Transcript Class 2 - University of Southern California

Dividend Policy
May 2, 2007 (LA)
and May 1, 2007 (OCC)
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Raising Funds in United States
 Available
–
–
–
–
funds
Internal funds
Current shareholders
Private sources: banks, private placements
Public Sources: short-term, long-term
 Securities Acts
of 1933 and 1934
 Investment bankers and costs of funds
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Capital Structure in Practice
 Most
firms in the U. S. are mainly equity
financed despite tax advantage of debt
 Most firm financing is internally generated
cash in the U. S.
 U.S. firms use less debt (Table 16.4, p. 480)
 Debt markets
– Bank and privately placed debt in Japan, EEC
– Public debt markets and banks in U.S.
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Dividend Policy
 The
dividend decision
– Board of directors deliberation
– Dividends and investment
– Announcement and payment of dividend
 Dividends
as a source of cash for investors
 Tax treatment of dividends
– Individuals and other investors
– Combination of corporate and individuals
 Equilibrium
in capital markets
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Summary M-M Debate Issues
M-M
ISSUES
CAPITAL
(1) TAXES
STRUCTURE
IRRELEVANT (2) BANKRUPTCY
STATE
OF DEBATE
TRADEOFFS
(3) AGENCY
DIVIDENDS
IRRELEVANT
(4) EQUILIBRIUM
(1) INFORMATION
(2) TAXES
(3) MILLERSCHOLES
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
EVIDENCE
M-M Dividend Irrelevance
 Assume
no taxation and efficient markets
 Stockholders can create cash flows
equivalent to dividends by selling shares
 Shareholders not needing cash can reinvest
dividends in stock
 Reinvested earnings (not paid as dividends)
grow at firm’s rate of return and produce
gains
 New equity dilutes old claims on income
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Investment and Dividends
 Firms
should invest in all NPV>0 projects
 Investment determines a firm’s value:
Investment  Income  Dividends  New Equity
 Value
of firm (with or without debt)
depends on the value from investments
 Cash dividends increase need for new
equity
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Dividend Debate
 Taxation
issues (past and current)
 Information in dividends
– Cash payment signals real cash flows
– Smoothing implies information on future cash
 Tax
effects may be offset
– Clientele effects
– Miller-Scholes strategies can eliminate problem
 Evidence
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Course Summary and Review
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Corporate Financial Decisions
 Investments
– Long-term strategic commitments of capital
– Tangible and intangible, projects or companies
 Financing
– Debt or equity
– Term, conditions, commitments
 Working
Capital
– Cash
– Inventory and accounts receivable
– Short-term borrowing and accounts payable
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Corporate Finance Questions
 What
determines asset values and how do
interest rates and expectations affect them?
 Which projects should we invest in?
 Which risks are important for investors?
 How can we measure and adjust for risk?
 Does a firm’s financing or dividend policy
matter?
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Determinants of Value
 Cash,
Time, Risk determine value
 Present value analysis deals with the effect
of time or timing on value
 Cash flow estimation is the subject of the
next part of the course (classes 5 to 8)
 Risk is incorporated in the discount rate
that we discuss in Part 3 of the course
 Positive net present value projects create
value for investors
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Required Rates of Return
 Investors
require compensation for
systematic risk
 If expected returns from a project or an
asset is higher than the required rate, it has
positive net present value
 Equivalently, its internal rate of return is
higher than the opportunity rate
 Security market line is relation between
systematic risk and required rates in CAPM
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Rigor implies Mathematics
 Multi-period
expressions with factors raised to
powers (present value calculations in Chapter 4)
» Polynomial functions mean non-linear relations
» Sometimes more than one way to solve a problem
 Arithmetic,
but in large doses (projections in
Chapter 7)
» Addition and subtraction, ratios (division) and muliplication,
» Many calculations, not difficult calculations
 Statistical
concepts like correlation (analysis of
risk in Chapters 10 and 12)
 Algebra using equations and unknowns (theory of
capital structure in Chapter 15)
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Main Analytical Material in
Corporate Finance
 Chapters
4 and 5 - Present value and
valuation of stocks and bonds
 Chapter 7 - Investment project evaluation
 Chapters 9, 10 and 12 - Portfolio theory,
CAPM, and capital budgeting with risk
 Chapter 13 - Efficient markets
 Chapters 15, 16, and 18 - M-M theories and
debate on capital structure and dividends
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Optional Review Materials
 Summary
of Finance Principles Every MBA
Should Know posted on website
 Compilation of Objectives, Important
Vocabulary, and Wall Street Journal Articles
 Old final and midterm examinations
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Important WSJ Stories 2007
 Challenges
facing auto industry in restructuring
 Increasing role of private-equity firms in
corporate restructuring, including in GM and
Chrysler cases
 Private-equity firms going public
 Costs of SOX compliance continues to be a
major issue
 SEC and press focus on executive
compensation
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
GSBA 548, Finance & the Future
 First
goal: prepare students to deal with an
environment where finance professionals
partially determine the environment
– Finance is a branch of rhetoric
– The are no right answers but there are coherent
and persuasive answers
 Second
goal: induce sympathy for the
financial view of the world
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Finance View of the World
 Your
personal world
– Return on your investments, including human
capital
– Approach to personal financial management
 The
real world
– Corporate governance: goals of policy, relation
of policy to efficiency
– Dynamism and complexity of financial markets
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Current Developments in Finance
 Deepening
of consumer financial services
markets similar to deepening of wholesale
markets
 Refinement of market allocation of risks
and returns, making markets more efficient
 Changes in demand and supply of equity
and debt and issues in valuation of residual
and fixed claims
 Technology, globalization, deregulation
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Final Examination
 Open
book, open note, 6:00-8:30pm
 Calculator, #2 pencil, and pen
 25 multiple choice and 3 long answer
 1/3 covers first half of course, 2/3 last half
 Questions from course objectives, important
vocabulary, end-of-chapter problems, class
exercises, and group project
 Review sessions with TAs and instructor
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Likely Questions
 Major
material from key chapters not
covered extensively in midterm
examination
 Hardest questions on midterm considered
straightforward by instructor
 Applications of problem-solving of basic
finance principles covered extensively in
class
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007
Good Luck!!
 Teaching
assistants and I want you to do
well on the final and group project
 We are not trying to tell you how to study
for the final but want to make everything
you might need available in a convenient
format
 We hope to see you in finance classes in the
future
J. K. Dietrich - GSBA 548 – MBA.PM Spring 2007