Introduction to Finance

September 22, 2011

Agenda

Introduction To Finance Presentation:

Time Value of Money

Discount Rates

Valuation

Accounting

Wall Street

Upcoming Events

Meet the Mentors2

Time Value of Money

Introduction to Finance

Dollar Today ≠ Dollar in One Year…Why?

To adjust for the opportunity cost of capital, we use Present Value

FVt is the “Future Value”, i – “Discount Rate”

Key Concept: Time Value of Money

The Power of Present Value You make 100k each year for the rest of your

life, your discount rate is i = .05

PV = (100k/1.05)+(100k/1.05^2)+(100k/1.05^3)+…

“Perpetuity formula”, PV = 100k / .05 = $2M

Conclusion:Finance === Present Value!!

Understanding Discount RatesCAPM and WACC

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Discount Rates

Introduction to Finance

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Discount Rate Intuition Used to discount current and future cash flows (as

shown earlier)

r (“interest rate”) = risk free rate + risk premium

When you take home mortgage, why can’t you borrow at the risk free rate?

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Capital Asset Pricing Model (CAPM)

Gives us the rate of return on some asset (could be a stock, bond, house, etc.)

Three Components: Risk Free Rate (usually 10 year), Market Return (usually S&P), and Beta (see next slide)

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What is Beta? “The Market Price of Risk”

Beta is the measure of an asset’s sensitivity to the overall market

Testing Yahoo Finance: Do a regression of yearly MSFT returns on S&P Returns, the slope should be ~equal to the beta listed

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Weighted Average Cost of Capital (WACC)

Calculating the asset beta at constant debt-to-value ratio:

We take into account capital structure using this formula:

Valuation

Introduction to Finance

Valuation

Why is it important? Valuation is at the heart of finance

Common Terms Fair Value Intrinsic Value

Two primary methods: (1) Comparables/Precedents (2) DCF

Others include LBO, Replacement value, Sum-of-the-Parts

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Valuation (cont’d)

Enterprise Value Value of the operations of the company

attributable to all providers of capital Enterprise Value = Equity Value + Debt – Cash

Equity Value Portion of value attributable only to shareholders Equity Value = Share Price x Shares Outstanding

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Valuation (cont’d)

Comparable Company Analysis Look at how similar companies are being valued to

derive a value for your company Common multiples: P/E, EV/EBITDA, EV/FCF

DCF Trying to value a company today based on the

cash flows it’s expected to produce in the future FCF, Terminal value, WACC

Accounting

Introduction to Finance

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Balance Sheet

A = L + OE

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Balance Sheet (cont’d)

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Income Statement

Revenue – Expenses = Net Income

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Cash Flow Statement

Operating,Investing,Financing

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How the 3 Statements Connect

Wall Street

Introduction to Finance

Wall Street

Buy side vs. Sell side Private Equity, Hedge Funds Buy side Investment Bank Sell side

Private vs. Public Chinese Wall within Investment Bank Investing Banking Division Private Sales & Trading, Equity Research Public

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The Investment Bank

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Investment Banking Division (IBD) Industry Groups vs. Product Groups Two main purposes:

1. Raise capital2. Provide strategic advice

Sales & Trading (S&T) Buy/sell securities on behalf of clients Many different securities, many different desks

Equities FICC

Research Fundamental analysis Public (vs. IBD – private)

The Buy Side

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People with money to invest

Private Equity, Hedge Funds, Venture Capital Private Equity – buy equity in private companies Hedge Funds – buy equity/debt in public

companies through complex hedging strategies Venture Capital – buy equity in early-stage

companies

Wrap-Up: Present Value === Finance!

CAPM and WACC are used to determine the discount rate in valuation

Financial statements allow us to analyze companies

Valuation is simply a way of valuing a company or asset

Wall Street is more complicated than it seems

Upcoming Events

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9/29/2011: Networking 101 Workshop

10/6/2011: Morgan Stanley Presents: What is IBD

10/13/2011: Lazard: Introduction to Restructuring

10/20/2011: Credit Suisse: The IPO Process

Special Event 9/30/11: Tour of Wall Street

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Meet the Mentors!