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Fin 331 > Exam 1 > Flashcards

Exam 1 Flashcards

1
Q

The system that includes the circulation of money, the granting of credit, the making of investments, and the provision of banking facilities

A

Finance

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2
Q

What are the three interconnected areas in finance?

A

Financial Management (corporate finance)
Capital Markets (financial institutions)
Investments (asset pricing, portfolio theory

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3
Q

Forms of Business Organization

A

Proprietorship
Partnership
Corporation

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4
Q

Advantages of a Corporation

A

Unlimited life, easy transfer of ownership, limited liability, and ease of raising capital

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5
Q

Disadvantages of a Corporation

A

double taxation and cost of setup and report filing

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6
Q

The primary financial goal of management is _______________, which translates to ___________.

A

shareholder wealth maximization
maximizing stock price

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7
Q

Value of any asset is ___________ of cash flow stream to owners.

A

present value

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8
Q

Most significant decisions are evaluated in terms of their ____________________.

A

financial consequences

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9
Q

_________ change over time as conditions change and as investors obtain new information about a company’s prospects.

A

Stock prices

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10
Q

____________ recognize that being socially responsible and maximizing stakeholder welfare is consistent with maximizing long-term shareholder value.

A

Managers

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11
Q

factors that affect managerial behavior

A

Managerial compensation packages
Direct intervention by shareholders
The threat of firing
The threat of takeover

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12
Q

__________ are more likely to prefer riskier projects, because they receive more of the upside if the project succeeds.

A

Stockholders

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13
Q

_________ receive fixed payments and are more interested in limiting risk, particularly concerned about the use of additional debt, and attempt to protect themselves by including covenants in bond agreements that limit the use of additional debt and constrain managers’ actions.

A

bondholders

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14
Q

____________ have a progressive structure (the higher the income, the higher the marginal tax rate).

A

Personal taxes

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15
Q

First, subject to flat tax rate of 21%. Also, can be subject to state tax (about 5% in Ms).

A

Corporations

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16
Q

provides a snapshot of a firm’s financial position at one point in time based on book values.
Assets = Liabilities + Owner’s Equity

A

Balance sheet

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17
Q

summarizes a firm’s revenues and expenses over a
given period – thus, shows profitability. Also known as profit and loss statement

A

Income statement

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18
Q

reports the impact of a firm’s activities on cash flows
over a given period.

A

Statement of cash flows

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19
Q

shows how much of the firm’s earnings were retained, rather than paid out as dividends.

A

Statement of stockholders’ equity

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20
Q

______ accounts are listed in order of liquidity (convertibility to cash)

A

Asset

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21
Q

Items expected to be converted to cash within one year

A

Current assets

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22
Q

Cash, Marketable securities, Accounts receivable, Notes receivables, Prepaid expenses, and Inventory

A

Current assets

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23
Q

(cash equivalents) - temporary investments of excess cash

A

Marketable securities

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24
Q

(from sales on credit) - money owed to you by customers. includes allowance for bad debts to determine collection value

A

Accounts receivable

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25
Q

from issued loans

A

Notes receivables

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26
Q

represent future expense items already paid for

A

Prepaid expenses

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27
Q

Long-term commitment of funds (at least one year). Includes stocks, bonds, investments in other corporations (McDonalds owning Chipotle, Coke owning Keurig)

A

Investments

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28
Q

Carried at original cost minus accumulated depreciation

A

Property, Plant, and Equipment (Fixed Assets)

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29
Q

___________ are financed through liabilities or stockholders’ equity.

A

Total assets

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30
Q
  • Represent financial obligations of the firm and typically
    listed starting with current liabilities to longer-term obligations
A

Liabilities

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31
Q

assumed due within one-year. consist of accounts payable, notes payable, and accrued expense,

A

current liabilities

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32
Q

represents amount owed on open account to suppliers

A

Accounts payable

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33
Q

short-term signed obligations to creditors

A

Notes payable

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34
Q

is generated when a service has been provided to the
company and a company has not yet been billed and made a payment (e.g. salaries to employees, interest expense)

A

Accrued expense

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35
Q

assumed due in more than one year

A

long-term debt

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36
Q

Represents total contribution and ownership
interest of preferred and common stockholders. Consist of Preferred stock, Common stock, and Retained Earnings

A

Stockholders’ Equity

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37
Q

represent the firm’s cumulative earnings since
inception minus dividends and other adjustments

A

Retained Earnings

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38
Q

> Point-in-time snapshot
Values based on historical or original cost basis - book value
Market value may be worth two to three times original cost, so it may require many times original cost to replace

A

Balance Sheet Limitations

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39
Q

> is sometimes referred to “operating profit” or “operating income,” and
is sometimes called “pre-tax income”

A

EBIT

40
Q

(or earnings before interest, taxes, depreciation, and
amortization) also referred to sometimes as “gross profit”

A

EBITIDA

41
Q

▪ Income gained or lost during given period is
function of verifiable transactions (but some
transactions can be in the pipeline)
▪ Flexibility (AKA discretion) in reporting
transactions can result in differing
measurements of income gained from similar
events at end of time period
»>i.e. depreciation

A

Income Statement Limitations

42
Q

companies have 2 options on what to do with net income

A
  1. pay dividends (to shareholders)
  2. keep it (add it to retained earnings)
43
Q

Emphasizes critical nature of cash flow to firm operations

A

Statement of Cash Flows

44
Q

Allows matching of revenues and expenses in period
in which they occur to appropriately measure profits

A

Advantage of accrual method

45
Q

Adequate attention not directed to firm’s actual cash
flow position

A

Disadvantage of accrual method

46
Q

__________ analysis helps in combating
discrepancies faced through accrual method of
accounting

A

Cash-flow

47
Q

net income, depreciation, changes in CAs and CLs

A

Cash flows from operating activities

48
Q

changes in long-term assets

A

Cash flows from investing activities

49
Q

changes in long-term debt and stock dividends

A

Cash flows from financing activities

50
Q

results of statement of cash flows added together to compute net change in _______

A

cash flow (total)

51
Q

Current Assets - Current Liabilities

A

Net Working Capital

52
Q

Operating Current Assets - Operating Current Liabilities
(Current Assets - Excess Cash) - (Current Liabilities - Notes Payable)

A

Net Operating Working Capital

53
Q

“the amount of cash that could be withdrawn without harming a firm’s ability to operate and produce future cash flows.”

A

Free Cash Flow (FCF)

54
Q

[EBIT (1-T) + Depreciation and amortization] - [Capital expenditures + change in NOWC]

A

Free Cash Flow (FCF)

55
Q

change in Net Fixed Assets + Depreciation
>this is calculated in the investing section of the statement of cash flows

A

Capital Expenditures

56
Q

Why are ratios useful?

A

-standardize numbers and facilitate comparisons
-good starting point for strategic
initiatives
-highlight weaknesses and
-comparisons should be made through time
and with competitors (industry analysis, Benchmark (peer) analysis, and trend analysis)

57
Q

-Finding truly comparable companies is difficult because no two organizations are exactly alike.
-Finding a comparable industry can be difficult for
conglomerate firms with various segments (i.e. Disney)
-Seasonal factors can distort

A

Issues/Limitations of Ratio Analysis

58
Q

5 major categories of Ratios

A

Liquidity, Asset management, Debt management, Profitability, and Market value

59
Q

what question does liquidity answer?

A

Can we make required short-term payments?

60
Q

What question does Asset management answer?

A

Are we utilizing our assets efficiently to generate sales revenue?

61
Q

What question does Debt management answer?

A

What is the mix of debt and equity?

62
Q

What question does Profitability answer?

A

Do sales prices exceed unit costs, and how profitable is the firm?

63
Q

What question does Market value answer?

A

How does the market value out assets/earnings?

64
Q

______ should be greater than one… A firm should have more current assets than liabilities.
Current assets ÷ Current liabilities

A

Current ratio

65
Q

_______ removes inventory from the numerator. Inventory not as liquid and some may be not be sellable (damaged, obsolete, expired, etc.)
(Current assets - Inventories) ÷ Current liabilities

A

Quick ratio

66
Q

How many times a year does a firm sell out all its inventory? Bigger is better!
Cost of goods sold ÷ Inventories

A

Inventory Turnover (IT)

67
Q

How long does it take to get paid by customers? Smaller is better! this number should be compared to sales contracts and internal payment policies.
=Receivables ÷ Average sales per day
=Receivables ÷ (Annual sales ÷ 365)

A

Days Sales Outstanding (DSO)

68
Q

How well is the firm using its assets to generate sales? Bigger is better!
=Sales ÷ Net fixed assets

A

Fixed Assets Turnover (FATO)

69
Q

How well is the firm using its assets to generate sales? Bigger is better?
=Sales ÷ Total assets

A

Total Assets Turnover (TATO)

70
Q

▪ How much debt is the firm using to fund invested capital?
= Total debt ÷ Total invested capital
= (notes payable + LT debt) ÷ notes payable + LT debt + equity)

A

Total Debt-to-Capital Ratio

71
Q

Is the firm earning enough to pay the interest on their debt? Bigger is better!
=EBIT ÷ Interest expense

A

Times-Interest-Earned (TIA)

72
Q

Are assets being funded with debt or equity?
The higher (lower) the value, the more debt (equity) is used.
=Total assets ÷ Total equity
=(total liabilities + total equity) ÷ total equity

A

Equity Multiplier (EM)

73
Q

Is the firm making money? How profitable is the firm? Bigger is better! Consists of Operating Margin (OM),
Profit Margin (PM), Basic Earning Power (BEP), Return on Assets (ROA), Return on Equity (ROE), and Return on Invested Capital (ROIC)

A

Profitability

74
Q

Price-Earnings (P/E), Market-to-Book (M/B), and Market Value Added (MVA)
For all, bigger is better! All will be large if expected growth is high and risk is low.

A

Market Value

75
Q

How much are investors willing to pay for $1 of earnings?
=Price/Earnings per share
=Price/(net income/ # of shares)

A

Price-Earnings (P/E)

76
Q

How much are investors willing to pay for $1 book value equity?
=Market price/Book value per share
=Market price/(total equity/ # of shares)

A

Market-to-Book (M/B)

77
Q

What is the difference between a firm’s market and book value of equity?
=(Market price X Shares Out) - Book value of equity
=Market value of equity - Book value of equity

A

Market Value Added (MVA)

78
Q

breaks down the components of ROE as operating profitability (PM), asset utilization (TATO), and debt utilization (equity multiplier).
ROE=Profit Margin X Total assets turnover X Equity multiplier
ROE=(Net Income/Sales) X (Sales/Total assets) X (Total assets/Equity)

A

The DuPont Equation

79
Q

Qualitative Factors Should Also Be Considered

A

▪ Are the firm’s revenues tied to one key customer, product, or supplier?
▪ What percentage of the firm’s business is generated overseas?
▪ Firm’s competitive environment
▪ Major expected changes in the future
▪ Legal and regulatory environment

80
Q

Forecast an income statement and balance sheet using a ____________________.

A

percentage of sales method

81
Q

Use the ______________ equation and discuss the relation between asset growth and the need for funds.

A

Additional Funds Need (AFN)

82
Q

Excess capacity and other factors affect _______ if constant percentage of sales assumption is dropped

A

needed funds

83
Q

A Financial Plan typically starts with a ___________.

A

sales forecast

84
Q

Good sales forecasts typically start with historical information and account for changes in:

A
  • Economic conditions
  • Interest rates/inflation/pricing
  • Marketing pressure
  • Products offered, and much more!
85
Q

We must figure out the __________ to facilitate the change in sales as well as the liabilities that will spontaneously change.
* Funding options include using internal funds, additional debt or issuing equity.
* Easiest method: percent of sales method

A

asset requirements

86
Q

How much additional funding (sometimes called external funds needed) will we need to support this growth?
If % of sales ratios are expected to remain constant:
(A0/S0)change in S – (L0/S0)S – M(S1)(RR)

A

The AFN (or EFN) Equation

87
Q

Higher dividend payout ratio?

A

Increase AFN: Less retained earnings

88
Q

Higher profit margin?

A

Decrease AFN: Higher profits, more retained earnings

89
Q

Higher capital intensity ratio?

A

Increase AFN: Need more assets for a given level of sales.

90
Q

Pay suppliers in 60 days, rather than 30 days?

A

Decrease AFN: Creditors supply more capital (i.e. L0*/S0 increases).

91
Q

When _____________ is dropped, the AFN formula no longer works, and the only way to determine AFN is by working through the financial statements.

A

Constant % of sales

92
Q

On example was determining required NFA when expecting changes in capacity usage:

A
  1. Determine full capacity sales
  2. Determine original NFA as a proportion of full capacity sales
  3. Determine new level for needed NFA
93
Q

= actual sales/ % of capacity used

A

Full capacity sales

94
Q

Target fixed assets/sales = original fixed assets/full capacity sales

A

determine original NFA as a proportion of full capacity sales

95
Q

=(target fixed assets/sales) X projected sales

A

Required level of fixed assets

96
Q

dropping the constant percent of sales assumption:

A
  1. Decreasing expected DSO
  2. Purchasing a new facility (given new NFA)
  3. Increasing expected inventory turnover

Fin 331 (2 decks)

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