reply to student responce in 150 words and 1 reference
3.When there is uncertainty in the marketplace, what happens to yield spreads and why?
With increased uncertainty and risk, the yield spread increases relative to treasuries. Typically, when economic conditions are in a down turn, people are more risk adverse and require greater return to incentivize risk. The “Hi-Yield” spread and TED spread are a good indicator of the level of risk aversion.
5.Why do venture capital companies often choose preferred stock for their equity position?
VC companies choose preferred stock because it is the less risky option as preferred stock has 2nd in line priority for payout in the case of liquidation. They also typically earn higher, constant dividends as opposed to common stock.
8.How does the use of accelerated depreciation encourage investment?
Brigham & Ehrhardt (2017) tell us that:
“In general, profitable firms are better off using accelerated depreciation because more depreciation is taken in the early years under the accelerated method, so taxes are lower in those years and higher in later years. Total depreciation, total cash flows, and total taxes are the same under both depreciation methods, but receiving the cash earlier under the accelerated method results in a higher NPV, IRR, and MIRR. “
Higher NPV (net present value), IRR (internal rate of return) and MIRR (modified internal rate of return) help encourage investment, as together they are the criteria for shareholder project evaluation. The NPV measures the value a project adds to shareholder wealth by summarizing cash flows discounted at their risk percentage. IRR and MIRR measure profitability as a percentage rate of return.
Brigham, E. & Ehrhardt, M. (2017). Corporate Finance: A Focused Approach, 6th Ed. Boston, MA: Cengage Learning.
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