Given your current business degree studies at the University of Adelaide, and the strong progress that you have made in your studies to date, you have been asked to represent the Business School at a seminar to Company Directors. You are required to make a presentation concerning some of the basic principles of finance theory that are often misunderstood by the general public.

You know that the audience have a genuine interest in the practical application of the basic finance theory principles. As a result, you need to ensure your discussion is not simply based on textbook extracts, but instead, something that they can understand in a way that relates to actual business practices.

Required:

Prepare a paragraph discussion on each of the following basic principles of finance theory, in such a way that the audience are able to obtain a useful appreciation as to the practical application of each principle [note for each of parts a) to e) below you should write approximately 50 to 75 words]:

a) the relationship between risk and return, and how it can be used to explain risk-adjusted required rates of return for investment in different financial securities / assets (for example; shares, bonds, investment projects). Your discussion of this principle should also briefly examine how much additional return the investor needs to cover for additional risk.

(4 marks are allocated to this part of the question)

b) the relationship between the price / present value of a financial security and current yields / interest rates, and how such relationship is important in the assessment of security valuations. Your discussion of this principle should also briefly examine the relative importance of the firm seeking to operate at its optimal capital structure.

(4 marks are allocated to this part of the question)

c) the benefits to the firm of the interest tax shield in determining its appropriate financing mix, and an assessment as to why in circumstances where the firm trades at an operating loss (negative net earnings before tax), it can still calculate an equivalent cash inflow equal to the amount of the loss multiplied by the firm tax rate, even though it does not formally receive any payment directly from the taxation authorities for this loss.

(4 marks are allocated to this part of the question)

d) how do we differentiate between incremental and non-incremental cash flows when evaluating a capital budgeting project, and why do we generally accept NPV as the most appropriate capital budgeting method?

(4 marks are allocated to this part of the question)

e) what circumstances exist where we use standard deviation or beta as the appropriate measurement of risk when analysing a financial security / investment opportunity. That is, applying this principle, how do we know when to use one measurement technique and not the other?

(4 marks are allocated to this part of the question)