Fundamentals of Corporate Finance 9th Edition Brealey Test Bank

Table of Content:

C h a p t e r 1
FINANCE AND THE FINANCIAL MANAGER 4 
1.1 What Is a Corporation? 5 
1.2 The Role of the Financial Manager 6 
1.3 Who Is the Financial Manager? 8 
1.4 Separation of Ownership and Management 9 
1.5 Topics Covered in this Book 11 
Summary 12 
Further Reading 12 
Concept Review Questions 13 
Quiz 13 
C h a p t e r 2
PRESENT VALUES, THE OBJECTIVES OF THE FIRM, 
AND CORPORATE GOVERNANCE 14 
2.1 Introduction to Present Value 15
Calculating Future and Present Value / Net Present 
Value / Risk and Present Value / Present Values and 
Rates of Return / The Opportunity Cost of Capital / A 
Source of Confusion 
2.2 Foundations of the Net Present Value Rule 20
How Capital Markets Reconcile Preferences for Current 
vs. Future Consumption / A Fundamental Result / Other 
Corporate Goals 
2.3 Corporate Goals and Corporate Governance 25
Should Managers Look after the Interests of 
Shareholders? / Should Firms Be Managed for 
Shareholders or All Stakeholders?
Summary 28 
Further Reading 30 
Concept Review Questions 30 
Quiz 30 
Practice Questions 31 
Challenge Questions 32 
 
 
 C h a p t e r 3 
HOW TO CALCULATE PRESENT VALUES 34 
3.1 Valuing Long-Lived Assets 35
Valuing Cash Flows in Several Periods / Why the 
Discount Factor Declines As Futurity Increases? 
And a Digression on Money Machines / Calculating 
PVs and NPVs 
3.2 Looking for Shortcuts?Perpetuities and 
Annuities 39 
How to Value Growing Perpetuities / How to Value 
Annuities 
3.3 Compound Interest and Present Values 44
A Note on Compounding Intervals / Continuous 
Compounding 
3.4 Nominal and Real Rates of Interest 49 
Summary 50 
Web Exercises 51 
Concept Review Questions 52 
Quiz 52 
Practice Questions 53 
Challenge Questions 55 
C h a p t e r 4
THE VALUE OF BONDS AND COMMON STOCKS 56 
4.1 Using Present Value Formulas 
to Value Bonds 57 
A Short Trip to Germany to Value a Government Bond / 
What Happens When Interest Rates Change? / Back in 
the United States: Semiannual Coupons and Bond Prices 
4.2 How Common Stocks Are Traded 60 
4.3 How Common Stocks Are Valued 61
Today?s Price / But What Determines Next Year?s Price? 
4.4 Estimating the Cost of Equity Capital 65
Using the DCF Model to Set Gas and Electricity Prices / 
Some Warnings about Constant-Growth Formulas / DCF 
Valuation with Varying Growth Rates 
4.5 The Link between Stock Price and Earnings per 
Share 72 
Calculating the Present Value of Growth Opportunities 
for Fledgling Electronics / Some Examples of Growth 
Opportunities?
Summary 76 
Further Reading 77 
Concept Review Questions 78 
Quiz 78 
Practice Questions 79 
Challenge Questions 81 
Mini-case: Reeby Sports 82 
C h a p t e r 5
 WHY NET PRESENT VALUE LEADS 
TO BETTER INVESTMENT DECISIONS THAN 
OTHER CRITERIA 84 
5.1 A Review of the Basics 85
Net Present Value?s Competitors / Three Points to 
Remember about NPV / NPV Depends on Cash Flow, 
Not on Book Returns 
5.2 Payback 89
The Payback Rule 
5.3 Internal (or Discounted-Cash-Flow) Rate 
of Return 91 
Calculating the IRR / The IRR Rule / Pitfall 1?Lending 
or Borrowing? / Pitfall 2?Multiple Rates of Return / 
Pitfall 3?Mutually Exclusive Projects / Pitfall 4?What 
Happens When We Can?t Finesse the Term Structure of 
Interest Rates? / The Verdict on IRR 
5.4 Choosing Capital Investments When Resources 
Are Limited 100 
An Easy Problem in Capital Rationing / Uses of Capital 
Rationing Models 
Summary 103 
Further Reading 104 
Concept Review Questions 105 
Quiz 105 
Practice Questions 106 
Challenge Questions 108 
Mini-case: Vegetron?s CFO Calls Again 109 
C h a p t e r 6
MAKING INVESTMENT DECISIONS WITH THE NET 
PRESENT VALUE RULE 112 
6.1 What to Discount 113
Only Cash Flow Is Relevant / Estimate Cash Flows on an 
Incremental Basis / Treat Inflation Consistently 
6.2 Example?IM&C?S Fertilizer Project 118
Separating Investment and Financing Decisions / 
Investments in Working Capital / A Further Note on 
Depreciation / A Final Comment on Taxes / Project 
Analysis / Calculating NPV in Other Countries and 
Currencies 
6.3 Equivalent Annual Costs 125
Investing to Produce Reformulated Gasoline at California 
Refineries / Choosing between Long- and Short-Lived 
Equipment / Deciding When to Replace an Existing 
Machine / Cost of Excess Capacity 
6.4 Project Interactions 130
Case 1: Optimal Timing of Investment / Case 2: 
Fluctuating Load Factors 
Summary 133 
Concept Review Questions 134 
Quiz 134 
Practice Questions 136 
Challenge Questions 140 
Mini-case: New Economy Transport (A) 
and (B) 141 
P a r t T w o
RISK 144
C h a p t e r 7
INTRODUCTION TO RISK, RETURN, AND THE 
OPPORTUNITY COST OF CAPITAL 146 
7.1 Over a Century of Capital Market History in One 
Easy Lesson 147 
Arithmetic Averages and Compound Annual Returns / 
Using Historical Evidence to Evaluate Today?s Cost of 
Capital / An Alternative Measure of the Risk Premium 
7.2 Measuring Portfolio Risk 154
Variance and Standard Deviation / Measuring 
Variability / How Diversification Reduces Risk 
7.3 Calculating Portfolio Risk 163
General Formula for Computing Portfolio Risk / Limits to 
Diversification 
7.4 How Individual Securities Affect 
Portfolio Risk 167 
Market Risk Is Measured by Beta / Why Security Betas 
Determine Portfolio Risk 
7.5 Diversification and Value Additivity 171 
Summary 172 
Further Reading 173 
Concept Review Questions 173 
Quiz 174 
Practice Questions 175 
Challenge Questions 178 
C h a p t e r 8
RISK AND RETURN 180 
8.1 Harry Markowitz and the Birth 
of Portfolio Theory 181 
Combining Stocks into Portfolios / We Introduce 
Borrowing and Lending 
8.2 The Relationship between Risk and Return 188
Some Estimates of Expected Returns / Review of the 
Capital Asset Pricing Model / What If a Stock Did Not 
Lie on the Security Market Line? 
8.3 Validity and Role of the Capital Asset 
Pricing Model 192 
Tests of the Capital Asset Pricing Model / Assumptions 
behind the Capital Asset Pricing Model 
8.4 Some Alternative Theories 197
Consumption Betas versus Market Betas / Arbitrage 
Pricing Theory / A Comparison of the Capital Asset 
Pricing Model and Arbitrage Pricing Theory / APT 
Example / The Three-Factor Model 
Summary 204 
Further Reading 206 
Concept Review Questions 206 
Quiz 206 
Practice Questions 208 
Challenge Questions 212 
C h a p t e r 9
CAPITAL BUDGETING AND RISK 214 
9.1 Company and Project Costs of Capital 215
Perfect Pitch and the Cost of Capital / Debt and the 
Company Cost of Capital 
9.2 Measuring the Cost of Equity 219
Estimating Beta / The Expected Return on Union Pacific 
Corporation?s Common Stock 
9.3 Setting Discount Rates When You Do Not Have a 
Beta 222 
Avoid Fudge Factors in Discount Rates /
What Determines Asset Betas? 
9.4 Certainty Equivalents?Another Way of Adjusting 
for Risk 226 
Valuation by Certainty Equivalents / When to Use a 
Single Risk-Adjusted Discount Rate for Long-Lived Assets 
/ A Common Mistake / When You Cannot Use a Single 
Risk-Adjusted Discount Rate for Long-Lived Assets 
9.5 Discount Rates for International Projects 231
Foreign Investments Are Not Always Riskier / Foreign 
Investment in the United States / Do Some Countries 
Have a Lower Cost of Capital?
Summary 234 
Further Reading 235 
Concept Review Questions 235 
Quiz 235 
Practice Questions 236 
Challenge Questions 239 
Mini-case: The Jones Family, Incorporated 240 
P a r t T h r e e
 PRACTICAL PROBLEMS 
IN CAPITAL BUDGETING 242
C h a p t e r 10
A PROJECT IS NOT A BLACK BOX 244 
10.1 Sensitivity Analysis 245
Value of Information / Limits to Sensitivity Analysis / 
Scenario Analysis / Break-Even Analysis / Operating 
Leverage and Break-Even Points 
10.2 Monte Carlo Simulation 253
Simulating the Electric Scooter Project / Simulation of 
Pharmaceutical Research and Development 
10.3 Real Options and Decision Trees 257
The Option to Expand / The Option to Abandon / Two 
Other Real Options / More on Decision Trees / An 
Example: Magna Charter / Pro and Con Decision Trees / 
Decision Trees and Monte Carlo Simulation 
Summary 267 
Further Reading 268 
Concept Review Questions 268 
Quiz 268 
Practice Questions 269 
Challenge Questions 271 
Mini-case: Waldo County 271
C h a p t e r 11
STRATEGY AND THE CAPITAL INVESTMENT DECISION 
274 
11.1 Look First to Market Values 275
The Cadillac and the Movie Star / Example: Investing in 
a New Department Store / Another Example: Opening a 
Gold Mine 
11.2 Economic Rents and Competitive Advantage 280
How One Company Avoided a $100 Million Mistake 
11.3 Example: Marvin Enterprises Decides to Exploit a 
New Technology 284 
Forecasting Prices of Gargle Blasters / The Value of 
Marvin?s New Expansion / Alternative Expansion Plans / 
The Value of Marvin Stock / The Lessons of Marvin 
Enterprises 
Summary 292 
Further Reading 292 
Concept Review Questions 292 
Quiz 292 
Practice Questions 293 
Challenge Questions 295 
Mini-case: Ecsy-Cola 297 
C h a p t e r 12
 AGENCY PROBLEMS, MANAGEMENT 
COMPENSATION, AND THE MEASUREMENT OF 
PERFORMANCE 298 
12.1 The Capital Investment Process 299
Project Authorizations / Some Investments May Not 
Show Up in the Capital Budget / Postaudits 
12.2 Decision Makers Need Good Information 302
Establishing Consistent Forecasts / Reducing Forecast 
Bias / Getting Senior Management the Information That 
It Needs / Eliminating Conflicts of Interest 
12.3 Incentives 304
Overview: Agency Problems in Capital Budgeting / 
Monitoring / Providing Incentives for Managers / 
Management Compensation 
12.4 Measuring and Rewarding Performance: Residual 
Income and EVA 309 
Pros and Cons of EVA 
12.5 Biases in Accounting Measures of Performance 314
Example: Measuring the Profitability of the Nodhead 
Supermarket 
12.6 Measuring Economic Profitability 316
Do the Biases Wash Out in the Long Run? / What Can We 
Do about Biases in Accounting Profitability Measures? / 
Do Managers Worry Too Much about Book Profitability? 
Summary 321 
Further Reading 322 
Concept Review Questions 322 
Quiz 323 
Practice Questions 324 
Challenge Questions 325 
P a r t F o u r
FINANCING DECISIONS AND 
MARKET EFFICIENCY 328
C h a p t e r 13
CORPORATE FINANCING AND THE SIX LESSONS 
OF MARKET EFFICIENCY 330 
13.1 We Always Come Back to NPV 332
Differences between Investment and Financing Decisions 
13.2 What Is an Efficient Market? 333
A Startling Discovery: Price Changes Are Random / 
Three Forms of Market Efficiency / Efficient Markets: 
The Evidence 
13.3 Puzzles and Anomalies?What Do They Mean for 
the Financial Manager? 342 
Do Investors Respond Slowly to New Information? / 
Stock Market Anomalies and Behavioral Finance / 
Irrational Exuberance and the Dot.com Bubble / The 
Dot.com Boom and Relative Efficiency / Market 
Anomalies and the Financial Manager 
13.4 The Six Lessons of Market Efficiency 349
Lesson 1: Markets Have No Memory / Lesson 2: Trust 
Market Prices / Lesson 3: Read the Entrails / Lesson 4: There 
Are No Financial Illusions / Lesson 5: The Do-It-Yourself 
Alternative / Lesson 6: Seen One Stock, Seen Them All 
Summary 354 
Further Reading 355 
Concept Review Questions 355 
Quiz 356 
Practice Questions 357 
Challenge Questions 359 
C h a p t e r 14
AN OVERVIEW OF CORPORATE FINANCING 360 
14.1 Patterns of Corporate Financing 361
Do Firms Rely Too Much on Internal Funds? / How 
Much Do Firms Borrow? 
14.2 Common Stock 366
Ownership of the Corporation / Voting Procedures and 
the Value of Votes / Equity in Disguise / Preferred Stock 
14.3 Debt 372
Debt Comes in Many Forms / Variety?s the Very Spice 
of Life 
14.4 Financial Markets and Institutions 375
Financial Institutions 
Summary 378 
Further Reading 379 
Web Exercises 379 
Concept Review Questions 379 
Quiz 379 
Practice Questions 380 
Challenge Question 381 
C h a p t e r 15
HOW CORPORATIONS ISSUE SECURITIES 382 
15.1 Venture Capital 383
The Venture Capital Market 
15.2 The Initial Public Offering 387
Arranging an Initial Public Offering / The Sale of 
Marvin Stock / The Underwriters / Costs of a New Issue / 
Underpricing of IPOs 
15.3 Other New-Issue Procedures 394
Types of Auctions 
15.4 Security Sales by Public Companies 396
General Cash Offers / International Security Issues / The 
Costs of a General Cash Offer / Market Reaction to Stock 
Issues / Rights Issues 
15.5 Private Placements and Public Issues 403 
Summary 403 
Appendix: Marvin?s New-Issue Prospectus 404 
Further Reading 408 
Web Exercises 408 
Concept Review Questions 408 
Quiz 409 
Practice Questions 410 
Challenge Questions 411 
P a r t F i v e
PAYOUT POLICY AND CAPITAL 
STRUCTURE 412
C h a p t e r 16
PAYOUT POLICY 414 
16.1 The Choice of Payout Policy 415 
16.2 Dividend Payments and Stock Repurchases 416
How Dividends Are Paid / How Firms Repurchase Stock 
16.3 How Do Companies Decide on the Payout 418 
16.4 The Information in Dividends and Stock 
Repurchases 419 
The Information Content of Share Repurchase 
16.5 The Payout Controversy 422
Dividend Policy Is Irrelevant in Perfect Capital Markets / 
Dividend Irrelevance?An Illustration / Calculating 
Share Price / Share Repurchase / Stock Repurchase and 
Valuation 
16.6 The Rightists 427
Payout Policy, Investment Policy, and Management 
Incentives 
16.7 Taxes and the Radical Left 429
Why Pay Any Dividends at All? / Empirical Evidence on 
Dividends and Taxes / The Taxation of Dividends and 
Capital Gains 
16.8 The Middle-of-the-Roaders 435
Alternative Tax Systems 
Summary 436 
Further Reading 437 
Concept Review Questions 437 
Quiz 437 
Practice Questions 439 
Challenge Questions 441 
C h a p t e r 17
DOES DEBT POLICY MATTER? 444 
17.1 The Effect of Financial Leverage in a Competitive 
Tax-free Economy 445 
Enter Modigliani and Miller / The Law of Conservation 
of Value / An Example of Proposition 1 
17.2 Financial Risk and Expected Returns 452
Proposition 2 / How Changing Capital Structure Affects 
Beta 
17.3 The Weighted-Average Cost of Capital 456
Two Warnings / Rates of Return on Levered Equity?The 
Traditional Position / Today?s Unsatisfied Clienteles Are 
Probably Interested in Exotic Securities / Imperfections 
and Opportunities 
17.4 A Final Word on the After-Tax Weighted-Average 
Cost of Capital 461 
Union Pacific?s WACC 
Summary 462 
Further Reading 463 
Concept Review Questions 464 
Quiz 464 
Practice Questions 465 
Challenge Questions 467 
C h a p t e r 18
HOW MUCH SHOULD A FIRM BORROW? 468 
18.1 Corporate Taxes 469
How Do Interest Tax Shields Contribute to the Value of 
Stockholders? Equity? / Recasting Pfizer?s Capital 
Structure / MM and Taxes 
18.2 Corporate and Personal Taxes 473 
18.3 Costs of Financial Distress 476
Bankruptcy Costs / Evidence on Bankruptcy Costs / 
Direct versus Indirect Costs of Bankruptcy / Financial 
Distress without Bankruptcy / Debt and Incentives / Risk 
Shifting: The First Game / Refusing to Contribute Equity 
Capital: The Second Game / And Three More Games, 
Briefly / What the Games Cost / Costs of Distress Vary 
with Type of Asset / The Trade-off Theory of Capital 
Structure 
18.4 The Pecking Order of Financing Choices 490
Debt and Equity Issues with Asymmetric Information / 
Implications of the Pecking Order / The Trade-Off Theory 
vs. the Pecking-Order Theory?Some Recent Tests / The 
Bright Side and the Dark Side of Financial Slack 
Summary 495 
Further Reading 497 
Concept Review Questions 497 
Quiz 498 
Practice Questions 499 
Challenge Questions 501 
C h a p t e r 19
FINANCING AND VALUATION 502 
19.1 The After-Tax Weighted-Average Cost 
of Capital 503 
Example: Sangria Corporation / Review of Assumptions 
19.2 Valuing Businesses 507
Valuing Rio Corporation / Estimating Horizon Value / 
WACC vs. the Flow-to-Equity Method 
19.3 Using WACC in Practice 513
Some Tricks of the Trade / Mistakes People Make in 
Using the Weighted-Average Formula / Adjusting 
WACC When Debt Ratios or Business Risks Differ / 
Unlevering and Relevering Betas / The Importance of 
Rebalancing / The Modigliani-Miller Formula, Plus 
Some Final Advice 
19.4 Adjusted Present Value 521
APV for the Perpetual Crusher / Other Financing Side 
Effects / APV for Businesses / APV for International 
Investments 
19.5 Your Questions Answered 525 
Summary 527 
Appendix: Discounting Safe, Nominal Cash 
Flows 529 
Further Reading 532 
Concept Review Questions 532 
Quiz 533 
Practice Questions 534 
Challenge Questions 537 
P a r t S i x
OPTIONS 538
C h a p t e r 20
UNDERSTANDING OPTIONS 540 
20.1 Calls, Puts, and Shares 542
Call Options and Position Diagrams / Put Options / 
Selling Calls, Puts, and Shares / Position Diagrams Are 
Not Profit Diagrams 
20.2 Financial Alchemy with Options 546
Spotting the Option 
20.3 What Determines Option Values? 552
Risk and Option Values 
Summary 558 
Further Reading 558 
Concept Review Questions 559 
Quiz 559 
Practice Questions 560 
Challenge Questions 562 
C h a p t e r 21
VALUING OPTIONS 564 
21.1 A Simple Option-Valuation Model 565
Why Discounted Cash Flow Won?t Work for Options / 
Constructing Option Equivalents from Common Stocks 
and Borrowing / Valuing the Amgen Put Option 
21.2 The Binomial Method for Valuing Options 570
Example: The Two-Stage Binomial Method / The General 
Binomial Method / The Binomial Method and Decision 
Trees 
21.3 The Black?Scholes Formula 575
Using the Black?Scholes Formula / The Black?Scholes 
Formula and the Binomial Method 
21.4 Black?Scholes in Action 579
Executive Stock Options / Warrants / Portfolio Insurance / 
Calculating Implied Volatilities 
21.5 Option Values at a Glance 582 
Summary 585 
Appendix: How Dilution Affects Option Value 585 
Further Reading 589 
Concept Review Questions 589 
Quiz 589 
Practice Questions 590 
Challenge Questions 593 
Mini-case: Bruce Honiball?s Invention 593 
 
C h a p t e r 22
REAL OPTIONS 596 
22.1 The Value of Follow-on Investment 
Opportunities 597 
Questions and Answers about Blitzen?s Mark II / Other 
Expansion Options 
22.2 The Timing Option 602
Valuing the Malted Herring Option / Optimal Timing for 
Real Estate Development 
22.3 The Abandonment Option 605
The Zircon Subductor Project / Abandonment Value and 
Project Life / Temporary Abandonment 
22.4 Flexible Production?and Another Look at Aircraft 
Purchase Options 610 
Another Look at Aircraft Purchase Options 
22.5 A Conceptual Problem? 614
Practical Challenges 
Summary 615 
Further Reading 616 
Concept Review Questions 617 
Quiz 617 
Practice Questions 617 
Challenge Questions 619 
P a r t S e v e n
DEBT FINANCING 622
C h a p t e r 23
VALUING GOVERNMENT BONDS 624 
23.1 Real and Nominal Rates of Interest 626
Indexed Bonds and the Real Rate of Interest / Inflation 
and Nominal Interest Rates / How Well Does Fisher?s 
Theory Explain Interest Rates? 
23.2 Term Structure and Yields to Maturity 629
Yield to Maturity / Measuring the Term Structure 
23.3 How Interest Rate Changes Affect 
Bond Prices 632 
Duration and Bond Volatility / Managing Interest Rate 
Risk / A Cautionary Note 
23.4 Explaining the Term Structure 636
The Expectations Theory / The Liquidity-Preference 
Theory / Introducing Inflation / Relationships between 
Bond Returns 
Summary 641 
Further Reading 642 
Web Exercise 642 
Concept Review Questions 643 
Quiz 643 
Practice Questions 644 
Challenge Questions 646 
C h a p t e r 24 
CREDIT RISK 648 
24.1 The Value of Corporate Debt 649
The Difference between Safe and Risky Debt / Valuing 
the Default Option / Valuing Government Loan 
Guarantees 
24.2 Bond Ratings and the Probability 
of Default 656 
24.3 Predicting the Probability of Default 659
Credit Scoring / Market-Based Risk Models 
24.4 Value at Risk 663 
Summary 665 
Further Reading 666 
Concept Review Questions 666 
Quiz 666 
Practice Questions 667 
Challenge Questions 667 
C h a p t e r 25
THE MANY DIFFERENT KINDS OF DEBT 668 
25.1 Domestic Bonds, Foreign Bonds, 
and Eurobonds 670 
25.2 The Bond Contract 670
Indenture, or Trust Deed / The Bond Terms 
25.3 Security and Seniority 673
Asset-Backed Securities 
25.4 Repayment Provisions 675
Sinking Funds / Call Provisions 
25.5 Debt Covenants 678 
25.6 Convertible Bonds and Warrants 680
What Is a Convertible Bond? / The Value of a 
Convertible at Maturity / Forcing Conversion /
Why Do Companies Issue Convertibles? / Valuing 
Convertible Bonds / Some Variations on Convertible 
Bonds: Mandatory Convertibles and Reverse 
Convertibles / A Third Variation on Convertible Bonds: 
The Bond-Warrant Package 
25.7 Private Placements and Project Finance 686
Project Finance / Project Finance?Some Common 
Features / The Role of Project Finance 
25.8 Innovation in the Bond Market 690 
Summary 692 
Further Reading 693 
Concept Review Questions 693 
Quiz 693 
Practice Questions 694 
Challenge Questions 696 
Mini-case: The Shocking Demise 
of Mr. Thorndike 697 
 
 
C h a p t e r 26 
LEASING 698 
26.1 What Is a Lease? 699 
26.2 Why Lease? 700
Sensible Reasons for Leasing / Some Dubious Reasons 
for Leasing 
26.3 Operating Leases 703
Example of an Operating Lease / Lease or Buy? 
26.4 Valuing Financial Leases 706
Example of a Financial Lease / Who Really Owns the 
Leased Asset? / Leasing and the Internal Revenue 
Service / A First Pass at Valuing a Lease Contract / 
The Story So Far 
26.5 When Do Financial Leases Pay? 712 
Summary 713 
Further Reading 714 
Concept Review Questions 714 
Quiz 715 
Practice Questions 716 
Challenge Questions 717 
P a r t E i g h t 
RISK MANAGEMENT 718
C h a p t e r 27
MANAGING RISK 720 
27.1 Why Manage Risk? 721
Reducing the Risk of Cash Shortfalls or Financial 
Distress / Agency Costs May Be Mitigated by Risk 
Management / The Evidence on Risk Management 
27.2 Insurance 724
How British Petroleum (BP) Changed Its Insurance 
Strategy 
27.3 Forward and Futures Contracts 727
A Simple Forward Contract / Futures Exchanges /
The Mechanics of Futures Trading / Trading and Pricing 
Financial Futures Contracts / Spot and Futures Prices? 
Commodities / More about Forward Contracts / 
Homemade Forward Rate Contracts 
27.4 Swaps 735
Interest Rate Swaps / Currency Swaps / Credit Derivatives 
27.5 How to Set Up a Hedge 739
Using Theory to Set Up the Hedge: An Example / 
Options, Deltas, and Betas 
27.6 Is ?Derivative? a Four-Letter Word? 743 
Summary 746 
Further Reading 747 
Concept Review Questions 747 
Quiz 748 
Practice Questions 749 
Challenge Questions 753 
C h a p t e r 28
MANAGING INTERNATIONAL RISKS 754 
28.1 The Foreign Exchange Market 755 
28.2 Some Basic Relationships 757
Interest Rates and Exchange Rates / The Forward 
Premium and Changes in Spot Rates / Changes in the 
Exchange Rate and Inflation Rates / Interest Rates and 
Inflation Rates / Is Life Really That Simple? 
28.3 Hedging Currency Risk 765
Transaction Exposure and Economic Exposure /
Currency Speculation 
28.4 Exchange Risk and International Investment 
Decisions 768 
More about the Cost of Capital 
28.5 Political Risk 771 
Summary 773 
Further Reading 774 
Web Exercise 775 
Concept Review Questions 775 
Quiz 775 
Practice Questions 776 
Challenge Questions 778 
Mini-case: Exacta, s.a. 779 
 
 
P a r t N i n e
FINANCIAL PLANNING AND THE 
MANAGEMENT OF WORKING
CAPITAL 780
C h a p t e r 29
FINANCIAL ANALYSIS AND PLANNING 782 
29.1 Financial Statements 783 
29.2 Executive Paper?s Financial Statements 784
The Balance Sheet / The Income Statement / Sources and 
Uses of Funds 
29.3 Measuring Executive Paper?s Financial 
Condition 789 
How Much Has Executive Paper Borrowed? /
How Liquid Is Executive Paper? / How Productively 
Is Executive Paper Using Its Assets? / How Profitable 
Is Executive Paper? / How Highly Is Executive Paper 
Valued by Investors? / The Dupont System 
29.4 Financial Planning 797 
29.5 Financial Planning Models 798
Pitfalls in Model Design / There Is No Finance in 
Financial Planning Models 
29.6 Growth and External Financing 801 
Summary 802 
Further Reading 803 
Web Exercises 804 
Concept Review Questions 804 
Quiz 804 
Practice Questions 807 
Challenge Questions 811
C h a p t e r 30
WORKING CAPITAL MANAGEMENT 812 
30.1 Credit Management 814
Terms of Sale / The Promise to Pay / Credit Analysis / 
The Credit Decision / Collection Policy 
30.2 Inventory Management 821 
30.3 Cash 821
Using Cash Efficiently / Electronic Funds Transfer / 
International Cash Management / Paying for Bank 
Services 
30.4 Marketable Securities 826
Calculating the Yield on Money-Market Investments / 
Yields on Money-Market Investments / The International 
Money Market / Money-Market Instruments 
Summary 832 
Further Reading 834 
Web Exercises 834 
Concept Review Questions 834 
Quiz 835 
Practice Questions 836 
Challenge Questions 838 
C h a p t e r 31
SHORT-TERM FINANCIAL PLANNING 840 
31.1 Links between Long-Term and Short-Term 
Financing Decisions 841 
31.2 Tracing Changes in Cash and Working Capital 845
Tracing Changes in Net Working Capital / Profits and 
Cash Flow 
31.3 Cash Budgeting 849
Preparing the Cash Budget: Inflow / Preparing the Cash 
Budget: Outflow 
31.4 The Short-Term Financing Plan 852
Options for Short-Term Financing / Dynamic?s 
Financing Plan / Evaluating the Plan / A Note on Short- 
Term Financial Planning Models 
31.5 Sources of Short-Term Borrowing 856
Bank Loans / Commercial Paper / Medium-Term Notes 
Summary 861 
Further Reading 863 
Web Exercise 863 
Concept Review Questions 863 
Quiz 863 
Practice Questions 865 
Challenge Questions 867 
P a r t T e n
 MERGERS, CORPORATE 
CONTROL, AND GOVERNANCE
 868 
C h a p t e r 32 
MERGERS 870 
32.1 Sensible Motives for Mergers 871
Economies of Scale / Economies of Vertical Integration / 
Complementary Resources / Surplus Funds / Eliminating 
Inefficiencies / Industry Consolidation 
32.2 Some Dubious Reasons for Mergers 877
To Diversify / Increasing Earnings per Share: The 
Bootstrap Game / Lower Financing Costs 
32.3 Estimating Merger Gains and Costs 881
Right and Wrong Ways to Estimate the Benefits of 
Mergers / More on Estimating Costs?What If the 
Target?s Stock Price Anticipates the Merger? / Estimating 
Cost When the Merger Is Financed by Stock / 
Asymmetric Information 
32.4 The Mechanics of a Merger 886
Mergers and Antitrust Law / The Form of Acquisition / 
Merger Accounting / Some Tax Considerations 
32.5 Takeover Battles and Tactics 889
Boone Pickens Tries to Take Over Cities Service, Gulf Oil, 
and Phillips Petroleum / Takeover Defenses / AlliedSignal 
vs. AMP / Who Gains Most in Mergers? 
32.6 Mergers and the Economy 896
Merger Waves / Do Mergers Generate Net Benefits? 
Summary 897 
Appendix: Conglomerate Mergers and Value 
Additivity 898 
Further Reading 900 
Concept Review Questions 901 
Quiz 901 
Practice Questions 902 
Challenge Questions 903 
C h a p t e r 33
CORPORATE RESTRUCTURING 904 
33.1 Leveraged Buyouts 905
RJR Nabisco / Barbarians at the Gate? / Leveraged 
Restructurings / LBOs and Leveraged Restructurings 
33.2 Fusion and Fission in Corporate Finance 910
Spin-offs / Carve-outs / Asset Sales / Privatization 
33.3 Conglomerates 915
Fifteen Years after Reading This Chapter / Financial 
Architecture of Traditional U.S. Conglomerates / 
Temporary Conglomerates 
33.4 Bankruptcy 921
Is Chapter 11 Efficient? / Workouts / Alternative 
Bankruptcy Procedures 
Summary 926 
Further Reading 927 
Concept Review Questions 928 
Quiz 929 
Practice Questions 929 
C h a p t e r 34
GOVERNANCE AND CORPORATE CONTROL 
AROUND THE WORLD 930 
34.1 Financial Markets and Institutions 931
Investor Protection and the Development of Financial 
Markets 
34.2 Ownership, Control, and Governance 936
Ownership and Control in Japan / Ownership and 
Control in Germany / European Boards of Directors / 
Ownership and Control in Other Countries / 
Conglomerates Revisited 
34.3 Do These Differences Matter? 945
Risk and Short-termism / Growth Industries and 
Declining Industries / Transparency and Governance 
Summary 949 
Further Reading 951 
Concept Review Questions 951 
Quiz 951 
Practice Questions 952 
 
P a r t E l e v e n
CONCLUSION 955
C h a p t e r 35
CONCLUSION: WHAT WE DO AND DO NOT KNOW 
ABOUT FINANCE 956 
35.1 What We Do Know: The Seven Most Important 
Ideas in Finance 957 
1. Net Present Value / 2. The Capital Asset Pricing 
Model / 3. Efficient Capital Markets / 4. Value Additivity 
and the Law of Conservation of Value / 5. Capital 
Structure Theory / 6. Option Theory / 7. Agency Theory 
35.2 What We Do Not Know: 10 Unsolved Problems 
in Finance 960 
1. What Determines Project Risk and Present Value? / 
2. Risk and Return?What Have We Missed? / 3. How 
Important Are the Exceptions to the Efficient-Market 
Theory? / 4. Is Management an Off-Balance-Sheet 
Liability? / 5. How Can We Explain the Success of New 
Securities and New Markets? / 6. How Can We Resolve 
the Payout Controversy? / 7. What Risks Should a Firm 
Take? / 8. What Is the Value of Liquidity? / 9. How Can 
We Explain Merger Waves? / 10. How Can We Explain 
International Differences in Financial Architecture? 
35.3 A Final Word 967 
Appendix A Present Value Tables 968 
Appendix B Answers to Quizzes 974 
Glossary 992 
Global Index 1007 
General Index 1011

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