Finance Terms/Equations Flashcards
Capital Budgeting Decision
Process of determining which assets to invest in and how much to invest
Capital Expenditure Decision
determining which assets to invest in and how much to invest
Capital Investment Decision
determining which assets to invest in and how much to invest
Future Value
value of current asset at future date based on an assumed rate of growth
Present Value
amount of money needed to invest today in order to get some future dollar amount
Present Value of Annuity
amount received annually given a present value, interest rate, and number of periods (years).
Net Present Value (NPV)
Most common method for evaluating long-term investments by corporations. measures the value created for shareholders by the investment project.
NPV > 0, accept project
NPV < 0, reject project
Independent Project
Acceptance or rejection is independent of the acceptance or rejection of other projects
Mutually Exclusive Project
Can accept “A” or can accept “B”
or can reject both of them
but cannot accept both
Payback Period
number of periods (usually in years) needed for a firm to recover its initial investment.
Internal Rate of Return (IRR)
The discount rate that makes the Net Present Value (NPV) of project equal to zero
Crossover Rate
the cost of capital where two projects have the same net present value (NPV) or where their NPV profiles intersect.
Cost of Capital
minimum rate of return, or profit, a company must earn on investments to generate value for shareholders.
Nominal Return
amount of money generated by an investment before factoring in expenses such as taxes, investment fees, and inflation. If an investment generated a 10% return, the nominal rate would equal 10%.
Real Return
what is earned on an investment after accounting for taxes and inflation. Real returns are lower than nominal returns, which do not subtract taxes and inflation
Stock Valuation: Zero Growth
assume dividends will remain at same level forever
Stock Valuation: Constant Growth
assume dividends will grow at constant rate forever
Stock Valuation: Differential Growth
assume dividends will grow at different rates in foreseeable future, and then will grow at constant rate thereafter.
Beta
measure of stock’s market risk
Opportunity Cost of Capital
rate of return you can earn on securities in capital markets with same risk as your investment project
Total Capital
total amount of money contributed to the firm by bondholders and stockholders. is equal to net assets
Economic Profits
different from accounting profits. investment projects must have positive economic profits to create value
Market Value Added (MVA)
market value of equity - book value of equity. a large positive MVA indicates company can achieve return on invested capital which exceeds capital cost over sustained period of time
Discounting
process of finding present value of future cash flows
