Chapter 1&2 Flashcards
What is the primary objective of financial strategy
To maximize shareholder wealth
What are the 4 key decisions you have to consider in financial strategy
Financing
Investment
Dividend
Risk management
What are 8 other stakeholders
Shareholder
Lenders
Directors
Employees
Customers
Suppliers
Government
Community
What are the 4 ethical considerations directors have to face
Dealing with customers
Fair treatment of employees
Use of suppliers who may make use of child/ slave labour
Protection of the environment
Define sustainability
Meeting the needs of current generations without compromising the needs of future generations
Define sustainable development
How have governments promoted sustainable development (3)
Recognizes the interdependence between business, society and the environment.
Taxes and subsidies
Voluntary codes
Stakeholder engagement
What 6 things should a sustainability report include
Environmental factors eg water usage, emissions
Social factors eg employment practices
Governance factors eg procedures to manage ESG performance
Climate related disclosures
Policies, practice and performance
Targets for each ESG factor
Name 2 ESG metrics for each factor
Environmental
Absolute emissions eg CO2
Percentage of waste recycled
Social
Staff satisfaction
Number of notifiable accidents
Governance
Number of women in the management team
Employee anti-corruption training
What are the 4 problems that make it hard to measure ESG performance
Subjectivity involved in choosing appropriate KPI
Difficulty in measuring qualitative effects eg employee satisfaction
Difficulty in measuring ‘vague’ KPI eg reducing environmental damage
Comparison of different businesses can be problematic
What is the only measure which uses profit
ARR
How do you calculate ARR
ARR= average annual profit / average (or initial) investment
Average investment = (initial outlay + scrap value) / 2
What is the formula for a perpetuity
PV = cash flow * 1/r
What are the pros of payback period (4)
Simple to calculate and understand
Can use as an initial screening tool
Recognizes importance of liquidity
Focuses on nearest (most certain) cash flows
What are the cos of payback period (4)
Ignores time value of money
Only considers the cash flows up to the payback date
Encourages short termism
No clear decision rule
What are the pros of ARR or ROCE (3)
Simple to calculate and understand
Looks at the entire life of the project
Reflects the way that external investors judge the organization (% return)
What are the cons of ARR or ROCE (4)
Ignores the time value of money
Based on profits, not relevant cash flows
Doesn’t consider the length of the project (and hence liquidity)
No clear decision rule
What are the pros of NPV (5)
Takes into account the time value of money
Shows shareholders the wealth created by a project
Can allow for risk ( by adjusting COC)
Clear decision
Looks at the entire project
What are the cons of NPV (4)
Requires COC to be estimated several years into the future
Calculations can be time consuming and easily misunderstood
Doesn’t factor in liquidity/ time taken to generate return
Assumes you can reinvest proceeds at COC
What are the pros of IRR (4)
Allows for time value of money
Does not require an exact cost of funds to be estimated
Easy to interpret (% return of a project)
Looks at entire project
What are the cons of IRR (3)
Ignores the size of the investment required and total cash inflows
Can give conflicting answer to NPV when evaluating mutually exclusive projects
Assumes you can reinvest proceeds at the IRR
How do you calculate deprival value
The lower of replacement cost and (higher of NRV and value in use)
What are the two types of inflation rate
Specific inflation rate
General inflation rate
What is the formula that links real and nominal rates
(1+m) = (1+r) (1+i)
m = money rate
r = real rate
i = general inflation
What is the equation for a growing perpetuity
DF = 1 / (r-g)
What is the equation for equivalent annual cost (EAC)
Do you choose higher or lower
EAC = NPV / annuity factor for the project life
Lower
What are the two types of capital rationing
Hard capital rationing - no stakeholder is prepared to invest any more funds - impossible for more funding
Soft capital rationing - organsiation could raise more funds but has decided not to
How do you calculate the profitability index
Profitability index = NPV / initial investment
What are the 7 value drivers in SVA
And how can you positively impact these drivers
Sales growth rate - increase the rate or prevent decline using marketing, new products
Operating profit margin - increase price or reduce operating costs
Corporation tax rate - reduce the effective rate using tax planning
Investment in noncurrent assets - reduce investment without impacting business eg increase useful life of assets
Investment in working capital - reduce investment without impacting business eg reduce stock levels with inventory management
Cost of capital - reduce the COC by finding cheaper sources of capital
Life of projected cash flows - increase the life of projected cash flows eg face lift older products
What is a real option
As a result of doing a project, may enable us to do something else which has value
What are the 5 types of real options and give an example
Follow on options: ability to launch future products off the back of this one
Abandonment options: ability to exit project early and sell the assets eg in a joint venture and get paid out by partner
Timing options: ability to delay start of project and wait for favorable market conditions
Growth options: ability to dip your toe in the water with a small investment and then grow
Flexibility options: ability to change suppliers/ materials/ location if a cheaper option comes available
What 6 ways can a government restrict exploitation of its country by multinationals
Quotas - limit on quantity of goods
Tariffs - extra tax or duty applied to imports to make domestic goods more competitive
Non tariff barriers - extra quality or safety checks applied on imported goods
Restrictions - eg foreign companies prevented from buying domestic companies in certain industries
Nationalization - of foreign owned companies and their assets (sometimes without compensation)
Minimum shareholding - insistence of minimum shareholding in companies by residents
What are the 4 ways to deal with political risks
Negotiations with host government
Insurance - the ECGD (Exports Credits Guarantee Department) provide protection against nationalisation, war etc
Production strategies - contract out some production to local sources
Management structure - use of joint ventures with domestic companies
What are the 4 headings environmental costs can be classified into
Describe them
Give a few examples
Prevention costs:
Costs to prevent impacts before they occur eg staff training, costs to prevent pollution
Appraisal costs:
Costs to ensure compliance with environmental standards eg site inspections, cost of monitoring activities
Internal failure costs:
Costs incurred if org. has created waste but not released into environment eg waste disposal costs, product take back costs
External failure costs:
Costs incurred if org. has released harmful waste into the environment eg fines, cost of cleaning up oil spills
