BFIN 300 Midterm

Capital Budgeting

The identification of investing opportunities that are worth more to the business today than they cost to acquire.

Capital Structure Process Decisions

Financing decisions, are we going to use l/t debt vs s/t debt, are we going to use debt v equity, how much do we need to borrow? Cost of borrowings, and how and where to raise the money. Decision of one financial structure over another is at the heart

Working capital management

Managing short term assets and short term liabilities. E.G. Checking account, cash coming in v. monthly payments. Ensures that the business has sufficient cash or liquidity to run without interruption.

Forms of business

sole proprietorship, partnership, corporation

Sole Proprietorship

a business owned by one person. Simplest form of business there is, owner takes all liability. (unlimited) E.G. Lawn mowing business

Partnership

similar to sole proprietorship, but you have two or more people.

General Partnership

partnership in which partners share equally in both responsibility and liability

limited partnership

form of partnership where one or more partners are not active in the daily running of the business, and whose liability for the partnership's debt is restricted to the amount invested in the business

Corporation

a business that is separate and distinct from its shareholders, considered a legal person.

double taxation

taxation of dividends both as corporate profit and as personal income

Goals of Financial Management

maximize shareholder value. The goal is learning how to identify investments and arrangements that positively affect share prices.

Corporate Finance

the study of the relationship between business decisions and maximizing the value of the business

Sarbanes-Oxley Act

enacted by congress, requires each public company to provide an assessment of their internal controls and their financial reporting. Requires independent auditor to manage the assessment. Auditor must sign off on internal controls.

Agency Relationship

relationship between stockholders and management

proxy fight

an attempt by a person or group to gain control of a firm by getting it stockholders to grant that person or group the authority to vote its shares to replace the current management

Stakeholder

someone who potentially has a claim on the cash flows of a company. Includes creditors, shareholders, employees, customers, suppliers, etc.

primary market

the market in which new securities are originally sold to investors

secondary market

the market in which previously issued securities are traded among investors

dealer

an agent who buys and sells securities from inventory

Broker

agents that sell bonds and other securities on behalf of their clients.

Indirect Agency Costs

lost opportunities due to management decisions

Financial Statements

often a key source of information for financial decisions. On its own, tells us nothing (almost nothing).

Balance Sheet

a "snapshot" of an organization's financial position at a given moment, summary of the difference between assets and liabilities.

Income Statement

simply measures performance of a company over a period of time.

Assets

Liabilities + Stockholder's Equity

Income

Revenues - Expenses

Cash Flow Statement

measures the difference of cash coming into business and cash leaving business. Source of Funds Less Use of Funds

Current Asset

has a life of < 1 year. Can be used/easily sold within that year. Cash, A/R, inventory, s/t loans

Fixed Asset

has a life longer than a year (long term) Can be tangible or intangible.

Shareholders Equity

the difference between total assets and total liabilities

Residual Value

whats left after all business expenses and creditors are paid.

Working Capital

the difference between current assets and current liabilities

Liquidity

the ease with which an asset can be converted into cash

Ease of Conversion

how easily an asset can be converted to cash

Loss in value

measure of liquidity that determines how much an asset will depreciate upon sale

Financial Leverage

the use of debt in a firm's capital structure

Market Value vs. Book Value

The balance sheet provides the book value of the assets, liabilities, and equity.

Market value is the price at which the assets, liabilities, or equity can actually be bought or sold.

Matching Principle

recognize expenses in the same period as the revenues they help to generate

non cash items

number one reason that net income does not equal cash flow. E.G. depreciation and amortization.

Taxes

hands down largest cash outflow of a profitable business

Cash flow

the difference between cash coming in and cash going out of a business

Categories of Cash Flow

operating, investing, financing operating is business income, investing is from investment, investment purchases, investment sales, and any dividends from investments, financing is borrowings, paying debt,

Audited Financial Statements

typically best available information about a company's performance

Company's Most basic function

Generates cash and it spends it

Source of Cash

anything that brings cash in

Use of cash

a transaction that decreases available cash ( includes decreases in liabilities, equities and increase in assets)

EBIT

earnings before interest and taxes

dupont identity

popular expression breaking ROE into three parts: operating efficiency, asset use efficiency, and financial leverage. Gives an idea of where to start when looking at problems with ROE.

Compound interest

interest earned on both the principal amount and any interest already earned

Simple interest

Interest earned only on the original principal amount invested

discount rate

used to calculate present value of principal in future

Discounted Cash Flow Valuation

calculating the present value of a future cash flow in order to determine its value today

Future Value

Principal * (1 + interest rate)

Present Value

asset value in future/(1 + interest rate)

Annuity

a series of constant or level cash flows that occur each period for a fixed number of periods. Fixed ammount, received every year

Perpetuities

an annuity that continues to pay forever

effective annual rate

the interest rate expressed as if it were compounded once per year

pure discount loan

simplest form of lending, the borrower receives money today and repays a single lump sum at some time in the future

Interest only loan

A loan that only requires the payment of interest for a stated period of time with the principal due at the end of the term.

financial markets

exist so excess money from investors can be easily transferred to other entities such as government, banks, and businesses.

Supply and Demand Equilibrium

quantity demanded equals quantity supplied

Market clearing price

the price that clears the market where there is no excess quantity demanded or supplied and the price at which the demand curve intersects the supply curve. Has no long term effect

Factors that affect share prices

changes in interest rates, investor sentiment, federal reserve commentary, company reports, industry performance, international events, news, etc.

SEC

Principal regulator of primary/secondary markets. They are responsible for licensing security professionals, collect public disclosure information, and enforce various laws in the U.S.

Treasury Bills

a security traded in the US money market

Exchanges

physical, central, trading location. Stocks and bonds central location is exchange.

Money Market

market in which money is lent for periods of less than a year. Transfer funds from market participants to government, corporation, agency that has a short term need for funds. E.G. Treasury Bills, Repurchase Agreements.

Capital Markets

The financial markets for stocks and for intermediate- or long-term debt (one year or longer).

Foreign Exchange Markets

markets dealing in buying and selling foreign currency for businesses that want to import goods from other countries

derivatives

any financial asset whose value is derived from the value of some other "underlying" asset

financial security

a claim against assets of cash flows of a company

Financial security

a contract between provider of funds and user of funds, clearly specifies amount of money and terms and conditions of how the user will compensate the provider.

debt securities

Securities issued by corporations and governmental bodies as a form of borrowing. Owners of debt securities have a claim on cash flows prior to equity holders

Bonds

debt securities where a company pays a fixed amount, bonds mature and maturity pays the face value of the bond.

zero coupon bonds

zero coupon, or zero, is a bond that promises only one payment at maturity, and the payment is fixed.

variable rate bonds

They pay periodic coupons but coupons unlike a fixed coupon, is not fixed.

perpetual bonds

also a fixed coupon paying bond, no maturity, issuer agrees to pay a fixed coupon every period forever.

income bonds

Has a lot of same features as variable rate bond and coupon bond, issuer is only required to pay coupon or interest when earnings are high enough, if it does not meet the rate, they don't have to pay the coupon

convertible bonds

convertible debt security allows the security holder allows the holder to convert the bond into

Callable bonds

Same as fixed coupon, the issuer of the bond has the right to repurchase the bond, "call it back in", at predetermined price.

shukuk

a bond issued under Sharia law in Islam. Pay out of interest is forbidden.

equity securities

much more uniform across corporations, holders have a residual claim on firms cash flows, they receive cash flow that is left over after all other payments to creditors have been made.

preferred stock

has a claim priority between debt and equity, similar to equity because no maturity. Cash flows of preferred shares are made after debt owners, but before equity owners.

Private Placement

direct sale of new securities by issuer/company to investors (commercial banks, mutual funds, insurance companies, etc.).

Investment Banks

take risk when purchasing private placements, called an underwrite, they purchase large blocks of shares from companies

Marketing Indices

represents the entire market, or subset of market, Multiple indices to indicate performance of different sections of usa, different stocks different weights, two most popular (NYSE) are DOW Jones and S&P 500.

DOW Jones

Price weighted average of 30 stocks, span the major industries in the USA, most dominant companies in their industries.

S&P 500

a value weighted index of 500 stocks, most dominant and influential stocks on NYSE. At closing, market values of all 500 stocks are added together.

Senior Debt

Creditors with high priority claims on the cash flows of a borrower, greatest preference in liquidation

Equity

a security that has a residual claim on a company's cash flows.

Two cash flows of bond

Interest and principal at maturity.

Coupon

a stated interested payment made on the bond.

face value

amount that will be repaid at the end of loan's term.

coupon rate

the annual coupon on a bond divided by the face value of the bond.

Maturity

the number of years until the face value of the bond will be repaid

Bond Prices and Interest Rates

are inveserly proportional!! Simply means, interest rates go up, bond values decline, interest rates decline, bond values increase. VERY IMPORTANT

Short term debt

under one year to maturity. Also referred to as unfunded asset.

Bond Indenture

A written agreement between a corporation and lender, details terms of the contract.

trustee

appointed to represent bond holders. They ensure that indenture terms are being obeyed. They represent bond holders when there is a default of bond.

Corporate Bonds

usually have a face value of 1000. Usually registered form not bearer form, registrar records each issue of bond for payment.