Financial Management Exam 1
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160 Terms
There are five main groups of financial topics
Financial Institutions
Fintech
Corporate finance
Investments
International finance
The process and planning of a firm’s long-term investments
Capital budgeting
What is capital structure?
The mixture of debt and equity maintained by a firm
What is working capital?
A firm’s short term assets and liabilities
Working capital questions
How much cash and inventory should we keep on hand?
Should we sell on credit?
How will we obtain any short-term financing?
General partnership
Each partner has unlimited liability
Limited partnership
One or more general partners will have unlimited liability, but there will be people with limited liability who don’t actively participate in the business
A benefit corporation is for profit but has three key points:
Accountability
Transparency
Purpose
What is the goal of financial management?
The goal of financial management is to maximize the current value per share of the existing stock
What companies led to the creation of the Sarbanes-Oxly Act?
Enron
WorldCom
Tyco
Adelphia
The sarbanes-oxly act, or SOX was created why?
To protect investors from corporate abuses
What is an agency problem?
The possibility of conflict of interest between the stockholders and management of a firm
Corporate finance has three main areas of concern:
Capital budgeting
Capital structure
Working capital management
What is the goal of financial manegemnt in a typical for profit business?
The goal in a typical for profit business is to make decisions that increase the value of the stock, or increase the market value of the equity
Increasing the market value of the equity is
The goal for financial management
The corporate form of organization has one major downside:
Double taxation
Maximizing the value of the stock:
The main important thing of chapter 1, the most important goal of financial management
What are the four primary disadvantages of sole proprietorships and partnerships?
1) Unlimited liability
2) Limited life of the business
3) Difficulty in transferring ownership
4) Limited ability to raise capital
What are the benefits of sole proprietorships and partnerships compared to corporations?
They are easier and less costly to form, subject to fewer regulations, and income is taxed once as personal income.
What is the primary disadvantage of the corporate form of organization?
Double taxation — corporate profits are taxed at the corporate level and again as personal income when distributed as dividends.
Name at least two advantages of the corporate form of organization.
1) Limited liability
2) Unlimited life
3) Ease of transferring ownership
4) Ability to raise large amounts of capital
Why might a company choose to “go dark” in response to the Sarbanes-Oxley Act?
To avoid the high compliance costs and regulatory burdens imposed by the Act.
What are the costs of “going dark”?
Reduced access to capital markets and lower liquidity of shares, which may reduce the firm’s overall valuation.
Evaluate this statement: "Managers should not focus on current stock value because it leads to short-term profit focus at the expense of long-term profits."
False. The current stock price reflects the market’s expectations of future performance. Maximizing stock value encourages good long-term decisions, not just short-term gains.
Can maximizing stock value conflict with goals like ethics, safety, or social good?
Yes, but ethical behavior and social responsibility often support long-term stock value. Ignoring issues like customer safety, environmental impact, or employee well-being can damage reputation and lead to legal or financial consequences.
Would the goal of maximizing stock value differ in a foreign country?
Not fundamentally. While cultural and legal differences may influence how businesses operate, the goal of maximizing shareholder value is generally consistent across countries.
Is management acting in shareholders’ best interests by fighting off a $35 hostile takeover bid when stock is at $25?
Likely not. If the offer is fair and above market price, rejecting it may be self-serving. Shareholders benefit from the higher price unless management has a clear, value-maximizing reason to resist.
Are agency problems likely to be more or less severe in Germany and Japan than in the U.S.?
Less severe. Concentrated ownership by banks and institutions in Germany and Japan creates stronger oversight. In the U.S., dispersed ownership leads to weaker monitoring, but the rise of institutional investors is improving corporate control.
Deciding which long-term investment a firm should make is a _________blank decision.
capital budgeting
Capital budgeting is the process of
deciding which long-term investments or projects a firm should undertake — such as buying new equipment, launching a product line, or building a factory.
What is a question least likely to be addressed by financial managers?
In which region of the country should a new product be launched?
In a typical corporate organizational structure:
the controller reports to the chief financial officer
In a typical corporate structure:
The CFO (Chief Financial Officer) oversees all financial activities
The controller (handles accounting, financial reporting, budgeting) and the treasurer (manages cash, financing, and risk) both report to the CFO
Which one of the following questions involves a capital budgeting decision?
Should the firm purchase a new machine for the production line?
A capital budgeting decision involves:
evaluating a long-term investment — buying a machine that will likely affect operations and cash flows for many years.
Which one of the following statements concerning stock exchanges is correct?
Some large companies are listed on Nasdaq.
Which one of the following statements is correct concerning the NYSE?
The listing requirements for the NYSE are more stringent than those of Nasdaq.
What is the NYSE?
The New York Stock Exchange (NYSE) is a broker market and the largest stock exchange in the U.S. where buyers and sellers trade listed securities through licensed brokers.
An investor sold 1,000 shares of a firm’s stock on the New York Stock Exchange. This transaction must have:
Occurred in the secondary market
Secondary market =
where investors buy and sell securities with each other, not from the issuing company
Public offerings of debt and equity must be registered with the:
The SEC
A partnership with four general partners:
distributes profits based on each partner’s percentage of ownership.
In a partnership
profit distribution is typically based on the ownership agreement — which may or may not be equal. It depends on what the partners agreed upon in their contract.
Corporate bylaws:
determine how a corporation regulates itself.
Bylaws
are the internal rules and procedures for running a corporation — they cover things like how directors are elected, how meetings are held, and officer responsibilities.
Which one of the following statements is correct?
Taxable income earned by a partnership is treated as individual income by the partners.
The articles of incorporation:
describe the purpose of the firm and set forth the number of shares of stock that can be issued.
What describes the purpose of the firm and set forth the number of shares of stock that can be issued?
The articles of incorporation
Which one of the following documents grants an individual the right to vote on behalf of a shareholder?
Proxy
A proxy does what?
Grants an individual the right to vote on behalf of a shareholder!
Which of the following parties are not considered stakeholders of a firm?
Competitors
Which one of the following actions by a financial manager is most apt to create an agency problem?
Increasing current profits when doing so lowers the value of the company's equity
What is a snapshot of the firm?
The balance sheet
Fixed assets:
Such as a truck or a computer or like a trademark
A current asset has a life of:
Less than one year
Will convert to cash within 12 months
What is inventory and accounts receivable
A current asset
Assets =
Liabilities + stockholders equity
Assets = liabilities + stockholders equity
Balance sheet equation
What is net working capital?
The difference between a firm’s current assets and current liabilities
What’s an example of fixed assets?
Property, plant, and equipment
Shareholders =
Assets - liabilities
The use of debt in a firm;s capital structure is called:
Financial leverage
The income statement measures:
Performance over time
Income
Revenues - expenses
Earnings per share =
net income / total shares outstanding
Dividends per share =
Total dividends / Total shares outstanding
After the passage of the Tax Cuts and Jobs Act of 2017,
the federal corporate tax rate in the United States became a flat 21 percent.
What is the average tax rate?
Your tax bill / your taxable income
Cash flow from assets =
Cash flow to creditors + cash flow to stockholders
There are three components to cash flow from assets:
Operating cash flow
Capital spending
Changes in net working capital
What is operating cash flow?
The cash flow from the firm’s day to day activities of producing and selling
What is capital spending?
The net spending on fixed assets
Example of operating cash flow
Earnings before interest and taxes
+ Depreciation
- Taxes
To get cash flow we must:
Always add back depreciation
What is capital spending?
Capital spending is money spent on fixed assets - money received from the sale of those assets
Ending net fixed assets
- Beginning net fixed assets
+ Deprecication
= Net capital spending!!!!
Ending NWC
- Beginning NWC
= Changes in NWC
Cash flow from assets equations:
Cash flow from assets = cash flow to creditors + cash flow to stockholders
Operating cash flow = earnings before interest and taxes + depreciation - taxes
Net capital spending = ending net fixed assets - beginning fixed assets + depreciation
Changes in NWC = Ending NWC - Beginning NWC
Cash flow from assets = operating cash flow - net capital spending - changes in NWC
A different name for cash flow from assets:
Free cash flow
Cash flow to creditors =
Interest paid - net new borrowing
A firm has common stock of $6,200, paid-in surplus of $9,100, total liabilities of $8,400, current assets of $5,900, and fixed assets of $21,200. What is the total shareholders' equity?
Shareholders’ Equity=Total Assets−Total Liabilities
Current Assets + Fixed Assets = Total Assets
5,900 + 21,200 = 27,100
Total Liabilities = 8,400
27,100 - 8,400 = 18,700
18,700 is the answer
Which one of the following actions will decrease the value of a firm's net working capital?
Multiple Choice
Collecting an account receivable
Donating inventory to charity
Depreciating an asset
Purchasing inventory on credit
Using cash to pay a supplier
Answer:
Donating inventory to charity
Why?
Net working capital = current assets - current liabilities
Depreciation only affects:
Fixed assets!
A firm owns the building in which it conducts business. The building cost $647,000 to purchase and is currently appraised at $819,000. The fixtures inside the building originally cost $148,000 and are currently valued at $65,000. The inventory has a book value of $319,000 and a market value equal to 1.1 times the book value. The firm expects to collect 96 percent of its $21,700 in accounts receivable. The shop has $26,800 in cash and total debt of $414,700. What is the market value of its equity?
Market Value of Equity = Market Value of Assets − Total Debt
Inventory market value = 319000 × 1.1
Accounts Receivable Market Value = .96 × 21,700
The rest of the assets have their market value as stated
Add all those up, subtract. the debt of $414,700
Your answer is 867,832
A firm has inventory of $980, fixed assets of $2,295, total liabilities of $1,300, cash of $700, accounts receivable of $4,200, and long-term debt of $570. What is the amount of net working capital?
Net working capital = current assets - current liabilities
Inventory, cash, and accounts recaivable are current assets
Add them up and you get 5,880
Current liabilities = total liabilities - long term debt
That gives you 730
5,880 - 730 = 5,150
A firm purchased the entirety of its fixed assets three years ago for $4 million. These assets can be sold today for $2 million. The current balance sheet shows net fixed assets of $2,500,000, current liabilities of $1,375,000, and net working capital of $725,000. If all the current assets were liquidated today, the company would receive $1.9 million in cash. The book value of the total assets today is _________blank and the market value of those assets is _________blank.
Net fixed assets (book value) = $2,500,000
Current liabilities = $1,375,000
Net working capital (NWC) = $725,000
Market value of fixed assets = $2,000,000
Liquidation value of current assets = $1,900,000
🧮 Step 1: Book Value of Total Assets
We use:
NWC=Current Assets−Current Liabilities\text{NWC} = \text{Current Assets} - \text{Current Liabilities}NWC=Current Assets−Current Liabilities
Rearranged:
Current Assets=NWC+Current Liabilities=725,000+1,375,000=2,100,000\text{Current Assets} = \text{NWC} + \text{Current Liabilities} = 725,000 + 1,375,000 = 2,100,000Current Assets=NWC+Current Liabilities=725,000+1,375,000=2,100,000
Now add:
Book Value of Total Assets=Current Assets+Net Fixed Assets=2,100,000+2,500,000=4,600,000\text{Book Value of Total Assets} = \text{Current Assets} + \text{Net Fixed Assets} = 2,100,000 + 2,500,000 = \boxed{4,600,000}Book Value of Total Assets=Current Assets+Net Fixed Assets=2,100,000+2,500,000=4,600,000
🧮 Step 2: Market Value of Total Assets
We’re told:
Current assets can be liquidated for $1,900,000
Fixed assets can be sold for $2,000,000
So:
Market Value of Total Assets=1,900,000+2,000,000=3,900,000\text{Market Value of Total Assets} = 1,900,000 + 2,000,000 = \boxed{3,900,000}Market Value of Total Assets=1,900,000+2,000,000=3,900,000
$4,600,000; $3,900,000
Book value =
Net Working Capital (NWC)+Current Liabilities+Net Fixed Assets
A firm has sales of $546,000, costs of $295,000, depreciation expense of $37,000, interest expense of $15,000, and a tax rate of 21 percent. The firm paid $59,000 in cash dividends. What is the addition to retained earnings?
EBIT = Sales − Costs − Depreciation
Taxable Income= EBIT− Interest Expense
Calculate taxes = taxable income x .21
Net income = taxable income - taxes
Net income - dividends = addition to retained earnings
98,210
According to Generally Accepted Accounting Principles:
Multiple Choice
depreciation is recorded based on the recognition principle.
costs are recorded based on the realization principle.
costs of goods sold are recorded based on the recognition principle.
depreciation is recorded based on the market value principle.
income is recorded based on the realization principle.
income is recorded based on the realization principle.
Which one of the following items is most likely to be a fixed cost?
Multiple Choice
Shipping and freight
Manufacturing wages
Rent
Raw materials
Management bonuses
Rent
Which one of the following items is called an expense for accounting purposes but is not part of operating cash flow for financial purposes?
Multiple Choice
Labor costs
Cost of goods sold
Interest expense
Administrative expenses
Taxes
Interest expense
A firm has beginning net fixed assets of $684,218, ending net fixed assets of $679,426, and depreciation expense of $48,859. What is the net capital spending for the year if the tax rate is 21 percent?
Multiple Choice
$44,067
$48,600
$35,255
$53,651
$42,920
Net Capital Spending = Ending Net Fixed Assets − Beginning Net Fixed Assets + Depreciation
44,067 is the answer
A firm has sales of $316,000, depreciation of $47,200, interest expense of $41,400, costs of $148,200, and taxes of $16,632. The firm has net capital spending of $36,400 and a decrease in net working capital of $14,300. What is the cash flow from assets?
Multiple Choice
$129,068
$145,985
$134,585
$119,655
$120,810
129,068
Operating cash flow = earnings before interest and taxes + depreciation - taxes
Net capital spending = ending net fixed assets - beginning fixed assets + depreciation
Changes in NWC = Ending NWC - Beginning NWC
Cash flow from assets = operating cash flow - net capital spending - changes in NWC
A firm has sales of $665,000, interest paid of $11,850, costs of $240,200, and depreciation of $13,600. What is the operating cash flow if the total tax rate is 23 percent?
Multiple Choice
$420,989.50
$321,099.50
$332,949.50
$330,224.00
$319,349.50
330,224
Operating cash flow = earnings before interest and taxes + depreciation - taxes
Net capital spending = ending net fixed assets - beginning fixed assets + depreciation
Changes in NWC = Ending NWC - Beginning NWC
Cash flow from assets = operating cash flow - net capital spending - changes in NWC
A firm is expecting annual net income of $272,600, of which 28 percent will be distributed as dividends. The company will sell $75,000 worth of common stock. What will be the cash flow to stockholders if the tax rate is 21 percent?
Multiple Choice
$76,328
$151,328
$24,623.52
−$75,000
$1,328
1,328
Cash flow to creditors = interest paid - net new borrowing
Cash flow to stockholder = dividends paid - net new equity raised
A firm has total sales of $715,000 and costs of $250,600. Depreciation is $11,800, interest expense is 11,850, and the tax rate is 21 percent. What is the operating cash flow?
Multiple Choice
$371,843
$359,993
$464,481
$369,354
$360,043
369,354
Operating cash flow = earnings before interest and taxes + depreciation - taxes
EBIT = sales - cost - depreciation
Taxable income = EBIT - interest
Taxes = taxable income x tax rate
Which of the following actions could cause a company's change in net working capital to be negative for a given year?
Multiple Choice
Purchase additional inventory with cash
Borrow money from the bank using a note payable in nine months
Increase the dividends paid to stockholders
Use long-term debt to buy a building
Pay off long-term debt before the due date
Borrow money from the bank using a note payable in nine months
Q: What does it mean if a company's change in net working capital is negative? What could cause it?
A: It means current liabilities increased more than current assets. For example, borrowing money with a short-term (under 1 year) loan increases current liabilities, which can make net working capital go down.
At the beginning of the year, a firm had current liabilities of $15,932 and total debt of $68,847. By year end, current liabilities were $13,870 and total debt was $72,415. What is the amount of net new borrowing for the year?
Multiple Choice
$4,677
$5,630
−$2,062
$3,568
−$2,480
$5,630
Net New Borrowing = Ending Total Debt − Beginning Total Debt − Change in Current Liabilities
The goal of financial management is to maximize the value of
The market value of stock, not the book value