Exam 1

What are the advantages of proprietorships

Easy to start, subject to few goverment regulations, lower income taxes

Definition of Money Markets

The financial markets in which funds are borrowed or loaned for short periods.

Definition of Capital Markets

The finacial markets for stocks and for intermediate or long term debt

Characteristics of Money Markets

low risk, high liquidity, short- term market

Characteristics of capital markets

higher risk, lower liquidity, market for intermediate, long term debt

Examples of instuments in Money market

Treasury BIlls, Commerical Paper, Federal funds, CDs, Repos

Examples of Instruments in the Capital Market

Stocks, corporate Bonds, government bonds, muninipal bonds

Definition of primary market transactions.

markets in which corporations raise capital by issuing new securities

Definition of Secondary markets

markets in which securities and other finacial assets are traded among investors after they have been issues by corporations.

example of primary market

When a company sells stock to the public for the first time through an initial public offering

Example of Secondary Market

when an investor buys share of apple stock on the new york stock exchange from another investor.

Private market definition

Markets in which transactions are worked out directly between two or more parties

Public Markets

Markets in which standardized contract are traded on organized exchanges

Private market transaction example

A venture capital firm invests 2 million in a startup company in exchange for equity

Who can invest in a mutual fund?

And individual investor open to the public

Who can invest in a hedge fund?

Only accredited(wealthy) investors or institutions

How does the NYSE work?

Brokers represent buyers/sellers and meet on the trading floor. Auction style process.

How does the NASDAQ work?

Dealers hold inventories of stocks quote prices and make trades electronically

Definition of a dealers market

Dealers hold inventories of securities and “make a market” in them

How do dealers earn profits in NASDAQ

from the bid ask spread the difference between the buying(bid) and selling (ask) price.

What is the difference between the money market and the capital market?

Money market deals with short term, low risk debt; capital markets deal with long term stocks and bonds

Give two examples of instruments in the money market

treasury bills and commercial paper

Give two examples of instruments in the Capital market

Corporate bonds and common stock

What is the primary market

a market where new securities are issued and sold to investors the issuing company receives the money

What is the secondary market

A market where existing securities are traded among investors; the issuing company does not receive money.

What is a private market transaction?

A deal negotiated directly between two parties, like a bank loan or private equity investment.

What is a dealer’s market?

A market where dealers hold inventories of securities and sell to investors, profiting from the bid-ask spread.

How do you calculate the rate of return on a stock?

(Ending Price−Beginning Price)+Dividends​ / Beginning Price * 100

What is a hedge fund?

A lightly regulated fund for wealthy investors that uses high-risk strategies for potentially high returns.

What is a mutual fund?

A regulated fund open to the public that pools money to invest in a diversified portfolio.

What do investment banks do?

Help companies raise capital by underwriting and selling securities.

What do commercial banks do?

Accept deposits, offer loans, and provide checking and savings accounts.

What is a derivative?

A financial instrument whose value is based on another asset, like a stock or commodity.

Give two examples of derivatives.

Options and futures contracts.

What is an IPO (Initial Public Offering)?

The first time a company sells stock to the public in the primary market to raise capital.

What is the role of the financial manager as an individual?

To make investment, financing, and dividend decisions that increase shareholder value while managing cash flows, risk, and profitability.

What is the role of the financial manager as a team member?

to collaborate with departments like marketing and operations to understand funding needs and make informed financial decisions.

Which should be maximized: Net Income, EPS, or Stock Price? Why?

Stock Price. It reflects the company's long-term value, future cash flows, and risk

How is shareholder value maximized?

By investing in projects with returns greater than their costs, financing strategically, and managing risk to increase stock price over time.

What are the advantages of a sole proprietorship?

Easy to form, few regulations, no corporate taxes.

What are the disadvantages of a sole proprietorship?

Unlimited liability, limited life, hard to raise capital.

What are the advantages of a corporation?

Limited liability, unlimited life, easier to raise capital, easy transfer of ownership.

What are the disadvantages of a corporation?

Double taxation, costly to set up, more regulation.

What are some advantages of converting a sole proprietorship into a partnership or corporation?

More capital, shared responsibility, limited liability (for corporations)

What is the role of the Board of Directors in a corporation?

They set strategic goals and hire the CEO to run the company.

What is the role of the CEO?

To lead the company and execute the board’s strategic plans in the shareholders’ best interest.

What is an agency problem?

When managers act in their own interest instead of the shareholders’ best interest.

What can reduce agency conflicts?

Stock-based compensation, shareholder intervention, threat of takeover, firing poor-performing managers.

When does an agency problem occur between managers and stockholders?

When managers prioritize job security or perks over shareholder value.

When does an agency problem occur between stockholders and bondholders?

When stockholders prefer riskier projects that could hurt bondholders' fixed returns.

What is the intrinsic value of a stock?

An estimate of its true value based on all available information and expected future cash flows.

What is the market price of a stock?

The current trading price, based on perceived value by the marginal investor.

When would market price equal intrinsic value?

In an efficient market where all information is known and reflected in the price.

Give an example of unethical business behavior.

Falsifying financial reports, insider trading, or misleading marketing practices.

What is a bond covenant?

A legal agreement that limits the borrower's actions to protect bondholders.

When are bond covenants used?

When issuing bonds to ensure borrowers don’t take on excessive risk or debt.

What is the difference between EPS and stock price as goals?

EPS ignores risk and timing; stock price reflects long-term value and investor expectations.

What accounts fall under Current Assets?

Cash, Accounts Receivable, Inventory

What accounts are Non-Current (Long-Term) Assets?

Net Plant and Equipment (after depreciation)

What accounts are Current Liabilities?

: Accounts Payable, Accruals, Notes Payable

What are Long-Term Liabilities?

Long-Term Debt (e.g., bonds payable)

What accounts are under Equity?

Common Stock (Paid-in Capital), Retained Earnings

Is the sale of stock a cash inflow or outflow?

Inflow — company raises cash by issuing shares.

What are examples of cash inflows?

Net income, depreciation (non-cash add-back), issuing stock or bonds, decrease in inventory or receivables.

What are examples of cash outflows?

Increase in inventory, accounts receivable, capital expenditures, dividends paid.

What increases the cash account?

Decrease in assets (like receivables or inventory), increase in liabilities, issuing stock/debt, adding back non-cash items (like depreciation).

What are the four key financial statements?

1. Balance Sheet

2. Income Statement

3. Statement of Cash Flows

4. Statement of Stockholders' Equity

What is the order of accounts in the Balance Sheet?

• Assets: Current first, then fixed

• Liabilities: Current first, then long-term

• Equity: Paid-in capital, then retained earnings

What does the Income Statement show?

Revenues, expenses, and profit over time.

Do reported income and actual cash flow always match?

No. Reported income includes non-cash items like depreciation.

Is net income equal to Free Cash Flow (FCF)?

No — FCF subtracts capital expenditures and changes in working capital.

Why is the annual report important to investors?

It provides insight into financial performance and future potential, helping investors evaluate earnings and risk.

What could cause net income to rise but cash flow to fall?

Increases in receivables or inventory (uses of cash), or recognition of non-cash revenue.