CFA Level 1 Study Notes – Corporate Finance

Study Session 10

Reading 31 – Corporate Governance and ESG: An Introduction

LOS 31a: describe corporate governance
LOS 31b: describe a company’s stakeholder groups and compare interests of stakeholder groups
LOS 31c: describe principal–agent and other relationships in corporate governance and the conflicts that may arise in these relationships
LOS 31d: describe stakeholder management
LOS 31e: describe mechanisms to manage stakeholder relationships and mitigate associated risks
LOS 31f: describe functions and responsibilities of a company’s board of directors and its committees
LOS 31g: describe market and non-market factors that can affect stakeholder relationships and corporate governance
LOS 31h: identify potential risks of poor corporate governance and stakeholder management and identify benefits from effective corporate governance and stakeholder management
LOS 31i: describe factors relevant to the analysis of corporate governance and stakeholder management
LOS 31j: describe environmental and social considerations in investment analysis
LOS 31k: describe how environmental, social, and governance factors may be used in investment analysis

Reading 32 – Capital Budgeting

LOS 32a: describe the capital budgeting process and distinguish among the various categories of capital projects
LOS 32b: describe the basic principles of capital budgeting
LOS 32c: explain how the evaluation and selection of capital projects is affected by mutually exclusive projects, project sequencing, and capital rationing
LOS 32d: calculate and interpret net present value (NPV), internal rate of return (IRR), payback period, discounted payback period, and profitability index (PI) of a single capital project
LOS 32e: explain the NPV profile, compare the NPV and IRR methods when evaluating independent and mutually exclusive projects, and describe the problems associated with each of the evaluation methods
LOS 32f: contrast the NPV decision rule to the IRR decision rule and identify problems associated with the IRR rule
LOS 32g: describe expected relations among an investment’s NPV, company value, and share price

Reading 33 – Cost of Capital

LOS 33a: calculate and interpret the weighted average cost of capital (WACC) of a company
LOS 33b: describe how taxes affect the cost of capital from different capital sources
LOS 33c: describe the use of target capital structure in estimating WACC and how target capital structure weights may be determined
LOS 33d: explain how the marginal cost of capital and the investment opportunity schedule are used to determine the optimal capital budget
LOS 33e: explain the marginal cost of capital’s role in determining the net present value of a project
LOS 33f: calculate and interpret the cost of debt capital using the yield-to-maturity approach and the debt-rating approach
LOS 33g: calculate and interpret the cost of noncallable, nonconvertible preferred stock
LOS 33h: calculate and interpret the cost of equity capital using the capital asset pricing model approach, the dividend discount model approach, and the bond-yield plus risk-premium approach
LOS 33i: calculate and interpret the beta and cost of capital for a project
LOS 33j: describe uses of country risk premiums in estimating the cost of equity
LOS 33k: describe the marginal cost of capital schedule, explain why it may be upward sloping with respect to additional capital, and calculate and interpret its break-points
LOS 33l: explain and demonstrate the correct treatment of flotation costs

Study Session 11

Reading 34 – Measures of Leverage

LOS 34a: define and explain leverage, business risk, sales risk, operating risk, and financial risk and classify a risk
LOS 34b: calculate and interpret the degree of operating leverage, the degree of financial leverage, and the degree of total leverage
LOS 34c: analyze the effect of financial leverage on a company’s net income and return on equity
LOS 34d: calculate the breakeven quantity of sales and determine the company’s net income at various sales levels
LOS 34e: calculate and interpret the operating breakeven quantity of sales

Reading 35 – Working Capital Management

LOS 35a: describe primary and secondary sources of liquidity and factors that influence a company’s liquidity position
LOS 35b: compare a company’s liquidity measures with those of peer companies
LOS 35c: evaluate working capital effectiveness of a company based on its operating and cash conversion cycles and compare the company’s effectiveness with that of peer companies
LOS 35d: describe how different types of cash flows affect a company’s net daily cash position
LOS 35e: calculate and interpret comparable yields on various securities, compare portfolio returns against a standard benchmark, and evaluate a company’s short-term investment policy guidelines
– LOS 35f: evaluate a company’s management of accounts receivable, inventory, and accounts payable over time and compared to peer companies
LOS 35g: evaluate the choices of short-term funding available to a company and recommend a financing method

(Dividends and Shares Repurchases: Basics – until 2017)

LOS 38a: describe regular cash dividends, extra dividends, liquidating dividends, stock dividends, stock splits, and reverse stock splits, including their expected effect on shareholders’ wealth and a company’s financial ratios
LOS 38b: describe dividend payment chronology, including the significance of declaration, holder-of-record, ex-dividend, and payment dates
LOS 38c: compare share repurchase methods
LOS 38d: calculate and compare the effect of a share repurchase on earnings per share when 1) the repurchase is financed with the company’s excess cash and 2) the company uses debt to finance the repurchase
LOS 38e: calculate the effect of a share repurchase on book value per share
LOS 38f: explain why a cash dividend and a share repurchase of the same amount are equivalent in terms of the effect on shareholders’ wealth, all else being equal


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