Fundamentals of Finance: Investments, Corporate Finance, and Financial Institutions PDF by Mustafa Akan and Arman Teksin Tevfik

By

Fundamentals of Finance: Investments, Corporate Finance, and Financial Institutions

By Mustafa Akan and Arman Teksin Tevfik

Fundamentals of Finance

Contents

About the Authors VII

List of Figures XV

List of Tables XVII

Preface XXI

Part I: Introduction to Finance, Money and Interest Rates, and Time Value of Money

1 Introduction to Finance 3

1.1 Introduction 3

1.2 What is Finance? 3

1.3 Why Study Finance? 4

1.4 Eleven Principles of Finance 5

1.5 The Financial System and its Functions 6

1.6 Types of Financial Institutions 8

1.7 Types of Financial Markets 10

1.8 Types of Securities 11

1.9 Summary 12

2 Money and Interest Rates 13

2.1 Introduction 13

2.2 Overview of Monetary System 13

2.3 The Definitions of Money Supply and Control of Money Supply 14

2.4 Money Supply and Economic Activity 16

2.5 Interest: Cost of Money 18

2.6 Structure of Interest Rates 20

2.7 The Yield Curve 22

2.8 Central Banks 26

2.9 Central Bank Balance Sheet 27

2.10 Banking Regulation and Supervision 29

2.11 Summary 29

3 Time Value of Money 31

3.1 Introduction 31

3.2 Conceptual Background 31

3.3 Simple Interest 32

3.4 Compound Interest: Future Value Calculations 32

3.5 Compound Interest: Present Value Calculations 34

3.6 Annuities 35

3.7 Perpetuities and Uneven Payment Streams 37

3.8 More Frequent Compounding 38

3.9 Continuous Compounding 39

3.10 Amortized Loans 40

3.11 Sinking Fund 41

3.12 Summary 43

Part II: Investments and Portfolio Management

4 Bonds and the Markets 47

4.1 Introduction 47

4.2 Bond Terminology and Features of Bond Markets 47

4.3 Bond Valuation 51

4.4 Pure Discount Bonds 54

4.5 Bond Price Changes 55

4.6 Measuring Bond Price Volatility: Duration 56

4.7 Convexity 59

4.8 Immunization 60

4.9 Bond Portfolio Management Strategies 62

4.10 Bond Portfolio Performance Measurement 64

4.11 Summary 64

5 Stocks and the Markets 66

5.1 Introduction 66

5.2 Types of Common Stock and Stockholders’ Rights 66

5.3 Inside Information and Stock Transactions 68

5.4 Initial Public Offering (IPO) and Costs of IPOs 70

5.5 Trading Securities and Trading Commissions 73

5.6 Stock Market Indices 74

5.7 Evaluating the Corporation 75

5.8 Stock Valuation: Dividend Discount Model (DDM) 76

5.9 Stock Valuation: Relative Valuation Model 81

5.10 Stock Valuation: Free Cash Flow to Firm Method 82

5.11 Summary 87

6 Risk, Rate of Return, and Portfolio Theory 89

6.1 Introduction 89

6.2 Efficient Markets 89

6.3 Behavioral Finance 92

6.4 Measures of Return and Risk (The Case of a Single Security) 92

6.5 Historical Risk and Return for Asset Classes 97

6.6 Measures of Return and Risk (The Case of a Portfolio) 99

6.7 Investment Analysis and Portfolio Management 111

6.8 Summary 117

7 Basic Derivatives 119

7.1 Introduction 119

7.2 Forward Contracts 119

7.3 Futures 121

7.4 Options 130

7.5 Swaps 149

7.6 Credit Default Swap 151

7.7 Summary 152

Part III: Financial Management/Corporate Finance

8 Basics of Corporate Finance 157

8.1 Introduction 157

8.2 Overview of Corporate Finance 157

8.3 Financial Manager 158

8.4 Business Organizations 159

8.5 Mission and Vision 161

8.6 The Goal of the Firm, Agency Relationship, Corporate Governance, and Ethics 162

8.7 Summary 164

9 Financial Analysis and Financial Planning 165

9.1 Introduction 165

9.2 Overview of Financial Statements 165

9.3 Annual Reports 166

9.4 Balance Sheet (Statement of Financial Position) 166

9.5 Income Statement 168

9.6 Cash Flow Statement 170

9.7 Free Cash Flow to Firm 171

9.8 Economic Value Added (EVA) and Market Value Added (MVA) 172

9.9 Overview of Financial Statement Analysis 174

9.10 Ratio Analysis 176

9.11 Long-Term Financial Planning 185

9.12 Cost-Volume-Profit Analysis 189

9.13 Operating and Financial Leverage 191

9.14 Summary 194

10 The Basics of Capital Budgeting 196

10.1 Introduction 196

10.2 Data and Stages in Capital Budgeting 196

10.3 Capital Budgeting Techniques 197

10.4 Separating Project Cash Flows 203

10.5 Approaches to Estimating Project Cash Flows 204

10.6 Risk Considerations 208

10.7 Real-Options Analysis 212

10.8 Mergers and Acquisitions (M&A) 218

10.9 Summary 225

11 The Cost of Capital, Capital Structure, and Distributions

to Stockholders 227

11.1 Introduction 227

11.2 Capital Structure 227

11.3 Required Rate of Return and the Cost of Capital 228

11.4 Weighted Average Cost of Capital 230

11.5 Determining the Optimal Capital Structure 231

11.6 Distributions to Shareholders: Dividends and Repurchases 237

11.7 Summary 244

12 Managing Working Capital 246

12.1 Introduction 246

12.2 Working Capital and Working Capital Requirement 246

12.3 Cash Budgets 249

12.4 Cash Management 251

12.5 Accounts Receivable Management and Credit Analysis 254

12.6 Inventory Management 255

12.7 Summary 259

13 Short-Term and Intermediate-Term Business Financing 261

13.1 Introduction 261

13.2 Strategies for Financing Working Capital 261

13.3 Factors Affecting Short-Term Financing 263

13.4 Short-Term Financing Sources 264

13.5 Asset-Based Lending for Short-Term Financing 267

13.6 Intermediate-Term Financing 269

13.7 Summary 277

14 International Financial Management 278

14.1 Introduction 278

14.2 International Monetary System 278

14.3 Balance of Payments 279

14.4 European Unification 284

14.5 Currency Exchange Markets and Rates 286

14.6 International Parity Relations 289

14.7 Arbitrage 293

14.8 Multinational Corporations (MNCs) 294

14.9 Investing Overseas 295

14.10 International Capital Budgeting 296

14.11 Exposure to Exchange Rate Risk 299

14.12 Conducting International Business 300

14.13 International Financial Markets 302

14.14 Export Financing 303

14.15 An Example of Trade Financing: Letter of Credit 308

14.16 International Institutions 308

14.17 Summary 312

Part IV: Management of Financial Institutions

15 Management of Financial Institutions: The Basics 317

15.1 Introduction 317

15.2 The Bank Balance Sheet and Income Statement 317

15.3 Measuring Bank Performance 322

15.4 Basics of Banking: T-Account Analysis 328

15.5 General Principles of Bank Management 329

15.6 Off-Balance-Sheet Activities 336

15.7 Summary 337

16 Risk Management in Financial Institutions 339

16.1 Introduction 339

16.2 The Risks 339

16.3 Managing Credit Risk 340

16.4 Managing Interest-Rate Risk 342

16.5 Market Risk Management 348

16.6 Foreign Exchange or Currency Risk 351

16.7 Technology and Operational Risk 353

16.8 Country (Sovereign) Risk 353

16.9 Liquidity Risk 354

16.10 Hedging with Financial Derivatives 355

16.11 Summary 360

Appendix A: Basic Calculus 361

Appendix B: Introduction to Matrix Algebra 369

Appendix C: Review of Statistics 375

Appendix D: Time Value of Money Tables 387

Appendix E: Cumulative Standard Normal Distribution Table 397

References 399

Index 403

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