exam review module 9

Question 1

finance

Answer 1

the function in a business that acquires funds for the firm and manages them within the firm

Question 2

financial management

Answer 2

the job of managing a firm’s resources to meet its goals and objectives

Question 3

financial managers

Answer 3

managers who examine the financial data prepared by accountants and recommend strategies for improving the financial performance of the firm

Question 4

three main reasons firms fail financially

Answer 4

• Undercapitalization (insufficient funds to run a business)
• Poor control over cash flow
• Inadequate expense control

Question 5

short term forecast

Answer 5

forecast that predicts revenues, costs, and expenses for a period of one year or less

Question 6

cash flow forcast

Answer 6

forecast that predicts the cash inflows and outflows in future periods, usually months or quarters

Question 7

budget

Answer 7

a financial plan that sets forth management expectations and on the basis of those expectations, allocates the use of specific

Question 8

types of budgets established in a firms financial plan

Answer 8

• Capital budget
• Cash budget; and
• Operating (master) budget

Question 9

capital budget

Answer 9

a budget that highlights a firm’s spending plans for major asset purchases that often require large sums of money like property, buildings, and equipment

Question 10

cash budget

Answer 10

a budget that estimates a firm’s cash inflows and outflows during a particular period (monthly or quarterly).

Question 11

operating (master) budget

Answer 11

the budget that ties together all of the firm’s other budgets and summarizes the business’s proposed financial activities.

• Step 1) company forecasts its short-term and long-term financial needs
• Step 2) complies budgets to show how it will allocate funds
• Step 3) establish financial controls.

Question 12

financial control

Answer 12

a process in which a firm periodically compares its actual revenues, costs, and expenses with its projected ones

Question 13

key areas of spending

Answer 13

• Managing day-to-day needs of the business
• Controlling credit operations
• Acquiring needed inventory
• Making capital expenditures

Question 14

capital expenditures

Answer 14

major investments in either long-term assets, such as land, buildings, and equipment, or intangible assets, such as patents, trademarks, and copyrights.

Question 15

debt financing

Answer 15

funds raised through various forms of borrowing that must be repaid
Equity financing: funds raised from operations within the firm or through the sale of ownership in the firm

Question 16

short term financing

Answer 16

borrowed funds that are needed for one year or less

Question 17

long-term financing

Answer 17

borrowed funds that are needed for a period more than one year.

Question 18

trade credit

Answer 18

the practise of buying goods and services now and paying for them later

Question 19

promissory note

Answer 19

a written contract with a promise to pay

Question 20

secured loan

Answer 20

a loan backed by collateral, something valuable such as property

Question 21

unsecured loan

Answer 21

a loan that does not require any collateral

Question 22

line of credit

Answer 22

a given amount of unsecured funds a bank will lend to a business

Question 23

revolving credit agreement

Answer 23

a line of credit that si guaranteed but usually comes with a fee

Question 24

commercial finance companies

Answer 24

organizations that make short-term loans to borrowers who offer tangible assets as collateral

Question 25

credit profile

Answer 25

a borrower’s financial track record in the form of borrowing history.

Question 26

4 c’s of credit

Answer 26

• Character: includes factors such as business size, location, number of years in business, business structure, number of employees, history of principles, appetite for sharing information about itself, media coverage, liens, judgments or pending lawsuits, stock performance, and comments from references.
• Capacity: considers the ability of the business to pay its bills (its cash flow). It also includes the structure of the company’s debt – whether secured or unsecured – and the existence of any unused lines of credit. Any defaults must be identified
• Capital: assesses whether a company has the financial resources to repay its creditors. This information is obtained from financial records. In general, this portion of the credit report is the one most closely reviewed by the credit analyst. Heavy weighting is given to such balance sheet items as working capital, net worth, and cash flow.
• Conditions: includes the external factors surrounding the business under consideration, including influence such as market fluctuations, industry growth rate, legal factors (political and legislative), and currency rates

Question 27

factoring

Answer 27

the process of selling accounts receivable for cash.

Question 28

commercial paper

Answer 28

unsecured promissory notes of $100,000 and up that mature (come due) in 270 days or less

Question 29

term loan agreement

Answer 29

a promissory note that requires the borrower to repay the loan in specified instalments

Question 30

risk/ return trade off

Answer 30

the principle that the greater the risk a lender takes in making a loan, the higher the interest rate required.

Question 31

bond

Answer 31

a corporate certified indicating that an investor has lent money to a firm or a government.

Question 32

maturity date

Answer 32

the exact date that issuer of a bond must pay the principal to the bondholder

Question 33

interest

Answer 33

the payment the bond issuer makes to the bondholders for use of the borrowed money

Question 34

advantages and disadvantages of issuing bonds

Answer 34

• Bondholders are creditors of the firm, not owners. – management maintains control over the firm’s operations
• Bond interest is a business expense and as a result, it is a tax deduction for the firm.
• Bonds are a temporary source of funding. They are eventually repaid and the debt obligation is eliminated.
• Bonds can be repaid before the maturity date if they are callable. Some bonds may also be converted to common shares. Both of these bonds features will be discussed soon.

Drawbacks

• Bonds increase debt (long-term liabilities) and may adversely affect the markets perception of the firm.
• Paying interest on bonds is a legal obligation. If interest is not paid, bondholders can take legal action to force payment
• The face value (denomination) of bonds must be repaid on the maturity date. Without careful planning, this obligation can cause cash flow problems when the repayment comes due.

Question 35

debenture bonds

Answer 35

bonds that are unsecured (not backed by any collateral such as equipment)

Question 36

mortgage bonds

Answer 36

bonds that are secured (backed by collateral such as land)

Question 37

Sinking funds are generally attractive to both issuing firms and investors for several reasons;

Answer 37

• They reduce the risk the bond will not be repaid

- They support the market price of the bond because they reduce the risk the bond will not be repaid

Question 38

sinking funds

Answer 38

a reserve amount in which the issuer of a bond periodically retires some part of the principal prior to maturity so that enough capital will be accumulated by the maturity date to pay off the bond.

Question 39

stocks

Answer 39

shares of ownership in a company: the first public offering of a corporation’s stock.

Question 40

stock certificate

Answer 40

evidence of stock ownership that specifies the name of the company, the number of shares it represents, and the type of stock being issued.

Question 41

dividends

Answer 41

part of a firm’s profits that may be distributed to shareholders as either cash payments or additional shares of stock.

Question 42

advantages of issuing stock

Answer 42

• As owners of the business, shareholders never have to be repaid
• There is usually no legal obligation to pay dividends to stockholders; therefore, the firm can reinvest income (retained earnings) to finance future needs.
• Selling stock can improve the condition of a firm’s balance sheet since issuing stock creates no debt. (a corporation may also buy back its stock to improve its balance sheet and make the company appear stronger financially)

Question 43

disadvantages of issuing stock

Answer 43

• As owners, stockholders (usually only common shareholders) have the right to vote for the company’s board of directors. (typically on vote is granted for each share of stock) issuing new shares of stock can thus alter the control of the firm
• Dividends are paid from profit after taxes and thus are not tax deductible

Question 44

companies can issue two classes of stock

Answer 44

• Common

- Preferred

Question 45

common stock

Answer 45

the most basic form of ownership in affirm; it confers voting rights and the right to share in the firm’s profits through dividends, if offered by the firm’s board of directors.

Question 46

venture capital

Answer 46

money that is invested in nw or emerging companies that are perceived as having great profit potential.

Question 47

leverage

Answer 47

raising needed funds through borrowing to increase a firm’s rate of return.

Question 48

cost of capital

Answer 48

the rate of return a company must earn in order to meet the demands of its leaders and expectations of its equity holders.

Question 49

preferred stock

Answer 49

stock that gives its owners preference in the payment of dividends and an earlier claim on assets than common shareholders if the company is forced out of business and its assets are sold