1. Pro forma balance sheet after 25% sales increase
(5)
ROSENGARTEN CORPORATION
Pro forma balance sheet after 25% sales increase
($)
(Δ,$)
Assets
Liabilities and Owner's Equity
Current assets
Current liabilites
Cash
$200
$40
A/P
$375
$75
A/R
550
110
Notes payable
100
Inventory
750
150
Total
$475
$1,500
$300
Long-term debt
$800 $0
Fixed assets
Owner's equity
Net plant and
Common stock
equipment
$2,250
$450
Retained earnings
1,100
$1,910
$110
Total assets
$3,750
$750
Total liabilities and shareholder's equity
$3,185
$185
Cap. Int. Ratio=3
3750/1250
External financing
needed
$565

2. EFN and Capacity Usage (overhead 27)
Suppose Rosengarten is operating at 80% capacity:
1. sales at full capacity 1000/.8=1250
2. What is the capital intensity ratio at full capacity? 3300/1250 =2.64
3. What is EFN? =115
=115
Conclusion: excess capacity reduces the need for external financing and capital intensity ratio

3. Pro forma balance sheet after 25% sales increase if no Δ FA needed
(5)
ROSENGARTEN CORPORATION
Pro forma balance sheet after 25% sales increase if no Δ FA needed
($)
(Δ,$)
Assets
Liabilities and Owner's Equity
Current assets
Current liabilites
Cash
$200
$40
A/P
$375
$75
A/R
550
110
Notes payable
100
Inventory
750
150
Total
$475
$1,500
$300
Long-term debt
$800 $0
Fixed assets
Owner's equity
Net plant and
Common stock
equipment
$1800
Retained earnings
1,100
$1,910
$110
Total assets
$3,300
Total liabilities and shareholder's equity
$3,185
$185
External financing
needed
115

4. EFN and Capacity Usage (Homework)
Suppose Rosengarten is operating at % capacity:
1. What would be sales at full capacity?
2. What is the capital intensity ratio at full capacity?
3. What is EFN (sales increase 25%)?

5. EFN and Capacity Usage (Homework)
Full capacity=1000/.8695=1,150
Cap. Int. Ratio at full capacity: CA for full capacity sales 1,150 (15% increase) = 1,200*1.15=1,380 add 1800 FA TA=3,180 and divide by 1,150 sales =2.76
Addition to FA needed to increase sales to 1250: (1800/1150)*100=156.52
EFN = =271.52

6. Arithmetic and Geometric Mean
Stock Prices as follows P0= 12.4; P1= 13.2; P3= 14.35; P4= 17.4; P5= 11.9; Dividends = .2; .35; .40, .50;
Calculate average return (arithmetic and geometric)
Calculate variance and std

7. Chapter 12
Some Lessons from Capital Market History

8. Chapter Overview Return of an investment: arithmetic and geometric
The variability of returns
Efficiency of capital markets

9. Return from a Security (1)
Dollar return vs. percentage return
Two sources of return
dividend income
capital gain (loss)
realized or unrealized
Capital Gain
Dividend Yield

10. Mean Assume the distribution is normal
Mean return - the most likely return
A measure of centrality
Best estimator of future expected returns

11. The First Lesson
The difference between T-bills and other investment classes can be interpreted as a measure of the excess return on the risky asset
Risk premium = the excess return required from an investment in a risky asset over a risk-free investment

12. Arithmetic vs. Geometric Averages (1)
Geometric return = the average compound return earned per year over multiyear period
Arithmetic average return = the return earned in an average (typical) year over a multiyear period
Geometric average return =

13. Arithmetic vs. Geometric Averages (2)
The geometric average tells what an investor has earned per year on average, compounded annually.
The geometric average is smaller than the arithmetic (exception: 0 variability in returns)
Geom. average ≈ arithmetic average – Var/2

14. Which Average to Use?
Geometric mean is appropriate for making investment statements about past performance and for estimating returns over more than 1 period
Arithmetic mean is appropriate for making investment statements in a forward-looking context and for estimating average return over 1 period horizon

15. The Variability of Returns
Variance = the average squared deviation between the actual return and the average return
Standard deviation = the positive square root of the variance

16. Standard Deviation Measure of dispersion of the returns’ distribution
Used as a measure of risk
Can be more easily interpreted than the variance because the standard deviation is expressed in the same units as observations

17. The Normal Distribution (1)
A symmetric, bell-shaped frequency distribution
Can be completely described by the mean and standard deviation

18. The Normal Distribution (2)

19. Z-score For any normal random variable: Z – z-score
X – normal random variable
- mean
normal-distribution-table.html

20. Yet Another Measure of Risk
How much can a bank lose during one year?
Usually reported at 5% or 1% level
VaR = statistical measure of maximum loss used by banks and other financial institutions to manage risk exposures

21. The Second Lesson
The greater the potential reward the greater the risk
Which types of securities have higher potential reward?

22. Capital Market Efficiency
Efficient capital market - market in which security prices reflect available information
Efficient market hypothesis - the hypothesis that actual capital markets are efficient

23. What assumptions imply efficient capital market?
Large number of profit-maximizing participants analyze and value securities
New information about the securities come in random fashion
Profit-maximizing investors adjust security price rapidly to reflect the effect of new information

24. Forms of Market Efficiency
Weak form – the current price of a stock reflects its own past prices
Semistrong form – all public information is reflected in stock price
Strong form – all information (private and public) is reflected in stock prices

25. Weak Form Efficiency
Current stock price reflects all security market information
You should gain little from the use of any trading rule that decides whether to buy/sell security based on the passed security market data
Major markets (TSX, NYSE, NASDAQ) are at least weak form efficient
January effect

26. Semistrong Form Efficiency
Mutual fund managers have no special ability to beat the market
Event studies (IPO, stock splits) support the semistrong hypothesis
Quarterly earnings surprise – test results indicate abnormal returns during weeks following the announcement of large unanticipated earnings change (earnings surprise) in a company

27. Strong Form Efficiency
No group of investors has access to private information that will allow them to consistently experience above average profits
Evidence shows that corporate insiders and stock exchange specialists are able to derive above-average profits