Business 3 Financial Management Flashcards
What is the basic equation for calculating ROE?
= NI / Equity
What is the extended DuPont ROE formula (3)?
= Profit margin
- Asset turnover
- Financial leverage
What is the extended DuPont ROE formula (5)?
= Tax burden
- Interest burden
- Operating income margin
- Asset turnover
- Financial leverage
How do you calculate tax burden?
= NI / pretax income
How do you calculate interest burden?
= Pretax income / EBIT
How do you calculate operating income margin?
= EBIT / Sales
How do you calculate asset turnover?
= Sales / average total assets
How do you calculate financial leverage?
= Average total assets / equity
True or false.
In analyzing ROE, a lower tax burden is better.
False (Retention: the more profits a company retains after paying taxes the better)
In analyzing ROE, is a lower interest burden better?
NO (Retention: the more pretax income a company retains after paying interest to debt holders the better)
In analyzing ROE, is a lower operating income margin better?
NO (the more company profits earned on sales after paying operating costs the better)
Define tax burden.
The extent to which a company retains profits after paying taxes
Define interest burden..
Reflects how much in pretax income a company retains after paying interest to debt holders
Define operating income margin
A measure of company profits earned on sales after paying operating costs
What is the investment turnover formula?
= Sales / AVERAGE investment
What is the investment turnover formula?
= Sales / AVERAGE investment
What is the goal of working capital management?
Shareholder wealth maximization
Define net working capital.
= CA - CL
Define net working capital.
= CA - CL
How do you calculate the current ratio?
= CA / CL
What does the current ratio measure?
- the # of times CA exceeds CL
- Way of measuring ST solvency
- Demos firm’s ability to generate cash to meet its ST obligations
True or false.
In general, a lower current ratio is better.
False (higher is better)
What does a deteriorating current ratio imply?
- Reduced ability to generate cash
What can a deteriorating current ratio be attributable to?
- Increases in ST debt
- Decreases in CA
- Combo of both
What does an improving current ratio imply?
- Increased ability to pay off CL
What can an improving current ratio be attributable to?
- Using LT borrowing to repay ST debt (in cases in which a firm lacks cash to reduce current debts)
What can an improving current ratio be attributable to?
- Using LT borrowing to repay ST debt (in cases in which a firm lacks cash to reduce current debts)
What is generally considered to be the best single indicator of a company’s ability to meet its ST obligations?
Current ratio
What is the objective of the EOQ?
- To compute the quantity to order
- Not to comprehensively plan the requirements of production inventories
What does EOQ stand for?
Economic order quantity
What type of model is EOQ?
- Inventory model
- Attempts to minimize both ordering and carrying cost
Is cycle counting an inventory control technique?
- NO
- An inventory auditing procedure
What is materials requirements planning (MRP)?
- Inventory management technique
- Projects and plans inventory levels in order to control the usage of raw materials in the production process
What does MRP primarily apply to?
- WIP
- Raw materials
Why would a firm generally choose to finance temporary assets with ST debt?
Matching the maturities of assets and liabilities reduces risk
The amount of inventory a company would tend to hold in stock would increase as what decreases?
As cost of carrying inventory decreases
True or false.
The amount of inventory that a company would tend to hold in stock would increase as the variability of sales decreases.
False.
Amount of inventory would DECREASE as variability of sales DECREASES
What working capital financing policy subjects a firm to the greatest risk of being unable to meet the firm’s maturing obligations?
Permanent CA with ST debt
Which inventory management approach orders at the point where carrying costs equate nearest to restocking costs in order to minimize total inventory cost?
EOQ (economic order quantity)
Why were JIT (just in time) models developed?
To reduce the lag time b/w inventory arrival and inventory use
What does Kanban inventory control prevent?
Prevents either oversupply or interruption of the entire manufacturing process resulting from the lack of a component
What effect would a lockbox provide for receivables management?
- lockbox system expedites cash inflows (minimizes collection float) by having a bank receive payments from a company’s customers directly
True or false.
Vacant land sold for less than the NBV would increase the current ratio and decrease net profit.
True
Sale of land would increase cash and therefore CA w/o increasing CL (this would increase current ratio)
Sale of land at a loss would decrease net profit
Do capital budgeting decisions include the financing of ST working capital needs?
NO (these are more operational in nature)
What is included in DCF analysis?
- Future operating cash savings
- Current asset disposal price
- Tax effects of future asset depreciation
- Future asset disposal price
Should a project be accepted if NPV is negative?
NO
In an inflationary environment, future cash flows (except for CF generated from the tax effect of depreciation) should be increased to the extent of what?
Predicted inflation (for internal consistency, an inflationary factor should also be added to the discount rate)
