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1 Becker BEC > B3 > Flashcards

B3 Flashcards

1
Q

Characteristics of Relevant Costs

A
  • direct costs
  • prime costs
  • discretionary costs (periodic annual budgeting decisions)
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2
Q

Alternative Terms for Relevant Costs and Revenues

A

Incremental Costs
Avoidable Costs and Revenues
**unavoidable and sunk costs

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3
Q

Cash Flow Effects: Direct and Indirect

A
  • Direct: pays or receives cash

* Indirect: depreciation; net proceeds on the sale of old offsets cost of new

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4
Q

How to treat sale of old asset

A

Cash proceeds +tax savings from loss or -tax on gain

*same goes for selling the equipment in the year of disposal

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5
Q

Should pre-tax or after tax cash flows be used?

A

AFTER tax cash flows

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6
Q

Don’t forget to include the __________

A

DEPRECIATION TAX SHIELD

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7
Q

New equipment can do the following

A

Increase revenues and/or reduce expenses

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8
Q

What is the rate usually used for DCF?

A

*WACC (hurdle rate)

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9
Q

Limitation of DCF?

A

*uses one single interest rate even though rates are subject to fluctuate

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10
Q

Interpreting the NPV Method

A 
Positive = Make Investment
Negative = Do Not Make Investment
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11
Q

NPV Method

A

*can use different interest rates to adjust for risk and inflation

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12
Q

NPV Method is Superior to IRR because

A

*it is flexible enough to consistently handle either uneven cash flows or inconsistent rates of returns

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13
Q

Limits of the NPV Method

A

*not providing the true rate of return on the investment

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14
Q

Limited Capital and NPV

A

*allocate capital to the combination of projects with the maximum net present value

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15
Q

Profitability Index

A

= (present value of net future cash inflow)/(present value of net initial investment)

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16
Q

IRR

A
  • determines the present value factor that yields an NPV equal to zero
  • rate at which the present value of the cash inflows equals the present value of the cash outflows
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17
Q

Limitation of IRR

A

*cash is assumed to be reinvested at the internal rate of return
*can’t take into account uneven cash flows or differing rates
*does not consider profit, only the interest rate
SIZE MATTERS

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18
Q

Payback Period Method

A
  • does not consider profitability
  • measures the time it will take to recover the initial investment
  • the greater the risk, the shorter the payback period should be
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19
Q

Payback Period Formula

A
  • (net initial investment)/(increase in annual net after-tax cash flow)
  • TAX SHIELD DEPRECIATION IS INCLUDED!!
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20
Q

Advantages/Disadvantages of Payback Method

A
  • easy to use and understand
  • emphasis on liquidity
  • time value is ignored
  • ignores future profitability
  • reinvestment of cash is not considered
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21
Q

Discounted Payback Method

A

*same as payback period except it takes into account the time value of money

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22
Q

Degree of Operating Leverage

A

(delta EBIT) / (delta sales)

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23
Q

Degree of Financial Leverage

A

(delta EPS) / (delta EBIT)

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24
Q

Degree of Total Leverage

A

(delta EPS) / (delta sales)

  • or: DOL x DFL
  • *DO NOT ADD TOGETHER!!

*the greater the degree of leverage, the greater the risk but also potential for profits

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25
Q

Who influences operating and financial leverage?

A

Operating - the industry

Financial - management

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26
Q

WACC

A

(cost of equity x percentage) x (cost of debt after tax x percentage)

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27
Q

How can management maximize the value of the firm?

A

*mixture of debt and equity that produces the lowest WACC

28
Q

Weighted Average Cost of Debt

A

(effective annual interest payments) / (debt cash available)

29
Q

kre vs. kdx

A 
kre = cost of equity financing
kdx = cost of debt financing
30
Q

Cost of Preferred Stock

A

(Dps) / (Nps)

outflow) / (NET inflow

31
Q

Cost of Retained Earnings (kre)

A

CAPM = krf + [bi x (km - krf)]

DCF = (Div1 / P0) + g

Bond Yield Plus Risk Premium = kdt + PMR (pre-tax YTM + risk premium)

32
Q

Return on Investment

A

ROI = income / (average assets = average PPE + average WC)

ROI = profit margin x investment turnover

33
Q

Return on Assets

A

net income / average total assets

34
Q

The higher the denominator used in the ROI computation…

A

the lower the return

35
Q

Limitations of ROI

A
  • short-term focus

* managers don’t want to invest because it lowers ROI

36
Q

Residual Income Approach

A

= Net income - required return

  • required return = net book value * hurdle rate
  • ARBITRARY RATE
37
Q

Economic Value Added (EVA)

A

*same as residual income except it uses the WACC

  • Positive = performance is meeting standards
  • Negative = performance is not meeting standards
38
Q

Economic Value Added Component Issues

A
  • Investment Valuation Issues: capitalization of R&D and current valuation of the balance sheet
  • Income may be adjusted
39
Q

Debt-to-capital ratio

A

(total debt) / (total capital = debt + equity)
total capital = total assets - NONINTEREST BEARING LIABILITIES
*INTEREST BEARING ONLY

40
Q

Debt-to-equity Ratio

A

(total debt) / (total shareholder’s equity)

41
Q

Working Capital Management

A

managing cash so that a company can meet its short-term obligations and includes administration of CA and CL

42
Q

Net working capital =

A

CA - CL

43
Q

Aggressive Working Capital vs. Conservative Working Capital

A 
Aggressive = current ratio low
Conservative = current ratio high
44
Q

Quick Ratio

A

(cash + marketable securities + A/R) / current liabilities

45
Q

Limitations of the Current Ratio

A

*cannot be used by itself; not necessarily the best indicator of the health of a company

46
Q

Working Capital and Risk

A

*possible failure to meet current obligations and difficulty in obtaining short-term financing

47
Q

Motives for Holding Cash

A
  • transaction motive
  • speculative motive
  • precautionary motive (liquidity/safety)
48
Q

Cost of Not Taking Payment Discount

A

(360 / (pay period - discount period)) * (discount% / 1 - discount%)

49
Q

Lockbox Systems

A

good if additional interest income > bank fees

50
Q

Concentration Banking

A

*single bank as a central depository; improved controls over inflow and outflow of cash

51
Q

Factoring Accounts Receivable

A
  • benefit > cost

* annualize all of it (know the difference between the annual fee and the financing fee)

52
Q

Methods to Delay Disbursements

A
  • defer payments
  • drafts
  • line of credit
  • zero balance accounts (JIT checking)
53
Q

Other Cash Management Techniques

A
  • managing float (bank > books)
  • overdraft protection
  • compensating balance
54
Q

Cash Conversion Cycle

A

= days in receivable + days in inventory - payables deferral period

55
Q

How to Calculate Components in Cash Conversion Cycle

A

*figure out the turnover ratio and then divide 365 by that answer

56
Q

Credit Policy Trade-offs

A

*if strict, days to collect go down but days in inventory increase

57
Q

What is the largest source of short-term credit for small firms?

A

*trade credit

58
Q

Most important factor in determining how much inventory a company is willing to carry

A

the carrying cost of the inventory

59
Q

Most important factor for determining safety stock

A

*the sales forecast

60
Q

Reorder Point

A

= safety stock + (lead time x sales during lead time)

61
Q

Economic Order Quantity

A

*aims to minimize both ordering and carrying costs

62
Q

Economic Order Quantity Formula

A

sqrt((2SO)C)

2 x annual sales x cost per purchase order) / (carrying cost per unit

63
Q

Primary Purchase Order Cost

A

*production set-up costs

64
Q

Other Inventory Management Issues

A
  1. JIT
  2. Kanban - visual signals that an item is needed
  3. Computerized Inventory Control - real-time communication
  4. Materials Requirements Planning - control the use of raw materials
65
Q

Management of Marketable Securities

A

United States T Bills (least risk) –> Commercial Paper/Equity Securities

  • HIGHLY liquid, low risk, higher returns than cash
  • used as a hedge against a credit crunch
66
Q

Periods of Low Rates vs. Periods of High Rates for Marketable Securities

A 
Low = hold cash
High = hold securities

1 Becker BEC (7 decks)

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