Questions and Answers of Behavioral Corporate Finance

In connection with chapter question 2, answer the following questions.a. What probability would you assign to Jack being an engineer if the question instead stated that the room with lawyers has 70
The minicase in Chapter 3 contains an excerpt from a ValuEngine analyst report about the firm Aetna. The report states that ValuEngine’s forecasting models capture important features of stock price
Consider the financial planning case study in Chapter 13 about William and Mira Bold. At the end of the case, financial planner Claire begins to prepare for her second meeting with the Bolts. How can
Impact investors make investments in firms, organizations, and funds in order to gener- ate positive social and environmental impacts alongside a financial return. Toniic is an organization dedicated
Warren Buffett described his investment philosophy as being greedy when others are fearful and being fearful when others are greedy. Bob Goldfarb is the chairman of Ruane, Cunniff & Goldfarb, the
On February 13, 2016, The New York Times published a story by journalist Jeff Sommer entitled “Dividends, Wall Street’s Battered Status Symbol.” Sommer discussed the fact that firms had been
On January 26, 2005, James Stewart wrote about eBay in his Wall Street Journal col- umn “Common Sense.” Stewart indicated that he would consider purchasing eBay stock in the wake of its decline.
Answer the following six subquestions:1. Suppose you had $100 in a savings account and the interest rate was 2 percent per year. After five years, how much do you think you would have in your account
Given the information provided in the chapter, discuss the psychological phenomena associated with Martha Stewart’s investment decisions.
Consider a statement that begins, “I see myself as someone who . . .” Below are five phrases that might conclude this statement. Associate exactly one of the big Five psychological
Precept Capital Management is a hedge fund located in Dallas, Texas. The fund em- ploys several investment strategies, one of which is based on comparing the trajectory of stock prices to the
1. Describe the most important factors that impeded the Packard Foundation from diversifying, but not the Hewlett Foundation.2. With five family members and the former CEO of HP comprising half the
An overconfident manager misjudges the risk associated with a project and uses a dis- count rate that is too low. Suppose that the true situation is described by the situation in Question 4, but the
Make three modifications to the example in Question 4 and then reanalyze the problem.The three changes are:1. Change the up-move to 15 percent from 25 percent and the down-move to –13 percent from
Discuss any psychological phenomena that you per- ceive to have been at work in the S&L crisis, empha- sizing the implicit option features described in the case. Relate these phenomena to the
In July 2003 Samuel Waksal, the founder of ImClone Systems Inc., began a seven-year prison term. In December 2001 Waksal received word that the Federal Drug Admini- station (FDA) was about to issue a
Imagine 100 book bags, each of which contains 1,000 poker chips. Forty-five bags contain 700 black chips and 300 red chips. The other 55 bags contain 300 black chips and 700 red chips. You cannot see
Section 12.5 contains a real-option example involving a discount rate of 10 percent. Analyze how the real-option exercise policy is affected if the required return on the project is 15 percent
Suppose that the firm just had the one project (see Question 2) and you were thinking about acquiring the firm. What would the fair value of the acquisition be today, under the assumption that the
Imagine that the current date is t1. A year ago (t0), the firm invested $125 million in the project depicted in the illustrative example in Section 12.5 at a time when expected cash flows were $25
Problem 7 in Chapter 9 pertains to Volkswagen’s having installed “defeat devices.” In describing the issue, media reports pointed to Volkswagen’s corporate culture, which according to the New
The financial instability hypothesis holds that firms take on excessive debt during periods of euphoria. Discuss the behavioral basis for this perspective, drawing if necessary from discussions in
In respect to the experiences of financial firms in the lead-up to the global financial crisis, for each firm identify the most important psychological phenomena that destroyed value, and wherever
What are the main psychological challenges that Ford CEO Alan Mulally faced in respect to Ford’s regular Thursday managers’ meetings, and how do these relate to issues of process and culture at
In 2001 the chief executive of AOL Time Warner, Gerald Levin, sought to acquire AT&T’s cable business, the only cable business larger than the one already owned by AOL Time Warner. In doing so,
Discuss whether the comments of John McCormack that were quoted in Section 12.2 involve any behavioral issues.
What does the information presented in the minicase suggest about goal setting at Toshiba?Discuss the issue of proc
In May 2002, Hewlett-Packard acquired Compaq Computer in a takeover that featured considerable drama. In deliberating the acquisition, HP director Walter Hewlett, son of founder William Hewlett,
On February 23, 2000 MGM Grand, Inc. announced its intention to acquire Mirage Re- sorts, Inc. Over a three day window beginning the day before the announcement, MGM Grand’s market value fell by
What insights are to be gleaned from the comments Steve Case made at various times about AOL’s acquisition of Time Warner?
A traditional counterargument to the behavioral position described in the chapter is that the chapter arguments only focus on problematic acquisitions. For example, con- sider consumer products firm
Identify any psychological phenomena that were germane in HP’s acquisition of Autonomy.
HP director Patricia Dunn works in the banking industry, where consolidation mergers have worked out well in the long run but are vulnerable in the first two years. She re- sponded positively to the
In the chapter discussion of the merger between HP and Compaq, HP director Sam Ginn initially voiced doubts about the deal. However, the McKinsey experts retorted that even a slim profit in PCs would
Which psychological phenomena might have been at play in leading Microsoft to make the offer it did to acquire Yahoo!?Which psychological phenomena might have been at play in leading Yahoo!’s board
Under the purchase accounting method, an acquirer that pays more than the fair value for a target amortizes the difference over time on its income statement. In the 1990s, mergers between equally
Suppose that you are offered the opportunity to accept a risk involving the toss of a fair coin, in which you will win $450 if heads comes up and lose $450 if tails comes up.a. Would you accept this
Based on the information presented in the minicase, how would you characterize PSINet CEO William Schrader’s susceptibility to psychological phenomena?Discuss the extent to which PSINet’s
In 2016, automobile manufacturer Volkswagen was charged in the United States for having installed software that engaged antipollution technology in diesel cars not at all times as regulations
Michael Jensen developed some of the seminal ideas underlying agency theory. He suggests that at the time the market value of Enron peaked at approximately $70 billion, its intrinsic value was
When the Internet firm eToys went public in May 1999, its CEO Toby Lenk’s stock holdings were worth $850 million on the first day the company’s stock traded on the New York Stock Exchange. Lenk
Eleanor Bloxham is the founder and CEO of the Value Alliance Company and the Corporate Governance Alliance, and is a respected authority on matters involving corporate governance and valuation. In
Discuss any agency conflicts associated with HealthSouth’s pristine-audit program.
You can find Sun’s statement of cash flows on the book web site. Do these statements suggest that Sun engaged in market timing during the technology bubble?
How would you assess the review conducted by Hertz’s compensation committee in 2013?With reference to the Hertz minicase, what psycho-
In December of 1998, energy firm British Petroleum acquired American-based Amoco and became BP-Amoco. BP’s stock was listed on the London Stock Exchange and also traded on U.S markets through an
Analyze whether there are any behavioral issues associated with CFO Judy Lewent’s views about Merck’s dividend policy in respect to the Vioxx incident discussed in Chapter 2.
Analyze whether there are any behavioral issues in Cogent Communications’ dividend policy, which is described in the minicase for Chapter 7.
On January 31, 2005, an article appeared in The Wall Street Journal comparing the relative performance of stocks in the S&P 500 that pay dividends with stocks in the S&P 500 that do not
An article that appeared in The Wall Street Journal in February 2001 described the experiences of several investors who held dividend-paying stocks.22 The article mentions two investors, Wayne Denny
Ashland Inc. is an oil services and diversified chemical company that is located in Covington, Kentucky. In 2002 Ashland Inc. was paying an annual dividend of $1.10 per share and was planning to keep
What are the main issues that the traditional approach emphasizes in respect to Apple’s dividend policy?What are
Solar energy firm Solyndra manufactured cylindrical solar panels that, while expensive to produce, were easy to install on the roofs of commercial buildings. The firm was founded in 2004. In March
In 2011, Millard Drexler, the CEO of fashion retailing firm J. Crew, together with two private equity firms, TPG and Leonard Green & Partners, did a $3 billion lever- aged buyout. The strategy
Imagine that Adaptec is contemplating a project that requires a $3.75 billion initial outlay and features an NPV of $466 million. The firm is all-equity financed and has $1 billion in cash that it
Imagine that AutoNation is contemplating a project that requires a $350 million initial outlay and features an NPV of $48 million. The firm is all-equity financed and has $150 million in cash that it
The March 11, 2004, issue of Businessweek magazine reported that Standard & Poor’s had reduced Sun Microsystem’s debt rating to junk status. Over the course of the next two days, Sun’s
On December 19, 2000, an article appeared in The Wall Street Journal discussing stock price declines that followed share repurchases made by AT&T, Intel, Microsoft, and Hewlett-Packard. The
From January 1990 through March 1993, the stock of Cypress Semiconductor Corp. underperformed the S&P 500 by 26.5 percent on a cumulative basis. Then in April, the firm announced that its board
In August 2004, Google went public at a price of $85 per share. One year later, its stock price reached $285, as the firm’s earnings consistently exceeded analysts’ consensus forecasts. At that
The Duke/CFO study on financial executives’ forecasts for the 10-year horizon features a negative correlation between forecasts of return and forecasts of volatility. Discuss this property in light
Chapter 3 contains a discussion about how the Morgan Stanley analyst team computed a discount rate to use in its free cash flow valuation of eBay stock. Discuss any similarities between the
One behavioral school of thought holds that in complex situations where it is difficult to estimate probabilities, simple heuristics are generally better than complicated heuristics. Discuss this
In 1999, the S&P 500 returned 21 percent, closing out a streak of five consecutive stellar up-years. Then in 2000, the S&P 500 returned −9.1 percent. In 2001, the S&P 500 returned
Based on the information presented in the minicase, and the discussion in both Chapter 2 and this chapter, to what extent does Elon Musk fit the general charac- teristics of an entrepreneur and a
Analyze the assessment of Palm made by analyst Paul Sagawa.
Use the ideas developed in this chapter to assess whether Palm and 3Com were efficiently priced on Palm’s first day of trading.
Discuss whether any of the three IPO phenomena apply in regard to the Palm IPO de- scribed in the Behavioral Pitfalls box.
In 2004, 55 percent of firms provided guidance to analysts, down from 72 percent in the prior year.30 Before Google’s IPO, the firm’s executives announced that they did not plan to issue earnings
On August 19, 2004, the Internet search firm Google went public, at an offer price of $85 per share. The IPO was unconventional in that Google used an auction to determine its offer price and to sell
For many years, the large retail firm Walmart chose not to provide guidance. The firm’s legendary founder, Sam Walton, wrote in his autobiography that he did not care what the market thought.
During a presentation in February 2001, the CFO of Palm Inc. was asked how frequently her firm assesses and uses its cost of capital. In response, she stated that Palm computes its cost of capital
Consider the comments of Brian Walker, the president of Herman-Miller North America, who was quoted in the chapter as having said: “For dot.coms, it appears that the market has implicitly
Discuss the psychological aspects associated with how Groupon’s board and executives analyzed whether or not they should accept Google’s offer.Consider the notion of “transaction utility.”
In April 2003, analysts at Morgan Stanley and Prudential had set 12-month target prices of $106 and $108 for the firm eBay. At that time, eBay’s stock price was $89.22 and the consensus forecast
In 2010, the Morgan Stanley analysts covering eBay had stopped using PEG to value eBay, relying on P/E, P/S, and discounted values of free cash flows. In 2013, they dropped P/E and P/S, and only used
Compare two positions about Merck’s handling of Vioxx. The first position is that Merck should have warned patients about the enhanced risk of heart attack or stroke (after prolonged use of the
One of the points made in the discussion about the construction of the Anglo-French tunnel is that engineers designed the tunnels before they designed the trains, so there were many design changes
Consider the responses to a survey conducted of geologists working in the mining indus- try.46 The survey put the following question to the geologists: “If an economic deposit was discovered
Consider the contention that excessive optimism and overconfidence are important char- acteristics of leadership. Might these traits help managers initiate and complete daunting projects that they
Consider Robert Galvin’s approach to evaluating the satellite project proposal. The text suggests that in not developing discounted cash flow analysis, Galvin’s ap- proach was flawed. In
In 1999 Iridium declared bankruptcy and was sold to private investors. Suppose that you were to learn that by the end of 2003, Iridium had gone out of business. How surprised would you be? How would
Despite the growing popularity of cellular phones during the middle and late 1990s, Iridium undertook a $180 million promotional campaign to launch its product. It ran advertisements in The Wall
In what way were the situations at Boeing (with the 787) and Motorola (with the Iridium project) the same, and in what way were they different? Discuss this question through the lens of the planning
Consider the issues of project budget, scope, and project timetable. Discuss the extent to which the CityCenter project reflects survey evidence discussed in the chapter about capital budgeting
In what way were the situations at Boeing (with the 787) and Airbus (with the A380) similar, and in what way were they different? Discuss this question through the lens of the planning fallacy.
The Morgan Stanley report on eBay, dated July 23, 2015, established a one-year forward price target of $29 per share.19At the time of the report, eBay’s stock price was $28.45, which the report
For the period 2010 through 2014, the Morgan Stanley team’s 2010 report on eBay forecasted that free cash flow would on average grow by 5.7 percent. Free cash flow actually grew by an average
In the section of the book web site for this chapter, you will find an Excel file containing counterparts to the free cash flow table in Exhibit 3-3, but for forecasts and valuations made in 2010
On April 23, 2003, The Wall Street Journal published an article suggesting that the analysts following eBay were excessively optimistic about eBay’s future revenue stream. The arti- cle
In respect to the Morgan Stanley 2003 report on eBay, eBay’s annualized geometric return between May 2003 and December 2014 was 7.9 percent, its annualized arithmetic return was 14.2 percent, and
Consider the assumptions in Exhibit 3-2 that underlie the valuations associated with P/E, PEG, and price-to-sales. Analyze the degree to which these assumptions are mutually consistent, and
Consider the following excerpt from a Prudential report on Wal-Mart, dated May 13, 2003. The report states: We are maintaining our Hold rating on Wal-Mart as we believe the stock’s current
Analyst Safa Rashtchy developed his 2010 forecast for eBay’s revenue by assuming that its annual growth would be about a 30 percent compounded annual growth rate between 2002 and 2010. In the
The column “Ahead of the Tape” that appeared in the February 13, 2004, issue of The Wall Street Journal states that prudent investors prefer to value firms using free cash flow instead of
In the spring of 2003, analysts at Prudential established a target price for eBay, justifying the P/E values in their analysis by appeal to PEG. Their report stated that their assump- tions of a P/E
In its April 2003 report, the Morgan Stanley team computed EBITDA as “Adjusted Operating Income plus Depreciation Addback.” The adjustment in question is to “Re- ported Operating Income.” The
What insights from the discussion of the Morgan Stanley 2003 report on eBay apply to the 2013 report on Aetna
On November 2, 2004, The Wall Street Journal published an article describing the manner in which Merck’s executives made decisions about Vioxx. The Wall Street Journal article pointed out that the
Merck’s VIGOR study used 8,000 subjects. Notably, Merck chose to include only subjects whose risk of experiencing a heart attack was low. Half the subjects in the study received Vioxx, and the

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