0. FM - Summary of FM

Question 1

Objectives - Define the objectives of financial management

Answer 1

Maximising SH wealth

Question 2

Objectives - How must directors run the company

Answer 2

As directors run the company on behalf on SH i.e. owners, they act as agents for the SH
Given this, the directors should make all decisions with the main obj of maximising SH welath

Question 3

Objectives - Give some examples of SH whose views may need to be considered when making decisions

Answer 3

• E’ees
• Env pressure groups
• Gvmt
• Managers
• Customers
• Suppliers

Question 4

Objectives - When should views of other stakeholders be considered?

Answer 4

Only to the extent that they maximise SH wealth

Question 5

Objectives - Define agency costs

Answer 5

Agency costs are where interests conflict, directors may act in their own best interests rather than the interests of other SH
e.g. rejecting a takeover bid

Question 6

Investment appraisal - Ch 2 - what are the 4 main appraisal techniques?

Answer 6

Net present value (NPV)
Internal rate of return (IRR)
Payback period
Accounting rate of return (ARR)

Question 7

Investment appraisal - Ch 2 - Which is the best appraisal method and why?

Answer 7

NPV is the best as

• uses relevant cash flows not accounting flows
• takes account of the time value of money
• it is in absolute terms rather than as a percentage

So it measures the change in wealth for the inv as a result of taking on the project

Question 8

Investment appraisal - Ch 2 - What is the formula for PV of a single cash flow?

Answer 8

Cash flow x 1/(1+r)^n

Question 9

Investment appraisal - Ch 2 - What is the formula for PV of an annuity cash flow

Answer 9

Annuity cash flow x 1/r x (1 - 1/(1+r)^n)

Question 10

Investment appraisal - Ch 2 - What is the formula for PV of a perpetuity cash flow

Answer 10

= Perpetuity cash flow x 1/r

Question 11

Investment appraisal - Ch 2 - What is the pv of growing perpetuities?

Answer 11

Cash flow at t1 x 1/(r-g)

Question 12

Investment appraisal - Ch 2 - What trick can be used to calc DF 3-7?

Answer 12

= DF 1-5 x DF t2

Question 13

Investment appraisal - Ch 2 - What is the trick to calc D0-5 ?

Answer 13

DF 1-5 + 1

Question 14

Investment appraisal - Ch 2 - How do you calculate changing discount rates?

Answer 14

If Y1 was 12% and Y2 was 10% then DF would be

= 1/ 1.12 x 1.10

Question 15

Investment appraisal - Ch 2 - How can you convert an annual rate into a monthly rate?

Answer 15

Monthly rate = (1+ annual rate )^ 1/12 - 1

Question 16

Investment appraisal - Ch 2 -

How would you convert a 1 year rate into a 3 year rate?

Answer 16

3 year rate = (1 + annual rate ) ^3 -1

Question 17

Investment appraisal - Ch 2 - How are relevant cash flows calculated?

Answer 17

You only need to consider the future incremental cash flows involved in a decision

Question 18

Investment appraisal - Ch 2 - What are the steps for calculating working capital

Answer 18

1. Calc the total amounts of working capital required
2. T0 OUTFLOW for full amount of working capital required
3. Rest of months = incremental inflow or outflow
4. At Tn the inflow should be the full amount of working capital invested
5. Check the running total = 0

Question 19

Investment appraisal - Ch 2 - When should taxation be taken into account?

Answer 19

If it isn’t specifically mentioned, ignore it
But generally
More revenue = more tax outflow @ 17%
Less revenue = less tax INFLOW @ 17%

Question 20

Investment appraisal - Ch 2 - how is tax relief consider in appraisal questions?

Answer 20

Usually if we buy an asset we receive WDA at 18% on RB basis (but read Q carefully)
- How you get relief depends on the timing of the purchase
Buy on the last day of T0 then tax relief starts at T0
Buy asset on first day of acc period, then tax relief starts at T1

Must also consider tax effects of the opportunity cash flows e.g. by not disposing of a fixed asset, we miss out on both the proceeds and the balancing allowance/charge that would’ve arisen

Question 21

Investment appraisal - Ch 2 - When is WDA allowance received when an asset is first purchased?

Answer 21

• How you get relief depends on the timing of the purchase
  Buy on the last day of T0 then tax relief starts at T0
  Buy asset on first day of acc period, then tax relief starts at T1

Question 22

Investment appraisal - Ch 2 - What are the tax effects of opportunity cash flows

Answer 22

Must also consider tax effects of the opportunity cash flows e.g. by not disposing of a fixed asset, we miss out on both the proceeds and the balancing allowance/charge that would’ve arisen

Question 23

Investment appraisal - Ch 2 - What is the aim when discounting money cash flows?

Answer 23

Must discount it at the money cost of capital

Question 24

How can cash flows be quoted?

Answer 24

May be quoted in

• Money terms i.e. true expected cash flow
• Current/rea