Session 1 (CF MBAs); Corporate Finance - The Big Picture

okay folks I think can you hear me no that's about as loud as it's going to get so you guys don't don't if you guys stop talking maybe we can check the volume out welcome what class do you think you're in let's make sure we're in the right class right this is Corp fan as I was walking down no actually I took the elevator down I walk up I take the elevator and weird process and I'll talk about why um I remembered a day in 1984 it was September of 1984 I walked into a class

at UC Berkeley and it was my very first class teaching it's a corporate finance class so you know you're getting old when you run into the kids of the people you used to teach grandkids I think I have to draw the line I haven't gotten there yet but this is my 40th year teaching this class and I'll tell you something no no this is I don't want to pin and I and I want the the reason I say that is you also know I teach a valuation class and your classes are like your kids you're

not supposed to pick favorites I do it all the time with my kids they shift on a day-to-day basis but this is my favorite class to teach I think you know and as as you go through you'll see why this is a class that I think everybody should dick doesn't matter they marketing a literature major you're an entrepreneur you're a VC know and I know you've got preconceptions of what a corporate finance classes and at the end of today maybe those preconceptions can be set to rest okay so let me get very quickly out of

the logistics part of this class and then we can start talking about Corporate Finance in terms of logistics uh you can find me I mean there are three the problem with the with this building is actually three buildings so I've got to Fig tell you which building I'm in I'm in kmac 96 69 that's my office you you if if you know you can if it doesn't even have to be office hour if I'm there you can knock and come on in my email address is there that's probably the easiest and most timely way to

get to me I will have office hours right after this class now I teach three classes today this class then I teach 1:30 I teach the MBA valuation class and at 3:30 I teach the undergraduate valuation class you're feeling sorry for me right I do it on Monday and Wednesday for 14 weeks then I'm done for the rest of the year 38 weeks of doing nothing so you know so don't feel sorry for me three day three classes today but it basically means Mondays are going to be packed but you know I I will also

it says all office hours will be online but that's not true so come in I will also put it on Zoom for those of you who might not be able to physically be there but I'd really really like to see you in person otherwise what's the point right I mean this is in 2020 where you have no choice but to do it online there are two Tas for the class Lambert and Jose both took this class last year they know exactly how much I torture people during the class they've experienced the torture they know this

class from the inside out they will reach out to you with their office hours and a review session each week the review session would really be to work through promps from past quizzes because I will not work through problems in class that's not the point of the class but those those review sessions for those of you want to get you know feel a little shaky in your mechanics hopefully those review sessions will help I sent you the how many of you have not been receiving my emails how many of you have been receiving my emails

but not reading them come on be honest right they're really long right and you look at it and say we live in an age of text messages you know emails sounds primitive you know but with Twitter you can have three page TW tweets I can have three page emails so you had three emails so far you can count and you can find all those emails and I'll tell you where you can find the emails if you haven't got them and obviously all have so in one of the first emails I talked about what I'd like

you to bring into this class it's a little too late for pre-season maybe it's not you can still catch up over the weekend there are three basic skills sets you need for corporate finance first is accounting I would say some terrible things about accountants over the course of this semester and I mean every word of it okay but the truth is the language of finance and business is accounting not accounting is in debit credit I frankly couldn't care less but being able to read a financial statement if you don't know the difference between operating income

and net income pause right there do you if you don't then I don't care if you've taken an accounting class it's not stuck so about three years ago I decided to create my own version of an accounting class which an accounting professor would blanch that because I break accounting rules left and right but it's a class that's in service of this corporate finance class it's about knowing enough accounting that if I gave you the Tesla 10K from last year you would go through it and at least be able to make sense of what happened last

year so that's the first skill set can you do you know enough accounting to read financial statements well it's 12 it's a 12 session class it's about three hours so if you feel your accounting is shaky do it if not just skip it now the second is statistics if I ask you what the what the point of Statistics is besides torturing generations of college students by making you take the class what's the point of Statistics what anybody want to give that a shot what does statistics help you do not just condense but make sense of

right because the problem of data is it's often contradictory it pulls you in different directions and you say how do I make sense of data that's pulling me in different statistics is designed for the world we live in why because we live in the Big Data world right we're drowning in data nobody should be complaining anymore that they don't have enough information we have too much stuff coming at us and statistics is the perfect discipline to make sense of the data again the unfortunate truth is the way we're taught statistics is designed to make sure

we never want to do statistics again for the rest of our lives which is unfortunate because it's abstract and it has silly questions to which you already know the answer like you know is there you know a relationship between how much you eat and how much you weigh yes but you can do a statistics analysis to back it up and say what's the point but again I I you know two years ago I created a compressed class because know I want you to know enough statistics to make sense of the data that's going to come

at you and you're going to have too much data so you got accounting you got statistics and of course you've taken a found how many of you have not are taken foundations while you're taking this class because you're allowed to do that as an MBA okay how many of you have taken foundations already I assume the rest of you were able to wave out can you wave out of Foundations I'm not sure so but if you think about foundations of Finance there are a few fundamental Financial skills I need to bring in the class here's

the first one do any of you know that terms of the showy Otani contract with the Los Angeles Dodgers just give me the top number any somebody should have read the top what's the top number in the contract the value of the contract at least what you saw in the news stories $700 million impressive it's over 10 years so when I say 700 million over 10 years you mind says that 70 million a year but that's not the way that contract is structured somebody help me out here what's the Otani contract structured as but but

what is he making every year for the next 10 years 2 million a year for 10 years and $680 million at the end of year 10 or around year 10 now when you have a $700 million contract that's a lot of money so I'm not going to nitpick this but the value of that contract might less be less than a $450 million contract that another player might sign where he gets paid or she gets paid you know 50 million for the next nine years that's a present value it's amazing how much of Finance is present

value hopefully you've come out of Foundations with enough gra Gras present value that if I give you a set of cash flows and a discount rate you're not wrestling with them right if nothing else the present value button in your calculator should be working for you rather than the other way around but basically from foundations I want you to bring in time value of money hopefully coming into this class you know the difference between a bond and a stock at least in generic terms hopefully coming into this class you have at least the outlines of

what makes an option an option somebody help me out what makes an option an option what makes options different from almost any other cash flow generating asset should me foundations right what is it about options that makes them unique there are lots of things that depend on the the stock depends on the value of another Bond depends on the so it's more than that it depends on the value of another asset it's a right but basically we think in terms of cash flows what makes it an option unique do you want me to give it

in terms of cash flows there's a kink in the cash flows right basically what it is is you know you've got limited downside unlimited upside potentially that's what it's a contingent cash flow something has to happen now of course you know even if you don't remember option pricing if you remember that options are contingent cash flows that's what the right allows you to do you don't have to buy the stock if it's not in your best interest if you buy a call option that's all I need I don't need much coming in but if you

feel shaky about any of those three skills try one of those mini courses it will cost you absolutely nothing but just to get up to speed so that so when we start talking about Corporate Finance you're not digging yourself out of what exactly is operating income again now you might have already been told or you will be told I will harass you for the next 15 weeks here's my promise you will get an email from me every single day me take that back there will be a week in March where I will not send you

an email and I have to wrestle with myself can I know but baring those seven days you'll hear from me every single day and here's how it'll go after class today Monday you'll get an email from me what will it do it'll tell you what we did in class today you're saying but I was there you were you might have been here physically but ment until you might have taken a little break this is this is what we did in class today folks and perhaps give you a couple of links on things that build off

the class tomorrow you'll get an email from me on what I call the corporate finance puzzle of the week you said what the heck is that I have no idea week to week we know we we'll think of something that's happening in markets out there and I'll throw it out here and said take the corporate finance we've learned so far and apply it to this and tell me how you would approach this particular news story or this particular data point on Wednesday again you have class you have a followup on Thursday I'll send you an

email nagging you about the project you saying what project you're already doing a project you don't even know it yet but about 10 minutes from now I'll tell you what the project is but it's going to run through the entire semester it's due on the very last day of class there's nothing due until then and I know exactly what's going to happen you're going to put it off and you're going to put it off and you're going to put it off and sometime in the 14th week you're oh my God there's a project you next

week so you know what I'm going to do every week I'm going to send you a timeline on where you're supposed to be on the project knowing fully well that you're nowhere close what I'm trying to evoke is enough guilt in this process oh my God maybe I should do the project so every Thursday you'll get a reminder and how far behind you're in the project if you're easily stressed out or anxious I'm sorry because I will add to that stress if you don't keep up on Friday I'll send you what an inpractice webcast what

is that often in corporate finance valuation we talk about things and it sounds easy when you talk about it but until you get your hands dirty you really don't you you don't get it so we might talk about debt ra shows in class and I'll do it for a company and saying that looked easy in the in practice webcast I will take a real company I will take the annual report say this is where I went to get the debt number this is how I got the equity number this is not elaborate Theory it's not

you know deep stuff it's about applying what we do in class to real companies and saying this is a process you can use on Saturday you get a Weekly Newsletter not much news but one of the problems being in a class this big is it's easy to get lost especially as you get to week six week seven life catches up with you other classes of so the Weekly Newsletter is like a GPS it say this is where we're going this is where we are so we're on page 135 of the of lecture note packet one

so there's not much deep in there but basically it'll reflect on what we did the previous week and tell you where we are now and where we're going in the next week on on Sunday I'll give you a preview of what's coming the next week so basically get ready your first email if you want to block me go ahead but that's fine I I really don't care I'm going to send you the email anyway so you know I would suggest creating a you know if you have a Mac you can create a smart mailbox so

they all go there because you know you might want to look back and say when was the when was this project due again what's involved this week now in terms of class notes if now I would like you to be here in person I'm not going to take ATT tenance but I'd really like you to be here but I am a pragmatist I know that along over the course of the next 15 weeks you know you'll have other stuff like what I mean let's face it the only reason you come back for an MBA is

not develop your intellectual toolkit but it's mercenary this is not a masters in history where you're dancing around intellectual stuff you're saying how will this improve my standing in life and if you're paying $200,000 which some of you are or many of you are I completely understand so if there is an interview you have to go to someplace you got to travel for your summer internship to get that's fine and I will that's why I will Zoom every class and record it but please don't make this a zoom zoom class you're paying too much for

it you know the whole point of this class is to be here to interact to have that learning that comes from being around other people the only thing you have to bring to class is the lecture note packet I sent a link to it download it you know I don't want to be responsible for Forest disappearing in Brazil so if you don't have to print it don't print it you can look at in your iPad you can make notes on it as you go through but every slide you will see is going to be in

that packet there are no surprises here the you can download the packet either in PDF format which is you know more forgiving of different systems or in PowerPoint and I'll warn you I I I make my PowerPoint on a Mac for some reason Microsoft seems to have trouble when you have an IBM and you PowerPoint and it reads a Mac PowerPoint don't ask me why it frustrates me so when you open the if you decide to download this PowerPoint the advantage is you get the notes page with it as well and you can see the

notes for each slide but uh you it might say you not you might have to repair this PowerPoint just go ahead and just repair it nothing bad will happen there's no virus lurking in there so you can download whichever version you want okay there are two packets the first packet will cover sessions 1 through 15 the second packet from session 16- 26 so make sure you know when we get closer to that I'll remind you that the second package is it has to be downloaded and as I said there's no excuse for saying I wasn't

in class I don't know what was happening because every class as I said will be recorded there'll be a not just a z a zoom link to it but I also will put it on YouTube the advantage of YouTube is twofold one is it's very forgiving of broadband so if you're sitting an airport and you've got your cell phone as your as your Wi-Fi as your connecting connector to the Broadband YouTube will adjust the the the size of the so you can you can do it pretty much every you can even use I've never tried

it on airplane Wi-Fi which is I think the definition of horrifically bad Wi-Fi to begin with but I think even on airplane Wi-Fi you could so every class will be recorded and that's not all now I know there's this bright space thing this is the seventh learning management system that NYU has used in the last 20 in the last 40 years I've never used any of them because they're all closed systems you have to be an NYU student and I hate closed systems it's just viscerally I I I'm against it so everything you need for

so I've opened up a bright Space page because I'm supposed to I put whatever I wanted to last week I'm never going to visit it again for the next 15 weeks I think the zoom recordings might show up automatically there but I don't even know that because I've never checked the only reason the bright space is going to be used for your grades some so you can see you know you can see the recordings as they go along everything for this class is in the web page for this class and again I've sent you the

link click on the link so you can see you know all of the different piece of the class the YouTube channel is where all the class will be carried and every email I sent you I will put into what I call the email Chronicles nothing fancier but every so you can go back and see by date every email again you know my job is to take away every conceivable excuse you might have so I didn't know that was happening there will be no excuse because even if you miss an email it's in here you've seen

the Google Calendar check on the quiz dates because there are three quizzes in a final exam the dates are set you know I have a Blog I sent you the first my fourth data update I put up yesterday or so there's nothing fancy in this blog it's not for Theory it's basically you know the first four data updates about what I've seen in the data in 2023 they're all Finance related PS basically they're very related to what you will be doing in this class so the now I think they actually will tell you how long

it takes you to read the blog it's 11 minutes now it might be worth your time to take the 11 minutes and keep up even though you're just starting the class because much of what's coming in the class I do have an X I guess I should call it a Twitter Fe I tweet very very rarely you know and the one thing I will tell you is actually a couple of students last year tried to tweet me questions about the class and I can guarantee you I will not tweet you answers with the questions he

I only tweet is that I don't even know whether that's the right word it sounds like I'm a bird but I only tweet on things if I'm you know if I put up a blog post it it's a great way to draw people to something more substantial is the way I think about Twitter right and I follow only three people you think it must be Warren Buffett the three people all have my same last name they're three of my four kids I actually requested did all four my daughter has absolutely refused seven years that request

has been hanging out there know so this is a way saying dad I will never follow you know so basically I follow only three people so as you can see I'm not an active in terms of material as I said the lecture notes are the only absolutely required material the there is a book which is my book which actually mirrors the class I couldn't tell you where the class ends in the book begins because the book actually came out of the class and the class is it's the it's the last Edition is 2013 the publisher

wants me to do a new edition one of these days I'll do it but in the class I will update you but it's an applied Corporate Finance book it's obscenely overpriced how overpriced I think the after I wrote the book The Publisher offered to send me 10 copies at a 40% discount I said yes and then they sent me a bill for 10 copies for $800 and I said that's 40% off they said yeah it's normally $140 it's a it's not a hard B it's actually a paper so if you can find it cheap somewhere

I'm not supposed to say this's a publishable pro if you go there's an Asian Edition probably that's much much much cheaper this is one thing Publishers seem to think it's still 1985 they have a Canadian Edition any US edition the stupidity of doing this strikes me yeah so I have absolutely new no qualms about you finding the cheapest version of this book somewhere and getting it because for those of you that for whom the lecture notes don't do it the book can be a useful companion there are practice prompts that you can find for every

section but more critically every quiz and exam I've ever given a corporate finance class is on my website so that's 40 Years of quizzes and exams the quiz and exam you will be taking his open book open Notes okay so you have lots of practice if you want it obviously your time constraints you can't do for all 40 years but you can pick and choose I'll give you suggestions on how you can get through them and during the course of this class I'll talk about data that I use in corporate finance much of the data

I generate by looking at publicly traded companies around the world at the start of every year so you can find the data and for some of the stuff I will use spreadsheets as tool let me be very clear Excel is your tool you're not excel's tool so basically the spreadsheets are there as a tool and the only reason I build these spreadsheets and give them to you is because I don't want to spend the next 15 weeks trying to master Exel that's not the point of this class there's nothing magical about these spreadsheets I'll make

sure they're not black boxes but as we go through this class you can download the spreadsheets for the class if you need them as students so now let's get to corporate finance how many of you have taken a corporate finance class in a prior life you have taken so if I ask you what so don't look at this if I asked you what what your corporate finance class was about how would you describe it what was it that's not a good start right it's been a while it's usually a precursor to I don't remember anything

about the class but hopefully you remember enough to so what was the class about the next level what was the first level okay but were incorporate finance and what did you look at beyond the time value of money okay so that actually is one of the problems Corporate Finance classes they're not particularly memorable right right anybody else want to give me a shot even if you've not what do you think I mean you've heard the word Corporate Finance thrown around the context of banking in the context of companies what do you think Corporate Finance is

yeah cost of capital cost of capital okay so cost of debt cost of capital it's a hurdle rate in fact one of the problems of teaching this class in New York is the investment banking version of corporate finance kind of comes into play right every Investment Bank is a corporate finance department now what investment bank has called you yeah what go ahead C SC to that's that's when you need Corporate Finance not when you're burning through but after after you burn through the cash right by then it's a Sun cause right nothing you can do

about it okay so you're bring this is the interaction with outside Outsiders to bring in capital actually that's very close to how investment bankers think about Corporate Finance Investment Banking Corporate Finance is about the interaction between firms and outside investors public markets private markets that's that's what but that's like a podiatrist claiming to be a general practitioner it's a very small slice of corporate finance I'll give you my definition of corporate finance it's incredibly self-serving you know what Corporate Finance covers any decision that involves the use of money have you ever made a decision that

doesn't involve the use of money yeah in your personal lives you might but in your professional lives almost everything you do requires either you getting money or you paying money right you know why this is so self-serving everything every every one of you has been working in corporate finance without knowing it no matter what your job was per marketing even strategy another group for which I would say some terrible things I mean whatever your job was you were paid presumably there was a paycheck and presumably you were doing something to the company other than is

costing it money right everything is Corporate Finance did you guys have to go through that two weeks before this program started where you I call this the brainwashing weeks where they bring you in like in August to September just before class do you have to come in you don't have to anymore thank God you do still because that that's when they bring you in and tell you everything you've learned so far in your life is useless and now you're going to re learn the profound stuff complete lie but they've got to do it right they've

got to set you up to make you feel better about spending $200,000 and this is their way of doing about 10 years ago they made the mistake of inviting me to come in and talk to the incoming MBA gr why because I've been teaching Corporate Finance in the first year of the program pretty much every year going back to and I would say about 60 to 70% of all full-time mbas end up going through the program there so many of them will be taking your class why don't you come in and tell them what your

class is about so I came in with a flowchart and I said this is the only only class that really matters and I truly believe that everything else you're going to be doing in the MBA program is in service of my class that accounting class is to provide me raw data then go away the marketing class is so that I can estimate a margin for your business then go everything you do in this program is in service of this class because this is the ultimate big picture class because you're talking about every decision that involves

a use of money you're not talking about a slice of a business everything in a business if you ask me to describe this class I describe it as a big picture and applied class and I'll be very specific about that you know why I call it a big picture class but I'm going to give away what I hope you will take out of the class in the very last session I'm going to bring these out and I'm going to ask you did we advance towards my objec so these are my objectives for what I hope

you get out of this class first I want to give you Corporate Finance tools that you can apply on real companies in fact when I first started teaching Corporate Finance in 1984 they gave me a syllabus that the other people ad Ed and initially the first year I taught out of the syllabus and I very quickly realized we were talking about things that nobody really cared about that had made their way into that syllabus either stayed on with inertia or because people in Business Schools thought that had to be taught so very early in this

process I started crossing our topics because my question is can it be applied if the answer is no I'm not going to talk about it I have no interest in talking about things that are not applied so at the end of this class I'm going to ask you do you have the tools and can you apply the tools not just do you understand the tools but can you use them so that's the first objective second as I said this is a big picture class in other words we'll be talking about small pieces and as we

talk about a piece you can get lost in it so we might talk about how to measure risk and bring into hurdle rates and you might feel a little lost but I'm going to constantly pull you up I call this elevation and say this is where it fits in the big picture this is why we're doing it and this is why it matters so I want you to be able to apply things I want you to see the big picture and there's a third objective that's going to sound a little sick but give me a

chance I hope you find Corporate Finance as much fun as I do I know it sounds sick but Corporate Finance is like a puzzle and once you start to make sense of it it's amazing how much it allow it opens up how you think about everything that's happening around you so if I asked you how much does Taylor Swift add to the NFL's value you will have the tools to actually be able to address that question every story you read has a corporate finance subtext including the the chotani story so as you start to get

the first principles you will be able I call these aha moments with things that did not know Buy Backs why are companies buying back so much stock so that's the fun part of corporate finances as you do the work of understanding the first principles you start to make sense of the world around you so I know every class you go in they claim it's a big picture class you say yeah right so I'm going to show you the big picture of corporate finance but before I do that I want to first break a mindset you

might have already gotten into how many of you accountants nobody wants to admit to it CPA C I am sorry but somebody has to do the dirty work I guess but accounting is a key ingredient in business they have a place in business but many of you if the first I mean and how many of you come from Liberal Arts backgrounds and okay so your first exposure to the numbers part of business probably the accounting class after a long time right right so I want to take you out of the accounting mindset to understand the

accounting mindset let's step back there are three big accounting statements right there's an income statement there's a balance sheet there's a statement of cash flows which do you think accountants treasure the most all the IFRS Gap rules which of these three do you think gets the most emphasis from accountants one of the accountants can help me out which of those three balance sheet accountants are the last people on Earth who actually think balance sheets matter they think that what they tell you a shareholders Equity we actually look at we'll talk about why balance sheets have

become worthless but let's take a step back and think about how accountants construct balance sheets and I'm going to put you into the accounting mindset as I go through it I want you to think about what kind of mindset would lead you to do this so let's take a typical accounting balance sheet and think about how things are recorded I buy land I build a factory I have a physical asset how do accountants record it help me out what do you do you how do you record an ass like like a building or and what's

the value you show what I invested on the factory and as I track this ass over time it seems to deplete right because you claim that some of it is being lost in depreciation So Physical assets are recorded at original cost net of this depreciation so that's you that's makes sense okay if you have short-lived assets inventory receivables presumably you haven't had them for 20 years which case you're big trouble as a business there the recorded value is going to be much closer to the current market value as opposed to re building that I bought

in 1955 so you can see two class of assets what if I make an investment in another company how do you record it how does the investment get recorded depends so already you can see that when you look at a balance sheet you have to know which pathway I took and what does it depend on that that will define whether it's a majority or a minority holding but let's say it's a minority holding the amount I paid if I but even there there's a branch if I hold it for strategic reasons if I hold it

for trading reasons like soft Bank holds it what do I have to do I have to mark to mark it already you can see that when you see a financial holding an investment in another company on a balance sheet how it's recorded is going to be very different depending on whether the accountant classified it for trading or for strategic reasons so if you look at soft Banks soft Bank had to do this incredible dance on Wei workor you know the sad story of wework at least for masan is he put a lot of money in

Wei work and he priced it at 47 billion just before he pushed it to go public expecting a big payday and of course two months into this the whole thing fell apart not just the IPO but the entire business fell apart because there was no real good business I mean what's the Wei work business model what do they do they rent spaces longterm and then they sub rent them or subas them shortterm historically in real estate you know why that model never works right all you need is one recession and you go bankrupt it was

a stupid business model but with a lot of money behind it including somebody who's viewed as an investing genius masan so of course the the value melts down and this is a problem for soft bank because they had recorded the investment at the $47 billion pricing but because they were it was held for for trading or viewed as held for trading they had to mark it down so November two months after the original so in September it recorded at 47 billion by November of 2019 they had to write it down to 8 billion in fact

the only reason that they stopped at 8 billion is an investor came in to wew work after the and priced at 8 bilon Guess Who the investor was soft bank and the only reason they didn't they want to go to zero they delay the inevitable because now it's zero right so if you hold it for trading you have this Mark to Market in contrast think about Yahoo in 2014 what was Yahoo's business in 2014 that a search engine that nobody searched on and an email program there only people over the age of 70 even knew

existed basically the basic business model had melted down because Google had basic had eaten their lunch so in 2014 I valued Yahoo's absolutely abysmal business model and even with upbeat assumptions I came up with the value of about five billion stock was trading at 39 billion see that is crazy you know what I was missing in that that valuation yaho had two Holdings that were not part of their operating assets one was a 35% holding in Yahoo Japan that's actually a standalone publicly traded company and for some reason the Japanese still seem to check for

things on Yahoo don't ask me why the other was a 21% holding of a company called somebody want to fill in there Alibaba just as it was about to go public at a $200 billion pricing what's 21% of 200 billion you don't even have to work out the math a lot but 40 billion you know what it was recorded at on Yahoo's balance sheet a half a billion dollars why because that was what they' originally invested to get the 21% already you can see that when you look at an accounting balance sheet depending on the

item it's a difference set of rules and then you get to intangibles let's step back from the accounting precius do a lot of companies get a big chunk of the value from intangible assets have you looked at the list of the top 10 companies in the world in terms of market cap first what's the biggest company in the world right now in terms of market cap let's see how much you keeping up with the times it's Microsoft $2.9 trillion it used to be apple but during the course of the last few weeks Microsoft had jumped

to the top second is Apple and then you can go down the list right it's Al so as you go down the list take a look at that list and with each company is what I want you to do stop at the company say where does this company value come from if you want you can contract 1980 where the biggest companies in the world were manufacturing companies and financial service companies we could point to things you could see tangible assets and accountants have had an obsession with this intangible asset St for good reason right the

big companies of the world get the bulk of the value from things you can't see where does Apple's value come from don't say brand name that's lazy marketing lingo first it comes from the fact that they own their own operating system I've lived with Mac OS almost all of my working life and it's it gives them a differential advantage because they control the entire ecosystem styling right this is the only company actually talks about styling and not only just means what it says but actually spends money on it it's not like Del where say their

version of styling let's have dels in different colors let's round out the edges a little bit John I Apple's designer is legendary for thinking about styling and how it plays out it's the operating system it's styling maybe there's a component to you know how you like the computer but basically almost every single it's not a big plant in China That's driving they have a fox g plant that they work but that's not where the value comes from it comes from things you can't see where does invidious value come from AI I guess you know but

you know again things you can't see things that my point is the the big companies out there the bulk of their value comes from intangible assets so this is good right accountants are finally worken up to the reality that they need to show intangible assets on the balance sheet so last year I valued a company called burkenstock what does burkenstock do make incredibly ugly sandal that some people find really comfortable right that hippie wor and Kate Moss war and Steve Jobs War so there's a celebrity Buzz to it it's a company with an incredible amount

of intangibles there's a brand name built up over 60 years of being in the right place at the right time right you can't recreate that it also is a company where about 12 or 13 years ago the family it was a family control company a familyowned company which where the family actually managed a company but wasn't it was not it was founded in the late 1700s so it's been around a long time and by the early part of the century that family was not they dysfunctional they were not doing a good job they had the

good sense to actually bring in a couple of Outsiders who turned out in hindsight to be incredibly good managers is great management and intangible absolutely they found growth for the company so you've got brand name you've got great management I told you about Kate Moss at the age of wearing burken stock on a Vogue magazine covered in 1992 Steve Jobs wearing burkenstock hippie wearing birken stocks how much did burkenstock pay these people to wear so this is what makes Birkenstock special they've never paid a celebrity in the in the world where we pay YouTube Mr

Beast gets paid 5 million to sponsor your product here you have a company we have real celebrities not madeup celebrities pushing a product intangible and then last summer there was another intangible that got added to the mix how many of you watch the Barbie movie what's the connection to burkenstock Barbie wears pink burkenstock in the movie you didn't notice that did you take a look go back and watch the movie she wears pink burkenstock and you know what happened last summer there was a 30% jump in birken stock sales coming from the portion of a

market where berkenstock wasn't very strong young women who normally not wear burkenstock saw you know the movie and they said is that an intangible absolutely so clearly I want and so that I decided accountants must be I claim they're dealing with intangible let me take a look at burken Stock's balance sheet I saw no brand name I saw no great management I know I definitely see a Barbie buzz in there and then I decided said maybe it's just burkenstock let me look across all companies I took every publicly traded company I took the balance sheets

I downloaded the data on intangible assets every year for the last 20 to see if intangibles are becoming a bigger part of the biy I'll give you the good news first if you want to defend accounting the percentage of assets that come from intangible assets has about doubled over the last 20 years you see this is good they're moving with the times but here's the bad 88% of those intangibles came from one item you know exactly which item it is right Goodwill the most destructive and useless accounting item ever created and let's talk about why

for Goodwill to manifest itself on a balance sheet so I'm going to steer this discussion away from accountants everybody should know the answer to this for Goodwill to manifest itself on a balance sheet what does a company have to do let's not pass judgments yet right it has to do an acquisition already you can see why Goodwill is a meaningless asset right if I become the greatest company in the face of the Earth and I never do an acquisition there will be no Goodwill in the balance sheet take a look at Apple's balance sheet there's

almost no Goodwill what is the what was the last big acquisition that Apple did I don't remember when already you can see Goodwill can't be measure what people claim it is if you have to do an acquisition so now let me come back to you do an acquisition tell me how accountants compute Goodwill what is the difference between okay so what you pay uncontested right and if you take an accounting class and you get brainwashed enough they'll say it's between what you pay and fair value there's nothing Fair fair about this value it's Book value

dressed up if any of you have been in a company that's been acquired after in an acquisition after the acquisition an accounting gang lands up in your company Ernst to Young Deo and their job is to reassess the value of all your assets to attach a fair value so six months and several million dollars later here's what they've done they've taken your asset value they finessed it a little bit and I describe it as analogous to putting a know coat on a turkey right basically you're you got the scrawny neck you're not going to be

able to cover that no matter what you do dressing up a turkey still leaves it a turkey it's Book value dressed up right so basically it's a diff so if you paid 10 billion for a company and the book value dressed up is 4 billion the accountant has a$6 billion problem to explain away right until yesterday why because until yesterday you kept telling me it's worth four oh oops it's worth 10 billion so they take the six billion they call it Goodwill they slap it in the balance sheet and they do it for a very

pragmatic Reas why do we need Goodwill on balance sheets because balance sheets have this unpleasant requirement which is they have to balance good willll has only one reason for its existence without it balance sheets would not balance but there's nothing behind it so every year I do send these suggestions the accounting rule writers they never seem to listen to them so about 12 years ago I sent a suggestion saying let's rename Goodwill because it sounds good and when it sounds good people feel the urge to pay for it I said let's call it what it

honestly is let's call it X not x's in Twitter but now an algebra of two numbers that don't equate you want to make the 2 plus X's you know whatever because that's what it is because if you open up a bance x is 17 B million you wouldn't feel the urge to pay for it so accounting balance sheets what you see as intangibles bear no resemblance to what true intangible value is on the other side of the balance sheet if you look at accounting balance sheets you'll see clutter and that's the only way I can

describe this right every time account and it's not the accountant's fault every time accounting rule writers sneeze you get pneumonia as accounted because that's seven additional line items so they break debt down and current liabilities down and 16 deferred items and the older company the more populated your balance sheet becomes and then of course they have this crowning Glory of shareholders Equity Book value of equity this is the accountant's entry into the competition of hey you don't like Market use Book value instead but what goes into the book value of equity of a company let's

say Coca-Cola if I look at the book value of equity of Coca-Cola what's said there just mathematically think through how I arrived at the number there what what goes in first if you go back in time it includes a capital erace in your IPO when was that Coca-Cola I don't know a century ago and it's a summation of every retained earning s so mathematically we writing out Book value of equity it is the ultimate backward looking number right it reflects everything you've done in your history and that's a good point to stop and ask what

is is the accounting mindset the first is it's record history good accounting should record history in fact I think fair value accounting distracts them from that reality I need from a corporate finance standpoint to know how you got to where we are accountants are backward looking they have to be and when in doubt you know what accountants do they write more rules they're rule driven you don't believe me pick up IFRS pick up Gap just look at the rule number you don't don't even try to read the rules it'll drive you insane just look at

the rule number I still remember when they were doing the fair value accounting rules they asked me whether I'd come in and talk to the accounting panel writing the rules and I said are you sure you've got the right guy you know what I Think About Accountants they said no come on in so I said can you send me the rule this was 20 years ago that you're thinking about constructing this send me the rule said Faz 157 you know what my reaction was there are 156 other rules out there that I didn't even know

about but that's the nature of accounting it's rule driven and backward looking so if you have an accounting mindset and not all accountants do and some non-acc accountants have this mindset here's what I want you to do I want you to switch it off and here's the financial mindset when I look at a company I start with the accounting balance sheet I have no choice but I very quickly translated into what I call a financial balance sheet what does a financial balance sheet look like on the surface it looks like an accounting balance sheet on

the assets out of the balance sheet there are only two items Assets in place Investments you've already made as a company that's pretty straightforward right if I look at Microsoft what's in here Windows Office they own LinkedIn no that's in there things they've already done Assets in place and growth assets you're saying what's in there this is the value that I'm attaching to Investments I expect you to make next year two years out five years out 10 years out 50 years out forever you're say that is crazy why would I do that that's exactly what

you do in markets why is NVIDIA valued at 1.5 trillion it's not for what they're doing right now but what is the promise that's driving it you might think it's overvalued but what's the promise that's pushing it up the fact that it dominates the AI chip space and that market is going to be a huge one it's built it that's what's in growth assets when I presented this to a group of C they said that's subjective this they make it sound like a bad word you know what the future is always subjective unless you happen

to have a direct line to God and if you do let me know we'll cancel the class we'll just let you tell us what's coming down the pipe it's subjective because it is the future yeah about no this is Investments That haven't even been specified they haven't the company hasn't even thought about these Investments but take a open AI right it's not even a company it's a nonprofit it's one of the most absurd things I've ever seen a nonprofit valued at 80 billion how the heck a nonprofit gets valued 80 billion I don't want to

wrap my head around it but there's nothing there yet right no revenues no earnings they haven't thought about the project but the idea is they have the platform that if AI takes off you might be able to make money how I don't know but you bring it into the value and we do markets all the time could we be wrong absolutely but that doesn't mean they don't have value you can't take the position of if it's uncertain I'm going to attach a value zero because that is a value I'll wager that my estimate value for

AI is going to be better than zero growth assets capture the value of things that you might do in the future which you don't even know about and the other side of the Ballance sheet there are only two ways you can fund a business private or public small or large you can borrow the money or use your own money so if it's a startup know your own money is the equity borrowed money can come from Friends relatives until you have no more friends and no more relatives and then becomes you know it it can come

from a bank that equ it's a much cleaner way to think about business businesses in fact I'm going to use that as a platform to talk a little bit about some differences across companies but now let me lay out the big picture of corporate finance I'm going to make a confession there's going to be lots of details over the course of this class which you might or might not get hopefully get it enough to get through the class how to estimate betas hurdle rates returns and capital but I'll be quite honest I don't care if

you forget all of that stuff the week after you finally don't do it the week before that might be a little unfortunate if you remember this page this is Corporate Finance on one page I truly mean it if you get this page you got Corporate Finance so as I go through this page here's what I want to think about even if you've never taken a corporate finance class you've never worked in finance Corporate Finance is basically about three big groups of decisions that every business has to make the first decision the investment decision here's the

principle in corporate finance Corporate Finance is principle driven and forward looking unlike accounting which is Rule driven and backward looking here's the principle in corporate finance that governs how you think about an investment you want to make that investment if you can earn a return on that investment that exceeds some minimum acceptable hurdle rate that sounds like a buzzword right for the moment it is but I'll give you the sub principle that's going to govern how we think about hurdle rates the hurdle rate investment should be higher for riskier Investments and lower for safer Investments

does that make sense to you do you need Finance to know that that's that's best common sense it should also reflect where you get the money remember you can borrow the money or raise your own money that Mak should so the hurdle rate should reflect the risk in the investment and the mix of funding used for that investment of course for the moment you're saying how do we measure risk that's why we have 25 more sessions right we'll fill in the details but that principle still holds and when we talk about returns in finance those

returns should be based on cash flows as opposed to accounting earnings right all that time you spend in the accounting class talking about FB rules and GAP earnings I can't couldn't care less ultimately I care about cash in cash out so I'll have to justify that because all that work seems to be thrown to the Wayside should reflect when you get the cash flows let me ask you a common sense question that I had to ask all of my kids at the age of four or five to figure out whether to set asde money for

college for them so there were five you know they'd get allowances every Saturday so one Monday head of the Saturday allowance so this is different points in time because my kids go from you know 30 34 to 24 so basically across when they got to the age of four or five I would ask the question do you want to wait till till Saturday or do you want to get your allowance today big consequential question because if they said I'd like to wait till Saturday I would have pulled the money out of the college fund and

said you know what let's create a McDonald's fund for you right you can go work because it's it's common sense I knew I was in trouble with my youngest when he said dad is it the same allowance that's deep Finance right he's thinking Pres value you might not see you don't need to do a present value equation you know in Latin America they never talk about present value because you come out of your mother's womb understanding that a peso today is worth more than a peso a year from now bolard today is definitely worth more

than a Bard later today time value you just learn that you want so if you're talking about return should reflect based on cash flow reflect when you get those cash flows and should have all side effects built into it there's no garnishing allowed in investment analysis you saying what are you talking about many of you worked at companies or you know before you came in right how many of you worked at traditional companies rather than Banks or Consulting companies okay so let's suppose you had a project analysis you did an a company and the numbers

tell you you shouldn't take the investment but there's somebody in the room who really really really really wants to take the investment you know what's going to happen right buzzword are going to come on but there are strategic reasons and now of course with this horrendous nonsense about ESG and I I won't hold back it's one of the if you can create a concept that's both toxic and empty esc's managed to pull it off that's kind of a tough thing to do I'm going to say terrible things about ESG so if it's going to hurt

you bring some your plugs because it is going to come at you there are ESG consideration make our ESG score go up this is garnishing you're using buzzword to override your number crunching your job is to bring it into the numbers you want to talk strategic let's talk strategic what is it that you see that's strategic and I'm going to try to bring it into the numbers so return should be based on cash flow should reflect the timing of the cash flows should have all of this other stuff the good stuff that you see out

there in the numbers the second principle is the financing principle the financing principle says I told you there were two ways you could raise money for your business debt and Equity that the right mix of debt and equity for your business is the one that maximizes your value minimizes your hurdle rate you'd rather have a lower hurdle rate than a Higher One I hope so if you can find a mix that reduce your hurdle rate go for it that's it and if you ask me what kind of debt should I take you know what I

mean by what kind longterm or shortterm dollar or Euro fixed rate I mean we have in terms of choices so many different choices I'm going to turn the question back on you and say tell me what a typical investment looks like for your company and I'll tell you what the right kind of debt for your company is you are an Indonesian infrastructure company your debt should be long-term Indonesian repair debt I don't don't have to do dances around this why because your projects are longterm your debt should be longterm your cash flows are in Indonesian

repair your debt should be in I know you can think about exceptions but this is the core principle if you're going to break it then you either have a really good reason or get protection when you break that's a financing principle find the mix of debt and Equity that minimizes your hurle rate match the debt up to your assets then I turn to the dividend principle the dividend principle says if you cannot find Investments that make your hurdle rate for God's sake Don't force the issue and say this is the best I can do my

hurdle rate is 9% but I can't make more than 7 and a half there is a better choice which is take the money out of the business if it's a private business give the cash back there's no glory in growth for the sake of growth investing for the sake of investing and this is my one of my problems with that other buzzword you probably heard in a lot of your classes which is sustainability I understand climates the sustaining the planet I understand sustaining a product I just don't understand sustaining a company I don't understand why

you would do it companies are legal entities if the reason for your existence is gone please leave with G every day I said please God put it out of its misery a zombie company at this point in time there's no reason you should be sustaining a company if your purpose is gone the dividend policy say if you cannot find Investments make your hurdle rate give the cash back it's a private business it's your cash take it out if it's a public company it's a little Messier you have to return cash to shareholders and you have

two ways of doing it one is the traditional way which is pay dividends which is what for a century and a half companies have done the other is to buy back and I know there's all this noise about stock BuyBacks Bernie Sanders doesn't like it and in fact last year I think the the law that was passed two years ago specifically targeted companies doing BuyBacks we can come back and talk about bad reasons for doing BuyBacks but BuyBacks are just flexible dividends and they're directed at people who want to cash out and if you ask

me which one should I use I'm going to argue that whether you should return your cash and dividend or B backs depends on who your shareholders are if you're conad what does conad do supplies power for this building and much of New York it's a regulated utility historically held by shareholders who like dividends you have a lot of cash what should you do pay dividends if you're Google you've never paid a dividend in your life you have a lot of cash what should you do buy back stock I told you Corporate Finance the rest of

this class is iing on this skate right you've got it this is corporate finance and in doing all of this you have a central objective in corporate finance which in the last 20 years has come under assault the central objective in corporate finance is you want to maximize the value of your business so I'm going to use that big picture to lay out a few broad themes for this class the first is is any of the stuff that I told you in the big picture something you didn't know already because what did I say if

you can raise money at 8% inste of 9% please raise it at 8% massive Insight no you knew that already right and if you raise it at 8% don't go take projects at 6% I knew that already why should that surprise you Corporate Finance at its core is common sense we've added a lot of stuff to that Common Sense giving you more tools but at it score it's common sense you how old corporate finances is a discipline it can be traced back to a paper written in 1958 by two professors of the University of Chicago

then Martin Miller and Franco miglani 1958 you're saying what happened before 58 Corporate Finance was just glorified accounting thank God it's not 1955 I wouldn't be teaching this class 1958 is when Corporate Finance is born have people been running businesses for Way Long longer well this I'm sure there were some very good cave business people imagine new tools for sale fire fire disruptive Force you can now no longer live in the darkness good business people Through the Ages have always understood these first principles India's largest company in terms of market cap it's company called Reliance

founded my a man called derani you know where he got his MBA he was a fifth grade Dropout but he was he got these first principles he you know trying to convince zani to invested 7% when the hurdle rate was 9% you'd be fired if you tried to do that I don't care why you got your MBA so here's what I want you to do as we go through this class and we talk about doing something and it doesn't make sense to you no matter you know don't let the fact that I said it intimidate

you I want you to stop and say that doesn't make sense to me CU if it doesn't make sense something is not jelling either I'm selling you snake oil or there's a piece of the puzzle you're not seeing because ultimately everything in corporate finance has to be traced back to common sense sorry oops second them corporate finances Focus you know what I mean by Focus we're pretty clear about how to pick projects we're saying you should go out and pick a project if its Net Present Value is positive we're categorical there's no on the one

hand on the other hand on the third hand there's no fuzziness here and you know where that Focus comes from it's comes from having that singular objective the reason we have that focus is because we have this objec of maximizing the value of the business and there in lies corporate finances weakest link and here's why if you disagree with that core objective everything in corporate finance falls apart so you know what we're going to spend about three sessions talking about that objective and I'm going to let you bring in everything you have as a counter

objective including maximizing ESG maximizing sustainability maximizing market share you throw it at because I want that out of the way before we talk about because if you don't don't know where you're going it doesn't matter how you get there without an endgame we're lost so there's Focus but the focus comes from this very specific objective so I'm going to spend a lot of time not just defending it I'm actually going to do something weird I'm going to take the objective and look at its weakest assumptions I'm going to take it apart because I want to

immunize you because in your other classes you're going to see people use oh Corporate Finance Milton fredman people you know they maximize value they they're not in the 21st Century it's absolute nonsense but I want to give you the tool so you can see where that comes from my 14th book is going to get published this year sometime this year it's amazing how much of a lead time there is October of 2022 I turned in the page proofs August of 2024 the book might hit the bookstores what are you doing for two years finessing the

font I mean that basically they do all these weird things right they spend all this time doing stuff you what's wrong with you right but the book is about one what has become one of my favorite structures in all of my classes it's a notion of a corporate life cycle we all know what the human life cycle looks like right you're born you're a baby toddler teenager peak of your life another the peak of your life feels like but some of you you might still be there it's when you can go to bed at 3:00

wake up at 600 and be a fully functioning human being that doesn't last very long enjoy it while it lasts and then you know what's coming right so let's take a business in business what is what looks like what's the equivalent of a baby startups right they need constant care and attention and capital unlike a baby so think of capital like Mother's you know every two hours you get up and cry I need another 10 million another 20 million and it all comes out very quickly so you have to go through this whole process over

and over again after the baby them you come to toddlers what do toddlers do they fall they get up they fall they get up they fall and sometimes don't get up and startups do the same thing they become Toddlers and after the toddler years come the teenage years some of you not that separated from that time but I've had four kids who have gone through those years you know what every teenage does right he or she gets up in the morning looks in the mirror and says I have lots of potential what can I do

today to screw it all up that's a teenage mindset time Horizon of what 15 seconds this is why you can get into Harbor and what do you do you then put up the social media page post that's so stupid that the with that that offer is withdrawn and you're saying what were you thinking you weren't you're a teenager when I bought Tesla for the first time in 2019 I'm getting very close to buying it again in 2019 I described it as my corporate teenager does Tesla have lots of potential absolutely even if you don't buy

into the company it's got incredible potential but one man gets up every morning and he says what can I do today to screw it all up maybe I'll tweet about a thigh diver what are you thinking maybe I'll buy a couple of billion dollars in Bitcoin why but I said look if you're buying Tesla stop complaining about Elon Musk because it comes as a package it's a corporate teenager then you reach the peak of your life I told you what it looks like for human beings but for companies the peak of your life is Everything

You Touch turns to gold now whether you remember 2016 Google and Facebook could do no wrong shows you how quickly things can pass but everything they touch turn to God Mark Zuckerberg was a genius enjoy the peak of your life because after the peak of your life what's coming middle age my daughter is going to turn 30 in a year and she's already dreading it she says life is over what am I going to do I'm going to be middle-aged nobody gets up and says I want to be middle-aged but it's coming right and while

you mourn about the fact that you're middle age enjoy middle age because even worse things are coming later because after middle age comes old age and after old age comes dementia and after dementia comes death and companies go through the cycle as well I'm going to argue that almost everything in corporate finance can be framed through the life cycle what are the big three decisions the investing decision the financing and dividend right let's take this out I know we've not done the class let's say you have a startup where is all this value coming from

the future does the investment investing decision matter it's the only thing that matters let's keep going I said there are two ways you can raise money debt and Equity how much should a startup borrow 100% you want to go bankrupt what's the rule in holes you're a hold stop digging what's the nature of a startup they're already losing money it is beyond absurd for a startup to borrow money this whole notion of venture debt just putting my brain around I mean even figuring out what that means now we'll talk about what drives it it's it's

one of those strange bubble driven phenomenon we expect VCS to pay your interest expenses that's what Venture debt is it should never exist in my view but lots of things that happen in finance shouldn't exist so a startup should borrow no money why because to make interest payments you got to make money you're not making money so what the heck are you doing borrowing money theot you're saying I have no choice maybe that's the reason you get pushed into a corner but if you have a choice be and how much dividends should have start up

back nothing your negative cash flows you've done it Corporate Finance investing principes is all that matters I've said being the CFO of a startup is like being the janitor in the company nobody cares what what you do you're in the basement with the janitor maybe the janitor does more than you do they keep the floors clean nobody what should our dividends be this year can you tell us how much we should borrow as you age assuming you age remember there's a very high mortality rate for corporate what percentage of startups don't make it to your

two 2/3 67% of startups don't make it to year two that's in Good Times in bad times it could be even higher if you make take it through hopefully what's happening you're scaling up and you're starting to make money unless you one of the startups from the last decade who Venture capitals forgot to ask the second question how do you plan to make money they thought about scaling up scale up oh by the way how do we make money I don't know but let's keep scaling up this the Airbnb in the Uber model right make

yourself a giant before you figure out what your business model is but presumably if you're a healthy company at some point in time you start to make money and when you start to make money initially might still choose not to borrow but there you can see that as you go through the life cycle there will be a time where your capacity to borrow money will open up your capacity to pay divid you tell me where your companies in the life cycle I can tell you how Corporate Finance principles are going to play out in that

fourth it's Universal in fact it's unfortunate that this class is called Corporate Finance because what do a corporate send a signal message about that what we're going to talk about over the next 15 weeks applies to companies that if you're a small business it doesn't apply to you do you think that hot dog stand that guy's been the hot dog stand outside that guy's been there for 32 years the guy runs at Str I've grown old with him I know where it's kids went to school does that guy have to make investment decisions when he

added sausage to the menu initially used to sell hot dogs alone that was a big investment decision for him he had to carry an extra and about 20 years ago he actually he used to be in a stand where he was outside the stand even in Winter he'd be wearing all this and then one day showed up this was 20 years ago and he's got a stand and he's inside the stand I said this is good and he said cost me a lot cost him $40,000 big investment decision huge how do you think he raised

the money he borrowed some he didn't do a debt to equity optimization he had to choose a funding mix and does he care about dividends he has three kids they went out to college guess who's paying for them the dividends from the hot dog stand investment decision financing decision Dividend Decision I'm going to argue that he will pay a bigger price for screwing up on those decisions than International Harvester would have Coca-Cola W because they're too big to fail they can go to Capital markets he is not too big to fail he can't go to

Capital markets so if he screws up on an investment decision he goes bankrupt so everything we say in this class will apply across all companies small or large public or private emerging market or develop there's no separate corporate finance for Australian companies or natural resource companies so next class when we start I'm going to talk about the companies I'm going to use and I'm going to get you started on your project here's what the first job you have is you have to find a group the group can be between four and eight people and I

will not put you in a group but I will create an orphan list if you have trouble you don't want to be on this list if you can avoid it but I will wait till Friday and if you have trouble finding a group I will put in the orphan list and you will get adopted by a group hopefully but try to find a group between now and Wednesday hey how are you