U6: Financial Decision Making

These flashcards cover the key vocabulary and concepts related to capital investments and capital budgeting as discussed in the finance lecture.

Capital Investment

The sum of money invested in a business to purchase long-term assets with the goal of maximizing shareholder wealth.

Capital Budgeting

The process of evaluating and planning for the purchase of long-term assets to determine if a project will add value to the company.

Net Present Value (NPV)

A method that calculates the present values of future cash flows minus the initial investment, used to evaluate profitability.

Internal Rate of Return (IRR)

The rate at which the net present value of all cash flows from an investment equal zero; a measure of the profitability of potential investments.

Profitability Index (PI)

A ratio that calculates the value created per unit of investment, indicating the relative profitability of a project.

Sunk Cost

Costs that have already been incurred and cannot be recovered, deemed irrelevant to future investment decisions.

Opportunity Cost

The potential benefits an individual, investor, or business misses out on when choosing one alternative over another.

Incremental Cash Flows

Cash flows that occur as a direct result of taking a project or making an investment.

Debt Financing

Raising funds for business activities through borrowing, typically involving the issuance of bonds.

Equity Financing

Raising funds by selling ownership shares in the company, through stocks.

Yield to Maturity (YTM)

The total return expected on a bond if the bond is held until maturity, expressed as an annual rate.

Discount Rate

The interest rate used to discount future cash flows back to their present value.

Coupon Rate

The rate of interest paid by bond issuers to bondholders, usually expressed as a percentage of the bond's face value.

Diversification

An investment strategy that aims to reduce risk by allocating investments among various financial instruments, industries, and other categories.

Capital Asset Pricing Model (CAPM)

A model that describes the relationship between systematic risk and expected return; used for pricing risky securities.

Residual Claim

The entitlement of a shareholder to the remaining assets of a firm after all debts and preferred stock dividends have been paid.

Cumulative Preferred Shares

Preferred shares that require all dividends to be paid (even in arrears) before common shareholders receive dividends.

Market Rate

The rate of interest or required return that reflects current conditions in the marketplace.

Par Value

The face value of a bond, which is the amount repaid to the bondholder at maturity.