FIN 300 SUPPLEMENTAL INSTRUCTION

Tues/Thurs 12:30pm-1:45pmHenry Tep

OBJECTIVE

• Master Key Concepts for Chapter 1

AGENDA

• Fill LAC card• Warm-Up: Pictionary• Define Terminology• Group Discussion• End of Day Quiz• Get To Know You Survey

LEARNING ASSISTANCE CENTER CARD

• Semester: Spring 2016• Name: Put your name• Student ID#: You know it• Target Course: Fin 300• SI Section#: 60• Leader’s Name: Henry Tep

PICTIONARY

• Get into groups of 3-4• Everyone will be at the whiteboards, there should be a marker• 1 student will get the word from me to draw out• Student cannot use letters, but symbols and numbers are o.k.• Once you have the answer, let me know!

TERMINOLOGIES

• Sarbanes-Oxley Act• Proprietorship, Partnership, Corporation• S corporation, Limited Liability Company,

Limited Liability Partnership• Marginal Investor; Equilibrium• Stockholder wealth maximization• Ethics

SARBANES-OXLEY ACT

• What is the Sarbanes-Oxley Act?• Why does it exist in the first place?• Does it help or harm businesses?

PROPRIETORSHIP, PARTNERSHIP, CORPORATION

• What are the advantages and disadvantages of each form?• What is the life of each form?

S-CORPORATION, LIMITED LIABILITY COMPANY, LIMITED LIABILITY PARTNERSHIP

• How do they differ from the three main form of businesses?• Why would anyone want to have one of these

forms?• What type of business should use any of these

forms?

MARKET EQUILIBRIUM

Manager Actions, Economic environment,

Taxes, and Political Climate

“Perceived” Investor Cash

Flows

Market Equilibrium:

Intrinsic Value=Stock

Price

Stock’s Market Price“Perceived” Risk

“True” Risk

“True” Investor Cash Flow

Stock Intrinsic Value

INTRINSIC VALUE

• Is there a true value for the intrinsic value of a stock?• Why is the intrinsic value of a stock important?• If a stock is more expensive than the intrinsic

value, should you buy that stock?• If a stock is less expensive than the intrinsic

value, should you buy that stock?

STOCKHOLDER WEALTH MAXIMIZATION

• What is it?• What role does the manager have in wealth

maximization?• Should financial manager’s maximize

shareholder’s wealth at all cost?• If not, then what are some of the things that

financial managers should be aware of?

ETHICS

• Why are ethics important to society and to businesses?• Do all financial managers require ethics?

GROUP DISCUSSION

The Role of the Financial Manager

1ST SCENARIO

Suppose you were a member of Company X’s board of directors and chairperson of the company’s compensation committee. What

factors should your committee consider when setting the CEO’s compensation?

Should the compensation consist of a dollar salary, stock options that depend on the

firm’s performance, or a mix of the two? If “Performance” is to be considered, how should it be measured? Think of both

theoretical and practical (that is, measurement) considerations. If you were also a vice president of Company X, might your actions be different than if you were

the CEO of some other company?

2ND SCENARIO

You are a financial manager of Tunnel Vision Corporation, who has to make a decision on which project to pursue next. There are two choices that will create positive net income. The first project is an oil drilling project that will add $3.00 to the price of the company’s stock in the next 6

months, than another $3.00 dollars in the following 5 years for a max increase of $6.00 dollars. On the

other hand, the second project is a research and development project

for solar panels. The project will not increase the value of the company in the first 4 years, but is expected to increase the company’s value by

$8.00 dollars in the 5th year. Which action would be better? Why would it be better? Finally, is it better to think short-term or long-term when

investing?

3RD SCENARIO• Note that the two projects have the same

expected payoff, but Project H has higher risk. The debtholders always get paid first and the stockholders receive any money that is available after the debtholders have been paid. Assume that if the company doesn’t have enough funds to pay off its debtholders on year from now, then Bedrock will declare bankruptcy. If bankruptcy is declared, the debtholders will receive all available funds and the stockholders will receive nothing.

• A. Assume that the company selects Investment L. What is the expected payoff to the firm’s debtholders? What is the expected payoff to the firm’s stockholders?

• B. Assume that the company selects Investment H. What is the expected payoff to the firm’s debtholders? What is the expected payoff to the firm’s stockholders?

• C. Would the debtholders prefer that the company’s managers select Project L or Project H? Briefly explain your reason.

• D. Explain why the company’s managers acting on behalf of the stockholders might select Project H even though it has greater risk.

• E. What actions can debtholders take to protect their interest.

Bedrock Company has $70 million in debt and $30 million in equity. The debt matures in one

year and has a 10% interest rate, so the company is promising to pay back $77 million to its debtholders one year from now. The company is considering two possible investments, each of

which will require an upfront cost of $100 million. Each investment will last for one year

and the payoff from each investment depends on the strength of the economy. There is a 50% chance that the economy will be weak and a

50% chance it will be strong. Here are the expected payoffs (dollars are in millions) from

the two investments.

Payoff in one Year if economy is weak

Payoff in one year if economy is strong

Expected payoff

Investment L

$90 $130 $110

Investment H

$50 $170 $110

3RD SCENARIO

• Note that the two projects have the same expected payoff, but Project H has higher risk. The debtholders always get paid first and the stockholders receive any money that is available after the debtholders have been paid. Assume that if the company doesn’t have enough funds to pay off its debtholders on year from now, then Bedrock will declare bankruptcy. If bankruptcy is declared, the debtholders will receive all available funds and the stockholders will receive nothing.

GET TO KNOW YOU SURVEY

• Survey to get to know you better • You do not have to answer any questions you feel

uncomfortable answering• This is not graded!

CHAPTER 1 HOMEWORK

• H.W assignment from Beachboard for Chapter 1• #1, 2, 5, 6, 7, 9, 12, 13

QUESTION 1

• What is a firm’s intrinsic value? Its current stock price? Is the stock’s “true” long-run value more closely related to its intrinsic value or to its current price?

QUESTION 2

• When is a stock said to be in equilibrium? Why might a stock at any point in time not be in equilibrium?

QUESTION 5

• If a company’s board of directors wants management to maximize shareholder wealth, should the CEO’s compensation be set as a fixed dollar amount, or should the compensation depend on how well the firm performs? If it is to be based on performance, how should performance be measured? Would it be easier to measure performance by the growth rate in reported profits or the growth rate in the stock’s intrinsic value? Which would be the better performance measure? Why?

QUESTION 6

• What are the various forms of business organization? What are the advantages and disadvantages of each?

QUESTION 7

• Should stockholder wealth maximization be thought of as a long-term or a short-term goal? For example, if one action increases a firm’s stock price from a current level of $20 to $25 in 6 months and then to $30 in 5 years but another action keeps the stock at $20 for several years but then increases it to $40 in 5 years, which action would be better? Think of some specific corporate actions that have these general tendencies.

QUESTION 9

• The president of Southern Semiconductor corporation (SSC) made this statement in the company’s annual report: “SSC’s primary goal is to increase the value of our common stockholder’s equity.” Later in the report, the following announcements were made:

• A. The company contributed $1.5 million to the symphony orchestra in Birmingham, Alabama, its headquarters city.

• B. The company is spending $500 million to open a new plant and expand operations in China. No profits will be produced by the Chinese operartions for 4 years, so earnings will be depressed during this period versus what the would have been had the decision been made not to expand in China.

• C. The company holds about half of its assets n the form of U.S. Treasury bonds, and it keeps these funds available for use in emergencies. In the future, though, SSC plans to shift its emergency funds from Treasury bonds to common stocks.