Discussion post Peer Responses:
Guided Response: Review several of your classmates' posts. Respond to at least two classmates. For one classmate response, answer the question that they have posed to the presenter as if you were speaking on their behalf. In your second classmate response, share whether you agree or disagree with a classmate's answer to the presenter's question and be sure to justify your reasons.
Discussion post-1-Financial Risk and Reward-Watch the two videos listed below on the topics of financial risk and reward. Imagine you can interview the presenters and ask one question about financial risks and rewards. What question would you ask? Why do you feel that is an important question?
1) Discussion one Onieka Heywood
These was two very informative videos. I know and work with all of these investments and would love to interview these video informative providers. I love learning about all financial aspects. I would have so many questions to ask but if I have to pick one it would be about insurance policies on commodity based bonds. It is more lucrative to get an insurance wrap on a commodity based bond? As we know this bond is an investment opportunity for the future depending on maturity and interest but we also know times get hard. You always want what you have to shown to be at the lowest risk and highest potential to an investor. If you ever wanted to sell the bond or trade would it be better to have an insurance wrap on the commodity that is backing up the bond? For instance if you have a gold mind or Dimond mind or what ever I know with insurance it can validate the value and put something in place for the investor. I have investors who love insurance wraps and I didn't know why. I just wanted to know does the insurance wrap add value, lower risk and presume to be all around a wise investment for a commodity based bond. If this is the case it would help us to understand if it would be better to get when the bond is about to mature or way before? This would be interesting to know. It is hard to get investors to teach you or break things down. They want you to already know and if you don't they do not want you on their team. I play it off very well when Im at work then I get with some computer time to figure it out.
2) Discussion 1 -Rodney Barrios
In the first article I felt that the three factors of risk and reward was very simple and effective, the one thing that I did not hear or thought was addressed was how does the financial system of the country effect the risk and reward. I think that this is important to fully understand how governmental regulations and policies will affect the potential reward from the investment. For example, in a capitalistic economy, the government adopts a "laissez faire "or hands off approach to the market system and thus market forces will be the ultimate indicator in weather those gains can be reached. In contrast a socialistic economy will have more governmental regulations and involvement which restricts the market and or influences the maximum output that the business generates. I believe that this is especially true in foreign markets and investing in those foreign firms. As the presentation states the third factor in causing financial risk is not knowing what you're doing.
I really enjoyed the second video as it seemed to tie in some of the concepts from my prior microeconomics class and this finance class. I see how those concepts apply outside of economics and how we can use this information in real world decisions specifically relating to our choice of investments. I also enjoyed the two pronged approach to explaining these concepts not just in economic terms but also in every day terms. The question I would like to ask the presenter would be, how does government consumption factor into the decision to invest in a firm? Is it a positive or negative thing? I also like the way that the video explained the two views and how they are looked at differently.
Discussion post-2-Corporations often use different costs of capital for different operating divisions. Using an example, calculate the weighted cost of capital (WACC). What are some potential issues in using varying techniques for cost of capital for different divisions? If the overall company weighted average cost of capital (WACC) were used as the hurdle rate for all divisions, would more conservative or riskier divisions get a greater share of capital? Explain your reasoning. What are two techniques that you could use to develop a rough estimate for each division's cost of capital? Your initial response should be 200 to 250 words.
Guided Response: Review several of your classmates' posts. Respond to at least two classmates by sharing whether you agree or disagree with their view of the use of the company's capital. Explain your reasoning.
1) Discussion 2 Anthony Yonek
The weighted average cost of capital (WACC) "is the after-tax required returns (interest on bonds or other types of debt is tax deductible, thus it lowers the effective cost of debt to the firm) on the firm's bonds, preferred stock, and common equity, weighted by their proportional contribution to the project (Hickman & McPherson, 2013, n.p.)."WACC recognizes all sources of capital including: common and preferred stocks, bonds, and any long-term debt.
The formula for WACC is as follows: WACC = E/V* Re + D/V* Rd * (1 - Tc)
Where:
Re=The cost of equity
Rd= The cost of Debt
E= The market value of firms equity
D=Market Value of Firms debt
V=E+D
E/V= The percentage of financing that is equity
D/V=The percentage of financing that is debt
Tc=The Corporate tax rate.
So for this example I will use: equity at $4000, debt at $1000, the cost of equity at a 12.5% rate, cost of debt at 6% and a tax rate of 30%.
WACC =[( 4000/4000+1000* 0.125)] + [(1,000/4000+1000* 0.06 * (1 - 0.3)]
WACC=.1+.0084 =.1084=%10.84.
In this example, 10.84 % is the amount of expected returns the discount value has to produce for investors to see the risk as worth investing. I think the main issue is that not all divisions will be equal with capital or the amount of risk they present. The higher the risk for an investment, the greater the return the investors will expect.
References
Hickman, K. A., Byrd, J. W., & McPherson, M. (2013). Essentials of finance [Electronic version]. Retrieved from https://content.ashford.edu/
2) WACC Mayra Hernandez
Corporations often use different costs of capital for different operating divisions. Using an example, calculate the weighted cost of capital (WACC).
Equity: $5000
Debt: $2000
Cost of equity: 11% rate
Cost of debt: 7%
Tax rate: 25%
WACC= [(5000/5000+2000* 0.11)] + [(2,000/5000+2000* 0.07 * (1 - 0.25)]
WACC= .0785 + .0150= .0935
What are some potential issues in using varying techniques for cost of capital for different divisions?
Due to some techniques requiring estimates, calculations may not be 100% accurate.
If the overall company weighted average cost of capital (WACC) were used as the hurdle rate for all divisions, would more conservative or riskier divisions get a greater share of capital? Explain your reasoning.
I think that the riskier divisions would get a greater share of capital. The riskier investments would require more capital due to the reward being greater.
What are two techniques that you could use to develop a rough estimate for each division's cost of capital?
Asset Beta, which measures the project's market risk and CAPM, which is used to estimate risk and expected return for assets.