![The Fundamental Principles of Finance](https://img.perlego.com/book-covers/1598689/9781000024517_300_450.webp)
The Fundamental Principles of Finance
Robert Irons
- 210 pages
- English
- ePUB (mobile friendly)
- Available on iOS & Android
The Fundamental Principles of Finance
Robert Irons
About This Book
Finance is the study of value and how it is determined. Individuals, small businesses and corporations regularly make use of value determinations for making strategic decisions that affect the future outcomes of their endeavors. The importance of accurate valuations cannot be overestimated; valuing assets too highly will lead to investing in assets whose costs are greater than their returns, while undervaluing assets will lead to missed opportunities for growth. In some situations (such as a merger or an acquisition), the outcome of the decision can make or break the investor. The need for solid financial skills has never been more pressing than in today's global economy.
The Fundamental Principles of Finance offers a new and innovative approach to financial theory. The book introduces three fundamental principles of finance that flow throughout the theoretical material covered in most corporate finance textbooks. These fundamental principles are developed in their own chapter of the book, then referred to in each chapter introducing financial theory. In this way, the theory is able to be mastered at a fundamental level. The interactions among the principles are introduced through the three precepts, which help show the impact of the three principles on financial decision-making.
This fresh and original approach to finance will be key reading for undergraduate students of introduction to finance, corporate finance, capital markets, financial management and related courses, as well as managers undertaking MBAs.
Frequently asked questions
Information
1 The Fundamental Principles of Finance
The Three Fundamental Principles of Finance
- The First Fundamental Principle (FP1): The value of any asset is equal to the present value of the cash flows the asset is expected to produce over its economic life.
The value of any asset is equal to:
- the present valueâpresent value and its calculation are discussed in Chapter 2, âThe Time Value of Money.â For now, it is enough to understand that a dollar today does not have the same value as a dollar one year from today. A dollar today can be invested to earn interest and will therefore be worth more than a dollar in one yearâs time. Thus, the ability to invest and earn interest means that a dollar today is worth more than a dollar one year from today. This basic truth indicates the need for evaluating investments in terms of dollars todayâtheir present value.
- of the cash flowsâthe basis of value for an asset stems from the cash flows the asset will produce. Those cash flows, put into current dollar terms (their present value), are summed to determine the value of the asset. The nature of the asset will determine the nature and timing of the cash flows produced by the asset. The cash flows produced by a bond are different from the cash flows produced by a stock and are also different from the cash flows produced by an asset used in production. In any case, value will be calculated as the sum of the present values of the expected future cash flows.
- the asset is expected to produceâthe word âexpectedâ is underlined here to emphasize the fact that the cash flows to be produced by the asset are to be forecasted and therefore are a matter of judgment. It is possible that three different analysts attempting to value the same asset will produce three slightly different sets of expected cash flows, since they may each make different assumptions. There is much use of judgment in finance, and analysts who develop good judgment get paid very well. You are not expected to have good judgment in business at this time in your career, when you are just starting out. However, college is your opportunity to develop your judgment. Firms hire people with good judgment to manage their business, and those managers whose judgment proves effective climb the corporate ladder successfully. Therefore, it is in your best interests to put your own judgment to the test, in this course as well as in other courses. Even if finance is not your chosen field, if you wish to succeed in business, it is your judgment that will convince others of your value to the firm.
- over its economic lifeâdifferent assets have different expected lives. For example, when a firm purchases a new machine for use in production, it assigns an economic life, based on the nature of the asset, for purposes of depreciation. Some production assets have shorter lives (5â10 years), while others have much longer lives (20â30 years). Also, while bonds have a limited expected life (they have a date at which they mature), stocks are expected to last forever. Therefore, the economic life of the asset in question will have an impact on the cash flows it is expected to produce.
- The discount rate (i.e., the cost) that is appropriate for the perceived level of risk for the given asset (which will be used to calculate the present value of the cash flows);
- The size and the timing of the cash flows the asset is expected to produce; and
- When the asset is expected to be sold or taken out of service (when its economic life ends).
- The Second Fundamental Principle (FP2): There is a direct relationship between risk and return; as perceived risk increases, required return will also increase (and vice versa), holding other things constant.
Table of contents
- Cover
- Half Title
- Title
- Copyright
- Contents
- List of Figures
- List of Tables
- 1 The Fundamental Principles of Finance
- 2 Time Value of Money
- 3 Risk and Return
- 4 The Term Structure of Interest Rates
- 5 Bonds and Bond Valuation
- 6 Stocks and Stock Valuation
- 7 Capital Budgeting Decision Methods
- 8 Capital Structure and the WACC
- 9 Analyzing and Forecasting Financial Statements
- 10 Finance Within the Firm
- 11 Legal and Ethical Issues in Finance
- 12 Financial Markets and Institutions
- Index