Open Posted By: ahmad8858 Date: 05/01/2021 Graduate Assignment Writing

After reading chapters 1,2,3 & 19. Answer the following questions based on the information provided. Answer should be own in own words and APA format must 


Jaffe Desk and Jordan Reilly just graduated from UC with a master’s degree in marketing and public health. They want to establish healthcare business that will source and distribute pharmaceutical products in the United States and internationally. Jaffe and Jordan know that before they can invest their time and other resources in the project, they must obtain financing, which means that they must raise money to pay for the investment cost and other operating expenses. Because the company might not be listed in any capital market right away, they will not be able to raise equity funding from the public. Therefore, they are considering raising long-term capital from various sources including angel investors, venture capital market, bank loans, crowdfunding, and initial coin offerings (ICOs). They learnt in corporate finance course the advantages and disadvantages of different forms of business organizations. They are worried about the legal concept of limited liability and how it will affect their personal fortunes in the future in case the business fails. They are not very sure which form of business organization to set up to protect their personal liability, reduce taxes, and access external funding. Therefore, they are considering a partnership, a limited liability, or a corporation.  A cash budget they prepared shows that $5 million seed money would be needed to hire staff, buy computers, rent an office space, promote, and market the business as well as to meet other business development expenditures. They have agreed to share profits and losses equally if they decide to form a limited partnership. The general partner will, however, be paid a fixed salary of $6,000 per month before taxes and other payroll deductions.

In order to make good and right decision, Jaffe and Jordan have approached you to help them understand the concept of limited liability, advantages, and disadvantages of the various forms of business organizations and possible sources of funding for the business. 

  1. Explain the legal concept of limited liability to Jaffe and Jordan
  2. Give 2 advantages and 2 disadvantages of each of the following forms of business organization to Jaffe and Jordan:
    • partnership,
    • limited liability, and
    • corporation
  3. Ultimately, what form of business organization would you recommend Jaffe and Jordan to consider. Why?
  4. Based on your recommendation above, explain to Jaffe and Jordan if the following sources of raising long-term capital are appropriate for them:
    • angel investors (angels)
    • crowdfunding
    • venture capital
    • initial coin offering, and
    • long-term debt
Category: Accounting & Finance Subjects: Corporate Finance Deadline: 12 Hours Budget: $120 - $180 Pages: 2-3 Pages (Short Assignment)

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Stephen A. Ross Franco Modigliani Professor of Finance and Economics Sloan School of Management Massachusetts Institute of Technology Consulting Editor

FINANCIAL MANAGEMENT Block, Hirt, and Danielsen Foundations of Financial Management Sixteenth Edition

Brealey, Myers, and Allen Principles of Corporate Finance Twelfth Edition

Brealey, Myers, and Allen Principles of Corporate Finance, Concise Second Edition

Brealey, Myers, and Marcus Fundamentals of Corporate Finance Ninth Edition

Brooks FinGame Online 5.0

Bruner Case Studies in Finance: Managing for Corporate Value Creation Seventh Edition

Cornett, Adair, and Nofsinger Finance: Applications and Theory Fourth Edition

Cornett, Adair, and Nofsinger M: Finance Third Edition

DeMello Cases in Finance Third Edition

Grinblatt (editor) Stephen A. Ross, Mentor: Influence through Generations

Grinblatt and Titman Financial Markets and Corporate Strategy Second Edition

Higgins Analysis for Financial Management Eleventh Edition

Ross, Westerfield, Jaffe, and Jordan Corporate Finance Eleventh Edition

Ross, Westerfield, Jaffe, and Jordan Corporate Finance: Core Principles and Applications Fifth Edition

Ross, Westerfield, and Jordan Essentials of Corporate Finance Ninth Edition

Ross, Westerfield, and Jordan Fundamentals of Corporate Finance Eleventh Edition

Shefrin Behavioral Corporate Finance: Decisions that Create Value Second Edition

INVESTMENTS Bodie, Kane, and Marcus Essentials of Investments Tenth Edition

Bodie, Kane, and Marcus Investments Tenth Edition

Hirt and Block Fundamentals of Investment Management Tenth Edition

Jordan, Miller, and Dolvin Fundamentals of Investments: Valuation and Management Eighth Edition

Stewart, Piros, and Heisler Running Money: Professional Portfolio Management First Edition

Sundaram and Das Derivatives: Principles and Practice Second Edition

FINANCIAL INSTITUTIONS AND MARKETS Rose and Hudgins Bank Management and Financial Services Ninth Edition

Rose and Marquis Financial Institutions and Markets Eleventh Edition

Saunders and Cornett Financial Institutions Management: A Risk Management Approach Ninth Edition

Saunders and Cornett Financial Markets and Institutions Sixth Edition

INTERNATIONAL FINANCE Eun and Resnick International Financial Management Eighth Edition

REAL ESTATE Brueggeman and Fisher Real Estate Finance and Investments Fifteenth Edition

Ling and Archer Real Estate Principles: A Value Approach Fifth Edition

FINANCIAL PLANNING AND INSURANCE Allen, Melone, Rosenbloom, and Mahoney Retirement Plans: 401(k)s, IRAs, and Other Deferred Compensation Approaches Eleventh Edition

Altfest Personal Financial Planning Second Edition

Harrington and Niehaus Risk Management and Insurance Second Edition

Kapoor, Dlabay, Hughes, and Hart Focus on Personal Finance: An Active Approach to Achieve Financial Literacy Fifth Edition

Kapoor, Dlabay, Hughes, and Hart Personal Finance Twelfth Edition

Walker and Walker Personal Finance: Building Your Future Second Edition


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Stephen A. Ross Sloan School of Management Massachusetts Institute of Technology

Randolph W. Westerfield Marshall School of Business University of Southern California

Jeffrey F. Jaffe Wharton School of Business University of Pennsylvania

Bradford D. Jordan Gatton College of Business and Economics University of Kentucky

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Published by McGraw-Hill Education, 2 Penn Plaza, New York, NY 10121. Copyright © 2018 by McGraw-Hill Education. All rights reserved. Printed in the United States of America. Previous editions © 2014, 2011, 2009, and 2007. No part of this publication may be reproduced or distributed in any form or by any means, or stored in a database or retrieval system, without the prior written consent of McGraw-Hill Education, including, but not limited to, in any network or other electronic storage or transmission, or broadcast for distance learning.

Some ancillaries, including electronic and print components, may not be available to customers outside the United States.

This book is printed on acid-free paper.

1 2 3 4 5 6 7 8 9 LWI 21 20 19 18 17 ISBN 978-1-259-28990-3 MHID 1-259-28990-7

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All credits appearing on page or at the end of the book are considered to be an extension of the copyright page.

Library of Congress Cataloging-in-Publication Data

Name: Ross, Stephen A., author. Title: Corporate finance : core principles & applications / Stephen A. Ross, Sloan School of Management, Massachusetts Institute of Technology, Randolph W. Westerfield, Marshall School of Business, University of Southern California, Jeffrey F. Jaffe, Wharton School of Business, University of Pennsylvania, Bradford D. Jordan, Gatton College of Business and Economics, University of Kentucky. Description: Fifth edition. | New York, NY : McGraw-Hill Education, [2016] | Series: The McGraw-Hill education series in finance, insurance, and real estate Identifiers: LCCN 2016035324 | ISBN 9781259289903 (alk. paper) Subjects: LCSH: Corporations—Finance. Classification: LCC HG4026 .R6755 2016 | DDC 658.15—dc23 LC record available at https://lccn.loc.gov/2016035324

The Internet addresses listed in the text were accurate at the time of publication. The inclusion of a website does not indicate an endorsement by the authors or McGraw-Hill Education, and McGraw-Hill Education does not guarantee the accuracy of the information presented at these sites.


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To our family and friends with love and gratitude.

—S.A.R. R.W.W. J.F.J. B.D.J.

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Stephen A. Ross is the Franco Modigliani Professor of Financial Economics at the Sloan School of Management, Massachusetts Institute of Technology. One of the most widely published authors in finance and economics, Professor Ross is recognized for his work in developing the arbitrage pricing theory, as well as for having made substantial contributions to the discipline through his research in signaling, agency theory, option pricing, and the theory of the term structure of interest rates, among other topics. A past president of the American Finance Association, he currently serves as an associate editor of several academic and practitioner journals and is a trustee of CalTech.


Randolph W. Westerfield is Dean Emeritus of the University of Southern California’s Marshall School of Business and is the Charles B. Thornton Professor of Finance Emeritus. Professor Westerfield came to USC from the Wharton School, University of Pennsylvania, where he was the chairman of the finance department and member of the finance faculty for 20 years. He is a member of the Board of Trustees of Oak Tree Capital Mutual Funds. His areas of expertise include corporate finan- cial policy, investment management, and stock market price behavior.


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Bradford D. Jordan is professor of finance and holder of the Richard W. and Janis H. Furst Endowed Chair in Finance at the University of Kentucky. He has a long-standing interest in both applied and theoretical issues in corporate finance and has extensive experience teaching all levels of corporate finance and financial management policy. Professor Jordan has published numerous articles on issues such as cost of capital, capital structure, and the behavior of security prices. He is a past president of the Southern Finance Association, and he is coauthor of Fundamentals of Investments: Valuation and Management, 8th edition, a leading investments text, also published by McGraw-Hill Education.


Jeffrey F. Jaffe has been a frequent contributor to finance and economic literatures in such jour- nals as the Quarterly Economic Journal, The Journal of Finance, The Journal of Financial and Quantitative Analysis, The Journal of Financial Economics, and The Financial Analysts Journal. His best-known work concerns insider trading, where he showed both that corporate insiders earn abnormal profits from their trades and that regulation has little effect on these profits. He has also made contributions concerning initial public offerings, the regulation of utilities, the behavior of market makers, the fluctuation of gold prices, the theoretical effect of inflation on interest rates, the empirical effect of inflation on capital asset prices, the relationship between small-capitalization stocks and the January effect, and the capital structure decision.

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IN THE BEGINNING. . . It was probably inevitable that the four of us would collaborate on this project. Over the last 20 or so years, we have been working as two separate “RWJ” teams. In that time, we managed (much to our own amazement) to coauthor two widely adopted undergraduate texts and an equally successful graduate text, all in the corporate finance area. These three books have collectively totaled more than 31 editions (and counting), plus a variety of country-specific editions and international editions, and they have been translated into at least a dozen foreign languages.

Even so, we knew that there was a hole in our lineup at the graduate (MBA) level. We’ve continued to see a need for a concise, up-to-date, and to-the-point product, the majority of which can be realistically covered in a typical single term or course. As we began to develop this book, we realized (with wry chuckles all around) that, between the four of us, we have been teaching and research- ing finance principles for well over a century. From our own very extensive experience with this material, we recognized that corpo- rate finance introductory classes often have students with extremely diverse educational and professional backgrounds. We also recog- nized that this course is increasingly being delivered in alternative formats ranging from traditional semester-long classes to highly compressed modules, to purely online courses, taught both syn- chronously and asynchronously.

OUR APPROACH To achieve our objective of reaching out to the many different types of students and the varying course environments, we worked to distill the subject of corporate finance down to its core, while main- taining a decidedly modern approach. We have always maintained that corporate finance can be viewed as the working of a few very powerful intuitions. We also know that understanding the “why” is just as important, if not more so, than understanding the “how.” Throughout the development of this book, we continued to take a hard look at what is truly relevant and useful. In doing so, we have worked to downplay purely theoretical issues and minimize the use of extensive and elaborate calculations to illustrate points that are either intuitively obvious or of limited practical use.

Perhaps more than anything, this book gave us the chance to pool all that we have learned about what really works in a corporate finance text. We have received an enormous amount of feedback over the years. Based on that feedback, the two key ingredients that we worked to blend together here are the careful attention to peda- gogy and readability that we have developed in our undergraduate

books and the strong emphasis on current thinking and research that we have always stressed in our graduate book.

From the start, we knew we didn’t want this text to be encyclo- pedic. Our goal instead was to focus on what students really need to carry away from a principles course. After much debate and consul- tation with colleagues who regularly teach this material, we settled on a total of 21 chapters. Chapter length is typically 30 pages, so most of the book (and, thus, most of the key concepts and applica- tions) can be realistically covered in a single term or module. Writing a book that strictly focuses on core concepts and applications nec- essarily involves some picking and choosing with regard to both topics and depth of coverage. Throughout, we strike a balance by introducing and covering the essentials, while leaving more special- ized topics to follow-up courses.

As in our other books, we treat net present value (NPV) as the underlying and unifying concept in corporate finance. Many texts stop well short of consistently integrating this basic principle. The simple, intuitive, and very powerful notion that NPV represents the excess of market value over cost often is lost in an overly mechani- cal approach that emphasizes computation at the expense of com- prehension. In contrast, every subject we cover is firmly rooted in valuation, and care is taken throughout to explain how particular decisions have valuation effects.

Also, students shouldn’t lose sight of the fact that financial management is about management. We emphasize the role of the financial manager as decision maker, and we stress the need for managerial input and judgment. We consciously avoid “black box” approaches to decisions, and where appropriate, the approximate, pragmatic nature of financial analysis is made explicit, possible pit- falls are described, and limitations are discussed.

NEW AND NOTEWORTHY TO THE FIFTH EDITION All chapter openers and examples have been updated to reflect the financial trends and turbulence of the last several years. In addition, we have updated the end-of-chapter problems in every chapter. We have tried to incorporate the many exciting new research find- ings in corporate finance. Several chapters have been extensively rewritten.

• In the eight years since the “financial crisis” or “great recession,” we see that the world’s financial markets are more integrated than ever before. The theory and practice of corporate finance has been moving forward at a fast pace and we endeavor to bring the theory and practice to life with completely updated chapter


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openers, many new modern examples, completely updated end of chapter problems and questions. 

• In recent years we have seen unprecedented high stock and bond values and returns as well as histori- cally low interest rates and inflation. Chapter 10 Risk and Return:  Lessons from Market History updates and internationalizes our discussion of historical risk and return. With updated historical data, our estimates of the equity risk premium are on stronger footing And our understanding of the capital market environment is heightened.

• Given the importance of debt in most firms capital structure, it is a mystery that many firms use no debt. There is new and exciting research of this “no debt” behavior that sheds new light on how firms make actual capital structure decisions. Chapter 15 Capital Structure: Limits to the Use of Debt explores this new research and incorporates it into our discussion of Capital Structure.

• Chapter 16 Dividends and Other Payouts updates the record of earnings, dividends, and repurchases for large U.S. firms. The recent trends show repurchases far outpacing dividends in firm payout policy. Since firms may use dividends or repurchases to pay out cash

to equity investors, the recent importance of repur- chases suggests a changing financial landscape. 

• There are several twists and turns to the calculation of the firms weighted average of capital. Since the weighted average cost of capital is the most important benchmark we use for capital budgeting and repre- sents a firm’s “opportunity cost,” its calculation is criti- cal. We update our estimates of Eastman Chemical cost of capital using readily available data from the Internet to distinguish the nuances of this calculation. 

Our attention to updating and improving also extended to the extensive collection of support and enrichment materials that accompany the text. Working with many dedicated and talented colleagues and professionals, we continue to provide supplements that are unrivaled at the graduate level (a complete description appears in the following pages). Whether you use just the textbook, or the book in conjunction with other products, we believe you will be able to find a combination that meets your current as well as your changing needs.

—Stephen A. Ross —Randolph W. Westerfield

—Jeffrey F. Jaffe —Bradford D. Jordan

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Corporate Finance: Core

Principles & Applications is rich in valuable learning tools and support to help students succeed in learning the fundamentals of financial management.

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CHAPTER 5 Interest Rates and Bond Valuation 147

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A convertible bond can be swapped for a fixed number of shares of stock anytime before maturity at the holder’s option. Convertibles are relatively common, but the number has been decreasing in recent years.

A put bond allows the holder to force the issuer to buy the bond back at a stated price. For example, International Paper Co. has bonds outstanding that allow the holder to force International Paper to buy the bonds back at 100 percent of the face value given that cer- tain “risk” events happen. One such event is a change in credit rating from investment grade to lower than investment grade by Moody’s or S&P. The put feature is therefore just the reverse of the call provision.

BEAUTY IS IN THE EYE OF THE BONDHOLDER Many bonds have unusual or exotic features. One of the most common types is an asset-backed, or securitized, bond. Mortgage-backed securities were big news in 2007. For several years, there had been rapid growth in so-called sub- prime mortgage loans, which are mortgages made to individuals with less than top-quality credit. However, a combina- tion of cooling (and in some places dropping) housing prices and rising interest rates caused mortgage delinquencies and foreclosures to rise. This increase in problem mortgages caused a significant number of mortgage-backed securities to drop sharply in value and created huge losses for investors. Bondholders of a securitized bond receive interest and principal payments from a specific asset (or pool of assets) rather than a specific company. For example, at one point rock legend David Bowie sold $55 million in bonds backed by future royalties from his albums and songs (that’s some serious ch-ch-ch-change!). Owners of these “Bowie” bonds received the royalty payments, so if Bowie’s record sales fell, there was a possibility the bonds could have defaulted. Other artists have sold bonds backed by future royalties, includ- ing James Brown, Iron Maiden, and the estate of the legendary Marvin Gaye.

Mortgage-backs are the best known type of asset-backed security. With a mortgage-backed bond, a trustee pur- chases mortgages from banks and merges them into a pool. Bonds are then issued, and the bondholders receive pay- ments derived from payments on the underlying mortgages. One unusual twist with mortgage bonds is that if interest rates decline, the bonds can actually decrease in value. This can occur because homeowners are likely to refinance at the lower rates, paying off their mortgages in the process. Securitized bonds are usually backed by assets with long-term payments, such as mortgages. However, there are bonds securitized by car loans and credit card payments, among other assets, and a growing market exists for bonds backed by automobile leases.

The reverse convertible is a relatively new type of structured note. This type generally offers a high coupon rate, but the redemption at maturity can be paid in cash at par value or paid in shares of stock. For example, one recent General Motors (GM) reverse convertible had a coupon rate of 16 percent, which is a very high coupon rate in today’s interest rate environment. However, at maturity, if GM’s stock declined sufficiently, bondholders would receive a fixed number of GM shares that were worth less than par value. So, while the income portion of the bond return would be high, the potential loss in par value could easily erode the extra return.

CAT bonds are issued to cover insurance companies against natural catastrophes. The type of natural catastrophe is outlined in the bond’s indenture. For example, about 30 percent of all CAT bonds protect against a North Atlantic hurricane. The way these issues are structured is that the borrowers can suspend payment temporarily (or even perma- nently) if they have significant hurricane-related losses. These CAT bonds may seem like pretty risky investments, but to date, only three such bonds have not made their scheduled payments, courtesy of the massive destruction caused by Hurricane Katrina, the 2011 Japanese tsunami, and an unusually active 2011 tornado season.

Perhaps the most unusual bond (and certainly the most ghoulish) is the “death bond.” Companies such as Stone Street Financial purchase life insurance policies from individuals who are expected to die within the next 10 years. They then sell bonds that are paid off from the life insurance proceeds received when the policyholders pass away. The return on the bonds to investors depends on how long the policyholders live. A major risk is that if medical treat- ment advances quickly, it will raise the life expectancy of the policyholders, thereby decreasing the return to the bondholder.

FINANCE MATTERS Finance Matters By exploring information found in recent publica- tions and building upon concepts learned in each chapter, these boxes work through real-world issues relevant to the surrounding text.

PEDAGOGY Confirming Pages

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230 PART 2 Valuation and Capital Budgeting


Making Capital Investment Decisions Everyone knows that computer chips evolve quickly, getting smaller, faster, and cheaper.

In fact, the famous Moore’s Law (named after Intel cofounder Gordon Moore) predicts that the

number of transistors placed on a chip will double every two years (and this prediction has

held up very well since it was published in 1965). This growth often means that companies

need to build new fabrication facilities. For example, in 2015, GlobalFoundries announced

that it was going to spend about $646 million to further expand its manufacturing plant in

Saratoga, New York. The expansion at the plant would allow the company to produce more

of its new 14 nanometer (nm) chips. Not to be outdone, IBM announced that it was investing

$3 billion in a public-private partnership with New York State, GlobalFoundries, and Samsung

in an effort to manufacture 7 nm chips, which would be smaller, faster, and consume less

energy than current chips.

This chapter follows up on our previous one by delving more deeply into capital budget-

ing and the evaluation of projects such as these chip manufacturing facilities. We identify the

relevant cash flows of a project, including initial investment outlays, requirements for net

working capital, and operating cash flows. Further, we look at the effects of depreciation and

taxes. We also examine the impact of inflation and show how to evaluate consistently the NPV

analysis of a project.

Please visit us at corecorporatefinance.blogspot.com for the latest developments in the world of corporate finance.

8.1 INCREMENTAL CASH FLOWS Cash Flows—Not Accounting Income You may not have thought about it, but there is a big difference between corporate finance courses and financial accounting courses. Techniques in corporate finance generally use cash flows, whereas financial accounting generally stresses income or earnings numbers. Certainly, our text follows this tradition, as our net present value techniques discount cash flows, not earnings. When considering a single project, we discount the cash flows that the firm receives from the project. When valuing the firm as a whole, we discount the cash flows—not earnings—that an investor receives.

Chapter Opening Case Each chapter begins with a recent real- world event to introduce students to chap- ter concepts.

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CHAPTER 2 Financial Statements and Cash Flow 19


Financial Statements and Cash Flow When a company announces a “write-off,” that frequently means that the value of the compa-

ny’s assets has declined. For example, in July 2015, Microsoft announced that it would write

off $7.6 billion related to its purchase of Nokia’s phone business the previous year. What made

the write-off interesting was that Microsoft had only paid $7.2 billion for the phone business.

The oil business was also hit hard in 2015 as the five largest publicly traded oil companies

working in Wyoming wrote off a combined $41 billion for the first nine months of the year.

These write-offs were due to the declining value of oil production facilities in that state.  

While Microsoft’s write-off is large, the record holder is media giant Time Warner, which

took a charge of $45.5 billion in the fourth quarter of 2002. This enormous write-off followed

an earlier, even larger, charge of $54 billion.

So, did the stockholders in these companies lose billions of dollars when these assets

were written off? Fortunately for them, the answer is probably not. Understanding why ulti-

mately leads us to the main subject of this chapter, that all-important substance known as

cash flow.

Please visit us at corecorporatefinance.blogspot.com for the latest developments in the world of corporate finance.

2.1 THE BALANCE SHEET The balance sheet is an accountant’s snapshot of the firm’s accounting value on a par- ticular date, as though the firm stood momentarily still. The balance sheet has two sides: On the left are the assets and on the right are the liabilities and stockholders’ equity. The balance sheet states what the firm owns and how it is financed. The accounting definition that underlies the balance sheet and describes the balance is

Assets ≡ Liabilities + Stockholders’ equity [2.1]

We have put a three-line equality in the balance equation to indicate that it must always hold, by definition. In fact, the stockholders’ equity is defined to be the difference between the assets and the liabilities of the firm. In principle, equity is what the stockholders would have remaining after the firm discharged its obligations.

Table 2.1 gives the 2016 and 2017 balance sheets for the fictitious U.S. Composite Corporation. The assets in the balance sheet are listed in order by the length of time it normally would take an ongoing firm to convert them to cash. The asset side depends on the nature of the business and how management chooses to conduct it. Management must make decisions about cash versus marketable securities, credit versus cash sales, whether

ExcelMaster coverage online


Two excellent sources for company financial information are finance. yahoo.com and money. cnn.com.

Core Calculator Skills This icon, located in the margins of the text near key con- cepts and equations, indicates that additional coverage is available describing how to use a financial calculator when studying the topic. This additional coverage can be found in a special calculator section, Appendix C.

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Spreadsheet Techniques This feature helps students to improve their Excel spreadsheet skills, …