, CHAPTER m1
Introduction mto mCorporate mFinance
The mvalues mshown min mthe msolutions mmay mbe mrounded mfor mdisplay mpurposes. mHowever, mthe manswers
mweremderived musing ma mspreadsheet mwithout many mintermediate mrounding.
Answers mto mProblem mSets
1. a. real
b. executive mairplanes
c. brand mnames
d. financial
e. bonds
*f. investment mor mcapital mexpenditure
*g. capital mbudgeting mor minvestment
h. financing
*Note mthat mf mand mg mare minterchangeable min mthe mquestion.
Est mtime: m01-05
2. A mtrademark, ma mfactory, mundeveloped mland, mand myour mwork mforce m(c, md, me, mand mg) mare mall
mreal massets. mReal massets mare midentifiable mas mitems mwith mintrinsic mvalue. mThe mothers min mthe
mlist mare mfinancial massets,mthat mis, mthese massets mderive mvalue mbecause m of ma mcontractual
mclaim.
Est mtime: m01-05
3. a. Financial massets, msuch mas mstocks mor mbank mloans, mare mclaims mheld mby m investors.
mCorporations msell mfinancial massets mto mraise mthe mcash mto minvest min mreal massets
msuch mas mplantmand mequipment. mSome mreal massets mare mintangible.
b. Capital mexpenditure mmeans minvestment min mreal massets. mFinancing mmeans mraising
mthe m cashmfor mthis minvestment.
c. The mshares mof mpublic mcorporations mare mtraded mon mstock mexchanges mand mcan mbe
mpurchasedmby ma mwide mrange mof minvestors. mThe mshares mof mclosely mheld mcorporations
mare mnot m publicly mtraded mand mare m held mby ma msmall mgroup mof mprivate minvestors.
d. Unlimited mliability: mInvestors mare mresponsible mfor mall mthe mfirm‘s mdebts. mA msole
mproprietor mhasmunlimited mliability. mInvestors min mcorporations mhave mlimited mliability.
mThey mcan mlose mtheir minvestment, mbut mno mmore.
Est mtime: m01-05
,4. Items mc mand md mapply mto mcorporations. mBecause mcorporations mhave mperpetual mlife, mownership
mcan mbemtransferred mwithout maffecting moperations, mand mmanagers mcan mbe mfired mwith mno meffect
mon mownership. mOther mforms mof mbusiness mmay mhave munlimited mliability mand mlimited mlife.
Est mtime: m01-05
5. Separation mof mownership mfacilitates mthe mkey mattributes mof ma mcorporation, mincluding m limited
mliability mforminvestors, mtransferability mof mownership, ma mseparate mlegal mpersonality mof mthe
mcorporation, mand mdelegated mcentralized mmanagement. mThese mfour mattributes mprovide
msubstantial mbenefit mfor minvestors, m including m the m ability mto m diversify mtheir m investment m among
m many muncorrelated m returns—a mvery mvaluable mtool mexplored min mlater mchapters. mAlso, mthese
mattributes mallow minvestors mto mquickly mexit,menter, mor mshort msell man minvestment, mthereby
mgenerating man mactive mliquid mmarket mfor mcorporations.
However, mthese mpositive maspects malso mintroduce msubstantial mnegative mexternalities mas mwell.
m The mseparation mof mownership mfrom mmanagement mtypically mleads mto magency mproblems,
mwhere mmanagersmprefer m to m consume m private m perks m or mmake m other m decisions m for m their
m private m benefit—rather m than mmaximize mshareholder mwealth. m Shareholders mtend mto mexercise
mless moversight mof meach mindividual minvestment mas mtheir mdiversification mincreases. mFinally, mthe
mcorporation‘s mseparate mlegal mpersonalitymmakes mit mdifficult mto menforce maccountability mif mthey
m externalize mcosts m onto msociety.
Est mtime: m01-05
6. Shareholders mwill monly mvote mto mmaximize mshareholder mwealth. mShareholders mcan mmodify
mtheir mpattern mof mconsumption mthrough mborrowing mand mlending, mmatch mrisk mpreferences,
mand mhopefullymbalance mtheir mown mcheckbooks m(or mhire ma mqualified mprofessional mto mhelp
mthem m with mthese mtasks).
Est mtime: m01-05
7. If mthe minvestment mincreases mthe mfirm‘s mwealth, mit mincreases mthe mfirm‘s mshare mvalue. mMs.
mEspinozamcould mthen msell msome mor mall mthese mmore mvaluable mshares mto mprovide mfor mher
mretirement mincome.
Est mtime: m01-05
8. a. Assuming mthat mthe mencabulator mmarket mis mrisky, man m8% mexpected
mreturn monmthe mF&H mencabulator minvestments mmay mbe minferior mto ma
m4% mreturn mon mU.S.
government msecurities, mdepending mon mthe mrelative mrisk mbetween mthe mtwo massets.
b. Unless mthe mfinancial massets mare mas msafe mas mU.S. mgovernment msecurities, mtheir mcost
m of mcapitalmwould mbe mhigher. mThe mCFO m could mconsider mexpected mreturns mon massets
mwith msimilar mrisk.
Est mtime: m06-10
9. Managers mwould mact min mshareholders‘ minterests mbecause mthey mhave ma mlegal mduty mto mact min
mtheir minterests. m Managers m may malso m receive m compensation— m bonuses, m stock, m and m option
m payouts m with mvalue mtied m(roughly) mto mfirm mperformance. mManagers mmay mfear mpersonal
mreputational mdamage mfrom mnot macting min mshareholders‘ minterests. mAnd mmanagers mcan mbe
mfired mby mthe mboard mof mdirectors m (electedmby mshareholders). m If mmanagers m still mfail mto mact m in
, m shareholders‘ minterests, mshareholders mmay msell mtheir mshares, mlowering mthe mstock mprice mand
m potentially mcreating mthe mpossibility mof ma mtakeover, mwhich mcan magain mlead mto mchanges min mthe
mboard mof mdirectors mand m senior mmanagement.
Est mtime: m01-05
Introduction mto mCorporate mFinance
The mvalues mshown min mthe msolutions mmay mbe mrounded mfor mdisplay mpurposes. mHowever, mthe manswers
mweremderived musing ma mspreadsheet mwithout many mintermediate mrounding.
Answers mto mProblem mSets
1. a. real
b. executive mairplanes
c. brand mnames
d. financial
e. bonds
*f. investment mor mcapital mexpenditure
*g. capital mbudgeting mor minvestment
h. financing
*Note mthat mf mand mg mare minterchangeable min mthe mquestion.
Est mtime: m01-05
2. A mtrademark, ma mfactory, mundeveloped mland, mand myour mwork mforce m(c, md, me, mand mg) mare mall
mreal massets. mReal massets mare midentifiable mas mitems mwith mintrinsic mvalue. mThe mothers min mthe
mlist mare mfinancial massets,mthat mis, mthese massets mderive mvalue mbecause m of ma mcontractual
mclaim.
Est mtime: m01-05
3. a. Financial massets, msuch mas mstocks mor mbank mloans, mare mclaims mheld mby m investors.
mCorporations msell mfinancial massets mto mraise mthe mcash mto minvest min mreal massets
msuch mas mplantmand mequipment. mSome mreal massets mare mintangible.
b. Capital mexpenditure mmeans minvestment min mreal massets. mFinancing mmeans mraising
mthe m cashmfor mthis minvestment.
c. The mshares mof mpublic mcorporations mare mtraded mon mstock mexchanges mand mcan mbe
mpurchasedmby ma mwide mrange mof minvestors. mThe mshares mof mclosely mheld mcorporations
mare mnot m publicly mtraded mand mare m held mby ma msmall mgroup mof mprivate minvestors.
d. Unlimited mliability: mInvestors mare mresponsible mfor mall mthe mfirm‘s mdebts. mA msole
mproprietor mhasmunlimited mliability. mInvestors min mcorporations mhave mlimited mliability.
mThey mcan mlose mtheir minvestment, mbut mno mmore.
Est mtime: m01-05
,4. Items mc mand md mapply mto mcorporations. mBecause mcorporations mhave mperpetual mlife, mownership
mcan mbemtransferred mwithout maffecting moperations, mand mmanagers mcan mbe mfired mwith mno meffect
mon mownership. mOther mforms mof mbusiness mmay mhave munlimited mliability mand mlimited mlife.
Est mtime: m01-05
5. Separation mof mownership mfacilitates mthe mkey mattributes mof ma mcorporation, mincluding m limited
mliability mforminvestors, mtransferability mof mownership, ma mseparate mlegal mpersonality mof mthe
mcorporation, mand mdelegated mcentralized mmanagement. mThese mfour mattributes mprovide
msubstantial mbenefit mfor minvestors, m including m the m ability mto m diversify mtheir m investment m among
m many muncorrelated m returns—a mvery mvaluable mtool mexplored min mlater mchapters. mAlso, mthese
mattributes mallow minvestors mto mquickly mexit,menter, mor mshort msell man minvestment, mthereby
mgenerating man mactive mliquid mmarket mfor mcorporations.
However, mthese mpositive maspects malso mintroduce msubstantial mnegative mexternalities mas mwell.
m The mseparation mof mownership mfrom mmanagement mtypically mleads mto magency mproblems,
mwhere mmanagersmprefer m to m consume m private m perks m or mmake m other m decisions m for m their
m private m benefit—rather m than mmaximize mshareholder mwealth. m Shareholders mtend mto mexercise
mless moversight mof meach mindividual minvestment mas mtheir mdiversification mincreases. mFinally, mthe
mcorporation‘s mseparate mlegal mpersonalitymmakes mit mdifficult mto menforce maccountability mif mthey
m externalize mcosts m onto msociety.
Est mtime: m01-05
6. Shareholders mwill monly mvote mto mmaximize mshareholder mwealth. mShareholders mcan mmodify
mtheir mpattern mof mconsumption mthrough mborrowing mand mlending, mmatch mrisk mpreferences,
mand mhopefullymbalance mtheir mown mcheckbooks m(or mhire ma mqualified mprofessional mto mhelp
mthem m with mthese mtasks).
Est mtime: m01-05
7. If mthe minvestment mincreases mthe mfirm‘s mwealth, mit mincreases mthe mfirm‘s mshare mvalue. mMs.
mEspinozamcould mthen msell msome mor mall mthese mmore mvaluable mshares mto mprovide mfor mher
mretirement mincome.
Est mtime: m01-05
8. a. Assuming mthat mthe mencabulator mmarket mis mrisky, man m8% mexpected
mreturn monmthe mF&H mencabulator minvestments mmay mbe minferior mto ma
m4% mreturn mon mU.S.
government msecurities, mdepending mon mthe mrelative mrisk mbetween mthe mtwo massets.
b. Unless mthe mfinancial massets mare mas msafe mas mU.S. mgovernment msecurities, mtheir mcost
m of mcapitalmwould mbe mhigher. mThe mCFO m could mconsider mexpected mreturns mon massets
mwith msimilar mrisk.
Est mtime: m06-10
9. Managers mwould mact min mshareholders‘ minterests mbecause mthey mhave ma mlegal mduty mto mact min
mtheir minterests. m Managers m may malso m receive m compensation— m bonuses, m stock, m and m option
m payouts m with mvalue mtied m(roughly) mto mfirm mperformance. mManagers mmay mfear mpersonal
mreputational mdamage mfrom mnot macting min mshareholders‘ minterests. mAnd mmanagers mcan mbe
mfired mby mthe mboard mof mdirectors m (electedmby mshareholders). m If mmanagers m still mfail mto mact m in
, m shareholders‘ minterests, mshareholders mmay msell mtheir mshares, mlowering mthe mstock mprice mand
m potentially mcreating mthe mpossibility mof ma mtakeover, mwhich mcan magain mlead mto mchanges min mthe
mboard mof mdirectors mand m senior mmanagement.
Est mtime: m01-05
