Finance Content Flashcards
Define financial management
Financial Management is the planning and monitoring of a business’s financial resources to enable the business to achieve its financial objectives
Define financial resources
Financial Resources are those resources in a business that have a monetary or money value
Recall the objectives of financial management
The objectives of financial management:
- Profitability
- Growth
- Efficiency
- Liquidity
- Solvency
Define profitability
Profitability is the excess of revenue or income over expenses or costs
Define growth
Growth is the ability of the business to increase its size in the longer term
Define efficiency
Efficiency is the ability of a business to minimise its costs and manage its assets so that maximum profit is achieved with the lowest possible level of assets
Define liquidity
Liquidity is the extent to which a business can meet its financial commitments in the short term (less than 12 months)
Define solvency
Solvency is the extent to which the business can meet its financial commitments in the longer term (more than 12 months)
Define gearing
Gearing is the proportion of debt (external finance) and the proportion of equity (internal finance) that is used to finance the activities of a business. Gearing ratios determine the firm’s solvency
Explain the relationship between solvency and gearing
Gearing indicates the dependency of the business on external (debt) financing and hence, the ability of the business to pay off the debt
Explain why conflicts may arise between the short and long term financial objectives
Conflicts may arise as both short and long term objectives require resources, making them incompatible to a degree
Recall the internal sources of finance
The internal sources of finance are retained profits
Define owner’s equity
Owner’s Equity is the funds contributed by owners or partners to establish and build the business, e.g. partners, private investors, selling assets, and private shares
Define retained profits
Retained Profits (earnings) is kept in the business as a cheap and accessible source of finance for future activities. Most businesses keep some of their profit in the form of retained earnings
Define overdraft
Overdraft is when a bank allows a business or individual to overdraw their account up to an agreed limit and for a specified time, to help overcome a temporary cash shortfall
No regular repayment schedule
Define commercial bills
Commercial Bills are primarily short-term loans issued by financial institutions, for larger amounts (usually over $100 000) for a period of generally between 30 and 180 days
Flexible in interest and repayment period
Define factoring
Factoring is the selling of accounts receivable for a discounted price (typically 90% of the accounts’ value) to a finance or factoring company
Define mortgage
Mortgage is a loan secured by the property of the borrower (business)
Repaid with interest, usually through regular repayments, over an agreed period of time
Define debenture
Debenture is a promise issued by a company to repay a loan for a fixed rate of interest and for a fixed period of time
Define unsecured note
Unsecured Note is a loan from investors for a set period of time. Unsecured notes are not secured against the business’s assets
Higher interest rate than secured notes
Define leasing
Leasing is the payment of money for the use of equipment that is owned by another party
Usually, a long-term lease cannot be cancelled
Outline the benefits of leasing
- Assists a business with their cash flow
- The costs of establishing leases are low
- If some assets are leased a business may be in a better position to borrow funds
- Provides long-term financing without reducing control of ownership
- Permits 100% financing of assets
- Repayments of the lease are fixed for a period so cash flow can be monitored easily
- Lease payments are a tax deduction
Define equity
Equity, as an external source of funds‚ refers to the finance raised by a company through inviting new owners
Define new issue
A new issue is a security that has been issued and sold for the first time on a public market
Define rights issue
A rights issue is an invitation to existing shareholders to purchase additional new shares in the same company. Existing shareholders are given securities - ‘rights’ - which give the right but not obligation to purchase shares at a set future date
Define placement
A placement involves creating new shares in return for capital and issuing them to selected investors at a discount to the market price of the company’s shares
Define share purchase plans
Share purchase plan is an offer to existing shareholders in a listed company to purchase newly issued shares in that company without brokerage fees
Define private equity
Private Equity is the money invested in a (private) company not listed on any stock market, such as the Australian Securities Exchange (ASX)
Unit funds are also known as ___
Unit funds are also known as mutual funds
Define unit funds
Unit funds are financial institutions that pools a large sum of money from investors and invests it, typically in minerals
Define the Australian Securities Exchange (ASX)
Australian Securities Exchange (ASX) is the primary stock exchange group in Australia
Define primary market
Primary Market deals with the new issue of debt instruments by the borrower of funds
Define secondary market
Secondary Market deals with the purchase and sale of existing securities
Recall the company tax rate in Australia
In Australia, the company tax rate stands at 30% unless the company does not exceed the threshold (of $50mil AUD turnover) then it is 25%
Recall the factors on the availability of funds
The availability of funds is affected by:
- Risk
- Demand and supply
- Domestic economic conditions
Recall the types of financial information
Types of financial information include:
- Balance sheet
- Revenue Statement (Income statement
- Cash flow statement
- Sales and price forecast
- Budget
- Bank statement
- Break-even analysis
- Reports from financial ratio analysis and interpretation
Define record systems
Record Systems are the mechanisms employed by a business to ensure that data are recorded and the information provided is accurate, reliable, efficient and accessible
Recall the benefits of keeping financial records
Keeping financial records is beneficial as:
- It assists in decision-making as the business has a clear understanding of the finances
- It encourages investment as investors and financial institutions are unlikely to invest in businesses with unclear financial details
- Businesses are required by law to keep records of their financial transactions for at least five years for tax purposes
Define financial risk
Financial Risk is the possibility of an inability to cover its financial obligations, such as incurred debts
Recall the types of financial risk
Types of Financial Risk:
- Credit risk
- Market risk
- Liquidity risk
- Operational risk
Define credit risk
Credit Risk is the risk a business takes on when borrowing money and without sufficient funds to meet repayments, the business incurs penalties and interest
Define market risk
Market Risk is the risk arising from the changing conditions in the specific market in which a company competes in
Define liquidity risk
Liquidity Risk is the risk depending on the cash flow and whether the business has sufficient funds to meet their financial obligations
Define operational risk
Operational Risk is the risk associated with the day-to-day management of a business, such as legal problems, fraud risk, human resource issues, and business model risk. Operational risk largely arises from poor management
Define financial controls
Financial Controls are the procedures, policies and means by which a business monitors and controls the allocation and usage of its resources
Define debt finance
Debt Finance is the short-term and long-term borrowing from external sources by a business
Define equity finance
Equity Finance relates to the internal sources of finance in the business
True or False. Short-term assets and financial objectives should be achieved through the use of short-term finance and vice versa otherwise, it is not compatible
True
Define cash flow statement
Cash Flow Statement is a financial statement that indicates the movement of cash receipts and cash payments resulting from transactions over a period of time
Define income statement
Income Statement is a summary of the income earned and the expenses incurred over a period of trading. It helps users of information see exactly how much money has come into the business as revenue, how much has gone out as expenditure and how much has been derived as profit
Income statements are also known as ___
Income statements are also known as revenue statements
Define cost of goods sold
Cost of Goods Sold (COGS) is the cost of producing the stock that a business has sold to its customers
Define gross profit
Gross Profit is a value derived from subtracting cost of goods sold from operating income/sales (Operating income/Sales − COGS)
Define net profit
Net Profit is the difference between the gross profit and expenses (Retained/Net profit = Gross profit − Expenses)
True or False. The gross profit is larger than the net profit
True.
Define expenses
Expenses are the costs incurred in the process of acquiring or manufacturing a good or service to sell and the costs (direct and indirect) associated with managing all aspects of sales
Define balance sheet
Balance Sheet is a summary of a business’s assets and liabilities at a particular point in time, expressed in money terms; represents the net worth of the business
Recall which financial information can only be prepared at the end of a financial year
A balance sheet can only be prepared at the end of a financial year
Define current items
Current Items are items that are expected to be resolved within a year
Define non-current items
Non-current Items are items that are expected to be resolved for more than a year
Define accounting equation
Accounting Equation is a equation that shows the relationship between assets, liabilities and owners’ equity, which forms the basis of the accounting process
Assets = Liabilities + Owners’ equity
Define financial ratios
Financial Ratios alters financial information into significant and acceptable forms that are more meaningful and consumable
Recall the types of analysis
The types of analysis are:
- Vertical
- Horizontal
- Trend analysis
Define vertical analysis
Vertical Analysis compares figures within one financial year
Define horizontal analysis
Horizontal Analysis compares figures from different financial years
Define trend analysis
Trend Analysis compares figures for periods of three to five years
Define current ratio
Current Ratio is a measure of a business’s ability to pay back its current liabilities with its current assets. The higher the current ratio, the more capable the business is of meeting its short-term obligations
Current asset / current liability
Define debt to equity ratio
Debt to Equity Ratio shows the extent to which the firm is relying on debt or outside sources to finance the business
total liabilities / equity
Define gross profit ratio
Gross Profit Ratio provides the percentage of sales revenue that results in gross profit, indicating the effectiveness of planning policies concerning pricing, discounts, valuation of stock etc
gross profit / sales
Define net profit ratio
Net Profit Ratio shows the amount of sales revenue that results in net profit and illustrates the amount of sales revenue that results in net profit
net profit / sales
Define return on equity ratio
Return on Equity Ratio shows how effective the funds contributed by the owners have been in generating profit, and hence a return on their investment
net profit / total equity
Define expense ratio
Expense Ratio compares total expenses with sales and indicates the amount of sales that are allocated to individual expenses, such as selling, administration, cost of goods sold and financial expenses
Indicates the day-to-day efficiency of the business
total expenses / sales
Define accounts receivable turnover ratio
Accounts Receivable Turnover Ratio is a measure of the effectiveness of a firm’s credit policy and how efficiently it collects its debts (how quickly debits pay their accounts)
sales / accounts receivable
Recall how a business can determine the average length of time it takes to convert the balance into cash
A business can determine the average length of time it takes to convert the balance into cash in days by dividing 365 by the accounts receivable turnover ratio
Recall what comparative ratio analysis can be compared against
Comparative ratio analysis can compare against:
- Time periods
- Standards and benchmarks
- Competitors and industry standards
Define normalised earnings
Normalised Earnings are earnings that have been adjusted to take into account changes in the economic cycle or to remove one-off or unusual items that will affect profitability, providing a more accurate depiction of the true earnings of a company
Define capitalising expenses
Capitalising Expenses refers to how a cost is treated on a business’s financial statement
Define valuing assets
Valuing Assets is the process of estimating the value of assets when recording them on a balance sheet and can be difficult for non-current assets
Recall the issues with valuing assets
Issues with valuing assets:
- Most assets are recorded as the historical cost and wild fluctuations in value, especially for non-current assets, cannot be properly valued
- Intangible assets hold subjective value and cannot be valued properly
Define matching principle
Matching Principle is a means of ensuring the revenue earned and costs incurred match up. It involves recording expenses incurred by a business on the income statement for the accounting period in which the revenue to which those expenses relate is earned –> Limitation of debt repayment
Recall the purpose of notes to the financial statements
Notes to the financial statement are similar to footnotes, in that, they provide clarity and necessary information to potential investors
Recall what the notes to the financial statements may include
Notes to the financial statement may include:
- Accounting methodology
- Calculations of figures
- Procedures
Under the Corporations Act 2001 (Cth), when a company becomes a large proprietorship, what must occur?
Under the Corporations Act 2001 (Cth), when a company becomes a large proprietorship, an External Audit must be conducted
Recall the criteria for the Australian Securities and Investments Commission (ASIC) to defines a company as being ‘large’
The Australian Securities and Investments Commission (ASIC) defines a company as being ‘large’ if, at the end of the financial year, the company meets two of the following three criteria:
- A consolidated revenue of $50 million or more
- Consolidated gross assets of $25 million or more
- 100 or more employees
Define cash flow
Cash Flow is the movement of cash in and out of a business over a period of time
Define inflow
Inflows consist of sales, cash payments for accounts receivable, interest received, and dividends
Define outflow
Outflows consist of payments to suppliers, interest on loans, operating expenses, drawings, and the purchase of assets
Define cash flow statement
Cash Flow Statement is a financial statement that indicates the movement of cash receipts and cash payments resulting from financial transactions over a period of time
Define distribution of payments
Distribution of Payments occurs when businesses or individuals spread out their payments across each month to ensure large expenses do not occur at the same time and cash shortfalls do not occur
Provide an example of discounts for early payments and explain why the business provides such inventices
An example of discounts for early payments is tuition centres and the incentives include:
- Acquire funds quicker
- Accelerate the rate of inflows
- Reduce the risk of non-payment or late payment
- Anticipate demand
Define working capital
Working Capital are the funds available for the short-term financial commitments of a business
Define net working capital
Net Working Capital is the difference between current assets and current liabilities
Define receivables
Receivables are sums of money owed to a business from customers to whom it has supplied
Define payables
Payables are sums of money owed by a business to other businesses from who it has purchased goods and services
Differentiate between a fixed and variable cost
A fixed cost is a regular cost that occurs regardless of business activity. On the other hand, a variable cost is an erratic cost that is dependent on the level of business activity
Define expense minimisation
Expense Minimisation is a financial strategy that aims to achieve the most cost-effective way of delivering goods and services to the required level of quality
Explain the effect of net appreciation of a currency on international trade
A net appreciation makes:
- exports more expensive
- imports cheaper
Explain the effect of net depreciation of a currency on international trade
A net depreciation makes:
- exports cheaper
- imports more expensive
List the methods of international payment ordered in increasing risk to the exporter
The methods of international payment ordered in increasing risk to the exporter are:
- Payment in advance
- Letter of credit
- Bill of exchange
- Clean payment
Define payment in advance
Payment in Advance is a method that allows an exporter to receive payment first then arrange for the goods to be sent
Define letter of credit
Letter of Credit is a document that a buyer can request from their bank that guarantees the payment of goods will be transferred to the seller
Define bill of exchange
Bill of Exchange is a document draw up by the exporter demanding a payment from the importer at a specified time period
Define clean payment
Clean Payment is an open account method that involves the exporter shipping the goods directly to the importer before the payment is received
Define hedging
Hedging is the process of minimising the risk of currency fluctuations
Recall types of natural hedging
Natural hedges:
- Established offshore subsidiaries
- Arranging for import payments and receipts denominated in the same foreign currency
- Implementing marketing strategies that aim to reduce price sensitivity of exports
- Insisting on import and export contracts in local currency (AUD)
Define derivatives
Derivatives are simple financial instruments that may be used to lessen the exporting risks associated with currency fluctuations
Define forward exchange contract
Forward Exchange Contract is a contract to exchange a currency for another currency at an agreed exchange rate on a future date usually 30, 90, or 180 days
Define options contract
Options Contract gives the buyer (options holder) the right but not the obligation to buy or sell foreign currency at some time in the future
Define swap contract
Swap Contract is an agreement to exchange currency in the spot market with an agreement to reverse the transaction in the future
Recall the derivatives
The derivatives are:
- Forward exchange contract
- Options contract
- Swap contract
Recall the aspects of the financial planning cycle in sequence
The aspects of the financial planning cycle are:
- (determining) financial needs
- (developing) budgets
- (maintaining) record systems
- (identifying) financial risks
- (establishing) financial controls
Provide an allegory of sale and lease back
Sale and lease back occurs in football when a team sells a talented youngster to a larger club but has the player loaned back
Recall the advantages and disadvantages of debt finance
Advantages:
- Funds are readily available
- Fuels growth
- Repayments are tax deductible
- Flexibility
- Does not dilute ownership
Disadvantage:
- Regular repayments
- Increases financial risk
Recall the advantages and disadvantages of equity finance
Advantages:
- Does not have to be repaid unless the owner leaves the business
- No interest
- Low gearing –> low risk
Disadvantages:
- Lower profits and returns
- Dilution of ownership
- Drawn out process to obtain finance
Recall the role of the Australian Securities and Investments Commission (ASIC)
The Australian Securities and Investments Commission (ASIC) is an independent statutory commission accountable to the Commonwealth parliament that enforces and administers the Corporations Act 2001 (Cth)
Define collateral
The security for a loan
Compare and contrast leasing and a mortgage
Leasing:
- No ownership
- Payments cover insurance and other benefits
- Payments are tax deductible
- No significant outlay
- Lease could be terminated depending on terms
Mortgage:
- Ownership
- Payments are tax deductible
- Financial risk - may forcefully lose the building for a lower value
- Interest on repayments
Identify what financial ratios are represented as percentages
Ratios:
- Net profit ratio
- Gross profit ratio
- Return on Equity ratio
- Expense ratio
