UNIT ONE FINC 341 EXAM

What is finance?

• Field that is concerned the allocation of assets and liabilities over space and time

• Also known as the art of money management

• Divided into three areas

  • Corporate financial management

    • How to raise capitak

    • Types of assets to acquire

    • Maximize the firms value

    • How to plan for the future

  • Capital Markets

    • Financial intermediaries (banks, investment banks, etc)

    • Government Organizations (Federal Reserve System: Regulates banks and controls the supply of money, SEC)

  • Investments

    • Valuation of Stocks and bonds: Market/Security Analysis

    • Structuring of portfolios: Portfolio Theory

Define corporate governance and explain the structure

• High ranking corporate officials that run the company

• Board of directors/Chairperson/ Compensation committee

• CEO/CFO/COO

Explain the pros and cons for each type of business organization

• Sole Proprietorship

  • Pros

    • Flexibility

    • Minimal Legal Requirements

    • No separate income tax

    • Owner has complete control

  • Cons

    • All losses are the owners

    • Profits are taxed at individual rates (may be higher)

    • Ends with the owner

    • Unlimited liability

    • Limited access to capital

• Partnership

• Corporation

  • Pros

    • Limited Liability

    • Continuity of Operations

    • Estate and succession planning

  • Cons

    • Double Taxation

    • High regulatory and administrative burden

    • less privacy (forced public disclosure)

• Limited Liability Company

  • Pros

    • Limited Liability Protection

    • Pass-through taxation

    • Fewer formal requirements than corporations

  • Cons

    • Continuity depends on state law and operating agreement

    • Less attractive to professional investors

    • Rules vary by state

• Cooperative

  • Pros

    • Stronger bargaining power through collective action

    • Legal protection from antitrust laws for joint marketing by farmers

    • Lower input costs through bulk purchasing

    • Better market access and more stable selling opportunities

  • Cons

    • Limited influence of individual members in large cooperatives

    • One-member, one-vote system may underrepresent larger or more active farms

How can a business maximize shareholder wealth?

• Raise their stock price

• Increase the value of the firm

What are the three basic factors that influence shareholder wealth

• Assets must generate cash flows

• Optimize the timing of the cash flows

• Find the optimal tradeoff between risk and return

What decisions affect the stock price

• What should be produced?

• How should these products be delivered?

• What is the debt equity mix that should be used

• What percentage of earnings should be paid out rather than reinvested

List the external factors that affect stock price

• Legal constraints

• Health of the economy

• Tax laws

• Interest rates

• Conditions in the stock market

Will maximizing profits maximize shareholder wealth?

No, because to maximize profit is to maximize the revenue, which could be using too many liabilities and incurring a high amount of debt

Explain the role of social responsibility and rate of return

• There are multiple arguments that see that a greater social responsibility yields a higher rate of return (employee turnover)

• Firms need to consider the

  • welfare of the employee

  • best interest of the consumers

  • the community in which the firm operates

Define the intrinsic value, market price, and equilibrium

Intrinsic Value is an objective valuation by a market analyst that provides what the firm SHOULD be valued at

Market Price is what the firm IS valued at

Market forces will attempt to have these in equilibrium, where if the MP is unnecessary high, people will sell and if MP is low, then people will purchase more

Explain the impact of globalization on businesses

• Improved transportation and communication

• Trade barriers have been lowered (Schengen Area, NAFTA)

• Development costs have risen (think farm input costs)

• Survival requires for many firms to sell globally, and that they must interact on an global stage

How has globalization has impacted information technology

• Need for stronger computer and quantitative skills than in the past

• Reduces costs and expands markets

• Less of a need for intermediaries

How has corporate governance changed over the last decade?

• Stockholders are more proactive in replacing managers (job-hopping)

• SEC has made it easier for investors to make changes within firms (apple forced dividends)

• SEC requires more transparent information on CEO compensation (much to criticism)

Discuss business ethics and profitability

• High correlation due to avoiding fines and legal expenses, builds public trust, attracts customers, supports economic viability

• Ethics: a business standards of conduct or moral behavior, affects a company’s conduct towards its employees, customers, community, and stockholders

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Discuss agency relationships and the two major relationships

• Legal relationship where one person has the power to act of make decisions for another (principal)

• Stockholders (Principal) v Managers: motivated by compensation, direct intervention (hostile takeovers), and threat of termination

• Stockholders v Creditors (Principal): Managers have a duty to protect existing creditors from detrimental changes in risk, expectations (future assets, debt used, future capital structures)

Explain EBITDA

Earnings before interest, taxes, depreciation, and amortization

Assumption that amortization expense is zero

Financial analysis on the income statement

GAAP requires reporting

Book value, not market value to show the correct financial impact of the asset

List all classification of accounts on the balance sheet

• Assets'

  • Current Assets: assets that will be used in one period (Cash, equipment, AR, Inventory)

  • Long term assets: Buildings, land

  • Net fixed assets: Gross Fixed Assets- Depreciation

• Liabilities/ Owner’s Equity

  • Current Liabilities: NP,AP, Accruals

  • Spontaneous Liabilities: Account grows as firm does (Accruals, Accounts Payable)

  • Long term Liabilities (Long term debt)

  • Stock (Preferred/Common, always expressed in terms of stock price, everything else will be listed in the in Capital in excess of par)

  • Retained earnings: retained to reinvest

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List how to get addition of retained earnings from EBITDA

Do full process for EBITDA

NI-Div = Retained Earnings *retention ratio

What is the formula for NCF, OCF, FCF

NI+Dividends = NCF

OCF= EBT+D

FCF= EBIT(1-T)+D - (Change in Net FA+D) - (Change in CA) + (Change in AP+Accurals)

Why do you add depreciation to free cash flow?

Because that is something that is a non-cash asset that still needs to be accounted for