Required #1

Expected return is the amount of profit or loss an investor anticipates on an investment that has various known
or expected rates of return. It is calculated by multiplying potential outcomes by the chances of them occurring,
and summing these results.

The expected return doesn't just apply to single investments. It can also be analyzed for a portfolio containing
many investments. If the expected return for each investment is known, the portfolio's overall expected return is
simply a weighted average of the expected returns of its components. For example, assume the following portfolio
of stocks:

Stock A: $500,000 invested and an expected return of 15%

Stock B: $200,000 invested and an expected return of 6%

Stock C: $300,000 invested and an expected return of 9%

With a total portfolio value of $1,000,000, the weights of Stock A, B and C are 50%, 20% and 30%. Thus, the
expected return of the total portfolio is:

Expected return of portfolio = (50% x 15%) + (20% x 6%) + (30% x 9%) = 7.5% + 1.2% + 2.7% = 11.4%

Expected return is calculated as the weighted average of the likely profits of the assets in the portfolio, weighted
by the likely profits of each asset class. Expected return is calculated by using the following formula:

Written another way, the same formula is as follows: E(R) = w1R1 + w2Rq + ...+ wnRn

Volatility is a statistical measure of the dispersion of returns for a given security or market index. Volatility can
either be measured by using the standard deviation or variance between returns from that same security or market
index. Commonly, the higher the volatility, the riskier the security.

Required# 2
Weighted average cost of capital (WACC) is the average rate of return a company expects to compensate all its
different investors. The weights are the fraction of each financing source in the company's target capital structure.

All sources of capital, including common stock, preferred stock, bonds and any other long-term debt, are included
in a WACC calculation. A firm’s WACC increases as the beta and rate of return on equity increase, as an increase
in WACC denotes a decrease in valuation and an increase in risk.

To calculate WACC, multiply the cost of each capital component by its proportional weight and take the sum of
the results. The method for calculating WACC can be expressed in the following formula:
Where:
Re = cost of equity
Rd = cost of debt
E = market value of the firm's equity
D = market value of the firm's debt
V = E + D = total market value of the firm’s financing (equity and debt)
E/V = percentage of financing that is equity
D/V = percentage of financing that is debt
Tc = corporate tax rate

It is tempting, when seeing the words ‘any bonus payment shall be at the company's absolute discretion’ in an
employment contract to think that the employer's discretion will in fact be 'absolute'. As usual though, when the
law is involved, things are not quite so straightforward.
When an employer exercises a discretion set out in a contract to determine a bonus, they must:

1. act rationally – an employer must not determine a bonus that no reasonable employer would have
determined in all of the circumstances; and
2. not take into account irrelevant factors or fail to take into account relevant factors in determining the
bonus.
The second of these requirements reflect a recent decision of the UK Supreme Court: Braganza v BP Shipping.
If an employer does not satisfy these requirements, there is a risk that an employee could successfully claim for
a higher bonus from a court or tribunal, and even claim that the employer's conduct gave the employee grounds
to claim they had been constructively dismissed.
Some examples of where employers might be held to fall short of the requirements are:

1. If a contract states that a bonus payment is 'discretionary based on the individual's performance', basing
the decision as to pay the bonus payment on factors other than individual performance (eg company-wide
performance).
2. A manager determining to pay a low bonus solely because of a personal dispute between the manager and
the employee.
3. Paying no bonus when the employee was in employment for the full year, performed at a level that would
otherwise normally justify a bonus, but was not in employment at the time the bonus was paid (and the
contract did not expressly state that no bonus would be payable in those circumstance).
The employer's obligations, however, only go so far. Where the employer can point to some plausible reason for
a particular bonus award, and the language of the bonus scheme does not prevent the employer from having regard
to that reason, it is in practice a high bar for an employee to establish that a bonus award is unlawful. That said,
future legal challenges alleging that irrelevant factors have been considered (or relevant factors ignored) are to be
expected.
Some practical points to consider to help reduce risk in this area:

1. Include in the employment contract that any bonus is at the employer's absolute discretion (as the practice
of paying bonuses itself could otherwise create a complete contractual right to bonuses with no latitude at
all for employer discretion).
2. State expressly that the company can determine not to pay a bonus if the employee is no longer employed
or under notice of termination (given by the other party) before the payment date.
 3. Where a bonus scheme describes how a bonus will be calculated, include in the scheme documentation
that a bonus payment can still be varied or not paid in the company's absolute discretion, including without
limitation for reasons such as personal performance, overall group or company performance, personal
misconduct etc.
4. If no or a very low bonus will be paid, consider documenting the reasons for this and providing the
employee an opportunity to comment. Take care, however, that you do not indirectly create other legal
risks (eg of a discrimination claim).
5. Ensure that all communications about the bonus scheme are consistent with it only being a discretionary
scheme.

Short Option #3
Beta (sometimes referred to as the "beta coefficient") is supposed to gauge the volatility of a specific security by
comparing it to the performance of a related benchmark over a period of time. In short, investors are looking to
see how much downside capture they can expect from an investment. CAPM analysis can also use to calculate
beta.

The baseline number for alpha is zero (investment performed exactly to market expectations), but the baseline
number for beta is one. A beta of one is an indication that the security's price moves exactly as the market moves.
If the beta is less than one, the security experiences less severe price swings than the market. Conversely, a beta
above one means that the security's price is more volatile than the market as a whole.

Short option # 4
Yes, Buffett is saying that markets are perfectly efficient or saying that you can’t measure “alpha” without
knowing the risk (or Beta) of the stock.

If stocks are priced by discounting their cash flows at a rate that is constant over time, although possibly varying
across stocks, then movements in stock prices are driven by news about cash flows. In this case common
variation in prices must be attributable to common variation in cash flows. If discount rates vary over time,
however, then groups of stocks can move together because of common shocks to discount rates rather than
fundamentals. For example, a change in the market discount rate will have a particularly large on the prices of
stocks whose cash flows occur in the distant future.

A constant component, called “alpha,” which may be positive, negative, or zero, and bears no relation to risk; a
risky component that depends upon the stock market’s return and is sometimes, in yet another example of my
profession’s casual attitude toward its own jargon, called “beta” (even though it’s beta times the market return);
and a third component, which, when written as part of an equation, looks like a constant , but actually represents
a value that fluctuates randomly, independently of the market’s return, and averages to zero as time passes. (We
have to be consistent in our time intervals; if we’re considering daily, rather than monthly returns, for example,
then alpha is a constant amount of daily return.)

Short option# 5
Economic value added (EVA) is a measure of a company's financial performance based on the residual wealth
calculated by deducting its cost of capital from its operating profit, adjusted for taxes on a cash basis. EVA can
also be referred to as economic profit, and it attempts to capture the true economic profit of a company. This
measure was devised by Stern Stewart and Co.
The purpose of EVA is to assess company and management performance. EVA champions the idea a business is
only profitable when it creates wealth and returns for shareholders, and requires performance above a company's
cost of capital.

EVA as a performance indicator is very useful. The calculation shows how and where a company created wealth,
through the inclusion of balance sheet items. This forces managers to be aware of assets and expenses when
making managerial decisions. However, the EVA calculation relies heavily on the amount of invested capital,
and is best used for asset-rich companies that are stable or mature. Companies with intangible assets, such as
technology businesses, may not be good candidates for an EVA evaluation.