STUDY GUIDE SHORT DESCRIPTION (SUB)TOPICS ADDRESSED IN THIS COURSE
Note: This list maybe subject to changes during the course! The information
for each topic is definitive AFTER the lecture on that specific topic.
Topic A Introduction: Market balance Sheet
A1. Overall framework
- overall framework: business risk, finance risk, equity and credit risk measurement, expected return for equity,
expected return for debt, cost of capital WACC, comparison ROIC and WACC etc.
- proxies for LT financing risk and short term financing risk
- definition of risk: two fundamental different approaches (debt investor’s perspective downside, shareholders
perspective downward risk and upside potential (volatility)
A2. Market Balance Sheet versus Book Balance Sheet
- Concept of Market Balance Sheet versus Book Balance Sheet
- HEMA case
EXAM – Chapter 3 Fundamental Principles of Value Creation, in McKinsey Valuation
Valuation : measuring and managing the value of companies | VU Library (worldcat.org)
Topic B Business Model Analysis
B1. Profitability Analysis
- ratio analysis: 6 classes of ratio’s
- objectives ratio analysis, how to reveal information ratio analysis (benchmark and time series)
- analysis concepts: Dupont analysis, CCC (purpose of each concept)
B2. Analysis Working Capital Management
- 3 types of cash flows
- typical numbers for CCC (E&Y study). Differences between sector, countries.
- different measures to improve working capital management (make or buy, SCF etc)
- Concept of Supply Chain Finance
- Trends in working capital / TA over time plus trend in (working capital – ST debt -cash / TA)
- Trend in cash holdings
- motivations to hold cash
Required pre-knowledge: Berk and DeMarzo, chapter 26 – 27
EXAM – Standard text books on Corporate Finance. Basics on short term finance and working capital
management (for example Berk and DeMarzo chapter 26 – 27).
EXAM – Chapter 12 and 13 Analyzing Performance and Forecasting Performance, in McKinsey Valuation
Valuation : measuring and managing the value of companies | VU Library (worldcat.org)
EXAM - Supply Chain Fundamentals. This brochure from PrimeRevenue (consultant and service provider) gives
an overview on Supply Chain Finance. Study this brochure with the SCF case (Procter & Gamble) in the back of
your mind.
https://primerevenue.com/wp-content/uploads/2019/01/WP-SCFFundamentals.pdf
Support lectures - JPMorgen - working capital report - 2022
https://www.jpmorgan.com/content/dam/jpm/treasury-services/documents/working-capital-report-2022.pdf
Support lectures - EY all tied up working capital management 2019
https://assets.ey.com/content/dam/ey-sites/ey-com/en_gl/topics/transaction-advisory-services/transactions-
pdfs/ey-working-capital-report-2019.pdf
Support lectures - PWC working capital survey 2020-2021
https://www.pwc.co.uk/business-restructuring/pdf/working-capital-report.pdf
Topic C Capital Structure Decision
C1. Statistics on Corporate Leverage
- Different definitions for leverage (debt related to market values, book values, flow measures etc). One-
to- one relationships Cash/TA versus BE/TA. Typical values for these
- What are trends in corporate leverage in the last decades?
- What drives the level of leverage in last decades?
C2. MM Theory
- MM, MM+ tax, Static Trade-off Theory, Pecking Order Theory, Asset Substitution, Debt Overhang etc.
- leverage effect, cost of equity = premium business risk + financing risk
- kE, kD and WACC as a function of D/E for MM, MM + tax, and MM + tax + distress costs
- MM formula for the required return on equity: first term rA = business risk, second term = financing risk.
- Static Trade-off theory, Insolvency costs
- Differences between Static Trade-off and Pecking Order Theories
C3. Empirical studies to test capital structure theories
- Main results and conclusions for the papers Rajan and Zingales.
C4. Practical View on Capital Structure decision / Debt Capacity
- first order effect, related to business risk (sector, life cycle and size)
- Proxies business risk and proxies financial risk: Large companies versus SME companies
C5. CRA model from McKinsey
C6. Toolbox of concepts on capital structure
- 3 categories by objective/motivation of debt policy
- ALL concepts summarized in 3 slides
C7. Survey among CFOs; how does it work in practice
- main results and conclusions for the paper Graham and Harvey as discussed in lectures.
- be able to link the questions of Graham and Harvey to specific concepts on debt policy.
EXAM – Standard text books on Corporate Finance. Basics on short term finance and working capital
management (for example Berk and DeMarzo chapter 14 – 16 and 18). Including the proof of MM1 and MM2
propositions
EXAM – Chapter 4 Financing of corporations out of Handbook of the Economics of Finance: Corporate Finance
(2003)
Until page 222 only MM Theory must fully understood including how the formulas look like with corporate tax.
PLUS how the formulas in this framework look like (see also formula sheet).
https://www-sciencedirect-com.vu-nl.idm.oclc.org/handbook/handbook-of-the-economics-of-finance/vol/1/part/PA
EXAM - How Do CFOs Make Capital Budgeting and Capital Structure Decisions
https://onlinelibrary-wiley-com.vu-nl.idm.oclc.org/doi/epdf/10.1111/j.1745-6622.2002.tb00337.x
EXAM – Chapter 33 Capital Structure, Dividends and Share Repurchases in McKinsey Valuation
Valuation : measuring and managing the value of companies | VU Library (worldcat.org)
EXAM - How To Choose a Capital Structure - navigating the debt equity decision
https://onlinelibrary-wiley-com.vu-nl.idm.oclc.org/doi/epdf/10.1111/j.1745-6622.2005.025_1.x
Support lecture - Corporate Finance in Europe - confronting practice with theoryhttps://web-p-ebscohost-com.vu-
nl.idm.oclc.org/ehost/pdfviewer/pdfviewer?vid=0&sid=691904aa-2ec0-4768-86d8-2775b187f207%40redis
Support lectures - To have a target debt ratio or not - What difference does it make
https://vu.on.worldcat.org/search/detail/609770123?queryString=verwijmeren%20de%20jong&clusterResults=tru
e&groupVariantRecords=false&page=2
Support lectures - What do we know about capital structure
https://www-jstor-org.vu-nl.idm.oclc.org/stable/2329322
Support lectures - The theory and practice of corporate finance - evidence from the field
The theory and practice of corporate finance: evidence from the field - ScienceDirect (oclc.org)
Topic D Structured Corporate Finance: matching demand and supply =
D1. Corporate Finance Matching model
- Matching model: how to generate flexibility for a match: (1) flexibility in business assets, (2) flexibility in
finance/security design and flexibility by combining assets with specific investors.
- Reasons to put assets in a separate SPV (matching assets and specific investors)
D2. Added value of Risk Management
- Bottom line result in an MM context: no impact risk management on company value when Eo(FCF) = 0
(this holds for treasury risks). Because: investor can diversify him/herself, investors only price systematic
risk.
- Risk management adds value because FCF might increase and volatility in FCF is expected to
decrease. Idiosyncratic risk is priced as well, investors do not have a detailed overview of all risks the
company is exposed to and investors can’t diversify distress risks.
- Plus other reasons/arguments (indirect benefits) why risk management does add value, even if FCF
does not increase because of risk management.
- off-balance “insurance capital” concept
D3. Segmentation of the Corporate Debt Market
- Segmentation variables in the corporate debt market (size, maturity, rating, corporate life phase)
- various types/ segments of corporate debt market (EMTN, USPP, High Yield, bank loan, EUPP,
mezzanine debt, leveraged loans)
- typical differences in characteristics of debt between these segments
- Statistics on public corporate debt markets and leverage loans.
D4. Asset based financing versus Cash flow based financing:
- Asset based financing versus Cash flow based financing: what is the difference?
- Project Finance, definition, typical projects in project finance, motivations, statistics on volume.
- Asset Backed Securities. What is it and market statistics (volume and trends)
- Shadow banking market (what is it?)
D5. Hybrid Securities
- definition
- various reasons for corporates to take mezzanine debt: bridge financing, gap financing, shareholder
loans (governance perspective), tax reasons, covenant lite, etc.
- special case: convertible debt. Motivations to issue convertible debt
F6. Private Equity Financing (discussed with the HERTZ case)
- PE financing (equity and leveraged loans) and link with institutional investors. Overview of the players
in this market.
- IRR calculation from a private equity investor’s perspective.
- typical statistics for PE financing: size leverage loans (factor x EBITDA), % equity contribution.
EXAM – Chapter 4 Risk and Cost of Capital, in McKinsey Valuation
Valuation : measuring and managing the value of companies | VU Library (worldcat.org)
EXAM - The balanced capital structure (Corporate Financing Alternatives)
Overview paper on issues in making specific choices on corporate securities
https://onlinelibrary.wiley.com/doi/epdf/10.1111/j.1745-6622.1998.tb00078.x
EXAM - Corporate financing alternatives overview (until page 20)
Overview of alternative financing options in corporate financing. Why do these alternatives matter and what
drives the decision to choose for one another?
https://www.betterbusinessfinance.co.uk/support/post/the-business-finance-guide
EXAM - Asset securitization (until page 29 ONLY).
This paper describes the technical side of asset securitization. Focus on main features
https://www.occ.treas.gov/publications-and-resources/publications/comptrollers-handbook/files/asset-
securitization/index-asset-securitization.html
EXAM – What is project finance?
Focus on the different roles of different parties involved in the Project Finance.
https://www.businessperspectives.org/journals/investment-management-and-financial-innovations/issue-
249/what-is-project-finance
Topic E Measurement and Pricing of equity risk
E1. CAPM model
- Theory
E2. Exploring expected equity return
- CAPM, empirical performance of CAPM.
- survey results: Agreement on concept of CAPM disagreement on filling the exact numbers.
- Historic return
- Implied cost of equity from P/E
E3. Build up model in practice: risk free rate
- two views on quantifying the risk free rate
E4. Build up model in practice: CAPM beta
- Hamada formulas
- vulnerability in calculating CAPM beta. How the profession handles this issue.
- how to calculate the beta for a private company.
E5. Build up model in practice: Market risk premium
- issues in estimating MRP
E6. Build up model in practice: Country Risk premium
- how to estimate CRP and to include CRP in CAPM concept
E7. Build up model in practice: Size (risk) premium
- calculation of the Size Premia by Ibbotson
- other idiosyncratic factors impacting cost of equity estimate
E8. Other factors impacting cost of equity estimate
- Other mechanism to include risk in the corporate valuation (not only via the discount rate but also via a
conservative estimate of expected Free cash flows).
EXAM – Standard text books on Corporate Finance. Basics on risk management (for example Berk and DeMarzo
chapter 10,11 and 12).
EXAM – Chapter 15 Estimating the cost of Capital in McKinsey Valuation
Valuation : measuring and managing the value of companies | VU Library (worldcat.org)
EXAM - “Best Practices” in Estimating the Cost of Capital An Update. This paper describes accurately how the
WACC is calculated in practice. Take this message from the paper.
https://vu.on.worldcat.org/oclc/849123979
Support lectures Perold, 2004, CAPM, Journal of Economic Perspectives
The Capital Asset Pricing Model on JSTOR
Topic F Measurement and Pricing of Credit Risk
F1. Statistics on credit losses
- typical statistics of PD values in time for high yield, as a function of ratings
- typical statistics of LGD values, distributions of LGD
F2. PD estimation: rating agencies and credit scoring models
- S&P methodology: description how S&P links business risk with financing risk resulting in a rating
category. First order versus second order (modifiers).
- Determinants of PD values versus determinants of LGD values. Reason why it is difficult to model LGD
values.
- credit risk models: (logit) regression methodology. Which variables in the model?
F3. Credit spread statistics
- YTM calculation + correction for options (effective YTM).
- Calculation credit spread: market rate YTM minus risk free rate.
- Typical spread values for a high yield bonds and investment graded bonds
F4.. Basel capital requirements
- credit loss distribution
- dependence credit loss distribution on correlation ρ in the performance/default process between
companies in the bank loan portfolio.
- VAR calculation for capital requirements: required capital K depends on PD, LGD, EAD, ρ and C
(confidence interval)
- SME correction in the “Basel II” formula for ρ
- Typical values of capital requirements: ranging from 1.2% for AAA rated companies up to 30% for CC
rated companies
F5. Pricing of credit risk from a banking perspective
- Banking spread formula (Basel I and Basel II)
- Problem which banks have with original Basel I capital requirement when lending to high rated
companies
- Match Basel spread with actual spreads in the bond market
- Typical values for different cost components: funding rates, expected losses, costs to hold K as a
buffer for unexpected losses and operational non-interest costs.
EXAM - S&P Corporate Rating Methodology
Be able to describe the key features of the S&P rating methodology
https://www.spglobal.com/ratings/_division-assets/pdfs/041019_howweratenonfinancialcorporateentities.pdf
Topic G Option pricing in Corporate Finance
G1 Binomial Option Pricing applied to Corporate Securities
- Basics binomial option pricing (short)
- Application to Corporate securities
EXAM – Standard text books on Corporate Finance. Basics on risk management (for example Berk and DeMarzo
chapter 20 and 21).
EXAM – Rogers, Jamie. 2019. Strategy, Value and Risk : Industry Dynamics and Advanced Financial
Management. 4th ed. Cham: Palgrave Macmillan.
ONLY the following sections in this book: section 5.1 Introduction, section 5.2 Replicating portfolio and risk
neutral valuation, section 5.5.2 Binomial option pricing model, section 6.4 Pricing convertible debt
https://vu.on.worldcat.org/oclc/1120696363
Practice exercises included in the slides! (Valuation of a convertible)
G2 Binomial Option Pricing used to quantify the Debt-Equity holder conflict
- wealth transfer in the debt-equity holder conflict
EXAM – E book, Odgen, Jen and OÇonnor, “Advanced Corporate Finance, Policies and Strategies”.
– section 2.6.3 Binomial pricing model and The Valuation of the Debt and Equity of a levered firm
– section 3.8 Conflicts of interest between shareholders and creditors (Quantification debt-equity conflict)
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Go to page section 3.8 (pages 88 – 95). Background to the formulas in this section can be found in section 2.6.3
(pages 46 – 49).
