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Corporate Finance Principles & Practice PDF

526 Pages·2011·4.65 MB·English
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The material is covered in a way which is easy for students to understand… The quality of the questions was sound and they were well-focused… C fourth edition References and recommended reading were some of the best I have encountered. Penny Belk, Lecturer in Finance, Loughborough University Business School o Corporate Finance The very good case studies and the examples create suitable links between the theoretical r concepts examined and real life cases. p Dr Panagiotis Andrikopoulos, Senior Lecturer in Finance, Department of Acounting and Finance, De Montfort University o Principles & Practice The fourth edition of Corporate Finance: Principles & Practice – now in full colour throughout – is a concise introduction to r the core concepts and key topic areas of corporate fi nance. It offers integrated coverage of the three key decision areas in a fi nance – investment, fi nancing and dividends – using a clear and logical framework for study and incorporates a wide range of topical real-world examples, allowing students to relate theory to practice. This book provides the ideal structure for any t corporate fi nance course, particularly where there are time constraints due to modular delivery. e Corporate Finance: Principles & Practice is suitable for specialist and non-specialist corporate and business fi nance courses at undergraduate, DMS and MBA/management at Masters level. Denzil Watson and Antony Head F Key features ● Provides a student-friendly approach to the key topics in corporate fi nance. i ● Introduces appropriate tools and techniques for the fi nancial manager. n ● Vignettes featuring well-known companies to illustrate topics. ● Worked examples to consolidate learning points. a ● Wide range of question material, both for practice and group discussion. n New features ● Full-colour format with an excellent range of features, including key points referenced throughout the text, to help student c learning and development. ● Analysis of growing areas such as value management and shareholder value. e ● Questions that encourage critical thinking. ● A downloadable web supplement is available for lecturers and students at www.pearsoned.co.uk/watsonhead. D Denzil Watson BA (Economics), MA (Money, Banking and Finance) and Antony Head BSc (Chemical Engineering), MBA, e n PGCFHE are both Senior Lecturers in the Faculty of Organisation and Management at Sheffi eld Hallam University. z They have extensive experience of teaching corporate fi nance, managerial fi nance and strategic fi nancial management il in a wide range of courses at undergraduate, postgraduate and professional level. W a t s The best aspect of the book is its accessibility and conciseness – o unlike many books in the fi eld it is a readable text which gets the main points across quickly. n a Kerry Sullivan, Senior Tutor Finance, School of Management, Surrey University n d Overall the book’s content is very well balanced, covering all the major areas within the corporate fi nance A fi eld to a suitable depth and level for the intended audience. The writing style is also extremely engaging. n t o Richard Trafford, Senior Lecturer in Finance, Department of Accounting and Law, University of Portsmouth n y The book is of an appropriate level for students on the MBA course…They fi nd the content of the book is not too H daunting and more importantly the book is of an appropriate length for a module of one semester. e a Mike Buckle, Senior Lecturer, School of Business and Economics, University of Swansea d fourth ISBN 0-273-70644-6 edition cover photograph © Denzil Watson 9 780273 706441 www.pearsoned.co.uk/watsonhead www.pearson-books.com 0273706446_04_COVER.indd 1 27/9/06 09:19:56 CORF_A01.qxd 10/23/06 12:42 PM Page i Corporate Finance Principles & Practice Visit the Corporate Finance: Principles & Practice, fourth edition Companion Website at www. pearsoned.co.uk/watsonhead to find valuable student learning material including: ■ Multiple choice questions to help test your learning ■ Links to relevant sites on the web CORF_A01.qxd 10/23/06 12:42 PM Page ii We work with leading authors to develop the strongest educational materials in business and finance, bringing cutting-edge thinking and best learning practice to a global market. Under a range of well-known imprints, including Financial Times Prentice Hall, we craft high quality print and electronic publications which help readers to understand and apply their content, whether studying or at work. To find out more about the complete range of our publishing, please visit us on the World Wide Web at: www.pearsoned.co.uk CORF_A01.qxd 10/23/06 12:42 PM Page iii fourth edition Corporate Finance Principles & Practice Denzil Watson and Antony Head Sheffield Hallam University CORF_A01.qxd 10/23/06 12:42 PM Page iv Tony would like to thank Aidan and Rosemary for their love and courage, and dedicates this book to the memory of Lesley Head (1952–2005), dear wife and mother. Denzil would like to thank Dora, Hugh and Doreen for their support and care. Pearson Education Limited Edinburgh Gate Harlow Essex CM20 2JE England and Associated Companies throughout the world Visit us on the World Wide Web at: www.pearsoned.co.uk First edition published under the Financial Times Pitman Publishing imprint in 1998. Second edition published under the Financial Times Prentice Hall imprint in 2001 Third edition published 2004 Fourth edition published 2007 © Pearson Education Limited 2007 The rights of Hugh Denzil Watson and Antony Head to be identified as authors of this work have been asserted by them in accordance with the Copyright, Designs and Patents Act 1988. All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without either the prior written permission of the publisher or a licence permitting restricted copying in the United Kingdom issued by the Copyright Licensing Agency Ltd, Saffron House, 6–10 Kirby Street, London EC1N 8TS. All trademarks used herein are the property of their respective owners. The use of any trademark in this text does not vest in the author or publisher any trademark ownership rights in such trademarks, nor does the use of such trademarks imply any affiliation with or endorsement of this book by such owners. ISBN-13: 978-0-273-70644-1 ISBN-10: 0-273-70644-6 British Library Cataloguing-in-Publication Data A catalogue record for this book is available from the British Library Library of Congress Cataloging-in-Publication Data A catalogue record for this book is available from the Library of Congress 10 9 8 7 6 5 4 3 2 1 10 09 08 07 06 Typeset in 10/13pt Sabonby 73 Printed and bound by Graficas Estella, Bilbao, Spain The publisher’s policy is to use paper manufactured from sustainable forests. CORF_A01.qxd 10/23/06 12:42 PM Page v Contents Preface and acknowledgements xii Guided tour of the book xiv 1 The finance function 1 LEARNING OBJECTIVES · INTRODUCTION 1.1 Two key concepts in corporate finance 2 1.2 The role of the financial manager 5 1.3 Corporate objectives 8 1.4 How is shareholder wealth maximised? 10 1.5 Agency theory 11 Vignette 1.1 Shrinking share options 16 1.6 Corporate governance 18 Vignette 1.2 Most companies ‘flout code on corporate governance’ 20 1.7 Conclusion 21 Vignette 1.3 Higgs review sets out boardroom code 22 Vignette 1.4 Bonuses undermining pay link with performance 23 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 2 Capital markets, market efficiency and ratio analysis 29 LEARNING OBJECTIVES · INTRODUCTION 2.1 Sources of business finance 30 2.2 Capital markets 33 2.3 Capital market efficiency 34 2.4 Assessing financial performance 41 Vignette 2.1 If only investors could compare like with like 44 2.5 Conclusion 58 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 3 Short-term finance and the management of working capital 67 LEARNING OBJECTIVES · INTRODUCTION 3.1 The objectives of working capital management 68 3.2 Working capital policies 68 v CORF_A01.qxd 10/23/06 12:42 PM Page vi Contents 3.3 Working capital and the cash conversion cycle 72 Example Calculating working capital required 72 3.4 Overtrading 74 3.5 The management of stock 75 Example Using the EOQ model 77 3.6 The management of cash 79 3.7 The management of debtors 82 Example Evaluating a change in debtor policy 84 Example Cost–benefit analysis of factoring 86 3.8 Conclusion 86 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 4 Long-term finance: equity finance 93 LEARNING OBJECTIVES · INTRODUCTION 4.1 Equity finance 94 4.2 The stock exchange 96 Vignette 4.1 IPOs the chosen route as equity markets advance 98 Vignette 4.2 Laura Ashley rights issue shunned 100 Vignette 4.3 Nightfreight to go private via £35m management buy-out 102 4.3 Rights issues 103 Example Calculation of the theoretical ex rights price 104 Example Wealth effect of a rights issue 105 Vignette 4.4 Opinions split on Pearson discounted rights issue 108 4.4 Scrip issues, share splits, scrip dividends and share repurchases 108 Vignette 4.5 3i shareholders to reap £500m 110 4.5 Preference shares 111 4.6 Conclusion 112 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 5 Long-term finance: debt finance, hybrid finance and leasing 119 LEARNING OBJECTIVES · INTRODUCTION 5.1 Loan stock and debentures 120 Vignette 5.1 Bayer’s €2bn in convertibles 122 Vignette 5.2 Ahold looks for breathing space 124 Vignette 5.3 Hellas’ €500m Pik 125 Vignette 5.4 New issues: Denmark and VNU meet strong demand 126 5.2 Bank and institutional debt 126 Example Interest and capital elements of annual loan payments 126 5.3 International debt finance 127 5.4 Convertible bonds 128 Example Convertible bond terms 129 vi CORF_A01.qxd 10/23/06 12:42 PM Page vii Contents 5.5 Warrants 130 5.6 The valuation of fixed-interest bonds 131 Example Valuation of an irredeemable bond 132 Example Valuation of a redeemable bond with annual interest 132 Example Valuation of a redeemable bond with semi-annual interest 133 5.7 The valuation of convertible bonds 133 Example Valuation of a convertible bond 134 5.8 Leasing 136 Vignette 5.5 Leasing looks like a worthwhile option 139 Example Evaluation of leasing versus borrowing to buy 141 5.9 Conclusion 143 Vignette 5.6 Independent’s rights issue delivers a reality check 144 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 6 An overview of investment appraisal methods 152 LEARNING OBJECTIVES · INTRODUCTION 6.1 The payback method 153 6.2 The return on capital employed method 155 Example Calculation of the return on capital employed 156 6.3 The net present value method 158 Example Calculation of the net present value 159 6.4 The internal rate of return method 162 Example Calculation of internal rates of return 163 6.5 A comparison of the NPV and IRR methods 166 6.6 The profitability index and capital rationing 170 6.7 The discounted payback method 173 6.8 Conclusion 174 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 7 Investmen t appraisal: applications and risk 182 LEARNING OBJECTIVES · INTRODUCTION 7.1 Relevant project cash flows 183 7.2 Taxation and capital investment decisions 184 Example NPV calculation involving taxation 187 7.3 Inflation and capital investment decisions 188 Example NPV calculation involving inflation 190 7.4 Investment appraisal and risk 192 Example Application of sensitivity analysis 193 7.5 Empirical investigations of investment appraisal 199 7.6 Conclusion 201 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING vii CORF_A01.qxd 10/23/06 12:42 PM Page viii Contents 8 Portfolio theory and the capital asset pricing model 209 LEARNING OBJECTIVES · INTRODUCTION 8.1 The measurement of risk 210 8.2 The concept of diversification 213 8.3 Investor attitudes to risk 217 8.4 Markowitz’s portfolio theory 219 8.5 Introduction to the capital asset pricing model 222 8.6 Using the CAPM to value shares 223 Vignette 8.1 Sizing up the historical equity risk premium 230 8.7 Empirical tests of the CAPM 231 8.8 Conclusion 234 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 9 The cost of capital and capital structure 241 LEARNING OBJECTIVES · INTRODUCTION 9.1 Calculating the cost of individual sources of finance 242 9.2 Calculating the weighted average cost of capital 246 Example Calculation of the weighted average cost of capital 247 9.3 Average and marginal cost of capital 249 9.4 The CAPM and investment appraisal 250 Example The CAPM in the investment appraisal process 253 9.5 Practical problems with calculating WACC 255 9.6 WACC in the real world 257 9.7 Gearing: its measurement and significance 258 Vignette 9.1 Leeds defends Woodgate sale 260 9.8 The concept of an optimal capital structure 261 9.9 The traditional approach to capital structure 262 9.10 Miller and Modigliani (I): the net income approach 264 Example Arbitrage process using two companies 265 9.11 Miller and Modigliani (II): corporate tax 267 9.12 Market imperfections 267 9.13 Miller and personal taxation 270 9.14 Pecking order theory 271 9.15 Does an optimal capital structure exist? A conclusion 272 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 10 Dividend policy 282 LEARNING OBJECTIVES · INTRODUCTION 10.1 Dividends: operational and practical issues 283 10.2 The effect of dividends on shareholder wealth 286 10.3 Dividend irrelevance 286 10.4 Dividend relevance 288 viii CORF_A01.qxd 10/23/06 12:42 PM Page ix Contents Vignette 10.1 Prudential down 18% on dividend fears 289 Vignette 10.2 M&S buoyed by relief 290 Example Calculation of share price using dividend growth model 291 10.5 Dividend relevance or irrelevance? 293 10.6 Dividend policies 293 Vignette 10.3 FT MONEY: Dubious dividend decisions that drive me to despair 294 10.7 Alternatives to cash dividends 297 Vignette 10.4 Cadbury defends the bid price 298 Vignette 10.5 Share buybacks rise 92% in US 299 10.8 Empirical evidence on dividend policy 301 10.9 Conclusion 302 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 11 Mergers and takeovers 311 LEARNING OBJECTIVES · INTRODUCTION 11.1 The terminology of mergers and takeovers 312 11.2 Justifications for acquisitions 313 Example Boot-strapping 316 11.3 Trends in takeover activity 318 Vignette 11.1 Water faces up to rising debt levels 320 11.4 Target company valuation 321 Example Takeover (Simpson and Stant) 321 11.5 The financing of acquisitions 328 Vignette 11.2 Morrison bid value drops to £2bn 330 11.6 Strategic and tactical issues 332 Vignette 11.3 The Takeover Panel cracks down on Indigo 335 Vignette 11.4 More EU member states opt for ‘poison pill’ 338 Vignette 11.5 No slanging match as BPB attempts to prove that its case is mathematically correct 339 11.7 Divestment 340 Vignette 11.6 Just a mention of spin-off can unlock value for shareholders 342 Vignette 11.7 RSA’s health insurer in £147m MBO 343 11.8 Empirical research on acquisitions 345 11.9 Conclusion 348 KEY POINTS · SELF-TEST QUESTIONS · QUESTIONS FOR REVIEW · QUESTIONS FOR DISCUSSION · REFERENCES · RECOMMENDED READING 12 Risk management 359 LEARNING OBJECTIVES · INTRODUCTION 12.1 Interest and exchange rate risk 360 Vignette 12.1 Balance sheets left reeling by the Real 361 Vignette 12.2 Daimler increases hedging against dollar 363 ix

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Most books are stored in the elastic cloud where traffic is expensive. For this reason, we have a limit on daily download.