Capital Budgeting and Obtaining Capital

Question 1

Capital Budgeting

Answer 1

A planning process in which a company makes long-term investment decisions of how it will make major capital expenditures.

Question 2

Discounted Payback Period

Answer 2

The amount of time that it takes to cover the cost of a project by adding positive discounted cash flow coming from the profits of the project.

Question 3

Payback Period

Answer 3

The amount of time it takes to recover the cost of an initial investment.

Question 4

Internal Rate of Return (IRR)

Answer 4

The discount rate at which the net present value of costs (negative cash flows) of the investment equals the net present value of the benefits (positive cash flows) of the investment.

Question 5

Cash Inflow

Answer 5

Cash that is received by the investor, such as dividends paid on a stock owned by the investor.

Question 6

Cash Outflow

Answer 6

Any cash that is spent or invested by the investor.

Question 7

Opportunity Cost

Answer 7

The cost of an opportunity forgone (and the loss of the benefits that could be received from that opportunity); the most valuable forgone alternative.

Question 8

Depreciation

Answer 8

The accounting practice used to match the cost (depreciation expense) of a plant asset to the period in which the revenue was earned.

Question 9

Replacement Project

Answer 9

An undertaking in which a company eliminates a project at the end of its life and substitutes it with another investment.

Question 10

Sunk Costs

Answer 10

Costs that have already been incurred and cannot be recovered to any significant degree.

Question 11

Risk

Answer 11

Degree of uncertainty and potential financial loss inherent in an investment decision.

Question 12

Bond

Answer 12

A documentary obligation to pay a sum or perform a contract; a debenture.

Question 13

Common Stock

Answer 13

Shares of an ownership interest in the equity of a corporation or other entity with limited liability. Holders of this type of stock are entitled to dividends. Importantly, the financial rights of holders of this type of stock are deprioritized over preferred stockholders and liabilities.

Question 14

Debt

Answer 14

The money that a borrowing entity owes or is required to pay to a lender.

Question 15

External Financing Needs (EFN)

Answer 15

Additional funds needed from sources outside the firm in order to support its operations.

Question 16

Initial Public Offering (IPO)

Answer 16

A type of public offering where shares of stock in a company are sold to the general public.

Question 17

Preferred Stock

Answer 17

Stock with a dividend, usually fixed, that is paid from the profits before any dividend can be paid on common stock. It also has priority over common stock in liquidation.

Question 18

Venture Capital

Answer 18

The money invested in an innovative enterprise in which both the potential for profit and the risk of loss are considerable.

Question 19

IPO

Answer 19

A type of public offering where shares of stock in a company are sold to the general public.

Question 20

Registration Rights

Answer 20

A contractual agreement specifying the conditions for registering shares of stock with the Securities and Exchange Commission prior to selling them on a security exchange.

Question 21

Venture Capital

Answer 21

The money invested in an innovative enterprise in which both the potential for profit and the risk of loss are considerable.

Question 22

Capital Lease

Answer 22

A lease that is usually quite long, perhaps even spanning the entire duration of the life of the asset being leased; it has balance sheet implications as the asset itself may be transferred at the end of the contract.

Question 23

Operating Lease

Answer 23

A lease that is usually short compared to the life of the asset being leased; it does not result in a change of ownership at the end of the lease.

Question 24

Ask Price

Answer 24

The submitted price at which the trader is willing to sell.

Question 25

Bid

Answer 25

The submitted price at which the trader is willing to buy.

Question 26

Bid–Ask Spread

Answer 26

The difference between the prices quoted for an immediate sale and an immediate purchase.

Question 27

Issuer

Answer 27

A firm or government selling securities.

Question 28

Market Maker

Answer 28

A company or individual that submits both an ask price and a bid on a security.

Question 29

Mergers and Acquisitions (M&A)

Answer 29

Aspects of corporate strategy, corporate finance, and management dealing with the buying, selling, dividing, and combining of different companies and similar entities that can help an enterprise grow rapidly in its sector or location of origin (or a new field or new location) without creating a subsidiary, creating a child entity, or using a joint venture.

Question 30

Security

Answer 30

Proof of ownership of stocks, bonds, or other investment instruments.

Question 31

Underwriter

Answer 31

Buys securities from an issuer and then sells them on the market.

Question 32

Leveraged Buyout

Answer 32

An acquisition in which the purchase price is financed through a combination of equity and debt and the cash flows or assets of the target are used to secure and repay the debt.

Question 33

Current Assets

Answer 33

Assets on a balance sheet—such as cash, accounts receivable, and inventory—that are expected to be sold or otherwise used up in the near future, usually within 1 year or one business cycle, whichever is longer.

Question 34

Current Liabilities

Answer 34

All liabilities of a business that are to be settled in cash within the fiscal year or the operating cycle of a given firm, whichever period is longer.

Question 35

Operating Liquidity

Answer 35

The ability of a company or individual to quickly convert assets to cash for the purpose of paying operating expenses.

Question 36

Working Capital

Answer 36

A financial metric that is a measure of the current assets of a business that exceed its liabilities and can be applied to its operation.

Question 37

Cash Conversion Cycle

Answer 37

The length of time it takes a company to convert cash spent into cash received.

Question 38

Check Kiting

Answer 38

A form of check fraud that involves taking advantage of float to make use of nonexistent funds in a checking or other bank account.

Question 39

Float

Answer 39

Duplicate money that exists in the banking system in the time gap between when a deposit registers in the account of the recipient and when that same amount is deducted from the payer’s account.

Question 40

Lockbox Banking

Answer 40

A service offered to organizations by commercial banks that simplifies the collection and processing of accounts receivable by having those organizations’ customers’ payments mailed directly to a location accessible by the bank.

Question 41

Derivatives

Answer 41

An investment option valued at the performance of an underlying asset.

Question 42

Marketable Securities

Answer 42

An investment option for organizations with strong liquidity and some potential strategic purposes in risk aversion.

Question 43

Accounts Receivable

Answer 43

Money owed by entities to a firm on the sale of products or services on credit.

Question 44

Collection Policy

Answer 44

The set of rules for receiving accounts payable or debt.

Question 45

Credit Standards

Answer 45

A set of standards that involves decisions on how much credit risk to assume.

Question 46

Credit Terms

Answer 46

A set of terms that decides on the length of the period before payment must be made and whether or not a firm will offer a discount for early payments.

Question 47

Finished Goods

Answer 47

Goods ready for sale to customers.

Question 48

Holding Costs

Answer 48

Money spent to keep and maintain a stock of goods in storage.

Question 49

Perishable Goods

Answer 49

Goods that will expire. This isn’t just limited to food; clothes go out of fashion, and technology becomes rapidly outdated.

Question 50

Raw Materials

Answer 50

Materials and components scheduled for use in making a product.

Question 51

Seasonality

Answer 51

Fluctuations in demand based upon the time of the year.

Question 52

Work in Process (WIP)

Answer 52

Materials and components that have begun their transformation to finished goods.

Question 53

Factoring

Answer 53

A financial transaction whereby a business sells its accounts receivable to a third party (called a factor) at a discount.

Question 54

Peer-to-Peer Lending

Answer 54

A type of financing that occurs directly between individuals or “peers” without the intermediation of a traditional financial institution.

Question 55

Sweat Equity

Answer 55

A nonmonetary contribution of time and labor.

Question 56

Trade Credit

Answer 56

A loan extended by suppliers who allow businesses to buy now and pay later.

Question 57

Capital Gains

Answer 57

Profits that result from the disposition of a capital asset, such as a stock, a bond, or real estate due to arbitrage.

Question 58

Dividend

Answer 58

A pro rata payment of money by a company to its shareholders, usually made periodically (e.g., quarterly or annually).

Question 59

Dividend Irrelevance

Answer 59

The theory that a firm’s dividend policy is not relevant because stockholders are ultimately indifferent about receiving returns from dividends or from capital gain.

Question 60

Dividend Yield

Answer 60

A company’s total annual dividend payment per share divided by its price per share.

Question 61

Dividends per Share (DPS)

Answer 61

The amount shareholders earn per share.

Question 62

Information Asymmetry

Answer 62

The study of decisions in transactions where one party has more or better information than the other.

Question 63

Capital Gains

Answer 63

Profit that results from the disposition of a capital asset, such as a stock, a bond, or real estate, due to arbitrage.

Question 64

Cash Dividends

Answer 64

Payments by a company to shareholders paid out in currency, usually via electronic funds transfer or a printed paper check.

Question 65

Clientele

Answer 65

The body or class of people who frequent an establishment or purchase a service, especially when considered as forming a more-or-less homogeneous group of clients in terms of values or habits.

Question 66

Clientele Effect

Answer 66

The theory that changes in a firm’s dividend policy will cause a loss of some clientele, who will choose to sell their stock, and attract new clientele who will buy stock based on dividend preferences.

Question 67

Declaration Date

Answer 67

The day the board of directors announces its intention to pay a dividend.

Question 68

Retained Earnings

Answer 68

The portion of net income that is retained by the corporation rather than distributed to its owners as dividends.

Question 69

Signaling

Answer 69

Action taken by one agent to indirectly convey information to another agent.

Question 70

Stock Dividends

Answer 70

Payments paid out in the form of additional stock shares of either the issuing corporation or another corporation.

Question 71

Residual Dividend Model

Answer 71

A method a company uses to determine the dividend it will pay to its shareholders.

Question 72

Target Payout Ratio

Answer 72

The fraction of the net income a firm pays to its stockholders in dividends.

Question 73

Dividend Reinvestment Plan (DRIP)

Answer 73

The shareholder chooses to not receive dividends directly as cash; instead, the shareholder’s dividends are directly reinvested in underlying equity.

Question 74

Reverse Stock Split

Answer 74

A company reduces the number of shares outstanding by offering a number of new shares for each old one.

Question 75

Share Repurchase

Answer 75

A company buys its own stock from public shareholders, thus reducing the number of shares outstanding.

Question 76

Stock Dividend

Answer 76

A payment to a shareholder paid out in the form of additional stock shares of the issuing corporation or another corporation (such as its subsidiary corporation).

Question 77

Stock Split

Answer 77

A company increases the number of shares by offering several new shares in exchange for old ones.