Financial Mgmt & Capital (mostly)

Question 1

Cash Conversion Cycle

Answer 1

Inventory Conversion + Accounts receivable collection period - Accounts payable deferral period

CCC = ICP + RCP - PDP

ICP = (Average Inventory / COGS) x 365

RCP = (Average receivables / Credit sales) x 365

PDP = (Average payables / COGS) X 365

CCC: time pay suppliers to the time collect receivables

PDP: time buy inventory from suppliers to the time you pay suppliers

ICP: time you buy from suppliers to the time you sell the finished produtct

ACP: time sell finished products to the time you collect the receivables

Question 2

Internal rate of Return

Answer 2

The IRR is when the present value of project cost equals the present value of money coming in from the project

Essentially this is the breakeven point

Net cash inflows includes salvage value.

This method emphazieses cash flows and discounting future cash amounts to their present value and takes into account the time value of money (discounts future cash values to thier present amouont).

Question 3

Net Present Value

Answer 3

NPV is the present value of the cash coming in from the project minus the present value of how much the project cost

PV of net cash inflows - NPV = Cost (initial investment)

The salvage value is treated as an additional single cash flow for 1 year

Cash inflows : include savings generated from more efficient equipment and the salvage value from replaced equipmnet; income tax savings from depreciation expense (tax shield) are treated as cash inflows.

Cash outflows: include the cost of the new project

Question 4

Cost of the loan

Answer 4

Total interest paid / Total loan amount - compensating balance

Question 5

Cash Ratio

Answer 5

Cash + Cash equivalents / current liabities

CL = A/P, Unearned revenue, taxes payable, dvidends payable

Question 6

Futures Contract

Answer 6

A futures contract is when one party agrees to purchase an assets and one party agrees to sell that asset at an agreed upon future date and price, regardless of what the market price is at the end of the contract.

If the contract price is less than the spot price (the current market price) on the day the contract is settled, the economic impact is a savings to the buyer.

If the spot price (the current market price) is greater than the contract price on the delivery date then the buyer will pay the contract price. Net profit = difference between the market and contract price minus the cost of the contract

If the spot price (the current market price) is less than the contract price on delivery date then the buyer will pay the contract price. The loss = Difference between market and contract price plus cost of contract

Question 7

Accouning Rate of Return: ARR

Answer 7

Net operating income divided by the initial investment

Salvage is indirectly considered because it is part of depreciation expense calcuation.

Depreciation expense retures acccounting income.
ARR does not focus on cash flows, it does not discount

Question 8

After tax cost of Debt and Equity

Answer 8

After tax cost of debt is

(Bond payout / issue price) x ( 1 - tax rate %)

Bonds interest are tax deductible

Dividends paid are not tax deductible

Cost of Equity is

Dividend payout / issue price per share

Question 9

Just-in-time inventory managment

Answer 9

• Just in time is an inventory management system designed to prevent excess inventory balances that increase nonvalue added costs like storage.
• Uses a cost accumulation method called backflush costing. This is when all manufacturing costs are charged directly to COGS, and the work-in-process account is eliminated. If inventory exist at the end of the period, costs are allocated (i.e. flushed backwards) from COGS to the appropriate inventory accounts using standard costs. Under the back-flush approach, there is a decrease in the detailed tracking of costs to specific jobs.
• Called the pull method

Question 10

Residual income

Answer 10

Operating income - (RRR x operating income)

Residual income is the amount of income left over after deducting the cost of capital (imputed interest on assets) related to generating that income.

Question 11

Return on Equity

Answer 11

Net income / average shareholders equity

Net income = Sales x profit margin

Also,
Net income - Preferred dividends / Average common shareholders equity

Question 12

Return on sales

Answer 12

Operating income / sales

Question 13

Asset turnover

Answer 13

Net Sales / total average assets

Question 14

Profit margain

Answer 14

Net income / Net sales

Question 15

Return on investment (return on assets)

Answer 15

Net inomce / Average invested capital (assets)

*Remember to do beg assets + end assets /2 if average is given

Question 16

Fixed asset turnover ratio

Answer 16

Sales / Fixed assets @ book value

Question 17

Accouting Rate of Return

Answer 17

Average annual profit / average investment (or inital investment cost)

The numerator is calcuated as the profit minus the projects depreciation expense (when provided)

Question 18

Business cycles

Expansion - Peak - Contraction -Trough

Answer 18

Expansion : Economy is growing, stocks are in bull market; inflation nearing its target rate; unemployment is decreasing

A late expansion : is characterized by an acceleration of both growth and inflation above the moderate rates typical for each in early expansion phase.

An early expansion : follows a trough and is characterized by stable to moderate GDP growth and moderate to decreasing inflation

Peak : transitionary phase; economy is “overheated”; excessive inflation and growth; unemployment at its natural rate
occurs after an expanstion have been going on for some time. There is usually a lack of available labor and capital, which results in deceleration of growth. Tight labor markets and lack of excess capacity often result in the bidding up of wages and prices, leading to an acceleration of inflation.

Contraction : Economy is weakening; stocks in bear market; unemployment increases; prices falling; deflation
A negative GDP growth (decling economic output). Its usually accompained by falling rates of inflation.

Trough : Transitionary phase; economy hits bottom; low or stagnant growth; high unemployment

Question 19

Factoring

Answer 19

Factoring recivables involves selling accounts receivable to a factoring company, which charges a % fee for accetping the risk of nonpaymnet, as well as interest is based on the amount of advanced funds.

As a result, the selling company receives cash sooner, which decreases A/R and improves the A/R turnover ratio.

Question 20

Economic value-added

Answer 20

Net operating profit after taxes - cost of financing

Cost of financing (finance charge) is the WAAC (Weighted Average Cost of Capital) X Capital used to generate the profits

Cost of financing Summary
WAAC X Invested Capital

Economic value added is the net income/profit after taxes - cost of equity which includes deb and equity

Question 21

Tax Shield Formulas

Answer 21

Cash Expense
Formula: Expense x (1 - tax rate)
Examples : Insurance, salaries, utilities

Deprecation
Formula : Expense x tax rate
Examples : Losses, depreciation, amortization

Question 22

Key Financial Ratios

Answer 22

Profitbility : measures a company’s degree of success or failture in geneating profit using margins and return metrics

• Gross-Margin Ratio
• Return on assets

Asset Utilization : measures how efficiently the company uses its operating assets

• Inventrory turnover
• Receivables turnover

Liquidity : measures a company’[s ability to pay its maturing short-term obligations

• Current ratio
• Quick ratio (acid test)

Debt Utilization : measures a company’s use of leverage and its ability to service or pay off debt oligations

• Debt-to-total assets ratio
• Debt to-equity ratio

Market : mostly used by investors to evaluate whether a company’s share price is overvalued or undervalued.

• Price-to-earnings ratio
• Sales-to-cash-flow ratio

Question 23

Reorder point for inventory

Answer 23

Average daily demand 
x Average daily lead time
= Reorder point w/o safety stock
\+ Safety Stock
= Reorder point with safety stock

Question 24

Deflator Ratio

Answer 24

Value of current year output at current year prices / Value of current year outptut at base year prices

Question 25

Derivative

Answer 25

• Settled in cash or liquid assets for its net amount
• There is at least one underying and notional amount
• No initial costs or the inital cost is disproportionately low compared to other investments that would provide similar reactions to the market.