Fundamentals of Corporate Finance

Citation

Ross, S. A., Westerfield, R. W., & Jordan, B. D. (2024). Fundamentals of Corporate Finance (2024 Release). McGraw Hill.

Chapter Summary

The 2024 Release continues a textbook first published in 1991 (the preceding print edition was the thirteenth). It runs to more than 900 pages in twenty-seven chapters grouped into eight parts. The preface states that the book was written for a first course in business or corporate finance, for finance majors and non-majors, and is built on three themes: an emphasis on intuition, a unified valuation approach with net present value at its centre, and a managerial focus on the financial manager as decision maker. Each chapter opens with a real-world vignette and learning objectives, and ends with a summary, a review and self-test problem, concept review questions, graded questions and problems, and a minicase, most of them set in small businesses.

Part 1: Overview of Corporate Finance (Chapters 1–2)

Chapter 1: Introduction to Corporate Finance; Chapter 2: Financial Statements, Taxes, and Cash Flow. The goal of the firm and agency problems, ethics and executive pay, Sarbanes-Oxley and the links between finance and other disciplines, including fintech; then the difference between cash flow and earnings, market and book values, and corporate and personal tax rates.

Part 2: Financial Statements and Long-Term Financial Planning (Chapters 3–4)

Chapter 3: Working with Financial Statements; Chapter 4: Long-Term Financial Planning and Growth. Standardised statements, ratio analysis including an expanded DuPont analysis and the EV-EBITDA ratio, with real company and industry data; then pro forma statements using the percentage of sales approach, and internal and sustainable growth rates.

Part 3: Valuation of Future Cash Flows (Chapters 5–8)

Chapters 5–6: Introduction to Valuation: The Time Value of Money; Discounted Cash Flow Valuation. Time value of money is split across two chapters: a short introduction to future and present value, then annuities, perpetuities and their growing forms, with calculator hints and spreadsheet exhibits.

Chapters 7–8: Interest Rates and Bond Valuation; Stock Valuation. Bond features and pricing, real and nominal rates, the term structure, clean and dirty prices, default rates and an introduction to Islamic finance; then constant- and non-constant-growth stock valuation models, valuation with multiples and stock market operations.

Part 4: Capital Budgeting (Chapters 9–11)

Chapter 9: Net Present Value and Other Investment Criteria; Chapter 10: Making Capital Investment Decisions; Chapter 11: Project Analysis and Evaluation. NPV compared with IRR, payback, discounted payback, MIRR and the accounting rate of return, with survey evidence on practice; project cash flows and special cases of discounted cash flow analysis; and scenario, sensitivity and break-even analysis.

Part 5: Risk and Return (Chapters 12–13)

Chapter 12: Some Lessons from Capital Market History; Chapter 13: Return, Risk, and the Security Market Line. Historical returns, volatility and risk premiums, arithmetic and geometric averages, market efficiency and the market turmoil of 2008 and 2020; then diversification, systematic and unsystematic risk, beta and the security market line, developed with an intuitive approach that bypasses much of the usual portfolio theory.

Part 6: Cost of Capital and Long-Term Financial Policy (Chapters 14–17)

Chapter 14: Cost of Capital; Chapter 15: Raising Capital; Chapter 16: Financial Leverage and Capital Structure Policy; Chapter 17: Dividends and Payout Policy. Estimating the weighted average cost of capital for a real company and free cash flow valuation of the firm; venture capital, IPOs and crowdfunding; leverage, optimal capital structure and bankruptcy; and dividends, repurchases and the evidence on payout policy.

Part 7: Short-Term Financial Planning and Management (Chapters 18–20)

Chapter 18: Short-Term Finance and Planning; Chapter 19: Cash and Liquidity Management; Chapter 20: Credit and Inventory Management. Operating and cash cycles and cash budgets; float, collection and disbursement; and credit policy with a brief overview of inventory management.

Part 8: Topics in Corporate Finance (Chapters 21–27)

Chapters 21–23: International Corporate Finance; Behavioral Finance: Implications for Financial Management; Enterprise Risk Management. Exchange rates, international capital budgeting and political risk; how biases and heuristics affect financial decisions and the behavioural case against market efficiency; and hedging with forwards, options and swaps.

Chapters 24–27: Options and Corporate Finance; Option Valuation; Mergers and Acquisitions; Leasing. Employee stock options, real options and option-embedded securities; put-call parity and the Black-Scholes model applied to corporate problems; M&A analysis, defensive tactics and divestitures; and lease valuation and recent changes in lease accounting.

Key Concepts

Parts 1–2: Overview and Financial Statements

• Goal of the firm and agency problems: maximising the value of owners' equity, and the conflicts that arise between managers and owners.
• Cash flow versus earnings: why accounting income differs from the cash a firm generates.
• Sustainable growth rate: the growth a firm can achieve without changing its financial policies.

Parts 3–4: Valuation and Capital Budgeting

• Time value of money: converting cash flows at different dates into comparable present or future values.
• Net present value: the excess of market value over cost, the book's unifying decision rule.
• Sensitivity, scenario and break-even analysis: testing how a project's value responds to its assumptions.

Parts 5–6: Risk, Return and Financing

• Systematic risk and beta: the market-wide risk that diversification cannot remove and that determines required return.
• Security market line: the relationship between beta and expected return.
• Weighted average cost of capital: the overall required return used to evaluate a firm's investments.
• Capital structure and payout policy: how the mix of debt and equity, and dividends versus repurchases, affect value.

Parts 7–8: Short-Term Management and Special Topics

• Operating and cash cycles: the timing of cash flows in day-to-day operations.
• Real options and option valuation: treating managerial flexibility and corporate securities as options.
• Enterprise risk management: identifying and hedging the risks a firm faces.

Critical Analysis

Strengths

• One idea carried through. The authors set out to present corporate finance as a few integrated ideas rather than a collection of topics, and every subject is related back to valuation and NPV. This gives students a single thread to follow from bonds and stocks through capital budgeting to financing decisions.
• Intuition before formulas. The preface describes explaining principles at a commonsense level before specifics, and the coverage notes show it in practice, for example in short first chapters on time value and capital budgeting and in developing the security market line without heavy portfolio theory.
• Extensive learning support. Calculator Hints, Spreadsheet Strategies, labelled examples, summary tables, key equations and a large bank of problems tied to learning objectives suit students who need repeated practice. Minicases set in small firms connect the techniques to realistic decisions.
• Current and practical examples. The 2024 Release updates opening vignettes and examples (for instance the Twitter buyout, recent interest rate rises and survey evidence from chief financial officers), and covers topics such as fintech, crowdfunding and lease accounting.

Limitations

• Length. Twenty-seven chapters and more than 900 pages hold far more than one course can cover; instructors and students must choose.
• Deliberately light on theory. The authors chose to downplay purely theoretical issues. Portfolio theory, capital structure theory and option pricing are treated intuitively, so students heading for advanced finance will need a more rigorous text.
• US-centred. Tax rules, regulation (Sarbanes-Oxley, SEC rules on IPOs) and institutional detail are American; the preface notes separate country editions for other markets.

Where It Fits in the Course

Ross, Westerfield and Jordan is a standard text for a first corporate finance course. OpenStax's Principles of Finance is a free introductory alternative that covers financial statements, time value, valuation, risk and return and capital budgeting with calculator and spreadsheet exercises; it can serve as a substitute where cost matters or as a second explanation. Peter Atrill's Financial Management for Decision Makers approaches financial management from the point of view of the managers who make the decisions, combining theory with practical tools for analysis and planning.

For the next step, Berk and DeMarzo's Corporate Finance organises the subject around the Law of One Price and treats risk, capital structure and options more rigorously, and Brealey, Myers, Allen and Edmans's Principles of Corporate Finance is a comprehensive text that explains why firms and markets behave as they do. Students who have worked through Ross's Parts 3–6 will find both much more accessible.

How to Use This Book

The book assumes basic algebra and some familiarity with accounting; Chapter 2 reviews the accounting needed. A financial calculator or spreadsheet is essential from Chapter 5 onwards.

• Core for a first course: Chapters 1–2, then Parts 3 and 4 (Chapters 5–11) on valuation and capital budgeting, Part 5 (Chapters 12–13) on risk and return, and Chapter 14 on the cost of capital.
• Commonly added: Chapter 3 on ratio analysis and Chapters 15–17 on raising capital, capital structure and payout.
• Selective: Part 7 for courses with a working-capital emphasis, and Part 8 chapters as electives or for a second course.

For each chapter, read the learning objectives, work through the labelled examples with a calculator or spreadsheet, and attempt the chapter review and self-test problem before the end-of-chapter problems. Use the minicases for group work or written assignments; Conch Republic Electronics (Chapters 10–11) and the S&S Air cases running through several chapters are good practice in combining techniques. Time value of money (Chapters 5–6) is the most common stumbling block: practise until those calculations are routine before moving on.