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Finance Flashcards

Chapter 19 Finance 3351 Real Estate

After-tax equity reversion (ATER) The before-tax equity reversion, defined as net selling price minus the remaining mortgage balance, at the time of sale less taxes due on sale.
Before-tax cash flow Annual net operating income less annual debt service.
leverage The use of mortgage debt to help finance a capital investment.
levered cash flow The property’s net rental income after subtracting any payments due the lender.
unlevered cash flow The expected stream of NOIs and the expected net sale proceeds (NSP). This represents the income-producing ability of the property before subtracting the portion of the cash flows that must be paid to the lender to service or retire the debt.
Before-tax equity reversion The net sale proceeds less the outstanding balance on the mortgage loan.
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Finance Flashcards

Personal Finance Ch. 7 & 8: Vocab

Money in this country is collected from citizens and redistributed according to priorities determined by _____. Congress
Money collected by the gov’t from various sources is known as _____. Revenue
A tax that increases in proportion to increases income is known as a(n) _____ tax. Progressive
Money earned by individuals that is subject to taxation is called _____. Taxable income
In order to avoid itemizing deductions, a person may elect to take the _____, which is a flat amount. Standard deduction
Money paid to a former spouse (which is taxable income) for that person’s support is called _____. Alimony
Money paid to a former spouse (which isn’t taxable income) for the support of dependent children is called_____. Child support
Expenses that can be subtracted from gross income are called _____. Itemized deductions
The amount remaining when adjustments are subtracted from gross income is called _____. Adjusted gross income
When all sources of taxable income are added together, the total is called _____ income. Gross
An amount that can be subtracted from your income for each person who depends on your income to live is a(n) _____. Exemption
A(n) _____ tax allows a higher-income person to pay a lower percentage of income in taxes than a lower-income person. Excise
To intentionally fail to pay taxes owed is to commit a serious crime called _____. Tax evasion
A tax system that is based on _____ requires all citizens to be responsible for preparing and filing their tax returns on time and paying taxes due. Voluntary compliance
A type of tax for which the rate stays the same regardless of income is called _____. Proportional tax
A(n) _____ is an amount subtracted directly from tax owed. Tax credit
An administrative agency of the federal gov’t that collects taxes and enforces tax laws is the _____. IRS (Internal Revenue Service)
An examination of tax returns by the IRS is called a(n) _____. Audit
All the money you receive is either _____, saved, or invested. Spent
An orderly program for spending, saving, and investing the money you receive is known as a(n) _____. Financial plan
Money you have to spend as you wish–after all required taxes and deduction–is known as _____. Disposable income
A(n) _____ is an organized plan whereby you match your expected income with expenses and savings. Budget
A computer program that organizes data for easy search and retrieval is a(n) _____. Database
A(n) _____ is a statement about a product’s qualities or performance that the seller assures the buyer are true. Warranty
Expenses that remain constant and cannot be easily changed or removed from a budget are called _____ expenses. Fixed
Expenses that may change according to needs and short-term goals are called _____ expenses. Variable
A(n) _____ is a person who promises to pay the debt of another person. Co-signer
Items of value that a person owns are called ______. Assets
Amounts of money owed to others, also known as debts, are called _____. Liabilities
When you subtract your debts from the total amount of things you own, the difference is known as _____. Net worth
When income exceeds expenses, the difference is called a(n) _____. Cash surplus
A legally enforceable agreement between two or more parties to do or not to do something is a(n) _____. Contract
Unwritten agreements, often called _____ contracts, are created by the actions or conduct of someone. Implied
Anything of value exchanged as a part of a contract is called _____. Consideration
_____ are persons who are legally able to give sane and intelligent consent and are legally capable of entering into contracts. Competent(s)
A(n) _____ is a document that is a written order to release or issue money, the most common of which is a check. Negotiable instrument
When a document is _____, the signature is verified by a notary public. Notarized
The person who creates and signs a promissory note is called the _____. maker
The person to whom a negotiable instrument is made payable is called the _____. Pager
The word _____ means legally collectible. Negotiable
A(n) _____ program organizes data in columns and rows and performs calculations using the data. Spreadsheet.
Know how to do the math for the test.
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Finance Flashcards

Personal Finance Unit 2

What is a depository institution? Businesses that provide financial services
What are the two main types of depository institutions we discussed in class? Commercial banks and credit unions
What are three characteristics of each type of depository institution? Commercial bank: for profit, open to anyone, offers numerous financial servicesCredit Union: owned by members, have membership qualifications, don’t offer as many services as banks
Who insures each depository institution and for how much? FDIC and NCUA, $250,000
What is interest? the price paid for using someone else’s money
What are the two most common types of savings tools? Checking account and saving account
What are two characteristics of each type of savings tool? Checking: provides and easy method for transferring money, can write checks/use debit card/withdraw cash, not always interestSaving: designed to hold money not currently in usage, access to money is more limited than than checking, has interest
Services offered by depository institutions may offer certain features. List and explain the five features we discussed in class. Online banking (complete online), mobile banking (use an app), debit cards, automated teller machines, contact-less payment (wave card in front of sensor)
List and explain three common fees that a depository institution may charge. Overdraft (draw out more than you own), ATM (charge for using it), and Minimum Balance
List and describe the three ways you can endorse a check. Bank Endorsement: just sign your name, least safe wayRestrictive Endorsement: for deposit only and then sign your name and put account #Endorsement in Full/Special: transferring the money over to another party. Pay to the order of, the other party’s name and then your name
What does reconciling an account mean? Balancing the check register each month with the balance shown on the bank statement
What are taxes? A sum of money demanded by a government to support the government itself as well as specific facilities or services
Define and give an example of each of the following taxes: excise tax, property tax, sales tax, income tax and payroll tax. EXCISE taxes charged on consumption items (gas, hotel rooms) PROPERTY: a tax on property, such as land, buildings (including homes), and motor vehicles SALES: taxes on items purchased in retail stores (clothes) INCOME: tax on earned and unearned income (federal income and state income) PAYROLL: A tax on earned income that supports the Social Security and Medicare programs (also known as FICA)
What does the government use tax money for? Parks, roads, other community things
What is a Statement of Financial Position? What is a Statement of Financial Position?
What is the difference between net worth and income? Net worth is the objective value of worth whereas income is money you actually earn
What is the difference between an asset and a liability? Assets are anything someone owns with monetary value whereas liabilities are something owed to others.
List and describe the three main parts of the Asset section of the Statement of Financial Position. Monetary assets: assets that can be quickly and easily converted into cashTangible assets: personal property that was purchased to create a lifestyle or improve your lifeInvestment assets: assets purchased for the purpose of making more money.
Define market value The price at which an item would sell or trade at the current moment.
What type of items would fall under the Liabilities section of the Statement of Financial Position? Home mortgage, Car payment, Student loans, Credit card balance
What is the difference between a liability and an expense? Liability is money owed to others, expense is money that is spent, but not owed
What is the formula for calculating Net Worth? Assets – Liabilities = Net Worth
How can you increase your Net Worth? By lowering your liabilities & raising your assets
What is an Income and Expense Statement? List/summary of income & expense transactions that have taken place over a period of time
How can an Income and Expense Statement help you manage your money? It lets you know how your money is being spent, how much you are depositing & withdrawing, & how much money you are making.
What are the three main components of and Income and Expense Statement? Income, savings, expenses
List and describe the three sections of the Income component. Earned income, unearned income, received income
What is the difference between gross income and net income? Gross income is your income before withholdings, taxes, ect. Net income is your income after all these deductions.
Define and list examples of expenses. Housing costs, food, entertainment, pet supplies, medicine, personal care items, clothing, savings.
What are three methods you can use to track your expenses? Record in writing, use a smartphone, keep all receipts
What is the difference between a net gain and a net loss? Net gain is when your income is greater than your expenses, net loss is when expenses are greater than your income.
What is a Spending Plan? A document used to record planned and actual income and expenses over a period of time
List four reasons why a Spending Plan an important part of financial planning. Helps you manage money, allows you to take control of your spending, control your financial future, and can help you increase net worth and achieve financial goals.
List and explain the five steps in the Spending Plan Development Process. Track current income & expenses, personalize your spending plan, allocate money to each category, implement and control, and evaluate & make adjustments
What is the difference between contractual and non-contractual expenses? Contractual – requirement to pay for a specific amount of time, not easy to reduce or eliminate. Non-contractual is easy to reduce or eliminate
What are the six main categories of the Spending Plan Guide and what percentage of your income should you allocate to each category? Other = 18%Food = 15%Saving & Investing = 10%Housing = 30%Insurance = 7%Transportation = 20%
List and explain the five types of control systems. Money management computer systems, internet-based spending plan program, Depository Institution programs, check register system and envelope system
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Chapter 5 Personal Finance

The total estimated student loan debt outstanding (unpaid) is over: $1 trillion
Which of the following is not a good option when it comes to paying for your education? Ask your parents to take out a loan
Which of the following are ways that you can invest in yourself? All of the above (find a mentor, surround yourself with people who have similar goals and ambitions as you, and read books)
Which of the following statements is false? A student loan is an award
Which of the following statements about college financial aid is false? Scholarships are only for the highest academic achievers
You should visit your college’s financial aid office if: All of the above (your parent’s financial situation has changed, you have any problems with the financial aid application process, and a medical situation had come up)
Which of the following statements is false? Students rarely drop out of college due to financial trouble
Which of the following is not recommended when you are cash-flowing your college education? Attend an out-of-state school
The average repayment period for a student loan is: 10 years
Which of the following statements is false? All high-paying careers require a four-year college degree
The Fourth Foundation is: Pay cash for college
Which of the following could be a negative consequence of taking out student loans? All of the above (not having the freedom to be a stay-at-home parent because of student loan payments, having to delay investing and saving for your future because of student loan payments, and not having flexibility in your career options because of student loan payments)
Percentage of college students that graduate with student loans 66%
A wise college plan does not include: Finding the most expensive, prestigious college so that you can impress future employers
Which of the following is not one of the basics of budgeting? Stick to your budget unless something unexpected happens
Our culture thinks student loan debt is normal and that it’s an acceptable way to pay for college True
A four-year degree is necessary regardless of which career you’re entering False
The average millionaire reads one nonfiction book a month True
When shopping for the best education option, you should narrow down your choice of colleges to 10 schools or less False
The best quality colleges are always the most expensice False
You must go to a prestigious school in order for employers to recognize your talents and strengths False
If you plan to attend a community college for your first two years, you’ll want to work closely with your advisor to make sure that the classes you take will transfer to your four-year school of choice True
You must shop for the best price for your education in the same way you comparison ship for any large purchase True
You’ll only need to complete the FAFSA once during your college education False
The academic and financial choices you make in the next few years will affect the next 40 years of your life True
A form that is completed annually by current and prospective college students to determine their eligibility for financial aid FAFSA
A form of financial aid that does not need to be repaid, usually awarded on the basis of academic, athletic, or other achievements Scholarship
A program that allows students to work part time while continuing their studies Work study
A form of federal or state financial aid that does not need to be repaid; usually given to students who demonstrate financial need Grant
A two-year government-supported college that offers an associate’s degree Community college
Usually a professional trainer serves as the course instructor and uses a combination of hands-on activities and formal classroom training On-the-job-training
Allows students to learn basic professional skills in two years or less; typically cut out many of the general courses required by traditional universities Trade school
These may be free or low-cost; found online, at community colleges, or through government-funded programs Certifications
A person that starts his or her own business Entrepreneur
Pay as you go Cash-flow
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Chapter 10: Getting Financing or Funding

Reasons why Companies need funding Cash Flow Challenges, Capital Investments, Lengthy Product Development Cycles
Cash flow challenges Inventory purchases, Employees must be paid, and advertising must be paid for before cash is generated from sales.
Capital Investments Cost of buying real estate, building facilities, and purchasing equipment. Typically exceeds a firm’s ability to provide funds for these needs on its own.
Lengthy Product Developmental Cycles Some products are under development for years before they start generating profits.
Sources of personal financing Personal funds, friends and family, Bootstrapping
Personal funds personal funds that go into ventures
Sweat Equity represents the value of the time and effort that a founder puts into a new venture.
Friends and Famly Loans or investments from friends and family
Bootstrapping finding ways to avoid the need for external financing or funding through creativity, ingenuity, thriftiness, cost-cutting, or any means necessary.
Equity financing exchanging partial ownership of a firm, in return for funding.
Debt Financing getting a loan.
Business Angels individuals who invest their personal capital directly in start-ups.
Venture Capital money that is invested by venture capital firms in start-ups and small businesses with exceptional growth potential.
Initial Public Offering(IPO) First sale of stock to the public
Crowdfunding practice of funding a project or new venture by raising monetary contributions from a large number of people, typically via internet.
Rewards-based crowdfunding allows entrepreneurs to raise money in exchange for some type of amenity or reward.
equity- based crowdfunding raising money by tapping individuals who provide funding in exchange for equity in the business. JOBs act started this in april 2012.
lease written agreement in which the owner of a piece of property allows an individual or business to use the property for a specified period of time in exchange for payments.
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VB Personal Finance Using Online Banking (Reading Quiz)

QUESTION 1 of 10: Identity theft is important to be aware of because: d) Once your identity is stolen, it can be fraudulently sold, and others can continue to use your good credit to obtain credit cards and loans
QUESTION 2 of 10: The most secure Internet access is available through: a) Cable modem, DSL, or dial-up Internet
QUESTION 3 of 10: An online account transfer is: b) A transfer of money from one account to another conducted online
QUESTION 4 of 10: Phishing is: b) Using a fake Web site or e-mail to intimidate someone into giving away personal information such as user names, passwords, or Social Security numbers
QUESTION 5 of 10: Online banking is probably not necessary if: a) You only have two checks per month and no automatic deposits
QUESTION 6 of 10: Overdraft fees can be avoided by: c) Knowing your account balance and what upcoming bills will be paid
QUESTION 7 of 10: Online bill payment: a) Can happen automatically every month, even if you set it up just once
QUESTION 8 of 10: When paying bills online, a payee is: b) Someone to whom you send a payment
QUESTION 9 of 10: With online banking, you can: c) Pay bills, check your balance, and see if checks have cleared on your bank’s online Web site
QUESTION 10 of 10: A good password: c) Includes a combination of letters and numbers that are memorable and meaningful to you
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MIS Chapter 1 – MC

competitive intelligence which of the following is not considered a core driver of the information age
variables which of the following is not considered a core driver of the information age
data which of the following is considered a core driver of the information age
all of these which of the following is considered a core driver of the information age – information, business intelligence, knowledge
information technology is everywhere in business why do students need to study information technology
all of these why do students need to study information technology – information technology is everywhere in business, information technology is frequently discussed in business, information technology is frequently used in organizations
fact what is the confirmation or validation of an event or object
information age the age we live in has infinite quantities of facts that are widely available to anyone who can use a computer; what age is this statement referring to
Amazon which of the following is not a technology company but used technology to revamp the business process of selling books
Netflix which of the following is not a technology company but used technology to revamp the business process of renting videos
Zappos which of the following is not a technology company but used technology to revamp the business process of selling shoes
raw facts that describe the characteristics of an event or object what is data
data converted into a meaningful and useful context what is information
information collected from multiple sources that analyzes patterns, trends, and relationships for strategic decision making what is business intelligence
skills, experience, and expertise, coupled with information and intelligence, that create a person’s intellectual resources what is knowledge
best-selling item by month which of the following is considered information
quantity sold which of the following is considered data
Craig Newmark is customer number 15467 Cheryl Steffan is the operations manager for Nature’s Bread Company, which specializes in providing natural products for health-conscious individuals. Cheryl is responsible for compiling, analyzing, and evaluating daily sales numbers to determine the company’s profitability and forecast production for the next day. Which of the following is an example of a piece of data Cheryl would be using to successfully perform her job?
best-selling product by day Cheryl Steffan is the operations manager for Nature’s Bread Company, which specializes in providing natural products for health-conscious individuals. Cheryl is responsible for compiling, analyzing, and evaluating daily sales numbers to determine the company’s profitability and forecast production for the next day. Which of the following is an example of the type of information Cheryl would be using to successfully perform her job?
best-selling product changes when Tony, the best baker, is working Cheryl Steffan is the operations manager for Nature’s Bread Company, which specializes in providing natural products for health-conscious individuals. Cheryl is responsible for compiling, analyzing, and evaluating daily sales numbers to determine the company’s profitability and forecast production for the next day. Which of the following is an example of knowledge that Cheryl would be using to successfully perform her job?
all of these data is useful for understanding individual sales, but to gain deeper insight into a business, data needs to be turned into information; which of the following offers an example of turning data into information – who are my best customers? what is my best-selling product? what is my worst-selling product?
what is my worst selling product? which of the following provides an example of information
who is customer number 12345XX? which of the following provides an example of data
all of these business intelligence is information collected from multiple sources; which of the following provides an example of a source that would be included in business intelligence – suppliers, customers, competitors
data, information, business intelligence, knowledge which of the following represents the core drives of the information age
Internet of Things which of the following is not a core driver of the information age
a data characteristic that stands for a value that changes or varies over time which of the following represents the definition of a variable
knowledge workers today’s workers are referred to as ____ and they use BI along with personal experience to make decisions based on both information and intuition, a valuable resource for any company
business intelligence what is information collected from multiple sources such as suppliers, customers, competitors, partners, and industries that analyzes patterns, trends, and relationships for strategic decision
variables information is data converted into useful, meaningful context; what are data characteristics that change or vary over time
fact which of the below is the key term that defines the confirmation or validation of an event or object
information what is data converted into a meaningful and useful context
internet of things what is a world where interconnected, Internet-enabled devices or “things” can collect and share data without human intervention
machine to machine what refers to devices that connect directly to other devices
predictive analytics what extracts information from data and uses it to predict future trends and identify behavioral patterns
a world where interconnected, Internet-enabled devices or “things” can collect and share data without human intervention what is the Internet of Things
a series of devices that connect directly to other devices what is machine-to-machine
the extraction of information from data used to predict future trends and identify behavioral patterns what is predictive analytics
analytics what is the science of fact-based decision making
predictive analytics a big part of business intelligence, ____ extracts information from data and uses it to predict future trends and identify behavioral patterns
behavioral analytics what uses data about people’s behaviors to understand intent and predict future actions
machine-generated what data is created by a machine without human intervention
human-generated what data is data that humans, in interaction with computers, generate
machine-generated what type of structured data includes sensor data, point-of-sale data, and web log data
human-generated what type of structured data includes input data, click-stream data, or gaming data
all of these which of the following describes structured data – a defined length, type, and format; includes numbers, dates, or strings such as customer address; is typically stored in a relational database or spreadsheet
machine-to-machine (M2M) what refers to devices that connect directly to other devices
all of these what are the characteristics of unstructured data – does not follow a specified format; free-form text; emails, twitter tweets, and text messages
a defined length, type, and format which of the following does not describe unstructured data
emails, twitter tweets, and text messages which of the following does not describe structured data
a view of data at a particular moment in time a world where interconnected, Internet-enabled devices or “things” can collect and share data without human intervention
snapshot what is a view of data at a particular moment in time
big data what is a collection of large complex data sets that cannot be analyzed using traditional database methods and tools
a document containing data organized in a table, matrix, or graphical format allowing users to easily comprehend and understand information what is a report
a collection of large complex data sets, including structured and unstructured, that cannot be analyzed using traditional database methods and tools what is big data
static report what type of report is created based on data that does not change
dynamic report what type of report changes automatically during creation
static report what type of report can include a sales report from last year or salary report from five years ago
dynamic report what type of report can include updating daily stock market prices of the calculation of available inventory
by departments or functional areas how are the majority of companies today typically organized
interdependently between departments how does the text recommend that a company operate if it wants to be successful in the information age
payroll most companies are typically organized by departments or functional areas; which of the following is not a common department found in a company
all of these the sales department needs to rely on information from operations to understand ____ – inventory; customer orders; demand forecasts
human resources which of the following represents the department that maintains policies, plans, and procedures for the effective management of employees
operations management Greg works for Geneva Steel Corporation. Greg’s duties include managing the overall processes for the company and transforming the steel resources into goods. Which department would Greg most likely work in?
business operations information technology can enable departments to more efficiently and effectively perform their core ____
accounting the department within a company that records, measures, and reports monetary transactions is called ____
sales the department within a company that performs the function of selling goods or services is called ____
marketing the department within a company that supports the sales by planning, pricing, and promoting goods or services is called ____
finance which department tracks strategic financial issues, including money, banking, credit, investments, and assets
operations management which department manages the process of converting or transforming resources into goods or services
accounting which department records, measures, and reports monetary transactions
human resources which department maintains policies, and procedures for the effective management of employees
records, measures, and reports monetary transaction which activities belong in the accounting department
tracks strategic financial issues, including money, banking, credit, investments, and assets which activities belong in the finance department
supports the sales by planning, pricing, and promoting goods or services which activities belong in the marketing department
relies on information from operations to understand inventory, place orders, and forecast consumer demand which activities belong in the sales department
maintains policies, plans, and procedures for the effective management of employees which activities belong in the human resources department
manages the process of converting or transforming resources into goods or services which activities belong in the operations management department
promotion data, sales data, advertising data which data types are typically found in the marketing department
employee data, promotion data, vacation data which data types are typically found in the human resource department
investment data, monetary data, reporting data which data types are typically found in the finance department
transactional data, purchasing data, payroll data, tax data which data types are typically found in the accounting department
sales data, customer data, commission data, and customer support data which data types are typically found in the sales department
manufacturing data, distribution data, and production data which data types are typically found in the operations management department
interdependent which of the following represents the relationship between functional areas in a business
all of these which of the following represents the types of data commonly found in the accounting department – tax data, payroll data, transactional data
monetary data which of the following represents the types of data commonly found in the finance department
employee data which of the following represents the types of data commonly found in the human resource department
all of these which of the following represents the types of data commonly found in the sales department – customer data, sales report data, commission data
promotional data which of the following represents the types of data commonly found in the marketing department
production data which of the following represents the types of data commonly found in the operations management department
interdepartmentally the challenge that companies today sometimes have is that they are departmentalized and act independently of each other; one solution that can help a company work ____ includes management information systems
input, transform, output feedback is information that returns to its original transmitter and modifies the transmitter’s actions; what would the original transmitter include
all of these MIS is a business function; which of the following does MIS perform to help aid the company in decision making and problem solving – moves information about people; moves processes across the company to improve systems; moves information about products
input in terms of system thinking, what is data entered in a computer
feedback in terms of system thinking, what controls ensure correct processes
output in terms of system thinking, what is the resulting information from the computer program
output in terms of system thinking, what is the computer program that processes the data
data entered in a computer in terms of system thinking, what is input
the resulting information from the computer program in terms of system thinking, what is output
controls to ensure correct processes in terms of system thinking, what is feedback
the computer program that processes the data in terms of system thinking, what is process
the entire system a system is a collection of parts that link to achieve a common purpose; systems thinking is a way of monitoring ____
MIS is a valuable tool that can leverage the talents of people who know how to use and manage it effectively MIS can be an important enabler of business success and innovation; which of the below statements is accurate when referring to MIS
systems thinking what is a way of monitoring the entire system in a company, by viewing the multiple inputs being processed to produce outputs
MIS enables business success and innovation which of the following statements is true
all of these what is the name of a company’s internal computer department – management information systems; information systems; information technology
goods what are material items or products that customer’s will buy to satisfy a want or need
services what are tasks performed by people that customer’s will buy to satisfy a want or need
production what is the process where a business takes raw materials and processes them or converts them into a finished product for its goods or services
productivity what is the rate at which goods and services are produced based upon total output given total inputs
material items or products that customer’s will buy to satisfy a want or need what are goods
tasks performed by people that customer’s will buy to satisfy a want or need what are services
the process where a business takes raw materials and processes them or converts them into a finished product for tis good or services what is production
the rate at which goods and services are produced based upon total output given total inputs productivity
goods cars, groceries, and clothing belong in which category
services teaching, waiting tables, and cutting hair belong in which category
all of these which of the following is considered a good – cars, groceries, clothing
all of these which of the following is considered a service – teaching, waiting tables, cutting hair
cars which of the following is considered a good
cutting hair which of the following is considered a service
milk and eggs which of the following is considered a good
all of these which of the following is considered a service – selling groceries, managing a team, cutting hair
input the lettuce, tomatoes, patty, bun, and ketchup are included in which category of making a hamburger
process cooking a patty and putting the ingredients together are included in which category of making a hamburger
output the actual hamburger is included in which category of making a hamburger
increase in productivity, increase in profits assume you are in the business of producing and selling hamburgers; if you could produce more hamburgers with the same input, what would happen to your productivity and profits assuming the price of your hamburgers remains the same
increase in productivity, increase in profits assume you are in the business of producing and selling t-shirts; if you could product more t-shirts with the same input, what would happen to your productivity and profits assuming the price of your t-shirts remains the same
increase in productivity, increase in profits assume you are in the business of producing and selling cars; if you could produce more cars with the same input, what would happen to your productivity and profits assuming the price of your cars remains the same
input, process, output, and feedback which four elements are included in systems thinking
management information system MIS is a business function, like accounting or sales, which moves information about people, products, and processes across the company to facilitate decision making and problem solving; what does MIS stand for
feedback Shelby Black runs a very successful hair salon in downtown Los Angeles. One of Shelby’s tasks is to input positive and negative customer reviews into her computer system. What type of information is Shelby gathering?
a way of monitoring the entire system by viewing multiple inputs being processed or transformed to produce outputs while continuously gathering feedback on each part which of the following provides an accurate definition of systems thinking
the dirty clothes, water, and detergent if you were thinking about a washing machine as a system which of the following represents the inputs
the wash and rinse cycle if you were thinking about a washing machine as a system, which of the following represents the process
the light indicating that the washer is off balance and has stopped if you were thinking about a washing machine as a system, which of the following represents the feedback
the clean clothes if you were thinking about a washing machine as a system, which of the following represents the outputs
the uncooked food if you were thinking about an oven as a system, which of the following represents the input
the cooked food if you were thinking about an oven as a system, which of the following represents the output
the oven running at 350 degrees for 20 minutes if you were thinking about an oven as a system, which of the following represents the process
the light indicating that the oven has reached the preheated temperature if you were thinking about an oven as a system, which of the following represents the feedback
the DVD player, DVD movie, speakers, TV, and electricity if you were thinking about a home theatre system, which of the following represents the inputs
playing the movie including the audio through the speakers and the video on the TV if you were thinking about a home theatre system, which of the following represents the outputs
spinning the disk to play, pause, rewind, or fast forward if you were thinking about a home theater system, which of the following represents the process
a message stating that the disk is dirty and cannot be played if you were thinking about a home theater system, which of the following represents the feedback
transactional data, purchasing data, payroll data, tax data
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Unit 6 finance

The time value factors interest rates and time periods
Simple Interest Interest earned on the original principal.
Compound Interest Interest earned on the accumulated interest added to the principal each periodtime value calculations used in Finance generally rely on compound interest; the base amount for your calculations change with each period, as interest is added to principal to make a larger amount for interest rates to act upon
Three Ways to Alter Future Values 1) Increasing the amount of cash you have.2) Saving for a longer period of time allows savings amount to grow at a faster rate exponentially3) Locating an investment that earns more interest.
compounding The process of accumulating interest in an investment over time to earn more interest.-means earning interest on interest
interest on interest Interest earned on the reinvestment of previous interest payments.
compound interest Interest earned on both the initial principal and the interest reinvested from prior periods.
simple interest Interest earned only on the original principal amount invested.
future value is the ______ value of an investment at some time in the future cash
why is a dollar received today worth more than a dollar received in the future? -today’s dollar can be reinvested, yielding greater amount in the future-inflation will make a dollar in the future worth less than a dollar today
If you invest $100 for 5 years at 10% interest compounded annually, which of the following will be the formula for the future value of your investment FV= 100(1.1)^5
the process of accumulating interest in an investment over time to earn more interest is called compounding
If you invest for a single period at an interest rate of r, your money will grow to ______ per dollar invested (1+r)
which are the primary ways used to perform financial calculations today? financial calculator spreadsheet functions
which of the following is an incorrect keystroke in financial calculator for calculating the future value of $100 today for 2 years at 10% per year? .1 I/y-the interest rate in a financial calculator is entered as a whole number not a decimal
The future value of a $100 investment in 4 years compounded at 8% per year equals: $136.05100(1.08)^4
the future value of $100 compounded for 50 years at 10% per year is $11739.09100(1.1)^50
the amount an investment is worth after one or more periods is called the ____ value future
true or false: future value refers to the amount of money an investment is worth today false
time value of money tables are not as common as they once were because -it’s easier to use inexpensive financial calculators instead-they’re available for only a relatively small number of interest rates
the correct future value interest factor in a time value of money table for finding the future value of $100 in 10 years at 10% per year interest is _______ 2.5937100(1.1)^10= 259.37259.37 / .10= 2.5937
to calculate the future value of $100 invested for t years at r interest rate, you enter the present value in your calculator and see a negative number. Why? because the $100 is an outflow from you which should be negative
You invest $500 at 10% interest per annum. At the end of 2 years with simple interest, you will have _____ and with compound interest you will have _____ $600,$605Simple interest= 500(.1)=$50 per year x 2 years= 100; $500+ $100= $600compound interest = $500(1.1)^2= $605
given an investment amount and a set rate of interest, the ______ time period, the _____ future value longer, greater
Ways to determine present value -time value tables-formula-financial calculator
Delaying investments delaying investments can increase future value because less time periods are discounted
change in interest rates a change in interest rates can decrease present value if rates increase
which of the following can be used to calculate present value? -financial calculator-algebraic formula-time value of money table
if you want to know how much you need to invest today at 12% compounded annually in order to have $4000 in 5 years, you’ll need to find a _______ value present
which formula represents a present value factor? 1/(1+r)^t
you must invest ____ today at 8% to get $2 in one year $1.85$2/(1.08)^1
if FV= PV(1+r) is the single period formula for FV, which is the single period present value formula? PV= FV/(1+r)
Which of the following is the correct formula for calculating the present value of a future amount, expected in t years at r percent interest? PV=FV/(1+r)^t
the present value interest factor for $1 at 5% compounded annually for 5 years is? .78351/(1.05)^5
the current value of a future cash flow discounted at the appropriate rate is called the _____ value present
how long will it take $40 to grow to $240 at an interest rate of 6.53% compounded annually? 28.33ln($240/40)/.0653= 27.43 ~ 28.33
for a given time period (t) and interest rate (r), the present value factor is ____ the future value factor 1 divided bythe reciprocal of
what is the primary difference between time value or money date entries in your calculator and in a spreadsheet? the interest rate in your calculator is entered as a whole number while in the spreadsheet function it is entered as a decimal
supposed we invest $100 now and receive $259.37 in 10 years. What rate of interest will we achieve? 10%(259.37/100)^1/10 – 1 = 10
the basic present value equation is PV= FVt/ (1+r)^t
which of the following is the correct excel function to calculate the present value of $300 due in 5 years at a discount rate of 10%? =PV(10,5,0,300)
if you wish to find the FV of $100 invested at 10% for 5 years, which of the following would be the correct excel function? =FV(.10,5,0,-100)
ways to calculate FV for multiple cash flows 1) compound the accumulated balance forward 1 year at a time2) calculate FV of each cash flow first and then add these up
ways to calculate PV for multiple cash flows 1) discount back one time period at a time2) calculate PVs individually and add them up
Suppose you expect to receive $5000 in one year, $4300 in 2 years, and $5000 in 3 years. Discount rate is 17%. year 1: $5000/1.17= $4273year 2: $4300/1.17^2= $3141year 3: $5000/1.17^3= $3121
In almost all multiple cash flow calculations, it’s implicitly assumed that the cash flows occur at the _____ of each period end
When finding the present or future value of an annuity using a financial calculator, the ____ ____ should be entered as a percentage interest rate
Annuities a finite, regular, cash flow stream-the cash flows involved in the annuity follow a regular pattern.-Rent, salary, pensions, and car payments are all examples of annuities2 types of annuities:-level-growing
level annuity Its cash flows are the same in each period-classified by when their cash flows occur.-An annuity due is cash flow that occurs at beginning of each period.
growing annuity -Its cash flows increase at a regular growth rate
calculating present values -annuities 1) take present value of each cash flow2) use PV annuity formula3) use time value tables
growing annuities PV= C[(1/r-g)-(1/r-g)(1+g/1+r)^t]
perpetuities a regular stream of cash flow that is indefinite–it theoretically goes on foreveremphasize near term cash flows rather than far-out cash flows2 types:-level-growing
level perpetuities Those with regular payments that are the same in each time period.
growing perpetuities those with payments which increase at a regular rate.
a perpetuity is a constant stream of chas flows for a(n) _____ amount of time infinite
when entering variables in excel function, the “sign convention” can be critical to achieving a correct answer. Sign convention says that outflows are negative values; inflows positive. Which variables is this a consideration? paymentfuture valuepresent value
The first cash flow at the end of week 1 is $100, second at end of month 2 is $100, and 3rd at end of year 3 is $100. Cash flow patter is a(n) _____ type of cash flow uneven
given an annuity that has a payment of $35 per year, an annual interest rate of 3%, and a present value of $130, it will last for ______ years 4
an annuity with payments beginning immediately rather than at the end of the period is called an ______ annuity due
the formula for the future value of an annuity factor is [(1+r)^t-1]/r true
which cannot be evaluated as annuities or annuities due -tips to waiter-monthly electric bills
formula for the PV of an annuity due is (1+r)(PV of ordinary annuity)
C/r is the formula for the present value of a(n) _____ perpetuity
true or false: when calculating the PV of an annuity using the financial calculator, you enter the cash flows of the annuity in the PMT key true
real world examples of annuities pensionsmortgagesleases
an ordinary annuity consists of a(n) ______ stream of cash flows for a fixed period of time level
an investment offers a perpetual cash flow of $100 every year. The required rate of return on this investment is 10%. what’s the value of this investment? $1000
if the interest rate is greater than 0,. the value of an annuity is always ____ an ordinary annuity greater than
What is the present value of an annuity that makes payments of $100 per year for 10 years if the first payment is made immediately and the discount rate is 10% per year? $675.9
The present value interest factor for 30-year annuity with an interest rate of 10% per year is ______? 9.4269[1-(1/1.1^30)]/.1]
the present value interest factor for an annuity with an interest rate of 8% per year over 20 years is____? 9.8181[1-(1/1.08^20)]/.08]
Alice has $20,000 in an account that pays 8% per year. Alice wants to withdraw = amounts at the end of the next 10 years. How much will Alice receive each year? $2980.59$20,000/[(1-11/1.08^10)]/.08]
Different Compounding Periods -Bonds pay interest semiannually.-Stocks pay dividends quarterly.-Leases often require monthly payments.
Three Interest Rates to Track 1) Stated Annual Interest Rate: The interest rate stated on an annual basis.2) Periodic Interest Rate: The interest rate applied each month to the principle.3) Effective Annual Interest Rate: The interest rate that reflects the effect of compounding over the entire annual period.For the effective annual interest rate, you apply the quarterly interest rate for the number of compounding periods within a year. -So, what you have are two annual rates, one for the nominal rate stated on an annual basis, the other reflecting the effects of compounding. -These two annual rates are connected through the periodic rate.
Methods for Evaluating Interest Rates Stated rate: the nominal rate stated on an annual basisEffective rate: includes the effect of compounding.
the effective annual rate (EAR) takes into account the ____ of interest that occurs within a year compounding
an interest rate expressed in terms of the interest payment made each period is called a(n) ______ quoted interest rate, stated interest rate
which of the following is the general formula for the EAR when m is the number of times interest is compounded in a year? (1+ quoted rate/m)^m -1
the interest rate charged per period multiplied by the number of periods per year is the annual percentage rate-disclose an APR on all consumer loans
if the quoted interest rate is 2% per month (12 months in a year), what is the APR? 24%
a credit card charges 18% interest per year (APR) (1.5% each month). What’s the EAR? 19.56%(1.015)^12-1
because of ______ and ______, interest rates are often quoted in many different ways tradition and legislation
the interest rate expressed as if it were compounded equally once per year is called the ______ effective annual rate
which is the appropriate excel function to convert a quoted rate of 12% compounded quarterly to an EAR? EFFECT(.12,4)
you agree to pay back $1,100 in 4 weeks for a $1000 payday loan. Your APR to 2 decimal places is —-% 130[(1100/1000)-1] (52/4)(100)
more frequent compounding leads to higher EARs
you agree to repay $1200 in 2 weeks for a $1000 payday loan. What is your EAR assuming there are 52 weeks in a year? 11347.55%(1200/1000)^26 -1
you borrow $100 and agree to pay back your payday loan in 2 weeks for 10% interest over that 2 week period. What is your stated annual interest rate? 260%
ordinary annuity series of constant or level cash flows that occur at the end of each period for some fixed number of periods
effective annual rates and compounding -rate is quoted as 10% compounded semiannually- 10% compounded semiannually is = to 10.25% per year
stated interest rate The interest rate expressed in terms of the interest payment made each period. Also quoted interest rate.-what a 10% rate is called
quoted interest rate The interest rate expressed in terms of the interest payment made each period. Also stated interest rate.
effective annual rate (EAR) The interest rate expressed as if it were compounded once per year.ex. the 10.25%, rate that you will earn
EARs concepts 1) the highest quoted rate is not necessarily the best2) compounding during the year can lead to a significant difference between the quoted rate and the effective rate (what you get or pay for)
calculating EARs 1) divide the quoted rate by the number of times that the interest is compounded2) then add 1 to the result and raise it to the power of number of times the interest is compounded3) finally, subtract the 1. If you let m be the # of times the interest is compounded during the year, then the equation is:EAR= (1+ quoted rate/m)^m
APR vs EAR difference is small when APR and EAR interest rates are small, but difference is large when interest rates are large.ex. payday loans
to convert a quoted rate or an APR to an effective rate in excel use what formula? EFFECT(nominal_rate,npery)-nominal_rate is quoted rate or APR-npery is # of compounding periods per year
to convert an EAR to a quoted rate, use what formula on spreadsheet? NOMINAL(effect_rate,npery)effect_rate is the EAR
Categories
Finance Flashcards

Finance FINAL Exam

Third Exam Study Points CH 10: 2, 6, 7, 11, 13, 14, 21, 23, 29, , 30, 32, 33, 34, 35CH 11: 1, 2, 18CH 17: 1, 2, 3, 5, 7, 9, 10, 12, 14, 17, 19, 20, 22, 24voice recordings of practice examples
Ch. 10 Bonds and Stocks: Characteristics and Valuation A claim against the income or assets of an individual, business, or government.Examples:Shares of stockHome Mortgage Car Loan
As we see, in addition to retained earnings, businesses can raise funds by: Issue debt (bonds)Selling shares (external equity)Funds can be raised publicly or privately
Long-term Financing Sources for Business
Characteristics of Fixed-Income Securities: Bonds and Preferred StockDEBT Capital DEBT CAPITAL -A contract between borrower/lender-Bankruptcy/reorganization threat if contract is violated-Priority claim on assets, cash flow-Less return potential than equity-Little/no voice in management
General Terms Associated with Debt: Par value or Face ValueCoupon RateCoupon PaymentAnnual coupon = coupon rate x par value U.S. versus EurobondsSecured versus unsecured Registered versus Bearer bonds
Bond Covenants Impose restrictions or extra duties on the firmProtect bondholder stake in the firmIndenture and the role of the trustees
Bond Rating Examples
High-Yield or Junk Bonds
Bond Ratings -Measure likelihood of default; influenced by level of issuer’s cash flow, investor protection in the covenants-Acts as a market signal-Lower rating–>Higher risk–>Higher coupon rate on new issues
Credit Risk Samples
Time to Maturity U.S.: 10-to-30 years (typical)Eurobond: 7-to-10 year (typical)Callable bondsSinking fund
Reading Bond Quotes
Preferred Stock “Preferred” over common stock with a senior claim on earnings, assetsFixed dividend; par value is important!Usually non-voting
Other Features Cumulative versus non-cumulativeCallableConvertibleTax Advantage
Characteristics of Variable-Income Securities: Common StockCOMMON STOCK Owners of the firmSelect DirectorsDividends: when declaredLowest priority in bankruptcyPar value–meaninglessDifferent classes to protect control
Reading Stock Quotes
How do firms decide how much to pay in dividends? Important influences:-Ability of firm to generate cash to sustain level of dividends-Legal/contractual considerations (par value, bond indenture)-Growth opportunities facing firm-Cost of other financing sources-Tax rates on dividend income
Stock Split Firm distributes extra shares for every share owned2-for-1 split: for every share owned, you receive another share. If you owned 100 shares you now own 200.But stock price will adjust so shareholder wealth is constantReverse split: 1-for-2: number of shares cut in half—you owned 200 shares, now you own only 100 shares. Share price adjusts so change in wealth = 0.
Why Offer Stock Splits? PsychologicalInvestors believe they are getting more Illusion of wealth raisingIs there an “optimal” price range for stock?If so, splits/reverse splits/dividends can move price back toward the desired range.Exceptions: Berkshire Hathaway ($100,000/share) and other firms with prices in excess of $100/share (Google in 2007: $500)
Share Repurchases Why buy back stock?Major reasons: -Reward long-term shareholders as less shares should increase stock price over time; -Firm sees stock as overvalued and as a good investment of excess fundsMinor reasons:-Acquire shares for management incentive stock options-Use in acquisitions
Valuation of Securities Valuation Principles Basic concept:Price of an asset = Present value of future expected cash flows
Continued
Bond Valuation Bonds: Cash Flows (interest points or sell price/maturity) (1) perpetual bonds-(pay interest only; no maturity) Po=I/Rd(2) zero-coupon bond (pays no interest; maturity higher) Po=M(PVIF)(3) coupon bond (pay interest and pays maturity) Po=I(PVIF)+M(PVIF) Preferred: Po=Dp/RpCommon Stock (1) zero growth Po=D/rs(2) constant growth Po=D/rs-q(3) non-constant growth Po=
The Seesaw Effect Required rate of return (the market interest rate) rises…bond prices fallInterest rate = 8.16% price = $1000Interest rate = 10.25% price = $875.48Required rate of return falls, bond prices riseInterest rate = 6.09% price = $1149.08
Perpetual Bond A perpetual bond pays a fixed coupon amount, I, forever.
Zero Coupon Bonds
Risks in Bond Investing Credit risk (default risk)Interest rate risk (seesaw effect)Reinvestment rate riskSpecial risks for non-domestic bonds:Political riskExchange rate risk
Valuation of Stocks Same principal:Price = Present Value of expected future cash flowsBut tougher to apply than with bonds:indefinite lifecash flows (dividends) uncertaindiscount rate hard to determine**a share of preferred stock that doesn’t mature and can’t be called will pay the same dividend amount Dp forever
Dividend Growth Patterns
Applications of the General Valuation Model -zero growth dividend valuation model -constant dividends over time Po=Do/RsPo=$2/0.10=$20
Gordon or constant dividend growth model
Risks in Stock Valuation Quality of management’s ethics, decisionsUncertainty over future dividend changes, growth changesChanging market/investor expectations for firms, the economyChanging interest rates
Valuation and the Financial Environment Economic events affect firms’Cash flowsRequired rates of return-Inflation-Risk Premium
Global Economic Influences Condition of non-domestic economies-Exports-Imports and domestic competitionChanges in exchange rates-Affect cash flows-Affects domestic interest rates
Domestic Economic Influences Consumers affect cash flows-Higher disposable income–> higher spending–>higher levels of business production, investment, and hiring–>economic growth, firm’s profitabilityEconomic conditions affect required return-Inflation-Investor optimism/pessimism on credit spreads, risk premiums
Domestic Economic Influences.. Government:-Fiscal policy: affects consumers’ disposable income-Monetary policy: affects interest rates, inflation expectations
CH. 10 Discussion Questions 2. What are the major sources of long-term funds available to business corporations? Indicate their relative importance. Internally generated funds arise from the firm’s retained cash profits and depreciation. External funds are obtained from debt (e.g., bonds) and equity (preferred stock, common stock) markets. Such debt and equity claims can be sold to the public or can be privately placed. Businesses raise more funds from debt than equity; more common stock is issued than preferred. Banks loans are an important source of intermediate-term funds.6. Describe what is meant by bond covenants.Covenants impose additional restrictions (negative covenants) or duties (positive covenants) on the firm. Examples of positive covenants include maintaining a minimum level of working capital and submitting audited financial statements to bondholders. Examples of negative covenants include restrictions on the amount of a firm’s debt or limits on dividends.7. What are bond ratings?Bond ratings are purchased by a firm issuing bonds in order to have a third party (the bond rating agency) evaluate the credit or default risk of a bond issue. The ratings inform the markets of the safety of the issue. The raters assess both the ability of the issuer to make timely interest and principal payments as well as the collateral and covenants specified in the bond indenture.11. Why might a firm want to maintain a high bond rating? What has been happening to bond ratings in recent years?There are two reasons why a firm might want to maintain a high bond rating. First was the prestige associated with having a high bond rating. Such firms are thought of being financially stable, well-managed, and might attract a number of institutional and individual investors. Second, a high bond rating saves the firm money by allowing it to have lower interest expenses on its bond debt.Over time, the stigma associated with high-yield or junk debt has diminished. Interest is tax-deductible whereas dividends are not; firms have issued debt to fund stock repurchase programs. Over time the percentage of investment-grade debt has fallen and the percentage of “junk” debt has risen. 13. Briefly describe how securities are valued.Future cash flows are estimated. The security’s value or price is the present value of these cash flows, discounted at an appropriate discount rate.14. Describe the process for valuing a bond.Determining the value of a bond is a three-step process: First, we must find the present value of the coupon payments. The annual coupon payment is the coupon rate multiplied by the par value. If interest is paid semiannually, this amount is divided in half and the resulting amount is paid every six months. The time horizon is the number of years, until maturity, for a bond with annual coupon payments and the number of years, times two, for a bond with semiannual coupons. The discount rate is the periodic rate, determined by whether the yearly rate is quoted on a nominal (APR) basis or effective yield (EAR) basis.Second, the present value of the par value is computed, using the same number of periods and periodic rate as that used for the coupons.Third, the sum of the present value of the coupons and the present value of the par value is the price of the bond.21. What is a “flight to quality”? Under what economic conditions might we see this?A flight to quality occurs when investors become nervous about future economic conditions. Less willing to take risks, they pull their funds from higher-risk investments and place them in securities that are perceived to be safer such as high-quality corporate bonds, federal agencies, and Treasury securities. This can be precipitated by fears of a coming recession, political uncertainty in a country, or economic uncertainty caused by, for example, rising oil prices, inflation, or widespread labor strikes. Higher credit risk securities will be perceived to have a much greater chance of default as we enter a recession so investors will opt for safer securities.23. Why should investors consider common stock as an investment vehicle if they have a long-term time horizon? An analysis of returns on an after-tax, after-inflation basis shows that common stocks have earned positive returns over time. Other securities, such as Treasury bonds, have lower after-tax returns while others (such as T-bills have lost money after calculating real, after-tax returns. 29. Describe some of the characteristics of common stock.Common stock represents ownership in the firm. Common shareholders can vote for the firm’s board of directors and other major issues as allowed by the firm’s charter. Common stock has a residual claim on the firm’s assets and earnings in case of bankruptcy. Some of the firm’s profits may be distributed to common shareholders if dividends are declared by the board of directors. The dividend can increase, decrease, remain stable, or be eliminated.30. List and briefly explain the special features usually associated with preferred stock.Preferred stock carries a fixed dividend, expressed either as a dollar amount or as a percent of par value. They have a preference over common shareholders with respect to earnings and assets in case of bankruptcy. Shareholders have no voting rights, except in certain circumstances if dividends are missed. It may be cumulative (all dividends in arrears must be paid before common shareholders receive dividends) or non-cumulative. Preferred stock can be convertible into shares of common stock or callable by the issuer.32. Explain how an investor may view a stock dividend, a stock split, and a stock repurchase plan with regards to the value of his stock holdings.Stock dividends and stock splits should have no impact on firm value; they are little more than accounting entries adjusting the number of shares outstanding by the firm and the number of shares owned by an investor. A share repurchase plan is viewed positively as the firm is using funds to reduce the amount of shares outstanding. Under the laws of supply and demand this will increase the stock price above what it would be otherwise. Any gains from stock price increases are deferred until an investor’s shares are sold.33. Describe the process for valuing a preferred stock.Since the cash dividends of a preferred stock are similar in nature to a perpetuity, they can be valued using the perpetuity relationship. This is usually done by dividing the periodic dividend by the preferred shareholders’ required rate of return.34. Describe the process for valuing a common stock when the cash dividend is expected to grow at a constant rate. As long as the expected growth rate is less than the common shareholders’ required rate of return, the Gordon model or constant dividend growth model can be used. Today’s stock price is estimated by dividing next year’s expected dividend (which is this year’s dividend increased by the growth rate) divided by the difference between the shareholders’ required return and the dividend growth rate.35. Discuss the risks faced by common shareholders that are not related to the general level of interest rates.As stockholders have a lower priority than bondholders on a firm’s cash flows and assets, any risk (poor management decisions, adverse change in exchange rates, competitive pressures, new products) that reduces cash flows or the value of a firm’s assets is primarily borne by a firm’s shareholders. Ethical lapses by management will harm a firm’s stock price. In addition, as the constant-growth model shows, much of a firm’s stock value is due to expectations of future growth. If growth expectations change due to economic or product market factors, the value of the stock will fall.
CH. 11 Securities Markets Issuing Securities: Primary Security Markets Primary versus secondary securities marketsInitial Public Offerings (IPOs)Investment Banks
Functions of Investments Banks Three Main Functions:-Origination-Underwriting-SellingOrigination-Public Offering-Private Placement-ProspectusUnderwriting-“Carrying the risk”-Best efforts -Shelf registration-Private placement
The Costs of Raising Capital The costs of issuing stocks and bonds are called “flotation costs.”-Out-of-pocket costs-Spread-UnderpricingThe sum of these costs can total 20-30% or more of the funds raisedHot/cold IPO markets
What else do Investment Banks do? Commercial paperMergers and acquisitionsManage investment funds (e.g., company pension funds)
Investment Banking Regulations Securities Act of 1933-Full, fair, and accurate disclosure-Prevent fraudSecurities Exchange Act of 1934-Established SEC-Brokers, dealers register with SECGlass-Steagall Act -Commercial banks cannot underwrite securitiesGramm-Leach-Bliley Act-Removed many restraints of Glass Steagall on financial services firms
Trading Securities: Secondary Securities Markets Organized Exchange versus Over-the-Counter (OTC)Organized Exchange: NYSENYSE is a private firm which went “public” in 2006 by acquiring a publicly traded firm (Archipelago) which offers electronic trading of securities
Over-The-Counter Market (OTC) NASDAQNot just for small firms-Intel, Apple, Microsoft
Security Transactions Bid price: offered by buyer Ask: requested by sellerSpread: the difference between them-Narrower spreads imply more liquidity and faster completion of a tradeTypical display:-Bid: 30.42 x 50900-Ask: 30.43 x 50800
Some issuing firms allow… Direct investing-Buy shares directly from the firmDividend Reinvestment Plan
How’s the Market Doing? Security Market Indexes are used to track overall market and sector performance for stocks, bonds, and other investmentsWell-known stock market indexes:-Dow Jones Industrial AverageBased on price-Standard & Poor’s (S&P) 500Based on market value
Wandering from Home: Investing Overseas Diversification benefitsHarder to do trades-Liquidity-Currency differences-Regulations, tax laws Solutions:-American Depository Receipts-Global Depository Receipts-Mutual funds–professional investing
Ethics Issues Insider tradingAn insider: someone with access to important non-public informationcan be a corporate officer, investment banker, major shareholderblue-collar workers, too (e.g., printing press operators)
CH. 11 discussion questions 1. Why do corporations employ investment bankers?Investment bankers have expertise in selling and distributing securities. They have sales networks and are constantly in touch with the financial market place. Corporations, on the other hand, infrequently issue securities; bankers do it all the time. Bankers’ expertise can help the issuer design the right security, obtain wide distribution, and obtain a fair price for it.2. Identify the primary market functions of investment bankers.They originate, or identify growing firms that can benefit from securities offerings. Here, the investment banker markets his or her firm as the best one to help the firm raise capital. They can underwrite, or carry the risk, of a new offering by using their capital to purchase the securities from the issuer and then selling the securities to investors. For small, high-risk issuers, they may assist in a best efforts offering by selling securities on a commission basis with no capital at risk. Investment bankers can also assist firms to sell shelf-registered securities or in privately placing securities.18. What factors differentiate a “good market” from a “poor market”?A good market has four characteristics. First, it will be liquid, meaning that trades are executed quickly at a price close to fair market value (which is usually the most recent transaction price). Such markets will have smaller bid-ask spreads, will have depth (the ability to do large trades without disrupting prices) and breadth (many traders).Second, a good market has quick and accurate trade execution. Traders will not have to wait long to receive confirmation of a completed transaction and its price.Third, the market will have reasonable listing requirements to denote, to traders, that firms of good-to-high quality have securities listed on the market. Standards that are too high will restrict the number of securities and will give the appearance of lower trading activity and possible lack of liquidity. Standards that are too low hurt the quality image an exchange wants to project.Fourth, trading occurs with low transactions costs. Securities can be listed at reasonable cost and transactions costs (which include both commissions and the bid-ask spread) for investors are low.
Ch. 17 Capital Budgeting Analysis Capital Budgeting Projects Seek investment opportunities to enhance a firm’s competitive advantage and increase shareholder wealth-Typically long-term projects-Should be evaluated by time value of money techniques-Large investmentMutually exclusive versus independent
Identifying Potential Capital Budget Projects Planning tools:MOGS: Mission, Objectives, Goals, StrategiesSWOT: (Internal to firm):Strengths, Weaknesses(External to firm): Opportunites, Threats
Capital Budgeting Process IdentificationDevelopment (Estimate cash flows)Selection (Apply decision criteria)ImplementationFollow-up (Audit)
Identifying Potential Capital Budget Projects. Inputs: cash in/outflows, required rate of return or “cost of capital”Net Present Value = Present value of expected cash flows – cost of projectIf NPV >0 the project adds value to the firm.Where do firms find attractive capital budgeting projects with potentially positive NPVs?
Generating Capital Investment Project Proposals Classifying Investment Projects-Projects Generated by Growth Opportunities-Projects Generated by Cost Reduction Opportunities-Projects Generated to Meet Legal Requirements and Health and Safety StandardsProject Size and the Decision-Making Process-Typically decentralized
Estimating Project Cash Flows Important concepts:Stand-alone principleIncremental after-tax cash flows from the base caseCannibalization or enhancement effectsOpportunity costs
Up-front or “time zero” investment Investment = cost + transportation, delivery, and installation charges
Project Stages and Cash Flow Estimation Initial Outlay-Engineering estimates (designs, modifications)-Current market prices of new items-Bid prices from possible supplies or construction firms-Will be reduced if new project is replacing old equipment/building that can be sold-Cash Flows During the Project’s Life-For each period of time during the project’s life, use the general equation:-OCF = (Sales-Costs-Depreciation)(1- t) + Depreciation – ΔNWC-Estimating the inputs: marketing studies, production cost estimates, suppliersSalvage Value and NWC Recovery-After-tax salvage value = Asset selling price – t (selling price – book value)-Project’s NWC may be assumed to be liquidated (converted to cash) and returned to the firm as a cash flow
Project Cash Flows – Project sales (generally a cash inflow)- Project costs (generally a cash outflow)- Depreciation (a noncash expense) EBIT = EBT (earnings before interest and taxes, which also equals earnings before taxes as financing costs are ignored in cash flow analysis) – Taxes (a cash outflow) Net income
Operating Cash Flow OCF = Net Income + Depreciation – ΔNWCFrom the project’s income statement, this is the same as:(Sales-Costs-Depreciation) – Taxes + Depreciation – ΔNWCIf the firm’s tax rate is t then Taxes = t(pre-tax income) = t(Sales-Costs-Depreciation)
The Depreciation Tax Shield
Forecasts Note the multiple uses of the word “forecast” in the previous listManagers must make educated guesses about the future to estimate future cash flows
NPV of Project A
NPV of Project B
What Does the NPV Represent?
Internal Rate of Return It is the discount rate that causes NPV to equal zero
Solution Methods Compute the IRR by:-Trial and error-Financial calculator-Spreadsheet softwareAccept the project if IRR > minimum required return on the project
What Does the IRR Measure? IRR measures the return earned on funds that remain internally invested in the project
NPV vs. IRR They will always agree on whether to accept or reject an independent projectSo if projects are independent: either method is acceptable Problem: they may rank projects differentlyWhat to do if projects are mutually exclusive and the rankings conflict?Answer: use NPV as it measures the change in shareholder wealth occurring because of the project.-Another issue with IRR: a project may have more than one IRR!-Can occur if project has alternative positive and negative cash flows.-Most likely to occur if project requires substantial renovations or maintenance during its life or if end-of-life shut-down costs are high
Profitability Ratio (Benefit/Cost Ratio) Profitability Index = Present value of cash flows/initial costAccept project if PI > 1.0Reject project if PI < 1.0Interpretation: Measures the present value of dollars received per dollar invested in the project
Project A and B Project A’s profitability ratio:PI = $21,982/$20,000 = 1.099Project B’s profitability ratio:PI = $25,988/$25,000 = 1.040
Relationships NPV, IRR, PI will always agree on the Accept/Reject decisionIf one indicates we should accept the project, they will all indicate “accept”NPV > 0 always means that: IRR>minimum required return and that the: PI > 1
Reject Decision, too If one indicates we should reject the project, they will all indicate “reject”NPV < 0 always means that the IRR < minimum required return and that the PI < 1
Conflicts Between NPV, IRR, Profitability Index May occur as different rankings may occur if projects are mutually exclusive. Most likely when projects have:Different cash flow patterns-Projects with larger and earlier cash flows may have higher IRR rankings than those with larger later cash flows
Conflicts Between NPV, IRR, Profitability Index Different Sizes-Projects with smaller initial investments may have higher IRR and higher PI and smaller NPV than projects with larger initial investments.Four discounted cash flow methods:NPV, IRR, profitability indexGoal in capital budgeting is to select projects that will help maximize shareholder wealth.NPV is the best as it measures the absolute dollar change in shareholder wealth.The others are relative measures of project attractiveness.
A popular, but flawed, measure… Payback period = number of years until the cash flows from a project equal the project’s costAccept project is payback period is less than a maximum desired time period
Project A Payback ExampleInvestment: $20,000
Payback’s Drawbacks Ignores time value of moneyAny relationship between the payback, the decision rule, and shareholder wealth maximization is purely coincidental!It ignores the cash flows beyond the payback period
What Managers Use 75% of CFOs used NPV, IRR or both to evaluate projectsIRR is most popularOver half still use payback as a secondary or supplementary method of analysis
Why Are IRR and Payback Used So Much? Safety margin-IRR gives managers an intuitive feel for a project’s “safety margin”—amount by which cash flows can be incorrect and the project can still increase shareholder wealth.Project SizeManagerial flexibility and options
Reality: Keeping Managers Honest Pet projects can be accepted into the capital budget by inflating cash flow estimates so their NPV is positivePossible solutions:-Review spending in implementation stage; additional requests for funds needed in case of overruns-Compare forecasted cash flows with actuals-Record names of those issuing forecasts
Cost of Capital Required return on average risk project = firm’s cost of capital, or cost of financingFor average risk projects, use this number as the discount rate (NPV, PI) or the minimum required rate of return (IRR)
Ch. 17 Discussion Questions 1. What is meant by capital budgeting? Briefly describe some characteristics of capital budgeting.Capital budgeting is the process of identifying, evaluating, and implementing a firm’s investment opportunities. Capital budgeting projects usually require large initial investments, and may involve acquiring or constructing plant and equipment. A project’s expected time frame may be as short as a year or as long as 20 or 30 years. Projects may include implementing new production technologies, new products, new markets, or mergers. 2. Why is proper management of fixed assets crucial to the success of a firm?The profitability of a firm is affected by the success of management in making capital budgeting decisions. A firm’s long-run strategy is implemented through capital budgeting. 3. How do “mutually exclusive” and “independent” projects differ?With mutually-exclusive projects, competing projects all have the same purpose or aim (for example, a new plant location, or computer system); selecting one eliminates the others from further consideration. If projects are independent, there is no relationship between them, so all acceptable projects (positive NPV) can be chosen. 5. Briefly describe the five stages in the capita- budgeting process.a. Identification: finding potential value-enhancing projectsb. Development: estimating a potential project’s cash inflows and outflowsc. Selection: applying decision techniques to accept or reject a projectd. Implementation: doing the projecte. Follow-up: auditing the progress of spending and cash flows to determine if the project is progressing satisfactorily 7. What kinds of financial data are needed in order to conduct the analysis of a project?Data needed include investment costs; estimates of revenues, costs, and after-tax cash flows; cost of capital estimate; publicly available data on competitors’ plans and operating results. 9. What is meant by a project’s net present value? How is it used for choosing projects?Net present value is the present value of a project’s cash flows minus the initial outlay. It measures the change in shareholder wealth if the project is chosen by the firm. All positive NPV projects should be done by the firm.10. Identify the internal rate of return method and describe how it is used in making capital budgeting decisions.The internal rate of return is the discount rate where the NPV is zero. It measures the return on the funds that remain internally invested in the project. Acceptable projects have IRRs greater than the project’s cost of capital.12. Describe the term “profitability index” and explain how it is used to compare projects.The profitability index is the present value of a project’s cash flows divided by the initial outlay. It measures, in present value terms, the benefits of a project per $1 of initial cost. Projects are acceptable if their PIs exceed one.14. Describe the payback period method for making capital budgeting decisions.The payback measures how long it takes for a project to repay its investment. The firm will accept projects with paybacks less than a management-specified maximum.17. What are the three types of relevant cash flows to be considered in analyzing a project?Incremental after-tax cash flows, cannibalization or enhancement effects, and opportunity costs are considered relevant when analyzing a project’s cash flows.19. What types of cash flows are considered to be irrelevant when analyzing a project?Sunk costs and financing costs are considered to be irrelevant when analyzing a project’s cash flows.20. “Our firm owns property around Chicago that would be an ideal location for the new warehouse. And since we already own the land there isn’t any cash flow needed to purchase it.” Do you agree or disagree with this statement? Explain. Disagree. The existing land’s value should be considered an opportunity cost in the warehouse’s capital budgeting analysis. Rather than used as a warehouse site the firm faces the alternative of selling the land at its market value and using the proceeds of the sale for the firm’s purposes.22. Classify each of the following as a sunk cost, an opportunity cost, or neither. a. The firm has spent $1 million thus far to develop the next-generation robotic arm; it is now examining whether the project should continue.Sunk cost; what should determine whether the project goes forward is future cash flow expectations and their net present value. b. A piece of ground owned by the firm can be used as the site for a new facility.Opportunity cost; the firm should consider its market value as a cost of using the site for the new facility. c. It is anticipated another $200,000 of R&D spending will be needed to work out the bugs of a new software package.Sunk cost; what should determine whether the project goes forward is future cash flow expectations and their net present value. 24. Why is the change in net working capital included in operating cash flow estimates?Changes in current asset and current liability accounts can add or detract from cash flows. For example, an increase in sales revenues may result in lower increase (or even a decrease) in cash inflows if the amount of credit sales causes accounts receivable to rise sufficiently. Similarly, an increase in costs may not have immediate negative cash flow implications if the added expenses create increases in accounts payable.
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Finance Flashcards

HIST 1302 CH 26

The Ohio gang exploited government for their own personal benefit. True
The Fordney-McCumber Tariff of 1922 lowered rates on agricultural products. False
A great concern to the United States and Britain was the rise of China as a militaristic power. False
In 1927, delegates of five nations met and signed a treaty limiting the size of their navies. False
The Teapot Dome scandal was the major issue in the 1924 election. False
Andrew W. Mellon said, “The chief business of the American people is business.” False
During the 1920s, farming became a cooperative business but most farmers struggled to survive. True
The Kellogg-Briand Pact of 1928 declared that the United States would finally join the League of Nations. False
A major challenge to European countries was repaying their war debts to the United States. True
Labor unions experienced phenomenal growth in the twenties. False
The Catholic, “wet” candidate for president in 1928 was Alfred E. Smith, a Democrat. True
Buying stocks on margin helped restrain speculation in the stock market. False
The stock market crash caused the Great Depression. False
In the spring of 1932, the Bonus Expeditionary Force sought to block payment of bonuses to Wall Street tycoons. False
The Reconstruction Finance Corporation assisted farmers, homeowners, and labor unions. False
During the 1920s, progressive reformers remained active in the Senate.
In the 1920s, progressivism remained strong in Congress.
The Harding administration tried to overturn progressive reforms by all of the above
The chief justice of the Supreme Court appointed by President Harding was William Howard Taft.
The many scandals in Harding’s administration touched all of the following except the Bonus Army.
Harding was more progressive than Wilson in matters dealing with race.
Secretary of the Treasury Andrew Mellon cut taxes on the wealthy.
“I have no trouble with my enemies, I can take care of my enemies all right. But my damn friends . . . They’re the ones that keep me walking the floor nights!” said Warren G. Harding.
As secretary of commerce, Herbert Hoover promoted new markets for business.
McNary-Haugenism sought to solve the problems of agriculture by dumping surpluses on the world market.
One segment of the economy that never recovered after the Great War was agriculture.
A precursor of the stock market crash occurred in the speculative mania of the mid-1920s in Florida.
The Hawley-Smoot Tariff of 1930 raised rates to all-time highs.
One result of the Bonus Expeditionary Force’s march to Washington was a violent clash between the army and unarmed veterans of the Great War.
By the end of 1931, unemployment rose to 25 percent.