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Financial Management III > Financial Management III > Flashcards

Financial Management III Flashcards

1
Q

Benefits of Ratio Analyses

A

Managerial Decision Making.

Can be Used Across a Wide Array of Data.

Setting Performance Benchmarks.

Determine Business Viability (Stakeholders).

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2
Q

Short Term Financing

A

Spontaneous Financing.

Unsecured Loans.

Secured Loans.

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3
Q

Spontaneous Financing

A

Financing using short term Liabilities.

Accounts Payable.

Accruals (wages, tax).

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4
Q

Unsecured Loans

A

(Bank Loans)

Single Payment Notes.

Lines of Credit. Compensating Balances.

Revolving Credit.

Agreements

(Commercial Paper).

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5
Q

Secured Loans

A

Collateral Security.

Lower Interest Rates.

Risk May Cause Higher Interest Rates.

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6
Q

Operating Lease

A

Short Term (Less than 5 Years).

Fixed Assets with Short Commercial Life.

Assets Subject to Rapid Technological Obsolescence.

Lease Must be Shorter than Life of Asset.

Asset Returned to Lessor at End of Lease.

May be Cancelled at Any Time.

Lessee May Purchase the Asset at the End of Lease.

Asset is Maintained by Lessor.

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7
Q

Financial Lease

A

Long Term (Up to 30 Years)

Assets with Economic Life Longer than 5 Years.

Leases Must Run to the End of Agreed Period.

Lessee Must Continue with Lease Even if Asset Becomes Obsolete.

Residual Value is Recovered by Lessor.

Lessee Maintains the Asset.

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8
Q

Advantages of Leasing

A

Maintain a Higher Liquidity.

Easy form of Financing.

Does Not Require Deposits.

Tax Savings/Reductions.

A Way of Avoiding Obsolescence.

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9
Q

Disadvantages of Leasing

A

Payments May be High.

Residual Value Accrues to Lessor.

Lessee Cannot Make Alterations without Consent (Land and Buildings).

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10
Q

Long-Term Financing

A

Debt:Equity (Capital Structure).

Ordinary Shares.

Preference Shares.

Debentures.

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11
Q

Ordinary Shares

A

A certificate of ownership for a company.

In case of bankruptcy - Ordinary share holders paid last.

Right to vote at general meetings in proportion to ownership.

Entitled to dividends.

Dividends can be higher than preference shareholders and are not fixed.

Normally comprises bulk of companies capital.

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12
Q

Preference Shares

A

Instruments that have debt and equity characteristics.

Higher claim on assets and dividends than ordinary shareholders.

Paid fixed rate dividends before ordinary shareholders are paid.

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13
Q

Debentures

A

Type of Debt Instrument.

Not secured by asset or collateral.

Documented in an Indenture. (Written Agreement).

At the end of lending period conversion of debentures to stock is usually offered.

Interest is paid to investors regardless of profit.

Transferable from investor to investor.

Cost of debt is lower than the cost of equity (Tax Deductible).

The capital is returned at the end of the period.

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14
Q

Authorized Share Capital

A

Maximum share capital that a company can issue.

Specified in company documents.

Amount can only be changed upon registration with Registrar of Companies.

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15
Q

Working Capital Management: Conservative Approach

A

Financing with long term funds.

Financing of all permanent and some seasonal financing requirements.

Higher interest rates create higher costs of financing.

Not using short term funding options means less risk.

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16
Q

Working Capital Management: Moderate/Maturity Approach

A

Attempts to match asset and liability obligations as closely as possible.

Risk is slightly higher.

Company may end up needing additional financing.

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17
Q

Working Capital Management: Aggressive Approach

A

Financing with short term funds.

Financing of all seasonal and some permanent financing requirements.

Short term debt is cheaper and could increase income margins.

Less net working capital means higher risk.

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18
Q

Cash Conversion Cycle

A

AAI + ACP - APP.

AAI (Average Age of Inventory)

ACP (Average Collection Period)

APP (Average Payment Period)

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19
Q

Types of Cash Conversion Cycle

A

Positive CCC (Payment must be made to creditors before cash is received for the goods)

Negative CCC (Cash is received for the sale of goods before creditors must be paid)

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20
Q

Motives for Cash

A

To Facilitate Regular Transactions.

As a Compensating Balance.

To Facilitate Speculation.

As a Precautionary Measure.

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21
Q

Strategies to Improve Cash Conversion Cycle

A

Stretching Out Accounts Payable.

Increase Inventory Turnover Time.

Speed Up Collection of Accounts Receivable.

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22
Q

Stretching Out Accounts Payable

A

Advantages:
Purchasing on Credit is Interest Free.

Disadvantages:
May Damage Credit Rating.

May Lead to Loss of Credibility.

Raises Ethical Issues.

May Incur Interest from Suppliers.

Potential Loss of Benefits (Early Payment Discounts).

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23
Q

Increase Inventory Turnover

A

Advantages:
More Scientific Approach to Planning and Scheduling.

Disadvantages:
Increased Planning and Controlling is Time Consuming.

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24
Q

Speeding Up Collection of Accounts Receivable

A

Advantages:
Industries with differentiated products can have different collection times without reducing competitiveness.

Electronic payment systems speed up payments.

Disadvantages:
Credit terms depend on industry and speeding up collection could lead to loss of customers to competitors.

Speeding up long standing terms may alienate customers.

Aggressive collection may alienate customers.

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25
Q

Preventing Cash Losses

A

No person should be given responsibility for more than one related function.

Separation Of:
Custody of Assets from Accounting Personnel.

Authorization of Transactions from Custody of Associated Assets.

Operational Responsibilities from Record Keeping Responsibilities.

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26
Q

Costs of Extending Credit

A

Formulation of Credit Policies and Procedures. Customer Application and Screening. Account Management. Bad Debts. Sundry Costs.

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27
Q

Corporate Restructuring

A

Expansion or Contraction of a Companies Operations, Including Changes in its Asset or Financial Structure.

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28
Q

Merger

A

When two or more firms combine and the resulting entity maintains the identity of one of the firms.

29
Q

Divestiture

A

Selling some of a firms assets for various strategic reasons.

Including:
Sale of a product line to another company.

Selling an existing unit to Management (LBO).

Liquidation of an operating units individual assets.

30
Q

Spin-off

A

A type of divestiture where an operating unit becomes and independent company through the issuance of shares to the parent companies shareholders.

31
Q

Technical/Commercial Insolvency (Failure)

A

Technical Insolvency - When the stated value of a firms liabilities exceeds the fair market value of its assets.

Commercial Insolvency - When a firm is unable to pay its liabilities as they become due.

32
Q

Strategic Merger

A

Seeks to achieve economies of scale through:

Eliminating Redundant Functions.

Increasing Market Share.

Improving Raw Material Sourcing and Finished Product Distribution.

Growth and/or Diversification.

Acquiring Managerial Skill or Technology.

33
Q

Financial Merger

A

Seeks to improve cash flow through:

Cutting costs by selling off unproductive or non-compatible assets.

Fund Raising.

Tax Considerations.

Based on the belief that the acquiring firm can restructure the business financially and unlock hidden value.

34
Q

Friendly Merger

A

Target management is receptive to the acquirers proposal.

Management endorses the merger and encourages shareholder approval.

Merger is consummated through the cash purchase of shares or exchange of acquirers shares and bonds.

35
Q

Hostile Merger

A

Target management not support proposed takeover.

Acquirers aims to gain control by buying sufficient shares in the market place.

Difficult to consummate as the target management acts to deter the acquisition.

36
Q

Hostile Takeover Defenses

A

Informing shareholders of damaging effects of a takeover.

Suing the acquiring firm based on antitrust.

White Knight. (Target firm identifies an alternate acquirer causing a competition for takeover)

Poison Pills. (Creation of securities that give holders rights which may not be attractive to the acquirer)

Greenmail. (Target firm repurchases a large share block at a premium)

Golden Parachutes. (Provisions that key executives are given large compensation in the event of a takeover)

37
Q

Entry Strategies for Foreign Trade

A

Niche Market Exporting.

Licensing/Contract Manufacturing.

Franchising.

Joint Venture with a Host Country Partner.

Strategic Business Alliances (SBA).

Offshoring.

Clustering.

Wholly/Fully Owned Subsidiaries.

38
Q

Niche Market Exporting

A

Modify selected product characteristics to meet foreign demands.

Minimal capital investment.

Maintains quality control standards and finished goods inventory.

Low Risk.

39
Q

Licensing/Contract Manufacturing

A

Manufacturing of a product line is established under license/contract with a foreign company.

Suitable for businesses who are not ready for an equity position on foreign soil.

40
Q

Franchising

A

Allows a franchisee in a foreign country to sell products/services under the parents brand name/trademark.

Franchisee pays a fee normally based on turnover.

Franchisee is controlled by strict policies and procedures.

41
Q

Joint Venture with a Host Country Partner

A

Two or more firms form a temporary or permanent partnership.

Often a limited duration.

Often dictated by government legislation.

Facilitates rapid entry.

MNC’s need for control over decisions could be disadvantaged.

42
Q

Strategic Business Alliance (SBA)

A

A form of contractual agreement designed to secure an international venture without involving a shareholding.

43
Q

Offshoring

A

The company moves one or all of its factories from its home country to another country.

Aims to achieve overall lower costs of production.

44
Q

Clustering

A

When contract manufacturing, offshoring and service sector outsourcing are combined to create inter-dependencies.

Especially when same suppliers, specialized labor and distribution channels create synergy.

45
Q

Wholly/Fully Owned Subsidiaries

A

When the MNC needs total control and is prepared to start its own business from scratch in the foreign country.

Acquisition of a company in the host country.

High risk but with the benefit of full control.

46
Q

Macroeconomic Risks of Foreign Trade

A

Exchange Rates.

Interest Rates.

Inflation Rates.

47
Q

Types of Foreign Exchange Exposure

A

Translation Exposure.

Transaction Exposure.

Economic Exposure.

48
Q

Translation Exposure

A

The effect that the exchange rate will have on the recorded accounting results of the parent company.

The parent company must translate the financial position of foreign subsidiaries into its local currency, in order to create consolidated financial statements.

49
Q

Transaction Exposure

A

Refers to the potential for gains or losses as a result of transactions between different currencies or borrowing between different currencies.

Exposure is avoided using hedging policies.

50
Q

Economic Exposure

A

The impact of unexpected currency movement on a companies competitive position and long term market value.

Difficult to quantify and challenging to mitigate.

51
Q

Purchasing Power Parity (PPP)

A

Change in exchange rate is determined by the difference in the inflation rates between the two countries.

E(St) = S0 x [1 + (hdc - hfc)]^3

52
Q

Interest Rate Parity (IRP)

A

The relationship between spot rates, forward rates and relative interest rates.

F = S x 1 + rd / 1 + rf

53
Q

Total Carrying Cost

A

CC x Q/2

CC = Carrying Cost per unit.
Q = Number of units per order.
54
Q

Total Restocking Cost

A

F x T/Q

F = Fixed cost per order.
T = Total units ordered per year.
Q = Number of units per order.
55
Q

EOQ

A

√2 x (F X S) / C x P

F = Fixed costs per order.
S = Annual sales in units.
C = Fixed cost (as a % of S)
P = Price per unit.
56
Q

Ratio - Net Profit Margin

A

Formula: Net Income / Revenue (Sales)

Purpose: Shows the amount of each sales dollar left over after all expenses have been paid.

Interpretation: A Increase/Decrease in net profit margin implies a Decrease/Increase in operational expenses or interest.

57
Q

Ratio - Gross Profit Margin

A

Formula: Gross Profit / Revenue.

Purpose: Shows the percentage by which gross profit exceeds costs of production.

Interpretation: Shows Efficiency. The higher the percentage the better the company is at controlling costs and the more money left over for other expenses.

58
Q

Ratio - Current Ratio

A

Formula: Current Assets / Current Liabilities.

Purpose: Indicates the companies ability to meet short term debt obligations.

Interpretation: Shows Liquidity. A ratio of 1.5 - 2 is generally accepted. A very high ratio implies there could be working capital inefficiencies.

59
Q

Ratio - Quick Ratio

A

Formula: Current Assets - Inventory / Current Liabilities.

Purpose: Indicates the companies ability to meet short term liabilities but excludes Inventory, Supplies and Prepaid Expenses.

Interpretation: Shows Liquidity. Must be at least 1. Can be increased through converting short term debt into long term debt.

60
Q

Ratio - Inventory Turnover

A

Formula: COGS / Average Inventory.

Purpose: Measures the number of times inventory is used or sold in a given time period.

Interpretation: Compare against industry averages. Increases indicate a problem if sales and profits are constant or decreasing.

61
Q

Ratio - Debt Ratio

A

Formula: Liabilities / Assets.

Purpose: Indicates the proportion of a companies debt to its total assets.

Interpretation: Measures the amount of debt the company uses to finance its assets. Higher ratio is greater risk. Same as debt to equity.

62
Q

Ratio - Debt - Equity

A

Formula: Liabilities / Equity.

Purpose: Indicates the relative proportion of debt and equity used to finance assets.

Interpretation: 1 is considered optimum but is very industry specific. Depends on the proportion of current and non-current assets. On average 1.5 - 2 is the maximum for small to medium sized business.

63
Q

Ratio - Times Interest Earned

A

Formula: EBIT / Interest Expense.

Purpose: Measures the amount of times a company can make the interest payments on its debt.

Interpretation: A low ratio indicates high debt burden and vulnerability to interest rate increases. A very high ratio indicates potential loss of increased income opportunities through leverage. 4 - 5 is acceptable.

64
Q

QBE

A

TFC / P - AVC.

TFC = Total Fixed Costs.
P = Price Per Unit.
AVC = Average Variable Cost.
65
Q

Key Drivers of Foreign Trade

A

Absolute Advantage.

Comparative Advantage.

Porters Diamond.

International Product Life-cycle Model.

Theory of Country Size.

International Trade Policy.

Economic Systems.

66
Q

Ratio - Total Asset Turnover

A

Formula: Revenue / Total Assets.

Purpose: Measures how efficiently the company uses its assets to produce sales.

Interpretation: Higher is better. Low indicates inefficient use of assets. Depends on pricing strategy.

67
Q

Limitations of Ratio Analyses

A

A single ratio does not always provide sufficient insight.

Year End Timing (apples with apples).

Do not indicate the relationship between strong and weak points.

Equity is often understated due to inflation and historical costs.

Deal mostly in numbers and not other important factors of business viability.

68
Q

Methods of Payment in International Trade

A

Importer - Risk from Low to high. (Exporter is Opposite).

Open Account.

Documentary Collections.

Letters of Credit.

Cash in Advance.

Financial Management III (1 decks)

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