330
Summary 331
WebExtensions
7A:DerivationofValuationEquations
CHAPTER8
FinancialOptionsandApplicationsin CorporateFinance 343
Box:TheIntrinsicValueofStockOptions 344 OverviewofFinancialOptions 344
TheSingle-PeriodBinomialOptionPricing Approach 347
Box:FinancialReportingforEmployeeStock Options 348
TheSingle-PeriodBinomialOptionPricing Formula 353
TheMulti-PeriodBinomialOptionPricing Model 355
TheBlack-ScholesOptionPricingModel (OPM) 357
Box:TaxesandStockOptions 362
TheValuationofPutOptions 363
ApplicationsofOptionPricinginCorporate Finance 365
Summary 367
PART4 PROJECTSANDTHEIR VALUATION 373
CHAPTER9
TheCostofCapital 375
Box:CorporateValuationandtheCostof Capital 376
TheWeightedAverageCostofCapital 376
ChoosingWeightsfortheWeightedAverageCost ofCapital 378
After-TaxCostofDebt:rd 1 T and rstd 1 T 379
Box:HowEffectiveIstheEffectiveCorporateTax Rate? 382
CostofPreferredStock,rps 384
CostofCommonStock:TheMarketRisk Premium,RPM 384
UsingtheCAPMtoEstimatetheCostofCommon Stock,rs 388
UsingtheDividendGrowthApproachtoEstimate theCostofCommonStock 390
TheWeightedAverageCostofCapital (WACC) 393
Box:GlobalVariationsintheCostofCapital 395
AdjustingtheCostofEquityforFlotation Costs 395
PrivatelyOwnedFirmsandSmallBusinesses 397
TheDivisionalCostofCapital 398
EstimatingtheCostofCapitalforIndividual Projects 401
ManagerialIssuesandtheCostofCapital 402 Summary 404
WebExtensions
9A:TheRequiredReturnAssumingNonconstant DividendsandStockRepurchases
CHAPTER10
TheBasicsofCapitalBudgeting: EvaluatingCashFlows 413
Box:CorporateValuationandCapital Budgeting 414
AnOverviewofCapitalBudgeting 414
TheFirstStepinProjectAnalysis 416
NetPresentValue(NPV) 417
InternalRateofReturn(IRR) 419
ModifiedInternalRateofReturn(MIRR) 426
ProfitabilityIndex(PI) 429
PaybackPeriod 430
HowtoUsetheDifferentCapitalBudgeting Methods 432
OtherIssuesinCapitalBudgeting 435 Summary 441
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WebExtensions
10A:TheAccountingRateofReturn(ARR)
CHAPTER11
CashFlowEstimationandRisk Analysis 453
Box:ProjectValuation,CashFlows,andRisk Analysis 454
IdentifyingRelevantCashFlows 454
AnalysisofanExpansionProject 459
Box:MistakesinCashFlowEstimationCanKill Innovation 466
RiskAnalysisinCapitalBudgeting 467
MeasuringStand-AloneRisk 467
SensitivityAnalysis 468
ScenarioAnalysis 471
MonteCarloSimulation 474
ProjectRiskConclusions 477
ReplacementAnalysis 478
RealOptions 480
PhasedDecisionsandDecisionTrees 482
Summary 485
WebExtensions
11A:CertaintyEquivalentsandRisk-Adjusted DiscountRates
PART5 CORPORATEVALUATIONAND
GOVERNANCE 501
CHAPTER12
CorporateValuationandFinancial Planning 503
Box:CorporateValuationandFinancial Planning 504
OverviewofFinancialPlanning 504
FinancialPlanningatMicroDrive,Inc. 506
ForecastingOperations 508
EvaluatingMicroDrive’sStrategicInitiatives 512
ProjectingMicroDrive’sFinancialStatements 515
AnalysisandSelectionofaStrategicPlan 519
TheCFO’sModel 521
AdditionalFundsNeeded(AFN)Equation Method 523
ForecastingWhentheRatiosChange 526 Summary 530
CHAPTER13
CorporateGovernance 541
Box:CorporateGovernanceandCorporate Valuation 542
AgencyConflicts 542
CorporateGovernance 545
Box:WouldtheU.S.GovernmentBeanEffective BoardDirector? 550
Box:TheDodd-FrankActand SayonPay 552
Box:TheSarbanes-OxleyActof2002and CorporateGovernance 553
Box:InternationalCorporateGovernance 555
EmployeeStockOwnershipPlans(ESOPs) 557 Summary 560
PART6 CASHDISTRIBUTIONSAND CAPITALSTRUCTURE 563
CHAPTER14
DistributionstoShareholders:Dividends andRepurchases 565
Box:UsesofFreeCashFlow:Distributionsto Shareholders 566
AnOverviewofCashDistributions 566
ProceduresforCashDistributions 568
CashDistributionsandFirmValue 571
ClienteleEffect 575
SignalingHypothesis 576
ImplicationsforDividendStability 577
Box:TheGreatRecessionof2007:WillDividends EverBetheSame? 578
SettingtheTargetDistributionLevel:TheResidual DistributionModel 578
TheResidualDistributionModelinPractice 580
ATaleofTwoCashDistributions:Dividends versusStockRepurchases 581
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TheProsandConsofDividendsand Repurchases 590
Box:DividendYieldsaroundtheWorld 592
OtherFactorsInfluencingDistributions 592
SummarizingtheDistributionPolicyDecision 594
StockSplitsandStockDividends 595
Box:TheGreatRecessionof2007:TalkAbouta SplitPersonality! 596
DividendReinvestmentPlans 598
Summary 599
CHAPTER15
CapitalStructureDecisions 607
Box:CorporateValuationandCapital Structure 608
AnOverviewofCapitalStructure 608
BusinessRiskandFinancialRisk 610
CapitalStructureTheory:TheModiglianiand MillerModels 614
Box:YogiBerraontheMMProposition 616
CapitalStructureTheory:BeyondtheModigliani andMillerModels 618
CapitalStructureEvidenceandImplications 623
EstimatingtheOptimalCapitalStructure 628
AnatomyofaRecapitalization 634
Box:TheGreatRecessionof2007: Deleveraging 639
RiskyDebtandEquityasanOption 639
ManagingtheMaturityStructureofDebt 642
Summary 645
WebExtensions
15A:DegreeofLeverage
15B:CapitalStructureTheory:ArbitrageProofs oftheModigliani-MillerTheorems
PART7 MANAGINGGLOBAL OPERATIONS
653
CHAPTER16
SupplyChainsandWorkingCapital Management 655
Box:CorporateValuationandWorkingCapital Management 656
OverviewofSupplyChainManagement 656
UsingandFinancingOperatingCurrentAssets 658
TheCashConversionCycle 662
Box:SomeFirmsOperatewithNegativeWorking Capital! 667
InventoryManagement 668
ReceivablesManagement 669
Box:SupplyChainFinance 671
AccrualsandAccountsPayable(TradeCredit) 673
Box:AWagoftheFingerorTipoftheHat? The ColbertReport andSmallBusinessPayment Terms 674
TheCashBudget 677
CashManagementandtheTargetCash Balance 681
Box:UseItorLose Partof It:CashCanBe Costly! 682
CashManagementTechniques 682
ManagingShort-TermInvestments 685
Box:YourCheckIsn tintheMail 686
Short-TermFinancing 687
Short-TermBankLoans 688
CommercialPaper 692
UseofSecurityinShort-TermFinancing 692 Summary 693
WebExtensions
16A:SecuredShort-TermFinancing
CHAPTER17
MultinationalFinancialManagement 705
Box:CorporateValuationinaGlobalContext 706
Multinational,orGlobal,Corporations 706
MultinationalversusDomesticFinancial Management 707
ExchangeRates 709
ExchangeRatesandInternationalTrade 714
TheInternationalMonetarySystemandExchange RatePolicies 715
TradinginForeignExchange 720
InterestRateParity 722
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PurchasingPowerParity 724
Box:HungryforaBigMac?GotoUkraine! 725
Inflation,InterestRates,andExchangeRates 726
InternationalMoneyandCapitalMarkets 726
Box:GreasingtheWheelsofInternational Business 727
Box:StockMarketIndicesaroundtheWorld 731
MultinationalCapitalBudgeting 732
Box:ConsumerFinanceinChina 733
Box:DoubleIrishwithaDutchTwist 735
InternationalCapitalStructures 737
MultinationalWorkingCapitalManagement 738
Summary 741
PART8 TACTICALFINANCING DECISIONS
749
CHAPTER18
PublicandPrivateFinancing:Initial Offerings,SeasonedOfferings,and InvestmentBanks 751
TheFinancialLifeCycleofaStart-Up Company 752
TheDecisiontoGoPublic 753
TheProcessofGoingPublic:AnInitialPublic Offering 755
EquityCarve-Outs:ASpecialTypeofIPO 765
OtherWaystoRaiseFundsintheCapital Markets 766
Box:WhereThere sSmoke,There sFire 770
InvestmentBankingActivities 771
Box:TheGreatRecessionof2007:WhatWasthe RoleofInvestmentBanks? 773
TheDecisiontoGoPrivate 773
RefundingOperations 775
Box:TVARatchetsDownItsInterest Expenses 779
ManagingtheRiskStructureofDebtwithProject Financing 781
Summary 782
WebExtensions
18A:RightsOfferings
CHAPTER19
LeaseFinancing 791
TypesofLeases 792
TaxEffects 795
FinancialStatementEffects 796
Box:Off-BalanceSheetFinancing:IsItGoingto Disappear? 798
EvaluationbytheLessee 799
EvaluationbytheLessor 804
OtherIssuesinLeaseAnalysis 806
Box:WhatYouDon tKnowCanHurt You! 807
Box:LeaseSecuritization 809
OtherReasonsforLeasing 810
Summary 811
WebExtensions
19A:LeasingFeedback
19B:PercentageCostAnalysis
19C:LeveragedLeases
CHAPTER20
HybridFinancing:PreferredStock, Warrants,andConvertibles 819
PreferredStock 820
Box:TheRomanceHadNoChemistry,butItHad aLotofPreferredStock! 822
Box:HybridsAren tOnlyfor Corporations 823
Warrants 824
ConvertibleSecurities 830
AFinalComparisonofWarrantsand Convertibles 837
ReportingEarningsWhenWarrantsor ConvertiblesAreOutstanding 838 Summary 839
WebExtensions
20A:CallingConvertibleIssues
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PART9 STRATEGICFINANCEIN
ADYNAMICENVIRONMENT 847
CHAPTER21
DynamicCapitalStructuresand CorporateValuation 849
Box:CorporateValuationandCapitalStructure Decisions 850
TheAdjustedPresentValue(APV)Approach 850
TheModiglianiandMillerModels 853
TheCompressedAdjustedPresentValue(CAPV) Model 855
MultistageValuationWhentheCapitalStructureIs Stable 856
IllustrationoftheThreeValuationApproachesfor aConstantCapitalStructure 860
AnalysisofaDynamicCapitalStructure 866 Summary 867
WebExtensions
21A:ProjectingConsistentDebtandInterest Expenses
CHAPTER22
MergersandCorporateControl 873
RationaleforMergers 874
TypesofMergers 877
LevelofMergerActivity 877
HostileversusFriendlyTakeovers 878
MergerRegulation 879
OverviewofMergerAnalysis 881
EstimatingaTarget’sValue 882
SettingtheBidPrice 886
AnalysisWhentheCapitalStructure ChangesduringtheExplicitForecast Period 888
TaxesandtheStructureoftheTakeoverBid 889
Box:TempestinaTeapot? 891
FinancialReportingforMergers 892
Analysisfora “TrueConsolidation” 895
TheRoleofInvestmentBankers 896
WhoWins:TheEmpiricalEvidence 898
Box:MergerMistakes 898
CorporateAlliances 899
Divestitures 900
HoldingCompanies 901 Summary 902
CHAPTER23
EnterpriseRiskManagement 911
Box:CorporateValuationandRisk Management 912
ReasonstoManageRisk 912
AnOverviewofEnterpriseRisk Management 915
AFrameworkforEnterpriseRisk Management 917
CategoriesofRiskEvents 920
ForeignExchange(FX)Risk 922
CommodityPriceRisk 923
InterestRateRisk 927
Box:TheGameofTruthorLIBOR 933
ProjectSelectionRisks 935
ManagingCreditRisks 938
RiskandHumanSafety 940 Summary 941
CHAPTER24
Bankruptcy,Reorganization,and Liquidation 947
FinancialDistressandItsConsequences 948
IssuesFacingaFirminFinancialDistress 949
SettlementswithoutGoingthroughFormal Bankruptcy 950
FederalBankruptcyLaw 952
ReorganizationinBankruptcy(Chapter11of BankruptcyCode) 953
LiquidationinBankruptcy 962
Box:ANationofDefaulters? 966
AnatomyofaBankruptcy:TransformingtheGM Corporation intotheGM Company 967
xvi Contents Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
OtherMotivationsforBankruptcy 968
SomeCriticismsofBankruptcyLaws 969
Summary 970
WebExtensions
24A:MultipleDiscriminantAnalysis
PART10 SPECIALTOPICS 979
CHAPTER25
PortfolioTheoryandAssetPricing Models 981
Box:IntrinsicValue,Risk,andReturn 982
EfficientPortfolios 982
ChoosingtheOptimalPortfolio 987
TheBasicAssumptionsoftheCapitalAssetPricing Model 990
TheCapitalMarketLineandtheSecurityMarket Line 991
CalculatingBetaCoefficients 995
Box:SkillorLuck? 996
EmpiricalTestsoftheCAPM 1004
ArbitragePricingTheory 1006 Summary 1009
CHAPTER26
RealOptions 1015
ValuingRealOptions 1016
TheInvestmentTimingOption:An Illustration 1017
TheGrowthOption:AnIllustration 1027 ConcludingThoughtsonRealOptions 1033 Summary 1034
WebExtensions
26A:TheAbandonmentRealOption
26B:Risk-NeutralValuation
APPENDIXES
Appendixa SolutionstoSelf-TestProblems 1041
Appendixb AnswerstoEnd-of-Chapter Problems 1075
Appendixc SelectedEquations 1085
Appendixd ValuesoftheAreasundertheStandard NormalDistributionFunction 1099
GLOSSARYANDINDEXES
Glossary 1101
NameIndex 1149
SubjectIndex 1153
WEBCHAPTERS:
Chapter27 ProvidingandObtainingCredit
Chapter28 AdvancedIssuesinCash ManagementandInventoryControl
Chapter29 PensionPlanManagement
Chapter30 FinancialManagementinNot-forProfitBusinesses
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Preface
Whenwewrotethefirsteditionof FinancialManagement:TheoryandPractice,we hadfourgoals:(1)tocreateatextthatwouldhelpstudentsmakebetterfinancial decisions;(2)toprovideabookthatcouldbeusedintheintroductoryMBAcourse, butonethatwascompleteenoughforuseasareferencetextinfollow-oncasecourses andaftergraduation;(3)tomotivatestudentsbydemonstratingthatfinanceisboth interestingandrelevant;and(4)tomakethebookclearenoughsothatstudentscould gothroughthematerialwithoutwastingeithertheirtimeortheirprofessors’ time tryingtofigureoutwhatweweresaying.
Theeventsprecipitatingtherecessionof2007,thedramaticchangesinfinancial technologyatstockexchangesacrosstheworld,andthesovereigndebtcrisisin Greecemakeitmoreimportantthaneverforstudentsandmanagerstounderstand therolethatfinanceplaysinaglobaleconomy,intheirowncompanies,andintheir ownlives.Soinadditiontothefourgoalslistedabove,thiseditionhasafifthgoal:to preparestudentsforachangedworld.
IntrinsicValuationasaUnifyingTheme
Ouremphasisthroughoutthebookisontheactionsthatamanagercanandshould taketoincreasetheintrinsicvalueofthefirm.Structuringthebookaroundintrinsic valuationenhancescontinuityandhelpsstudentsseehowvarioustopicsarerelated tooneanother.
Asthetitleindicates,thisbookcombinestheoryandpracticalapplications.An understandingoffinancetheoryisessentialforanyonedevelopingand/orimplementingeffectivefinancialstrategies.Buttheoryaloneisn’tsufficient,soweprovide numerousexamplesinthebookandtheaccompanying Excel spreadsheetstoillustratehowtheoryisappliedinpractice.Indeed,webelievethattheabilitytoanalyze financialproblemsusing Excel alsoisessentialforastudent’ssuccessfuljobsearch andsubsequentcareer.Therefore,manyexhibitsinthebookcomedirectlyfromthe accompanying Excel spreadsheets.Manyofthespreadsheetsalsoprovidebrief “tutorials” bywayofdetailedcommentson Excel featuresthatwehavefoundtobe especiallyuseful,suchasGoalSeek,Tables,andmanyfinancialfunctions.
Thebookbeginswithfundamentalconcepts,includingbackgroundontheeconomic andfinancialenvironment,financialstatements(withanemphasisoncashflows),thetime valueofmoney,bondvaluation,riskanalysis, andstockvaluation.Withthisbackground, wegoontodiscusshowspecifictechniquesanddecisionrulescanbeusedtohelp maximizethevalueofthefirm.Thisorganizationprovidesfourimportantadvantages:
1.Managersshouldtrytomaximizetheintrinsicvalueofafirm,whichisdetermined bycashflowsasrevealedinfinancialstatements.Ourearlycoverageoffinancial
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statementshelpsstudentsseehowparticularfinancialdecisionsaffectthe variouspartsofthefirmandtheresultingcashflow.Also,financialstatement analysisprovidesanexcellentvehicleforillustratingtheusefulnessof spreadsheets.
2.Coveringtimevalueofmoneyearlyhelpsstudentsseehowandwhyexpectedfuture cashflowsdeterminethevalueofthefirm.Also,ittakestimeforstudentstodigest TVMconceptsandtolearnhowtodotherequiredcalculations,soitisgoodto coverTVMconceptsearlyandoften.
3.Moststudents eventhosewhodonotplantomajorinfinance areinterestedin investments.Theabilitytolearnisafunctionofindividualinterestandmotivation, so FinancialManagement’searlycoverageofsecuritiesandsecuritymarketsis pedagogicallysound.
4.Oncebasicconceptshavebeenestablished,itiseasierforstudentstounderstand bothhowandwhycorporationsmakespecificdecisionsintheareasof capitalbudgeting,raisingcapital,workingcapitalmanagement,mergers,and thelike.
Improvementsinthe15thEdition
Asineveryrevision,weupdatedandclarifiedmaterialsthroughoutthetext,reviewingthe entirebookforcompleteness,easeofexposition,andcurrency.Wemadehundredsofsmall changestokeepthetextuptodate,withparticularemphasisonupdatingthereal-world examplesandincludingthelatestchangesinthefinancialenvironmentandfinancialtheory. Inaddition,wemadeanumberoflargerchanges.Someaffectallchapters,someinvolve reorganizingsectionsamongchapters,andsomemodifymaterialcoveredwithinspecific chapters.
ChangesThatAffectAllChapters
Followingaresomeofthechangesthataffectallchapters.
THEGREATRECESSIONOF2007
Ineverychapterweusereal-worldexamplestoshowhowthechapter’stopicsare relatedtosomeaspectoftheglobaleconomiccrisis.Inaddition,manychaptershave “GreatRecessionof2007” boxesthatfocusonimportantissuesrelatedtotherecent recession.
CONTINUEDINTEGRATIONWITH EXCEL
Wehavecontinuedtointegratethetextbookandtheaccompanying Excel ToolKit spreadsheetmodelsforeachchapter.Manyfiguresinthetextbookshowtheappropriateareafromthechapter’s Excel ToolKit model.Thismakestheanalysismore transparenttothestudentsandbetterenablesthemtofollowtheanalysisinthe Excel model.
NotableChangeswithinSelectedChapters
Wemadetoomanysmallimprovementswithineachchaptertomentionthemall,but someofthemorenotableonesarediscussedbelow.
xx Preface Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
CHAPTER1:ANOVERVIEWOFFINANCIALMANAGEMENTANDTHE FINANCIALENVIRONMENT
Weaddedanew,shortsection, “1-2Financefrom40,000FeetAbove,” togivestudentsan overviewofthemainissuesinfinance.WeaddedmorecoverageofethicsinSection1-4c, includinganewboxonbenefitcorporations, “BeNicewithaB-Corp,” andaboxon whistleblowing, “TaxesandWhistleblowing.” Wecompletelyrewrotethesectionson tradingprocedures(Section1-9c)andthestockmarket(Section1-10)toreflecttheimpact ofRegNMSandautomatedtrading,includingasection(1-10d)onhigh-frequency trading.
CHAPTER2:FINANCIALSTATEMENTS,CASHFLOW,ANDTAXES
Inpasteditions,weintroducedtheoperatingprofitabilityratioandthecapitalrequirementratioinlaterchapters,butwenowintroducetheminourdiscussionofthereturn oninvestedcapital(ROIC)inSection2-8abecausetheyprovideinsightintothesources ofROIC(i.e.,profitabilityandcapitalutilization).Wealsousetheseratiosinour expandedcoverageofthefreecashflowvaluationmodelinChapter7(Corporate ValuationandStockValuation).
CHAPTER5:BONDS,BONDVALUATION,ANDINTERESTRATES
Weaddedanewboxon “ChocolateBonds.” Wealsostreamlinedand improvedourdiscussionsoftherealrisk-freerateandthenominalrisk-freerate inSection5-8.
CHAPTER7:CORPORATEVALUATIONANDSTOCKVALUATION
Weexpandedthematerialonthefreecashflowcorporatevaluationmodeland moveditsothatitnowprecedesthedividendgrowthmodel.Wedidthisbecause mostcompaniesdon’tpayadividendandbecausemostpractitionersusethefreecash flowcorporatevaluationmodel.Theexpandedcoveragenowillustratesthevaluation ofMicroDrive,whichwasformerlyshowninChapter12(CorporateValuationand FinancialPlanning).Thisallowsustoemphasizevaluation(andvalue-basedmanagement)inChapter7andtoemphasizefinancialplanninginChapter12.Theexpanded FCFvaluationtreatmentinChapter7nowcoversforecastingfreecashflowsand identifyingvaluedriversinmuchmoredetail(wealsoincludedacorresponding SpreadsheetProblemintheend-of-chapterproblems).WealsousetheFCFvaluation modeltoframethediscussionofstockpricevolatilityandtherelativevaluesofcash flowsinthefirstfouryearsversusthevalueoflatercashflows(weillustratedthese conceptsusingthedividendgrowthmodelinpreviouseditions).Wehavebeenusing thisapproachinourownclassroomsforseveralyearsandhavefoundittobe effective.
CHAPTER11:CASHFLOWESTIMATIONANDRISKANALYSIS
Weaddedanewbox, “ MistakesinCashFlowEstimationCanKillInnovation,” describingcommonmistakesinprojectanalysisthataremadebymany managers.
Preface xxi Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
CHAPTER12:CORPORATEVALUATIONANDFINANCIALPLANNING
WeexpandedourcoverageofvaluationandincludedanadditionalSpreadsheet Problemonvaluation.Wedidthistoreinforceourtreatmentofvaluationin Chapter7.
CHAPTER15:CAPITALSTRUCTUREDECISIONS
Weaddedashortsection(15-8)discussinginsightsgainedfromcomparingthe equityinariskyleveredfirmwithacalloptionwrittenontheunderlyingvalueof thefirm,withanexpirationequaltothedebt’smaturityandastrikepriceequalto thedebt’sfacevalue.Wealsoincludedashortsection(15-9)discussingthedebt maturitychoiceandprovidingrecentempiricalevidenceontheshiftawayfrom long-termdebt.ForthoseinstructorswishingtocovertheModiglianiandMiller proofs,wehaveaddedanew WebExtension (15B)and PowerPoint fileshowingthe MMproofs.
CHAPTER16:SUPPLYCHAINSANDWORKINGCAPITALMANAGEMENT
Weimprovedourdiscussionofthecashconversioncycleandreduceditslength bysimplifyingtheexample.Tomorequicklyreinforcetheconceptsofthecash conversioncycle,wenowfollowitimmediatelywithcoverageofinventorymanagement,receivablesmanagement,an dpayablesmanagement.Weaddedanew section(16-9a)thatexplainstheU.S.payment,clearing,andsettlementinfrastructure.Weaddedaboxontherecentphenomenonofbankschargingcorporate customersforcashdepositaccounts, “ UseItorLose Partof It:CashCanBe Costly!”
CHAPTER17:MULTINATIONALFINANCIALMANAGEMENT
AnewopeningvignetteusesMedtronicandCovidientoillustrateataxinversion merger.
CHAPTER18:PUBLICANDPRIVATEFINANCING:INITIALOFFERINGS, SEASONEDOFFERINGS,ANDINVESTMENTBANKS
WeaddedanewSpreadsheetProblemonsettingIPOterms.
CHAPTER20:HYBRIDFINANCING:PREFERREDSTOCK,WARRANTS, ANDCONVERTIBLES
WeaddedanewopeningvignettediscussingtheconvertiblebondsissuebyTesla, Twitter,andFiatChrysler.
CHAPTER21:DYNAMICCAPITALSTRUCTURES
Wehavefocusedthischapteronvaluationissuesassociatedwiththeinterest taxshield,includingcasesinwhichthecapitalstructurechangesduringthe forecastperiod.Weprovideabriefreviewofthefreecashflowcorporatevaluation model,wedescribethefreecashflowtoequity(FCFE)valuationmodel,andwe showthatthesemodelsareinappropriateforsituationsinwhichthecapital structureischanging.Wedescribeaverygeneralversionoftheadjustedpresent
xxii Preface Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
value(APV)approachandshowhowitcanbeusedwhenthecapitalstructureis changing.Thisprovidesanaturalsegueintothecompressedadjustedpresent value(CAPV)model,inwhichthetaxshieldisdiscountedattheunleveredcostof equity.
Weillustratethevaluationconceptsusingahypotheticalcompany,Tutwiler Controls.(WeusethissamecompanyinChapter22asthetargetofanacquisition, exceptwethenincludesynergiesandadifferentcapitalstructure.)Discussing Tutwiler’svaluationinChapter21permitsanaturalextensionintomerger-related issuesinChapter22.
Asnotedpreviously,wemovedthematerialonviewingequityasanoptiononthe assetsofaleveredfirmtoChapter15.WemovedtheMMproofs(including PowerPoint slides)intoChapter15asanewwebextension, WebExtension15B.This consolidatesimportantcapitalstructureconceptsinChapter15andpermitsChapter 21tofocusonvaluationissuesassociatedwithcapitalstructures.
CHAPTER22:MERGERSANDCORPORATECONTROL
WeaddedanewopeningvignettedescribingVerizon’sbuyoutofVodafone’sholdingsofVerizonWireless.WemovedthecomparisonoftheFCFcorporatevaluation model,thefreecashflowtoequitymodel,andthecompressedadjustedpresentvalue modeltoChapter21,allowingustofocusmoreonmergeranalysisinChapter22 ratherthanonthedevelopmentofvaluationmodels.
CHAPTER25:PORTFOLIOTHEORYANDASSETPRICINGMODELS
InChapter6,weestimatedGeneralElectric’sbetausingfouryearsofmonthly returns.Inthischapter,weestimatebetasusingoneyearofweeklyreturnsbecause thisisanotherwidelyusedapproach.Inadditiontothischange,weareusingApple,a high-techcompany,toillustratetheestimationtechniquesforanindividualcompany.
LearningToolsAvailabletoStudents andInstructors
FinancialManagement includesabroadrangeofancillarymaterialsdesignedto enhancestudents’ learningandtomakeiteasierforinstructorstoprepareforand conductclasses.Allresourcesavailabletostudentsare,ofcourse,alsoavailableto instructors;inaddition,instructorshaveaccesstothecoursemanagementtools.
Inadditiontotheseresourcesandtheitemsnotedpreviously,manyother resourcesareavailableontheWebat FinancialManagement’sWebsite.These ancillariesincludethefollowing.
ExcelToolKits
ProficiencywithspreadsheetsisanabsolutenecessityforallMBAstudents.Withthat inmind,foreachchapterwecreated Excel spreadsheets,called ToolKits, toshow howthecalculationsusedinthechapterweredone.The ToolKit modelsinclude explanationsthatshowstudentshowtousemanyofthefeaturesandfunctionsof Excel,enablingthe ToolKits toserveasself-taughttutorials.
Preface xxiii Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
WebExtensions
ManychaptershaveAdobePDF “appendices” thatprovidemoredetailedcoverageof topicsthatwereaddressedinthechapter.
End-of-ChapterSpreadsheetProblems
Eachchapterhasa BuildaModel problem,wherestudentsstartwithaspreadsheetthat containsfinancialdataplusgeneralinstructionsaboutsolvingaspecificproblem.The modelispartiallycompleted,withheadingsbutnoformulas,sothestudentmustliterally buildamodel.Thisstructureguidesthestudentthroughtheproblem,minimizes unnecessarytypinganddataentry,andalsomakesiteasytogradethework,because allstudents’ answersareinthesamelocationsonthespreadsheet.Thepartialspreadsheetsforthe BuildaModel problemsareavailabletostudentsonthebook’sWebsite; thecompletedmodelsareinfilesontheInstructor’sportionoftheWebsite.
InteractiveStudyCenter
Thetextbook’sWebsitecontainslinkstoallWebsitesthatarecitedineachchapter.
CourseManagementToolsAvailableOnlyto Instructors
Instructorshaveaccesstoallofthematerialslistedaboveinadditiontocourse managementtools.Thesetoolsareavailableat FinancialManagement’sInstructor companionWebsite.Thesematerialsincludethefollowingresources.
SolutionsManual
Thiscomprehensivemanualcontainsworked-outsolutionstoallend-of-chapter materials.ItisavailableinelectronicformattheInstructor’sWebsite.
PowerPoint Slides
Foreachchapter,weprovideasetof PowerPoint slidesthatpresentgraphs,tables, lists,andcalculationsforuseinlectures.Althoughtheslidescorrespondtothe MiniCasesattheendofthechapter,theslidesarecompletelyself-containedinthe sensethattheycanbeusedforlecturesregardlessofwhetherstudentshaveread theMiniCases.Infact,weoftendon’tassigntheMiniCase,butwedousethe PowerPoint slides.CopiesofthesefilesareontheInstructor’sWebsiteandthe CengageNOWTM site.
Instructorscaneasilycustomizetheslidesandconvertthemquicklyintoany PowerPoint DesignTemplate.1 Ifyouaddsomeofyourownslidesormodifythe
1Toconvertintoadifferentdesigntemplatein PowerPoint forOffice2010,selectDesign,Theme,andchoosea theme.Alwaysdouble-checktheconversion;sometemplatesusefontsofdifferentsizes,whichcancausesome slidetitlestorunovertheirallottedspace.
xxiv Preface Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
existingslidestobetterillustrateimportantconcepts,pleaseshareyourchangeswith us manyofourbestlearningpointshavecomefrominstructorsandweappreciate allsuggestionsforwaystoimprovelearningexperiencesforstudents.
Inadditiontotheslides,thereisaMiniCaseattheendofeachchapter.Weassign theMiniCasesonlyforspecificchapters,butsomeprofessorsassigntheMiniCases formostchapters.Thesecasescoveralltheessentialissuespresentedinthechapter, andtheyprovidethestructureforourclasslecturesevenifwedon’tassigntheMini Case.
MiniCaseSpreadsheets
Inadditiontothe PowerPoint slides,wealsoprovide Excel spreadsheetsthatperformthe calculationsrequiredintheMiniCases.Thesespreadsheetsaresimilartothe ToolKits,but withtwodifferences.(1)ThenumberscorrespondtotheMiniCasesratherthanthechapter examples.(2)Weaddedsomefeaturesthatenable “whatif” analysisonareal-timebasisin class.
Weusuallybeginourlectureswiththe PowerPoint presentation,butafterwehave explainedabasicconcept,we “toggle” totheMiniCase Excel fileandshowhowthe analysiscanbedonein Excel. 2 Forexample,whenteachingbondpricing,webegin withthe PowerPoint showandcoverthebasicconceptsandcalculations.Thenwe toggleto Excel anduseasensitivity-basedgraphtoshowhowbondpriceschange asinterestratesandtimetomaturityvary.Moreandmorestudentsarebringing theirlaptopstoclass theycanfollowalonganddothe “whatif” analysisfor themselves.
SolutionstoEnd-of-ChapterSpreadsheet Problems
Thepartialspreadsheetsforthe BuildaModel problemsareavailabletostudents,and thecompletedmodelsareinfilesontheInstructor’sWebsite.
NEW!TestBanksinCognero
TheTestBankfor FinancialManagement isnowavailableonlineinanewsystem namedCengageLearningTestingPoweredbyCognero.Thisisaflexible,online systemthatallowsinstructorsto:
• Author,edit,andmanagetestbankcontent.
• Usesearchablemetadatatoensuretestsarecompleteandcompliant.
• Createmultipletestversionsinaninstant.
• DelivertestsfromyourLearningManagementSystem(LMS),yourclassroom,or anywhereyouhaveonlineaccess.
CengageLearningTestingPoweredbyCogneroworksonanyoperatingsystemor browserwithnospecialinstallsordownloadsneeded.Withitsintuitivetoolsand
2Totogglebetweentwoopenprograms,suchas Excel and PowerPoint,holdtheAltkeydownandhittheTab keyuntilyouhaveselectedtheprogramyouwanttoshow.
Preface xxv Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
familiardesktopdrop-downmenus,Cogneroenablesinstructorstoeasilycreateand edittestsfromschoolorhome anywherewithInternetaccess.
InadditiontotheTestBankavailableonlinethroughCognero,theTestBankis alsoavailableinanumberoffileformatsontheInstructorcompanionWebsite.Each chapter’sbankofquestionsincludesdozensofTrue/False,MultipleChoice,andEssay questions.Instructorscanretrievetheappropriatefileformatstoadministertests throughtheirschools’ learningmanagementsystems(Blackboard,Canvas,Moodle, Desire2Learn,etc.),ortheycanoptforWorddocuments.
TheTestBankcontainsmorethan1,200class-testedquestionsandproblems. Informationregardingthetopicanddegreeofdifficulty,alongwiththecomplete solutionforallnumericalproblems,isprovidedwitheachquestion.
