Chapters 11 -12

Question 1

when is debt particularly low risk

Answer 1

when its secured on a specific asset

when its secured on a general asset

it is due to be repaid in the short term

Question 2

what kind of charge is it, when a loan is secured on a specific asset

Answer 2

fixed

Question 3

what kind of charge is it when a loan is secured on general assets

Answer 3

floating

Question 4

order of the creditor hierarchy

Answer 4

creditors with fixed charge
creditors with floating charge
unsecured creditors
preference shareholders
ordinary shareholders

Question 5

expression for return expected by debt holders

Answer 5

Kd or rd

Question 6

expression for return expected by

Answer 6

Ke or re

Question 7

expression for cost of preference shares

Answer 7

Kpref or Kp

Question 8

what does D1 mean

Answer 8

dividend in 1 years time

Question 9

what does D0 ( 1 + G) mean

Answer 9

D0 is latest dividend paid

g is annual dividend growth rate

Question 10

what is P0

Answer 10

expected dividend yield

Question 11

what is a cum div

Answer 11

the current share price if a dividend is about to be paid

Question 12

formula for calculating growth rate

Answer 12

1 + g = (latest dividend / earliest dividend) to the power of 1/n

where n is number of growth periods

Question 13

in the formula g = bre, what is b

Answer 13

balance of profits reinvested at a percent

Question 14

what does CAPM stand for

Answer 14

capital asset pricing model

Question 15

what is unsystematic risk

Answer 15

component of risk that is associated with investing in a particular company

Question 16

what is systematic risk

Answer 16

component of a risk that will remain even if a diversified portfolio has been created

Question 17

what are beta factors

Answer 17

measures the average change in the return on a share each time there is a change in the stock market as a whole

Question 18

what does a beta factor of below 1 mean

Answer 18

below average risk,

Question 19

what does a beta factor of 1 mean

Answer 19

average risk, moves in line with market

Question 20

what does a beta factor of above 1 mean

Answer 20

above average risk

Question 21

what is market or equity risk premium

Answer 21

difference in expected average market return and risk free rate of return

Question 22

what does Rf mean

Answer 22

risk free rate

Question 23

what does Rm mean

Answer 23

market return

Question 24

what does E(Ri) mean

Answer 24

expected return

Question 25

what does (E(rm)-Rf) mean

Answer 25

market risk premium

Question 26

drawbacks of CAPM

Answer 26

only a single period model beta values are historic and therefore not accurate CAPM ignores size of company

Question 27

formula for cost of irredeemable loan notes

Answer 27

Kd ( pre-tax) = I / Po where I is interest paid and Po is market value of debt

Question 28

formula for impact of corp tax on irredeemable loan notes

Answer 28

Kd ( post tax ) - I (1-T)/ Po

Question 29

IRR Formula for redeemable debt

Answer 29

a% + (NPVa/ NPVa-NPVb) x (b%-a%)

Question 30

what is WACC

Answer 30

weighted average cost of capital

Question 31

what is Ve in WACC formula

Answer 31

total market value of shares ( ex div)

Question 32

what is Vd in WACC formula

Answer 32

total market value ex interest of debt

Question 33

what is Kd in WACC formula

Answer 33

cost of debt

Question 34

what is Ke in WACC formula

Answer 34

cost of equity in a geared company

Question 35

if there is a choice, should you use book or market values when calculating WACC

Answer 35

market

Question 36

what is capital structure

Answer 36

the capital structure of a company refers to the mixture of debt and equity finance used by a company

Question 37

disadvantage of debt finance compared to equity

Answer 37

debt increases dividend variability worsens interest and gearing ratios debt payments must be made even if a business doesnt make a profit

Question 38

adv's of debt compared to equity

Answer 38

cheaper better impact on EPS quicker than issuing shares interest repayments attract tax relief

Question 39

what does the traditional theory state

Answer 39

debt brings benefits, up to a certain level of gearing

Question 40

drawbacks of the traditional theory

Answer 40

it doesnt identify optimal levels of gearing fails to consider impact of tax

Question 41

what is arbitrage

Answer 41

purchase and sale of a security takes place simultaneously in different markets, with the aim of making a risk free profit through the exploitation of any price difference between markets

Question 42

what order is the pecking theory order

Answer 42

use internal funds if available use debt convertible debt preference shares issue new equity

Question 43

what is an asset beta

Answer 43

an ungeared beta, ie only measures business risk

Question 44

what is equity beta

Answer 44

a measure of the systematic risk of a share, including its business and financial risk

Question 45

what is the funding gap

Answer 45

inability of SME's to raise adequate finance

Question 46

why is it that SMEs find it hard to raise adequate finance

Answer 46

business is owned by a small group of investors amd is likely to be unquoted greater failure rate of SMEs knowledge of sources of finances may be limited

Question 47

what is the maturity gap

Answer 47

when medium sized business cannot obtain more debt finance as they have inadequate security

Question 48

what is business angel financing

Answer 48

when a wealthy individual or groups of individuals invest directly into an SME

Question 49

What is supply chain finance

Answer 49

where a middle man company pay off debts with a discount to the receiver so they are able to get the cash asap, and the sender of the funds can wait the full payment terms to pay the middle man