investment value captures potential synergies of acquisition

fair value is the value between willing buyer and willing seller

intrinsic value is the true value of the company

Shaping strategy: best in unpredictable environment that a company has the power to change

FCFF = CFO + Interest(1-T) - FCInv

FCFF = NI + NCC - WCInv + Interest(1-T) - FCInt

FCFE = CFO + Net Borrowing- FCInv

FCFF is preferred over FCFE when company is leveraged and capital structure changes

In FCF calculation, WCInv does not include cash, notes payable, and current portion of debt, only include AP and AR.

Cash and marketable securities are NON-operating assets

V0 = FCFF1 / (rwacc -g)

Vequity = V0 - Vdebt

Discounted Dividend Valuation

Gordon growth model: P0 = D1/(r-g)

Free Cash Flow Valuation

FCFF and FCFE valuatiob approach

Market based Valuation

Price multiples, EV multiples

Residual Income Valuation

Excess earnings methods(EEM)

Private Company Valuation

Income Approach: FCF method, capitalised cash flow method, residual income method(EEM)

Market Approach: Guideline public company method (GPCM), Guideline transaction method (GTM)

Asset Based Approach: the value of ownership of an enterprise is equivalent to the fair value of its assets - the fair value of its liabilities

discount for lack of control = 1 - 1/(1 + control premium)

EVA = NOPAT – (Cost of capital × Total Capital)

MVA=Marketvalueofthecompany −Accountingbookvalueoftotalcapital

trailing P/E = (1-b)(1+g)/(r-g)

forward P/E = (1-b)/(r-g)

restructuring charges and employee stock option grants are included in core earnings

financial leverage does not affect EBITDA

EBITDA overestimates CFO if WC is growing

If EC increase (CA increase more than CL), the firm uses cash to build up the CA, CFO capture changes in WC, EBITDA does not capture changes in WC. So EBITDA overstates CFO when EC is growing

CAPM only incorporates market risk (beta)

FFM model is three factor model, Ri = Rf + βrmrfFac1 + βsmbFac2 + βhmlFac3

The Rf is short term gov bill yield(risk free), long term bond has uncertainty

Pastor-Stambaugh model adds liquidity to FFM model

PEG assumes linear relationship between P/E and growth, does not factor in risk

Blume's adjusted beta = (2/3)(unadjusted beta) + (1/3)*(1.0)

# EMBEDDED

and Travel

## Monday, 22 August 2016

### CFA Level 2 - Fixed Income

**Convexity**

The convexity of callable bond is negative when near the money. The convexity of putable bond is always positive when near the money.

A bond with less convexity is more affected by interest rates than a bond with more convexity.

Bond A has more convexity than Bond B. When yield increase by large amount, Bond B price decrease more than Bond A.

The effective convexity of a putable bond cannot be less than that of an otherwise identical option free bond-->wrong

**Callable Bond, Putable Bond**

V(putable bond) = V(normal) + V(put option)

V(callable bond) = V(normal) - V(call option)

yield curve moves to upward sloping, the value of put option embed in bond increase

V(putable bond) = V(normal) +V(put option), so putable bond value increase

## Monday, 14 March 2016

### CFA Finance Ratio

Finance Ratio:

ROE = NI / Equity

ROA = NI / Assets

ROIC = NOPAT / invested capital

- investment focus

- invested capital = debt + equity - cash

ROCE = EBIT / Capital Employed

- pretax, operating focus

Financial Leverage Ratio (Equity Multiplier) = Avg Total Assets / Avg Total Equity

Asset Turnover = Sales / Assets

Inventory Turnover = COGS / Average Inventory

RI = ((ROIC - WACC) * Assets)

RI = (ROE - r) * BV

RI = NI - r*BV

EVA = NOPAT - WACC * Total Assets

EBIT - Interest Expense = Pretax profit

Pretax profit - tax = NI

Accounting Profit = Normal Profit + Economic Profit

Cash Conversion Cycle

CCC = DOH + DSO - DPO

the smaller the number, the better it is

Good Will:

EQUITY METHOD:

Full Goodwill –> Fair Value - Book Value of Net Identifiable assets (same under IFRS and US GAAP)

And then we allocate the above calculated difference (i.e. the excess purchase price) to subsidiary’s those assets whose fair values exceed their book values. What we get after allocation is the goodwill which is essentially same as the difference between subsidiary’s fair value and parent’s proportionate share of net identifiable assets.

ACQUISITION METHOD:

Full Goodwill –> Fair value of entity - Fair Value of Identifiable Net assets (same under IFRS and US GAAP)

Partial Goodwill –> Purchase Price - Proportionate share of Fair Value of Identifiable Net Assets (only under IFRS)

ROE = NI / Equity

ROA = NI / Assets

ROIC = NOPAT / invested capital

- investment focus

- invested capital = debt + equity - cash

ROCE = EBIT / Capital Employed

- pretax, operating focus

Financial Leverage Ratio (Equity Multiplier) = Avg Total Assets / Avg Total Equity

Asset Turnover = Sales / Assets

Inventory Turnover = COGS / Average Inventory

RI = ((ROIC - WACC) * Assets)

RI = (ROE - r) * BV

RI = NI - r*BV

EVA = NOPAT - WACC * Total Assets

EBIT - Interest Expense = Pretax profit

Pretax profit - tax = NI

Cash Conversion Cycle

CCC = DOH + DSO - DPO

the smaller the number, the better it is

Good Will:

EQUITY METHOD:

Full Goodwill –> Fair Value - Book Value of Net Identifiable assets (same under IFRS and US GAAP)

And then we allocate the above calculated difference (i.e. the excess purchase price) to subsidiary’s those assets whose fair values exceed their book values. What we get after allocation is the goodwill which is essentially same as the difference between subsidiary’s fair value and parent’s proportionate share of net identifiable assets.

ACQUISITION METHOD:

Full Goodwill –> Fair value of entity - Fair Value of Identifiable Net assets (same under IFRS and US GAAP)

Partial Goodwill –> Purchase Price - Proportionate share of Fair Value of Identifiable Net Assets (only under IFRS)

## Saturday, 20 February 2016

### CFA Level 2 - Financial Reporting and Analysis

**Inventory**

LIFO -> FIFO: during time of increasing cost of inventory

Inv↑, COGS↓, NI↑, equity↑, cash ratio↓ (because of additional taxes paid)

LIFO reserve:

the diff. between LIFO inv. carrying amount and amount that would be reported under FIFO

change LIFO to FIFO, impacts cash flow from operating activities only in income taxes paid.

**Long-lived Assets**

capitalised expenditure: Asset↑, investing cash outflow

expensed expenditure : NI↓(NI - expense(1-T)), RE↓, operating cash outflow expense

interest expenditure:

for own use, capitalised interest as part of long-lived asset, expense over time as depreciation expense

for sale, capitalised interest as part of inv. expense as cost of good sales when asset is sold

expense interest reduce oper. cash flow

IFRS:

research expenditure: expense

in process R&D: capitalised

in process R&D: capitalised

development expenditure: can be recog. as asset if feasibility is completed

adjust NI from capitalising to expensing:

expense cost reduce NI in early years

no amortization increase NI in later years

depreciation: NI↓, Asset↓, no impact on cash flow, depreciation does have an indirect affect on cash flow, it affects taxable income and tax payable**Revaluation**

IFRS:

long lived assets can use historical cost model or revaluation model

historical cost model: long lived assets are at cost less accum. depreciation, adjusted for impartment

revaluation model: long lived assets are at fair value

fair value less accum. depreciation and impairment loss

US GAAP:

only historical cost model

revaluation:

carrying amount ↓ -> goes to P/L

carrying amount ↑ -> goes to OCI, revaluation surplus appears in equity

carrying amount ↑ -> asset ↑ and shareholder equity ↑ -> financial leverage ↓

carrying amount ↓ -> NI and asset goes down, return on asset ↑

leverage = assets / equity

carrying amount ↓ -> NI and asset goes down, return on asset ↑

leverage = assets / equity

Impairment

Impairment

IFRS:

- if carrying amount > recoverable amount, need to measure impairment loss

- if carrying amount > recoverable amount, need to measure impairment loss

- recoverable amount: higher of its fair value less cost to sell, or its value in use (discounted future cash flows)

- impairment loss: the difference of carrying amt over recoverable amt

- impairment loss: the difference of carrying amt over recoverable amt

US GAAP:

Two step process

1. recoverable amount: if carrying amount > undiscounted future cash flow, then go to step 2

2. impairment loss is the difference btn fair value and carrying amount

If impairment: asset↓, NI↓, cash flow no effect

for lessee:

balance sheet: leased asset, lease payable

income statement: interest expense on the lease, depreciation expense

CF statement: lease interest expense is an operating cash outflow

lease principal expense (that reduce lease liability) is an financing cash outflow

for lessor:

balance sheet: sale of leased asset, lease receivable

income statement: interest income on the lease, without depreciation expense, without lease revenue

CF statement: increase in lease interest is an operating cash inflow

lease payment received (that reduce lease receivable) is an investing cash inflow

for lessee:

balance sheet:

income statement: lease expense

CF statement: lease expense is an operating cash outflow

for lessor:

balance sheet: assets under operating assets classified in PP&E as capital assets

income statement: lease revenue

finance lease: higher operating cash flow

operating lease: higher return measures in early years

**Leasing****finance lease:**for lessee:

balance sheet: leased asset, lease payable

income statement: interest expense on the lease, depreciation expense

CF statement: lease interest expense is an operating cash outflow

lease principal expense (that reduce lease liability) is an financing cash outflow

for lessor:

balance sheet: sale of leased asset, lease receivable

income statement: interest income on the lease, without depreciation expense, without lease revenue

CF statement: increase in lease interest is an operating cash inflow

lease payment received (that reduce lease receivable) is an investing cash inflow

**operating lease:**for lessee:

balance sheet:

income statement: lease expense

CF statement: lease expense is an operating cash outflow

for lessor:

balance sheet: assets under operating assets classified in PP&E as capital assets

income statement: lease revenue

finance lease: higher operating cash flow

operating lease: higher return measures in early years

**Intercorporate Investments**

*1. investment in financial assets*

typical percentage interest < 20%

4 types:

- held to maturity
- available for sale
- fair value thru P/L

designated as fair value

- loans and receivables

Initially, All investments in financial assets are recognised at fair value, dividends and NI reported in Income statement

held to maturity investment such as debt securities, reported at amortised cost. Any diff, discount or premium, btn fair value and par value is amortised over the life of securities. Amortization affect carrying value of securities.

held for trading, reported at fair value, with unrealised gain/loss reported in P/L

available for sale (AFS), reported at fair value, with unrealised gain or loss reported in OCI. dividends from equities securities are in P/L. For AFS debt securities, under IFRS, foreign exchange gain/loss reported in P/L, remaining portion reported in OCI. Under US GAAP, the total change in fair value reported in OCI.

IFRS generally prohibits reclassification of securities.

held to maturity -> available for sale, if intention change, at time of reclassification, the diff btn amortised cost and fair value reported in OCI

available for sale -> held to maturity, if intention change, fair value become new amortised cost. Any gain/loss is recog. in OCI is amortised to P/L

New standard, IFRS 9, as of December 2012:

*2. investment in associates -> equity method*

typical percentage interest, 20% to 50%

single line item on the income statement, single line item on the balance sheet

earnings/loss proportion to economic ownership

dividends also proportion to economic ownership

asset proportion to economic ownership

revenue not affected

EBIT / Interest Expense not affected

On the income statement, share of net income gain/loss as one line item after EBIT, but before taxes. Dividends are included in interest income.

The equity method is carried at cost, plus its share of post acquisition income, less dividends received

If Equity investment > proportionate share of the

**book value**of the investee's net identifiable assets:

the difference is first allocated to specific assets, then the difference is amortised to the proportionate share of the investee's P/L over the economic life of the assets whose fair value > book value.

Cost of acquisition > proportionate share of the

**fair value**of the net identifiable assets is goodwill. Any remaining diff btn acquisition cost and fair value of net identifiable assets that cannot be allocated to specific assets, is treated as goodwill. Goodwill is not amortised. Goodwill is impaired.

*3. business combinations -> acquisition method*

typical percentage interest > 50%

assets and liabilities of the acquiree measured at fair value at date of acquisition

Measurement of Goodwill:

IFRS: full goodwill: fair value of entity - fair value of identifiable asset,

or partial goodwill: fair value of of consideration(purchase price) - proportion of identifiable net asset

US GAAP: full goodwill only, fair value of entity - fair value of identifiable asset

allocation of excess purchase price: to diff between fair value and book value of assets, remaining of the amount is goodwill

non-controlling (minority) interest: balance sheet

IFRS: proportion of acquiree's measured fair value (full goodwill), or proportionate share of acquiree's net identifiable assets (partial goodwill)

US GAAP : full goodwill only, at proportion of acquiree's measured fair value

Net income is not affected by the accounting method used to account for active investment in other companies --> acquisition method would subtract the minority interest, net effect same as equity method or proportionate method

**Employee Compensation**

Pensions and Other Post-Employment Benefits

defined contributions

defined benefits

defined benefits pension plans:

pension funded status reported on balance sheet

periodic pension cost, change in net pension liability/asset adjusted for employer's contribution

under IFRS

1. service cost (current service cost, past svc cost)->P/L

2. net interest expense/income->P/L

3. remeasurement of net pension liability/asset -> OCI

current service cost: amount of pension obligation increase as employee's service

current service cost = annual pension credit / [(1+r)

^{years until retirement}]

**Multinational Operations**

Translations of Foreign Exchange Financial Stmt:

Current rate method: (All asset/liabilities at current exchange rate)

Temporal method: (Monetary asset/liabilities at current exchange rate)

Parent currency as the functional currency -> use temporal method

foreign currency as the functional currency -> use current rate method

1. Current rate method:

Asset/liabilities at current exchange rate

stockholder equity at historical rate

revenue/expense at average rate

Asset/liabilities at current exchange rate

stockholder equity at historical rate

revenue/expense at average rate

translation adjustment shows in stockholder's equity

2. Temporal method:

Monetary asset/liabilities at current exchange rate

Non-monetary asset/liabilities measured at historical cost at historical exchange rate, measure at current value at date of current rate

stockholder equity at historical rate

revenue/expense at average rate

revenue/expense of COGS, depreciation at exchange rate of related assets

Monetary asset/liabilities at current exchange rate

Non-monetary asset/liabilities measured at historical cost at historical exchange rate, measure at current value at date of current rate

stockholder equity at historical rate

revenue/expense at average rate

revenue/expense of COGS, depreciation at exchange rate of related assets

translation adjustment shows in income statement

**Integrated Financial Statement Analysis**

compare revenue growth to asset growth to receivables growth

selling receivables to 3rd party, company can boost OCF, and DSO goes down

IFRS US GAAP

interest paid: operating/financing operating

interest received: operating/investing operating

dividend received: operating/investing operating

cash flow from non-trading securities -> investing cash flow

cash flow from trading securities -> operating cash flow

Extended DuPont Analysis

NI EBT EBIT

Net profit margin = -----*-------*--------

EBT EBIT Sales

NI EBT EBIT Sales Total Assets

ROE = -----*-------*-------- *--------------- * ------------------------

EBT EBIT Sales Total Assets shareholder equity

cash flow from non-trading securities -> investing cash flow

cash flow from trading securities -> operating cash flow

Extended DuPont Analysis

NI EBT EBIT

Net profit margin = -----*-------*--------

EBT EBIT Sales

NI EBT EBIT Sales Total Assets

ROE = -----*-------*-------- *--------------- * ------------------------

EBT EBIT Sales Total Assets shareholder equity

## Thursday, 18 February 2016

### CFA Level 2 - Quantitative Methods

**Linear Regression**

regression equation :

*Y*=

_{i}*b*

_{0}+

*b*

_{1}

*X*+ ε

_{i}*,*

_{i}*i*= 1, …,

*n*

means (dependent variable – predicted value of dependent variable)

^{2}

Standard Error of Estimates

SEE=⎛⎝⎜⎜⎜⎜⎜∑i=1n(Yi−b‸0−b‸1Xi)2n−2⎞⎠⎟⎟⎟⎟⎟1/2=⎛⎝⎜⎜⎜⎜⎜∑i=1n(ε‸i)2n−2⎞⎠⎟⎟⎟⎟⎟1/2

∑ i=1n(ε‸i)2

It is the sum of squared residuals

**Coefficient of determination**

If we call

*Y*and

then we can measure the explained variation from the regression using the following equation:

**Hypothesis testing**

We will use a 95 percent confidence interval for our test, or we could say that the test has a significance level of 0.05.

The number of degrees of freedom equals the number of observations minus the number of parameters estimated

*t*-test of significance:

t=b‸1−b1sb‸1

The b1 is from the null hypothesis (hypothesized population value of the regression coefficient).

The b1bar is the estimated regression coefficient.

‸.

The

*t*is critical

_{c }*t*-value at the 0.05/0.01 significance level, from the book. The

*t*is calculated. If

*t*is greater than

*t*, then we can reject the null hypothesis.

_{c}s is the standard error of the regression.

For example, the

*t*-statistic is 2.50, and at the 0.05 significance level,

*t*= 2.00; thus we reject the null hypothesis because

_{c}*t*>

*t*. This statement is equivalent to saying that we are 95 percent confident that the interval for the coefficient does not contain the value b1.

_{c}Often, financial analysts report the

*p*-value or probability value for a particular hypothesis. The

*p*-value is the smallest level of significance at which the null hypothesis can be rejected.

For example, if the

*p*-value is 0.005, we can reject the hypothesis that the true parameter is equal to 0 at the 0.5 percent significance level (99.5 percent confidence).

**Analysis of Variance (ANOVA)**

Total SS = Regression SS + Residual SS

Regression SS:

Total SS:

F-test

The

*F*-test for determining whether the slope coefficient equals to 0 is based on an

*F*-statistic.

The

*F*-statistic measures how well the regression equation explains the variation in the dependent variable.

If the independent variable explains little of the variation in the dependent variable, the value of the

*F*-statistic will be very small.

F statistic: Regression MSS / Residual MSS

MSS: means sum of squares (SS divided by df)

**Confidence Interval of Regression Coefficient (Interval Prediction)**

CI = coeff + t

_{c}* SE

t

_{c}is from the confidence level. For large number of df:

90% confidence interval will have alpha value of 0.10 (two tail), and tc of 1.645

95% confidence interval will have alpha value of 0.05 (two tail), and tc of 1.96

99% confidence interval will have alpha value of 0.01 (two tail), and tc of 2.576

The end.

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