B2 - Financial Management Flashcards
Debt Financing
Use of short term and long term debt in capital structure
The following are ______ debt
commercial paper, line of credit
Short term debt
The following are _______ debt
debentures, bonds, finance leases
Long term debt
Commercial paper
Unsecured, ST debt instrument issued by a corp that matures in 270 days or less and must be used to finance current assets such as AR, inventory or meet ST obligations
Subordinated Debentures
Bond issue that is unsecured and ranks behind senior creditors in the event of an issuer liquidation; command higher interest rate
Income Bonds
Securities that pay interest only upon achievement of traget incme levels
Junk bonds
High default risk and high return
Mortgage bonds
Loan that is secured by residential or commercial real property; trustees act on behalf of bondholders to foreclose on mortgage assets in the event of default
What kind of lease?
Lease expense represents interest expense and amortization of the ROU asset will be recorded on IS
Operating Lease
What kind of lease?
Interest expense and amortization expense are accounted for separately on the income statement
Finance lease
Lease accounting
ROU asset and liability on balance sheet; ROU asset is amortized and the lease liability is paid down over the life of the asset
When do you not have to record an ROU Asset or lease liability?
short term
O in OWNES
Ownership transfer at the end of the lease
W in OWNES
Written purchase option that the lessee is reasonably certain to exervice
N in OWNES
Net present value of all lease payments and guaranteed residual value is equal or substantially exceeds the underlying asset FV
E in OWNES
Economic life of the underlying asset is primarily encompassed within the term of the lease
S in OWNES
Specialized asset such that it will not have an expected alternative use
What kind of financing
Variable cost with no maturity risk
high creditworthiness
Equity
What kind of financing
Lower ROE
Equity
Equity financing
rights of shareholders to a firm’s assets in bankruptcy are less than that of both secured and unsecured bondholders
Preferred stock
Require a fixed dividend that is similar to coupon payments made on debt instruments
What type of equity
Flexibility N
EPS Dilution N
Increase Financial Risk Y
Tax deductibility Y
Security issuance costs Low
investor return Fixed
Debt
What type of equity
Flexibility Y
EPS Dilution Y
Increase Financial Risk N
Tax deductibility N
Security issuance costs High
investor return Variable
Equity
Cost of capital < ROIC (return on invested capital)
+NPV; increased value
WACC: Interest rate
Use after tax rate
What does a higher working capital mean?
Less risk, lower ROA, more cash & mkt securities
What does a lower working capital mean?
More risk, higher ROA, less cash & mkt securities
What is the goal of working capital management?
Shareholder wealth and maximization
What does a decline in current ratio imply?
Increased risk - reduced ability to generate cash
What does an increase in current ratio imply?
Decreased risk - increased ability to pay off current liabilities
T/F Current ratio can be used to measure business health?
F
Ex) bookstore may have a high CA relative to CL, but be otherwise unhealthy because inventory isn’t being sold to generate cash
Cash conversion cycle
Days in inventory + Days sales in AR - Days payable outstanding
What does the cash conversion cycle tell us?
Length of time from the date of the initial expenditure for production to the date cash is collected from the customers offset by the length of time it takes to pay vendors
Days in inventory
Ending inventory/(COGS)/365
Days sales in AR
Ending AR/(Net Sales/365)
Days of payables outstanding
Ending AP/(COGS/365)
Working capital turnover
Sales/Avg working capital
In a period of rising prices, which inventory valuation factor would result in:
Higher COGS
LIFO
In a period of rising prices, which inventory valuation would result in:
Lower EI
LIFO
In a period of rising prices, which inventory valuation would result in:
Higher EI
FIFO
In a period of rising prices, which inventory valuation would result in:
Lower COGS
FIFO
In a period of falling prices, which inventory valuation would result in:
Lower EI
FIFO
In a period of falling prices, which inventory valuation would result in:
Higher COGS
FIFO
In a period of falling prices, which inventory valuation would result in:
Lower COGS
LIFO
In a period of falling prices, which inventory valuation would result in:
Higher EI
LIFO
Reorder point formula
Safety stock + (Lead time * Sales during lead time)
Safety stock
Cushion in case demand exceeds forecast
Reorder point
Inventory level a company should reorder or manufacture additional inventory
Which inventory valuation using Lower cost or market?
LIFO
Which inventory valuation uses NRV
FIFO/WA
Lower of cost or market
median value of the replacement cost, market ceiling, and market floor
Market floor
NRV - Profit
Economic order quantity
Sqrt(2SO/C)
APR of quick payment discount
360/(Pay Period-Discount Period) X Discount %/100%-Discount%
T/F Short term financing has higher rates?
F
T/F long term financing has higher rates?
T
When the value of inventory falls below original cost, the inventory must be restated to the _________
Lower of market value or NRV
Market value
Median value of the item’s replacement cost
Market ceiling
NRV
NRV
Net selling price less costs to complete and dispose
Periodic inventory system
Inventory quantities are determined by physical counts performed at least annually
Perpetual
Inventory balance is updated after each purchase or sale
Motives for holding cash:
Transaction
Company holds cash to make necessary payments
Motives for holding cash:
Speculative
Cash may be needed to take advantage of temporary opportunities
Motives for holding cash:
Precautionary
Having enough cash on hand to meet unexpected needs
When maintaining high cash levels, ROA..
Declines
How does reducing operating cycle affect cash
Increases - sell and collect quickly
Letter of credit
external credit enhancement used by a company issuing otherwise unsecured debt to enhance its credit
Line of credit
Bank loan
Advantages of ST Financing
Increase profitability and decreased financing costs
Advantages of LT Financing
Decreased interest rate risk and increased capital availability
Disadvantages of ST Financing
What does operating leverage measure
how sensitive a company’s operating income is to changes in sales
How do you calculate operating leverage
% change EBIT/% change in sales
What does a high operating leverage mean
small changes in sales cause a large change in income; higher fixed to variable costs
what does financial leverage measure
how sensitive a company’s EPS is to changes n operating income
How do you calculate financial leverage
% change EPS/% change in EBIT
what does a high financial leverage means
small changes in EBIT cause large change in EPS; higher fixed financing costs (interest) to variable
What are the ways to calculate ROI?
Profit margin X investment turnover
Operating income/ Total investment OR average assets
